Wednesday, September 24, 2008

A Solution to the Current Financial Meltdown

By Ed Smallwood


We’re hearing a lot of talk about the bail-out of the financial companies on Wall Street. Both parties are weighing in, with most people (more than 70% of those polled) skeptical that giving almost a Billion Dollars of money without oversight to one person to dole out to the companies is a terribly good idea. The President and John McCain seem to be okay with it. Republican Representative Joe Barton from Texas (who voted with the President 96% of the time) called the bill “Dead on Arrival,” and stated that the bill “doesn’t have 40 votes in the House,” so someone is listening.

This is my take on the situation:

We are right to be skeptical. The way the bail-out has been architected, the executives of the companies are likely to keep their jobs and fat bonuses. The government will take a chunk of the shares in the company, diluting the value of the remaining shares and shafting the shareholders if the company recovers. It does nothing for the homeowners whose failing loans are causing the financial debacle in the first place. In short: The heck with your retirement or your home. What’s really important is saving rich people’s butts! Understand?

The really huge problem with this is that we are likely to see as much as (possibly more than) Seven Billion Dollars in losses through the mortgage meltdown. That’s Seven Billion Dollars in lost home equity. To put it another way, that’s more than half of the U.S. Gross Domestic Product. Imagine if your gross salary suddenly got divided in half for a year without changing any of your other obligations. That’s what we’re talking about happening to the economy of the U.S. And that’s not counting the amount of money that people put into their home and lost due to the home being foreclosed on.

Now imagine that the current bail-out doesn’t address any of the problems with the mortgage meltdown. Why imagine? It doesn’t. None of this money, not one single cent, is slated to reduce the damage to homeowners’ pockets. All the legislation does is make sure the mortgage company is still there to foreclose on the homes if need be.

Now, keep in mind that while that’s not good, the current bill also does nothing whatsoever to address the bad mortgage making decisions that got us into this problem. Nope, repealing Phil Gramm’s deregulation of the industry is not currently on the table.

So, here’s the deal: Executives keep their jobs, retirement savings invested in mutual funds get smaller, homeowners are out on the street, and taxpayers are left holding the tab. If that isn’t a Bush/McCain field goal, I don’t know one.

Here’s what we need to really be doing:

First, we need to bring back confidence in our financial institutions. Simply making sure that they continue to exist isn’t that helpful if they aren’t doing their jobs. That means they have to be lending money out to people who can afford it and collecting that money accordingly. In order to make sure they are doing their job we absolutely must at a minimum bring back the old regulations by repealing Phil Gramm’s (architect of McCain’s economic policy) deregulation bill. Creating a few new regulations might be useful as well, as long as they prevent this kind of mindless money grab.

However, that is nowhere near enough. We should also have the FDIC and SEC swoop in on banks and mortgage companies after closing on some Fridays for unscheduled audits that would take the entire weekend. Go over these institutions completely and with a fine-toothed comb. Then on the following Monday morning if the company doesn’t pass the audit, the government takes them over. If they do, then the FDIC or SEC should make a nice, loud public statement that the company is financially sound and ready to continue business.

That helps bring back confidence in our financial institutions, but doesn’t help the real backbone of our economy. In order to fix that, we’re going to have to relieve the homeowners of some of their burden. This is going to be hard and involved. My recommendation is to do something similar to the audit of the banks themselves. We’re going to have to freeze foreclosures for a time. Before foreclosing on a property, a financial institution will have to do the following: Attempt to contact the homeowner and offer to meet with them. This should be first attempted through the mail, followed by phone calls, and then home visits if necessary. The mortgage companies would not be able to foreclose on the property if they couldn’t prove that they had done this. If the homeowner agrees to a meeting, then they would meet at a neutral location with the mortgage company and a neutral mediator.

At the meeting, the mortgage company would have to present an honest assessment of the current value of the property, as well as the amount owed on the property. The homeowner would present documents showing their income as well as their financial liabilities. It is likely in many cases that the homeowner would not be able to pay back the entire amount of the loan. It’s probable that in many areas the home could not be sold for more than the loan amount for a decade or more. The mortgage company is going to have to take a loss in these cases. But, we can mitigate the loss if we’re careful. The loan must be restructured so that the payments are affordable and not for less than the reassessed value of the property, but if the homeowner sells for more than the loan’s restructured value for up to some specified time (I would say up to 10 years after the life of the loan would be reasonable), the mortgage company should be entitled to a portion (not most or all) of the profits up to the original value of the loan. This money going to the mortgage company would be used to offset any bailout funds given to the mortgage company by the government, and buy back shares in the company from the government, helping to keep shareholder equity. Any financial institution unwilling to do this should be excluded from bailout funds.

This idea has the merit of helping to free up funds for the homeowners to spend or invest and keep our economy afloat, while protecting shareholder value. However, in order for this plan to work it will have to be heavily promoted. It will do nothing if people don’t know about it. Is this idea perfect? No, it doesn’t really punish those who were greedy enough to get us in this mess. Is it simple? No, but the simple solution was to prevent this problem in the first place (and it was clearly preventable.) However, it is the best we can probably do at this point, and it would probably be enough to prevent a serious recession.

Anyone in Congress who wants to steal this idea and elaborate on it is very much welcome to do so.

Sunday, September 21, 2008

The Current Financial Situation, and Some Solutions

By Ed Smallwood

Yesterday I was watching CNN. Connecticut Democratic Senator Chris Dodd was being interviewed, I can’t remember who it was that was asking the questions. What stuck out in the interview was what he said about a closed-door briefing the Senate got from Federal Reserve Chairman Ben Bernanke. He wouldn’t comment on the exact content, after all it wouldn’t be terribly useful to keep the information in a closed-door briefing if it was all going to become public immediately afterward. What Senator Dodd said was that after Mr. Bernanke was done talking, there was stunned silence for 10-15 seconds in the room.

That’s significant. It’s also very frightening, either way you look at it.
I have known for some time that things were going very wrong with the economy. I remember an interview last March with Paul Krugman in Fortune magazine where he said that he thought we would hit 6-7 Trillion Dollars in capital losses in the housing industry this year, a 25% reduction in equity throughout the United States. That is what we are just beginning to see right now. Congress is talking about an 800 Billion Dollar bailout. You can see that what Congress is talking about is roughly an order of magnitude too small to cover what Paul Krugman was talking about. In short, 88% of the losses aren’t being addressed by Congress.

Now, we also have to take into account that the International Monetary Fund is estimating our GDP at roughly 13 Trillion Dollars. The losses we are talking about are more than half of the Gross Domestic Product of the entire United States. Nobody alive has ever faced a financial disaster of this magnitude.

Is that what Chairman Ben Bernanke was telling the Senators in that closed-door briefing? Numbers so large that it stunned veteran Senators into silence? I think that’s exactly what happened.

Here’s the real problem: The simple answer to this problem was to avoid deregulating the banking industry in the first place. Don’t let this debacle happen. Unfortunately several years ago the “Regulation is Bad for the Economy” branch of the Republican party got it’s way, with Senator John McCain cheering it on. The easy and simple answers to this problem are all gone now. There is no choice but to see our economy slide downward. It’s simply too late to prevent that.

So, what do we do now?

We’re going to have to bail out Wall Street. We don’t have a choice about this. That’s what Congress is doing to some extent now. The problem with how they are doing it is that they are diluting the shares that investors have by taking majority stakes of the companies they are bailing out and putting it under Government control. They are allowing the investors a chance to keep some of the value, but not most of it. This is unlikely to work in the long term. People’s retirement savings are going to suffer, even though it isn’t as much as they could. In short, the government is bailing out the executives of the companies more than the investors.

The landscape for homeowners is even bleaker. Nothing whatsoever has been done to address their concerns. Foreclosures are happening at an even greater pace than before. More properties are going “upside down” in value than they were before, and the Santa Clara County Association of REALTORS is estimating that this will be the case until at least 2010. Some estimates I have been reading put it at 2012 or later.

Now, with it harder than ever to declare bankruptcy (thank you Republicans,) and savings evaporating, the backbone of the American Economy, the Consumer, has almost no money to buy anything. We can see this through the fact that spending is decreasing while savings are simultaneously decreasing. Until something is done to address the concerns of the average person on the street, the economy can do nothing but spiral downward at an ever increasing rate.

This is where we stand now.

What are we going to have to do?

We are going to have to make peace with the fact that our economy is going to crash first of all. We can’t prevent it. Next, we have to do what we can to prevent it from crashing so bad that it can’t recover. This is a real possibility. There is nothing magical about the economy of the United States. Other countries in a similar state that did nothing saw their economies die outright. Most of them are third-world countries now, or failed states. That’s the danger.

We have to bring back the regulations that prevented this problem from happening decades ago. This is an absolute must. Doing any less than this means that nobody will trust banks enough to loan them money to make loans. That’s how the system works. Without that key part the system collapses and doesn’t recover.

We have to protect the money of the average person as much as possible right now. We can’t expect someone to pay back a bad mortgage at an ever increasing rate for the rest of their lives, tying up their spending power in servicing bad debt just because some company got greedy. If these homeowners decide to allow the banks to foreclose, they will find it harder to buy another home later. The inventory of foreclosed homes will increase, because there will be fewer qualified buyers (you can’t have a foreclosure in at least the last 2 years to qualify for a home loan). This is dangerous in several ways. First, unoccupied homes bring down property values. Second, they are fire dangers. Houses are fuel. If you have enough of them you can end up with a wildfire in the middle of a city. Oakland can tell you why this is bad.

This means we have to do at least one of two things, probably both: we will have to forgive at least part of the bad debt to keep people in their homes, or we will have to allow people with foreclosures on their record to get credit anyway. The former is preferable, and while the FHA is doing this to a small extent, the program needs to be massively expanded. The latter solution will probably have to be put into effect as well. Why should we do this? Why not let the people who took out these loans just hang? If we allow our spite to get ahead of our pity (or self interest), making sure these people pay back their loans, our economy suffers from having too little money left over to buy the things that we sell. All of us suffer if we make any one segment of the population suffer too much.

In addition, we really need to start working on our infrastructure, and I don’t mean just roads, bridges, ports, electricity grid, and communications grid. I mean the workforce as well. For most of my life we have seen a growing battle against the workforce. McCain’t has been talking a big game over how strong our workforce is, but the reality is he has actively been working on weakening it.

The big secret that allows the American economy to be so strong has been our educational system. Public education was invented here. We have expanded it ever sense the Brotherhood of Friends (often referred to as “The Quakers”) introduced the concept. All of my life the Republican Party has been trying to weaken it. Vouchers. Increasing tuition in Universities. Destruction of vocational schools. Even “No Child Left Behind” which is decreasing Federal funding to elementary schools. Recently when Democrats tried to bring back full tuition for all Iraq War Veterans, McCain’t voted against it. He said it would reduce the incentive for our Servicepeople to reenlist. This attitude is going to prevent our economy from recovering.

We need a top of the line communications grid to allow educated people to build products using electricity that will be shipped to the consumer through working ports and over working roads and bridges. If any one of those things isn’t working, our economy dies and stays that way.

Why wouldn’t our economy recover? Really, why would it? People with money are under no obligation to invest it in our country. If our economy is wrecked, they would be dumb to put good money after bad. They’ll invest it elsewhere, in economies that are booming. China is a good example. With no money being invested in our country, no educated people to design new products or services, a 20th century communications grid expected to help them design them, no energy to build them, and deteriorating ports, roads, and bridges to ship them our economy will stay sunk.

What we really need to get us through this crisis is a leader that believes in our future, not one that is trying to bring us back to a failed past, namely the “Roaring ‘20s.” Let’s all make sure we work toward our country’s future.


Fortune Magazine interview with Paul Krugman: March 17th, 2008 by Jia Lynn Yang

Friday, September 5, 2008

Save Gas, Be Patriotic, and Save Money (Version 2)

By Edward Smallwood

Every year or so I send out an email to all of my friends. In this email I detail ways to save gas, why, and how much you can save in your budget with relatively minor changes in behavior. This time I decided to completely revamp that letter to more directly address current concerns in this country.

I’m sure you’ve heard the arguments that the cost of gasoline is controlled by supply-and-demand economics. As the supply dries up, the cost goes up. As demand drops, the price drops. There is definitely an element of truth to this, but there is one other thing that can affect this price artificially—commodities trading. If you think that the price of oil is going to go up in the near future, you can buy it in a sense on the commodities market. This artificially pushes the price of a barrel of oil upwards because that barrel you bought isn’t going to be delivered to a refinery to be turned into gasoline, kerosene, or PVC plastics. Now that it looks like Americans can control their behavior a bit, driving fewer miles, investing in oil at $200 per barrel doesn’t look like such a good idea, and the price of oil dropped dramatically to below $110 per barrel—much more than the 4% drop in miles driven this summer. Now that hurricanes are headed to the gulf region, where oil is drilled, we’re watching oil prices start to go up to over $120 per barrel, and that’s before any drop in oil production. The hurricanes haven’t reached oil production or refining facilities yet. Supply and demand? Nope, commodities trading and speculation that the hurricanes this year might damage oil production or refining. That’s why you’ll be paying more at the pump today.

There are quite a few people out there trying to convince you to let the oil companies start drilling for oil in protected areas to bring that price down further, and make us independent of foreign oil. There are some significant problems with that argument. For example, the areas they are talking about hold only a small fraction of the world’s reserves. There isn’t enough oil in the areas that they are talking about combined to fuel the United States for a year. There is no energy independence to be had from drilling in these areas. And considering that it would be several years before any oil came from these sources, the White House estimates 10 years or more, there will be virtually no change now in the cost of oil from making this decision. We could make a bigger dent in the cost of gasoline by pursuing hybrid, natural gas powered, and electric vehicles for a similar investment, causing less damage to the environment in the process, and helping to make us more competitive in the world market for vehicles. That means more American jobs, folks. T. Boone Pickens the oilman (architect of The Pickens Plan), and Rep. Roscoe Bartlett (R-MD) understand this, and we need to get the word out. Using government funds to drill for oil instead of looking for alternatives is throwing good money after bad.

Also, there is no current biofuel or other alternative to jet fuel. When it costs as much to fuel a fighter plane as it does to buy one in the first place, we’ll be glad we didn’t use up all of our domestic oil reserves. Trust me folks. We can’t invade foreign countries to get their oil for our use if we can’t get there in the first place. So for national security’s sake, we need to keep our domestic reserves safe and off the market. If you support the military, you must be against domestic drilling right now.

There are other urgent national security reasons why we need to cut our consumption of oil. Iran is a major exporter of oil—85% of its income is from oil. According to the U.S. Department of Energy, it is not possible to buy gasoline that is guaranteed to be free of Iranian oil. Even if it were, when you buy gasoline, you are putting an upward pressure on the price of oil that benefits Iran. If you are at all concerned about the Iranian nuclear program building atomic bombs, then you should be concerned that you are directly funding the work on those same weapons that could be used against us every time you fill up your tank.

Saudi Arabia, nominally our ally in the Middle East, at one point created a special account in all Saudi banks called Account 98, and encouraged their people to deposit money into that account. These funds were dispersed to the families of suicide bombers in Israel. In addition, 15 of the 19 hijackers on 9/11 were from Saudi Arabia, as is Osama Bin Laden himself. Al-Qaida was founded in Saudi Arabia as an organization that was against U.S. military bases there. Saudi Arabia gets 90% of its export earnings from oil, so any funds from Saudi Arabian backers of terrorism are pretty much oil based. Considering the Saudi governmental connections to Account 98, that pretty much destroys any argument that the Saudis are not connected to terrorism.

Although Account 98 was closed due to international pressure, other private accounts have been opened for the same purpose since then. In short, Saudi Arabia is the source for much of Al Qaeda's funding.

If you are concerned with the environment, then you are probably concerned about Carbon Dioxide emissions. Every gallon of gas used puts almost 20 pounds of carbon dioxide into the atmosphere. If you’re driving about 12,000 miles per year (a good estimate for most folks) and getting 21MPG on your car, you’re putting out about 11,200 pounds (about 5 tonnes) of carbon dioxide each year from that car alone.

With these reasons, the old question from World War II suddenly becomes relevant again: “Is this trip really necessary?”

For those trips that are necessary, there are some ways to reduce your usage of gas. Keep your car in good shape, meaning that you should make sure your tires are properly inflated, that you have air, oil, and fuel filters in good shape, and make sure your car is properly tuned up. According to the EPA, this alone can save up to 19%. Fixing a faulty oxygen sensor can save as much as 40%! In addition, driving the speed limit (or a bit below) will improve your gas mileage, as will slowly cruising up to stop lights instead of keeping your foot on the gas until the last second. Rapid starts and stops at stoplights and stop signs waste gasoline and decrease your fuel mileage.

Now, there’s a trip that many people can cut out of their daily or weekly routine. It’s leaving your work place to get lunch every day. I’ve seen many people do just that at some of my jobs, and the cost really adds up. Here’s where you can save fairly dramatic amounts of money.

Let’s say you work 5 miles from the fast food place where you like to eat every day, and you own a Toyota Prius Hybrid. According to the EPA, you’re getting around 48MPG for that trip. I filled my gas tank at $3.85 per gallon a few days ago, so let’s use that price for gas. The total cost for gas each day is a whopping $0.32. Let’s say that your favorite value meal costs $5. Each day, you’re paying $5.32 for lunch (both food and fuel). That’s $26.60 per week, about $106.42 per month, or $1330.21 per year. Now, if you buy “Budget Gourmet” TV dinners for $1 at the supermarket each time you go, and get a soda from the machine for around $0.75 each day, you’re paying $8.75 per week, about $35 per month, or $437.50 yearly. The weekly savings is $17.85, monthly is $71.42, and yearly is $892.71. I don’t know about you, but I’m sure I could figure out what to do with an additional $893 per year.
Keep in mind those are the figures for the most fuel efficient gasoline/electric hybrid car you can buy today. You’re more likely to have something like a Honda Accord which gets around 22MPG. Your yearly savings by eating in jump up to $987.50 with this car. That’s enough for a decent vacation. And all of that is assuming that your car was getting its EPA estimated gas mileage already. If not, and you got it fixed up, all of that savings can be added in.
My dad used to brown bag all the time when I was a kid, and he had the right idea, didn’t he? We get to figure out what to do with our own money, instead of giving it to the heads of ExxonMobil and McDonalds. What a thought!
Now, when you have extra money to spend, most people will either spend it, or invest it. Either way, you’re helping the economy.
So, greater national security and an improved economy. All of that without us having to rely on people in Washington. Can anyone tell me what the down side is to all of this? So, we have to “sacrifice” a little by remembering to bring lunch instead of going out for a Big Mac? Not much of a sacrifice, if you ask me.

So, the next step is yours. You can help yourself and all of us by following these suggestions, or follow these suggestions and tell your friends so we can all do this together. The more people who join in, the better off all of us will be.

Tag, you’re it.

Sources of Gasoline:

EIA Primer on Gasoline Sources and Markets:

Cost of running a car for lunch:
Multiply distance to lunch place by 2, then multiply the result by the mileage of the vehicle, then multiply the result by the current cost of gasoline. Add the cost of lunch to the result (I assumed $5.) Multiply the result by 7 for the weekly cost, and so on for monthly and yearly costs (I subtracted out 2 weeks for vacation from the yearly result.)
Fuel mileage source:

Country of origin for September 11 Hijackers:

Saudi Arabia’s Economy:
CIA Factbook:

Iran’s Economy:

CIA Factbook:

Account 98:
Forbes Magazine, 10/18/04 Cover Article, “Terror Inc.”, by Robert Lenzner and Nathan Vardi:

The Pickens Plan:

Rep. Roscoe Bartlett (R-MD):