Friday, March 27, 2009

Baseline

I was reading and commenting on a blog the other day. It is a good blog, make that a great blog, called baselinescenario.com. However, it is chocked full of people who are discussing things that are far from baseline. It does exemplify the problem that we have with our leaders today.

I have my background in system design and troubleshooting. When working on computers we have a “baseline” to determine the level at which the system is still working. It is called the “minimum system configuration.” This requires a motherboard, a power supply, and a graphics generator (graphics card and monitor). This is the bare minimal a computer needs to be functional. Problem resolution can come only after problem identification. It does no good to make up solutions without understanding what the source of the malfunction is. This would be like prescribing aspirin for a brain tumor.

This methodless madness, however, seems to be the approach of the leaders and learned alike. Nobody seems to have stopped to figure out what the cause (or causes in this case) of the problem is. No one has sat down and deconstructed the economy down to it “minimum system configuration”. While I have no real voice, I will for any who care to read.

It is easy to imagine the most basic society, because it exist today still. Bobbing little cultures on the open seas. Imagine if you will me, my wife, my dog, and a 30’ sailboat. We make up a perfect example of everything a society and an economy needs to remain stable. In order to survive, we need only to fish and sail. There is no cash, loans, or stock markets. It is purely democratic, with me and my wife each with an equal vote and the dog breaks all ties. Your work everyday is to catch or find food and water. It is a 7 day a week job. If you don’t do it, your economy falls quickly into recession and then depression. If we make bad decisions about how many offspring to have, it will sink us all. Adding another crew member means adding more to the work load. Later on it will mean one more to man the helm and fish. We are also responsible for financing and engineering the floating nation’s defenses. (let me tell you 30’ living aboard it is best to have a more diplomatic posture when possible.) This is it, the starting point of a functional economy. It is a little hard to apply this directly to our situation, so we might have to take this one step further.

So me the wife and the kid finds some land that we really like and we decide to become more permanently grounded. For examples sake imagine that it is us and one other family on the other side of the island. We build our hut out of local forage, identify local edible vegetation, weave some nets, and prep the land to try and tame some of the local grains. Us and the other family are technically a nation, we were not society, and definitely not a culture. We exchanged pleasantries but we give nor receive anything from them nor they from us.


Then one day the do something that interest of the other family. I had about 2 pounds of brewing yeast and the island had a great population of honey bees. 2 months later I had 3 cases of fine mead. Well it was fine to the lips that hadn’t had any in months. I couldn’t help but to share one with my male counterpart from the other family. He expressed interest in owning a few of these beauties. I expressed interest in a clear 5 gal. water bottle that bottle that he seemed to have a few extra of. A trade was made, and our first economic exchange was completed. This is economics at its basic form.

The settlers didn’t have home mortgages, health insurance, and auto loans. A family existed on its current assets. What the crops yielded is what they had to work with. A 40 hr work week would have been a blessing. There were no electric bills. Generally what the big wigs in Washington did was of less impact then what the weather was going to be like the next day. Bad weather in the short term as well as the long term was more damming to their income then the tax rate. Work was created by need. Farmers traded crops and livestock for that which they didn’t have. Houses were built by hand and often with help of surrounding community members. Doctors, blacksmiths and saloons were often paid in chickens or grain sacks.

For those of us who say “we were responsible” are not acknowledging the fact that outside of this basic model of economics, we are exposed to economic risk. What happened to the farmer? The factory moved into his city. They employed people that drove up the price and expectations of the local venders. Towns became cites. Farmers sons no longer know how to plant and harvest a field, slaughter live stock, or build a house. We no longer use the resources at hand to make our daily lives. We no longer trade with our neighbors for things that we both need. Children are no longer assets that grow to help us maintain our livelihood. They are liabilities that we leave at home or dump in schools while we go off and earn our living. They grow more distant from the basic understanding of economics. We have children without any assured way to keep them housed, fed, and clothed.
Our Leaders need to stop concerning themselves with “leverage”, “secured mortgages”, stocks, the ability to loan, or “retention bonuses”. They need to concentrate on how they can help us grow our own food, build our own houses, and trade with our own neighbors. They need to stop encouraging people who can’t afford it to have more offspring. Most importantly, they need to accept and explain that there are consequences to bad decisions including death. They need to tell the American people that just because your parents and grand parents did it, doesn’t mean that living a life that isn’t grounded in this self sufficient economic model is risky behavior. Then they must accept those lessons themselves.

This is one of those post that as I am finishing, I don’t know if I conveyed the idea that I was trying to. We all don’t have to live like the Amish. But we do have to live off resources that we already have earned. We need to be more aware of the impact of our actions. And we have to be prepared to sacrifice some seasons. Because no matter how complex the economic system is, we all live off the minimum system model. If you grow it and pick it from the ground you have added wealth to our economy. Whatever other activity you do to earn money is not stable and is just circulating existing wealth.

Here is a decent PDF file that goes through the history of money in the US . http://www.bos.frb.org/education/pubs/historyo.pdf as late as 1776 they were still having trouble establishing currency. People were not using their credit cards to survive. That is what made this country strong in more ways then one.

Thursday, March 19, 2009

AIG Bonuses To The Best Of My Understanding

Well one of my regular readers, of the 4, asked my take on AIG and this current debacle. I want to start by saying that this is not a “news” blog in the sense that I rarely cover “breaking” or current news. The point of this exercise is to diagnose what happened and try to avoid repeating history. You are more apt to hear predictions about the future then you are to hear about something that just began to be news worthy today or yesterday. I have a fear of commenting on something that I don’t have enough facts about that I can’t make an informed assessment. This AIG Company is wrapped in so many layers of bullshit that I am having a hard time figuring out how holds what part of the blame. But I will share my perspective thus far. Maybe somebody else can fill in blanks or misassumptions that I have.

Now I had written some gobblely goop about who AIG is an their role in this mess. I had planned to start this post with it. But it took too long to get to the question most people are interested in. So I will get right to the sweet stuff and I will put the other text at the end for anybody interested in my take on their role.

As for the question I suppose is on everybody’s mind. (No, not how long after Hanna Montana turns 18 will we see nudey pics of her. Sickos, the other question.) What does LOL think of compensation in the millions for people who had to take billions in taxpayer dollars. The answer is that I don’t have enough information. But I do have a running opinion. They are preposterous and exemplify the definition of irrational greed. However, outside the moral bankrupt issues, the question is “are they legal?” We are a “nation of laws”.

From what I have come to understand is that these “bonuses” were paid out in respects to contracts. The word “bonuses” is misleading in this context. We all think of getting bonuses when we do something good and profitable for our employer. Christmas bonuses are usually based on the company’s profitability that year. But bonuses in this case really should have been called “retention”. I have heard them referred to as “retention bonuses”. Most of us think of the word retention when we think of lawyers. A company keeps a law firm “on retention”. That means they pay them, or in this case promise to pay them, a certain amount to sort our any legal issues that come up over a period of time. It doesn’t matter how many legal issues, they are to work on whatever comes up for that one set price. Now imagine you are in some legal dispute that is very complex. Maybe it is some kind of real-estate deal. They can get messy and a lot of research, some documented other just general findings, goes into these cases. You wouldn’t want your lawyer to just quit in the middle of it, forcing you to find another lawyer that has to go into it cold. It is my understanding that that is what these “bonuses” were contractually bound for. There are people who knew the inner workings of this very complex system of insurance law that were human assets to AIG.

One more quick analogy, cause that is what I do. Say you are in the middle of an operation. Your doctor has your heart out on the table. You are awake being kept alive by a machine. Would you turn to your doctor and say, “you know what, I can’t afford to pay you anymore. I am going to look for another doctor.” That is the situation AIG is claiming they were in. Now one of the representative in the grilling of the AIG CEO said, “couldn’t you go and find somebody else to do these jobs?” While it is true that there are many doctors that could have performed your open heart surgery, at that point, only one could do the trick. You had him on “retention” until that job was done.

Now that is what I understand that AIG is trying to claim. What I don’t understand is how our legislators didn’t have somebody look over their books and say, “hey who is this guy you have a couple of million dollar obligation to?” The fact that this is hitting them out of the blue scares the crap out of me.

One other point about the guy who receive $2 million form AIG for his services. Mabe he is “living beyond his means”. He has a 10 million house, another million dollar house in the Caymans, a wife with a giant coke habit, 20 cars all with loans, and health insurance to pay out of his own pocket. To him taking that $2 million hit was going to be devastating. He was promised it in the contract. I personally don’t believe AIG should have been allowed to promise one guy that amount of compensation at the same time they paid their janitor $10 an hour. But I have covered that in previous post.

As far as the Congress goes, they passed a law that was not only unconstitutional but dangerous I fear. I haven’t seen the details. But what if they tax 90% of the bonuses. What if a guy that works for AIG lived on a yearly bonus from them of $100,000. Is he now going to only bring home 10 grand? While I still believe we have made the best choice this past electoral season. I am not sure they have the intellect to see us out of our self made mess.


This is where the rest of the post begins. Read if you would like.

Now, who is AIG? As I understand it, AIG’s role in the housing debacle was “eyeballs deep in muddy water”. They made it much more appealing for Fannie Mea and Freddie Mac to take on the irrational home loan exposure. AIG is, as we all know, an insurance agency. Anybody who has read any of my post related to insurance knows that I think it all (health, auto, home, and the likewise) should be illegal in a free market system. Only life (which has a guarantee payoff) and maybe on the blackjack table should be allowed. It allows for the artificial rise in prices. Fannie and Freddie expected an “X” percent default rate on the mortgages they held. As long as that rate didn’t exceed that percentage, then they were still racking in cash. AIG insured them against bad single quarters where maybe that default rate was higher. The mortgage companies paid a pretty high premium and in return their business gained stability. Now those of you worried about the big banks spending money they on this silly stuff, don’t. You the borrower paid that premium for them. It was called “PMI” (Private Mortgage Insurance). So anybody who had no equity in their house when they bought it, were insured to pay off their loans by this AIG product. The problem is that quarter after quarter mortgages defaulted beyond the acceptable percentage. AIG was soon paying out more then it was taking in.

Now that is a very simplified version of what AIG did and still does. However the inner workings are beyond my grasp at the moment, and defiantly beyond my ability to put in laymen’s term.

That brings us to why the government thought they were so important. As the housing dominos started to crumble, our leaders felt that if AIG went belly up, lenders would stop lending money to people who couldn’t afford 20% down on the home they desired. That would bring the housing market to a screeching halt. Construction would stop, millions would become unemployed. More people would default on their loans, and the vicious cycle would spin into a depression. In the end it just seems to be slowing the inevitable. So the democratic government whose base are the “poor people” who can only afford expensive houses if they don’t have to save up for them were as afraid of the housing collapse as the paranoid aggressive chest pounding “faithful” base of the republican party were of Iraq’s nuclear weapons. The only difference is that the collapse of AIG really was going to lead to much worse economic times. Can’t really say the same about Saddam using nuclear weapons. So in a bold attempt to get re-elected, the democrats and many moderate republicans promised AIG the world if they would stay in business. It turns out “the world” meant a few irrational loopholes.

Sunday, March 15, 2009

The Persistence Of Time

The 4 people that regularly read my dribble (2 of which just to point our how “ignorant” I am.) know that I have an affixation with time. I have written about paying people in time, having your receipt show you how many labor hours you have spent on a purchase, and how important time is to a healthy community. Well, this post is about why this recession soon to be depression is different then any other economic dysfunction in the past. The difference as it turns out is our use of a very powerful resource. Yep, you guessed it, “time”.

First a real quick visit to the only thing one needs to know about economics (not finances or accounting which are often thought of as perfect synonyms but aren’t). One needs only to know that consumers will buy anything that they are “willing AND able”. It is not an “OR” proposition. You must have both pieces to the puzzle in order to attract a consumer to complete the transaction. The more people you have “willing and able” to buy your product the higher the price you can ask for the product. As the product prices rises you price people out of the market. Many become “unable” to pay he market price. They still want the product, but they don’t have the resources to buy it. There are a bazillion reasons why people become “unwilling” to buy a product. That “science” is known as “marketing”. There is only one reason why people are “unable” to buy your product. Because if you want it bad enough, “everything has a price”. That is all most people need to know about economics.


For most items in the US the “willing” part is easy. Everybody would like a new car, big screen TV, low hassle food, a brand new house, beer that makes women like you, and whatever the latest technology gadget is. It was the "able" part of the equation that kept a loaf of bread at a nickel and a new car at $2000. Most people were not able to spend money on anything and everything they wanted. They had to save for it.

Some brilliant strategists in some marketing department somewhere came up with a thought. “Hey if we sold our meals to more people, we would make more money.” The second guy say, “you are right! But how can we sell more. Everybody who can afford to, already comes here to eat.” A third guys says, “We could lower our prices.” The first guy says, “While that will surely get more people to buy meals, it will also reduce our profits.” The second guys say, “when people leave our place, what is it that has to happen before they come back?” The third guys say, “They need time to digest their food, and they need to spend time working to earn enough money to come back.” Simotaniously the first two said, “Time!!” The first guys says, “we could give them ‘time’ to pay off their meal.” Strategist number two say, “Right, we will let them buy the meal with money they will earn next week at work. That way, they will have already bought our product and won’t be tempted to buy their meal from somebody else!!” “Wait a second.”, the third one piped in. “What happens if they don’t pay?” The second guys say, “Oh that is easy. We will just charge like some outrageous interests rate like 3%. Nobody will ever want to have to pay that interest, so they will make sure they pay us.” And just like that the Diner’s Club Card was formed. (http://en.wikipedia.org/wiki/Diners_Club)


My grandmother tells stories of taking my grandfather's paycheck and splitting it into envelopes. Each one labeled with a bill or an expense, and one labeled with something they were saving for. What the bills didn't gobble up went to the savings envelope

Those envelops represented time to her. Time my grandfather had to spend away from the family to pay the bills. What happened between there and here is that Americans started being able to spend "time" that had not come to pass. They were able to spend it even though there was now 100% guarantee that it ever would come to pass. They were even willing to spend more time paying for the object of their desire then they would had they just waited and earned it. Eventually they were even tilling to spend 5 full years just paying for the roof over their heads.

Now, let us revisit that economic formula again. "The market price is set by the amount of people willing and able to pay for a product." That means that if more people want a product, you can do one of two things. First you could produce more and sell them at the same price. This option of course comes with greater overhead and availability problems. The second option is to produce the same amount and sell them for more. Your overhead doesn’t rise with this option, but the trade off is that you will be pricing people out of the market. They will physically be unable to buy your product. Price it too high and you will actually make less profit then at the lower price. (This is the economic difference between Wal-Mart's picnic table and the hand crafted one from your local carpenter.) However, as our creative marketing team figured out, there is one risky option that will allow for both more customers and higher prices. Offer to spread the cost out over time. As long as they remain healthy and employed, they will eventually pay you back.

So as everybody starts getting credit cards, the price of everything you can buy with them goes up. Now with blenders and cheap tools, making more or charging more is a business decision. With housing, food, and other commodities that we use everyday the amount that can be produces is set by uncontrollable forces such as weather, wars, and disease. Prior to credit cards, if a person spent all their money on blenders, they would have to starve until they can afford to buy stuff to put in the blender. Now they can afford both luxuries.

This is what is different from the great depression and even the minor recessions in between. People had not financed so much of their future. Time is not something that the government can buy up. The people who spent it, just have to wait till it passes. If the government tries to buy theses consumers out of purgatory, they will only dam more of us to it. In the end they will not ease the people who are there trying to help. The fact that we are here today is not unrelated to the previous economic troubles. We are here as a result of remedies that did nothing to cure these prior economic woes. They just put the trouble of the 1920’s, 40’s, 70’s, and 80’s on “credit”. Turns out these “brilliant” marketing strategists earned cabinet positions in Washington in short order.


I would like to ad one footnote to this post. This giving up of our time wasn’t something that just happened all at once and the instant a credit card was introduced. Over a slow sunset of dusk to night, we have given up many things that encompass time. No we have been giving up the freedom of quality for the chains of chasing quantity of time. As first the fathers and then eventually the mothers moved from working at home to working full time away from the home, the perspectives became irrational. Now too many of us leave the schools and their peers to raise our children. We all work so hard to provide a good life for our children that we forgot the reason why we had them. It was to teach them our values, our history, and our lessons. We have turned into a society of energy generators for the big machine.

Tuesday, March 3, 2009

A Home Relief Plan With Merit and Consequences

Here is a better way to address the failing housing market. The government opens up a new hosing department. One that is understood to have a hopefully temporary life span. This new agency will negotiate a new value for the home. The new housing authority will then buy the house from the bank for whatever “payoff” is. They get their money back. If they had planned on that interest coming in, they are no different then the home buyer who though he would be employed and healthy for 30 yrs. “You guessed wrong. Here is your consolation prize, your money back.”

People who sign onto these programs are relinquishing the ownership of the house. The difference between the payoff value and the newly negotiated market price becomes a debt to the participant. Strict limits would be placed on their ability to hold credit. The ex-homeowner has proven by their situation that they do not grasp the risk of credit. A 5% increase in their taxes will be asses in order to pay off the remaining balance.

These previous occupants who were renting it from the bank have a few choices. They can stay and rent the residence from the new government agency who has the asset of time. The US government will hopefully be around for 50 or 60 years more if it takes that long. It shouldn’t. The appraisal should catch most impending large maintenance problems on the horizon. A rental agreement can be worked out to better suit the troubled home owner. 60% of all of the money collected would be applied towards the debt. The other 40% would be used to pay for taxes, insurance, and administrative expenses. This would be in addition to the 5% tax liability and help to speed along the paying off of the debt. As a side affect it would also hold down the demand on rental units that could be a backlash of so many people loosing their houses. When the debt is settled the option to purchase the home at the new market price should be made available. They could keep renting, but at the risks involved with that option. Much like when renting a home, from the moment the new price is set, the house will be available on the market. The ability to stay and rent is a courtesy extended but not a right. Of course the government will have a vested interest in the rental agreement at first as well.

Looking at a number example of how this would work. Let us say that you paid $100,000. The new government agency, using metrics based in realism, local salary averages, and on a 10 year loan, the new value of the house is set. Let us say in this case the house has lost 40% of its value. So the best market price expected is determined to be $60,000. The payoff price for home was $80,000. The government pays the bank the $80,000. The default homeowner now owes the government $20,000. Under the old terms the loan was costing the homebuyer $625 per month plus taxes and insurance. The new arrangement could be done at the rate of $450 per month straight rent. That would be based on a 5 year plan to pay of the $20,000 and $160 per month for expenses. The home owner would be responsible all financial responsibilities one would expect a renter to pay. Since the income tax is also being asses, it is possible for these debts to be paid off in 3 years or less.

Now the ex-homebuyer could just move out. Maybe they don’t have a job and/ or can’t afford the new terms. They will not feel the penalty until they get employed. Remember it is coming out in taxes. If you are not making money, you are not paying taxes, and you are not being restrained by your debt. Like I said, the government plans on being here a long time. It can wait.

In the end, the loan agency got the money back that they loaned out, plus whatever interest they had accumulated to that point. The government gets a piece of property valued appropriately for the new deflating market. The defunct homebuyer gets a term option for paying the debt back and a possible option for staying in the home.


There is a glut of vacant houses on the market. The same offer could be made to whoever is the current owner of a vacant house. The government will agree to try to fill it with displaced ex-home owners. The new agency will have a department dedicated to basically being land lords. There are unemployed home inspectors and realtors that could easily fill these positions. As a home owner, you sign up for the program. Your house is assessed and devalued. It becomes an asset to the US government. The current owner now owes the government housing relief agency the new value. No interest, and new terms. The same 5% tax on income also is invoked. The difference is that the government agency collects the difference between the pay off value and the newly assessed market value from the renter they placed in the home. More then likely renters who were once responsible home owners. Here is were terms cold get into the 10 year or longer term.


In this case basically you are taking a house that is empty and owned by a person who is struggling to pay for it. It gives an option to those who have lost their jobs but don't want to loose their house. They have moved in with relatives or lower cost housing arrangements. They are renting to people who have lost their homes. As in the first case this splits the obligation to repay. They have an opportunity to keep the home. Rent for the house can be made more affordable.

This plan should be a limited time offer. Say one year it will be offered to those who want to take advantage of it. Anybody hired to participate in the program should know that the temporary jobs are only expected to last 10 years. It should be coupled with new regulations on credit and home loaning. The biggest new regulation being that no loan can be made for more then 10 years.

This plan is based on the acknowledgment of two realities. 1) The housing market has been over priced for years. While everybody calls the sale price the “market price” in reality the market price has been the amount people have been willing to pay over the terms of the loan. In most cases that has been 2 to 2.5 times the sales price. 2) That the only people who can be burdened with the cost of these bad financial decisions are the ones who agreed to pay them. That is how our system works. The government guarantees you have the right to the opportunity of life liberty and happiness. However, it doesn’t guarantee these attributes to you.


Of course my usual discloser that says, “If we don't stop sending our capital to economies that are subsidies by socialist and communist social programs. We will never get ahead. (National health care, free education, housing subsidized, energy cost reductions) These are things that in the free market economy must be paid for by the employer or the employee. Until our capital stops leaving our economy faster then we bring it in, we are destined to need programs like these.

Sunday, March 1, 2009

Let me guess, He told you a house was an “Investment” and you “responsibly” believed him.

We have a saying that I am sure most of you know that starts out, “if you believe that, I have a bridge to sell you.” It is a cliché used to point out the most preposterous assumptions by the most naïve people. It usually gets rolled out when only the slightest amount of thought renders an ideal illogical.

So when the pimply faced ex-pizza delivery guy (because I am sure you checked out the credentials of this perfect stranger that all of the sudden had your best interest in his heart.) who turned into a loan agent told you this did you have him explain how? Did he explain that over the next 30 years, at your 7% rate, on a $100,000 loan you would pay $250,000 plus property tax, insurance, and maintenance costs? This was supposed to be an “investment”? How many times your net (bring home) yearly salary is that? When you finally paid it off, it might be worth $200,000, although historically it would be more like $150,000 and that wouldn’t even take into the rise in cost of living over the past 30 years. So how was this a “responsible decision”? Boy, wait till you get a grasp of how a credit card works.

An investment people should A) never cost more then the purchase price you paid for it. B) Should never be worth less then the price you paid for it. C) Should have the ability to cash out (with maybe some minor penalties) and get your “initial investment” back plus whatever you have earned off of it. And D) If you loose your job, it should be a source of last resort to provide food shelter or clothing for you and your family. You should not be in jeopardy of loosing it because you lost your income. The only thing way a house might be considered an “investment” is if you are planning on leaving the paid off asset to one or all of your kids.

I suppose that you believed him when he said, “borrow to the max now, everybody’s income eventually grows” as well? So you bought shares of a bridge, and now I have to pay for it. Exactly how is the free, fair and just? The biggest problem facing this country is not its economic woes. It is that a large enough portion of our community are not able to make rational responsible decision and are not able to accept blame. I hate GWB and believe he may have doomed this country to a bitter end. But I could never bring myself to believe he was responsible for a hurricane. Now, Cheney? He may have had that kind of influence, being the Anti-Christ and all.

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