MT buildings

The federal government owns thousands of buildings that sit empty and every other year or so some congressman puts forth a bill to sell these and save the government the cost of upkeep. It is estimated that keeping these empty buildings up to code plus the cost of upkeep, rent and insurance runs into many millions. So the question arises, why are these buildings still on the books? The answer is a 1987 passed by congress that says before you can sell one of these buildings you must first offer it to any other government agency that may want it. There are 456 agencies and each one would have to consult with all of their departments and other groups. If no agency wants the building the next step is that the property must be offered to the state that it is located in and the state must check with all state agencies. If no state wants it then the property must be offered to any Indian Reservations that may want the property. If they don’t want it, it must be available for public shelter and if no city or country wants it for that reason it may be sold under sealed bid to the highest bidder. To further illustrate the inefficiencies of the government there are currently somewhere between 55,000 and 77,000 empty buildings. It is hard to understand how there could be that much of a range. You would think that they at least had a list of these properties so someone could count them. Can you imagine running a private real estate business and not have an idea of how many properties you owned.

Cyprus again

Great news. We have stumbled into a way to get rid of national debt around the world. Last week the powers to be decided to take money from the bank depositors in Cyprus and use that to pay down the countries debt. Now we have news from the wise people in charge that this may be the way of the future. Jeroen Dijsselbloem, the head of the Eurogroup of euro finance ministers, that forcing losses on banks shareholders, bondholders and even large depositors could become the template for future rescues. Since our banks have government insurance to cover up to $250,000 per account, this grabbing of funds from bank depositors will only affect the rich and we can use this to redistribute the wealth which is much faster and far more efficient than using the progressive income tax. I am certain that our elected officials, who are mostly rich, will gladly go for this idea since they realize it will help the country out of the current financial mess. Closer to home our governor here in MN has propose a special 10% state income tax bracket for couples earning more than $250,000. When he hears about the proposed plan from Europe he may change is mind and go for the bank accounts instead of income tax.

More on Cyprus

While watching the news about the financial crisis in Cyprus they interviewed a man on the street who was happy that they did not take his money. He said rather smugly that they only went after the rich. As I watched him I was reminded of what happened when news of the holocaust was made public and one writer when asked how this could happen responded by saying, “first they come for the Jew and then they come for you”. Take heed man on the street!

Cyprus GDP

Cyprus with a GDP of 25 billion is being forced to turn over 6 billion to the European Central bank in order to stay in the Union. This money comes from bank savings accounts of wealthy people. All accounts over $130,000 will be frozen and up to 40% will be taken from those accounts to pay off some of the country’s debt. The important factor here is that the government is not taking part of people’s income in the form of taxation but they are taking assets from people. This is the ultimate in redistribution. This is where the big bucks are. Don’t go for incomes, go straight for assets. To get a feel for how much money we are talking about. The US economy at 15 trillion is 600 times larger and that equates to the government taking 3.6 trillion in assets from the people. That would be taking $36,000 from every man, women and child or $144,000 from a family of four. For most families this would mean all they have and then some

Petrodollars

The word petrodollar is reference to the fact that oil is bought and sold around the world in dollars. Saddam Hussein threatened to sell oil not in dollars and the US invaded Iraq. In Feb of 2008 Iran opened a new oil sales market selling oil in non-dollar currencies and within a few months Venezuela followed suit. China has been dumping dollars for the past five years and now they are talking about buying Russian oil with non-dollar currencies. There is a push among countries around the world to set up a special currency in the International Monetary Fund, (IMF) to replace the dollar as petrocurrency. If this happens the US will have to relinquish its coveted position in the petrodollar market and will have to compete in the world market without this advantage. It is fortunate for the US that as we approach this time we are developing our own source of oil which will be enough to make the US an exporter of oil. Another added incentive for the world to move away from petrodollars is the coming inflation that will hit the US because of all the money the Fed is printing.

Big big banks

The senate finally passed a budget and among the many interesting items was a 99 to 0 vote in favor of not bailing out the big banks if they get in trouble. Part of the Dodd/Frank bill says the same thing. Are we to believe that if the major banks, five of which control 66% of the money get in trouble they will not be bailed out? When the question comes up, should we allow the country to collapse into a deep depression or should we bail them out, how will they answer? The only way to prevent future bailouts is to break up these large banks into smaller units but that was tried and the politicians ran for cover and now they hide behind some law that will not be enforced. They know that people don’t pay attention to these things and they know that they will be re-elected because of gerrymandering and so they pretty much act in their own best interest and the people will allow them to get away with it as they have done in the past. I have said it many times, we have the government we deserve.

Mortgage crisis

People ask, how did the mortgage crisis start and the answer is that between 1975 and 1982 congress passed four laws that were designed to help poor people get into their own home. The first, passed in 1975, was The Home Mortgage Disclosure Act which mandated that banks report their loan data. This gave congress access to who banks were loaning. The second, passed in 1977, was the Community Reinvestment Act. This Act required banks to make loans to people in low and moderate income neighborhoods. The third, passed in 1980, was The Depository Institutions Deregulatory and Monetary Control Act. This Act allowed banks to charge a premium interest rate on certain loans. The forth, passed in 1982, was The Alternative Mortgage Transaction Parity Act which allowed for variable interest rates and the use of balloon payments. These four laws were the birth of the subprime mortgage market and forced banks to loan money to low income people. Some of the same congressmen who passed these laws are now complaining of how banks took advantage of people and put them into loans they could not repay The crisis that started in 2008 was just one more example of the unintended consequences of good intentions. The very poor people they set out to help are now suffering the most.

Jews

I am continually impressed by the Jewish people. The obstacles they had to overcome throughout their history, culminating in the Holocaust, are almost beyond belief. Jews have won 20% of all Nobel Prizes and since WW 11 they have won 30% of the Nobels in Chemistry, Physics, Medicine and Economics. When you consider that there are fewer than 15 million Jews in a world of 6.5 billion, it is astounding. I will look at only one small part of history that being WW 11. A Jewish chemist, Weizman, in England developed a way to make acetone using microbs and this allow the Brits to make munitions. England was so grateful that they agreed to his request to partition an area for the Jewish State in the Middle East. Churchill said that Weizman’s contributions to the war effort were incalculable. Here in the United States, a Jewish émigré from Hungary broke the Japanese Code which by some estimates shortened the war and saved the lives of millions. It was a group of Jews who fled Eastern Europe to get away from the Nazi’s that led to the development of the Atomic Bomb which also saved the lives of many American Servicemen because it avoided the invasion of Japan.

Cyprus pension

More news from Cyprus. They are now considering using private pension money to pay for government debt. Just last year I wrote about our government eyeing 401 K plans as a source of money since it would be taking from the rich. Here is what I wrote In the governments ongoing plan to redistribute income they have recently discovered the trillions in 401K plans. Since half the people do not pay income tax there is no tax advantage to them to participate in a 401 plan. Upon further investigation experts find that 60% of the money in these plans is owned by one percent of the participants and thus a pool of higher income people are getting most of the tax brakes. There is talk in congress of eliminating the tax deduction for these plans and some say the next step is to tax the money for the second time when it is withdrawn. They already started double taxation of social security benefits for higher income people so this would be the next logical step. Congress says this money will be used to pay down the deficit but most realize it will just be used for existing programs or perhaps start new programs, things like solar power plants.

PC

When can a statement of fact be considered code words for prejudice. Since Nobel prizes have been awarded, Jews have won 195 and Muslims 10. There are 15 million Jews and 1.5 billion Muslims. An obese person adds more to the cost of health care than someone who is normal weight. African Americans compose 14% of the population and 40% of those in prison. Men represent 48% of the general population but 90% of those in prison. People who go to prison have an average income of less than $10,000 per year. Several years ago a sportscaster named Jimmy the Greek mentioned that blacks can jump higher because there is something about the muscles in their legs that is different. He was fired for that remark as it was considered racist. I looked it up and found that most medical people agreed with The Greek. They pointed out that it was not the color of the skin but other physiological factors. I feel quite confident that is what The Greek meant as it would be strange to think that your skin would affect your jumping skills.

Nukes

I have friends who never watch political news as they say it is too depressing. I often feel the same way but I keep watching. Why I continue this masochistic behavior is a subject for another time. The latest thing that drives me nuts is the discussion about nuclear weapons in Iran. During WW 11 the project to developed enriched uranium took four years and the US had their bomb. Iran has been working for 20 years trying to enrich uranium using modern technology and modern equipment and they have yet to make enough uranium to make one bomb. I never hear anyone question why it is taking so long. I believe that they are using the threat of the bomb to keep the price of oil up. As long as they act in a belligerent manner it creates unrest in the Middle East. It is the same strategy used by Sadam Hussein to keep his oil for food program going while he used the profits to build up his military. He kept saying he was not making WMD but acted in a suspicious manner to keep everyone guessing.

Shovel ready

Many people who understand the construction business were amused when President Obama spoke of “shovel ready jobs” because they were well aware of all the red tape involved in any new project. The President’s advisors were also in the dark since they likely had never built anything in their lives. The question then arises, why didn’t they go for repairing existing infrastructure. There are as many answers to that question as there are projects but there is one condition they all have in common. When you build a new project the local politicians all get in line at a ribbon cutting ceremony, with their picture in the paper and speeches about how they brought home the bacon. If you’re just going to repave a highway or replace some leaky water lines you won’t find the mayor praising your efforts. There is nothing glamorous about filling pot holes but it means a lot to the average Joe who has to drive around them.

Cyprus banks

A little over five years ago I wrote, with tongue in cheek, the reason the government should take the assets from the rich not just tax their income. I have reprinted that at the bottom. I bring it up at this time, since I never believed that in any democratic society that would ever be considered, until yesterday. In the small democratic European country of Cyprus the government introduced a law that would allow them to go into your bank account and take your money. The average income of the top one percent of wage earners is 1.1 million. Since there are 150 million people working this means that the top one percent represents 1.5 million people. If we multiply this by 1.1 million and divide that by 149 million we get $11,000. If we took all the income from the richest one percent and gave an equal share to all the other working people they would each get $11,000. Since the average household income in the US is about $50,000 this would be a nice increase but it would take only a couple of years for these people to get used to their new income and then we would have to look at the top three percent and do the same thing over again. If you want to redistribute the wealth in a way that will have a real impact consider doing just that. Don’t mess with income but look at wealth. Instead of redistributing income redistribute wealth or what people own. The top one percent own 40% of all assets or 10 million each. Multiply the top one percent (1.5 million people) times $10 million and divide by 149 million and you get $100,000. Now you’re getting somewhere. Lets just pass a law that says we can take all the assets of the top one percent and divvy it up amongst the rest of us. I only do this to illustrate what most people have always known and that is there are not enough rich people to take care of all the poor

Walmart tax

As you know, I prepare income tax for AARP and have a number of Walmart employees who take advantage of this free service. A man with a wife and two children working at Walmart will earn $19,000 per year without any overtime. This is sometimes reported as working and making less than the poverty level set at $22,000 for a family of five. What is not reported is that this family pays no state or federal income tax and gets back from state and federal benefits totaling $11,000 so the more accurate figure for income is $30,000. In addition full time employee which are 80% of Walmarts 2 million employees receive benefits including health, life, and disability insurance along with vacation, sick leave plus discounts on eye care and prescription drugs. I have no idea how a family of five can get by on $30,000 but I do know that whenever a Walmart store opens there are many who apply to work there. There are three main reasons why Walmart prices are low. First is the low wages they pay. Second much of what they sell is made outside the US mostly in China where wages are even lower. Third they have developed a very efficient distribution system. The irony is that most of Walmart customers are blue collar workers who would be reluctant to pay more just to provide more benefits. This last statement is only an opinion of mine not based on any studies. I for one would pay more and I use McDonalds as an example of cost control since I am familiar with fast food finances. At a fast food place cost is basically in three categories. One third for wages, one third for materials and one third for expenses. If a burger cost $3 that means that the labor is $1. As a consumer I would be willing to pay $4 for that burger if I knew that it would double the wages. Instead of earning $8 per hour they would earn $16 per hour. I have no idea how that would affect sales.

Electric cars

I just finished watching the weekly show put on by the Wall Street Journal. These are people, mostly conservatives, who are well educated and worldly but you wouldn’t know it from today’s segment on electric cars. First they suggested that maybe the energy used to charge the car may have come from a CO2 producing source like coal, oil or natural gas. Please be advised that 80 of our electrical power comes from those three sources. How could they not know that? Second even if you had a power supply at all the gas stations around the county the Nissan Leaf goes 75 miles on a charge and then it must recharge overnight. This of course assumes you are not driving in a Minneapolis winter where you just might want to use your car heater. Can you imagine taking a trip in that car? Third it takes twice as much energy to make an electric car so it has already used up most of its savings before it leaves the manufacturer. Forth, batteries have an 8 year life span and with a $15,000 replacement cost you might consider that the end of the car.

Pope

With the new Pope in the news I see a corollary between the Catholic Church and the Republican Party. Both are trying to broaden their bases without giving up their basic principles. Catholics in the western democracies are pushing for priest to marry, for women priest, and for birth control while Republicans want a big tent that does not exclude people based on social issues like abortion, gay marriage, family values. Both of these groups could benefit if they directed their attention to those area where they agree. Republicans could gather around small government, low taxes, debt reduction and a strong military while Catholics could concentrate on helping the poor, strengthening Catholic School and Charities, and promoting the kind of life that Jesus exemplified. There is a lengthy list of items distracting these two groups from the main event. Talking about gun control, foreign aid, Bengasi, birth certificates, PBS, and government waste is a waste. Stick to the issues the matter. The Church must admit to the scandals, take action to solve the problem and get on with helping the poor and down trodden. Their actions will speak louder. Both the Church and the Republicans believe in a safety net for those in need and both agree that helping people to help themselves is the solution. Welfare should be a helping hand not a way of life. The best charity is a job. The Church can help people get on their feet and the Republicans can provide them with a job. When everyone who is able to work has a job the economy will take care of the rest.

Methane

Big news out today. The President has set aside research money to promote cars using natural gas. Everyone agrees that someday we will have to transition away from fossil fuels but in the past Obama has talked only about non fossil fuels, things like solar and wind. Obama wants to support research of "cost-effective technologies" of vehicles that run on electricity, homegrown biofuels, fuel cells and natural gas. "So tonight, I propose we use some of our oil and gas revenues to fund an energy security trust that will drive new research and technology to shift our cars and trucks off oil for good." This is the smart reasonable approach. First replace coal with natural gas, then replace oil with natural gas and then replace that with some new technology like hydrogen. This will take many years so the transition must be slow and well planned so as not to disrupt the economic growth that the country so disparately needs. Not only do we have newly discovered supplies of natural gas using fracking there is a much larger supply located beneath the ocean floors. It is in the form of methyl hydrate. This is the natural gas molecule methane surrounded by water molecules and in liquid form. It is formed by the cold temperature and high pressure at ocean debts of a mile or more. It was first discovered in the Gulf of Mexico several years ago and more recently off the coast of Japan. This leads to the belief that it is under the oceans around the world. Unlike natural gas in oil wells which comes up on its own or along with the oil the methyl hydrate must be pumped up and this is a safety feature preventing it from escaping as is often the case in oil wells. One of the side benefits is that the methane will be replaced with carbon dioxide from the air as it is pumped up and thus reducing the green-house gas effect. Internal combustion engines running on natural gas is not a new technology as there are currently 20 million vehicles on the road around the world. We would start here with trucks and truck stops would have methane pumps and in time expand to cars and regular filling stations. It is calculated that just replacing semis with natural gas would eliminate our need for Saudi oil.

Medicare years later

In 1965 the government came to me and said, starting next month we will take $3 out of your paycheck to pay for your health insurance when you are age 65. I said, never mind I will take care of my own insurance and they said no. It is the law. Well it was cheap so I said fine. Today the charge is $100 per month and the program is going broke. They estimated the future cost and it turned out that they were wrong by a factor of eight. In 1967 they estimated the cost in 1990 would be 12 billion and the actual cost was 98 billion and today it is over 500 billion and estimated to double in 2020. The point here is that they under charged from day one for this program and that was necessary to get it passed into law. We have just done the same thing on Obamacare. The cost estimate showed that it would save money. They said that they could insure 31 million new people at no cost. The program will not be fully implemented until 2014 and the cost estimates have already risen significantly. The President said the cost over the first ten years would be 900 billion and the latest estimates show it has risen to 2.6 trillion, a three-fold increase.

Chavez

Hugo Chavez died this week. He was one more example in a long line of socialist who came to power with the populist idea of redistribution of the wealth. He nationalized all the big companies, primarily oil companies, and spread the money around among the poor Chavez won the lower classes' support by redistributing the nation's vast oil wealth through welfare programs called missions, which set up medical clinics and schools, operated a chain of cut-rate grocery stores, and divvied up nationalized farms and ranches among cooperatives of the impoverished. In the process of playing Robin Hood he did OK for himself Hugo Chavez net worth: Hugo Chavez was a Venezuelan politician who had a net worth of $1 billion at the time of his death on March 5th 2013. A 2010 report from Criminal Justice International Associates (CJIA), a global risk assessment and threat mitigation firm estimated that the Chavez family assets totaled between $1 and $2 billion USD Since the government took control of the oil companies production has declined by 25%. This was more than offset as the price of oil increased from $10 per barrel to $90. Many of the managers and engineers were replaced by inexperienced government employees, friends of Hugo, and things like preventive maintenance were left languishing.

CEO's

In the 50’s the CEO had a 10 or 20 year plan. The long term growth of the company was important to him as sort of a legacy. As time passed the vision shortened until the 90’s when it was the next quarterly dividend that mattered. There were a number of reasons for this including rapid communications concerning corporate performance. Information spread quickly from analyst to investor and news of comparable investment opportunities abounded. The major problem began in the 1970’s and 80’s when something called shareholder value maximization took place. Instead of being concerned about R&D and satisfied customers the CEO’s spent their time figuring out how to satisfy the capital markets, that is, stockholders. The CEO became a bean counter and was a slave to the stock price. During this same time period the way in which CEO’s were compensated also changed. Instead of growing the company to increase market share and profit the CEO concentrated more on networking. Who you know became more important than what you do. CEO’s got positions on company boards and were instrumental in determining compensation packages for other CEO’s. It became one giant club where the old adage of back scratching became a common theme. Salaries increased from 30 times the rate of the average employee to 300 times. It was an incestuous relationship that made a mockery of the free market system. Taking into account these two factors the role of the corporation has to get away from the corruption of things like the swinging door into Washington, the good ole boy system of compensation and back to free market capitalism. The must increase investment in R&D which requires a long term outlook as innovation is the only way the US can offset the disadvantage of wages and compete on the world market. CEO’s have to be the kind of people who are motivated by something more than money. They have to be willing to make a long term commitment to building a solid company that includes motivating employees to once again be concerned about the customer.

Coal

As the administration continues its march toward eliminating coal fired power plants to retard global warming, the continents of Asia and Africa are increasing the use of coal. In the past five years China has built more coal powered plants than the total number in the US. China now gets 80% of its energy from coal and that is rising as compared to the US where 40% is from coal and that is falling. The US has large reserves of coal and will export any it does not use so the effect worldwide will be negligible. Countries around the world want all the coal we can ship them so instead of having a large inexpensive source of energy to use here in the US we will ship at less profit for our industry to countries who will use the coal. The latest example of this is the proposed oil pipeline from Canada. This oil is produced from sand and is less desirable from a global warming perspective so the US has refused to allow the pipeline. This means that the pipeline will be sent to the west coast where the oil will be shipped to China for use. Once again the worldwide effect is negligible but in both of these cases there will be considerable waste of energy associated with the shipping. As oil tankers and coal barges make their way across the ocean they use a lot of fuel to make the trip. There seems to me to be a lack of common sense here or am I missing some important aspect. One final point for those who are worried about spills, pipelines are many times safer than tankers.

Home mortgage

People ask, how did the mortgage crisis start and the answer is that between 1975 and 1982 congress passed four laws that were designed to help poor people get into their own home. The first, passed in 1975, was The Home Mortgage Disclosure Act which mandated that banks report their loan data. This gave congress access to who banks were loaning. The second, passed in 1977, was the Community Reinvestment Act. This Act required banks to make loans to people in low and moderate income neighborhoods. The third, passed in 1980, was The Depository Institutions Deregulatory and Monetary Control Act. This Act allowed banks to charge a premium interest rate on certain loans. The forth, passed in 1982, was The Alternative Mortgage Transaction Parity Act which allowed for variable interest rates and the use of balloon payments. These four laws were the birth of the subprime mortgage market and forced banks to loan money to low income people. Some of the same congressmen who passed these laws are now complaining of how banks took advantage of people and put them into loans they could not repay The crisis that started in 2008 was just one more example of the unintended consequences of good intentions. The very poor people they set out to help are now suffering the most.

Human rights

In this modern day of political correctness you are entering a controversial area when you discuss human rights. The reason is that human rights are being confused with civil rights, political rights and social rights. The dictionary definition of human rights is narrow and very precise. human right - (law) any basic right or freedom to which all human beings are entitled and in whose exercise a government may not interfere (including rights to life and liberty as well as freedom of thought and expression and equality before the law) Note the bold phrase as it is what keeps the other types of rights from being considered human rights as they are rights designed and implemented by government. The best example is the Civil Rights Act of 1964, which removed the, “separate but equal laws” that had placed restrictions on minorities. The most recent addition to this concept is the idea that health insurance is a civil right. A few years ago the idea that home ownership was a civil right gained popularity and resulted in giving loans to people who could not repay them. These ideas have now become politicized and therein lies the danger. Liberals say they are providing benefits and conservatives say they are creating dependency. If you are writing policy there is a thin line between being inclusive and being political. If I were you I would get some input from the legal department before you publish anything.

Medicare at 60

In the past I have pointed out that by getting rid of the third party payer (insurance companies) we could reduce health care cost. This is because administrative cost are 25 to 30 percent and this would eliminate 10 million jobs in the insurance industry. Medicare on the other hand has administrative cost of only 9%. While the total care cost per person in Medicare is high that is because of the ages of the patients. If we want to reduce the total health care cost to the country we should lower the Medicare age to 60 instead of raising it to 67. As more and more people are transferred to Obamacare the roll of private insurance will decrease and administrative savings will follow. When everyone is covered by government health insurance then there is a very real potential problem. Once the government has a monopoly then like all government programs inefficiencies will crop up and cost will likely get out of hand. Procedures to ration benefits will be introduced to help reduce cost. I have maintained from the beginning that the only long term solution to rising health care cost is to ration care and this is where we are heading as this is what happens in other countries that have national health care.

Party trumps country

When the founding fathers put in the first amendment they did so because they feared the power of the central government. They had just gone through a revolution to get out from under the king and wanted to make sure that would not happen again. The free press was the instrument to be used to reign in the federal government, to limit its power and to shine the light of day on all of its activities. This was the intended safe guard and so I pose the question, how did the todays government get all of its power? I maintain it started with a journalist named Dunne who in the early 1900’s wrote that the purpose of the journalist is to comfort the afflicted and afflict the comfortable. It was this attitude among writers that moved the emphasis from watching government to watching others. Soon the idea of protecting people from the misuse of power by government shifted to protecting people from powerful people not in government. Big business and by inference people who made lots of money from big business had to be exposed. Excess profits became and evil phrase. Fast forward to today and the whole concept has taken on political tones. Liberals often castigate large profitable business as somehow taking advantage of the ordinary citizen. During my life time I remember when AT&T was the big enemy and then it was McDonalds and then Microsoft and Walmart and big oil. On the other hand when it is Fanny Mae handing out loans to people who are not qualified to repay them the liberals back them by passing laws to make it easier to get loans. Using the cry that everyone has the right to the American Dream of home ownership they pushed the mortgage market to the point of collapse and the good citizens who were supposed to be helped ended up paying the bill for their misadventure. Conservatives seem to think the government regulators are only out to limit the growth of big companies and believe the free market will always act in the best interest of the public and they pass laws to encourage deregulation. What is wrong headed here is that the process has become politicized and this blinds both sides. The battle is no longer what is best for the people but what is best for the party.

Mayer glass ceiling

A big step was taken last year in the battle against the glass ceiling when Marisa Mayer was appointed as CEO of Google. It is significant in a number of ways including the fact that she is only 37 and Google is a hi-tech company. Today she announced that too much teleconferencing is bad for business even though her company is a big player in this method of communication. She said that talking on the phone isn’t nearly as good as meeting face to face when it comes to creative ideas. I bring this up because for most of my life I did not understand the value of small talk. I saw it as a waste of time. When I called someone on the phone I said what I called for and then hung up. What I didn’t grasp was what was being communicated between the words. People were developing emotional relations while talking about mundane everyday items of mutual interest. This bonding is what Ms. Mayer feels is important in creating an atmosphere of trust that leads to innovation and team work. I believe this is an example of the kind of change that women in high positions can bring to business. It promotes a desire to cooperate and share ideas in a relaxed setting. The productivity of good old boys sitting around the table can be increase with the addition of some good old girls.

Gain on sale

In 1998, ten years before the mortgage crisis hit the country, there was a mini crisis of the same sort that should have been a warning of things to come but was largely ignored. There is an old saying that love is blind but this episode assures us that love of profits is just as blind. Throughout the country there were small family owned mortgage lenders who specialized in high risk loans. They stayed in business by require large 50% down payments. Applicants with that type of cash and poor credit were not easy to find so these companies spent lots of time and money searching for eligible prospects. They looked for people without a credit history or people whose incomes were irregular because they were paid bonuses based on performance or seasonal business. Like all mortgage lenders as soon as they closed a deal they used the new found down payment money to finance the next loan. Beside the large down payment these companies hired their own appraisers so they could be sure the value of the property had not been tinkered with. In order to expand they needed more cash to make more loans so they combined the loans they had into bundles and sold them to investors. Sound familiar as this practice of securitizing loans would become the basis of the toxic mortgages that nearly brought down the country. Finding investors to purchase these bundles was labor intensive and costly so these companies began to look for other sources of cash. To the rescue comes Wall Street in the form of Bear Stearns and Lehman Brothers. These firms were willing to provide the cash since they could get interest from their cash and fees generated by the loans. They further envisioned incorporating these mortgage companies and selling stock in them thus generating additional fees. In those days there was an accounting rule called gain on sale which meant you could count as an asset the expected return on a loan over the life of the loan. It was left to the discretion of the mortgage lender to determine how much this would be and you can guess what happened. They projected the rosiest possible outcome. Next they expanded the concept to car loans and the race was on. Profits were pouring in and the business was growing faster than anyone had predicted. You could now buy a car, new or used and finance it on the spot. Don’t worry about the payback of the loan just make the sale. Then came the unexpected. In the summer of 1998 Russia had to devalue its currency and the whole house came tumbling down. Within a year most of these mortgage companies were bankrupt and as the dust settled the survivors began gearing up for the next big game, which would culminate ten years later with the big mortgage crisis that we are still suffering from and it looks like the survivors are once again getting ready for round three. Too big to fail is now too too too big to fail so the next unexpected problem should be a dandy.

46r

Continuing my rehash of the mortgage crisis, I want to discuss an accounting rule known as FIN 46r. That rather innocuous sub-section tells the story of why a big company like Citigroup got in trouble. The centerpiece of this relates to SIV’s or structured investment vehicles. I just love the way they name these things. It sounds so mundane it couldn’t possibly cause any problems. 46r laid out the guidelines determining whether a company had to include SIV’s on its balance sheet. In other words the current value of the SIV had to be part of the companies report. As a person interested in investing in a company you would like to know about such things but the company might prefer to keep them secret. Citigroup was accumulating large amounts of mortgage bundles and attempted to hide them inside of SIV”s. Citigroup like many others large banks sold paper certificates to investors who wanted to buy into these mortgage bundles. Since these bundles offered a handsome return they had lots of buyers. Citigroup transferred these bundles to the SIV’s and they no longer appeared on the Citigroup company statement. When asked about these SIV’s Citigroup responded by saying they had no explicit obligation to back these certificates, meaning they had no contractual arrangement to back them. What was not said is that they may have an implicit obligation. That question was answered when the mortgage crisis began to unfold and people began to sell the certificates they had in these SIV’s. Citigroup was forced to sell off the mortgages to pay back the investors and as they sold the prices began to drop and they took huge losses. As these previously unreported debts began to appear, the investors in Citigroup were astounded. The company began massive layoffs and its value shrunk from 300 billion to 6 billion and it was ready to go under. The government stepped in with a 300 billion bail-out and the company was saved from bankruptcy. Their deceptive accounting practices were revealed but no one was prosecuted even though it caused their investors to lose millions.

Mortgage crisis

As the dust from the mortgage crisis slowly dissipates we can use the gift of hindsight to try and make some sense out of the whole mess. Since there are many things that went wrong and many of those are quite complicated, I will zero in on one small aspect, that being the rating agencies. The big three are Standard and Poor’s, Moody’s and Fitch. My first encounter with S&P came 40 plus years ago in the financial planning business. I worked for Equitable of New York and would proudly tell my clients that my company was rated triple A by the rating companies. I investigated to find out just what this meant and very quickly realized that the whole rating system was flawed. S&P would ask The Equitable for important data they needed to evaluate the strength of the company so they could select a rating. Talk about the fox guarding the hen house! The weakness of this approach is further exaggerated when you realize that the rating companies get their fees from the companies they evaluate. Fast forward to the recent mortgage crisis and while there are many mortgage companies, concentrate on Fanny Mae which is the largest. The executives at each company were intertwined in such a way that they both benefited when the volume of home loans grew. In the scheme of things the quality of the loans had no bearing on the push for more loans. As Fanny Mae grew the fees paid to S&P grew and it was a carbon copy of the relationship between the insurance companies and the rating companies. The most amazing part is that this same incestuous relationship still exist to this day and no one seems to care.

Economics

We learn in Econ 101 that risk is directly related to return. When the mortgage loan giant Fannie Mae was started in 1938 it had a built in advantage over other mortgage lenders. While it was not a government agency it was a Government Sponsored Agency (GSA) and that meant that if things went bad the government would come to their aid. Investors were aware of this and thus were willing to receive a lower rate for the safety of their investment….risk/return. While this difference was only a quarter to a half percent it was a leg up. Everyone knows how much a half percent can make on a thirty year loan. In the 60’s and 70’s rumors spread about how Fanny was using its interest advantage to promote its own business to the detriment of the private market. Fanny would always respond to threats to remove their quasi government status by bragging about how they helped many people get homes. In the 80’s the precursor to the mortgage crisis was born. Some small local mortgage companies realized there was a market for people with bad credit

AIG

We have heard the phrase, “too big to fail” and a perfect example is AIG, the large insurance company that insured all of the bad mortgage loans that banks had provided. Recall these were loans given to people who did not have the where with all to repay unless the housing market continued its climb. The market did not cooperate and the buyers lost their homes. As the value of homes declined the mortgages that backed these loans lost value and the banks called on AIG to cover their losses, since that was the purpose of buying the insurance. As an aside, AIG did not call these products insurance because that would have meant oversight by the state insurance department so they called them credit default swaps. Now it was AIG’s time to step up to the plate but everyone knows that insurance is based on the concept that not everything will go wrong at once but that is just what happened. AIG’s stock went from $70 to one dollar and they were facing bankruptcy. Keep in mind that filing bankruptcy generally means your liabilities exceed your assets. AIG was a conglomerate that owned many different businesses and many not associated with the mortgage scene still had value but the losses suffered with the mortgage crisis exceeded the total value of the company. Now comes the fun part. The government stepped in and anted up 180 billion so that AIG could meet its commitment to the banks. Then AIG sold off some of its assets and the value of these toxic mortgages, begin to rise. Keep in mind we are not talking about the actual value but the perceived value, that is, what a willing buyer will pay a willing seller. This increase was accelerated as the home market bottomed out. The end result is that AIG stock price begin to rise and when it hit $30 the government sold off its shares and made a profit. These shares became so in demand that the government sold them at auction and many bidders participated. The same banks that got hurt the first time around buying these mortgage bundles are now outbidding one another for the same bundles. They are betting that the recession is over and that housing prices will continue to rise. They are also assuming that if the bottoms drop out that the US government would once again come to the rescue. This is what is meant by the term, “moral hazard”. They are willing to take a greater risk knowing that the government will cover any downside loss. This is also what is meant by too big to fail.

budget

I am once again surprised at my own surprise at our federal government. On the news every day we face the “sequester”. That is the terrible thing that is due to happen in two weeks where we cut the federal budget by 85 billion dollars. First of all, that will bring this year’s budget down from 3,800 billion to 3,715 billion. If we want to avoid that’ just eliminate one month of stimulus three, which we are now in the middle of, as we print up 85 billion dollars per month, to buy mortgage backed securities and government bonds. The “sequester” is a manufactured crisis being used by both political parties to bad mouth the other side. It also gives the 24 hour news people a reason to drum up ratings, and they will continue to play that to the hilt.

Quantitative easing

Quantitative Easing (QE) is a euphemism that means printing and borrowing money by the Federal Reserve Bank. We have been through QE 1 and QE 2 and a few months ago we started QE 3 where the Fed would purchase 40 billion a month in mortgage backed securities. QE 4 has now joined QE 3 and the Fed will purchase 45 billion a month in long term government bonds. Recall that a mortgage backed security was a group of home mortgages usually about 100 in a bundle that were sold as securities on the open market. These individual mortgages were purchased by home owners through various financial institutions and then they were sold to other investors around the world. It was joked that the buyers of these securities had no way of knowing what they were worth. The only sure way to determine the value was to open them up and have each of the individual homes appraised and this was obviously too costly and too time consuming. Imagine what this means! Sophisticated buyers around the world were purchasing securities for a set price when they had no idea what they were worth. Now after thinking that through, understand that the Fed is currently buying these securities at the rate of 40 billion dollars a month and no one is the least bit concerned. Taking a closer look at a mortgage bundle we learn some things. First of all if there are 100 mortgages in the bundle and the average mortgage is $200,000 we are talking 20 million dollar which means that there are no small investors in this market. Second say the average mortgage in this bundle has a 6% rate so the return on your 20 million is 1.2 million per year. Understand that when these bundles were most popular interest rates on things like CD’s were 1 or 2 percent. Now let us say that the value of houses drops by 20% and another 20% of these go into default so the new value of the bundle is 12 million and the return is now 3.6%. The value of this bundle has decreased from 20 million to 12 million but no one knows this. People are now just buying and selling paper. If the houses were worth nothing it would not matter. To put this in the proper perspective assume that I bring out a large box wrapped in brown paper and I tell you there is a new car inside and ask you to bid on it. What is the first question you are going to ask?

Health care

I have been forced to reconsider my solution to rising health cost. My plan A was to get rid of the third party payer system. Recall that this is where the consumer doesn’t care about cost since the insurance company pays. This is so ingrained by the vested interest, that the country is unable to change. The only way out is using a single payer national health plan and this is because the only answer available at this time, to reduce cost, is to ration benefits. Private companies cannot do this because the free market competition will always offer more for those who are willing to pay more. If company X says they will no longer pay for heart transplants of those over 80, the people will just move to company Y and thus companies will not go this route. The government on the other hand, being the only option, can ration. Medical technology has advanced so far ahead of our ability to pay that we are forced to ration. This is what western European countries, that have national health care, are doing. No one likes the R word but it is a fact that we cannot afford to provide unlimited care for all of our citizens. Will those who are wealthy get better care by paying extra by using their own funds? The answer is yes. The only other alternative would be to tell the rich that they cannot buy extra care and that would not work since they could travel to other countries. I believe national health care is coming soon.