Ian Welsh's blog

Why Obama Doesn't Care About the Netroots And Why He Wasn't At Netroots Nation

Wed, 23 Jul 2008 06:23:54 -0700

Short form: He doesn't need us and he thinks were wrong about the most important things. K? Thanks. Bye.

Long form:

#1: Bloggers did not, as a group, endorse Obama until their audiences had already gone for him in large numbers. Rule #1 of political influence - if I can get your constituency without your help, I owe you nothing.

#2: Obama's own internet outreach has been stunningly succesful, and it is essentially a pyramid with the campaign controlling it and able to milk it for funds and volunteers. Obama can directly milk the netroots without going through gatekeepers like ActBlue or bloggers.

More after the jump DIGG IT!

#3: The Primary is over. Standard beltway wisdom is you run to the left in the primary, then you run to the center in the general. For every DFH vote Obama loses by throwing the 4th amendment into the bay wearing cement shoes, he figures to earn more votes in the "center".

#4: Obama has never agreed with the Netroots on its fundamental critique of where Democrats had gone wrong. We believe that there wasn't enough partisanship, that Democrats compromised themselves too much with Republicans and George Bush and that they didn't stand up for principles. Obama understands this argument, and he explicitly rejects it:

According to the storyline that drives many advocacy groups and Democratic activists - a storyline often reflected in comments on this blog - we are up against a sharply partisan, radically conservative, take-no-prisoners Republican party. They have beaten us twice by energizing their base with red meat rhetoric and single-minded devotion and discipline to their agenda. In order to beat them, it is necessary for Democrats to get some backbone, give as good as they get, brook no compromise, drive out Democrats who are interested in "appeasing" the right wing, and enforce a more clearly progressive agenda. The country, finally knowing what we stand for and seeing a sharp contrast, will rally to our side and thereby usher in a new progressive era.

I think this perspective misreads the American people.

#5: Ideologically Obama is simply to the right of the netroots. He is more conservative. He doesn't believe in the 4th amendment, he wants to do faith based spending, he has talked down single payor healthcare, and so on.

Bottom line: Obama doesn't agree with the netroots about either policy (how to run the country) or about politics. Also, he he feels the netroots will vote for him almost no matter what and he feels he gains more voters by selling out the netroots on key issues to prove to conservatives that he's not a DFH. To Barack Obama, the netroots is one endless Sister Souljah opportunity.

Will he regret it? Maybe. The netroots does provide disproportionate money and volunteers for its size and he may lose some of both, even if he doesn't lose the votes. Blogs do provide media pushback, but because McCain is so much worse, they'll do that no matter what.

I don't think anyone should get very worked up about this. If you were paying attention in the primary you knew Obama wasn't a liberal or a progressive. As with Kerry, but with a side identity politics, Obama was chosen because voters thought he could win the general. He is now proceeding to do what he believes is necessary to become President. And if it involves throwing liberal principles and the netroots overboard, well, as noted, in Obama's judgement that's what he needs to do, and anyway, we're wrong about what the country needs.

Obama, in other words, is operating from an honest place now. He really does disagree with us on both politics and policy, and he's no longer pretending otherwise.

Ok, Enough With the Stupidity About Clinton's Kennedy Statement

Fri, 23 May 2008 19:45:23 -0700

Ok, based on Hilary's mention today that RFK was still campaigning in June when he was assassinated, I'm hearing reasoning that Clinton is staying in because if Obama gets assassinated, then she'll get the job.

Enough. Does no one think these things through for two seconds before setting fingers to keyboard?

So follow with me down the following logic chain. Clinton drops out this very second and does not release her delegates. Obama is assassinated before the convention. Who has the most nominees? Who is most likely to get the nod?

It is, in fact, damn near unthinkable that Clinton would not get the nomination in that case. Hilary Clinton does not need to stay in the nomination race in order to be the nominee if someone assassinates Obama.

The level of near hysteria, of complete unwillingness to read Clinton's words in any context with any good will that is sweeping large portions of the blogosphere is tiresome. Clinton has used the exact same examples in the past, and no one has objected.

If you don't believe me, believe Robert Kennedy Jr., who said:

It is clear from the context that Hillary was invoking a familiar political circumstance in order to support her decision to stay in the race through June. I have heard her make this reference before, also citing her husband's 1992 race, both of which were hard fought through June. I understand how highly charged the atmosphere is, but I think it is a mistake for people to take offense.

Turns out Hillary was wrong about her own husband, amusingly, but the point remains that all she was doing is saying "races have gone this long before."

Cutting Through Primary and Election Crap

Thu, 22 May 2008 23:54:27 -0700

1) Neither Clinton nor Obama is a progressive or a liberal. They are both centrist democrats with the voting records of centrist dems. However, between the two of them, Clinton is the more liberal.

2) Obama is less electable than Clinton. The Clinton campaign is correct to say that "it's not the math, it's the map". You have to win specific states to win the election, and the states are winner take all. Virtually every series of electoral vote counts on MyDD's election tracker (look top right and left), which uses state rather than national polls, for the last month or more has shown Clinton walloping McCain. Obama is only occasionally ahead.

3) Yes, Obama's electability problems probably has something to do with race. No, that isn't the way the world "ought" to be, but it is the way the world, and more specifically, America, is. Losing an election because the world isn't the way you want it to be is beyond childish, since one can only imagine the number of people a McCain presidency will kill.

3.5) Although Obama's electability issues have something to do with race, telling Clinton voters that they're all a bunch of racists probably isn't the best way to convince them to vote for Obama. The vast majority aren't racist, and even those who are don't like hearing it. Just sayin'. Don't like that? Want to vent with what you really think? Fair enough. Folks can always choose to lose.

4) It looks like Clinton holds down crossover Democratic-to-Republican voters. Democrats who would consider voting for McCain are less likely to do so if Clinton is the candidate.

5) Caucuses are all very nice, but the organizing tactics that Obama's campaign used for winning them them don't work in the general, where there are no caucuses. See the spread in Texas between caucuses (won by Obama) and the primary (won by Clinton.) In general, with some exceptions, when more people vote, Clinton does better and Obama worse.

6) The fact that generic "Democrat" is doing well is irrelevant. The fact that Dems are going to sweep the House and Senate is largely irrelevant as well. Americans very often split their tickets, voting for government gridlock. Having a strong Democratic Congress with a Republican president isn't at all contradictory.

7) Many have suggested that the campaign was about people power (Obama) vs. the Machine (Clinton). While the people power of the Obama campaign is impressive, the later Clinton campaign has also broken records with the amount of small money donations it has taken in. Clinton has a huge base of very dedicated followers. Ultimately, however, the fact that many people gave means little. This was not a battle between "the people" and "the machine" it was a battle between the Clinton machine and the old Congressional machine. Look at the people who backed Obama both early and late. You don't think Daschle and Axelrod are rabble off the street, do you? Or Kennedy? Or Kerry? It is not a contradiction in terms to have a machine and also have a lot of followers.

8) Obama is using his power to shut out people who don't kiss the ring.

9) Obama's a lot better than McCain, and if he's the nominee (and I'll be surprised if he isn't) then not voting for him because you're angry is not an option. The reason is simple enough. McCain's policies will kill or hurt a ton of people. And that's before we even get to the Supreme Court.

10) The bottom line is this. Obama ran a better campaign than Clinton, and as a result he's probably going to be the nominee (though there's still a razor thin possibility supers may throw it to Clinton due to the popular vote count). But everything I've seen indicates that he is not the odds-on favorite to win a match with McCain and folks need to wrap their head around that right now. Obama's close, the odds aren't awful, but they aren't in his favor. That means that Obama supporters need to figure out, now, how they're going to get that portion of Clinton supporters who don't like Obama, to vote for him. Throwing up their hands and saying "screw'em, they're a bunch of redneck racists who we don't want in the party anyway" may feel satisfying, but it's a really really good way to lose the election.

And John McCain, as president will, let me repeat, kill a lot of people.

Why Obama Doesn't Bother With Blog Outreach and Why McCain Does

Mon, 19 May 2008 18:02:00 -0700

The Washington Times published an article on how McCain is allowing bloggers on his conference calls. And not just conservative ones, but non-political bloggers and even liberal bloggers.

This has caused a certain stir amongst liberal bloggers, because Obama doesn't invite us to his calls, and never has. Clinton does, but she certainly doesn't invite conservative bloggers.

So, let's lay this out simply and get past the "participation" BS.

Progressive national bloggers as a group did not go pro-Obama until Edwards dropped out. Also, in most cases the readers were pro-Obama first, not the other way around. Obama reached our audience without going through us, and sees no reason to bother with outreach to us. Bloggers who now support Obama do so despite the fact that Obama can't be bothered to do blogger outreach.

Obama only works with groups who can deliver votes he can't easily get on his own. So SEIU has a voice. We do not because we did not deliver our readers, he got them on his own.

The two things we can do for Obama that matters are media pushback and atacking McCain. But we will do those things whether he's nice to us or not, and he may not even appreciate us attacking McCain, since he very clearly wants top-down control over message with no freelancers.

There is zero ROI on spending any time on us, for Obama, at least in the short term. Therefore Obama doesn't spend any time on us. He also, personally, finds us boring, and has said so.

This will come back to bite Obama if or when he's president and the bloom is off, and he finds he has few real friends amongst bloggers and thus amongst those who have some influence with the base. But that's a year and a half to two years down the road. I doubt he's thinking it through that far, or he may think that his charisma and skill is such that he can keep his followers so happy that they will scream us under if we dare criticize him when he, say, leaves a huge residual force in Iraq (or whatever.) I doubt it, because most bloggers will really only turn on Obama when the base starts being disillusioned. But, as I say, that's a long way out and is irrelevant to him right now.

As for McCain, his brand is "trust" and "transparency", that he has nothing to hide, that he's a man of honor and that he'll tell you to your face if he doesn't agree with you. Opening up calls, for him, is a no brainer. He has rarely tried to directly control the media, he has instead tried to make them like him, knowing that people don't throw their hardest punches at people they like. By treating bloggers with respect, McCain hopes that they will treat him somewhat more gently than they would otherwise. He isn't thinking "oh, Liberal bloggers will endorse me", but he is thinking that if he treats bloggers well, they may occasionally hesitate before delivering a swift kick to the rhetorical nads and then hit somewhere slightly less painful.

Since bloggers, like the media, are human, I daresay McCain is right. People treat others the way they are treated—this is the basic rule of human reciprocity. Should it be this way? Of course not. But human nature is human nature, and McCain is working with it, not against it.

Did Bob Barr just give Obama the White House?

Mon, 12 May 2008 13:36:19 -0700

Word is that Bob Barr is probably going to accept the Libertarian party nomination. Up until this point I had assumed that the battle between McCain and Obama was roughly even, because:

1) Many Americans don't like Blacks. Yes, you're a liberal, and you don't want to hear this, and everyone hates the media for talking about it. But, y'know, it just happens to be true. When resumes with black names get two thirds the interview requests as otherwise identical resumes with white names, no one can tell me racism doesn't matter in America. Americans won't hire blacks for normal jobs, but they will hire one as President?

2) McCain's brand is Maverick Man of Principle! That's a powerful brand. Sure, it's BS. But then Bush wasn't a compassionate conservative, and Kerry wasn't a coward. Reality and American elections don't even have a passing acquaintance with each other.

Balancing that, is:

1) Obama is an amazing speaker.

2) McCain's a Republican and he is going to get tarred with Bush's unpopular occupation of Iraq and Bush's lousy economy. Normally any Democrat could win the election due to those two things. Of course, mind you, the economy was lousy leading up to 2004 too, and by all normal metrics Kerry should have won, so I take such things with a grain of salt these days. The media was for the war, and they really didn't mind Bush's economic policies that much—the elite opinion makers, after all, like their tax cuts.

But Bob changes things. If the Paulites rally to him and if his popularity in Georgia causes it to flip to Obama, well, it's a whole new ball game. McCain could get buried. This election is close enough that even a couple percent in a few key states could turn it into an Obama landslide.

The Obama Squeeze

Fri, 09 May 2008 02:20:47 -0700

Lambert doesn't like what Matt Stoller saying about how Obama ran his campaign and how he's now consolidating power. He thinks Matt's kissing Obama's boots.

What Matt is saying is simple:

Obama is taking over the party and cutting out everyone who isn't in his camp. He believes in post-partisanship (this doesn't contradict having Daschle as your bud, y'know). Money flow is going to come mostly from Obama going forward, unless he loses the election. The independents-folks like MoveOn, ActBlue, the netroots, etc... are being cut out or marginalized, whether they realize it or not (and I know that some don't.) Obama doesn't feel he really needed them (sorry MoveOn), and he isn't planning on giving them any real say or power.

(As an aside, this is especially true of the Netroots. Give Kos and co. credit. When they went fullbore Obama it sure wasn't because Obama gave a damn about what they thought. Quite the contrary.)

So Matt, seeing that Obama is going to be in charge, and is going to be controlling money and access is hoping that Obama is going to turn out to be a good president who really can make things like "post partisanship" work. And he's saying that progressives should do everything they can to try and help (read: convince) Obama to actually rule America as a progressive.

I personally doubt Obama cares one whit about what anybody in the blogosphere thinks about anything, or what most progressives and liberals think.

But my bottom line is simpler. Obama isn't John McCain, and that's all I really expected out of either Obama or Clinton. Anyone who expects much more, I predict, is going to be disillusioned. Within a year of Obama getting in power, progressives and liberals will feel about him the way they do today about Pelosi and Reid.

But at least he might stop torturing people; probably won't invade Iran, and won't appoint an Alito clone to the Supreme Court. You take what you can get.

Obama's Clinton Dilemna

Tue, 06 May 2008 21:09:57 -0700

As Dave Neiwart points out over at FDL, the results for Hillary in North Carolina and Indiana were less than she needed, and may have destroyed her chances with the superdelegates. Her speech sounded suspiciously like a concession speech. Now anyone counting Hillary out until she formally says she's out is taking a big chance, this is the energizer bunny of candidates. But let's assume she will decide the gig's up and to throw in the towel and turn our eyes forward.

Obama has his work cut out for him. The possibility that a lot of Hillary's white working class base could turn to McCain or stay home should be a real worry for him. There's been a great deal of bitterness and anger on both sides of the fight. And, to be crass and point out the unpalatable truth, there isn't a lot in it for Hillary to back Obama in a more than pro-forma "going through the motions" fashion. If he loses, she's the presumptive nominee in 4 years, after all. If he wins, she probably has to wait 8 years, and she's not getting any younger. If she really wants to be president, well, Obama's still in the way. Now I'm not saying she won't help Obama even if such thoughts are going through her mind, no doubt she understands what another 4 years of a Republican presidency would mean. Still, there's help, and there's going all out. And there's a lot of space between the two.

So if I'm Obama; if I'm one of Obama's advisors, no matter how much I may share the view of some associated with the campaign about Hillary, I'd be thinking real hard right now about what it's going to take to bring her and Bill onboard in a big way, so that they do everything possible to really deliver the votes of their supporters.

For Bill, probably a seat on the Supremes if the opportunity comes up (and it will, if Obama is elected.) For Hillary? Probably Senate Majority leader—it's not like Harry Reid really likes the job anyway.

For our hopes of there being a Democratic President taking office in 2009 I trust that similar thoughts are going through Obama's mind. Because he's going to need all the help he can get.

The Judgement of Craig Newell

Mon, 21 Apr 2008 08:46:09 -0700

A few weeks ago I received the news that my old coach and math teacher, Craig Newell, had died. I haven't written about it till now because I've been thinking of him since then. He was an odd man, spare and lean, with the whippet body of a greyhound, and he had a way of cocking his head when he looked at you which was inevitably parodied every year when the seniors did their annual play.

I spent five years around him, in high school, a boarder in an all boys school. It was an excellent school, well run, with fair rules and no brutality, but I hated the place and was miserable most of the time, though still happier there than I would have been at home. Mr. Newell was my grade 9 math teacher, but I didn't really make a connection with him till a few months into the year.

The standard punishment at school for infractions was what I like to call brutal exercise. What it was exactly varied by the master or prefect who was in charge of the punishment detail, but one that particularly sticks out in my mind is being told to hold heavy wooden chairs over your head and then made to run around the quadrangle till you collapsed. Pushups and situps featured as well, and through most of my teen years I could easily do over a hundred of each. We often used to joke that the strap would have been easier and less painful.

I don't remember what I did to get on that particular punishment detail, but since I didn't feel like doing brutal exercise I talked the master whom I'd offended into letting me run a cross country race happening the next day, which was being supervised by Mr. Newell. Like most folks, the master hated long-distance running and figured it was worse than calisthenics. I found long-distance running easy. So I reported to Mr. Newell and ran the race. I had never run a race before, didn't run more than twice a year in the school's mandatory runs, and having been told that if I didn't put in a credible effort, it wouldn't count, came in about half way in the pack of runners. Mr. Newell pulled me aside, asked if I'd ever raced before or practiced, and on hearing I hadn't, suggested I try out for the team.

Now if this was a Hollywood movie, I'd have gone on to be a star. That wasn't the case, but I did join the team, run track and cross-country most years and do well enough to stay on the team.

More to the point, I found I liked running and I started running a lot more than the 2 days a week the team officially met. And if it was a weekday, when school ended I'd swing past Mr. Newell's office and see if he wanted to go for a run too. As often as not, he would, and we'd run for 30 or 40 minutes. Usually they weren't hard runs, we'd pace ourselves just below the point where speech becomes unpleasant, and while we ran we'd talk.

Unlike a lot of coaches, Mr. Newell wasn't also the math teacher as a way to give him something to do—he'd studied math and philosophy in university and he had an excellent and searching mind. He'd often give me nuggets like the Barber's paradox to chew over, or we'd discuss other philosophical questions like how we know what we know, or what moral behaviour is.

Mr. Newell didn't have a lot of answers. He handled me pretty much with the Socratic method. But he did have one question he always asked, that came to define him in my mind. When I'd express disapproval of something someone had done, or someone's beliefs, he'd ask:

"Why do you feel it necessary to not approve?"

And he'd step it back:

"Have they harmed you?" "Have they harmed anyone else?" "Why do you think they did that?" "Why do they believe what they believe?" "Given what they believe, is what they did reasonable?"

And most important of all he'd ask "Does your disapproval do anything to them? Does it do anything to you? Can you affect this situation?"

Mr. Newell was very interested in understanding what people did and why. He wasn't very interested in judging them. And even when he did judge someone, usually because it was his job, he shied violently away from being judgemental.

Mr. Newell didn't let his emotions, didn't let his need to be judgemental and to feel superior to other people, get in the way of his understanding of other people.

Most people, I have come to believe, have a strong need to judge others. To quickly assign to them "good" or "bad" labels. And once they've done so the thinking, the understanding and the empathy dies. Once someone is evil, or bad, or immoral they aren't like us. (Because most of us don't have the honesty to admit our own evil.) At that point, empathy dies. And without empathy there is no understanding—if you cannot walk a mile in someone else's shoes you cannot understand them. (And, I suppose I should point out that understanding one's enemies is the best way to defeat them. Which is why the US loses so much, because it refuses to understand those it fights.)

Now none of this is to say that Mr. Newell thought you should never, ever, judge. He was, after all, a teacher. He was in a job where you have to judge. But he felt you should judge carefully, only as far as the evidence goes, and not let it spill over into your other judgements of the people involved. I have come to simplify this as learning how to "judge without being judgemental". More than that it implies that moral disapproval, moral judgements, in particular, should be used sparingly and that once used shouldn't spill over. An example would be that many people (correctly) see Osama Bin Laden as a mass murderer and therefore evil. But that spills over, and they become unwilling to grant that he is an extremely brave man who led troops from the front, that he is a very intelligent man whose plans have been more effective than those of most leaders he's been fighting, or that he, say, loves his family and is genuinely pious, generous and god-fearing. Yet the evidence is that he's all of those things.

When you judge too quickly, you get things wrong. When you judge too broadly, you blind yourself to what a person actually is.

And really, why do we love to judge so much? Because it makes us feel better about ourselves. In our contempt for those we judge we can pretend that we're nothing like them, that we aren't complicit in the same evils, that we have never harbored the same thoughts, or perhaps even acted on them. Being judgemental makes us feel good about ourselves but the price is that it blinds us, both to those we judge, and to ourselves. In writing off understanding others, we write off understanding ourselves.

And ultimately, that is the lesson I learned from Mr. Newell in those hundreds of hours of running.

Always understand before judging
Judge sparingly. Is it really necessary to judge this person? Do their beliefs or actions harm anyone but themselves? Is it your place to judge?
When you must judge, judge without being judgemental.
Listen to what your judgement says about you, more than what it says about others.
Satisfaction in condemning another is a danger sign that you may be using the condemnation to blind yourself, to yourself.
Don't judge large, judge small and specific.

I don't know what comes after this life, but if there is an afterlife, if there is a judging of men and women, I hope that Mr. Newell is judged himself as he judged others. And may it be laid on his scale, that he was kind to a scared and lonely teenager when almost no one else was, and saw the good in that boy that few others did.

The End of Cheap Food and the Era of Food Shortages

Fri, 18 Apr 2008 12:30:11 -0700

The end of cheap food, and absolute shortages are on the way. There are a number of reasons, which include the following:

1) The early instability caused by global warming, whose first effects are less increased temperatures than unpredictable weather patterns has lead to key areas having lower crops than in the past.

2) Aquifers in large parts of the world are being drained at unsustainably fast rates. This includes most of the American southwest, large parts of China, huge swathes of India and many areas in Africa. In India there are already villages that have had to be abandoned because no matter how deep they drill, there's no water. This is only going to get worse.

3) Desertification and reduced fertility. US farmland fertility is less than half of what it was 50 years ago. Large areas of China are deserts, with dust storms boiling out of them on a regular basis. It is only a matter of time before we have full on dust bowls in many major food producting regions, just as we did in the 20's and 30's.

4) Modern agriculture is actually very dependent on oil, and the demand and supply curves for oil are not looking good. Reduced soil fertility has been made up for by increasing the amount of energy used. That energy, at the very least, is becoming more and more expensive and will continue to do so. That will drive up food prices significantly, or force a return to the use of much more human labor. Probably both.

5) In the short run foolish subsidies for ethanol have driven up the price of food staples as farmers switch to corn to sell for ethanol.

I hardly expect the current administration to do a great deal about this, but I still encourage people to sign the ONE Campaign's petition for Bush. Making it very clear that this is an issue that matters to a lot of people is the only way that politicians will take it seriously. The sooner we start, the better, and the life you save (or the pocketbook you help) will as likely be your own as anyone else's.

So please take a few moments and go sign.

There Isn't a "Pareto" Optimal Solution to This Financial Mess

Mon, 07 Apr 2008 06:53:11 -0700

Seeking Alpha has up a pretty good history of the last 30 years of deregulation. It's worth your while to read, but was I find most interesting is this:

Is this what we have reduced our financial system to? Where it is so weak and fragile that the failure of a single investment bank threatens a widespread financial calamity. If so, how did we let it reach this point? In my mind, extremist laissez-faire deregulation surely played a heavy part.So where do we go from here? By no means am I advocating that we turn back time and reinstall the regulations that previously existed "as is".

Remarkable. Lists the history, says he doesn't have a solution but doesn't favor going back to old regulations. No one has ever explained adequately to me in what way the old regulations were worse than the repeated bubbles and bailouts (the S&L crisis was bailout 1, the 2001/2 tax cuts were the bailout for the stock collapse, and we're now onto bailout 3).

The fact of the matter is that very sophisticated financial instruments are not necessary for the functioning of a modern economy. Simple stocks, bonds, futures and insurance of vanilla varieties handle the vast majority of real needs. Nor is there any evidence I am aware of that mega-banks/investment houses/brokerages/insurers serve customers better than the older businesses which were forced to concentrate on just one area.

Certainly we can't just roll back the clock, yet the truth is that much of what happened would never have happened if the old rules had been enforced. They were, in fact, specifically put in place to avoid exactly what has happened, by people who were around for the last big clusterf*ck in the 20's and 30's. And if you read a history of the period, the parallells aren't just echoes, they are so close it's like reading the script for a movie remake.

A good chunk of the old regulations should, in fact, simply be reinstituted. It'll cause some hardship for Wall Street, but my heart doesn't bleed for people who paid themselves more than the raises of 80 million Americans and now want the taxpayer to bail them out.

Too many people seem to think there's going to be some "pareto optimal" solution for this, where no one important gets hurt (the real definition of pareto optimal, as opposed to the book definition). It ain't gonna work that way. There can be a real fix, or there can be a fake fix. And a fake fix is going to cost almost as much as a real fix, but just cause another crisis in a few years.

In the meantime, you'll be paying for Wall Street to give themselves bonuses, because my prediction is that somehow they're still going to give themselves very nice bonuses in January 2009, just as they did in January 2008, despite having screwed everything up.

America - the greatest socialist country in the world, for the right people.

The Paulson Plan

Tue, 01 Apr 2008 03:56:25 -0700

So Paulson has come out (pdf) with a plan. It's primarily a reorganization plan, pushing the Thrift regulator into the SEC, creating a federal mortgage regulator, giving the Fed the right to inspect the new firms that now have access to its liquidity. There's some talk about being objectives based. It's almost always a bad sign when the primary "reform" is to create new agencies or merge old ones and Krugman is right to ridicule it as The Dilbert Strategy. What don't I see here?

I see no hard and fast statements about leverage in the plan. 30/1 leverage is what made many of these companies so vulnerable. Any plan that does not put hard caps on leverage, get rid of "default insurance" and so on, will change nothing.

I see talk of a federal agency for regulating mortgages, but I see no talk about securitization of mortgages. A federal agency pre-empting state ones could actually reduce standards, not increase them.

I see no specific talk about forbidding certain types of mortgages such as balloon mortgages and liars mortgages.

I see no requirement for banks to keep mortgages on their own books rather than securitizing them.

I see no discussion of the ratings agencies, who rated a ton of absolute crap as the highest investment grade and were behind the curve in recognizing when both mortgages and companies were at risk. The current crisis, as a ton of folks have pointed out, is not a liquidity crisis. It is a confidence crisis. How are we going to become confident in the quality of mortgages and various other securities again if no one is checking them to make sure they're worth what issuers say they are?

Worse than all this, I see that the plan actually suggests effectively reducing oversight of the creation of new security products, which given that exotic instruments are what got us into this problem in the first place, is insane:(pdf)

The SEC should consider streamlining and expediting the SROrule approval process, including a firm time limit for the SEC to publish SRO rule filings and more clearly defining and expanding the type of rules deemed effective upon filing, including trading rules and administrative rules. The SEC should also consider streamlining the approval for any securities products common to the marketplace as the agency did in a 1998 ruling vis-à-vis certain derivatives securities products. An updated, streamlined, and expedited approval process will allow U.S. securities firms to remain competitive with the over-the-counter markets and international institutions and increase product innovation and investor choice.

• The SEC should undertake a general exemptive rulemaking under the Investment Company Act of 1940 (“Investment Company Act”), consistent with investor protection, to permit the trading of those products already actively trading in the U.S. or foreign jurisdictions. Treasury also recommends that the SEC propose to Congress legislation that would expand the Investment Company Act by permitting registration of a new “global” investment company.

The creation of the Department of Homeland Security did nothing to improve security in the US. Nada. Zip. What it did was allow billions of dollars to go to rural red states which are unlikely to be attacked by terrorists, while ignoring real security needs. Organizational reform does not, by itself, do a damn thing -- they are almost always power grabs.

Now power grabs aren't always bad. It depends what you're going to do with the power you grab. Paulson's plan either doesn't tell me what specifically will be done with the increased power, or when it does (as with the SEC or the mortgage regulatory body) it tells me the plan is decrease regulation (the SEC) or to preempt state regulation (mortgages). In no place do I see stern words about leverage, about default insurance, about exotic securities. Instead I read about streamlining and about making business "easier" to do.

The commission that came up with this plan was seated a year ago. What they have proposed is nothing more than what they wanted anyway, such as a federal charter for insurance companies, which as Marcy Wheeler points out, seems to have nothing to do with the current crisis. But there's been talk of a federal charter for insurance for a long time. I used to work in insurance compliance and it's a mess of 50 state laws. Some of them are a joke, but the toughest (currently New York) are far tougher than anything I can see a federal charter creating. But a federal charter would save insurance companies a lot of money to have only one regulator and many of the larger companies have been pushing it hard for years. So yes, this is just something they wanted to do anyway.

Paulson's plan is meaningless and will do nothing to slow this meltdown. More importantly, I doubt it will do much if anything to slow the next meltdown. Fundamental changes are needed, and reorganizations absent a hard mandate, mean nothing. Ultimately, this remains "shock therapy" - wait for a shock, in this case the market collapse, then do what you wanted to do anyway, but couldn't get through in normal times.

Leverage Explained

Mon, 24 Mar 2008 08:44:11 -0700

I recently had an acquaintance ask what leverage was, which made me realize that many of our readers without financial backgrounds may be scratching their heads.

Let's give a simple example (when I used to trade I was shocked and astounded when I first realized just how much leverage they allowed).

Let's say that you have a trade or investement that you expect will make 5%. Say you've got a $1,000 to trade with. Your normal profit would be $50. Not bad, but meh, you want more.

So, borrow more money against it - borrow $29,000. Now you have $30,000. By $30,000 worth of the stock. Your profit? $1,500.

And all the money of your own you put up was $1,000. At the end of the trade, you have $2,500 in your account. Your profit? 150%! Wow!

Sounds rocking!

But what if the instead of the security you were buying going up 5% it declines 5%? When you sell out, you owe $1,500. Too bad you only have $1,000.

So, if that's your life savings and/or capital, you're now bankrupt.

Let's take it one step further. It drops 20%. Which means you're at -$5,000. What do you do?

Well, since you don't want to go bankrupt, perhaps you don't close out the trade. Theoretically your at negative worth, but as long as no one asks for money, as long as you aren't forced to close out that trade... well, it's all good.

And that's where many of us are quite sure that a lot of brokerage houses are. They're probably insolvent. But as long as they aren't forced to sell (or "unwind") well, they can stay in operation.
But if someone says "no, we want that trade closed out now", well then, it all comes down.

Leverage is really, really dangerous, especially if you don't limit downside risk somehow. And in a lot of cases the banks and brokerages seem to have not limited their losses properly.

(I left the cost of borrowing out for simplicity. Borrowing does cost money and it will eat into your profits. So if you're earning 6% and borrowing at 1%, which was entirely possible for quite a while, then you would make less, depending on duration. )

Bear Sterns Shareholders Demonstrate Why Letting Bear Sterns Go Under Would Have Been Salutory

Mon, 24 Mar 2008 08:26:24 -0700

JP Morgan is considering increasing their offer by $8/share to $10/share after Bear Sterns shareholders threatened to sue. Many of those most hard hit, of course, were Bear Sterns employees who held a great deal of stock. The whining from Bear Sterns shareholders is beginning to grate on my nerves, especially that some of them are blaming the Fed, who apparently didn't want JP Morgan to offer more than $2.

The thing is that if the Fed hadn't intervened Bear Sterns shareholders would have lost everything. Absolutely every cent their stock was worth, because they were bankrupt and when you're bankrupt stock holders get in line last. There would have been nothing left after all the folks who Bear Sterns owed money to got through with them. $2/share was more than Bear Sterns was worth, it was worth nothing. This sort of special pleading is one of the reasons why some think the market should just be allowed to take companies down. JP Morgan would not have offered 2 cents a share for Bear Sterns without the Fed's funds and guarantees.

I would add that Bear Sterns was not a nice company. They were the worst of a bad bunch, known for their brass knuckles take-no-prisoners approach. Their trading and investing approach, like the rest of Wall Street, was reckless and based on huge amounts of leverage. 30:1 leverage, which is about where they were, is extremely dangerous. Anyone who thinks it isn't deserves to lose everything as an object lesson in what abject greed does to you, and anyone who does know how risky it is shouldn't come whining when it goes wrong.

It's a pity that letting Bear Sterns go down might take the rest of the financial sector and economy with it. Because they deserve to go down, both on their own merits and as an object lesson for others. And while I'm sure there are some low level employees who are blameless, most of the brokers and above were not financial naifs - they were educated in finance and should have known the risks they were taking. That Wall Street was at extreme risk has been known for months. I knew it, I told my friends to get out of bank and brokerage stocks months ago. And I'm not a "financial adviser" or a "broker".

Perhaps I should have more sympathy. But really, they took the good times, and the bonuses and the record profits and all of that was based on the same business model that brought them low.

Live by leverage, die by leverage.

All that said, it's only a share swap. All it does is dilute JP Morgan's equity, it costs no real money. If I were a JP Morgan stock holder I'd be flipping my lid. But as an outsider, eh, whatever.

Again though - the Fed took the value of their stock, which was about to be $0, and increased it to $2. The Fed did not make Bear Sterns make the business decisions which lead to its destruction. Bear Sterns executives and traders did that. Employees may not be happy, nor stockholders, but the Fed is not the proper object of their ire -- at least not for this specific decision. But I guess JP Morgan and the Fed have more money than Bear Sterns executives. And you sue the people who have money, not the people at fault.

The Important Thing In A Bailout

Mon, 17 Mar 2008 12:43:58 -0700

contra Paul Krugman, is not so much this:

As I said, the important thing is to bail out the system, not the people who got us into this mess. That means cleaning out the shareholders in failed institutions, making bondholders take a haircut, and canceling the stock options of executives who got rich playing heads I win, tails you lose.

But is instead to make the condition of any bailout structural changes to the financial system that make another financial bubble impossible. We had the S&L in the 80's. The nineties ended with the Naz bubble and now we have this. The reason is that there were, and are, structural incentives for executives to gamble, because "head I win, tails the taxpayers lose". If taxpayers are going to have to essentially wind up owning the financial sector, and they are, then taxpayers should insist that the financial sector that comes out of it serves the real economy, is not prone to bubbles and is under tight and brutal regulatory control.

As a practical matter, while many rich folks will lose a lot of money in this, many of them will still be multi multi millionaires or even billionaires. Those who were smart enough to get out in time will keep the majority of their ill-gotten gains. The barn door has been open for a long time, the horses have been out for years, and the bonus pools of a couple decades of excess are not coming back.

But we can make sure they don't exist again in the future. Wall Street's returns were always a mirage which had to be fake, the idea that they could make so much more than GDP return, year in year out, was always an illusion. What they did was a combination or pure and simple fraud, over-leverage, and moving profits from the future to the present--a fine game for those involved, until it ends. That future is finally arriving, and we'll be astoundingly lucky if we get away with even a mere 20% of GDP (3 trillion for the US, as Krugman points out) cost like the Japanese. Actually, scratch that, 3 trillion is just not going to be enough.

It's time, as Numerian has said, to put every business which lends money at any amount of leverage, under Fed supervision, and it is time to force the Fed to actually supervise such institutions seriously, something it has been loathe to do, even for the banks that it actually had the power to supervise. It is time to institute serious reserve and margin requirements and to regulate the final amount of leverage that anyone can use to those amounts. It is time to stop allowing people to sell "default risk", because ultimately they can't and it increases rather than decreases systemic risk (something I have pointed out for years.) It is time to disallow most forms of derivatives, swaps and so on, which are, contra-Greenspan, not necessary for the orderly functioning of financial intermediaries and which greatly increase risk. And it's time to stop allowing incentive systems which socialize the risk and privatize the profits. Any industry which is too important to allow to fail operates under an implicit government guarantee and should be heavily government regulated.

The Bernanke Bind

Mon, 17 Mar 2008 04:00:07 -0700

One problem with Central Banks is that too many people think they're all powerful. For years the Fed chairman was considered America's economic manager, and folks suggested that what the rest of the government did mattered little. So, in the 90's, we had adulation of Alan "the Maestro" Greenspan.

And it's true that central banks, and especially the Fed, are very powerful. Practically the first piece of investing advice I ever received was "don't fight the Fed." But the Fed, while powerful, is not all-powerful and the Fed's instruments are rather crude.

The Fed's main economic management tools all fall under what is known as "monetary policy." The Fed controls, to some extent, how much money there is in the economy and how much you have to pay for it. (Interest rates are the price of money.) It doesn't just have monetary powers, of course, it also has regulatory powers over banks, but mostly, if the Fed wants to accomplish something it does that by manipulating how easy, or how hard, it is for folks to get short term money (the supply of long term money is much less under Fed control). In addition to changing the price of money through changes in short term interest rates, the Fed can also engage in open market operations in which it buys or sells securities and it can also simply "print money."

For most of the recent decades the primary tool used by the Fed has been interest rate changes. It has manipulated the cost of money. Whenever you read about the Fed cutting or raising interest rates, that's what they're doing, changing how much money costs. Make money cheaper and more people will borrow, more activities will become profitable (because if you can make say an 8% profit not including capital costs and your cost of capital is 2% you're profitable. If your cost of capital is 8% and your profit is 8%, well, your profit is actually 0%).

So, if the Fed wants more economic activity it decreases interest rates and a lot more money gets borrowed, either for consumption or to create or grow businesses.

The Fed increases interest rates when it wants to reduce inflation. As the cost of money goes up, less economic activity occurs and economic actors (businesses and workers both, ideally) lose pricing power. Unable to pass on costs to consumer, to negotiate raises with employers and so on, price increases tend to halt. The most notable example of this in recent years would be the Volcker Fed, which raised interest rates to double digit numbers in order to reign in inflation. That, of course, also turned what would have probably been a mild recession into an absolutely awful one because a ton of businesses became unprofitable, borrowing for consumption was crazy expensive and business expansion became painfully expensive (and was crowded out by the fact that you could lend money for double digit percents, so why not do that rather than invest in yourself?)

So this is the Bernanke Bind. Bernanke can't simultaneously fight inflation and at the same time try and bail out an economy (or rather, a financial sector) which is collapsing around him. This is a classic policy bind, where no matter what you choose, there will be strong negative consequences.

Bernanke chose to lower interest rates. Which means that he has chosen to let inflation, already high in key sectors like energy and food, burgeon out of control. Last year I was predicting stagflation (high interest rates and high inflation, like in the late 70s) and that is now moving towards a consensus view.

Privatize the Profits, Socialize the Losses

But interest rate changes are only one tool the Fed has. There are other things it can do and it has chosen to do some of them. The most notable is that the Fed has agreed to swap banks (and starting soon, brokerages) treasuries in exchange for other types of securities - most notably Agencies, which is to say mortgage backed securities guaranteed by either Freddie Mac or Fannie Mae, the federal mortgage guarantee agencies.

At this point in time, even Agency backed securities are trading very far from face value, assuming you can even find someone who is willing to buy them, which you often can't. Treasuries, being issued by the federal government, on the other hand, are selling like hot cakes. They are liquid, and more to the point, they are effectively cash. You can borrow against treasuries at nearly 100% so if you need money to meet margin calls, or to meet reserve requirements, treasuries are effectively the same thing as having stacks of bills in your vault.

The problem with banks and brokerages right now is not a liquidity crisis - it isn't that there isn't enough money around, it's a solvency issue. People don't believe that various securities, of which mortgage backed securities are only one kind, are worth the face value. In fact they don't know what they're worth, and fear they're worth effectively nothing. So they won't buy them and they won't let them be used as collateral against other loans. Worse, when funds like the Carlyle Fund go bankrupt they have to sell off these securities. And then you do get a price. And then accounting rules force all the other banks, funds and brokerages holding the same securities to write them down. And billions of dollars just disappear overnight.

When that happens highly leveraged institutions (and many are leveraged at 30:1 or more) find that they no longer have the collateral against their outstanding loans (including margin). To meet those requirements they too potentially have to sell. That pushes down the price of these issues even more, provides prices (bad prices) for more of them, and that itself causes a self reinforcing downward spiral.

The end result of all that could be that a number of banks, brokerage houses and government backed agencies would go bankrupt. (In fact, my guess is that many are already bankrupt and just refuse to know it.)

All of this assuming that banks and other credit grantors don't simply yank loans come renewal time, even if your assets haven't been forced into a revaluation, because they're betting they will be. They've got this junk on their books, they know they can't move it, and they know you can't move yours either. Why would they loan you money you probably can't pay back? And if they do loan it to you, they'll charge higher interest rates than they would otherwise. The ability of brokerages and banks to borrow from each other has been drying up as each of them individually tries to protect themselves.

So what the Fed has done is say that it will accept these dubious financial instruments at face value, or near face value, and in exchange give the banks and brokerages securities that are actually worth something, which can be used as collateral, and which are liquid.

Strictly speaking these exchanges are for 30 days only, but in practice they are likely to continue in perpetuity or until the crisis is over. If the Fed, after all, doesn't keep rolling them over, then all the problems the Fed was trying to avoid will occur, plus a confidence crisis caused by the Fed pulling back.

Likewise it should be noted that there's a very good chance of the Fed getting caught with these junk securities. If a bank or brokerage goes under anyway, the Fed will be stuck with securities that are worth cents on the dollar. So what the Fed has done is socialize the risk because ultimately, you the taxpayer are on the hook for Fed losses, either directly or through inflation if they print money to cover them. It's a nice game if you think about it. Wall Street has been giving away record bonuses for years. Heck, bonuses paid for 2006 were greater than the raises of 80 million Americans. Bonuses given for 2007, in 2008, after everyone knew that large chunks of Wall Street were probably insolvent, were even larger! These guys privatized the profits, making themselves into millionaires. And now the government is picking up the losses.

The Fed's balance sheet at this point is approximately 800 billion. This may not seem large, but it is real unleveraged money, known as the monetary base. The Fed has currently committed about half of that to various facilities which are or will accept crap paper for treasuries. This means that the Fed has about 400 billion of maneuvering room left before it runs out of the ability to just swap paper around and pretend it's all the same sort of paper.

Four hundred billion seems very unlikely to be enough. Neither does eight hundred billion. The terrible beauty of reverse leverage means that banks and Wall Street are exposed to much more than 800 billion of downside risk. Normally that doesn't matter, but when people start insisting on real money, not leveraged money, it does. Bernanke is betting that markets will settle on a reasonable price for distressed securities; a price that is lower than par, but not so low that the sector collapses. And he's betting that the markets will do it before he runs out of willingness to push inflation through the roof. (Central bankers never run out of money, though they can run out of money worth anything.)

So what happens if the Fed pushes up to 800 billion, and finds out that isn't enough? Well, at that point it has to create new assets, on its own. It has the power to do so, but doing so is effectively the same as running the printing presses. Running them hot.

Which leads us back to Bernanke's bind. Doing that would put into play significant inflationary pressures. Printing money when the economy isn't expanding at the same rate as you're printing it inevitably leads to inflation. Since the US economy is actually contracting, printing money will almost certainly cause even more inflation.

The Bernanke Bind: the central bank can't do two things at once. It can't fight inflation and prop up financial markets and the economy at the same time. It is simply not possible. And, sadly, while the Fed can usually have any one thing it wants, in this case, because this is not a liquidity crisis but a crisis of confidence and a solvency crisis (i.e. a question of whether banks and other financial institutions are bankrupt or not) it's questionable if the Fed can even have that one thing, short of the Fed just throwing up its hands and running the presses hot. In which case the US could have a solvent financial sector worth nothing because the US dollar would be worth nothing.

So what should Bernanke do?

Wrong question. Bernanke's in a bind. He can choose his poison, which he's done, but he can't fix the bind by himself. The Fed, powerful as it is, just doesn't have the tools. Monetary policy alone will not get the US out of this.

A solution requires fiscal policy, and that means Congress and the President. Which means nothing useful will will be done at least till 2009, and maybe not even then.

Assuming, however, Congress and the President did actually want to take action and were willing to do what it takes, there are options. I'll discuss some of those options in upcoming posts.