Sunday, August 23, 2009

A Disturbing Trend

As the discussion about health care reform drones on, the current emphasis seems to be focused on how we pay doctors, and whether that pay structure is an incentive to our long term health care goals. Before you stop reading, by the way, this is NOT a discussion of health care. It is a discussion of payment for services, how we structure those payments, and whether that structure pays people to do what we value most.
It seems we pay surgeons an average of about $600,000 per year, and doctors who practice family medicine about $160,000 per year. In other words, we think the doctors who perform lap band surgery to shrink our stomachs after we're morbidly obese are more valuable than the ones who tell us to eat healthier diets.
I'm not in medicine, but that seems weird.
I do, however, have some experience in the world of money management, and can point to an interesting commonality with the medical field. We pay stock brokers a fee every time they buy or sell a security for us, yet countless studies - particulary those in the field of "value" investment (that philosophy practiced by Warren Buffett as a desciple of Benjamin Graham) - show that a "buy and hold" strategy is more appropriate for the investor than buying-and-selling-all-the-time.
Yet, if a broker practices the latter philosophy, she will be paid far less than those who are hopping in and out of stocks, racking up high commissions, and leaving clients with additional short term capital gain payments. That's higher taxes, in plain English.
Why are we paying higher fees to doctors who operate on us than those who keep us healthy, and higher commissions to brokers who buy and sell all the time rather than buy and hold, which, in the case of the vast, vast majority of clients, will result in a higher return on investments?
Hmmmmm. It seems we value people who give us short term solutions to our problems more than those who act in a way that address our long term goals.
We certainly pay them more.
Well, that's all for now. I'm going back to being angry with the current administration for not solving our problems in seven months. What's taking them so long? I want long term solutions -and I want them NOW. Who CARES how much it costs?
Oh, I see now. When I think that way, doctors fees and broker commissions make much more sense.

Wednesday, August 19, 2009

Late Summer Economy

Summer is generally a time when capital markets languish, brokers vacation in the Hamptons, and there is little economic news. That is not the case in the Summer of 2009.
A fierce battle is being fought between the economic interests of those who have monetized health care - the pharmaceutical companies, the health insurers and health care providers like doctors and nurses - and millions of Americans who are teetering on the edge of economic insolvency because of our country's unsustainable rise in the cost of health care. The stakes are undeniably high, as are the emotions of those who argue both sides of the issue.
On one thing we can all agree. To fail to address this issue is to destroy the long term health of our economy.
In addition to that issue, however, we are also emerging from the worst recession since the Great Depression. Because financial markets ceased to function at the end of last year, an enormous amount of money was provided to commercial banks (and investment banks who changed their charters to avail themselves of this money) in order to prevent a financial disaster. This disaster was caused by securitizing and selling the risk of poorly underwritten mortgages, and the sales - and disastrous effects - were worldwide.
This problem began in the late 1990s, with the dissolution of the Glass-Steagall Act, that separated commercial and investment banking. It appears that we expect, however, that this decade long problem-in-the-making is solved immediately.
"What is taking so long?" is the predominant economic question.
We have, apparently, become a nation convinced that there are simple, quick solutions to everything.
We continue to face declines in manufacturing, rising unemployment, plummeting housing prices and a distinct lack of consumer confidence. On the bright side, inflation is almost non-existent, interest rates are at decade lows, and capital markets show unmistakable signs of predicting an end to our recession. We are working on financial reform and the excesses of the past seem, at least for the present, to have subsided.
It's a mixed bag. We will not suddenly pop out of this quagmire in a month or two. That is clear.
It is also clear that we will politicize economic issues. We will criticize the Economic Team, point to rising deficits, scream about banker's bonuses and wonder why we're not back to normal seven months from the inauguration of the new administration.
Yet, not one of these issues is directly relevant.
Rising deficits? Yes. Was there an alternative to a huge cash infusion into the economy? No.
Banker's bonuses? Yes. Are they a significant percentage of the "bailout money?" No.
What, then, should we be discussing?
  1. Financial Regulation - Plug up the holes that caused excesses without unduly burdening the financial system
  2. Long Term Employment Growth Policy - Some jobs, including much manufacturing, are gone forever. Reeducating the work force for long term employment is vital
  3. Deficit Reduction and National Debt Repayment - Once we've stabilized the economy and gotten back to work (in about a year), we need to raise taxes. Yes, we all need to pay more taxes to reduce the current deficit and repay the national debt. It is as big a security issue as reliance on foreign oil.

There you have it. It's not a pretty story, but at least we're talking about the real issues.

As always, your comments are most welcome.

Monday, August 3, 2009

Stagflation and Its Potential to Derail Economic Recovery


We've previously discussed the fact that the current unemployment rate, while high, is not at the level it was in some previous recessions. We've also discussed that unemployment tends to last longer than recession, and is therefore called a "lagging" indicator.

But that's not the whole story. Further research shows that unemployment may actually be behaving differently than it has in past economic recoveries.

In the statistical measurement called "standard deviation," the US is deviating from the standard behavior of unemployment as measured by Arthur Okun, a prominent economist in the 1960s. The relationship he discovered was that between the degree to which the economy contracted and the concurrent rise in unemployment. This relationship, called Okun's Law, had been reasonably reliable - until now. At the current rate of decline in our economy, his calculations show that we should have a current unemployment rate of 8% - not 9.5%. We have lost almost 5% of all jobs - far surpassing the 3% we lost in the 1980s recession when unemployment last reached over 10%.

We previously discussed the fact that, during a recession, employers tend to keep employees at a level that will accommodate the return of growth after the recession ends. It is that "buffer" that results in a delay in hiring, as these employees increase their productivity during the growth phase, eliminating the necessity to add workers until the economic growth trajectory is well under way.

In this recession, however, further examination of employment patterns show that this "buffer" has not been kept. Does this mean that employers, jarred by inability to obtain credit by the frozen financial system, panicked and cut employment more than usual? Perhaps.

But, that does not explain the additional fact that, since 2001, overall hiring has been contracting. During the 1990s, employment expansion was at a rate of 8 workers for every 100 on staff. That expansion dropped to 7 workers per 100 during the 2001 recession. Hiring, however, stayed at that level after the recession was over, and has now fallen to 6/100.

Perhaps a part of this failure to hire can be attributed to
  • A permanent loss of manufacturing and other jobs "outsourced" to countries who can produce goods at a lower cost than the US

  • Less innovation = fewer new businesses. During war time, technology tends to be focused on the war effort as opposed to innovations in the private sector.

  • As aging baby boomers leaving the work force, the total number of workers lessens and unemployment rates appear larger. As an example, with a total work force of 100, if 5 people are unemployed, the unemployment rate is 5%. With a total work force of 90, if 5 people are unemployed, the unemployment rate is 5.5%

Whatever the explanation, there is a big difference between a sustained decrease in hiring, as there has been since the 2001 recession and thereafter, and job losses due to a recession. Jobs lost in economic downturns have historically returned, but only when confidence that economic recovery was well in force.


Some argue that the unemployment problem is partially addressed by the stimulus program. This is only partially true, because government programs aimed at repairing the infrastructure, e.g., roads, bridges, etc., are temporary in nature.


Jobs lost in economic downturns have historically returned only when economic confidence returned to the private sector. Certainly, no employer wants to add workers unless she feels that a sustained recovery is under way.

Sustainable Jobs

The Obama administration has opined that new job growth be in technological advances in green energy, which will address the national security issues of oil imports, the international need to reduce greenhouse gases, and provide a cost effective alternative to depleting international sources of fossil fuels. With the current lack of emphasis in math and science in the educational system, this goal will be difficult to achieve in the short run. Regardless of the source of so-called sustainable jobs, however, it is crucial that job growth be achieved - and soon.

Falling Wages

One need only look at the economic problems in the State of California and publishers like the Boston Globe to see that we are experiencing a period of falling wages. Wages, expected to be flat during periods of recession, are in danger of falling as businesses and municipalities cut expenditures to the bone.

Additional Stimulus

Should unemployment rates continue to fall precipitously, and wages fall as businesses try to survive, the government may be tempted to provide additional stimulus. That, in my opinion, would result in the disastrous recipe for stagflation. Stagflation = Stagnant (or falling) Wages + Inflation.

But, inflation is very low, you may argue. True, but the national debt, approaching $10 trillion dollars, must be repaid. And, as debt is piled on, higher and higher rates must be paid to borrowers who lend us money. Higher rates mean higher cost of borrowing in the public and private sector, which result in higher costs. Higher costs plus stagnant wages = Stagflation.

What Now

The goal of sustainable job growth is an absolutely critical part of the answer. That means that we will need

  • An immediate retooling of our workforce in skills necessary for sustainable jobs

  • Education emphasis on math and science

  • Accommodative policies to encourage investment in sustainable business

  • Immediate policies enacted to reduce deficits

  • Bi-partisan support for such policies to encourage confidence.

The last issue is critical. Without confidence, business will stay stagnant. It's a tall order, and there's an immense economic outcome at stake. Failure to achieve sustainable job growth will result in a more serious long term economic problem than has faced our country to date. It is up to every one of us to voice our opinion to our representatives and demand that action be taken immediately, or accept a generation of economic decline.