iran again, and obama's reqorking of the financial regulation system

Well since my last post, things in Iran seem to be getting worse. At this point the government has begun cracking down on protesters and several innocent people have been killed while trying to assemble peacefully and voice their outrage over this sham election. Earlier today President Obama made a statement condemning the "unjust actions" being taken by the Iranian government. Many Republicans have criticized the the president for not being more forceful with his condemnation. Although I had been critical of President Obama for not speaking out more clearly, I think he took a step in the right direction today. I think the President is right not to issue a harshly worded statement condemning the Iranian government in general. Although that is how every American feels, doing so would simply give fuel to the regime to spew anti-American propaganda and use it as an excuse to crack down on the dissenters. This type of harsh crackdown could end the protests altogether, along with any chance of seeing real change in Iran anytime soon.


The President should denounce the violence against the protesters. The U.S. stands for the principles of freedom of speech and assembly, and we should tell the world that any regime that does not respect those rights is no friend of ours. However, attacking the regime directly and threatening direct military action will probably do little more than given the Ayatollah an excuse to quash the protests even further. Things are currently moving in the right direction without the help of the U.S. and we should let the people of Iran continue their push for basic human rights. I'm not saying that we should never get involved, but until the regime starts using even more brutal tactics and killing its own citizens on a wider scale, we should let the Iranian people do the heavy lifting. The U.S. should allow the Iranians to contest the issue of whether the election was free and fair, and then focus the government's efforts on standing behind the rights of Iranians to peacefully protest election results that they believe have been manipulated.


But just because we won't intervene militarily, or threaten to do so, does not mean we should do nothing. First we should impose an oil embargo on Iran. Unfortunately, doing this through the U.N. will prove ineffective. The U.S. should come out and say that any country that buys or sells oil from Iran will no longer be a favored trading partner. This must include China. The consequence of doing business in Iran should be a large tariff place on any good imported from that country to the United States. If we make the penalty strong and stick to it, not even China will be able to skirt around it. They are much to dependent on U.S. imports.

On a very different note, I just want to say a few words regarding Obama's recently passed retool of the financial regulation system imposed by the federal government. The premise behind the whole bill was that although their were several agencies overseeing individual players and institutions in the financial markets, there was no single entity on the lookout for problems that posed a "systematic risk" to the system as a whole. According to Obama's flawed rhetoric, Wall Street bankers gamed the system and took tremendous long term risks in order to make large short term profits. According to the administration, the bankers deliberately packaged volatile investments such as mortgage banked securities so that they could hide risk and sell them to banks and other financial institutions for short term profits. How could anyone believe such a statement? Most Wall Street bankers are extremely intelligent people who were simply using the information available to them at the time to try and make profits for the investors they represent.

Investment bankers are logical decision makers like anyone else, and they make decisions based on two factors: potential returns and associated risks. The real cause of the crisis was not greedy bankers trying to make a quick buck, but the distortion of actual risk in the marketplace. And who caused that distortion of risk? I'm my opinion there were three principle causes: the federal government's implicit backing of Fannie May and Freddie Mac, failure of the ratings agencies and the federal reserve's easy money policy of the first half of this decade.

The first I think is quite obvious. Fannie and Freddie have always been semi-public entities, and the federal government has pressured them to finance mortgages for lower income people, even if those borrowers would not have received the loans absent the government pressure. By giving these loans to people who would not otherwise be deserving, at rates that do not reflect this risk of default, the government created bubble whereby they were almost statistically guaranteeing that default rates would be higher than would have otherwise have been expected. Additionally, by not adjusting the interest rates of these mortgages to reflect these higher probabilities of default, they did not hedge the risk of default with a higher rate of return. However, since the mortgages were backed by Fannie and Freddie, investors assumed they adequately reflected market conditions and even if they weren't that the federal government would take any losses (which they are doing now).

This also plays into the second point, that the rating agencies gave many mortgage back securities AAA ratings. What in hindsight could be considered extremely risky and small return securities received the highest ratings possible. Why? Well first there are tremendous conflicts of interest associated with these agencies. They are paid by the sellers, so they have strong incentive to inflate their ratings to make their clients happy and earn repeat business. The ratings agencies should work for the buyer, as they are evaluating risk for the buyer, not the seller. However, only federally approved agencies can perform this work, and the federal government dictates their structure. Until the federal government gets out of the rating picture, forcing buyers to independently rate potential securities investments by use of private rating entities, thereby imposing on the buyer the known risk of what happens if they trust a faulty rating, these mistakes will continue.

Lastly the federal reserve fueled a bubble mentality by keeping interest rates artificially low for too long, making them effectively negative in terms of real dollars. An effectively negative interest rate makes it more profitable to borrow money even if you don't have too, because you will be paying off the loan with a dollar that is worth less in value in the future. This lower dollar value even made up for the interest being paid on the loan under prevailing rates. By flooding the system with excess liquidity, the fed ensured that more risky investments would be made for less chance of profit. The result is the bust we are currently enduring.

So how is the Obama administration solving the problem. BY GIVING THE FED MORE POWER. He is giving an unelected body that already wields way too much power in our monetary system even more influence. It is outrageous. They will now have the power to inspect the books and require certain actions to be taken by any entity that the chairman deems to be a "systematic risk" to the financial system. Not to mention the rating agencies are not being reformed at all. For an example of how ignorance at the fed has contributed to the current collapse please read the following three articles in order: Speed Demons at the Fed, Slack Labor Markets Will Hold Down Prices, and Bernanke at the Creation. The first is an editorial by the WSJ in 2003 which predicted many of the problems were are seeing today, and criticised the fed as creating the environment for them. The second is Bernanke's remarks from a 2003 open market committee meeting were he dismisses the journal as being out of touch. The final is an editorial which points out why the journal was right, Bernanke was wrong, and that he is now pursuing the same type of policies that caused the problems in the first place. So get ready for another boom/bust cycle, except this one will probably be marked by much higher inflation. So what is the only logical thing to do? I know, let's give the fed even more power.

iran

What is happening right now in Iran may be the most important event in the world since 9/11, and perhaps it could have more long lasting effects than anything since the fall of the Berlin Wall. No other country in the world poses as large a threat to peace and stability than an Iran that is run by the mullahs. They are a few short years away from obtaining a nuclear weapon, and their current President has on numerous occasions claimed that the Holocaust was a hoax. Does anyone really think that someone like that won't use a weapon of mass destruction against Israel if he has the chance? This could be a defining moment in the history of the modern world, and it is time for the strength of the free world to stand up for democracy and show that the tyranny of the past will no longer be tolerated.

For thousands of years the large majority of humans have been dominated and controlled by a ruling elite. It is only over the past 200 years or so have the ideals of freedom, liberty, and personal autonomy spread among people around the world. And by no means have these freedoms reached the lives of many of the people around the globe. Unfortunately, billions of people still suffer from the harsh realities of totalitarian regimes where their liberty and freedom of choice are extremely limited; however, there is hope. The digital age has ushered in many new ways information can be transmitted and allowed many new forms of communication. This proliferation of information has spread to the masses the ideas of freedom, equality and liberty that have directly lead to the great advances of the past two centuries. It is no coincidence that the countries that have achieved the greatest advances and provided the highest standard of living for their citizens are also the countries that have allowed their citizens to retain the most personal liberties.

Over the past week hundreds of thousands of Iranians, mostly young students and women, have sought to end decades of intolerance, brutality and injustice and stand up for their right to collectively decide how they should be allowed to live their lives. It is imperative that people all of the world who believe in freedom support their cause. Sham elections like the one that just occurred in Iran cannot be tolerated, and people have taken to the streets to stand up against tyranny. The words of Joseph Stalin are as true today as when he said them fifty years ago: "The people who cast the votes decide nothing. The people who count the votes decide everything." Below is a picture of some of the protests in Tehran, were an estimated 120,000 people came out on Monday.


It is time for President Obama to stand up for what is right, and to show the world that the United States is dedicated to protecting liberty and democracy both at home and abroad. Ronald Reagan's presidency showed what the power of an America committed to the ideals that made this country can great can accomplish. The Soviet Empire was more powerful and a greater threat than Iran, and without firing a shot we were able to topple the regime simply by promoting ideals that all free humans would consider indispensable. By supporting the pro-democracy supporters in Iran, Obama could send the message that the U.S. still stands for freedom and all that is good in the world. We can only hope that the mullahs are not allowed to simply circumvent the will of the Iranian people, unfortunately though, I think that is what is going to happen. I just hope that historians far in the future don't look back at this day as one of greatest missed chances for securing a new era of peace and prosperity around the world.

a couple of points

First of all, sorry to all my avid readers (if there are any) for the long break. I thought I would be able to write more often, but I am now working full time again, and I forgot how tiring that can be. I will try to do a couple of posts by the end of the weekend though. No promises.

I'm not sure if anyone besides me reads Matt Mosley's NFC East Blog on espn, but he recently asked his readers the following question: if you were starting a NFL franchise and were charged with winning a super bowl within three years, and you were allowed to draft 10 players from the NFC East, who would they be? I am not going to elaborate on why I would make these picks, but here they are in reverse order.

10. Brandon Jacobs, RB-NYG
9. Shawn Andrews, G-Phi
8. Brian Westbrook, RB-Phi
7. Jason Witten, TE-Dal
6. Asante Samuel, CB-Phi
5. Justin Tuck, DE-NYG
4. Jason Peters, T-Phi
3. Donovan McNabb, QB-Phi
2. Albert Haynesworth, DT-Was
1. Demarcus Ware, DE-Dal (He would be a DE for me)

Honorable mention to Santana Moss, Trent Cole, Marion Barber and Chris Cooley.

Apparently a bunch of people are making a big fuss because Supreme Court nominee Sonia Sotomayor apparently is a member of a club called Belizian Grove, which only accepts women as members. These people are claiming that if a male nominee were a member of an all-male club that did not allow women, then he would not be confirmed and labeled a sexist. What a bunch of cry babies. Although they are probably right that a male would have it held against him, they should stand up for their principles and say that this kind of thing doesn't matter. If they don't want that kind of thing used against a male nominee, don't complain now. What type of club you are in during your free time is nobody's business but your own. If Sotomayor wants to hang out in her girly club and talk about girly things, who gives two shits. So nobody should get pissed when I am nominated for the Supreme Court while I am a member of Augusta National.

President Obama is now trying to revive the "pay-as-you-go" rules for Congressional spending. In theory, this means that Congress cannot authorize new spending until it either finds a way to fund it through higher taxes or eliminating spending elsewhere. President Obama showing fiscal discipline? This is the biggest joke I have ever seen. It is so outrageous that he would propose this after all that he has spent in just 5 months, I cannot even comprehend how anyone would buy this shit. Does anyone really believe Obama has any, and I mean any, limits to how much he would be willing to spend? Sure, stupid people do. After a $787 billion stimulus bill that isn't stimulating anything other than the pockets of Washington special interests, hundreds of billions in bailouts for financial institutions through TARP, another hundred million of so for GM and Chrysler, and about $500 billion around the corner for socialized healthcare, sure I totally believe that Obama will now all of the sudden start being fiscally responsible. Not to mention that under the proposed pay-as-you-go rules, discretionary spending (which accounts for approximately 40% of the federal budget) and current entitlements are not included. So pet projects and programs like social security, medicare and medicaid would not have the rules apply to them. So basically all it would do would make it extremely hard to pass future tax cuts and limit increases in defense spending. Fuck that.

Inflation is on the horizon, and maybe even closer than the horizon. Unprecedented federal deficit spending, which has increased more this year (including adjustments for inflation, not just in terms of real money) than ever before in U.S. peacetime history. The fed has increased the monetary base at an extraordinary rate in an attempt to combat the recession. In fact, M1 (currency in circulation plus travelers checks plus demand deposits in banks) has increased more this year than at any time in the past 50 years. And its not even close. With a budget deficit that is 15% of GDP, and the total liabilities of our entitlement society after universal healthcare approaching an astronomical $100 trillion, there is no other answer. If the fed wants to keep tremendously high levels of inflation from occurring, the only thing they can do is to sell some of the trillions of dollars in U.S. treasuries it owns. However, does anyone think that is likely that the fed will do so, which would raise interest rates, especially since Obama will have to sell upwards of $2 trillion in newly issued treasuries over the next year or so to finance his enormous budget? Doubtful. In fact, the fed will probably end up buying some of treasuries that the Obama administration is issuing. At least this inflation will have the positive effect of making my school debt worth a lot less. But it is going to be tremendously harmful to the economy in general. My suggestion is to buy gold, silver, oil, wheat and other commodities. If you don't, then I told you so.

The Supreme Court decided not to hear Chrysler's bondholders appeal of Chrysler's bankruptcy. Although I knew that would happen, I think I have developed a good legal argument for why the should have taken the case. 11 U.S.C. 1126(c) states that

A class of claims has accepted a plan if such plan has been accepted by creditors, other than any entity designated under subsection (e) of this section, that hold at least two-thirds in amount and more than one-half in number of the allowed claims of such class held by creditors, other than any entity designated under subsection (e) of this section, that have accepted or rejected such plan.

In the case of Chrysler, the banks who were receiving TARP money and were also secured creditors (BoA, Citi, J.P. Morgan, etc.) held enough debt to easily meet these requirements. However, subsection (e) states that

On request of a party in interest, and after notice and a hearing, the court may designate any entity whose acceptance or rejection of such plan was not in good faith, or was not solicited or procured in good faith or in accordance with the provisions of this title.

Although "good faith" is not defined in the statute the case law has developed so that it seems to mean "whether those parties in interest with respect to whom a motion for disqualification is made, had some ulterior reason for their action which looked to some special advantage to be gained thereby." American Mutual Life Insurance Company v. City of Avon Park, 311 U.S. 138, 85 L. Ed. 91, 61 S. Ct. 157 (1940). Furthermore, at least one court as found bad faith where "a purchaser of claims in voting the assigned claims is pursuing an interest in addition to its interest as a creditor." In re Allegheny Int'l, Inc., 118 B.R. 282, 289 (Bankr. W.D. Pa. 1990). Even more on point, although "selfless disinterest" is not required where the creditor "was not acting to protect or maximize its rights as a creditor but, rather, was acting to preserve financial advantages it would receive if the Plan was confirmed," bad faith could be found. In re Holly Knoll Partnership, 167 B.R. 381, 389 (Bankr. E.D. Pa. 1994). Although the facts in the cited case were different than the conflict of interest experienced by the TARP banks, this is a novel issue and the law must be applied in a new way. The banks accepted the plan not because they were maximizing their interest as creditors, but because they wanted to continue to receive federal TARP funds (and the feds received a 20% share of Chrysler, so it amounts to a party receiving equity in the restructuring paying more proportionally to some bondholders outside of any bankruptcy agreement than to others who have equal shares and rights, so that the plan will be approved). There is no way that agreement is made in good faith. The problem is that it would be very hard to prove. But what do I know.

The Phillies just won their second extra innings game in a row against the mets, this time 6-3, giving them a series win in New York and a four game lead in the division. Raul Ibanez hit a game winning 3-run home run. Man I am pumped. Great come from behind win. GO WORLD CHAMPION PHILS!

paul krugman and the austrian business cycle

A lot of people read Paul Krugman's op-ed's each week in the New York Times. He is perhaps the most read economist in the United States. In fact, when it comes to his research areas, such as location theory and economic geography, he was able to win a Nobel Prize in economics. However, the it is a complete fallacy to equate this award with Krugman's ability to make macroeconomic predictions based on Keynesian theories. Krugman won the 2008 Nobel Prize due to of his research relating to economies of scale and and their effects on urbanization in developed nations. This empirical research and the associated theories have almost nothing to do with the political rhetoric that he spews in his column on a weekly basis.

For instance in his column this week entitled Reagan Did It, Krugman postulates that Reagan's deregulation of the the banking and financial markets caused Americans to abandon fiscal thrift and take on too much debt, which caused the current economic downturn. Here a a few illustrative quotes from the article:

The increase in public debt was, however, dwarfed by the rise in private debt, made possible by financial deregulation. The change in America’s financial rules was Reagan’s biggest legacy. And it’s the gift that keeps on taking . . . It was only after the Reagan deregulation that thrift gradually disappeared from the American way of life, culminating in the near-zero savings rate that prevailed on the eve of the great crisis . . . These defaults in turn wreaked havoc with a financial system that — also mainly thanks to Reagan-era deregulation — took on too much risk with too little capital.

First, I am not even going to address the individual freedom and personal liberty issue that government should not be in the business of telling its citizens how much debt they are allowed to take on. According to Krugman, an all-knowing financial regulator/bureaucrat knows how much debt an individual should be allowed to accumulate, rather than allowing the market let a variety of creditors determine the proper amount for each individual on a person-by-person basis based on a multitude of risk related factors. Instead I want to address why Krugman is completely off-point when he claims the "deregulation" and the associated increase in private debt (and by the way he does not point out any specific provisions of the Garn-St. Germain Depository Institutions Act that would provide incentives for individuals to take on too much debt) caused the recession we face today. In fact, Krugman does little more in the article than assert that a lack of governmental regulation of the credit markets was the reason that consumers took on large amounts of debt.

Krugman is correct when he points out that excessive private debt had a role to play in the economic downturn. However, the reason for this increase in American indebtedness cannot be attributed to the abstract theory of "Reagan Deregulation." Perhaps the reason that Krugman attributes this increase in debt to deregulation is because he does not accept the Austrian theory of the business cycle. Krugman has received much acclaim for this 1998 article entitled The Hangover Theory, in which he dismissed the Austrian business cycle theory. However, as many commentators have been quick to point out, Krugman at best misapplied the theory and at worst he deliberately misrepresented it in order to make a political point. For instance, he claimed that the theory can be described in the following way:

In the beginning, an investment boom gets out of hand. Maybe excessive money creation or reckless bank lending drives it. Maybe it is simply a matter of irrational exuberance on the part of entrepreneurs. Whatever the reason, all that investment leads to the creation of too much capacity. . . Eventually, however, reality strikes investors go bust and investment spending collapses. The result is a slump whose depth is in proportion to the previous excesses . . . Here's the problem . . . [a]s a matter of simple arithmetic, total spending in the economy is necessarily equal to total income. Every sale is also a purchase, and vice-versa. So if people decide to spend less on investment goods, doesn't that mean that they must be deciding to spend more on consumption goods implying that an investment slump should always be accompanied by a corresponding consumption boom? And if so why should there be a rise in unemployment?

However, Krugman's characterization oversimplifies the theory. He claims that theory postulates that for "whatever the reason" for the malinvestment, there must be an economic downturn proportional to that malinvestment. However, the theory states that the control of the monetary supply by a central bank, which can artificially lower interest rates by directly injecting newly created money directly into the credit markets, causes unsustainable booms and busts because investors, who under normal market conditions would more highly value present capital over future investments with too much risk to justify the necessary debt are induced to malinvest because of the artificially lower interest rate. Krugman ignores the central bank's critical role in causing the boom by distorting the risk analysis and eliminating an interest rate that accurately reflects market conditions. Additionally, the theory does not necessarily require high unemployment during the "bust" part of the cycle. Instead, the theory claims that unemployment during the recession results from rigidity in real wages and that if wages were allowed to decrease, a increase in unemployment might not necessarily occur during the liquidation of the bad investments.

The Austrian theory very accurately describes the causes of the current economic downturn and even the traditionally leery media has begun to accept the fed's role in the recession. By keeping interest rates lower than they would have been absent monetary expansion that exceeded the accompanying increase in economic output, the fed created the conditions necessary for the housing bubble and other malinvestments of capital. If interest rates had been determined by market conditions, many of the homeowners who are currently defaulting would not have been approved for such large loans, and financial institutions would not have taken on such a large share of high risk sub-prime and option-ARM loans. Krugman would have you believe that greedy businessmen were trying to game the system absent proper regulation and things like mortgage backed securities were a way they could quickly profit from this excessive risk. Now I am not saying that the fact that these loans were securitized and spread to all sectors of the financial industry were not also major contributing factors to harshness of the downturn, by they would not have been created in the first place (at least not on such a large scale) but for the fed's loose money policies throughout the first half of the decade.