Just Wonderin'

I’m really trying to figure this all out, but some of this just doesn’t make sense to me. These are just a few random observations that are causing some serious cognitive dissonance.

-The Obama administration is seriously considering slashing funding for “unproven missile defense technology” (at the same time North Korea is threatening to lob a missile over Hawaii) but at the same time believes that it is essential to spent billions on unproven “green” technologies and unproven stem cell research.

-Obama seeks to create a “post-bubble” economic model, one that doesn’t rely for growth on “just on an overheating housing market, or people maxing out their credit cards” but instead wishes to build it on the pillars of a government spending bubble with the government maxing out on its credit card.

-After at least 60 released Gitmo detainees returned to terrorism, the Obama administration is so confident in its vetting process that it now wishes to release some of the Gitmo inmates on U.S. soil (and give them government benefits).

-Barack Obama has never worked in business, and has been in his job less than 100 days, terminates his first employee this week—a CEO of a publicly traded company.

-GM is out of cash and teetering on bankruptcy and the Obama administration promptly hands it a new obligation—stiff new fuel efficiency requirements, which will require substantial cash investments.

-The Obama Administration hammered John McCain’s support of taxing health benefits in the waning days of the campaign and filled the airwaves with sharp ads claiming McCain wanted to take health care benefits away. Just a few days ago, this headline appeared in the New York Times:

Administration Is Open to Taxing Health Benefits

These are just a handful of things I’ve been trying to reconcile lately. It hasn't been easy.

Shock and Awe

My recent relative optimism took a pretty good body blow this week. Despite the Dow’s first back to back positive weeks since May, the brouhaha over the AIG bonuses threatened to impair much of the progress we have made in recent months.

There is no other way to color it. This was a painful spectacle to watch. Instead of carefully considered, thoughtful, sober approach—you know, the kind of thing that we were promised during the campaign, the outcome was policy born of rage. It was exactly what the Founding Fathers feared in a democracy—mob rule.

At issue is whether employees should be paid their 2008 bonuses, rightfully earned under the existing AIG compensation program. Unfortunately, some of these bonuses were rather large (by the standards of the current administration anyway) and many were to be paid to individuals that worked in the business unit that ran AIG aground. I fully understand the revulsion at using tax dollars that were used to bail out AIG to pay these executives. It was an unfortunate consequence of keeping AIG out of bankruptcy and is fundamentally unfair.

As AIG began collapsing last fall, the government had two bad choices available to it: permit AIG to go into bankruptcy or prop it up in some way. There were no other choices.

A bankruptcy in many ways would have been far simpler. The US Bankruptcy Code provides a scheme and a set of rules by which the bankrupt entity will settle up its claims, including executive bonuses and “stay” bonuses—amounts that can be paid to executives to induce them to stay at the bankrupt company and help it work out of its problems. Congress would not have to decide anything about these bonuses. That would have been left to the bankruptcy court.

The government chose not to permit AIG to enter bankruptcy. Because of the intricate interrelationships between AIG and other financial institutions, permitting AIG to go into bankruptcy risked dragging other financial institutions into a vortex which might have caused a total collapse of the financial system. It was like a string of mountain climbers all tethered together. If one went over a precipice, the whole string may go down. So while it would have made dealing with the bonuses easier, the cost may have been unimaginable.

In life, there are tradeoffs—we rarely get the full result we want. Here, the government could have let AIG fall into bankruptcy and let bankruptcy rules deal with the bonuses. Or it could have kept AIG out of bankruptcy with the unfortunate by-product of it remaining liable for the bonuses. Instead, the government decided it could have it both ways. In a grotesque exercise of raw government power, the government decided that it was going to TAKE the bonuses by imposing a retroactive 90% tax on them. This is one of the most egregious naked grabs for private property and intrusions into the contract rights in recent memory.

I find it ironic that President Obama, a law professor, has twice taken positions which effectively take freedom of contract out of the hands of private individuals and hands it to the government. Under the mortgage bailout plan, he has advocated giving bankruptcy judges the power to rewrite mortgages. And now, he advocates blowing up private contracts between a company and its employees.

The exercise of brute force by the government here is real shock and awe.

The Right Guy

Sometimes it’s hard not to believe in Providence. Tonight I watched the 60 Minutes interview with Ben Bernanke and came away feeling that we are simply blessed to have him. While most people have suffered some measure of pain in this downturn, I believe most people have very little idea of the magnitude of the disaster that we likely averted because we have Ben. And then it occurred to me that this is the second big disaster in the last twelve months that was averted because we had just the right person at just the right place at just the right time.

On January 15, Flight 1549 took off from LaGuardia and hit a flock of birds, knocking both engines out. At the controls was Chesley Sullenberger, a pilot with over 40 years of flying experience, a graduate of the U.S. Air Force Academy, a safety instructor, a glider and accident investigator. He has had a pilot’s license since the age of 14. With no other viable options available to him, “Sully” landed his Airbus A320 safely on the Hudson, saving the lives of all on board. In retrospect, “Sully” had been training his entire professional career for just this event. The term “perfect storm” has become a cliché, but Sullenberger was a “perfect storm” of training and expertise to face just that moment. There are 155 people are alive today because this one person had spent his entire life training to face a critical challenge.

After watching Ben Bernanke this evening, I felt the same way. We are facing unprecedented challenges in the financial markets and in the economy. Not since the 1930’s have we looked financial catastrophe so closely in the eye. We were very close to a complete and total economic shutdown last fall. Again, as with Flight 1549, it was as if God had chosen the right person to be at the right position when this all occurred. Bernanke has a brilliant mind, an easy demeanor, and a personality that exudes genuineness. He is one of the nation’s leading scholars on the Great Depression. While Alan Greenspan had a reputation of being imperiousness and often purposely used the language of obfuscation, Bernanke gives the impression of being more humble and open.

After watching the interview with Bernanke, I realize that there are times in history when it is hard not to see Providence at work. The human misery of the Great Depression was incalculable. It was a global catastrophe that led to disruption of millions of lives and it permitted the rise of fascism that killed millions. With Ben Bernanke at the controls at the Fed, he is determined not to allow the kind of policy mistakes that allowed that downturn to spin out of control. Similarly, with another pilot at the controls of Flight 1549, 155 families would likely still be in mourning.

Two amazing men trained for a lifetime for one crucial moment in history.

Never Say Never

Last week, I committed an act that may ban me from future Republican gatherings, permanently block me from Rush Limbaugh’s website, and subject me to being smeared as a heretic. It was a most heinous act, almost too shockingly disturbing to admit to publicly---I actually visited the Clinton Library while visiting a friend in Little Rock. Even more damning, I actually enjoyed it.

Now, when Clinton was president, I held highly contradictory views of him. During the Clinton Administration, I had this vague feeling that I was being sold something all the time. Listening to Bill Clinton was kind of like being around a used car salesman in a bad leisure suit. You knew what was going on and it felt a little greasy, but you kind of accepted that this is just how the game is played. His dalliances with women that bordered on trailer trash and his less-than-credible, “I didn’t inhale” claims were unbecoming of a chief executive and signaled a lack of self control. The affair with Monica Lewinsky and the scandal and drama that unfolded was pretty revolting. The affair itself didn’t bother me—people have their own peccadilloes. It was the lying under oath to a Grand Jury that was reprehensible. Still, I didn’t have the burning hatred for Clinton that many Republicans did. Neither did I think he was one of the greatest presidents of the 20th century. My overall view was that he inherited an economy in ascent and in general, didn’t do much to screw it up. In foreign affairs, I thought him a bit timid, lobbing a few missiles from afar at our real enemies--Al Qaeda and Saddam Hussein, while putting our troops in harms way where we had no dog in the hunt—Somalia and Haiti. And most disconcertingly, he was slow to act during the genocide of Bosnia-Herzegovina, and did nothing at all when hundreds of thousands perished in Rwanda. On balance, I thought him to be an O.K. president, but just that.

Shockingly, though, while strolling through the library with the photos, and media displays and artifacts, a wave of nostalgia washed over me. That’s right- nostalgia. Never in a million years would I have expected to feel this way over the Clinton years. As I strolled through the panoramas and reviewed events of the Clinton administration, it was natural to contrast them with what is going on under the new Democratic administration. With some perspective, I have come to the conclusion that Clinton was shady and slippery when it came to dealing with matters in his personal life, but in matters of policy, he was pretty principled, at least as far as politicians go. At his core, Clinton was a believer in free markets, free trade, and limited government. He was willing to spend political capital pushing back on his own party to accomplish objectives consistent with those core principles. By passing Welfare Reform and shepherding NAFTA through, Clinton demonstrated his willingness to lean against important elements of his constituency. NAFTA and Welfare Reform would be crowning achievements in any Republican administration and far outshine anything George W. Bush was able to accomplish on the domestic front.

This is in stark contrast to our current administration, which has demonstrated a willingness to be slippery on matters of policy and has yet to demonstrate in any way that it is willing to lean on the more liberal elements of its constituency. Is there any policy position that the administration has taken that Ted Kennedy would object to? Obama talks up bipartisanship, but stiff-armed the Republicans in passing the stimulus bill. He talks about stimulus, yet not much in the recently passed spending bill has anything remotely to do with real stimulus. He talks about tax cuts for 95% of Americans, but the bulk of it is really just a transfer payment. If you are not paying taxes and only receiving a check, that is welfare, not a tax cut. Most egregiously, he claimed last week that the budget stimulus bill was free of earmarks, which brought a snicker from the audience. The “earmark free” stimulus was chock full of earmarks, containing pork barrel projects such as a as a $950,000 convention center in South Carolina and the biggest knee-slapper of all--$1.8 million set-aside for pig odor research in Iowa. I’m not opposed to the pig odor research per se, but we’d get more mileage out of it if we started in Washington. Obama has learned that labels matter, and if you name something different than what it actually is, you can throw them off the trail for awhile.

In the opening weeks of his administration, Obama has taken immediate and concrete steps to neutralize several of Clinton’s most important accomplishments. The stimulus package effectively gutted welfare reform and signaled to the world that this administration is willing to see our commitment to free trade erode by permitting the “Buy American” provision in it. In one of the media presentations at the Clinton Library, I even heard Clinton’s semi-famous speech proclaiming that “the era of big government is over.” I almost could hear Obama’s voice in the background singing, “We’ve only just begun.” I’m starting to come around to the point of view that Clinton’s sleight of hand in his personal matters were pretty venial sins after all, especially in contrast to the verbal deception that is going on now.

I never thought I’d ever say this. But, Bill, I miss you.

10 Things to be Happy About Despite the Depression.

In my last posting, I argued that the economic downturn that we were experiencing was not just your father’s recession. This contraction is more properly classified as a depression, although this classification does not necessarily imply that we are doomed to a 1930’s or even a Japanese type decade-long economic setback. It simply means that this will be a severe contraction and that the spending, taxing and regulatory choices of the Obama administration will have a profound effect on its duration and depth. Although we are relatively early in the game, I am not entirely encouraged by what I am seeing. But to dispel the notion that I am a reflexively gloomy whenever liberal Democrats are in charge, I decided to take a slightly different tack. My comments in this post are largely inspired by the most recent issue of Barron’s magazine. As soon as I got home with my newsstand issue last week, I opened it and frantically began to search for any article—any at all—that had the slightest bit of good news. Aside from the price of gold, not a single analyst had anything hopeful to say about the near term prospects of any asset class or for the economy as a whole. It was doubly depressing to think that my wedding ring and my fillings are now probably worth more than my 401(k). So after reading Barron’s and listening to the funereal message of our president, I thought it appropriate that somebody, somewhere needed to say something positive about living in this era, and I might as well be the one to take a stab at it.

Here is my top 10 list of things to be [at least moderately] happy about despite the depression:

• Getting from place to place is easier. Three years ago, taking my kids from home to school in the morning was a real hassle. My neighborhood was a frenzy of activity in the morning. It was like traveling 3 miles in a construction zone, getting stuck behind dump trucks, waste hauling trucks, and lumber trucks. Construction crews would halt traffic on side streets to haul in materials to build yet another McMansion. Since last summer, all this has gone away. Now, the morning trip to school is like a summer drive on a country highway. Similarly, the airports are now a breeze to navigate through. My family and I took a trip to New York in last December—normally a stressful, jam-packed adventure elbowing your way past bustling people with luggage and shopping bags full of Christmas gifts and businesspeople and lawyers scrambling to get year-end deals done. This year, we breezed in and out and I have to say it was a great deal more pleasant.
  
• Schadenfreude. OK, OK, I admit it. Some of these investment bankers, hedge fund managers and other financial pros that you knew weren’t any smarter than you were making millions, pounding their chests and proclaiming themselves to be wizards. Well, many are now half-wizards at best, and some, we learned, weren’t really wizards at all—just guys that got a little lucky and some were out and out frauds. I’m as staunchly capitalist as anyone, but there is something perversely gratifying to see some of these folks take off the tall pointy wizard hats and mow their own lawns, and to see the real frauds go to jail.
  
• We may be healthier in the long run. There has been a raft of recent research demonstrating that retirement isn’t really good for you—mentally or physically. People do better when they continue to work and are engaged in productive activities. We need a purpose in life and a routine. For many, retirement is a road to physical and mental deterioration. The deflation in our asset values means that we will have to work longer to make up the gap. The demographers are telling us that there will be a projected labor shortage in the coming years as baby boomers reach “normal” retirement age. Ultimately, baby boomers will work longer, and it will be to everyone’s benefit. It will ameliorate the labor shortage and extend their productive lives and overall it will be to everyone’s benefit.
  
• Better relationships. Shared misery creates a bond between people. I learned this when I played high school and college football. Going through training camp in the hot August sun with coaches yelling at you for 8 hours or more a day created a bond among us that, in some cases, lasts to this day. Today, the misery and pain of this depression has brought me closer to many of my friends and acquaintances. Nearly everyone I know has suffered some degree of pain and loss. Many have lost jobs, have had their assets severely impaired, and are experiencing a great deal of anxiety about the future. Going through that together (dark humor and alcohol helps) means that pretenses are dropped, more personal stories are shared, and our fears are talked about more openly. When your neighbor is doing very well and you’re not, it’s very painful. When we’re all suffering, we tend to draw closer. It’s human nature.
  
• Restoration of old fashioned values. The days when you could work at a job for two weeks and buy a house with no down payment are gone, as is the ability to refinancing the “equity” out of your house so you can buy big screen TV’s, Caribbean cruises and the like. We will go back to a time when newlyweds lived frugally for several years to scrape up a healthy down payment and get a mortgage they could really afford. We will be forced to budget and live more responsibly. When we move into higher lifestyle stations, we will do so the old fashioned way—by working, saving and investing, getting promotions and starting our own businesses and not simply on abnormally high increases in our home equity.
  
• Reordering capital flows. Our government created the conditions that enabled this catastrophe to occur. Through tax (mortgage deductions and other tax breaks) and regulatory policies (CRA and Freddie Mac) and by keeping interest rates too low for too long, Uncle Sam fathered the bubble. The government’s fetish with individual home ownership distorted the market and ushered in this cataclysm. We have now learned that there is a large segment of the population that SHOULD NOT own homes and should be renters instead. These individuals were in no way able to absorb the risks of asset ownership. Additionally, government incentives diverted too much capital into residential real estate, which is an unproductive asset. Once again, the people that the government purported to help have been among the most damaged in this crisis. They will lose their homes and have their credit histories damaged. But that is why the phrase, “I’m from the government and I’m here to help you” is such a ubiquitous joke. Hopefully when this all rebalances, we will have a healthier allocation of capital into productive assets and people that should be renters will stay renters.
  
• Birth of some wonderful businesses. I noticed in my business career that many, many companies had their origins in the period from 1980-82. Many were started by middle managers that were downsized from their employers. One in particular was fired by a large cosmetics company at a time when he had 5 children and a wife that didn’t work. For him, starting his own company was not just a matter of scratching an entrepreneurial itch. It was a matter of survival. Somehow, he survived and today has a very nicely profitable little company, and he is much better off than if he had remained with his old employer. Orbitz, HP, FedEx and CNN are just a few examples of companies that were born during recessions and this one won’t be different. There will be the brave few that will see this as a time of great opportunity and they will be rewarded for doing so.
  
• Reallocation of human capital. I know that it is painful, but there were a lot of people with great quantitative skill employed by Wall Street and creating no value for our society. Lured by supersized salaries, these people were employed by Bear Stearns, Lehman Brothers and other similar organizations, putting together the subprime securitizations that were at the root of this mess. Those jobs are gone for good. Thousands of these people and others like them will have to find something else to do. Hopefully, some of them will decide that they need to teach. Wouldn’t it be great for our educational system if some of these talented individuals found their way into the classroom? Many will be forced to take steps they should have taken anyway. On a recent trip, I struck up a conversation on the airplane with a middle aged African American woman. She was just returning from a successful job interview for a job as an information technologist with a university in Arkansas. She had been laid off by a bank from her position as a check processing supervisor. The layoff forced her to look for a job—which she found in short order. She will be taking a position that is more commensurate with her skills (she had an IT degree), has better pay, is more interesting, and is in a warmer place to boot. There will be many like her that will be redirected to a better life.
  
• Perhaps a cleaner environment. China’s environmental problems are overwhelming. Ours are difficult even though we have been working at it more or less for a couple of decades. This pause in economic growth may give us some breathing room to develop solutions to some of those problems. For a little while, there will be fewer planes in the air, cars and trucks on the highway, and factories will be spewing fewer pollutants (although that will be offset somewhat by China keeping some inefficient factories going). It may be beneficial to slow things down while we work on technologies to solve these problems.
  
• Finally, fewer shark attacks. CNN ran a little story last week that noted that since the recession started, researchers have seen a sharp drop in shark attacks on humans. The researchers believe that it is a direct result of fewer people vacationing and being in the water. I wonder also whether releasing stress hormones additionally makes us less tasty. While being consumed by a bear market is no fun, being eaten by a shark is worse.

On balance I would not argue that this is a good tradeoff. The depression will inflict a great deal of misery and leave permanent scars, and will be particularly harmful to many baby boomers. But there will be some salutary side effects to soften the blow, and we should keep them in mind and enjoy them. I am particularly pleased that a number of my friendships have been enhanced over the last 6 months. Just the other day, a partner in a large law firm asked me how long I thought this would last and if I thought we would ever recoup our losses in the market. “I think guys like you and me are pretty much screwed in the long run,” I said, patting him on the shoulder, “Not only have we taken current losses, but Big Brother now thinks we haven’t paid nearly enough. But I’m still your friend and I still luv ya’.”