Bank Transfer Day Danger: Leverage

I'm thinking this morning about leverage. This is a financial thing, where you take the money you have, and use it as a base for loans.

For example, if you have $10 in cash, according to leverage rules you can borrow up to $100 out there. There are other rules involves - if it's a unsecured loan, the leverage ratio you're allowed to go with is something like 1:10 (with $10 you can borrow out $100), while for mortgages you can borrow out 1:20 (with $10 you can borrow out $2000).

The idea is that each loan has different risks - home ownership -is- was considered safe, so you could offer more loans based on it. Then again, that was when there was no such thing as "subprime", and even FHA loans (which are insured) were rarer. But "in the day" a mortgage required something like 20% down (so the owners had more cash riding on it, and it was easier to get their equity back).

Anyway. The issue here is that banks have kind of - well, screwed with the system. First by offering more subprime loans, which their leverage is closer to the 1:10 ratio. But that's where out friend bundling comes in, where the investment firms put together a bunch of mortgages and sold "shares" of those mortgages on the stock market. If you bundled enough "good" mortgages with "subprime" mortgages, the entire bundle could be considered "good" so the banks could still leverage the 1:20 ratio.

Which means they could be riskier with their money, which means when those subprimes crashed so went all of the money the banks had used to make those loans, hence why the financial system blew up.
There's a lot more to it than that, but there's the issue in a nutshell.

So why am I thinking about this? Because there's a growing movement of people pegging November 5th as "switch to a credit union" day. The idea here is that:

1. The big banks blew up the economy, so we want to take away their source of power: money.

2. Credit unions are membership owned, not stock market owned, so there's less incentive to take those crazy risks for profit.

3. Regional banks can be bought up by the bigger banks, whereas to buy up a credit union a big bank (like Bank of America) would have to totally redo the credit union's charter, and get the permission of most of the "stockholders" (aka - the credit union members) before they can do so.

Sounds like a great idea. Only - I'm worried.

I'm worried because I wonder just what the "big banks" will do as more and more of their cash deposits vanish. What happens to all of those loans that were made? They'll have to sell them off.
And the problem is there's still a lot of stuff that's toxic, especially all of these home loans that are being foreclosed upon. Now, in an ideal world, the big banks would go out of business, the deposits would be protected by the FDIC and transferred to another bank, the stockholders would lose out and next time form companies that don't take such risks.

I'll wait for the laughter to die down.

The downside of this is another wave of major financial collapse. The stock market alone would take a pounding, which means those pensions/retirement accounts would be even further reduced - and things are bad enough already. Not to say all of the layoffs as the big banks died (and my money says while they went on the CEO's and major executives would still get their nice golden parachutes).
But the other alternative is just as terrible: more bank bailouts. Before, the toxic assets were bought up by the Fed at nearly "paper value" - in other words, if the bank made a bad mortgage for $1,000,000 on a house that is now worth only $200,000, the bank got nearly $1,000,000 from the Fed as part of its toxic asset buy up (this was part fo the "save the financial system from itself" move - and wasn't accompanied by major hard new rules enforcing behavior. Nope - if anything, the financial system has spent millions lobbying congress not to touch them).

So if people take their money out of the banks en masse and put it elsewhere, my greatest fear is the US government will say "oh noes - Bank of America is going to die! Here, we'll buy your stuff at paper value. Granted, you leveraged $1 to become $20 (or more), so really you're making a massive profit, so it's canceling out all of the people who took money out of you, and now you're just as strong as before - but we can't let you special special too big to fail banks die!"

If it sounds like I'm saying "nothing might change if people take their money out", I kind of am. I hope not. What would be best is if the US government, instead of rescuing the big financial firms this time, broke them up into smaller parts, enforced hard regulations and took the financial system back about 30 years so they behave better, like they did between 1940 to about 1980 or so.

Yeah. I'm not confident that's going to happen.

Balanced Budget Breakdown

During the recent debt ceiling debate, which helped lead to S&P downgrading the US credit because the Republicans have publicly stated that taking the US economy hostage and threatening to blow it up to get their way is a really bad thing, one of the ideas proposed by the Republicans is a concept called the Balanced Budget Amendment.

To most people, this sounds like a reasonable thing. After all, if *I* have to balance my budget, why doesn't the government? Make it so the government can't spend more money than they take in! Pass a constitutional amendment that will make them do so!

Only the more I looked into this issue, the more I've come to decide that this is the worst idea we could possibly go with. You think the 500 point slide on August 04 was bad?

Now imagine how much worse it is under a balanced budget amendment. And it would be. Here's a few of my (admittedly inexpert) reasons.

First, the government isn't a business. And even if it is - it has to operate like one. Which means having a forced "balanced budget" is still a bad idea overall.

1. Expectations and Realizations

Every year, the US government tries to figure out how much money is going to come in, and then figure out how much money they should spend on things. This is little different than a business - they're looking at the balance sheets, and trying to look ahead for next year on how much they should spend.

But suppose that things go bad that year. Perhaps there's a bad economy so you don't bring in as much as you expected. In the real world, you look at your options - do you raise costs to meet expenses? Fire employees? Or perhaps you take out a loan knowing "OK, if I take out a loan now, continue to keep my employees and finish my upgrades, I can pay this off next year when things get good."

It's an option to go into debt. For many companies, it's a valid option to do so that when things go better, you'll be stronger than your competitors and kick their asses next economic cycle. Or you'll hold onto that one really great salesperson or manager or employee. Either way, the best option isn't to limit yourself to only two options: raise prices or cut spending. You want the third option - get a credit extension - to keep you through the bad times.

Now imagine how chaotic that would be on the United States level. Year 1 under the Balanced Budget Amendment world you have a balanced budget. Year 2 - oh, that was a great economy we have a lot of money spend more! Year 3 - whoops, revenue projects were too high cut spending or jack up taxes!

You'd have such a roller coaster effect that the "business stability" that Republicans like to blame for when businesses don't spend money because "they don't know what the government is going to do" becomes a year to year prediction as taxes and spending go up and down *every year* in order to figure out where the budget should be.

2. War and Disaster

In a real world business scenario, you make the best plans you can, then through careful risk analysis, you try to either have enough cash on hand to get you through a bad time (like, your servers crash and you need to replace them), or insurance so you can rebuild (like fire insurance).

Ultimately, though, some things you just can't plan for. And then, as a business, you have to make a decision: you either say "The losses are not worth the profits," and walk away, or decide you're going to whether through the bad time and make it through any way you can.

If you're the United States Government, though, you can't just "walk away." China finally goes crazy and invades Florida? The United States can't just say "Well, we *would* ramp up money to go pay for the war - but we're operating under a balanced budget amendment now. So I guess we have to jack up taxes. Or cut out payments to Social Security or something."

Or perhaps a hurricane that destroys a major industrial town in Texas, or a tidal wave takes out Seattle - how do you invoke the power of the US government if you're not allowed to take out a loan to cover these emergency moments of war or disaster?

Now, I know some people will be saying "John, that's an easy solution - put in the War and Disaster clause!" Yes. Because the United States isn't involved in a pair of wars now. Or can't declare a disaster at the drop of a hat. Having that clause would let it be exploited every chance that politicians could take.

3. Debt is a powerful tool for a bad economy

This gets to the heart of the matter of the philosophy behind the Balanced Budget Amendment: the Republican idea that the government is useless to the economy, and if anything, is a necessary evil so people don't get their hands on drugs or birth control.

But history has shown differently. After the crash of 1929, Herbert Hoover tried the current Tea Party based Republican thinking: that the US government debt was the problem (not, say, all of the richest 1% of the population engaging in riskier and risker financial shenanigans while the rest of the country had to borrow more and more to keep up, so when the credit bubble finally popped there was no one holding the bag). So based on Hoover's ideals, you cut government spending, balance the budget, and reduce taxes on the richest and things will get better.

As we saw, it did jack shit. It wasn't until Roosevelt was convinced that the problem wasn't cutting government spending, but increasing employment by the government spending on investments to the country (roads, schools, etc) that the economy started to turn around. The economy really got going during the biggest government spending in World War II, which employed millions of men and women all across the line.

After WWII, the country continued with some of the ideas - high taxes on the wealth (which goes with a previous discussion about why that's a good thing to prevent concentration of revenue into an extreme minority), regulation of the financial industry and methods of keeping them from growing too large (like preventing commercial banks and investment banks from mixing together, keeping banks from having too many branches per geographic area).

And one more thing - in good times, you increase taxes, increase the interest rate to encourage people to save and pay off the debt. In bad times, you drop taxes and interest rates to encourage people to borrow and spend, and increase spending in order to make up for the drop in economy. Now, if you're 1950 to nearly 1980, if you have good enough economic policies you don't have big economic disasters, like occurred with the Savings and Loans scandals of the late 80's, then the Internet Bubble of the 1990's, then the major financial collapse of 2008 which has nearly exactly the same symptoms of the 1929 Great Depression crash.

You remove the ability of the government to do those things because of the Balanced Budget Amendment - and you've just removed an entire slew of tools the government can use to help fix an ailing economy. Yes, I know - Republicans will say that there's nothing the government can do anyway except "get out of the way." And they can say that as long as they ignore the last 100 years of history, ignore how their own policies enacted since 1980 have lead to lower and lower income for the middle class, and increased recessions.

The Balanced Budget Amendment is one of those "it seems like common sense" ideas. Until you think about it. And then discover it makes no sense *at all*.

How can unions force any companies to do anything?

My wife and I are looking at buying a new car. Which means there's been a lot of stress, double guessing, going over how much we can afford, just what we want, and the like.

Actually, I should say what My Lovely Wife (MLW) wants. Because in the end, this is going to be *her* car as we replace her over 13 year old mini-van with what we hope will be a new Buick Enclave.

We were going things today, when she was talking about the expense, and I reminded her that we didn't have to buy this car.

"Yes we do!" she snapped back in (what I think) was mock exasperation.

I raised an eyebrow. Something easy to do if you have gigantic hampsters attached to your forehead like I do. "Really?" I said. "And just how am I forcing you to buy this car?"

"By - by showing it to me in the first place!" she sputtered out. She started wagging her finger at me. "By tempting me into buying this car!"

"Tempting isn't forcing," I reminded her.

"It certainly is!"

I think we're getting that car tomorrow.

Later on, I was struck by a comment someone made regarding the whole GM/Chrysler fiasco, how the companies might have to go into bankruptcy if they don't come up with better plans for how they're going to be viable in the future.

"It's all the unions fault!" Someone said.

"How's that? They just made contracts with GM and Chrysler."

"They made them agree to those contracts! Then when the companies couldn't pay, now they're going out of business!"

OK - no. They didn't. Nobody "forced" anybody to agree to any contracts.

Let's look at it from an individual standpoint. I've seen something like this happen in the workplace. You'll have a weird computer system, maybe a legacy server that nobody knows how to program - except for this one guy in the company. Let's call him Bob.

Bob starts out making $50,000 a year. Then, one day, he comes into work and asks for a raise.

Bob: I think I should be making $100,000 a year.

Bossman: I think you need your head examined.

Bob: Either I get $100,000 a year - or I quit. And nobody else knows how to run the Jobatron 2000. And without that, the company doesn't run.

Now, Bossman has a problem. He could let Bob quit, but if he does, then he'll have to either find a new manager for the Jobatron 2000. Who knows how much that'll cost, or how long it will take. Or, he could meet Bob's demand. Or offer Bob less money. Or figure out a way to get rid of the Jobatron 2000.

Either way, Bob isn't forcing anyone to do anything. He feels his skills have a value on the market (in this case, Bossman's business running), and he's going to maximize his return on his particular skills.

It's capitalism at work. Bossman has a demand (Bob's skills). Bob has a demand (Bossman's money). The two work out an exchange at the best rate they can. If Bossman winds up paying too much money for Bob's skills with the Jobatron 2000, then he made a bad deal. If Bossman winds up losing his company by paying Bob too much, then he's a pretty piss poor negotiator.

Now the Union side

Let's look at Carl. Carl, well, doesn't really have that many skills. It turns out the company has a whole fleet of Jobatron 100's - 100 of them, to be exact, each run by a different employee. They don't take much knowledge to run - unlike Bob, who went to school for 4 years just to learn how to run the Jobatron 2000, Carl learned it on the job. Took about a week or so.

Carl's making $30,000 a year. And he walks in to Bossman's office.

Carl: Hey, I heard you just started paying Bob $75,000 a year.

Bossman: Yeah - kind of had to. Either that, or shell out a million bucks for the Jobatron 3000, which doesn't need Bob's skills.

Carl: Sucks to be you. Hey, I want a raise too. I want $60,000 a year.

The wheels in Bossman's head turn. He could pay Carl $60,000 a year - but why? He's got 100 employees all on Jobatron 100's. He could just go out and hire himself someone else off the street, train them, and within a week they'd be doing Carl's work for him. Might cost him $1000 in lost time while the work Carl would have been doing is spent training the new person.

Carl's thrown out of the office. Of course, Carl has a choice. Nobody is *forcing* him to keep his job. He can quit. He can ask for maybe a smaller raise. Or he can just shut up and go on.

Nobody has forced anybody to do anything.

Of course, Bossman didn't count on Lisa. Lisa, just like Carl, works on the Jobatron 100's. She makes the same amount as Carl, and wants more. Of course, she also knows that if she just goes in and asks for more money, Bossman will toss her out as well.

So instead, she goes to Carl, and Nancy, and every other of the 100 Jobatron 100 workers. They all make an agreement to get a raise together. And now, the situation goes like this.

Bossman: What's up, Lisa?

Lisa: We'd like a raise.

Bossman: Who's we?

Lisa: Every worker on the Jobatron 100. We all want a 5% raise. And if we don't get it, we're all quitting.

Once again, Bossman has a choice. He could let them all quit. But he probably knows that to find 100 workers, then train them all from scratch, then find out who's the good workers or the bad workers, get rid of the bad ones, replace them with new ones, and on and on.

Suddenly, he's looking at a lot of money. But is it worth paying the employees another 5% just to keep them? Maybe it would be better to offer them 2% and see if they'll take it. Or fire them all. Or fire only Lisa as the troublemaker. Of course, if everybody stands with Lisa then that could be bad.

Decisions, decisions, decisions. But no matter what, *nobody* is forcing Bossman to do *anything*.

In a nutshell, that's how a union works. Perhaps Lisa and her new "union" can opt to ask for health care, or pension plans, or something.

Nobody forced GM or Chrysler to accept anything. They could have fired all of the people who wanted to unionize. They could have shut down the plan - Wal-Mart does that all the time. Any time a store goes union, they close the whole damn store. They might lose a million dollars they spend building the store - but that's certainly their right.

GM made some bad decisions. They decided to go for short term gains by paying union members less in favor of giving them better pension plans in the future, and some would say that's why they're in trouble now. Or the health care plan that's super expensive. Or - any number of things.

But trying to blame all of GM's bad negotiations on the unions isn't the fault of the union. Nobody *made* GM agree to the terms.

OMG! Socialism! Or, so say those who don't know what words mean.

With the recent passing of the federal stimulus bill, I've been seeing people going "OMG! Socialism!"

According to these people, when the government gives money to industry, or with the intentions of specifically employing people - that's socialism.

The only thing that I can think of is that these people have no idea what "socialism" actually is.

Let's get this part of out of the way: socialism is where no individual owns - anything. Everything is owned by the government. Every business, every bank, every factory - owned by the government, and it's operation is decided by the government.

What socialism is *not*: building roads. Employing cops and firemen. Encouraging specific businesses. If you really think that when government lays a tax on, say, cigarettes, it's not because OMG SOCIALISM!

They're doing what every government does, especially one like the Unites States, which could be labeled a "republic based government with representation by democratically elected leaders, which uses a blend of controls on business to both promote market forces and individual freedom/wealth and citizen freedoms and safety".

When the government uses the power of the FDA to shut down a peanut butter plant that makes peanut butter that kills people, that is not socialism.

When government decides to build roads to promote business, it's not socialism - last time I checked, the government didn't own the businesses it was trying to promote, just the roads.

Yes, sometimes that government "winners and losers". Even when it nationalized banks during the Savings and Loan scandals during the 80's - this is where it went into banks, determined if they were liquid (aka - did they have enough assets to meet their liabilities), they didn't just "own" everything. They would shut down the bank, sell all of the assets to meet the banks liabilities (aka - people's checking/savings accounts), use government funds to fill in the gaps, and send the original investors packing to form a new bank if they so desired.

Did the government take control of "all banks"? Nope. They just shut down the ones that were failing to meet their legal obligations.

Call it government intervention, call it wasteful - but please, people, can we stop with the OMG! SOCIALISM! charges? Because every time you make it, all that it shows it just how ignorant you are.

The Stupid, It Burns: Republicans Praising Spending in the Stimulus Bill they Oppose

How on Earth do people get to be so jaded, so hypocritical. How can you stand and take credit for the spending in the stimulus bill that will bring jobs and useful infrastructure to your district, when you voted against the stimulus bill.

Is this how Republicans are going to play this? "Oh, we are taking a principled, measured stand. Yes, we lowered taxes during a war, because it was more important that the richest people in the country get even *more* money. And yes, the surplus in the budget of 2000 was eaten up borrowing to pay for the War in Iraq, a war that helped the United States in no way at all. Sure, we allowed no-big contracts for billions to go to companies like KBR and Halliburton. But now - now - we have principles! *Now* that people want to spend money on the stuff we really need - like more schools, fix crumbling roads, invest in green energy so we stop giving money to oil countries like Saudi Arabia and Venezuela, we keep the money here - well, now we have principles, and we won't stand for taking out loans to buy stuff!"

And then, after making that stupid ass statement, they turn and *claim credit for having gotten in the stimulus bill provisions that are putting the people elected them to work*, then turn right back around again and talk smack about the stimulus bill because - it's full of "pork" and "big government spending."

Is this how it's going to be played? Oppose everything that will try and make President Obama and the Democratic Party look good, and when it passes anyway talk about how *your* efforts were good for your constituents while you vote against the bill?

How do you do this? How do you have so much hypocrisy to thank God for the money coming to your district while pissing on the people who worked to make it happen against all of your efforts? It's like being a pastor and speaking against being unfaithful, while your mistress is giving you a blowjob in front of the entire congregation and your wife.

The Problem with Private Prisons

Right now in the United States of America, there are over 2.2 million people incarcerated.

And prisons are a huge business. You have the prison guard's union which is enjoying huge political clout in states such as California. Building prisons and incarcerating people is one of the fastest growing industries in California. Locking people up is a business - and right now, business is good.

The problem is - is this really the most effective thing? Look at the incentives:

More people into prisons means more money for the prison industry. Which means that the *incentive* is to get more people into the prison system, instead of out of it being productive citizens.

If you're the prison industry, why put money into schools? That would cut down on the number of people in prisons, which means less money for the prison industry. Why spend money on reforming people when that will get them out of the prison system faster?

Remember: incentives. Prisons - both private and government run - have an incentive to have more people inside their prisons because it makes the private industry more money, the prison worker's unions have an incentive because more prisoners means you need more guards which means you have more union members with clout.

So: change the incentive. My proposal:

The prison industry gets paid a rate per prisoner actively incarcerated, but the prison industry gets a higher rate for those out of prison on probation - as long as they haven't committed a crime.
This does two things. One, it reduces the incentive to simply have more prisons and prisoners. It encourages the prison system to do more than just lock people up - but to make them part of society. When the person is *out* of prison, the prison system actually makes *more* money.
Of course, there's a catch: they only make more money as long as the person is out of prison without committing a crime. So it's not just "throw them out", but "make sure they have the support and jobs and whatever else they need to stay out."

This will be actually *more* expensive than what we have now. The whole idea of the prison system being turned over to private industry was that it was going to cost less - you know, the market doing its magic and finding the best performance at the lowest cost.

Instead, we have overcrowding in the California prisons, to the point that the CA Supreme Court has ordered non-violent prisoners released to solve the problem.

Change the incentives, and you can change the results. Yes, it will mean more money, but right now, the current system isn't working. And, over time, as we work more in reforming and reintegrating people back into society, those costs will go down.

A plane crashes. Move on already.

This is going to be possibly a heartless and cruel sounding post, and I'm sorry.

This morning, a plane crashed in Buffalo, killing 49. I feel very, very bad for the passengers, their families, their loved ones. It's too bad.

But I don't need 24x7 coverage of the crash. Do you have any new information? No? Then *cover something else for a bit*.

I'm much more worried about what's in the 400 page stimulus bill and whether it'll really help. I'm worried about the the "zombie banks" which have no way of returning to liquidity, but will continue to take tax dollars. Are we going to have a decade long recession like Japan from 1990-1999 which kept pumping money into their banks, or a short recession like Sweden who's recession went from 1992-1994 because they went out and killed the "bad banks" and sold off their assets - something the US did in 1987-1989 with the Savings and Loans scandal.

I'm more concerned with the layoffs, with the *thousands* suffering. I know - we need our distractions. How about every 30 minutes on the news channels, we dedicate it to updates about the crash - and then every other minute we look at the stuff that's going to effect *millions* of people? Just to balance it out a bit, please?

I don't get the union hate

Right now, there are people who are actively fighting against the nomination of potential labor-secretary Hilda Solis because she is pro-union.

Why do people hate unions?

Do you have the right to quit your job when you want? I'm pretty sure most of us would say yes.

Do a group of people have the right to all quit their job at once? Again, most people would say yes.

Do a group of people have the right to say "Unless we get X, Y, Z we're all going to quit, oh and Bob here who's a lawyer is going to work on the contracts"? Again, most people would say yes.

Does their employer have the right to say "Screw you all, you're all fired! I'll take the financial risk because I'm not giving in to your demands."? I'm pretty sure people would say "yes".

Sure - unions can ask for to much. Employers can demand to much. You know what that's called?

Capitalism.

People negotiating for their contracts to maximize their income while companies negotiate to give them the least? Last time I checked, that's the law of supply and demand at work. If a company makes a stupid ass contract that costs them money (as some would argue GM did with the unions), that's their own fault. They should have negotiated better. If a union doesn't get everything they want - again, they should have negotiated better. If the company up and moves overseas, well, again, that's capitalism - but then again, the company better be willing to pay the other prices (language barrier, etc, etc, etc).

So again, what's wrong with people banding together in having their say? I just don't get the "OMG UNIONS EVIL" mantra I see from some corners.

So, just what is the stock market?

Let's Have a Business!

Today I had someone I know asked the question "What's the actual value of having a stock market exchange? Seems like the stock market allows for people's skittishness to have real effect."

I'm no economics expert, but I at least recall some of my college classes and how I've explained it to other people over the years.

First, let's look at how a normal business is run - or how it was run, before the stock market existed.

So, let's meet Bob:



Bob wants to own a business - let's make one for him.



Bob Widget Company makes - widgets. What's a widget? I don't know - it's something that people want to buy. Usually.

Now, suppose that Bob invest $1000 into his company. He buys a store, he pays for a Widget Expert to train employees. He buys special Widget Making tools. He owns 100% of that company. Every profit it makes is all his. Every time he sells a widget, he takes the money and puts it right into his pocket (well, after paying his expenses.) It's Bob's money! All his! Bwahahahahahaha! If the company grows and becomes worth $10,000, Bob would sell the whole thing and make a nice profit.

But - what if something bad happens. Like, people decide that they won't want widgets any more. Now, all of Bob's investments - buying the shop, the tools to make the widgets, paying to have employees trained in the Ancient Art of Widget Making - gone.

All of that $1000 Bob put into the business is gone. He could take 100% of the profit - but he also assumed 100% of the risk. All of that money is gone.

Now, let's see about a partnership. Meet Bob's friend Frank. No, they're not brothers. They just look a lot alike.



Now, both Bob and Frank start the business together. Since it's still going to be Bob's Widget Company, let's have Bob own most of the company - say 60%. Frank will own the other 40%. They draw up a private contract, maybe get a lawyer to stipulate how things are to be split up.

Same company:



But now it's shared between the two co-owners.



Bob puts in $600, Frank puts in $400, and they run the company together. The good news is if something goes horribly wrong, Bob's only out $600 instead of $1000. Yay for him!

The downside is now, he has to share the profits with Frank - 40% of them. And he has to share some of the responsibilities with him. Maybe not - perhaps Frank isn't the pushy kind who's always asking to get his say in everything.

And even if Frank is - hey, Bob still owns 60% of the company - he has more power than Frank. Still, it can be tense if things aren't laid out between who does what.

Bob could reduce his risk more if he wanted to bring in more partners. On the one hand, the more partners Bob has, the less risk he assumes - but the more control of power he has to give up.

Of course, there is another way.

Let's have a market!

The good part about having more partners is that the risk is divided. The bad part is having to share the power, the profits, and most importantly, the ownership.

What if Bob teams up with a group of people - Frank, Nancy, Jo Bob, Latesha, and Fredo.



Everything's fine - each of them put in $200, and split the profits between them. Maybe they share some responsibilities, but overall things are going well.

Until Frank decides he has to leave town. No, don't ask why! It has nothing to do with the three state killing spree! But he wants his money. And since there was a private contract that detailed what Frank's powers and responsibilities were in exchange for his $200 ownership into the company, there's that whole headache to deal with. Who takes over Frank's responsibilities? Do the other partners buy him out? What if the value of the company has gone up, and now Frank's $200 is really worth $1000 - how does that get solved?

Another solution: stocks.

Instead of setting up partners and making individual contracts with everyone, you start with a Charter - a piece of paper that says what the company does, lays out the roles. You don't assign *people* to those roles usually - but just what the roles *do*.

Usually, you'll have a breakdown of roles like:

CEO: Chief Executive Officer - this is the person running the company, making the big decisions.

CFO: Chief Financial Officer - this person is in charge of how money will be gathered and stored and such.

CTO: Chief Technology Officer - the Geek God of the company.

And so on and so forth. There are probably rules about who can own the company - an initial group, then if they want to add new "shareholders" the group can vote on who they'll allow to sell shares to.

Remember how everyone put in $200 into Bob's Widget Company, and there were contracts that everyone signed about what they did? Well, instead of just everyone putting $200 into the pot, the company is split up into "shares".

Originally, Bob's company needed $1000 to get off the ground. If we split the company into 1,000 pieces, then you have 1,000 "shares" of the company, and everyone in the group can buy them up. Bob, being the guy who got this off the ground, buys up 350 shares. He owns about 35% of the company. Maybe Frank buys up 200 shares, and so on. Everyone owns a stake of the company, and however many shares determines how much of the company they own.



The importance here is now each member knows how much power they own based on how many shares of stock they own. Bob may own the biggest chunk of the company, but if everyone else teams up against him, they could overrule him. Unless Bob offers to buy up the shares of someone else's stock in the company, or can convince a majority of shareholders to go with him.

When Frank wants to leave, the other members just buy up his shares of the company, and they can vote a new person into Frank's job. Maybe the new person will buy some shares of the company, or maybe he'll just be another employee.

Now you can have movement in and out of the company. You don't have to do complicated contracts in and out. You know how much of the company is owned by whom at any time because they'll wave their pieces together.

And - the values of those shares can rise and fall. If the company does well, perhaps there an explosion of widget buying out there, the company grows. So those shares that were originally worth $1 each might be worth $10 each when the company is worth $10,000.

Of course, if the company shrinks - maybe there's an economic downturn, the shares of stock may be worth less. Value goes up or down as the company grows or shrinks.

So why do this? Well, by unleashing the forces of "the market", people can quickly raise investments. Bob's company can issue new shares of stock into the world, and raise money when needed. Of course, this means they're giving up some of their ownership, but that may be OK. It allows investors to decide how well Bob's company is doing, and add value to it by buying stock. People can swiftly move in and out of the business - which can be pretty good for business in general. If Bob does well, his company's value will grow. If he doesn't, well, investors can go buy someone else's stock in another company.

The big advantage to the entire economic situation is speed, and the ability to raise money for your company. Instead of complicated legal agreements with everyone who wants to be a partner in the company, now that ownership can be traded, bought, sold, and even allows new leadership to arise.

So - What rules should be followed for a good market?

The original question was - why have a stock market at all? Our little system seems to work all right. People can trade in and out. Maybe Bob sells all of his shares and goes to do something else.

But what when things go wrong? You've got 1,000 shares of stock running around, but how do you really know who owns what? What if one of the partners forges shares of stock? Or if there's some financial wrongdoing that leaves the company in ruins - not because the company was bad, but because someone did something that purposely devalued everybody else's shares, just so they could buy them up later?

Introduce - the stock market. The shares of thousands of companies, billions of shares are traded back and forth. Whoever wants to buy them can if they have the money, or can sell them when they can find someone who buys them.



At the same time, there's a system in place in the form of the SEC - the Security and Exchanges Commission. Every company that sells stock tells the SEC how many shares of stock they have out there, and who owns them. If companies want to merge, the SEC gets to decide whether there will be a problem (like if the merger will create a company that could be a monopoly).

This relies on there being transparency about who owns what shares of what companies. On the down side, this does mean that people's emotions can influence how much a company is worth, instead of just how well the company is doing. If there's a disaster, prepare for massive sales of company stock - which could hurt the company if they want to sell stock later to raise money. Or, as in the tech bubble, stock can be artificially high - until people realize that the shares they hold aren't worth the paper they're printed on.

So why have it? Because, overall, it does work. When there's proper regulation and oversight, the stock market has proven to be a powerful way to create new investments and grow the economy and jobs.

Of course, when there's not, then you can have a disaster - like we have right now. A lot of the ills of the stock market can be laid at investments that had no government oversight at all - private contracts between companies buying and selling shares of things that the government never knew existed. For more information, I really recommend you listen to NPR's show Our Confusing Economy, Explained and Another Frightening Show About the Economy - both shows feature Mr. Greenburger, a former commodities regulator, explaining default credit swaps (the private contracts the government didn't regulate that are bringing people down).

When markets are well regulated, it can work like a good sports game. Think of a Nascar race. There's rules about what kind of engines can be used. Rules about how fast the cars can go, what kind of tires can be used. There are fences around the tracks. When there's an accident, there are pace cars that force a slow down.



For the last 8 years, people in the markets said "Look - let's not worry about the rules. I mean - if it gets too fast and dangerous, people will slow down on their own! And let's take down the fences separating the fans. They don't need that - they want to be right in the action! No more pace cars - if there's an accident, the people will clear themselves out - we want the race to be exciting!

Only - now we know what happens when you don't have any controls over the market or a race. The cars all go as fast as they can because it's all about Winning at all costs. Now there's a massive pile up, several drivers are dead, some have crashed into the crowds and set people on fire -

And the people running the races are going "Duh - gee, I guess the drivers won't regulate themselves."

I'm sure there are even better explanations out there, and if you have them, pass them along. For now, this is my little explanation on how the stock markets work. Hope you enjoyed it.

America's Most Wanted

Something I made up for a friend.

The Timeline of the McCain economic campaign meltdown

After thinking about the last 2 weeks, I decided to make a timeline of John McCain, Man of Action, regarding the financial crisis.

September 15, 2008

John McCain: The fundamentals of the economy are strong



Stock market drops 500 points

Sept 16, 2008

McCain: We're hurting, and the fundamentals of the economy are - our workers. So if you criticize my comments about the fundamentals of the economy being strong, your insulting the American workers.



Mccain: We shouldn't bail out AIG



September 17, 2008

McCain: Bailing out AIG was a good idea.



September 18, 2008

McCain: I'd fire SEC chief Cox. Turns out the President doesn't have that authority.



September 20, 2008

Secretary of the Treasury Paulson submits his plan. It is 3 pages long, and asks for no oversight into the Treasury for the bailout.

September 22, 2008

Senate Banking hearing with Paulson about the bailout bill.



September 23, 2008

Mccain: I haven't read the Paulson plan.



McCain: We need a better regulatory system.



September 24, 2008

McCain suspends campaign - 8 days after "the fundamentals of the economy are strong" statement, 4 days after Paulson submits his plan.

McCain says he won't campaign until the issue is "resolved".



McCain cancels David Letterman show to "go to Washington and work on the bailout"



But he's meeting with Katie Couric instead. Letterman catches him doing it.



September 25, 2008

Mccain speaks at the Clinton global initiative.



Evening: McCain finally makes it to the white house for the meetings. According to some, he didn't say much.

This is what McCain and the House Republicans submitted - cut capital gains, less regulation of Wall Street market transactions.

September 26, 2008

McCain agrees to go to debate after all. Bailout bill negotiations still going on, unresolved.

September 27, 2008

McCain monitors bailout hearings from his office.

September 28, 2008

While senators and congressmen worked, McCain was at a 4 star restaurant.

My take on the bailout bill

If you've been following my Twitter feed, I've spent a little time eyeballing the Bailout bill.

And it's not perfect. I'm still not seeing any hard regulations, but this bill isn't about that. But compared to that piece of crap Paulson brought in a week ago, this is a pretty decent bill. It has provisions to make sure taxpayers get their money back (by laying fines on companies after 5 years if we haven't seen a profit). It cuts out golden parachutes for executives who drive their companies into the ground. It has oversight (and, in an amusing note, I noticed it states very clearly that the Judiciary branch has the ability to review cases about Treasury actions, something Paulson wanted to avoid).

There's still the underlying problem of what went wrong: security credit swaps and a derivatives market that's gotten out of hand. I'm not an economist, and I have just enough knowledge through my own reading and listening to NPR that tells me they are some bad mojo. (Check out the show The Giant Pool of Money for more info.)

This bill is the start. It will help the problem now - but people have to stay angry. We've been hurt bad. By a war that's wasted money and American lives in Iraq. With an administration bound to show that government was the problem - and then used Katrina to prove it. A philosophy that says "Just let the rich do what they want, and they're droppings will make us all happy and wealthy!"

We need a return to the regulation systems that we put in after the Great Depression, that lets business compete, but not get so powerful that we can't control it. We shouldn't lose focus now just because we might avert a crisis - and there's no guarantee that we're out of the woods.

It's going to be a rough 3-4 years, folks. I think we're going to get through it all right - but we have to be ready to make some changes in our market system to restore control while allowing it room to grow and prosper.

Time to take back our government people. Before it happens again.

Fast track Treasury plan? Put on the breaks

The mantra of the morning is "put partisan politics aside while the markets are melting. We have to save the economy before it all crashes apart!"

I'm looking at the financial deals, folks - and we need to put the breaks on this, and fast.

"Shock Doctrine" by Naomi Klein puts forth the idea that there is a sector of the market that waits for emergency situations - like this one. Once the crisis hits, these groups with pre-made plans come in and do the "shock", which is usually:

* Less regulation on markets
* Decreased labor powers
* Government tax dollars used to finance private industry without any payback (ie: private industry getting paid the job that government agencies did, only now without any oversight)

Folks, we're seeing the Shock Doctrine *right fucking now* in place.

This is part of the Treasury bailout plan that's being floated about, and it's got this line:

Decisions by the Secretary pursuant to the authority of this Act are non-reviewable and committed to agency discretion, and may not be reviewed by any court of law or any administrative agency.

What. The. FUCK.

Bernanke and Paulson will be given complete and utter control *without any oversight allowed at all*. What if he wants to buy up some bad debt for $300 million when it's worth $100, then turn around and sell it back from the same people he bought it from for $100, then turn around and buy it again for $300 million?

Nobody could say boo.

And it's clear that the Treasury is planning on buying assets "above current market value". While the real estate market is still falling - and expected to fall another 10-15% over the next two years (something I planned on accepting when I bought my new house) - the Treasury gets to buy these assets *now* before they hit rock bottom.

Unlike the moves in the 1930's, which bought up bad assets at the bottom of the market, this would allow financial institutions to make a 10-15% profit off of their bad decisions. They sell it off now for "above market value", wait 2 years for the final lower value to kick in, then buy it back from the government - boom, instant profit, taxpayers just paid for them to make money after they screwed it all up.

No. No way. This bill needs to have the breaks put off on it. We need a bill that:

1. Enforces regulation on the credit market and financial markets
2. Bail out institutions to ensure the accounts are solvent (checking, savings, CD's).
3. Preferred stock for any institution that is bailed out becomes worthless - this means that the stock board and upper echelons are the losers, while the common stock (which is usually owned by other banks) don't get blown away.
4. Bailed out companies get no dividends - I don't want to see people getting richer off of a bailout.
5. All bailed out companies get canceled golden parachutes - board members don't get millions for being fired. They get their last paycheck, and they're gone.
6. Something that Jim Cramer said that I agree with: let the government buy up "bad" mortgages for $0.20 on the dollar - ie, the ones that are being foreclosed upon right now. This at least gives banks something for their bad loan, it prevents millions from being homeless (should be offered only to those with 1 home - 2nd and up don't get rescued). Hold those mortgages for 2 years, give resident current value mortgage slightly increased rates, if they don't accept, then it's on the market.

I want to talk about #6 the most. This I believe is the best solution to the real estate issue. Instead of millions of homes being on the market without buyers, and millions of people being kicked out of their homes, #6 gives a chance to everyone.

Banks get *some* money. Not much, but they get some pain for their bad loan. People get a home, but this isn't a freebe - government is coming back in 2 years to make them pay, and if they don't, then they lose the house permanently this time. Government actually gets to make a profit - remember, they bought the mortgages at 20% of the value, then sell back at current market value.

Here's the money breakdown:

If a house has a mortgage of $200,000 and is being foreclosed, the government buys it for $40,000. Foreclosure delayed for 2 years. 2 years later, the house may be actually worth $150,000. Original owner is now saddled with a lower debt - they don't get to walk away from it. But at least they get a shot. If they don't take it, they're out, place is sold.

There may need to be other clauses, like "if resident causes harm to residence while living in it the government can take it out of their paycheck or something". But this gives pain to everybody - especially the banks to screwed up in the first place.

Either way, the current Treasury bill can't be allowed to pass in its current form. Its a Shock Doctrine bill - and the taxpayers will be stuck with the tab.

The best post I've seen about what's happened in the economy

Lucid, educated, and spot on:

Commentary: How to prevent the next Wall Street crisis by Joseph Stiglitz

I may have to go get his book while I'm out today.

What should be done with AIG?

If you've been watching the news, you likely know that AIG has been bailed out - the US government now owns 80% of AIG in exchange for a loan for $85 billion.

My coworkers and I were discussing what to do. I originally thought it should be treated like an anti-trust case - break it up, make it smaller (whether by region or performance).

One coworker had an idea: health insurance.

And then it hit me.

Health insurance.

Start selling off all non health insurance divisions. Announce that AIG will now be the official health insurance provider for the United States citizens. No citizen can be turned away from coverage. Rates offered to the majority of the public, or banished if the person can prove they don't meet a minimum income.

You go to the emergency room, you visit the doctor - you're now covered under AIG. Granted, there will have to be changes, commitments of X amount of tax dollars going to pay for it.

But this could be the start of the US universal health care system. Everything's in place - and the American People now own 80% of this company.

Maybe it's time we told it what its new business is - serving *us*.

I don't mind that he's not an expert

McCain denies he said he wasn't an expert on the economy - when he did.

You know, I don't mind a candidate who admits "I'm weak on X issue." Nobody expects even the President to be an expert on everything.

After all, that's what you have advisers for. What we elect a President to do is have the wisdom to know - even in general enough terms - what the right and wrong thing are. Lowering taxes during a war? Bad. Raising taxes on essential needs? Bad. Spending money infrastructure? Good!

So with this good general knowledge, a President can work with experts in the field, know when they are being lied to and when they're being told the right things. They can look at history, and even if we don't expect them to memorize the last P/E rations of the top 5 companies, they have to at least know what is important to spend money on or not.

So I don't mind that McCain says "I'm not an expert on economics." I don't expect Obama to claim to be an expert on military tactics.

But I do get annoyed when someone tries to claim to be everything, or denies that they ever said they were weak on something. McCain's blunder here is the "Oh, I didn't say I was bad at that", when he did. We all admit it - and it would be OK if he just cowboyed up to that and said "But I have advisers A, B, and C that *do* know a lot, and here's why you can trust them - and why I do."

Of course, having Black and Graham as economic policy advisers, especially after Graham's financial screw ups have now lead to the energy and housing credit crisis doesn't inspire confidence. But neither does McCain claiming he's not an expert, then claiming he never said he wasn't, either.

Want to know more about the Capital Gains tax?

About a month ago, I had a guy from church telling me that the Democrats were stupid, because whenever you lower the capital gains tax, then there's more government revenue.

Not knowing anything about this, I went "Oh. I'll have to look that up. Doesn't sound logical that lowering taxes increases revenue, but maybe there's something there."

I looked it up. Turns out, yeah, revenue goes up for the first year while people take advantage of lower tax revenues and cash out their stocks - then tax revenue falls from there.

Well. Now I know.

OMG - Obama saves money like - a person should!

Some of the nit picking in the article is silly, but - hey, if I had a ton of money dropped into my lap, I'd save my money in conservatives ways too.

But that's me, because right now the meager money I *have* saved is all in very conservative savings accounts. Low risk. Figure let it sit.

Dispelling some economy bullshit

Every so often, I see or hear people say this about people's economics situation today:

"Well, they only have two incomes because they want that color TV."
"People are just lazy with credit - they need to buy less and not go into debt."
"If people just got by on less, they could make it on one income."

This is conventional wisdom - it feels right, so it must be right.

Only - it turns out that's not true at all. This video of a lecture by Elizabeth Warren goes over how the three big things - housing, health care, transportation - has increased 70% since the 1970's (adjusted for inflation). The cost of food/appliances/entertainment has *dropped* some 10% or greater. The result? Just to pay for the things you *need* (aka - a house, a doctor, a car) has nearly doubled, while the price of things that you don't *need* (well, except for food) is not only less, but cheaper. The result? Just to buy the first three necessities (house, transportation, health) you need - double the income. But once you do that, child care goes up 70%, and your tax rate goes up (why? Because now you've got more income.)

And then you get less health care for the same dollar (1 night stay in the hospital today used to be 5 nights 30 years ago, assisted nursing care was standard, now *you* are the at home nurse - oh, and if you need those two incomes to pay for your house/car/health insurance, now you just lost half of your income).

It's a horrible look at what's been going on in the middle class - and it's not looking any better.

Oh, no - Ethanol is going to make us all starve!

Somebody explain this one to me. We have a weakening dollar because of the housing/financial meltdown. We have a war in the Middle East (you know, the place that makes lots of oil). So who's to blame for rising food prices?

Well, obviously farmers trying to make ethanol. Forget that it's an initial market. That the corn grown for ethanol is not the kind you eat. Or that other countries (like Brazil) seem to have survived the move to ethanol without triggering mass starvation or death.

Nope - obviously (if you're a moron), what you have to do is stop this alternative fuel source from taking off and becoming viable so that when the next oil crisis hits, we can blame anything - save our dependance on oil.