Sunday, March 31, 2013

The Great Recession, the Great Recovery and a Grand Illusion

Last week, in the Eurozone, the Cyprus financial crisis led to banks reopening with significant limits on withdrawals, and German finance minister Wolfgang Shäuble described the situation as a "one-off” solution.  In Italy, its Presidential election process remains in a state of gridlock. In the U.S.,  as the S&P 500 equity index rose above its previous high in October 2007, equity markets in several other economic regions have yet to experience similar recoveries.

Noteworthy commentary during last week included:
  • Ben Bernanke - Chairman US Federal Reserve, speaking in London: “Today most advanced industrial economies remain, to varying extents, in the grip of slow recoveries from the Great Recession.“ 
  • William C. Dudley - President New York Federal Reserve Bank, speaking at the Economic Club of New York: “The unemployment rate is modestly lower …. which is certainly welcome. However, other important indicators including the employment-to-population ratio and job-finding rates are essentially unchanged. This suggests that the labor market is far from healthy.”
  • Mortimer Zuckerman - Chairman and Editor in Chief of U.S. News & World Report, in his article ‘The Great Recession Has Been Followed by the Grand Illusion: “February's headline unemployment rate was portrayed as 7.7%, down from 7.9% in January… But if you account for the people who are excluded from that number—such as "discouraged workers" no longer looking for a job, involuntary part-time workers and others who are "marginally attached" to the labor force—then the real unemployment rate is somewhere between 14% and 15%.”

  • Regarding the Eurozone - As policy makers continue to apply “one off” solutions to issues within various member countries, there is little evidence that its citizens are committed to the vision of a united Eurozone. 
  • Regarding the S&P 500 recovery – it has benefited from aggressive stimulus efforts by the U.S. Federal Reserve and record corporate profits, driven by muted wage growth and limited employee hiring.
  • Regarding U.S. unemployment trends – while the reality of this topic continues to be avoided by the media and many policy makers, it is an economic and social challenge that will likely persist for years to come. 

Sunday, March 24, 2013

Cyprus and its Banks: Small Island, Big Problems

Some facts about the Republic of Cyprus:
  • Location - in the Mediterranean Sea; east of Greece and south of Turkey,
  • Population - about 1.1 million people,
  • Joined the European Union in 2004,
  • Gross Domestic Product - about $25 billion,
  • Economy - in a recession,
  • Unemployment Rate - around 15%.
  • Banking System - provides an offshore tax haven to many foreign businesses and is dominated by Russian players.

In recent years, its banking system expanded to several times the size of the Cyprus economy and some deposits were invested in Greece. When the Greek crisis occurred, several leading Cyprus banks became insolvent.

Last week, in order to obtain emergency funding from organizations such as the European Central Bank (ECB) and the International Monetary Fund (IMF), the government proposed a one-time tax on bank deposits, 6% on small (mostly domestic) accounts and 9% on larger (mostly foreign) accounts. This proposal was not well received by the citizens of Cyprus – they attempted to withdraw their bank deposits (to avoid a run on the banks they were closed but should reopen this Tuesday), several Russians traveled in their private jets to determine what was going on and global markets had a short-term negative move as well.

Potential offers of assistance included: 1) Archbishop Chrysostomos II promising the assets of his church to help save the economy and 2) selling off-shore gas rights to Russia’s Gazprom or Rosneftthey were not interested. As a Monday deadline approaches to avoid a banking collapse; hopes are high but convictions are mixed among many players for a short-term solution.

  • As Cyprus and its confusing mix of bailout options fill headlines around the world, it is likely that the relationship between Russia (a major bank depositor) and Germany (a major player in any bailout effort) add to the tensions in this troubling situation. 
  • Additionally, as the region's finance ministers engage in another round of “save the Eurozone” negotiations, Cyprus provides another example of how fragile and poorly managed the global banking system remains. 
  • At the same time, some investors are wondering if the U.S. economy is resilient enough to decouple from the Eurozone’s economic stress (Note: several Wall Street strategists have become more positive about the U.S. in recent weeks). It is likely that the U.S. will confront some headwinds and markets will remain volatile – expect more short-term positive and negative moves.

Sunday, March 17, 2013

A London Whale, A Dallas Banker and the Need for Change

Last week, a U.S. Senate committee investigating JP Morgan’s $6.2 billion loss by the “London Whale trader reported that the firm was involved in “trades so large in size that they roiled world credit markets” and that “risk evaluation models were manipulated” and “inadequate regulatory oversight was too easily dodged or stonewalled … and financial results were misrepresented” and the firm “made disclosures that raise significant concerns about the accuracy of the information it provided to investors and about omissions of key information.”
During Senate testimony on Friday, Ina Drew, who oversaw the JP Morgan unit at the time said, “I did not, and do not, believe I bore personal responsibility for the losses.” CEO Jamie Dimon was not present at the hearing.

Also last week, Federal Reserve Bank of Dallas President Richard Fisher reiterated his observations about “too big to fail” banks including:
  • a dozen megabanks today control almost 70% of the assets in the U.S. banking industry,
  • the megabanks can raise capital more cheaply than can smaller banks,
  • this is patently unfair. It makes for an uneven playing field, tilted to the advantage of Wall Street against Main Street, and it places the financial system and the economy in constant jeopardy. It also undermines citizens' faith in the rule of law and representative democracy,
  • the 2010 Dodd-Frank Act was a well-intentioned response to the problem. Its stated promise—to end "too big to fail"—rings hollow,
  • Congress should rewrite Dodd-Frank so that it actually ends the problem of banks that are too big to fail and
  • our proposal won't lead to bigger government. It will lead to smaller banks governed by the market discipline of creditors who are at real risk of losses, and by laws that apply equally to all.”
  • Regarding JP Morgan – while the Senate’s findings provided little new news, the London Whale trade is another incident in the expanding list of oversights, missteps and frauds at varied units at the megabanks in recent years. Given that the report cited potential violations of the Securities Act of 1933 and Friday’s testimony by several executives was evasive and defensive, perhaps more management changes and disciplinary actions are needed.
  • Regarding Fisher’s comments – while the leadership of the Federal Reserve, as well as other DC players, may not share his views, his message seems aligned with many on Main Street, where most U.S. citizens live. In Washington, change is slow; perhaps the momentum for change is increasing.

Sunday, March 10, 2013

Too Big to Fail, Too Big to Jail; But Breaking Up is Hard to Do

Last week, U.S. Attorney General Eric Holder’s update to the Senate Judiciary Committee included the following comment on 'Too Big to Jail banks: “I am concerned that the size of some of these institutions becomes so large that it does become difficult for us to prosecute them when we are hit with indications that if we do prosecute — if we do bring a criminal charge it will have a negative impact on the national economy, perhaps even the world economy. I think that is a function of the fact that some of these institutions have become too large.” (The concern about “the too big to jail” is most recently associated with the lack of criminal prosecution against HSBC for years of money laundering.)

Also, please note the following comments from an exchange between U.S. Senator Elizabeth Warren and Federal Reserve Chairman Ben Bernanke during a Senate Banking Committee meeting (February 28). Warren: "So when are we gonna get rid of 'too big to fail?”, Bernanke: "As somebody who's spent a lot of late nights dealing with these problems, I would very much like to have confidence we can close down a large institution without causing damage to the economy", Warren: "Big banks are getting a terrific break, and little banks are just getting smashed", Bernanke: "I agree with you 100%". Warren’s “terrific break” referred to a Bloomberg news article (February 20, 2013) that reported “too big to fail banks” receive $83 billion annually in special support from the Federal Reserve that is not available to most other banks.

  • Regarding Holder’s comment – while having a high-level White House player highlight the “too big to jail” issue is significant, it is less clear what follow-up actions will take place.
  • Regarding Warren’s concerns – her views on the need for change at the big banks are well known and she will remain focused on these issues in the coming years.
  • Regarding the $83 billion in big bank special treatment - it is ironic that debates about $85 billion of U.S. budget cuts received months of attention, while this special support for the largest banks is less well known and understood.
  • Regarding financial reform - the 2,300 page Dodd–Frank Act remains a muddled work in progress, but the Glass-Steagall Banking Act of 1933, which was only 30 pages long, led to broad reforms when it was enacted. The objective of Glass-Steagall was “to provide for the safer and more effective use of the assets of banks, to regulate interbank control, to prevent the undue diversion of funds into speculative operations, and for other purposes”.
  • Perhaps a Glass-Steagall version 2.0 could deal with “too big to fail/jail” problems and provide the added benefits of increased 1) competition in the financial sector, 2) job creation as new entities emerge and 3) demand for service providers as the market expands.

Saturday, March 9, 2013

Thoughts on "Living with Less. A Lot Less"; and a 420 Square Foot Studio Apartment

In the article "Living With Less. A Lot Less" (New York Times - March 9, 2013), Graham Hill discusses his lifestyle conversion from internet entrepreneur owning a 3,600 square foot home in Seattle (complete with “relevant" consumer accessories) to owner of a "sort of" minimalist 420 square foot studio in Manhattan. His story also highlights that “enormous consumption has global, environmental and social consequences” and cites a Natural Resources Defense Council report “that 40 percent of the food Americans buy finds its way into the trash.”

The design of Mr. Graham’s studio is impressive (see video below) and has led him to a new business endeavor - developing similar units for others.  The environmental and social points he makes have value but his lifestyle conversion has economic support that many people do not have. As a result, his message may be embraced by some and rejected by others in a fashion similar to Sheryl Sandberg’s Lean In” initiative.

Sunday, March 3, 2013

A Comedian, a Media Mogul, a Technocrat, U.S. Budget Cuts and a Jedi Mind Meld

Beppe Grillo
Last week, as Italy continued to face a deep recession, its citizens voted for a new Prime Minister. The outcome: Mario Monti, a technocrat who served as Prime Minister for the past 15 months and introduced significant economic reforms received a disappointing 10% of the vote; former Prime Minister Silvio Berlusconi, a billionaire media mogul, often associated with scandals – and promoting an anti-austerity agenda in this election, received 30%,; Beppe Grillo, a comedian, blogger and social activist received 25% and Pier Luigi Bersani, considered the favorite, had a slight lead over Berlusconi. This fragmented result sent many global market tumbling early in the week, but there was a quick recovery as well. (Note: Italy is the Eurozone’s third-largest economy, and its public debt is almost 130% of GDP, a level that is considered unsustainable).

Separately, on Friday, White House and U.S. Congressional leaders failed to make progress on avoiding an automatic $85 billion in budget cuts. While answering questions on this topic, President Obama said, "Even though most people agree that I'm being reasonable; that most people agree I'm presenting a fair deal; the fact is they [shouldn’t] take it to mean that I should somehow do a Jedi mind meld with these folks and convince them to do what's right." (The media and the Internet picked on his mixing of Star Wars’ Jedi Knights and Star Trek’s Vulcan Mind Meld terminology). House of Representatives Speaker John Boehner said, “The discussion about revenue, in my view, is over. It's about taking on the spending problem".

  • Regarding Italy’s mixed election results - the lack of consensus highlights the gap between the objectives of some policy makers and those of many voters. The anti-austerity support by voters may lead to anti-Eurozone sentiment and could trigger increased tension in the region.
  • Regarding the U.S. budget talks - while tedium is likely increasing among many of the players, the scale of the debt problem will persist.
  • Regarding the global markets - some investors believe the worst is behind us and markets will remain resilient. At the same time, given the extraordinary stimulus efforts by global central bankers, it is equally possible that we are in an “overly medicated environment” where decision-making may become less focused and the potential for mistakes may increase.