On Big Ben getting bigger

A deal has been reached between the Treasury and Democrat Barney Frank on how to go about regulating banks. Reading up on some of the planned regulations, they don’t sound/look good:

A proposal circulated Tuesday by House Financial Services Committee Chairman Barney Frank (D., Mass.) would give the government multiple tools to crack down on companies that could pose a threat to the broader economy, part of an effort by the administration to prevent financial firms from becoming too big to fail.

I mean, sure this isn’t something really new. We’ve already heard and been made aware of the upcoming regulations.  But here, emphasis mine:

The proposal would require financial firms with more than $10 billion of assets to pay for the unwinding of a collapsed competitor. The measure would also give the Federal Reserve the power to direct any large financial holding company to sell or transfer assets or stop certain activities if the central bank determined there could be a “threat to the safety and soundness of such company or to the financial stability of the United States.” This suggests the Fed would win new authority to order companies to shrink.

A few thoughts.

I can see the intention of why the highlighted part is being done.  Banks would have to look out after one another to ensure they don’t end up funding the collapse of another.  That sounds good, but how could that possibly be done? Apart from that, this is only feasible if it’s some sort of mild calamity that only 1 bank is at stake.  If we get a repeat of or anything close to what happened the past year, I don’t see how it is sensible to make the “big” banks catch the others when they fall.

Then, the Fed’s bigger role.  The central bank has already been blamed for missing the crisis.  To think they’re only handling monetary policies of the US.  Given a bigger responsibility, we’re not really becoming more efficient by giving the task to an existing and probably ineffective regulator.  What they’re doing is simply building another reason for people to blame the central bank if and when the system faces a collapse yet again. By then, the Fed would no longer just be overseeing monetary policies; they’d also be looking after banks and any failure that causes systemic panic would have the fingers pointed at them. I trust Ben and his gang to fix the current system the right way.  But not so much that they would be effective in preventing another one from happening.  They may have stopped the demise of the global economy but that doesn’t give them authority and expertise in deterring what is rather a cycle.

Source: WSJ

Russia hopes to emulate China

Here’s an interesting story from the NYT:

Nearly two decades after the collapse of the Communist Party, Russia’s rulers have hit upon a model for future success: the Communist Party.

Or at least, the one that reigns next door.

Like an envious underachiever, Vladimir V. Putin’s party, United Russia, is increasingly examining how it can emulate the Chinese Communist Party, especially its skill in shepherding China through the financial crisis relatively unbowed.

United Russia’s leaders even convened a special meeting this month with senior Chinese Communist Party officials to hear firsthand how they wield power.

In truth, the Russians express no desire to return to Communism as a far-reaching Marxist-Leninist ideology, whether the Soviet version or the much attenuated one in Beijing. What they admire, it seems, is the Chinese ability to use a one-party system to keep tight control over the country while still driving significant economic growth.

What China has that Russia doesn’t that is helping the former with its strong economic growth are two interrelated things: first is a strong export market and two, cheap labor that is the backbone of that successful export market.  As also mentioned in the article, Russia is a country highly dependent on oil.  Sure at times when oil prices are skyrocketing as it was back in the summer of 07, the Russians (or a few of them) take windfalls profits from the commodity like Alaska gets snow in a year.  But when prices slump like they did after the summer of 07, it spells danger for Russia’s economy.  So apart from the two success factors for China that Russia doesn’t possess, the former Soviet state also needs to have a diversified export market.  Even if China faced a slump in demand in this crisis from its highly export-driven economy, they don’t face the volatility Russia does with its commodities export.

Source: NYT

Are the Chinese losing from their dollar holdings, the dollar weakness?

Found two articles addressing the matter, one from the WSJ’s Deal Journal and the other from NYT, courtesy of Floyd Norris.

Let’s begin with the Journal. So the dollar has been plunging against major currencies for the past few months, after it has strengthened against the same group in February when the crisis was still far from where we are at the moment. That’s point 1. Point 2 is, the Chinese hold around 70% of their reserves in dollars.  In that case, worries have been going around that the Chinese are losing/about to lose a big part of their reserves from this greenback devaluation.  Sure, the reserves have grown to $2.27 trillion but if the dollar continues to decline in value, aren’t the Chinese in a whole lot of trouble?

Some did a back-of-the-envelope calculation that “China is losing four aircraft carriers” every percentage point appreciation against the dollar, according to an article from Sohu.com, a major Chinese news portal.

Others went further to speculate, “it is an intentional espionage to weaken Chinese buying power,” says an independent scholar Wu Fei in his Sina.com blog. The post continued, “Over the years, the US has been exchanging its dollars for Chinese goods.” As a result, Americans now have all the goods and Chinese have all the greenbacks, Wu said. As the dollar weakens, the dollar value that China has made throughout all the years shrunk.

Some bloggers raised the idea of just moving China’s investments in the safer (and in some cases, more volatile) asset classes. Gold, oil, other kinds of commodities. But from Norris’ article from the Times, he seems to be saying, you know what, there’s not much the Chinese should be worried about.

There is renewed talk about the weak dollar. But don’t believe it.

Where it really counts, the dollar is not moving at all.

In February, the dollar hit a high against most currencies amid fears of worldwide recession and a desire for the safety of American investments. It was then worth 80 euro cents, and 6.82 Chinese renminbi.

This week, as the dollar neared 67 euro cents, it was still worth 6.82 renminbi.

…

The reason for this is simple, and obvious. China pegs its currency to the United States dollar.

With the peg, then China’s dollars shouldn’t really be causing Wen Jiabao and the gang to get sleepless nights, should it? If the yuan’s pegged to the greenback, then however the dollar loses value, it shouldn’t matter much, should it? Whatever the dollars are worth now would still be worth the same 1, 3, 5 years from now, if the peg persists. Then again, Norris points out what is perhaps the bigger issue here:

But while China pursues its peg, the world’s largest exporter will keep exporting and taking in cash rather than imports. The values of the major international currencies will fluctuate against each other, but the inherently stabilizing impact of changing currency values will be limited.

One lesson of the credit boom in the United States was that things that are unsustainable will eventually stop, perhaps abruptly and in highly disruptive ways. The same may yet be said of China’s peg.

Then I go back to my previous post. China’s reckoning moment, anyone?

Sources: Deal Journal, NYT, aquities

More Lehman necessary?

The Financial Times put together 3 experts to speak about lessons to be learned from this crisis.  The three that were chosen include Jim Rogers, Meredith Whitney and Rodgin Cohen, Chairman of Sullivan & Cromwell.  Among them, what stood out for me was Roger’s view (emphasis mine):

We need some more Lehmans so we can get out of this. Over the past 20 years Messrs Greenspan and Bernanke introduced crony capitalism to the West which is leading to a lost decade[s]. Market fundamentals are that failures should collapse and be replaced by creative new forces rather than being propped up as zombies. Financial institutions have been failing for centuries and the world has survived. Had the central bank allowed the failure of Long Term Capital Management to run its course, Lehman, Bear Stearns, et al would still be here. Everyone would have lost so much capital and fired so many incompetents that the madness of serial bubbles (dotcoms, housing, consumption etc) would never have occurred. Consider the alternative had they propped up the bankrupt Lehman. There would be even more of the same insanity in our central banks and governments than we have now. The idea that a problem of too much debt and too much consumption can be solved by more gigantic debt and consumption is ludicrous.Would that governments stop interfering with fundamental principles and let the market clean out mistakes! Marx is singing in his grave there in London as the US government now controls the auto, mortgage, insurance, banking, et al industries and he has not fired a shot. Letting Lehman fail was perhaps the only thing governments have done right during this whole drama.

I am one with Jim in thinking Lehman was necessary.  And true enough, more big bank failures might have been needed.  With only Lehman to remember, governments have already ironically forgotten about strong financial reforms, failing to capitalize on the faulty system and shady practices that prevailed on Wall Street.  Maybe the damage that was done wasn’t enough.  The interesting thing about life is, we never find out what would have happened had we had more bank failures.  For all we know, even the failure of Bank of America, Goldman Sachs, Morgan Stanley, and JP Morgan wouldn’t have changed anything. It still would’ve been same ol’, same ol’.

Source: FT

Chelsea rule for bankers. Say what now?

For those who don’t know, Chelsea Football Club of London has just been banned by international football organization FIFA from recruiting any new talents until January of 2011 for allegedly pushing a young French footballer to breach his contract with his former club, Lens, to be able to move to the English club.

A Telegraph assistant editor has an interesting take on its relation to bonuses in the City, basing it on comments given by a City veteran Sir David Arculus.

At a “Business for New Europe” conference this morning in London , Sir David suggested that much the same sanctions be applied against banks. In indecent disregard for the crisis in the world economy they have just caused, City investment banks are again actively bidding up already obscenely large pay rates by seeking to poach top teams and traders from one another.

Sir David has intimate knowledge of how this process works, as he was once a non executive director of Barclays. In banking as in football, top pay tends to be determined using comparitor yardsticks. If your main competitor is paying so much, you have to pay the same or more to retain your top people.

One of the reasons why historically banks have tended not to try and take one another over is that they are frightened of what skeletons in the cuboard they will find if they do. Experience during the banking crisis has only served to validate this line of thinking. Attracted by apparently bargain basement prices, Bank of America acquired Merrill Lynch and Lloyds TSB took over Halifax Bank of Scotland. In both cases, it was only a matter of weeks before realised they had bought pigs in a poke.

So rather than buy the bank, City firms buy the people, in the manner of the football transfer market. As a consequence, salaries go up and up in an apparently unstoppable process of bonus inflation. Nobody has yet worked out an effective way of stopping this socially unacceptable process, but Sir David’s idea – that banks caught inducing teams to ditch existing employers by offering guaranteed bonuses be banned for periods of time from further engagement in the recruitment market is not a bad one, even though he may not have meant it entirely seriously.

I don’t quite follow.  Bankers are hired without a certain term limit, as most footballers are for one summer, for a year, or for five years. While one can easily understand how Kakuta’s move is a breach of contract and Chelsea’s inappropriate, it eludes me how changing employers is in any way a breach of contract.  At best, it’s a sign of disloyalty. Then there’s the banning from recruitment. What kind of lunacy is that? And the issue on bonuses:  Yes, top bankers are attracted through high pays, so are footballers. So what? That’s simply how the system goes. You don’t really mind those who can afford from buying high-class luxury items only to replace them later on with something better, something more expensive, do you? (And yes, those bankers are in one form or another a luxury.)

Source: Telegraph

Same ol’, same ol’: A year after Lehman

In a few days, we’ll celebrate the 1st death anniversary of Lehman Brothers – the investment bank whose collapse triggered the worst financial crisis since after the second World War.  Money has been lost following enormous drops in the stock market, but money has also been made from the massive infusion of capital into the system.  More than 90 small banks have collapsed and the big ones are still standing.  Ponzi schemes have been unfolded and some markets are still behind change for transparency.  Bankers have been criticized, bonuses have been capped.  While many things have happened, we cannot say we are seeing a fresh and new financial system.  It is hard to contest the fact that we’re still seeing the same ol’ Wall Street that existed prior to September 14, 2008.

On the regulatory front, Democrats’ efforts to rework the rules for finance have bogged down amid infighting between federal regulators, fury among bankers and opposition from many lawmakers who believe that further expanding the government’s reach will only create new problems. The all-consuming debate over health care has damped enthusiasm for tackling such complex legislation.

Meanwhile, major U.S. banks have regained their footing, and some of their swagger. Profits are off their lows. Large compensation packages are back. And so is risky business.

From the market lows and the damages we’ve seen, we hoped for a recovery.  And recovery we got.  But in hindsight, has recovery actually helped? Maybe consumers are a little more confident, manufacturing is a little higher, and bank profits have reached stellar levels yet tracing the problems of the past, those which have contributed to the worsening conditions of the global economy.  Also maybe, recovery has brought out the forgetfulness among people.  More than being concerned about the possibility of another bubble forming or another collapse from happening, more are looking into the correction, which investors believe will come in no time.  Sure, the markets have climbed up so much so fast almost everywhere that those who were lucky enough to get in during the worst of times have seen their portfolios erase the losses they’ve made when the crisis struck or some may have made money when they decided March 9 was an ideal day to begin investing or make better use of money on the sidelines.  But people are quick to forget about the toxic assets, the regulatory loopholes, and the excessive risk-taking.  As that WSJ piece pointed out, risky business is back.

Your debit cards can cost you more

The rise of debit cards and what makes it controversial

More than what you’ve probably spent.

The NYT has an astounding article today about the costs of overspending and how banks profit from them.  Through overdraft fees, the amount charged to a person who spends beyond the amount left in his debit card, many banks have been earning more from them than through regular profits or the penalty fees charged from late credit card or utilities payment.  There were a few things that I found stunning. But here’s a brief example:

[Peter Means] was stunned when his bank charged him seven $34 fees to cover seven purchases when there was not enough cash in his account, notifying him only afterward. He paid $4.14 for a coffee at Starbucks — and a $34 fee. He got the $6.50 student discount at the movie theater — but no discount on the $34 fee. He paid $6.76 at Lowe’s for screws — and yet another $34 fee. All told, he owed $238 in extra charges for just a day’s worth of activity.

And here’s how the overdraft fee works for the banks (and apparently not for the consumers):

Bankers say they are merely charging a fee for a convenience that protects consumers from embarrassment, like having a debit card rejected on a dinner date. Ultimately, they add, consumers have responsibility for their own finances.

Sweet talk: On Kraft’s bid for Cadbury

NYT has this article up today on Kraft’s CEO and her successful track record in the past.  That comes amid the story of Kraft’s rejected bid for chocolate-maker Cadbury.  Knowing more about Irene Rosenfeld surely doesn’t significantly improve chances of a successful bid, but it does make others hopeful that eventually this will go through.

The coming battle will certainly test Ms. Rosenfeld’s leadership of the company she took over in 2006, vowing to revive sluggish sales of its brands, which include Oreo cookies, Oscar Mayer lunch meats and Velveeta cheese.

…

Ms. Rosenfeld, who declined to be interviewed for this article, began working for Kraft in the early 1980s. She soon became a marketing manager with responsibility for Kool Aid and helped increase sales, in part by changing television ads aimed at children that featured a rock and roll soundtrack. She had similar success with Jell-O and was later made head of Kraft’s Canadian and then North American divisions.

But she left the company abruptly in 2003. In 2004 she was hired to be chief executive of PepsiCo’s Frito-Lay division. But two years later she returned to Kraft, this time as chief executive. She was named chairman in 2007 and now holds both posts.

Source: NYT

With a rejected bid, others are expecting two alternatives to this M&A activity: either Kraft will pay more, above the 34% premium that was to be given for Cadbury shareholders or other confectionary makers would enter the bidding war.  Names suggested are Hershey and Nestle.  Two pieces from the Wall Street Journal’s Deal Journal blog weighed in on the issue.  The first argued that Rosenfeld shouldn’t pay more than what she offered but the author also believed this is just what might happen.  That said, another Journal blogger believes Hershey just isn’t likely to happen. For several reasons.

Do you want the aggravation of a prolonged fight over Cadbury? Do you want to be known as a CEO who couldn’t get the deal done?

And for what? To save Kraft shareholders an extra one or two billion dollars – monies that will be forgotten by the time the deal actually closes?

It’s hard to resist this thinking. It’s exactly why CEOs overpay all the time. But that doesn’t make it right.

So, Ms. Rosenfeld, consider this. You are the best buyer for Cadbury. You’ve offered Cadbury investors a big 34% premium. You’re paying a 13x EBITDA multiple which is in line with the comparable acquisitions of Pilsbury, Nabisco and Ralston Purina earlier this decade. Plus you’ll be adding jobs to the UK.

Why pay more?

Link to the post here.

The thing is, without higher premium to the bid, the Kraft-Cadbury transaction might just stall for as long as the Microsoft-Yahoo deal did.  Without it, I don’t see Cadbury’s CEO giving in.  And I’m not sure how Kraft walking away, which in itself is probably a remote possibility, would threaten the chocolate maker.  So I think I agree with the author above.  I believe Kraft will overpay.  But if anything, it shouldn’t be at a much higher price.  However, given the additional product line from Cadbury, Rosenfeld might just succumb to pressure.

Now, on why Hershey won’t be the winner, let alone a bidder:

The biggest obstacle is that the Hershey family trust, which controls 80% of the voting stake in the Pennsylvania chocolatier, isn’t likely to agree to any deal for Cadbury that would significantly dilute its stake.

To avoid the dilution issue, Hershey would likely have to offer more cash than stock. But where is Hershey going to find that cash? The company, which has a market value of $8.8 billion, would likely have to take on loads of debt to come up with enough cash to top Kraft’s offer. Kraft has a $39.2 billion market value.

Plus, combining two big chocolate-makers doesn’t quite make sense.  Usually, the point of acquiring another company is diversification but the combination of Hershey/Nestle and Cadbury just doesn’t fulfill that.  Moreover, it might attract regulatory/some sort of antitrust attack.

Go to the Hershey blog post here.

Need the rich be taxed?

I might have just become an economic liberal.

The discussion on taxing the rich is being brought to life (not that it died, really) by a piece from the Wall Street Journal.  With the astounding deficits the US is facing ($9 trillion in the next 10 years), cutting public spending alone might just not do it for the Obama administration. Unless they are okay in keeping a huge number for a very long, long time.  The other option is no other than increasing taxes. And who better be taxed more than those who have more to give.  This is almost inevitable.  I’m somehow becoming more flexible with my beliefs to accommodate the idea of increasing taxation as the only means to narrow the US’ deficit.

The primary argument against higher taxes on the wealthy is that businesses will flee.  But I ask to where? And perhaps a less explored idea is that of the wealthy seeking tax havens where they will be able to keep more of the money.  However, now that these havens are facing a clamp down, and even secretive banks now being targeted, the rich just have fewer places to hide their riches in.  With that said, I think it would be unfair to advocate higher taxes only for the wealthy.  The middle-class would also have to give their share if they want to escape the $9 trillion deficit sooner.  The only thing is, higher taxation cannot and should not come soon lest recovery is overruled.

Let’s put the $9 trillion deficit into perspective and how taxation just on the wealthy isn’t ideal:

Start with some rough arithmetic. The three million or so fortunate taxpayers whom Mr. Obama counts as rich are projected to earn about $27.5 trillion from 2010 through 2019, according to the Tax Policy Center, a Washington think tank, and about $23.9 trillion after deductions. They are projected to pay $7.4 trillion in taxes. That’s 31.1% of every dollar of taxable income, on average.

To squeeze an additional $9 trillion out of these taxpayers would require boosting that to 68.9%. And that assumes these taxpayers wouldn’t find tax shelters to hide their income or work less. There isn’t enough money in the over-$250,000 crowd to stick them with the $9 trillion tab.

Here’s how higher taxes would benefit the US:

If I were to be dubbed a liberal, it’s only out of necessity.  I understand the enormous need for public spending and cutting it isn’t probably the best idea at the moment when consumers cannot be relied upon to spend even with tax cuts in place.

Source: WSJ

G20 can lead the way

Writing for today’s Financial Times, Australia’s Prime Minister Kevin Rudd and South Korea’s President Lee Myung-bak believe the G20 countries can lead the way in the shift from the recession to recovery.  After the unprecedented level of response to the global crisis, the two leaders laid out some challenges that G20 nations still have to face as well as plans as to how the biggest 20 can go about with their plans to see a successful emergence from the crisis.

The three major challenges they believe include following through on their existing commitments, manage the transition from crisis to recovery, and finally, the transition to a more balanced growth.  That said, there are similarly three strategies that the countries can follow:

Developing a flexible framework for co-ordinated macroeconomic policy will be a central challenge for the G20. The Pittsburgh summit later this month is an opportunity for G20 leaders to launch a process to guide the global transition. At Pittsburgh, G20 leaders should agree to a three-stage process. First, national governments should develop their own national strategies for recovery. Second, they should agree to deliver these strategies to the International Monetary Fund before the end of the year and ask the IMF to report back on their consistency with balanced and sustained global growth. Third, G20 leaders should meet again in 2010 (when South Korea is the chair of the G20) to agree their responsibilities and actions to achieve this goal within the framework of post-crisis global economic management.

Read the entire piece here.

The BDI/Hang Seng correlation

A post from Pragmatic Capitalist mentioned what was once a strong correlation between the Baltic Dry Index, an indicator for global shipping and the Chinese market, in this case, the Hang Seng is used.  Recent observations convey a divergence between the two leading to the question, which one is it gonna be? Will shipping, via the Index, be increasing or is the Hang Seng, the index for the Hong Kong market, positioning for a drop?

Look at the following chart and see how both measures moved in sync for most of the time until sometime in June when the divergence seems to have begun.

I’m looking at the possibility of both moving in the opposite direction again – the Hang Seng coming down and the Baltic Dry Index moving back up before the two begin their positive correlation once again.  My rational: the drop in BDI is without a doubt the result of inventory reductions in companies that have been strongly hit by the weakened demand all over the world.  But that doesn’t mean the Hang Seng needed to take the same direction.  Markets were down significantly because of the crisis; the index is still just about halfway through the peak in November of 2007.  While this rally continues till now, it is bound to correct sooner or later and that’s when the HSI will begin to move the opposite direction as the BDI.

Meanwhile, I’d like to think of the drop in the Baltic Dry Index as a result of reduced effects of stimulus in many countries – the rise preceding it similarly caused by the massive infusion of money in the global economy.  But as the effect of the stimulus wanes, inventories begin to reach the more appropriate levels, and demand begin to pick up again a few months from now (although not significantly), the BDI should go up just the same.

By the time we reach the point where economies begin to stabilize again and the temporary bear market rallies are gone, I believe it is not unreasonable to expect the two to move in the same direction again.

Saving Ben

The Chairman of Morgan Stanley Asia chose to be the (visible) lone wolf in saying that Ben Bernanke should not have been nominated for a second term, citing Obama’s move as “a very short-sighted decision”. His arguments against Ben were laid out in a Financial Times op-ed which came to my inbox as a breaking news.

1. He was deeply wedded to the philosophical conviction that central banks should be agnostic when it comes to asset bubbles.
2. He was the intellectual champion of the “global saving glut” defence that exonerated the US from its bubble-prone tendencies and pinned the blame on surplus savers in Asia.
3. He is cut from the same market libertarian cloth that got the Fed into this mess.

There were other things in the op-ed which I found contentious.

It is as if a doctor guilty of malpractice is being given credit for inventing a miracle cure. Maybe the patient needs a new doctor.

Malpractice covers mistakes committed by doctors, but if they invested a miracle cure for some illness, I don’t see why he/she would be replaced by someone who doesn’t have the cure.

No one knows for certain as to whether the Fed’s strategy will ultimately be successful… But the sustainability of any post-bubble recovery is always dubious.

I don’t know how that makes reappointing someone else a path to ensuring that strategies will be successful and post-bubble recoveries any less dubious.  Fact is, there’s uncertainty, whether or not we have Bernanke sitting on the post.

Roach closes the piece by saying that “as a student of the Great Depression, he should have known better.”

Yes, he reacted strongly after the fact in taking actions to avoid the pitfalls highlighted by his own research. But he lacked the foresight and courage to resist the most reckless tendencies of the era of excess.

Bernanke’s reappointment is not so much an act of rewarding him for averting another Depression-like crisis, but more so because he has proven himself to be a creative policymaker.  Almost none of the policies in place now were implemented during the GD era, but Bernanke surely stepped up and attacked the problems with new and radical solutions.  We are aiming for continuity of policies that have so far stabilized the economy, domestic and international.  We’re not assured of successful Fed policies but neither are we with putting someone else on the position – even someone who has seen the crisis coming, such as Nouriel Roubini.  But even HE backs the reappointment of Bernanke.