Thursday, October 30, 2008

Ring, Ring! It's the Cluephone, for You

[Fred] Joseph, the former Drexel CEO, said companies that don't pay bonuses risk losing employees who are unwilling to settle for salaries. Salaries in the industry range from about $80,000 to $600,000 a year.

"A lot of guys wouldn't want to work this hard just for salaries,'' he said. "You'd have a serious exodus from the business by a lot of really talented people—they'd become CFOs of companies, go to firms that didn't participate in the TARP program, go to hedge funds, or start hedge funds.''

God, Fred, I love ya dearly, but you've gotta stop granting interviews.

Fred Joseph, dusty old fart and erstwhile Pillager in Chief from the Dark Ages when Drexel Burnham Lambert stalked the earth, has simply been out of the game so long he doesn't realize we have traded in leather skullcaps for more modern headgear. To be fair, he is not alone among investment bankers in this regard, and the venerable old i-banking industry has been whipsawed through so many violent changes recently that it's leaving even us whippersnappers dazed and confused.

But times, as they say, are a-changin', and it's (past) time to wake up and smell the coffee.

In the Bloomberg article for which Mr. Joseph provided his pearls of wisdom, we do get some nicely understated insight from another Ancient Mariner:

Wall Street's chief executives will hunker down and pay bonuses this year in the face of the worst financial crisis since the Great Depression, a taxpayer bailout and mounting political outcry, industry veterans say.

Odds that Wall Street will forgo the payouts are "slim to none,'' said John Gutfreund, 79, president of New York-based Gutfreund & Co. and the former chief executive officer of Salomon Brothers Inc. "They're going to have to be a little bit sensitive because politicians, whether they like it or not, are part of their lives now.''

No shit, Sherlock.

With both Congress and the New York Attorney General's office crawling up the asses of major Wall Street firms with flashlights, Roto-rooters, and cattle prods looking for juicy little sound bites on excessive compensation for the Senate floor and the nightly news, it will be a long time indeed before investment bankers regain control of their compensation processes. If ever.

But listening to these two, a naïve observer might believe that massive year-end bonuses are a sacrosanct and ineluctable feature of employment within the industry. Henry Waxman, Andrew Cuomo, and the rest can just go pound sand, because nothing is going to change. Unfortunately—or fortunately, depending on how you view the subject—however, history, economics, and policy are arrayed against them.

* * *

First, we have history. It seems that recent research cited by Zubin Jelveh at Odd Numbers gives evidence suggesting that financial sector employees have been substantially overpaid in recent years, coinciding with the credit bubble. A nifty chart tells the tale:

As Zubin remarks, "It implies that workers in finance are overpaid by 40 percent."

Another nifty chart, this time from a paper by Thomas Philippon (hat tip Zubin, again) demonstrates that aggregate compensation and share of total GDP has been climbing steadily in finance for years, and is now at levels substantially above long-run averages reaching back to 1927.

Phillipon's data also show that finance carries no God-given right to its current share of the national pie, since it averaged much closer to a 3 to 4 percent share of GDP during the Great Depression and post-war period, versus its current level of approximately double that.

The implications of this research are crystal clear, as Professor Philippon himself notes:

In April 2008, in an interview with Justin Lahart of the WSJ, my idea was translated in the following way: "Mr. Philippon argues that the surge of financial activity that began in 2002 created an employment bubble that is now bursting. His model suggests total employment in finance and insurance has to fall to 6.3 million to get back to historical norms, and that means losing an additional 700,000 jobs in the sector." In truth, my model is not about the number of jobs but about the GDP share, so it would be more accurate to say that the annual wage bill of the financial sector needs to shrink by approximately $100 billion.

Take your pick: 700,000 jobs lost in finance, or $100 billion less in aggregate compensation. Either way, that's a helluva lot of blood on the streets. And that conclusion, by the way, is based on the assumption that finance should account for approximately 7% of US GDP under normal circumstances. Does anyone out there believe we are passing through normal circumstances?

Given that this shrinkage is happening across the entire industry, show me an investment banker who is clueless enough to believe there is a better bid away if his or her own employer doesn't match his or her expectations. I will show you someone destined for the unemployment line.

* * *

Second, we have economics.

In his quote at the top of this post, Mr. Joseph trots out one of the hallowed shibboleths of i-bankers everywhere: "If banking doesn't work out, I've got options!" As a rule, investment bankers are unshakable in their conviction that no other class of human is quite so intelligent, attractive, or capable as they are. You cannot persuade them that there is any job in society or the economy they cannot undertake and master. (Perhaps this might explain why we have so many Goldman Sachs alumni stumbling around the corridors of 1500 Pennsylvania Avenue.)

Unfortunately, it does not appear that Ol' Fred has been reading a lot of newspapers recently. He mentions ex-bankers becoming CFOs of companies in the real economy, joining a bank not subject to the TARP restrictions and scrutiny, or sashaying off to hedge fund land. These ideas, to be blunt, are irredeemably stupid.

The last time I checked, a robust consensus had developed among virtually all conscious participants in our economy that we are headed into a long, deep, and nasty recession. Given that such travails tend to have a rather depressing effect on the financial performance of existing companies, and put a rather serious damper on the ability of new companies to find start-up financing and commence operations, where the hell does Mr. Joseph think all these CFO jobs are going to miraculously appear from? All the CFOs I know are desperately trying to hold onto their own crappy, high-pressure, thankless jobs, given that the current financial crisis has obliterated both their retirement accounts and any fond hopes they might have held about retiring early (or even on time). Furthermore, I know plenty of CFOs and CEOs in the real economy who would be absolutely delighted to suffer under the privations of a $600,000 annual salary sans bonus. Most of them work at least as hard and as long hours as any pissant thirty-something investment banker.

The CFOs and CEOs who historically have been compensated at levels the typical investment banker would consider barely adequate all tend to reside within the walls of the Fortune 1000 and their ilk. Even if all 2,000 of them get killed in a freak electrical storm at Davos next year, where are the other 698,000 of you going to find jobs?

Joining a bank not participating in the Bend Over and Take It Financial Stabilization Program directed through TARP is a joke, too. By the time this is all over, any bank which has not received an equity injection from the Treasury will be pushing up corporate daisies, since Henry Paulson will only decline to invest if he thinks a bank is going bust, and so far no bank has been given the option to decline Mr. Paulson's largess.

I can also tell you for a fact that independent i-bank boutiques, which have been advertised as the Great White Hope for unemployed dealmakers and rainmakers, are far too small to absorb more than a few hundred senior professionals worldwide. Furthermore, once most of these Big Swinging Dicks leave their huge, resource-rich bureacratic environments for the cold tundra of independent advisory work and have to start feeding their families with only what they kill themselves, you will begin to see a remarkable realization among most of them that they do not have an entrepreneurial bone in their bodies. All of a sudden, those grinding, low-paying, low-prestige CFO jobs they cannot get will begin to look pretty good to them.

And hedge funds. Hah! Given the little information we can glean from the media about conditions in that industry, the Darwinian bloodbath caused by the Great Unwind there is going to make Pol Pot's killing fields look like a friendly stickball game in a leafy suburb. The only reason hedge funds will be hiring new people in the next few years is to dig graves for the friends and colleagues they have shot, stabbed, and hacked to death in a desperate struggle to survive themselves. Most investment bankers would not recognize a shovel if their frustrated wife wrapped it around their head after having her credit cards declined.

* * *

Third, we have policy.

Forget politics. Put out of your mind the torch-bearing, pitchfork-waving mobs beating on the glass doors of every investment bank in New York. Ignore the ignorant, meretricious, pandering politicians who are gleefully piling on the battered corpse of the finance industry in order to win plaudits, votes, and campaign funds from their current and future constituents. (Although make sure you answer their subpoenas swiftly, with grace and humility.) Both groups will tire of their sport after a while and move on to the next hapless victim of mob vengeance.

No, just realize that eventually, after the usual witch hunts and occasional miscarriages of justice, this society will come around to a consensus that the investment banking and finance industries cannot continue in their current size and form. Parts of this transformation are already underway. When the last great survivors of three decades of consolidation, Goldman Sachs and Morgan Stanley, throw in the towel, convert to bank holding companies, and start offering free toasters to clients with every M&A deal and IPO closed, you know that a line has been crossed, once and for all.

Part of that line involves compensation. Structurally lower profitability, a multi-year exodus of surplus personnel, and direct and indirect regulation will take a serious toll on pay earned by the erstwhile Masters of the Universe. This is probably as it should be. While I do not agree with the common prejudice that investment bankers add absolutely nothing of value to the economy, I do believe that too large a portion of investment banks' role (and wage bill) over the past several years has been devoted to maintaining and speeding up the increasingly frenetic velocity of money circulating around the global financial system. Now that that velocity is slowing down, and excess leverage is bleeding out of the balloon, there is obviously less need for professionals whose jobs consisted primarily of inflating the bubble.

Regulation, too, will take its toll. I am not a big fan of regulation—not because I do not think well-designed, carefully implemented regulation can add value to an industry: I do—because I have little faith that real-world politicians and regulators won't botch things up and make conditions worse with silly rules, badly enforced. But there are no odds right now in opposing regulation: it is coming, whether we like it or not.

And history tells us that regulation of the financial services sector is not kind to its participants' pocketbooks. Citing yet another Philippon paper, Zubin Jelveh notes the following:

From 1900 to the mid-1930s, the financial sector was a high-education, high-wage industry. Its workforce was 17% more educated and paid at least 50% more than that of the rest of the private sector. A dramatic shift occurred during the 1930s. The financial sector started losing its high human capital status and it wage premium relative to the rest of the private sector. This trend continued after World War II until the late 1970s. By that time, wages in the financial sector were similar to wages in the rest of the economy. From 1980 onward, another shift occurred. The financial sector became a high-skill high-wage industry again. Even more strikingly, relative wages and relative education relative to the private sector went back almost exactly to their levels of the 1930s.


We find a very tight link between deregulation and human capital in the financial sector. Highly skilled labor left the financial industry in the wake of the depression era regulations, and started flowing back precisely when these regulations were removed.

This is not good news for the Ferrari dealerships in New York, Greenwich, or Mayfair.

* * *

So what can we conclude?

Pace the structural changes in the industry, which all point toward a long-term decline in both the absolute and relative levels of investment banking compensation, the CEOs and Boards of Directors of major commercial and investment banks are under severe short-term political pressure to reduce pay. Because this is true for the entire industry, senior management at the leading banks may take this opportunity to cut their wage bill in tandem from, say, the traditional 50% of net revenues to 40%, or lower.

I can think of many senior executives who would love to stick it to their restive, pain-in-the-ass bankers and traders who are never happy with their pay, no matter how high it is. This crisis could provide the industry great air cover for a structural change in the level of pay to employees. "It's not us," they will cry, "Congress made us do it!"

Nevertheless, even at reduced payouts the absolute level of pay for the typical bog-standard Managing Director will still be plenty large enough for Henry Waxman to string him up with piano wire on the steps of Capitol Hill and be applauded for doing so. Panicky, resentful voters who can only dream of making enough money to break into Obama's higher tax bracket and who are worried about keeping their homes, their jobs, and their three large-screen plasma TVs will not look kindly on anyone making over $1,000,000 this year. Even in a shitty year like this one, there will be plenty of those to go around.

So i-bank management better start getting pretty clever about justifying, explaining, and structuring its compensation practices and payouts in the glare of public scrutiny. For what it is worth, I think most people could accept even high pay packages if it were shown that bankers were not walking away with the family silver after the public has saved their house from burning down. Limit maximum cash compensation for everyone to less than $1 million, and make up any excess in the form of long-dated options and long-vesting restricted stock. I imagine even Joe the Plumber could accept an MD earning $10 million this year if he knew that $9 million of it was in the form of company stock he cannot touch for five to 10 years. That way, the banker will thrive or suffer in tandem with his firm's other shareholders and the US taxpayers who have rescued his cookies, and Messrs. Waxman and Cuomo will take comfort in knowing that TARP's billions have not flown straight out the door to fund cocaine and hooker binges on St. Barts this Christmas.

As every investment banker knows, money is what matters. But "optics," or how deals appear to the person on the outside, matters at least as much. Especially in these troubled times.

You have heard of windfall profits tax, no? Let's try to prevent the imposition of a "windfall bonus tax" this year, shall we?

© 2008 The Epicurean Dealmaker. All rights reserved.

Wednesday, October 29, 2008

We're in Ur Boardroom, Smokin' Ur Sigarz

"A riot is an ugly thing ... undt, I sink zat it is chust about time zat ve had vun!"

— Inspector Kemp, Young Frankenstein

First, we had Rep. Henry Waxman subpoenaing compensation information from the nine commercial and investment banks which have received equity injections from the Treasury's TARP program, in an annoying but understandable effort to find out whether these banks were simply turning around and paying out taxpayer monies to fat cat investment bankers.

Earlier today we had Mario Cuomo's idiot son getting in on the act as well:

We believe that the Board of Directors is most appropriately positioned to respond to our requests as the firm's top management likely has a significant interest in the size of the bonus pools. In this new era of corporate responsibility we are entering, boards of directors must step up to the plate and prevent wasteful expenditures of corporate funds on outsized executive bonuses and other unjustified compensation.

As my Office has told AIG, now that the American taxpayer has provided substantial funds to your firm, the preservation of those funds is a vital obligation of your company. Taxpayers are, in many ways, now like shareholders of your company, and your firm has a responsibility to them.

Accordingly, we also ask that the Board inform us of the policies, procedures, and protections the Board has instituted that will ensure Board review of all such company expenditures going forward. Please provide this Office with an accounting of the actions the Board plans to take that will protect taxpayer funds.

Now, I am no lawyer, nor have I ever pretended to be one. (Except that one time in Panama, but that doesn't really count.) Perhaps Mr. Cuomo is within his rights to warn his targets in advance against actions which could be construed by an aggressive, politically ambitious attorney general as fraudulent conveyance under Section 274 of the NYD&C Law. (From the information he is requesting, it sure looks like he is on a fishing expedition for intent to violate the law, since no bonuses have actually been awarded yet.)

Perhaps he also has the authority to demand a detailed accounting of how the boards of these companies plan to protect federal taxpayer funds going forward. But I must say, as a simple layperson, that both these actions reek of a level of governmental interference and oversight which strikes me as both egregious and premature.

What does Mr. Cuomo intend by intervening at this point in time? Does he propose to "help" these institutions develop their corporate and board level policies on governance and compensation? Does he expect to wield real-time oversight over the actions of these private corporations because they have received public funding? Does he want a leather-covered seat in the oak-paneled boardroom?

And let us not forget, Dear Readers, that Mr. Cuomo wields the baton of the top law enforcement official in New York State. The last time I checked, the TARP investments in the balance sheets of these nine banks were being funded out of federal taxpayer monies. Putting two and two together, I am led to one niggling little question: Who the fuck does this clown think he is?

Sadly, the answer is depressingly simple and banal: He is a politician.

And, apparently, he is an effective one who knows his audience. All you have to do is read the reactions of the mouth-breathers, wing-nuts, and whack jobs in the comments section of the DealBook post cited above to see that opinion is running approximately 52,000-to-1 in approval of his actions and 25,000-to-1 in support of extrajudicial torture and killing for anyone who even knows how to type "Wall Street" without using ALL CAPS.

The paragraphs I have cited above from his letter demonstrate that he is highly skilled in the demagogic arts of grandstanding, gratuitous flag-waving, presumptive credit-taking, and delivering stern lectures to those he presumes guilty. Most of those remarks are certainly extraneous to the straightforward requests for information he makes elsewhere in the letter, but it is clear that he has included them for purely public consumption.

In this regard, Mr. Cuomo is no original. He is simply following the well-trodden path of previous law enforcement officials from this fair city and state, who have used the smoking wreckage and twisted bodies from previous financial panics both as a bully pulpit from which to harass and harangue the real and imagined evildoers of Wall Street and as a launch pad to higher political office. Whether and to what extent the parties they have pursued were actually guilty of wrongdoing never figured prominently in the political calculus of Eliot Spitzer or Rudy Giuliani, as long as they could get good (nationwide) press for cleaning up Tombstone. I have little expectation that Mr. Cuomo will behave any differently.

Of course, one must not feel too surprised or dismayed at this turn of events. Even on the savannahs of Africa, the King of the Beasts may be harried from his kill by a determined pack of hyenas, and the hyenas in turn must yield to jackals and vultures. The hyena is—evolutionarily speaking—a magnificent beast, purpose-built for its ecological niche in the grassland food chain. Too bad it is such an ugly, fear-inspiring, despicable beast. At least in Africa the other animals do not allow hyenas to kiss their babies.

As for my part, all I can say is I am relieved I do not hold an executive position at one of these banks.

You literally could not pay me enough to deal with a bunch of self-righteous, self-aggrandizing, self-pleasuring dipshits like Andrew Cuomo and his band of merry men at the NY OAG. I positively look forward to their eventual self-immolation on the Eliot Spitzer Memorial Pyre of Hubris and Hypocrisy.

Who's going to buy the marshmallows? Can I nominate Kenny Langone?

© 2008 The Epicurean Dealmaker. All rights reserved.

Thursday, October 23, 2008

... All Is Well

Somebody over at Bloomberg seems to have hired an excitable monkey to enter their real-time market alerts this afternoon.

There I was, peaceably trying to talk yet another client CEO out of machine-gunning his entire staff, painting his private parts blue, and sprinting down Broadway screaming "The End is Near!" when I began to notice an annoying flashing red bar at the top of my Bloomberg news feed screen. In rapid succession, I learned from sequential break-in alerts that the Dow Jones Industrial average, which had spent most of the day flopping up and down like an epileptic fish, was at that very moment flopping up and down ... like an epileptic fish.

Without exaggerating too much, I swear I saw the following messages blaring intermittently across my screen during the final ninety minutes of trading:









What the hell was that? A test of the Bloomberg Emergency Broadcast System?

I mean, sheesh, we have seen bigger intraday swings in the market for, oh, about 32 of the last 24 trading days, fer chrissakes. Why did we get a seizure-inducing blow-by-blow account this afternoon?

Now a meaner and more paranoid person than me might describe the panicky news bulletins as suspiciously timed to coincide with the New York City Council vote on extending Mayor Bloomberg's term limit to three terms from the current two. He has asked for this extension because he wants to run again and grace our fair city with his calming presence during what he is calling an unprecedented financial and metropolitan crisis.

But I am a trusting and magnanimous soul, so I will resist a similar urge to see tiny, devious, politically ambitious billionaires lurking behind every false alarm. Instead, I expect it was just some poor young intern, newly appointed to the market desk after getting fired one week into his Lehman Brothers' analyst training program, who got a little carried away with his newfound power to enthrall and terrify the markets.

But really, Bloomberg, cut it the hell out.

Leaving aside the possibility that you may have triggered grand mal seizures in about ten thousand traders, investors, and bankers with your damnable flashing red panic alerts this afternoon, the minute-by-minute updates you delivered were the opposite of responsible, informative market reporting. The market is jumpy and panicky enough without some knucklehead in the press screaming fire at every 100-point swing in the Dow. Wait for the real catastrophes to occur, then you can gibber and over-emote all you want.

I am sure you will not have to wait long.

* * *

UPDATE (24 October 2008, 9:26 am) — I take it all back. Given that Asian and European markets are pretty much crapping the bed and US market futures have plunged the daily limit this morning, I am damn glad Bloomberg tested their EBS yesterday. I am sure we will need it today.

Fair warning to epileptics, though: put on your sunglasses, or whatever, because there is going to be a shitload of flashing red alerts splattered all over your market terminals this morning.

Perhaps it was a prescient excitable monkey.

© 2008 The Epicurean Dealmaker. All rights reserved.

Wednesday, October 22, 2008

The Credit Ratings Process, Illustrated

Notwithstanding my previous comments on the talent and work ethic of the current crop of twenty-somethings, I do have to admit that there are few things in life as amusing as a snarky youngster live-blogging the current C-SPAN broadcast of Congressional hearings on credit ratings agencies, chaired by Rep. Henry Waxman.

Not to mention, you occasionally get some timely and revealing reportage thrown into the bargain, as well:
Some Congressman, not sure who 'cause I missed his name, just brought up the following IM conversation between two S&P employees, to former residential mortgage ratings managing director, Frank Raiter, from several months back (no name check on the deal but surely the DB brain trust can hazard a guess):

S&P employee #1: By the way that deal is ridiculous
S&P employee #2: I know, right. That model definitely does not capture half the risk
S&P employee #1: We should not be rating it.
S&P employee #2: We rate every deal. It could be structured by cows and we would rate it.

Congressman: What do you think this means, Mr. Raiter?
Raiter: Um...I don't know...I guess a casual acceptance of these things.
Sean Egan (of Egan-Jones) chimes in: Perhaps that cow was particularly talented?

Which leads me to speculate on the true nature of the credit rating process in general:

The Innocent Eye Test, indeed.

© 2008 The Epicurean Dealmaker. All rights reserved.

Tuesday, October 21, 2008

Everyone Can Be Super!

Helen: “I can’t believe you don’t want to go to your own son’s graduation.”
Bob: “It’s not a graduation. He is moving from the 4th grade to the 5th grade.”
Helen: “It’s a ceremony!”
Bob: “It’s psychotic!! They keep creating new ways to celebrate mediocrity, but if someone is genuinely exceptional...”

The Incredibles

Of all the stupid shit the Baby Boomers ever foisted upon an unwilling and unappreciative world—and mind you there has been a hell of a lot of it—I have to say that siring and raising the so-called “Millennials” (or Echo Boomers or Generation Y) to ersatz maturity is turning out to be one of their biggest doozies.

While these erstwhile Deciders-in-Chief sail happily off to Boca to enjoy their swollen retirement packages, golden parachutes, and depreciated vacation homes, the rest of us are expected to clean up the messes they have left behind: an economy spiraling into deep recession, a financial system shorn of all credibility and held together with paper clips and baling wire, and a country that no-one else in the world even fears anymore, much less respects.

Now we learn that on top of everything else, employers and business owners in the US are going to have to wipe the noses and change the diapers of the Boomers’ darling progeny, the twenty-something Millennials who have already begun to infiltrate the workforce.

If there is one overriding perception of the millennial generation, it’s that these young people have great—and sometimes outlandish—expectations. Employers realize the millennials are their future work force, but they are concerned about this generation’s desire to shape their jobs to fit their lives rather than adapt their lives to the workplace.

Although members of other generations were considered somewhat spoiled in their youth, millennials feel an unusually strong sense of entitlement. Older adults criticize the high-maintenance rookies for demanding too much too soon. “They want to be CEO tomorrow,” is a common refrain from corporate recruiters.

More than 85% of hiring managers and human-resource executives said they feel that millennials have a stronger sense of entitlement than older workers, according to a survey by The generation’s greatest expectations: higher pay (74% of respondents); flexible work schedules (61%); a promotion within a year (56%); and more vacation or personal time (50%).

“They really do seem to want everything, and I can’t decide if it’s an inability or an unwillingness to make trade-offs,” says Derrick Bolton, assistant dean and M.B.A. admissions director at Stanford University’s Graduate School of Business. “They want to be CEO, for example, but they say they don’t want to give up time with their families.”

In the parlance of our time: What the fuck?

* * *

Let me be clear. I am not faulting these youngsters for being ambitious. Ambition to become a CEO, or whatever, is an admirable—and usually a pretty good—thing. Ambition, energy, and starry-eyed self-confidence, after all, are the defining traits of youth. We should not complain when a passel of youngsters exhibit the few characteristic advantages that young-uns are prone to possess, especially when we consider that beyond those traits they pretty much know and can do fuck-all until they have been properly trained.

Furthermore, we older geezers owe a great deal to the ambition, energy, and cheerful naïveté of our juniors. Without the young to use as cannon fodder, none of the great and not-so-great companies and civilizations in history could have been built or maintained. I shudder to think what would happen to New York City, for instance, if the tens of thousands of youth streaming here to make their mark suddenly developed a realistic perspective of what their actual chances for success were. (Inner city Detroit would look like a boom town by comparison.) The gleaming monuments of every society are built high upon the bones and broken dreams of millions and millions of nobodies who hoped for something better.

No, what gets my goat is that these whippersnappers apparently believe they can reach the top of the greasy pole without breaking a sweat, and, in fact, that their employers owe it to them. Why is that? Well, apparently these chuckleheads have been told all their lives that they deserve it.

It’s as if the Boomers’ beloved Lake Wobegon effect, where “all children are above average,” has horribly mutated in their children’s minds into a belief that each and every one of them actually ranks in the 99.9th percentile. (For those of you shy of math skills, this is impossible. Take my word for it.) This is a bizarre psychological outcome of the Boomers’ famously hypercompetitive “helicopter” parenting, which emphasized nurturing, coddling, and esteem boosting for their kids while simultaneously scratching and clawing to get every socioeconomic and educational advantage available for Little Billy and Suzy.

Didn’t any of these kids notice how many classmates they had at Collegiate, Harvard, and Wharton? I guess not, based upon the types of responses the Millennials give on self-assessment polls:

Some research studies indicate that the millennial generation’s great expectations stem from feelings of superiority. Michigan State University’s Collegiate Employment Research Institute and MonsterTrak, an online careers site, conducted a research study of 18- to 28-year-olds and found that nearly half had moderate to high superiority beliefs about themselves. The superiority factor was measured by responses to such statements as “I deserve favors from others” and “I know that I have more natural talents than most.”

I can just imagine some of the other survey statements these wunderkinder might have agreed to:

“Mommy and Daddy say I can walk on water.”

“I am the smartest, most accomplished, and best-looking individual in my [pick a cohort].”

“I have been reliably told my shit doesn’t stink.”

“I am qualified to be CEO of General Motors because I ran a lemonade stand when I was four.”

(Okay, maybe I’ll give ’em that last one.)

Overall, this leads me to characterize the Millennials not with an “E” for entitled, but rather with a “D.” For delusional.

* * *

Of course, most of this is not the Millennials’ fault. It’s the fault of their dastardly parents, many of whom saddled these kids with this baggage largely in pursuit of their own social status and entitlement. But the kids are the ones who will have to adjust, and learn to deal with what will soon seem a much colder and less friendly world than Sesame Street and Barney led them to believe it would be.

Interestingly enough, investment banking has traditionally been an industry which has been particularly good at taking in lots of talented but jejune youngsters and hammering them into more or less useful corporate citizens. Up until the recent dislocations, investment banking could dangle the three carrots of supersized pay, undeserved social prestige, and premature involvement in the headline-making events of our time, so it tended to attract ambitious, intelligent, and driven college and business school grads who burned to become the next Lloyd Blankfein before the age of 30.

Once they entered the door, however, they found that glamour, prestige, and responsibility were not just lying on the floor waiting to be picked up. They had to be earned with grinding, unrelenting, and mostly unpleasant hard work. No-one coddled the junior investment banker or cocooned him or her in a warm, fuzzy blanket of uncritical esteem and praise. Instead, they beat the shit out of you, and they were nasty about it, too.

Many wannabe Masters of the Universe found they could not carry the freight. Eighty- to 100-hour work weeks, all-night and all-weekend fire drills, and senior bankers who would as soon spit on you as thank you for a job well done convinced many that they did not have either the aptitude or the desire for a life in investment banking. But for those who survived and even thrived under these conditions, the winnowing took the form of—dare I say it in these inhospitable times?—a defining test of character. They went through the crucible, and they were changed.

Now I will not claim that all those who passed this test and became full-fledged investment bankers were or became good or even pleasant people. Far from it. (How many Green Berets or Navy Seals would you welcome to your cocktail party or nominate for your local PTA? None, I posit.) Instead, they became competent and self-reliant, which at least in ages past signified a level of social maturity devoutly to be wished for.

This, as I see it, is exactly the sort of trial by fire that so many of today’s Millennials desperately need, if only to help them cut the parental apron strings and learn to achieve something admirable which is wholly their own. Unfortunately, investment banking is no longer the sort of industry with the draw and demand to deliver this to more than a select few of them.

* * *

So I guess we can expect a lot of twenty-somethings to slosh over into the entrepreneurial bucket, while they’re waiting for the economy to turn and Goldman Sachs to come begging at their doorstep again. We’ll see how well that works out for them. I, for one, am less than sanguine that 70 million of them can earn a living from marketing Web 2.0 freeware, but what do I know? Maybe there is an Incrediboy in the bunch who can invent a way to make everyone rank in the 99th percentile. Let’s just hope he doesn’t have to cut us all off at the knees to make us giants.

My guess is that most of these Millennials will have to sponge off Mom and Dad for several years until the recession ends and they can find a real job. This will have the simultaneously salutary effect of reminding Junior that Mom and Dad do not have all the answers and forcing Mom and Dad to burn through more of their ill-gotten wealth transfer gains to support their indigent progeny. One can hang a tenuous hope that there is justice in this world on much flimsier nails.

In the meantime, let me offer a piece of advice to any Millennials who might be looking to interview at Dealmaker LLC. If you “want to be treated like colleagues rather than subordinates and expect ready access to senior executives,” take a job at the local Starbucks. We do command and control here, buddy, and you’re at the bottom of the food chain.

Here’s the straight dope: you ain’t that great, and you sure as hell ain’t that unique. Get in line with the other millions in your age group and suck it up.

© 2008, 2012 The Epicurean Dealmaker. All rights reserved.

Wednesday, October 15, 2008


Civilization, in fact, grows more and more maudlin and hysterical; especially under democracy it tends to degenerate into a mere combat of crazes; the whole aim of practical politics is to keep the populace alarmed (and hence clamorous to be led to safety) by an endless series of hobgoblins, most of them imaginary.

— H.L. Mencken, In Defense of Women

It amuses me to think that the financial markets have taken on some of the aspects of late-stage democracy, as Mencken described it 90 years ago. Supposedly seasoned, sophisticated hedge fund investors are clambering all over each other like rats scurrying out of the bilges of a sinking ship.

It must be reassuring to their limited partners to discover that so many of them have been running portfolios so little correlated with US equity market performance:

“We continue to see a vortex of selling, led by a levered, scared hedge fund community stepping on each other trying to get in front of the other guy to liquidate, based upon the real investment losses that they’ve experienced, coupled with the threat of year-end redemptions,” says Doug Kass, president of Seabreeze Partners.

I guess a lot of these Big Swinging Dicks really are just little girls, after all.

© 2008 The Epicurean Dealmaker. All rights reserved.

Candide, or Optimism

Il est démontré, disait-il, que les choses ne peuvent être autrement: car, tout étant fait pour une fin, tout est nécessairement pour la meilleure fin. Remarquez bien que les nez ont été faits pour porter des lunettes, aussi avons-nous des lunettes. Les jambes sont visiblement instituées pour être chaussées, et nous avons des chausses. Les pierres ont été formées pour être taillées, et pour en faire des châteaux, aussi monseigneur a un très beau château; le plus grand baron de la province doit être le mieux logé; et, les cochons étant faits pour être mangés, nous mangeons du porc toute l’année: par conséquent, ceux qui ont avancé que tout est bien ont dit une sottise; il fallait dire que tout est au mieux.

"It is demonstrated," said he, "that things cannot be otherwise: because, everything having been made for some end, everything is necessarily for the best end. Note well that noses were made for wearing spectacles, consequently we have spectacles. Legs are clearly created to be shod, and we have stockings. Stones were formed to be carved, and to build castles of, consequently My Lord has a very beautiful castle—the greatest baron of the province ought to be the best lodged—also, pigs were made to be eaten, and we eat pork all year long: therefore, those who suggest that everything is good have said a foolishness; they should say that everything is for the best."

— Voltaire, Candide, ou l'Optimisme

Evan Newmark continues to surprise me with hidden talents. Today, he is a philosopher, out-Panglossing Pangloss by putting forth the modest proposal that we anoint Treasury Secretary Henry Paulson a national hero for his role in the current credit crisis. Yes, you read that correctly.

Never mind the public waffling, the rapid reversals of direction and tactics, the confidence-destroying uncertainty and confusion the Treasury and Fed have been spoon-feeding into global financial markets for months. Never mind also the ham-handed arrogance of the initial three page draft of the TARP proposal, or the mawkish and callow play-acting of dropping to his knee in front of Nancy Pelosi (and a few hundred cameras). No,

... today, we have the U.S. government taking preferred equity stakes in our nine largest banks on terms that are acceptable to both Wall Street and Washington.

Come again?

This is admirable. It's almost as if Mr. Newmark surveyed the Lisbon earthquake, tsunami, and fire of 1755 and said that not only was the city's fate for the best in this best of all possible worlds, but also we should give the Mayor of Lisbon a baronetcy and a public commendation for saving three chickens and an outhouse from the destruction.

The Treasury's and Fed's efforts to fix the credit crisis long ago left the realm of rationality, economy, and forethought to wallow in the cesspool of panicked overreaction and political expediency. It is not really worth getting your knickers in a twist, however, because the current plan is what it is, and we are all going to have to live with its (currently imperfectly understood) consequences for many years to come.

That being said, I share the feelings of many who express puzzlement or underwhelmed disappointment over the Plan in its current form.

It looks like Hank Paulson has been dragged kicking and screaming by the global marketplace into reluctantly embracing the concept that you cannot begin to encourage banks to start lending again until you have stabilized their balance sheets, and, furthermore, that the government is the only entity remaining with the standing and wherewithal to pull it off. He certainly fought such a solution tooth and nail almost from the beginning.

Now we have what appears to be a half-measure: forced, non-voting preferred equity injections into leading lending institutions with virtually no formal oversight or controls over these banks' behavior other than moral suasion. For proof of how acceptable the current plan's terms may be to Wall Street, I give you the photograph above, taken at the conclusion of the all-hands meeting Mr. Paulson convened to stuff the plan down the throats of nine of the largest US financial intermediaries. It doesn't look like Messrs. Mack and Pandit are suffering from too much indigestion there.

I think Felix Salmon put it best: Treasury's plan "looks very much like Warren Buffett's investment in Goldman Sachs, or MUFG's investment in Morgan Stanley, only without the profit motive." And, lest we forget, it is our potential profit, as US taxpayers and lenders/investors of last resort, which Mr. Paulson has so handsomely foregone. At what price ideological purity?

Now what? The stock price charts for both Morgan Stanley and Goldman Sachs still look like they're on the glide path to dissolution. The markets are waking up from their pleasant wet dream on Monday to survey a weakening global economy with deteriorating fundamentals which Mr. Paulson's vaunted plan will do nothing to ameliorate. And we American taxpayers are saddled with non-voting preferred shares in a bunch of institutions which have proven conclusively that they would have trouble finding their own assholes in a thunderstorm. I, for one, do not feel reassured.

So pardon me, Mr. Newmark, if I decline to second your nomination of Henry Paulson to the pantheon of national heroes.

Frankly, it's a little fucking early to be handing out medals.

Hat tip for the photo and caption to Dealbreaker.

© 2008 The Epicurean Dealmaker. All rights reserved.

Saturday, October 4, 2008

Time to Climb Off the Ledge?

You are well aware, Dear Readers, that much has been and is continuing to be made in the press of the terrifying, relentless, and cruel monster known as the Credit Crunch. This unappeasable beast has apparently moved on from snacking desultorily on the tattered remains of those few financial institutions still drawing labored breath to attacking pure and innocent victims in the non-financial sector, like General Electric and AT&T. Attentive readers of this space will also be aware that your Dedicated Correspondent has remained simultaneously less than alarmed and less than impressed by the supposed magnitude, terror, and destructive force of this purported monster, at least as far as it affects the non-financial economy. Some of you tender souls may be struggling with whom to believe.

Well, in an effort to wrap some more data around this scary bedtime story, the Financial Times reported yesterday that investors pulled $95 billion out of the commercial paper market for the week ended October 1st, and $200 billion over the last three weeks. Frightening, huh?

Of course, a little further reading in the piece (three sentences, in fact) would reward you with the information that—notwithstanding this catastrophic hemorrhaging of the day-to-day economy's lifeblood—total outstandings in the commercial paper market clocked in last Wednesday at an impressive $1.6 trillion. Which, frankly, sounds like a hell of a lot of money to me.

Furthermore, a little independent research visit to the Federal Reserve Board's official data release will lead you to grasp a slightly more nuanced picture than the one being peddled by the newspaper vendors in the mainstream media. It turns out, for instance, that of the $94.9 billion less invested in commercial paper last week, $64.9 billion was pulled out of financial companies, $29.1 billion less was invested in asset-backed commercial paper, and $0.8 billion was pulled out of non-financial CP. Of which, you will be relieved to hear, domestic non-financial CP outstanding declined by a stunning, seasonally-adjusted total of 0.0 dollars. That's right: zero. Zilch. Nada.

Now, to be fair, total non-financial CP outstanding of $199.1 billion only comprises 12.4% of the entire commercial paper market, so by belittling the non-existent collapse in non-financial CP I do not mean to suggest that all is well in finance- and asset-backed-land. In fact, conditions there are factually pretty bleak, and do not seem to be improving or even slowing their rate of decline at all.

Nevertheless, the non-financial CP market looks pretty damned healthy to me. At $199.1 billion, there was more non-financial CP outstanding as of October 1st than at any month end from March to September 2008, and substantially more than year-end outstandings of $167.1 billion and $162.7 billion in 2006 and 2007, respectively. Furthermore, looking back over a longer period, the graph below demonstrates to me that the non-financial commercial paper market looks like it has survived the recent storms racking the credit markets in remarkably good form, continuing a growth trend which started in 2004.

Now, the corporate credit markets in aggregate are huge, and I readily acknowledge that a $200 billion sub-sector is too slender a reed upon which to rest a robust argument that all is well in the commercial funding markets. But the data in this instance do not support the fashionable screed that the sky is falling, either.

Other reports of doom and gloom from around the fixed income markets leave me similarly underwhelmed. The leveraged loan market is mostly closed to new issuance, sure, but whom does that harm? A bunch of private equity buyers and the extensive outsourced ecosystem of bankers, lawyers, accountants, and other flunkies who used to support them, plus a few highly levered companies, that's whom. Corporate debt spreads to Treasuries have blown out to impressively wide levels, but casual commentators fail to notice that that is primarily because Treasury yields are in a rapid nose dive toward zero. Absolute borrowing levels for companies which can get access to the market remain at historically attractive levels. (Likewise, those fortunate individuals who can qualify for a mortgage nowadays have noted that mortgage rates remain remarkably reasonable.)

We have seen some eye-catching shucking and jiving by a few industrial companies to gain access to funds. Fabled economic bellwether General Electric just toddled off to Omaha to get raped over a barrel by everyone's favorite sugar daddy, Warren Buffett, in exchange for some onerous preferred equity finance. But again, most of the mainstream media seem to gloss over the fact that GE did so because its giant financial services division makes it look a helluva lot like a bank, and a dodgy bank at that. GE Financial Services accounted for more than half of GE's consolidated earnings, carried over half a trillion dollars of debt, and accounted for more than 82% of GE's balance sheet at the end of the last quarter. Given that GECS has no nice, stable retail deposits to fund its massive lending activities, it is little wonder that Jeffrey Immelt chose to strap on his kneepads and go visit Warren for an extremely lopsided vote of confidence.

Sure, sure, the sky is falling on friend and foe alike in the financial sector, and the damage is likely to spread from these shores to other jurisdictions. Non-financial companies cannot afford to be complacent, because the turmoil in the credit markets—and the banking and investment banking intermediaries in particular—can become dangerously disruptive to any company's ability to raise borrowed funds on demand. Furthermore, the credit crisis will further disrupt the real economy in ways that will harm the balance sheets and income statements of non-financial companies, as well.

But what all this sturm und drang really means for the average corporate Treasurer and CFO is that they are going to have to look a little earlier, and a little harder, for the money to keep their company running than they have had to do during the last several years. Corporate treasury departments have been enjoying an extended period of super liquidity in which all they had to do to raise beaucoup bucks was wink at a bank or two and show a little leg. Now, the environment is returning to a more normal one, in which money is donning its traditional guise as a scarce and expensive resource.

Treasurers may actually have to begin working for a living again, but I feel confident in predicting that the world will not come falling down about their ears for some time yet.

Now, if we could only get some levelheaded reporting from the financial press—instead of regurgitated talking points from their stooges in the banking industry—we might just prevent the widespread popular panic which could take the economy down for real.

* * *

UPDATE (6 October 2008) — Bloomberg News has now decided to climb on board the Panic Train this morning, too. Although, once again, a close reading of the article will show that non-financial companies do indeed seem to be able to raise money, through alternate means, if necessary.

Companies from Goodyear Tire & Rubber Co. and Duke Energy Corp. to Gannett Co. and Caterpillar Inc. are being forced to tap emergency credit lines or pay more to borrow as investors flee even firms with few links to the subprime-mortgage debacle.

Golly! Imagine the shame: having to tap emergency credit lines, or—Heaven forfend!—actually paying a little more for money. Oh, the humanity!

I really am beginning to lose patience with people, whether in business, government, or the media, whose primary panicked complaint nowadays seems to be that potential lenders are no longer willing to hand them enormous amounts of free money on a platter.

Grow a fucking pair, you pansies. You can bet that any Corporate Treasurer worth his pay grade already has.

© 2008 The Epicurean Dealmaker. All rights reserved.

Wednesday, October 1, 2008

A Letter to Bedford Falls

"No, but you're ... you're, you're thinking of this place all wrong. As if I had the money back in a safe. I ... the, the money's not here.

"Well, your money's in Joe's house ... that's right next to yours. And in the Kennedy house, and Mrs. Macklin's house, and, and a hundred others. Why,
you're lending them the money to build, and then they're going to pay it back to you as best they can. Now what are you going to do, foreclose on them?"

— George Bailey, It's a Wonderful Life

Dear Main Street —

Aunt Millie called me the other night to complain about the $700 billion financial rescue bill Hank Paulson and Ben Bernanke are trying to ram through Congress. She sounded pretty pissed off, ranting and raving about how she thinks the plan is just a big, fat bailout for the fat cats on Wall Street. She doesn't see why we need any bailout at all, since she still gets five credit card offers in the mail every week, and her local banker Joe continues to badger her to take out a loan to put that addition on the back of her house. Paulson, Bernanke, and the New York Times keep trying to persuade her that the entire US banking system is about to go kerflooey, but she just doesn't believe them.

I have to say, I sympathize with her.

One of the problems is that there seems to be a kind of exaggerated hysteria sweeping the mainstream media and commentocracy, as they desperately try to explain what the current credit crisis means to you and your fellow Americans and why it is so important to prevent a total meltdown of the financial system. Putting aside the fact that many of these reporters and pundits have no clue themselves of what credit is and why the banking system is important, most of them just have no idea how to relate to you or Aunt Millie, and, in a well-intentioned effort to explain it all to you, they end up sounding alarmist, condescending, or both. I don't know about you, but if you are anything like Aunt Millie, Joe Sixpack, or me, you probably get pretty ticked off when some Big City Fancypants tries to patronize you.

Among these, the alarmists—who try to tell you that you better meekly submit to the greater wisdom of Paulson et al. damn quick, or we will all be selling apples on street corners in six months—just end up sounding foolish or irresponsible, and are easily ignored. If, on top of everything else, they have a connection to Wall Street, their behavior just confirms to you and all of your neighbors that the fat cats are trying to put one over on you.

Sure, the commercial and investment bankers are squealing like Ned Beatty's character in Deliverance, but the rest of us look around at each other and don't see anybody else getting reamed in the butt. The wailing and gnashing of teeth from the financial sector just sounds like an exaggerated form of special pleading. You know what they say: if your neighbor loses his job, it's a recession, but if you lose your job, it's a Depression. They may have aggressive pneumonia in the canyons of Wall Street, but the rest of us just have the sniffles, if that. If you are like me, you are inclined to tell Wall Street to take some Tylenol and shut the hell up.

But even the clever, responsible commentators—like my pal over at Accrued Interest—who try to explain the importance of what is happening in plain English in a reasoned, informative way, often end up sounding as alarmist as the wingnuts, and hence lose some of their own credibility. AI, for instance, does a very creditable job of explaining the importance and centrality of banks and other financial institutions to the everyday functioning of the real economy, and the critical role that credit plays in the everyday lives of you and other citizens. But then, in an apparent effort to keep things simple (for the "simple folk?"), he stumbles into this:

So if banks and other lenders cannot get cash, they cannot lend it. So what? Isn't our society doing too much borrowing as it is? Maybe, but let's consider the consequences of a world with no lending.

First of all, there would be no housing market. Very few people can buy a house with cash. Housing prices would continue to fall for many years. The result would be that people would almost universally live in rented housing. Wealthy land lords would own all the housing in America, and would reap all the profits from rentals.

Second, there would be no secondary education. Like housing, the vast majority of people need loans to get a college education. Granted, colleges would probably pare back on the quality of the education offered in an attempt to lower their costs. Even so, it would likely be that only wealthy people could afford college. The income gap in our society would increase as a result.

It would also be extremely difficult for average people to start a new business. Most businesses require start-up capital, most of which is normally borrowed. In addition, many small businesses need working capital, which allows the business to make payroll while waiting for accounts receivable to come in. So here again, only the wealthy would be able to start new businesses.

Wait a minute. Who said anything about no lending? Is that really a realistic consequence of Main Street not supporting the current bill in front of Congress, or indeed any potential rescue plan designed to ease the credit crisis?

Of course not.

Not to mention, it would probably do us all a world of good if those economic sectors in which value for money has become completely unhinged from reality—like real estate, higher education, health care, and private school tuition in New York City (my personal bugbear)—faced a little demand recession of their own for a while. Housing prices, while falling, still have come nowhere near reaching historical levels of affordability compared to income, and the value of a Harvard education is swiftly evaporating as the sectors where it is a prerequisite—like investment banking, corporate and securities law, and national political office—are either imploding or rapidly losing whatever social cachet they may have enjoyed in the last few years.

Could the Great Depression recur? Sure it could. Could we all end up selling apples to each other on street corners (filmed in grainy black and white footage, natch) and jumping out of our hermetically sealed highrise windows as our life savings disappear? I suppose. Especially if the credit markets remain frozen for an extended period of time, the tremendous cash inflows from foreign investors which have been financing our nation for many years suddenly stop and remain stopped, and Congress, the Treasury, the Fed, and everyone else within the Beltway conspire to come up with a series of actions and decisions so stupid and ill-informed that they would make their recent behavior look positively Solomonic. It could happen.

It just isn't going to happen next week, or even the week after.

It is ludicrous on its face to imagine that that is what will happen if we do not pass the current rescue bill, and you, me, Aunt Millie, and Joe Sixpack know it. If that is what Paulson, Bernanke, and the punditocracy are selling, we're not buying. We've read The Boy Who Cried Wolf, too.

The wolf only comes for real the third time the boy rings the alarm.

* * *

So, how does this bank/credit business work? What does a bank do?

I give you Accrued Interest again:

First let's think about how modern lending works. Pick any type of loan: student loan, car loan, credit card, home mortgage, small business loan, etc. Any time a loan is made, whether its to pay for meal with your credit card or to pay for tuition, someone actually has to come up with the cash to lend to you.

Where do lenders come up with this cash? Primarily three places.
  • Deposits.
  • Borrowing from investors or from other banks.
  • Securitization. This means that the loan isn't held by the lender, but sold to investors.
Lenders don't want to use deposits to make loans right now, because there is serious risk of depositors suddenly demanding their cash. Remember that banks don't ever actually have enough cash to give all their depositors their money on any given day. So when depositors are nervous, banks are nervous.

Simple, but not simple enough.

In their purest form, banks are simply conduits, which connect people with money to invest—savers—with people who need money to spend—borrowers.

Depositors are savers who want to put their savings in a bank to earn a little bit of interest until they need to withdraw it. They lend their money to the bank. Borrowing from investors or other banks is simply another form of the same thing, where the people with the money—the investors themselves, if directly, and the other bank's investors and depositors, if from another bank—put their money to work in the form of a loan to the first bank. Investors in securitizations simply buy a piece of paper which represents a piece of a loan to the institution selling the securitization, which is backed by whatever assets (usually other loans) the bank has stuffed in the securitization.

Having come up with a bunch of money from various sources, banks turn right around and lend it out (at higher interest rates, hopefully) to other borrowers, banks, or asset holders.

Banks match savers (lenders) with spenders (borrowers). As simple as that.

And for this valuable service, banks get to charge fees. After all, hooking all those savers up with all those borrowers requires a lot of work, especially nowadays, when connecting someone who has money with someone who needs money can involve thirty-seven different entities, a passel of offshore vehicles domiciled in the Cayman Islands, and an army of propeller heads with PhDs, lawyers, accountants, tax advisors, and investment bankers to structure, market, and paper over the monstrosity. You wouldn't deny these hard-working folks their livelihood, would you?

After all, even George Bailey from the Bailey Building and Loan needed to make a living, didn't he? He matched up the people in the community who wanted to earn some interest on their savings with the people who wanted to borrow to build new homes, or start a business, or whatever. For his efforts, he charged just enough fees, in the form of net interest margin—the excess of what he earned from loans to his borrowers minus the interest he paid to his depositors—to support himself, his staff, and operate the bank's day to day business. It's pretty simple, when you think about it.

If you really want to understand this stuff, Main Street, I can recommend nothing better than breaking out that old Christmas chestnut, It's a Wonderful Life, a little early this year and watching it. About fifty minutes in, you get the scene quoted above, where George tries to talk his depositors out of a run on the Building and Loan, which has been triggered by the start of the Great Depression. You can have no clearer explanation of what a bank is and does than what George says. Cut through the crap of thousands of pages of documentation, regulation, and obfuscation in today's credit market, and what he says in that movie is as true today as it was then.

Watching that scene, you can see at once three important things. First, a bank only functions on the faith and credit it inspires in its depositors (and the people who lend it money), and it profits on the creditworthiness of its borrowers and their reliability in repaying their borrowings. Credit, or confidence, is the sine qua non of banking. The word "credit," after all, comes from the Latin verb credere, "to believe." Without belief, or faith, or forbearance, there is no credit.

Second, because a bank acts as a conduit between savers and borrowers in a community, its proper functioning is critical to avoid disruption and breakdowns in the general economy. If the financial plumbing system freezes up, all of a sudden it becomes much more difficult for nonfinancial businesses to invest, borrow, operate, and build. Payrolls can't be met, factories can't be built, people lose their jobs, and everything slows down. Lending does not normally stop, but it does become more difficult and more expensive, and that cost is spread throughout the economy in multifarious ways.

Third—and more hopefully—you can see that unless there is some extraordinary additional disruption, a run on a bank or a freeze in the credit system should be self-correcting. After all, as long as savers still have money to invest, they are going to want to lend it out. Sure, they may charge more, and they may be more reluctant to do so, but show an investor a solid credit willing to pay a juicy interest rate, and eventually they will make the loan. Any particular bank or banks may be toast, but credit and lending will find a way.

One factor which worsened the Great Depression, as I understand it, was that legions of savers actually lost their money when banks failed. The borrowers went bankrupt, but so did the lenders, and there was not enough savings or credit in the system to get things started again. Now, with FDIC deposit insurance, we have the US government standing behind the curtain to guarantee the safety of at least some of those savings, so widespread bank failures should not necessarily lead to a permanent freeze on lending.

Furthermore, we have literally tons of greenbacks or their foreign equivalents burning holes in the pockets of the governments and countries we have been buying stuff from for decades, and they have few good alternatives for their money to investing in this country. As long as the rest of the world does not lose complete faith in the USA—a scenario which, I grant you, is no longer as far-fetched as any of us would like—we should muddle out of this mess with a few bruises and a nasty recession, but otherwise intact.

So, color me skeptical about the urgency of this bailout. I think temporarily raising the limit on FDIC depositor insurance from $100,000 to $250,000 is a great and relatively inexpensive idea. The rest of it, frankly, strikes me as little more than a shot in the dark. Let hundreds of banks fail. Let tens of thousands of financial workers lose their jobs and their personal wealth. Let the entire country suffer through the recession which is surely coming no matter what the Fed and the Treasury do. The financial sector has had a really, really good run for a lot of years. It is time for it to pay the piper, and I, for one, have little interest in using my taxpayer dollars to cushion the blow. After all, I am just another heartless Wall Street bastard myself.

Well, that's it for now. I've got another letter to send you soon about who is to blame for this whole mess, but now it's time for me to walk the dog.

Say hi to Madge and the young-uns for me.

Your pal,


© 2008 The Epicurean Dealmaker. All rights reserved.