January 20

Some thoughts about this seminal day in American history:

The peaceful transition of power.  It is so commonplace to us, since long before we were here to think about, that we sometimes forget to marvel that it has never been the norm in the world.

I've watched or listened live to seven inaugurals now.  This is the first one that brought tears to my eyes.  It wasn't even as much what he said - inspiring thoughts delivered with less fervor than we may have expected - as two ideas that kept coming back to me.  

First is that thrill that after several presidents who did not do so, we have a president who aspires to inspire us.  

Second, and far more importantly, is that the world I was born into is dramatically and permanently different.  The president, after all, is more than an office-holder, he is the face of "America" as a national institution.  Now an entire cohort of children in this country will see the face of the country, the symbol of leadership, is a black man.  For someone who grew up in the massive-resistence South, there is no greater change in our culture.  Racism is not cured, but the message of hate is going to have a harder time getting through the regular picture of the leader of the free world is a man of color.

When Martin Luther King, Jr. stood at the other end of the Washington Mall and declared that he had a dream, I don't think he pictured a man judged by the content of his character not the color of his standing on the Capitol steps within his own children's lifetime.  That was part of why it was a dream.

And one other thing.  Name the next progressive Western democracy which will have a black man or woman as its leader.  Right now, it is as distant as it was for MLK in America.

Tomorrow the heavy lifting starts.  But today, every single person should believe in the promise that has always been America.

Tax Money

I'll save some of you the trouble of viewing the comments to earlier posts by quoting the comments - and where appropriate my posting that gives rise to the comment.

In response to my column called It Is our Money. Michelle Peterson writes:

"However, I'm in favor of a tax overhaul. Why not convert to a Fair Tax system? Taxes are paid up front on goods and services. A 23% tax on all new goods and services. There is no need to file income taxes. More revenue would be collected because everyone uses goods and services. Fair Tax brings transperancy to collecting tax paying dollars."

Two thoughts and I would love to hear more.  First is that I don't think that there is anyone who is not in favor of a tax overhaul.  I've never met a soul who likes the current tax system - though there are certainly a large number of accountants and tax attorneys whose livelihood would be in jeopardy if a system like the National Sales Tax were implemented.

Second, I've read the book The Fair Tax and certainly see its appeal.  I'm not opposed to a radical simplification of the tax system.  My concern at this point is that so many economists on both sides of the political spectrum label the plan as "wacky."  For some time, I have been hoping to that such economic voices would address the specifics of the plan, and I would like to invite everyone to join in me in calling for a debate based on the science of the plan.  Michelle, do you have anything?

The Madoff Chronicles - Part III

Opacity v. Transparency

Which brings us to 2009 and the latest round of opacity vs. transparency in the financial world.  ABC News attempted to learn from the recipients of the $700 billion government bailout what they had done with the money, and was sent packing.  The government didn’t bother writing a requirement for accountability for the money into the bailout program, and so it cannot get the information either.  After providing nearly a billion dollars in loan guarantees, loans, and outright gifts, the United States government is unable to learn what its largesse has been used for.

Right now each and every one of us gleefully chuckling over the folly of the rich and connected who tossed their money down Bernie Madoff’s rathole are doing exactly the same thing.  Our tax dollars are being tossed into a couple of dozen ratholes and all we ever get are glimpses of what we’re getting for the effort - glimpses like AIG’s lavish employee retreat, which aren’t exactly reassuring.

This is unacceptable.  Not only is it bad governance.  It is bad capitalisms.

Believe it or not, it is not actually a law of capitalism that transparency is verboten.  It has just increasingly been allowed to run that way.  Opacity has been rewarded in the private markets, because investors would rather hear about returns than ask what their money is really being invested in.  Opacity is being rewarded in the bailout, because the government - for reasons that surpass understanding - has shied away from requiring that the recipients of the money account for it.  Transparency, not opacity, needs to be rewarded.

We need to require more transparency everywhere in our financial world.  As part of the privilege of raking in billions of dollars of investments from people, we should require that financial institutions make meaningful disclosures about what they are doing with the money.  The sheer volume of financial transactions being packaged limits the depths to which we can view into the murky waters, but we should at least have a clean, clear window to look through.

And all the more, we need transparency from the increasingly-broad range of institutions putting their hand out for a piece of the bailout cheesecake.  “Thanks for the cash, but we aren’t telling you what we’re doing with it” is unacceptable.  Period.  

Madoff’s rebuff to anyone inquiring into his fund was that his system was proprietary, a trade secret.  (“Ponzi is a registered trademark of Bernard Madoff and cannot be used, transmitted or published without the express permission of Madoff and the United States Bankruptcy Court for the Southern District of New York.”)  How this statement did not set off alarm bells for each and every investor is simply amazing.  But nobody seems to think that is such a surprise.

The reason is that we have become used to putting our money where we have no idea what will become of it.  We don’t expect to know what happens - which is madness.  We all pay taxes, but nobody can congently explain what the government is doing with the money.  And then the government spends a couple trillion more than it has, but no one can cogently explain how the deficit will be eliminated.  When there are trillions involved instead of thousands, we collectively engage in magically thinking.  The numbers are too big, so we allow ourselves to believe that it is too big to understand but will be alright in the end.  This is folly.

Let’s ask our government to push for a little more transparency.  After all, it’s our money. 

The Madoff Chronicles - Part II

Follow the Money

The person we haven’t heard from in the Madoff affair, the one I am most interested in, is the auditor.  News stories have said that Madoff used an obscure auditor that no one else was familiar with to produce his reports.  Obviously, this shadow figure is complicit in the crime - reports of annual fund growth accompanied the annual dividend payments.  Somebody knew that there wasn’t a fund growing anything but a longer list of new investors.

And the reason that I want to hear from this guy is because that is the person who actually made the whole thing work.  The auditor provided that only window into the Madoff vault.  This little cockroach needs to be brought, blinkingly, into the light of day because it is he, and not Madoff, that we need to hold on to as the symbol of everything that has been wrong with the go-go Nineties and Aughts.

If we look back to the tech bubble, the problem was that people invested tons of money on the belief that the industry had nowhere to go but up.  Sure it was the triumph of hope over experience, but it was brand-new economic model.

Where were the gloomy guys with the green eye-shades?  The accountants whose job was to point out that the company with the five billion in new investment capital had a business plan that was guaranteed to lose money for the next twenty-four months and then after that it was anybody’s guess if they could ever turn a profit.  Nowhere to be found, because no one wanted to know, we all wanted to hope.  Kinda like Madoff’s customers, ain’t it?

Remember Enron?  All the off-book accounting, all the debt magically transferred on the balance sheet to off-shore wealth?  The auditors who blessed Enron’s financial statements, giving them the Good Housekeeping Seal of Approval, had a hand in convincing investors to put billions of dollars into the shredder.  Pretty much the institutional version of the obscure auditor cranking out Madoff’s bogus balance sheets.

The auditors starring in the housing bubble, more than tangentially responsible for the recession of 07-08, were the credit rating agencies.  Their role was to fairly examine the value of the credit-worthiness of the debt being packaged and sold as collateralized obligations.  It is apparent that their examination never contemplated either the value of the collateral or the credit-worthiness of the obligors - as they wrapped pretty red ribbons called “AAA-rated” around millions of packages of debt that should have been labeled “toxic waste.” 

When there are billions involved instead of thousands, who is watching the watchers.  Nobody apparently.

Collectively, we all need to sit down and watch "All the President's Men" again.  To hear Hal Holbrook croak "Follow the Money!"  

The Madoff Chronicles - Part I

Madoff Isn't The Only One

It is easy for everyone here on the outside to ask how hundreds of purportedly smart business people could be suckered by Bernie Madoff’s patently bogus “investment fund.”  All of us here in the tradesman class, without the money or social cachet necessary to get into Madoff’s Ponzi scheme, are having our little moment of schadenfreude at the expense of the landed gentry.  But to be honest, none of us knew any better - we just didn’t have the money to lose there.

Before going any further on the actual topic of the day, I would like to take a moment to marvel at the sheer scope of Madoff’s crime.  Fifty billion dollars!  Does Madoff revel more in the mountain of cash or in the impressive list of marks who willingly handed over money like the little old widows in Mel Brooks’ “The Producers”?  Madoff made the simple calculation that the penalty for robbing the corner liquor store would be the same as stealing all the gold in Fort Knox, and went for the Gold.  That’s the kind of initiative that usually makes me proud to be an American.

But we came today not to praise Madoff, nor to bury him. 

I hope that we are nearly at the bottom of the financial spiral, so that Madoff can serve as the final, best room in this house of horrors, the one we remember when we drive home.  Because beyond the bemusement, we can actually profit from the lesson, if we quit acting like Bernie Madoff was a one of a kind criminal and instead see that his asset-less investment fund was not too far removed from the rest of the financial institutions we are busy bailing out, so that we can return to the days of giving them our money in expectation of high returns.

What part of Madoff’s crime is unique?  He took billions from investors based upon assurances that his fund would generate solid returns on investments.  Which major Wall Street player didn’t?  He used phony accounting.  Every major “write-down” in the past six quarters has an acknowledgment that the previous accounting was not particularly accurate.  He didn’t actually put the money into assets that would yield returns.  Neither did Lehman, AIG or any of the others.  

The real difference is that Madoff didn’t pretend that he was being a prudent financial investor; he told his clients point-blank that he would make them money and they weren’t allowed to know how.  Our major investment houses instead said they would make money and if you could figure out how, good for you.  They created exquisitely complicated debt instruments, whose actual value could not be traced.  Madoff knew he wasn’t going to pay people back.  Wall Street just didn’t care.

The Grand Illusion

Years ago, during a much smaller market bubble burst, I hit upon the analogy that investing is the same as gambling. Hardly an original insight. But what drew me to the analogy wasn't the simple mathematics - risking a loss in exchange for a possible reward. It was the mentality of the investors. This came home in a much, much larger way during the stock market meltdown of 2008.

For weeks on end we heard about how much money people had “lost” in the stock market. The problem with these tales of woe and gloom is that almost everyone involved hasn’t actually lost a damn thing. What almost all of them lost was perceived value.

In January 2007, you handed $1000 over to your broker and had her invest it in something. In August of 2007, you got a report that showed that your investment had increased to $1278. In August 2008, you got a report that showed your investment had tanked to $622. Did you lose 50% of your money in that year?

At 8:45 pm, you handed $1000 over to the dealer at a blackjack table and she passed you $1000 in chips. At 9:22 pm you had hit a couple of good hands and held $1278. At 10:22 you’d been on a slow slide of losers, winning a couple and then losing four or five and then winning a couple, and found yourself holding $622. Did you lose 50% of your money in that hour?

The answer is no. You haven’t lost 50% of your money. You haven’t even lost the $378. Because it isn’t your money. It is just casino chips. In either scenario.

The only way you can ‘win” or “lose” the money is if you cash out. While you are playing, it isn’t your money. The fall from $1278 to $622 wasn’t 50% of your money, it was 50% of your stack.

For most people, though, their investments don't feel like gambling. The hardly original insight somehow disappears from view. And they feel like they are losing real money.

In 2008, the impact was much more dramatic because, unlike in any casino, almost everyone who has money invested had been raking in the chips during the years running up to 2008. Everyone who had money in the market while the the Dow climbed all the way to 14,000 was way ahead, in chips. And so when it fell all the way to 8000, it was a disaster of perception, and has certainly aided in the recession we are all feeling. But the fact remains that they haven’t actually lost any money.

The Lessons of the Casino
And that’s why there are two lessons of the casino to apply to your investment portfolio. The first lesson is psychology - while your chips are on the table, you can’t act like the chips are your money. The play of the hand has to decide how you bet, not the “money” that you are risking - if you need to split that pair of aces, the fact that it might cost you double can’t govern the decision. It’s not your money; acting like it is will only make you crazy.

The second lesson is common sense. Don’t bet money you can’t afford to lose. Never bring your rent money to the casino. You bought the chips to try to grow the stack, knowing that you might not win. If you can’t afford to cash in for less than you started with, don’t even start.

And so we return to the fact that “almost everyone” has not lost anything. There are some true losers in the market crash. People who actually need the money, for retirement or for investment capital, for any use that people put actual cash to. People who had to cash out for less than they put in, are true losers. But even most of these people “lost” because they ignored the second lesson. If you can’t afford to lose, don’t play. The grand illusion of the go-go Nineties and Aughts has been that somehow investments couldn’t lose. People who got caught up in that illusion are paying the price.

It is the people who didn’t have a real choice about playing - when their company pension was invested in company stock, for instance - who deserve our sympathy. And there are some. And they are the real story. But that story is not told nearly as often as the scary headline about the billions being lost by people who haven’t lost anything yet.

The grand illusion has been exposed. But for most of the players, their billions are still right where they were. In casino chips. Time to remember lesson number one.

IT IS OUR MONEY!

In 2007, I paid about 22 of my income to the Federal Government and the State of Georgia in income taxes. On every dollar I spent doing my part in the consumer economy, there was another six or seven percent added for sales tax. I threw several thousand more dollars at the county where I lived in property taxes. Round figures - thirty percent of the money I earned in 2007 was handed over to various governments in taxes.

I’m not particularly upset at the idea that so much of my money was siphoned away. I would have pissed away most of it on other stuff I didn’t really need anyway, so I’m fine with the idea that I bought some decent neighborhood schools, police and fire protection, bridges that don’t collapse regularly, highways that have reduced the trip to visit loved ones to hours instead of days, and planes, tanks and missiles for our nation’s defense, to name a few things. Taxes are the price of citizenship, someone once said (or at least has now).

And I’m not particularly incensed about most of what the governments spend my money on. Some of the choices wouldn’t be mine, but they are largely arrived at through the democratic process and if I don’t like the choices, I need to elect better representatives. And on the whole, the money I give to governments seems to be used for good more than evil.

Therefore, I think the very least that the government can do in spending all of our tax money is to remember that IT IS OUR MONEY! The money wasn’t magically spun by Rumplestiltskin. It was taken from us, not ever entirely willingly, in order to do things that we cannot do individually. It does not, upon hitting the door of the US Treasury, become anything else - it is still our money.

And so this will be a common theme here at the Middle Ground. We can fight about the wisdom of how the government spends our money, but I think we can all agree that it is our money and we ought to require that government act like they know that. Condemnation is the only response to wasteful spending.

If enough of us condemn fiscal stupidity loudly enough, perhaps we can get the people who actually spend the money to remember that it is our money in the first place. THAT would be change I can believe in.