We saw an article (first published 18th November 2009) featured on MSN which got us thinking; the title is "How long can Social Security last?" Reading the article, the answer seems to be "not long at all." It's very interesting that this article was apparently dredged up from the archives and floated once again on MSN, unless it's just that popular.
The article perpetuates the myth of an SS trust fund, stating that the fund will go in the red "in a few years," and be empty by 2037. Oh darn, that sounds unfortunate. But what actually caught our attention was when the article talked about how to fill the 'short-coming' in the 'fund.' The list was as follows:
-Benefit cuts
-Tax increases
-Riskier investments
The first two options are obvious: more money coming in, less money going out, just like our wallet and bank account. The irony of cutting benefits is that inflation is constantly decreasing the value of the SS payouts, but that is beside the matter. We want to dissect the third option: investing the 'trust fund' in riskier ventures.
Given the present, heady atmosphere in the United States Government, we can think of a few exciting places wherein the SS Administration can dump the excess cash it has just sitting around at the office. Now, we have to point out here, that the SS 'trust fund' is actually just money which flows in and out of the U.S. Government's General Fund. In spite of all the accounting shenanigans, in reality the SS cheques are drawn from the general operating budget, as simply any other expenditure.
If the SS 'trust fund' is authorised to be 'invested' in riskier ventures, it will allow the U.S. Government to treat those monies as, effectively, another slush fund. Or, to put it another way, the SS 'trust fund' becomes the SS 'bank, automaker, and whatever-else-Congress-feels-necessary bailout fund.' This can, of course, be dressed up as a good thing: banks and automakers are 'turning the corner,' and will make massive profits to investors; mortgage-backed securities will recoup their value, and then some; credit cards will become profitable again; car loans will be great as the economy turns around; et cetera, et cetera. All these would seem, on paper, to help the SS 'trust fund' close its fiscal gap.
"Surely they won't do that!" you exclaim, dear Reader; "the Government wouldn't put the retirement of millions of Americans on the line to bail out banks and other corporate interests?"
Well, what can we say to that? Frankly, the U.S. Government seems to be constantly doing exactly the worst thing possible during this Depression. From bailing out banks and automakers, to planning on raising taxes via health care 'reform' and other such nefarious plots, we can't see any good moves having been made at all! So, if the SS 'trust fund' were to be allowed to invest in riskier sectors of the economy, where would that investment go but to the arenas which the Government has already been furiously bailing out for two years? We'd be overjoyed to hear other likelihoods, but such corruption as we lay out herein seems inevitable to us. That is, of course, contingent on the SS 'trust fund' being loosened in its restraints.
If the SS 'trust fund' is successfully retooled as a slush fund for banks and automakers, we fully expect to see all other Federal 'trust funds' to be similarly revised. Since all such 'funds' are facing budget shortfalls, brought on by whatever cause(s), such changes can be presented as both necessary, and intelligent. Perhaps even shrewd. Those manoeuvres will be, of course, none of the kind, but rather hopelessly wasteful and economically destructive.
Showing posts with label risk. Show all posts
Showing posts with label risk. Show all posts
Thursday, January 14, 2010
Saturday, November 14, 2009
The Big Bank Problem No One Talks About
Consumer credit in the USA is falling, falling, falling. Whatever numbers you pick, there's no massaging the data to make it look innocent. This all is well known, as is the concern that lack of consumer borrowing will be a drag on the consumer portion of the economy.
Something else about this situation seems to be slipping through the cracks of public awareness, however. Once upon a time, maybe twenty years ago, when lenders cared a lot more about credit quality, it was well known that subprime could never work as a profitable lending model. Too many companies had come and gone promising to be profitable lending to high-risk customers. Their seeming profitability was a trick of accounting legerdemain: a growing book makes loss ratios look lower than they actually are since ageing loans are more likely to sour than fresh ones.
In the huge, recent credit bubble when almost everyone (and sometimes their pets) were receiving credit offers, loan books were growing smartly and loss ratios were low. Now that credit is contracting, people who can pay back their loans tend to be doing so. And those who can't (but are not yet to the point of defaulting) are just trying to keep them rolling over. The net result is that the overall quality of bank's loan books is deteriorating rapidly.
Banks are becoming less solvent over time, not more so, in spite of their efforts to improve their condition. Banks efforts to reign in credit by jacking up interest rates and cutting credit lines will actually backfire because better borrowers will simply pay off their loans. Borrowers who accept the barrage of insults are in such poor condition financially they can only subject themselves to usury.
In conclusion, the end state of this process will likely be the Federal Government (having had to bail out the banks and then the FDIC over and over) holding consumer loan portfolios that have little to no value. Cost to taxpayer: something like two trillion dollars, and further debauchment of the Dollar. Banks will be kept in business to keep up appearances, and may even book a nominal profit.
Something else about this situation seems to be slipping through the cracks of public awareness, however. Once upon a time, maybe twenty years ago, when lenders cared a lot more about credit quality, it was well known that subprime could never work as a profitable lending model. Too many companies had come and gone promising to be profitable lending to high-risk customers. Their seeming profitability was a trick of accounting legerdemain: a growing book makes loss ratios look lower than they actually are since ageing loans are more likely to sour than fresh ones.
In the huge, recent credit bubble when almost everyone (and sometimes their pets) were receiving credit offers, loan books were growing smartly and loss ratios were low. Now that credit is contracting, people who can pay back their loans tend to be doing so. And those who can't (but are not yet to the point of defaulting) are just trying to keep them rolling over. The net result is that the overall quality of bank's loan books is deteriorating rapidly.
Banks are becoming less solvent over time, not more so, in spite of their efforts to improve their condition. Banks efforts to reign in credit by jacking up interest rates and cutting credit lines will actually backfire because better borrowers will simply pay off their loans. Borrowers who accept the barrage of insults are in such poor condition financially they can only subject themselves to usury.
In conclusion, the end state of this process will likely be the Federal Government (having had to bail out the banks and then the FDIC over and over) holding consumer loan portfolios that have little to no value. Cost to taxpayer: something like two trillion dollars, and further debauchment of the Dollar. Banks will be kept in business to keep up appearances, and may even book a nominal profit.
Sunday, November 30, 2008
The Risk Bubble
As one may have noticed, many of the strange financial instruments blowing up world-wide deal with risk. The sheer complexity of these instruments makes understanding them completely almost impossible, but a few generalisations can be made. Typically, these exotics disassociate the risk usually connected with a certain investment, packaging them into a 'security' and selling them off as an investment in their own right.
The how and why these instruments are blowing up is not particularly important, merely that the nuclear mushroom clouds are appearing across the world. It is our opinion that these exploding instruments are indicative of a major shift in the world's economy. Namely, a shift in how investment risk is managed.
For (a somewhat oversimplified) example, to ship cheap plastic crap from China, a manufacturing company will hire a freighter from a shipping company, since the manufacturing company does not own any shipping. The shipping company, at the same time, doesn't own the ships it rents out! It leases the ships from yet another company, which only owns commercial freighters and doesn't actually operate them.
This circuitous system is, at its simplest, merely a way the manufacturing company can avoid the risks associated with owning freighters. The risk of ship ownership is held by one company, the operating risk another. This particular intermediation is already breaking down: shipping companies are losing access to credit to finance their cargoes, and having difficulty making their lease payments to the actual owners of the ships proper. At the same time, the ship owners are having trouble making their financing payments...
It is our observation that one of the effects of the 2008 Depression is the collapsing of risk. This can be seen in the shipping example, as well as exotic investment vehicles. We posit a bubble of risk intermediation is popping. The symptoms of this bubble should become more apparent in the coming months, as the companies which depend on sloughing off their risk feel the squeeze; and in the coming years, as organisations who took on the risk of others cannot meet their obligations.
On the positive side, we feel there will be opportunity in the disintermediation of risk. Having intermediated risk is similar to credit leverage, and if one can avoid it at all costs, one likely has a higher chance of economic survival in the 2008 Depression.
In an extreme example, this is why holding one's money in one's mattress may be far better than leaving it on deposit in a bank. If a true bank run develops (i.e. every bank has its own run), cash and deposits will be rationed-by-queue. One only needs to look at Zimbabwe today to see how bad that sort of thing can get. People in Zimbabwe right now are queuing up at banks every day to withdraw the equivalent of 25 cents U.S., the maximum withdraw allowed by law. One shouldn't think it will never happen in the United States, or in other developed countries.
The how and why these instruments are blowing up is not particularly important, merely that the nuclear mushroom clouds are appearing across the world. It is our opinion that these exploding instruments are indicative of a major shift in the world's economy. Namely, a shift in how investment risk is managed.
For (a somewhat oversimplified) example, to ship cheap plastic crap from China, a manufacturing company will hire a freighter from a shipping company, since the manufacturing company does not own any shipping. The shipping company, at the same time, doesn't own the ships it rents out! It leases the ships from yet another company, which only owns commercial freighters and doesn't actually operate them.
This circuitous system is, at its simplest, merely a way the manufacturing company can avoid the risks associated with owning freighters. The risk of ship ownership is held by one company, the operating risk another. This particular intermediation is already breaking down: shipping companies are losing access to credit to finance their cargoes, and having difficulty making their lease payments to the actual owners of the ships proper. At the same time, the ship owners are having trouble making their financing payments...
It is our observation that one of the effects of the 2008 Depression is the collapsing of risk. This can be seen in the shipping example, as well as exotic investment vehicles. We posit a bubble of risk intermediation is popping. The symptoms of this bubble should become more apparent in the coming months, as the companies which depend on sloughing off their risk feel the squeeze; and in the coming years, as organisations who took on the risk of others cannot meet their obligations.
On the positive side, we feel there will be opportunity in the disintermediation of risk. Having intermediated risk is similar to credit leverage, and if one can avoid it at all costs, one likely has a higher chance of economic survival in the 2008 Depression.
In an extreme example, this is why holding one's money in one's mattress may be far better than leaving it on deposit in a bank. If a true bank run develops (i.e. every bank has its own run), cash and deposits will be rationed-by-queue. One only needs to look at Zimbabwe today to see how bad that sort of thing can get. People in Zimbabwe right now are queuing up at banks every day to withdraw the equivalent of 25 cents U.S., the maximum withdraw allowed by law. One shouldn't think it will never happen in the United States, or in other developed countries.
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