Einstein famously defined insanity as doing the same thing over and over and expecting different results. If you had never heard of Einstein's definition, you would only have to look at America for the past 12 years to come up with the same idea.
Evangelical Voters -- The October 28, 2006 edition of the WSJ has a story on the front page about last minute get-out-the-vote campaigns being led by evangelicals encouraging the "faithful" to hold their noses and continue voting for Republicans. (By the way, the Ohio effort is led by a "thrice-married, self-described former pornography addict" who heads, ahem, the Citizens for Community Values, according to the WSJ story. Shocking, I know…) The same Republicans who operated a lobbying and money-laundering machine since 1994 that took money from evangelical groups and in several cases groups with goals diametrically opposed to the evangelicals, did NOTHING for either interest group and enriched themselves and their families with the proceeds. The same Republicans who created a special office of "Faith Based Initiatives" within the White House to coordinate spending of federal dollars on programs operated by predominately conservative / evangelical non-government organizations. (#1) Of course, the deputy director of the program, David Kuo, resigned after two years when he came to the conclusion that the program was provided only enough funding to go through the motions of supporting faith based initiatives to get political benefit from them rather than actually accomplish anything. (#2)
So how will returning these politicians to office encourage them to change their behavior?
Republican Control of the House -- Dennis Hastert's strategy for forcing all Republican members of the House to toe the party line is to require support from a majority of the Republican caucus for any legislation to leave committee for consideration by the full House. With the current 230 / 205 split between Republicans and Democrats (205 included three vacancies to keep the math easy), this practice means that 115 Republicans (26% of the 435 members) can block legislation favored by 320 Representatives. That's a lot of good moderate Republican ideas getting squelched when we need all the ideas we can get.
So how will returning Dennis Hastert and the far-right conservatives who support this scorched earth approach to managing their own party, much less the country, improve the quality of legislation considered in Congress?
Bush on Iraq -- President Bush held a press conference October 26 in an attempt to address public dissatisfaction about Iraq and change the subject. Bush stated our tactics are changing all the time but our goal remains the same. Of course, he has not defined exactly what the goal is and has explicitly ruled out any change in strategy that adds more troops to help stabilize the political / security situation or reduces troops to either reduce sectarian tensions caused by our presence or at least get our troops out of the crossfire. The strategy seems to maintain precisely the wrong amount of troops to accomplish anything. He did however clarify the goal, if we had any doubt. Prevent terrorists from controlling Iraqi oil (which we know is best left to international energy conglomerates). Despite the fact that Saddam Hussein never had any incentive to host Islamic terrorists within Iraq while he was in control because they were as much a threat to him as to our interests.
George Bush has always been big on "messages." Of course, he's always focused on sending them rather than receiving any. So how will retaining a Republican majority help send Bush a "message" that a fundamental change in strategy is immediately required in Iraq?
Republicans Managing Your Tax Dollars -- Republicans still use the "tax and spend Liberal" label to castigate the "Democrat" party. Republicans have done FAR WORSE with your tax dollars in the past six years. The Pentagon has lost over TWENTY ONE BILLION DOLLARS in Iraq, including NINE BILLION IN CASH according to numerous reports on the operation of the Coalition Provisional Authority the United States established to manage post-invasion Iraq. (#3) As the Baltimore Chronicle noted, the ability of Congress to investigate how this money was lost to punish those responsible and prevent it from happening again is virtually non-existent. A signing statement added by Bush when the CPA was established allowed him to categorize any information associated with the CPA's operation as "national security" and therefore unavailable to Congress.
So how will retaining a Republican majority in the House and Senate lead to investigations about who allowed our tax dollars to be squandered instead of being spent on legitimate needs for our troops and protecting our interests?
Republicans Protecting You From Terrorism -- The incompetence displayed by the Bush Administration in running the Iraq war also has a potential direct impact on the threat of terrorism posed to Americans both here and abroad. 60 Minutes ran a story October 19, 2006 on another huge chunk of cash provided by the United States directly to the Iraqi government for the purchase of weapons and material for the Iraqi military. (#4) The spending was controlled by a former used-car dealer (seriously…) and much of it purchased weapons through Jordanian firms without any detailed invoices to identify what if anything was actually delivered. Much of the equipment that was delivered was obsolete, broken-down Russian equipment which proved unusable. At least $500 million worth of gear cannot be found at all. (#5) Virtually all of the officials involved with the procurement have fled Iraq. Given the level of corruption in the Iraqi government, how can the United States be sure we just didn't provide $500 million in cash to groups that will funnel it to terrorists? We can't.
So how will retaining a Republican majority that supported unprecedented domestic surveillance on American citizens improve our ability to track terrorist funding when we deliver truckloads of cash to corrupt Iraqi government officials who have direct ties to Iranian Shi'ite factions who are supporting the insurgency attacking our troops?
Republicans and the Economy -- It isn't the job of Republicans or Democrats to "manage" the economy. However, it is the job of our government to avoid enacting policies which distort market forces in ways which favor segments of the economy at the long term expense of the entire country. Republican control of Congress and the White House resulted in energy legislation which provided billions in tax breaks to energy companies in the name of encouraging oil production and exploration. Those companies were already enjoying record profits and didn't need incentives to find more oil or find better alternatives to oil. Republicans also enacted Medicare legislation which actually protected pharmaceutical companies from market forces that would encourage lower prices by preventing the government from using its buying power to shop for lower prices. The energy bill took money from the treasury and squandered it to boost energy company profits and the Medicare bill assured costs of the program would be far greater than claimed when the costs and funding of the program were considered.
These bills harmed the economy by increasing deficits, putting upward pressure on interest rates and limiting our fiscal flexibility for dealing with future disasters such as wars or natural disasters. They also harmed the economy by interfering with market forces that should be incenting exactly the opposite behavior -- reduced dependency on ALL oil and reduced demand for prescription drugs through more responsible health care decisions by individuals rather than more coverage of overpriced, over-prescribed drugs. As the final coup de grace of financial and generation irresponsibility, these bills also both transfer much of the cost to future generations. Even the head of the Government Accounting Office says the American government is leading the country to financial ruin. (#6)
How will retaining Republican control of Congress stop the deficit spending that is putting ownership of our economy (via T-Bills) in the hands of China and other foreign nations who are our principal competitors in a world market for labor and investment?
==================
In parenting, a teachable moment involves
* a child knowing right from wrong
* a child making a wrong decision that he knows is wrong
* a child being caught by the parent as the wrong decision is made or its consequences become clear
The teachable moment comes from the parent having the opportunity to combine both the consequences of the wrong decision and the guilt of being caught in the act to focus the mind of the child with discipline that drastically reduces the chance of the child making the same mistake again. For lessons ranging from "don't touch the stove" to "don't leave home without telling Mom or Dad", it is a parent's obligation to utilize these teachable moments effectively to prevent the child from making bigger mistakes later on.
I've written several times before that regardless of your party affiliation, when faced with a choice between current Republicans and current Democrats, it's no contest. The policy areas where Democrats are wrong produce nowhere near the damage produced by the policy areas where Republicans are wrong.
As was the case in 2004, the mid-term election of 2006 represents a teachable moment in America. We have a political system in which all of the participants know better yet behave in ways which are systematically and predictably producing bad results for American citizens. In the case of Republicans, only a handful have stated they would not have voted for war given what we know NOW about Iraq and the lack of weapons of mass destruction. This indicates there is no "teachable moment" for these officials. Despite 2811 American deaths, 20,687 American wounded, over 50,000 Iraqi civilian deaths and $338 billion spent, they haven't learned a thing. They are incapable of learning, even on matters of life and death.
American voters also need to recognize that the "teachable moment" isn't limited to Congress and the President. If we fail to change the course of our government by changing control of the House and Senate in the 2006 mid-term elections, the damage to our long term political, economic and moral leadership in the world will speed up, not slow down. At that point, we Americans will soon face our own teachable moment. We knew better yet still voted to maintain the status quo.
The definition of insanity.
=======================
#1) http://www.whitehouse.gov/government/fbci/grants-catalog-index.html
#2) http://www.latimes.com/news/nationworld/nation/la-na-faith13oct13,0,3875008.story?coll=la-home-headlines
#3) http://baltimorechronicle.com/2006/060806Lindorff.shtml
#4) http://www.cbsnews.com/stories/2006/10/19/60minutes/main2109200.shtml
#5) http://www.corpwatch.org/article.php?id=12758
#6) http://news.yahoo.com/s/ap/20061029/ap_on_go_ot/america_the_bankrupt_4
Sunday, October 29, 2006
Wednesday, October 25, 2006
Barack Obama: Ready or Not?
Barack Obama made a big impact in the media in mid-October, including a David Brooks column (Run, Barak, Run), the Charlie Rose show airing 10/19/2006 and Meet The Press airing 10/22/2006. The big story to emerge from the blitz was his statement that he was now considering a run for the Presidency in 2008 where he had previously stated unequivocally he would serve out his first term as Senator.
Wow. (yawn). A Senator who actually is considering running for President. Shocking.
Much of the supportive coverage of the appearances might be best characterized as "The Second Coming" meets "Mr. Smith Goes to Washington." People in this camp view Obama as a rising star destined for greatness coming from nowhere just in time to save the Democratic Party and quite possibly the country from political disaster.
Much of the negative coverage would probably be best characterized as "Mr. 1/3rd Termer" or "Senator Who?". Honestly, Obama really hasn't gotten much if any negative press per se. His non-positive coverage really amounts to benign, somewhat dismissive comments from people who believe a few terms in a State Legislature and two years as Senator provide little from which to extrapolate Presidential readiness. Much worse could be said about someone with obvious Presidential ambitions.
Like everything else boiled down to simplistic old school / new school or left / right dichotomies, the truth is somewhere in the middle, probably a few miles north of center. The buzz generated by Obama says less about his individual communication skills, leadership qualities and policy stances than it does about the depths to which our political process has sunk.
It's All Relative
The Charlie Rose and MTP appearances had distinctly different tones -- Rose was a bit more fawning while Russert was, well, Russert. Obama did exceptionally well on both. Whether viewed as appearances or performances, it only takes five or ten minutes of watching him in an interview to realize he has communication skills that are ideally suited to the current media environment. These skills certainly differentiate him from any of the obvious Democrat competitors and any Republican candidate if any came to mind.
A Tin Ear Versus Perfect Pitch -- Probably the easiest stereotype to stick on Hillary Clinton is her occasional political tin ear for communication. The November 2006 issue of The Atlantic Monthly has a cover story that states Clinton has made amazing progress forging relationships within the Senate and becoming very much a cooperative team player, albeit in support of a very ambitious longer term goal. Her problem is that only 99 other people are likely to appreciate the "New Hillary". The rest of the world will be easily reminded of the "shrill Hillary" famous for comments about baking cookies and Tammy Wynette or attempting to reinvent healthcare behind closed doors. If she can survive that round of negative ads, voters will then be reminded how she had to conduct a "listening tour" in 2000 to convince voters she had a clue about concerns of real New York voters while running for her first term.
In contrast, Obama seems to have perfect political pitch when addressing even the most sensitive of topics. Charlie Rose asked him about his attitudes about religion. Obama doesn't convey a traditional evangelical, fervent faith and he makes no attempt to fake it. In a climate where evangelicals virtually demand profession of a born-again devotion to some deity, that background doesn't exactly scream electability. How does Obama describe his own take on religion and its influence on his public role? Here's an excerpt from his response (see 30:55 in the show):
I didn't grow up in a religious household. I talk about my mother who was an anthropologist so she would take me to church once in a while, then she would take me to the Buddhist monastery then she would take me to a mosque.. Her attitude was that religion was fascinating and an expression of human attempts to understand the mysteries of life but she was never herself particularly religious and that's how I grew up. Respectful, but not part of a religious tradition.
I came into religion through the black church. I think that presented a different model. The black church historically has been a little less judgmental. There's always been the tradition that the line between sinner and saint is a little blurry. The folks that run the juke joint on Saturday night are in church on Sunday. You know, the musics are blending together. There's always been a clear sense of the need for the black church to minister to the whole man and to be an agent for social change not just spiritual change. That I think appealed to me deeply. That's how I came to Christianity.
My sense is we live in an enormously religious country. 90% of people believe in a higher power… Here's the thing. Religious people are far more tolerant than I think the popular culture gives them credit for. Conversely, secularists are far more interested with morality and ethics than the right wing would portray them.
A response that states his own view without sugarcoating ideas that may not be popular while at the same time expressing a positive idea about people on opposite ends of the spectrum looking for extremism in those at the other end. Perfect pitch.
Condescending Versus Inclusive -- Few would debate that Al Gore is an extremely intelligent and articulate politician. Gore also typically did a good job finding phrases and explanations that came across as straightforward and direct to his audience. Gore's problem was that he failed miserably at finding a tone and "meter" to his speech that avoided sounding condescending. The average voter listening to Gore address a serious issue heard a politician ssssslllllooooowwwwiiiinnnnggg doooooowwwwwnnnn his rhythm in a way that made it sound like he was consciously talking down to his audience, almost like a moron who, when told the person he is trying to talk to is deaf, talks louder and slower. If there is one thing American voters hate more than being lied to, it is the feeling of being condescended to. By a politician.
In contrast, Obama never seems to dumb down his vocabulary for the audience, he never begins dropping his g's to sound folksy, and he STOPS TALKING if he's composing a thought on the fly, rather than stretching or spacing out words, or UMM-ing or UUU-ing the audience to death. Most smart politicians come across as someone who believes their ideas and insights are so powerful and unique that us mere mortal voters can't really be expected to understand them and that we just need to trust them because they know the real story and know what's best. Obama seems to come across as someone who believes he may have access to information most of us don't get to see but that it is his job to convey that information to the voters so everyone can make informed decisions about what we should do as a country.
Instinctual Versus Thoughtful -- One theme that has emerged from all of the recent books on the planning and execution of the war in Iraq is that the initial decision to go in and the planning for that invasion constitute the single biggest "faith based initiative" of the Bush presidency. In some sense, the entire Bush presidency started as a faith based initiative. After winning re-election as Texas Governor in a landslide, Bush heard a sermon in a traditional service held the morning of inauguration that he felt called him directly to higher office to lead the country. (#3) The decision certainly wasn't based upon a careful review of the country's problems, opportunities and his unique knowledge and skills. It boiled down to: Hey, I just won re-election in Texas in a landslide, I could probably do the same thing in a Presidential bid. Let's do it.
Obama seems to demonstrate many of the same decision making processes as Bill Clinton. In any conversation about policy, Obama seems capable of not only describing four or five first tier alternatives for a solution but can also take each of those alternatives and follow it through several layers of subsequent decisions and summarize the pros and cons and cons of the pros, etc. As with Clinton, this approach to thinking and communicating may eventually get branded as "slick" or manipulative. However, after seeing the results of our mis-adventure in Iraq, it's likely more voters will be able to appreciate the value of someone who thinks through multiple layers of potential consequences when making big decisions.
Obama on an Absolute Scale
Are communication skills light years ahead of established contenders for President or current Presidents sufficient qualifications for becoming President? Ideally, the answer should be no. In the American political process distorted and corrupted by two flawed political parties, the answer may be yes.
The main criticism of his book and of his recent appearances is that the style is flawless but the substance is lacking -- a legitimate criticism. Cynics in the Democratic Party are happy and cynics in the Republican Party are frustrated for the same reason. A lack of history limits the supply of material for negative ads highlighting the inevitable tough choices between supporting a bill that funds snuggle toys for orphans but earmarks five million dollars for a corn cob museum in a major agricultural state. Or more seriously, a choice between supporting a bill that provides funding for body armor for troops in harm's way but also allocates billions in funds for out-of-control projects handed out on no-bid contracts to corrupt defense contractors.
So if communication and style points are all voters have to go on, is that enough to go on to avoid a disaster in the voting booth? Recent history would seem to say it is. You can't submit to multiple 30 minute or 60 minute interviews, use zero notes or talking points on index cards, and nail every question without having something on the ball. Here's how Obama looked ahead and described his impression of the responsibility of being President:
When you decide to run for President, that's some serious business. I write about in the book my first meeting with President Bush -- I find him a pretty decent person. I think about how he must have felt the morning of September 11. The first attack on US soil and all this information is coming in, nobody knows what's going on, you've got to make all these decisions about how to act. Some of those decisions were good, many of them, Iraq in particular, turned out to be very bad. It makes me mindful of the sense that when you decide to run for President, unlike any other office I think in the country, you are saying to the American people, "I am giving my life to you. That my problems, my issues, my fears, my doubts, my quirks, my idiosyncrasies are not relevant. What's relevant is whether or not I'm making the country safe, giving you more opportunity, making sure your children have a better shot at life." That's not a decision I think you can or should make solely based upon ambition.
Contrast that with this comment from candidate George W Bush, when asked in 1999 by Tim Russert if he had any take at all on Vladmir Putin, leader of a relatively important country, Russia:
I really don't. I will if I'm the President. (#4)
That seems to encapsulate the mental approach of the Bush Presidency. The Just In Time approach to leadership and thought.
When the bar is set that low for serious thought about critical issues facing the country, nearly anyone comes across as a deep thinker. Maybe a better title for Obama's book would have been The Audacity of Competency.
===================
#1) Charlie Rose Appearance: http://video.google.com/videoplay?docid=5456752353400414374
#2) http://www.theatlantic.com/doc/prem/200611/green-hillary
#3) http://www.pbs.org/wgbh/pages/frontline/shows/jesus/president/spirituality.html
#4) The Bush Dyslexicon - Mark Crispin Miller
Wow. (yawn). A Senator who actually is considering running for President. Shocking.
Much of the supportive coverage of the appearances might be best characterized as "The Second Coming" meets "Mr. Smith Goes to Washington." People in this camp view Obama as a rising star destined for greatness coming from nowhere just in time to save the Democratic Party and quite possibly the country from political disaster.
Much of the negative coverage would probably be best characterized as "Mr. 1/3rd Termer" or "Senator Who?". Honestly, Obama really hasn't gotten much if any negative press per se. His non-positive coverage really amounts to benign, somewhat dismissive comments from people who believe a few terms in a State Legislature and two years as Senator provide little from which to extrapolate Presidential readiness. Much worse could be said about someone with obvious Presidential ambitions.
Like everything else boiled down to simplistic old school / new school or left / right dichotomies, the truth is somewhere in the middle, probably a few miles north of center. The buzz generated by Obama says less about his individual communication skills, leadership qualities and policy stances than it does about the depths to which our political process has sunk.
It's All Relative
The Charlie Rose and MTP appearances had distinctly different tones -- Rose was a bit more fawning while Russert was, well, Russert. Obama did exceptionally well on both. Whether viewed as appearances or performances, it only takes five or ten minutes of watching him in an interview to realize he has communication skills that are ideally suited to the current media environment. These skills certainly differentiate him from any of the obvious Democrat competitors and any Republican candidate if any came to mind.
A Tin Ear Versus Perfect Pitch -- Probably the easiest stereotype to stick on Hillary Clinton is her occasional political tin ear for communication. The November 2006 issue of The Atlantic Monthly has a cover story that states Clinton has made amazing progress forging relationships within the Senate and becoming very much a cooperative team player, albeit in support of a very ambitious longer term goal. Her problem is that only 99 other people are likely to appreciate the "New Hillary". The rest of the world will be easily reminded of the "shrill Hillary" famous for comments about baking cookies and Tammy Wynette or attempting to reinvent healthcare behind closed doors. If she can survive that round of negative ads, voters will then be reminded how she had to conduct a "listening tour" in 2000 to convince voters she had a clue about concerns of real New York voters while running for her first term.
In contrast, Obama seems to have perfect political pitch when addressing even the most sensitive of topics. Charlie Rose asked him about his attitudes about religion. Obama doesn't convey a traditional evangelical, fervent faith and he makes no attempt to fake it. In a climate where evangelicals virtually demand profession of a born-again devotion to some deity, that background doesn't exactly scream electability. How does Obama describe his own take on religion and its influence on his public role? Here's an excerpt from his response (see 30:55 in the show):
I didn't grow up in a religious household. I talk about my mother who was an anthropologist so she would take me to church once in a while, then she would take me to the Buddhist monastery then she would take me to a mosque.. Her attitude was that religion was fascinating and an expression of human attempts to understand the mysteries of life but she was never herself particularly religious and that's how I grew up. Respectful, but not part of a religious tradition.
I came into religion through the black church. I think that presented a different model. The black church historically has been a little less judgmental. There's always been the tradition that the line between sinner and saint is a little blurry. The folks that run the juke joint on Saturday night are in church on Sunday. You know, the musics are blending together. There's always been a clear sense of the need for the black church to minister to the whole man and to be an agent for social change not just spiritual change. That I think appealed to me deeply. That's how I came to Christianity.
My sense is we live in an enormously religious country. 90% of people believe in a higher power… Here's the thing. Religious people are far more tolerant than I think the popular culture gives them credit for. Conversely, secularists are far more interested with morality and ethics than the right wing would portray them.
A response that states his own view without sugarcoating ideas that may not be popular while at the same time expressing a positive idea about people on opposite ends of the spectrum looking for extremism in those at the other end. Perfect pitch.
Condescending Versus Inclusive -- Few would debate that Al Gore is an extremely intelligent and articulate politician. Gore also typically did a good job finding phrases and explanations that came across as straightforward and direct to his audience. Gore's problem was that he failed miserably at finding a tone and "meter" to his speech that avoided sounding condescending. The average voter listening to Gore address a serious issue heard a politician ssssslllllooooowwwwiiiinnnnggg doooooowwwwwnnnn his rhythm in a way that made it sound like he was consciously talking down to his audience, almost like a moron who, when told the person he is trying to talk to is deaf, talks louder and slower. If there is one thing American voters hate more than being lied to, it is the feeling of being condescended to. By a politician.
In contrast, Obama never seems to dumb down his vocabulary for the audience, he never begins dropping his g's to sound folksy, and he STOPS TALKING if he's composing a thought on the fly, rather than stretching or spacing out words, or UMM-ing or UUU-ing the audience to death. Most smart politicians come across as someone who believes their ideas and insights are so powerful and unique that us mere mortal voters can't really be expected to understand them and that we just need to trust them because they know the real story and know what's best. Obama seems to come across as someone who believes he may have access to information most of us don't get to see but that it is his job to convey that information to the voters so everyone can make informed decisions about what we should do as a country.
Instinctual Versus Thoughtful -- One theme that has emerged from all of the recent books on the planning and execution of the war in Iraq is that the initial decision to go in and the planning for that invasion constitute the single biggest "faith based initiative" of the Bush presidency. In some sense, the entire Bush presidency started as a faith based initiative. After winning re-election as Texas Governor in a landslide, Bush heard a sermon in a traditional service held the morning of inauguration that he felt called him directly to higher office to lead the country. (#3) The decision certainly wasn't based upon a careful review of the country's problems, opportunities and his unique knowledge and skills. It boiled down to: Hey, I just won re-election in Texas in a landslide, I could probably do the same thing in a Presidential bid. Let's do it.
Obama seems to demonstrate many of the same decision making processes as Bill Clinton. In any conversation about policy, Obama seems capable of not only describing four or five first tier alternatives for a solution but can also take each of those alternatives and follow it through several layers of subsequent decisions and summarize the pros and cons and cons of the pros, etc. As with Clinton, this approach to thinking and communicating may eventually get branded as "slick" or manipulative. However, after seeing the results of our mis-adventure in Iraq, it's likely more voters will be able to appreciate the value of someone who thinks through multiple layers of potential consequences when making big decisions.
Obama on an Absolute Scale
Are communication skills light years ahead of established contenders for President or current Presidents sufficient qualifications for becoming President? Ideally, the answer should be no. In the American political process distorted and corrupted by two flawed political parties, the answer may be yes.
The main criticism of his book and of his recent appearances is that the style is flawless but the substance is lacking -- a legitimate criticism. Cynics in the Democratic Party are happy and cynics in the Republican Party are frustrated for the same reason. A lack of history limits the supply of material for negative ads highlighting the inevitable tough choices between supporting a bill that funds snuggle toys for orphans but earmarks five million dollars for a corn cob museum in a major agricultural state. Or more seriously, a choice between supporting a bill that provides funding for body armor for troops in harm's way but also allocates billions in funds for out-of-control projects handed out on no-bid contracts to corrupt defense contractors.
So if communication and style points are all voters have to go on, is that enough to go on to avoid a disaster in the voting booth? Recent history would seem to say it is. You can't submit to multiple 30 minute or 60 minute interviews, use zero notes or talking points on index cards, and nail every question without having something on the ball. Here's how Obama looked ahead and described his impression of the responsibility of being President:
When you decide to run for President, that's some serious business. I write about in the book my first meeting with President Bush -- I find him a pretty decent person. I think about how he must have felt the morning of September 11. The first attack on US soil and all this information is coming in, nobody knows what's going on, you've got to make all these decisions about how to act. Some of those decisions were good, many of them, Iraq in particular, turned out to be very bad. It makes me mindful of the sense that when you decide to run for President, unlike any other office I think in the country, you are saying to the American people, "I am giving my life to you. That my problems, my issues, my fears, my doubts, my quirks, my idiosyncrasies are not relevant. What's relevant is whether or not I'm making the country safe, giving you more opportunity, making sure your children have a better shot at life." That's not a decision I think you can or should make solely based upon ambition.
Contrast that with this comment from candidate George W Bush, when asked in 1999 by Tim Russert if he had any take at all on Vladmir Putin, leader of a relatively important country, Russia:
I really don't. I will if I'm the President. (#4)
That seems to encapsulate the mental approach of the Bush Presidency. The Just In Time approach to leadership and thought.
When the bar is set that low for serious thought about critical issues facing the country, nearly anyone comes across as a deep thinker. Maybe a better title for Obama's book would have been The Audacity of Competency.
===================
#1) Charlie Rose Appearance: http://video.google.com/videoplay?docid=5456752353400414374
#2) http://www.theatlantic.com/doc/prem/200611/green-hillary
#3) http://www.pbs.org/wgbh/pages/frontline/shows/jesus/president/spirituality.html
#4) The Bush Dyslexicon - Mark Crispin Miller
Saturday, October 21, 2006
The Prison-Industrial Complex
The State of California recently announced it will expand utilization of corporate corrections firms to handle the growing number of inmates in its state prison systems. (#1) The decision by Governor Schwarzenegger seems to embody much of the flawed thinking about the obligations of government and fantasies of solving public problems with corporate efficiency. Critics of the practice have already coined a term for the concept: The Prison-Industrial Complex.
Punishment for Profit
Unlike ANY other responsibility of government to meet public needs, the idea of outsourcing law enforcement and (ahem) "corrections" functions to private firms is completely inappropriate. That's because unlike many of the other things government often provides for public benefit such as roads, schools, libraries and parks which are figuratively "goods", law enforcement and corrections would be better termed as "bads" or at least necessary evils of a civil society. No want wants more police or prisons, we only provide them in response to the need.
Outsourcing corrections to private firms creates an incentive for those firms to increase profits. If you build and operate prisons, how do you possibly improve profits? You handle more volume by building larger prisons or you improve margins on those you already house by cutting costs. We certainly don't WANT more prisons and there is a floor beneath which incarceration costs cannot drop without violating inmates' human rights.
If you firmly believe that inmates shouldn't be coddled with cable TV, work out facilities that put Gold's Gym to shame or law libraries that allow them to obtain a law degree then file endless appeals and clog the court systems, well, I'd agree with you. However, the emergence of ultra high-security, ultra-lockdown prisons hasn't really eliminated the major problem with corrections policies in the United States -- the fact that most inmates LEAVE prison with far more violent tendencies than when they entered. Essentially, our state and federal prisons have become centers of higher learning for gang members who specializing in the most damaging forms of crime in the country, drug distribution and murder.
If one assumes that these corporate firms won't be able to stimulate demand for more cells to increase profits, they are likely to focus on costs per inmate, either in funds spent per prisoner or by lower wages for guards, wardens, etc. The result is almost guaranteed to be that corporate prisons will operate using "lock-down" practices common at existing high-security prisons. Again, however, this has been proven to be ineffective in stopping "in-house" communication between prisoners and certainly eliminates the chance of inmates getting any "correction" while incarcerated.
The Moral Hazard of Outsourcing Corrections
If the society under a particular government entity is viewed as a virtual "factory" that produces good things overall, criminals in that society might (in a very crass sense) be considered an "effluent" from that factory. It might not be possible to operate the factory with zero "pollution" but it is certainly the society's obligation to minimize that pollution to the extent possible. Outsourcing prisons to private firms and especially firms operating in other states or jurisdictions produces a moral hazard that essentially masks the true cost of handling the problem, lessening the likelihood the problem will be corrected at the root.
Consider the impact of drug laws and the inequities in their application in the United States. If you get arrested for drunk driving and happen to have money or power (Mel Gibson, Paris Hilton, Patrick Kennedy, etc.), you make an appearance on a talk show, spend a week or two at the Betty Ford clinic (or not…) and pay a fine. If you get arrested for drug possession (Robert Downy Junior, Scott Weiland, Rush Limbaugh, etc.) even several times, you make a few talk show appearances, check in at a rehab clinic, and all is forgotten. If you are middle class and your child does any of these things, you send them off to rehab and counseling courtesy of your (albeit expensive) health care benefits from work.
Do those same things and commit the additional offense of being poor or without healthcare insurance and you are on your own against the full weight of the entire United States system of justice. FOR THE SAME THING. If it is just and cost-effective to spend $15,000 on drug rehab for your suburban teenager who tried pot or ecstasy a few times, why is it not cost-effective to try the same treatment for someone in the inner city with an absentee parent and a much tougher situation than your spoiled brat? It has to be cheaper than $40,000 per year in San Quentin, right?
Even if immmediate costs of incarceration are cheaper on an outsourced basis, are they truly any less expensive in the long term? The money shipped out of state to a corporate corrections firm would likely be better spent on programs in local schools and expanded police patrols to allow problems with teens, etc. to be caught earlier before they advance into more violent or damaging crimes. Attempting to save money on prison costs is really an attempt to optimize the wrong variable in the problem. Once the practice begins, the corporations profiting from the flawed policy will make it very difficult to change course.
Externalizing Consequences of Poor State Policies
The flip side to the moral hazard of a state outsourcing its prison population to locations outside the state lies in the eventual release of those inmates. Let's assume that cheap land and low labor costs in Mississippi or Georgia lead to a boom of corporate prison construction in those states. Given the high recidivism rate of inmates returned to society, one hundred thousand California inmates leaving California to wait out a prison term in Mississippi or Georgia won't all return to their neighborhoods in California after serving their time. A large percentage will likely stay in Mississippi or Georgia. Again, many of these prisoners won't be pickpockets or embezzlers, at least when they get OUT of prison. Is this the kind of risk states are willing to pay for a few jobs and tax revenue on the real estate of a corporate prison?
If you live in a state with cheap land and/or low wages, do you really want to see prisoners imported on a wholesale basis from large cities, incarcerated in giant institutions of advanced criminal training, THEN RELEASED in your community? This is exactly analogous to having other states operate nuclear power plants in their state for cheaper electricity then storing the spent fuel in your backyard. Maybe that state needing the electricity should find ways to conserve energy or promote alternatives rather than storing their toxic waste in your community. The same principle applies to criminals. California and other states pursuing corporate corrections should focus more on creating fewer criminals rather than exporting their problem to other states.
The United States has among the highest incarceration rates of any industrialized nation in the world. Is outsourcing prisons to Corporate America really the best idea we have for addressing the problem?
====================
#1) http://news.yahoo.com/s/ap/20061021/ap_on_re_us/california_prisons
Punishment for Profit
Unlike ANY other responsibility of government to meet public needs, the idea of outsourcing law enforcement and (ahem) "corrections" functions to private firms is completely inappropriate. That's because unlike many of the other things government often provides for public benefit such as roads, schools, libraries and parks which are figuratively "goods", law enforcement and corrections would be better termed as "bads" or at least necessary evils of a civil society. No want wants more police or prisons, we only provide them in response to the need.
Outsourcing corrections to private firms creates an incentive for those firms to increase profits. If you build and operate prisons, how do you possibly improve profits? You handle more volume by building larger prisons or you improve margins on those you already house by cutting costs. We certainly don't WANT more prisons and there is a floor beneath which incarceration costs cannot drop without violating inmates' human rights.
If you firmly believe that inmates shouldn't be coddled with cable TV, work out facilities that put Gold's Gym to shame or law libraries that allow them to obtain a law degree then file endless appeals and clog the court systems, well, I'd agree with you. However, the emergence of ultra high-security, ultra-lockdown prisons hasn't really eliminated the major problem with corrections policies in the United States -- the fact that most inmates LEAVE prison with far more violent tendencies than when they entered. Essentially, our state and federal prisons have become centers of higher learning for gang members who specializing in the most damaging forms of crime in the country, drug distribution and murder.
If one assumes that these corporate firms won't be able to stimulate demand for more cells to increase profits, they are likely to focus on costs per inmate, either in funds spent per prisoner or by lower wages for guards, wardens, etc. The result is almost guaranteed to be that corporate prisons will operate using "lock-down" practices common at existing high-security prisons. Again, however, this has been proven to be ineffective in stopping "in-house" communication between prisoners and certainly eliminates the chance of inmates getting any "correction" while incarcerated.
The Moral Hazard of Outsourcing Corrections
If the society under a particular government entity is viewed as a virtual "factory" that produces good things overall, criminals in that society might (in a very crass sense) be considered an "effluent" from that factory. It might not be possible to operate the factory with zero "pollution" but it is certainly the society's obligation to minimize that pollution to the extent possible. Outsourcing prisons to private firms and especially firms operating in other states or jurisdictions produces a moral hazard that essentially masks the true cost of handling the problem, lessening the likelihood the problem will be corrected at the root.
Consider the impact of drug laws and the inequities in their application in the United States. If you get arrested for drunk driving and happen to have money or power (Mel Gibson, Paris Hilton, Patrick Kennedy, etc.), you make an appearance on a talk show, spend a week or two at the Betty Ford clinic (or not…) and pay a fine. If you get arrested for drug possession (Robert Downy Junior, Scott Weiland, Rush Limbaugh, etc.) even several times, you make a few talk show appearances, check in at a rehab clinic, and all is forgotten. If you are middle class and your child does any of these things, you send them off to rehab and counseling courtesy of your (albeit expensive) health care benefits from work.
Do those same things and commit the additional offense of being poor or without healthcare insurance and you are on your own against the full weight of the entire United States system of justice. FOR THE SAME THING. If it is just and cost-effective to spend $15,000 on drug rehab for your suburban teenager who tried pot or ecstasy a few times, why is it not cost-effective to try the same treatment for someone in the inner city with an absentee parent and a much tougher situation than your spoiled brat? It has to be cheaper than $40,000 per year in San Quentin, right?
Even if immmediate costs of incarceration are cheaper on an outsourced basis, are they truly any less expensive in the long term? The money shipped out of state to a corporate corrections firm would likely be better spent on programs in local schools and expanded police patrols to allow problems with teens, etc. to be caught earlier before they advance into more violent or damaging crimes. Attempting to save money on prison costs is really an attempt to optimize the wrong variable in the problem. Once the practice begins, the corporations profiting from the flawed policy will make it very difficult to change course.
Externalizing Consequences of Poor State Policies
The flip side to the moral hazard of a state outsourcing its prison population to locations outside the state lies in the eventual release of those inmates. Let's assume that cheap land and low labor costs in Mississippi or Georgia lead to a boom of corporate prison construction in those states. Given the high recidivism rate of inmates returned to society, one hundred thousand California inmates leaving California to wait out a prison term in Mississippi or Georgia won't all return to their neighborhoods in California after serving their time. A large percentage will likely stay in Mississippi or Georgia. Again, many of these prisoners won't be pickpockets or embezzlers, at least when they get OUT of prison. Is this the kind of risk states are willing to pay for a few jobs and tax revenue on the real estate of a corporate prison?
If you live in a state with cheap land and/or low wages, do you really want to see prisoners imported on a wholesale basis from large cities, incarcerated in giant institutions of advanced criminal training, THEN RELEASED in your community? This is exactly analogous to having other states operate nuclear power plants in their state for cheaper electricity then storing the spent fuel in your backyard. Maybe that state needing the electricity should find ways to conserve energy or promote alternatives rather than storing their toxic waste in your community. The same principle applies to criminals. California and other states pursuing corporate corrections should focus more on creating fewer criminals rather than exporting their problem to other states.
The United States has among the highest incarceration rates of any industrialized nation in the world. Is outsourcing prisons to Corporate America really the best idea we have for addressing the problem?
====================
#1) http://news.yahoo.com/s/ap/20061021/ap_on_re_us/california_prisons
Wednesday, October 18, 2006
Looking Back on the War in Iraq
Unless your postal address is 1600 Pennsylvania Avenue, it would seem pretty obvious at this point that the United States and our allies in the Coalition of the Willing have lost the Iraq war. The only real question at this point would seem to be this: When historians have adequate time to review all of the facts about the war, which date will they use as the official end of the war? Which date best signifies when the magnitude of the disaster should have been clear?
For starters, October 18, 2006 would be a pretty logical date as a milestone. On one day, all of the following stories appeared about the war:
Of course, not everyone prefers milestones based on cold hard facts. Some prefer more visual, symbolic mileposts. For those like Cheney, Rumsfeld, Kissinger and others who get misty eyed thinking back to the victory that could have been in Vietnam, maybe a better date might be June 28, 2004. No, that's not the date we were scheduled to hand over "sovereignty" to a grateful, prosperous and peaceful Iraqi people. No, that was June 30, 2004.
June 28 was the date Paul Bremer secretely flew out of Baghdad, two days ahead of the scheduled date, to avoid getting bombed out of the sky by insurgents. If only the Pentagon had planned the war as carefully as Bremer's stately, dignified exit. No limousine motorcade from the CPA headquarters out of the Green Zone through streets lined with smiling, waving, thankful Iraqis to Baghdad airport onto a big shiny US government plane. Instead, Bremer made a final speech in front of the press in front of a C-130 transport plane, boarded the plane, let the press trickle away, then snuck off the C-130, shuttled to another corner of the airport then boarded a transport helicopter that flew him out of the country.
Kinda makes you nostalgic for that footage of the last helicopter leaving the embassy in South Vietnam, doesn't it?
Of course, my personal preference for the official date of the end of the Iraq war would be the date on which the body of the last American killed in action in Iraq is flown from Iraq, brought to Dover AFB, then brought to its final resting place. I know exactly who I want in the honor guard escorting that last honorable soldier of the conflict every inch of the way from the battlefield to Arlington.
George Bush, Richard Cheney, Donald Rumsfeld, Douglas Fieth, Paul Wolfowitz, Condoleeza Rice and George Tenet.
They have worked so long, so tirelessly and so devotedly to this cause, I just know that they, more than any other Americans, would see the need to "stay the course" and participate in this "victory" until the very end.
The very bitter end.
For starters, October 18, 2006 would be a pretty logical date as a milestone. On one day, all of the following stories appeared about the war:
U.S. October Death Toll in Iraq Reaches 70 -- From the story, October 2006 is on track to become the deadliest month for US forces in two years and Iraqi civilians are being killed at the rate of 43 per day.
http://news.yahoo.com/s/ap/20061018/ap_on_re_mi_ea/iraq_061016170382
3 Marines Referred to Courts-Martial in Iraqi Murder Case -- Three of seven members of the 101st Airborne will be tried in the case of a kidnapping and murder a 52-year old man in April 2006.
http://www.mercurynews.com/mld/mercurynews/news/local/states/
california/northern_california/15790602.htm
Iraq's Premier in Talks with Key Shi'ite -- Our (current) man in Baghdad has resorted to pleading for help from the leading militant Shi'ite militia leader, Muqtada al-Sadr to help quell the violence within Iraq. For those of you confused about who the bad guys are in Iraq, this can be really complicated to follow. al-Sadr was a BAD guy when US troops were fighting to clear Shi'a insurgents from Sadr City, a district in northern Baghdad that is home to 2 million Shi'as . Sadr City is named after al-Sadr but used to be named Saddam City, another bad guy who is still a bad guy. Al-Sadr is still not a good guy but he's apparently not a bad enough bad guy to ignore when Iraqi and American forces can't keep the streets clear of exploding cars and dead civilians.
http://www.mercurynews.com/mld/mercurynews/news/special_packages/
iraq/15790576.htm
Rumsfeld OKs Plan to Recall Battalions -- From the story, WASHINGTON Oct 18, 2006 (AP)— The Marines plan to send back to Iraq at least some reserve combat battalions that have already served one tour there, officials said Wednesday the first time such units would be returned to the war.
http://abcnews.go.com/Politics/wireStory?id=2582907&CMP=OTC-RSSFeeds0312
Of course, not everyone prefers milestones based on cold hard facts. Some prefer more visual, symbolic mileposts. For those like Cheney, Rumsfeld, Kissinger and others who get misty eyed thinking back to the victory that could have been in Vietnam, maybe a better date might be June 28, 2004. No, that's not the date we were scheduled to hand over "sovereignty" to a grateful, prosperous and peaceful Iraqi people. No, that was June 30, 2004.
June 28 was the date Paul Bremer secretely flew out of Baghdad, two days ahead of the scheduled date, to avoid getting bombed out of the sky by insurgents. If only the Pentagon had planned the war as carefully as Bremer's stately, dignified exit. No limousine motorcade from the CPA headquarters out of the Green Zone through streets lined with smiling, waving, thankful Iraqis to Baghdad airport onto a big shiny US government plane. Instead, Bremer made a final speech in front of the press in front of a C-130 transport plane, boarded the plane, let the press trickle away, then snuck off the C-130, shuttled to another corner of the airport then boarded a transport helicopter that flew him out of the country.
Kinda makes you nostalgic for that footage of the last helicopter leaving the embassy in South Vietnam, doesn't it?
Of course, my personal preference for the official date of the end of the Iraq war would be the date on which the body of the last American killed in action in Iraq is flown from Iraq, brought to Dover AFB, then brought to its final resting place. I know exactly who I want in the honor guard escorting that last honorable soldier of the conflict every inch of the way from the battlefield to Arlington.
George Bush, Richard Cheney, Donald Rumsfeld, Douglas Fieth, Paul Wolfowitz, Condoleeza Rice and George Tenet.
They have worked so long, so tirelessly and so devotedly to this cause, I just know that they, more than any other Americans, would see the need to "stay the course" and participate in this "victory" until the very end.
The very bitter end.
Sunday, October 15, 2006
Trends In Business / Technology Development
Some key observations about the future of innovation and technology in American business practically leap out of headlines from the week of October 8, 2006. First, the news, then the observations.
Bookends of the Outsourcing Trend
The stories about IBM and InfoSys make interesting bookends. Free market theorists would argue IBM and countless other American firms outsourcing domestic technology jobs to India, China and other low-wage countries are simply following the law of supply and demand. These other countries are producing workers of equal quality who work for wages substantially lower than their American counterparts. If IBM didn't take advantage of cheaper labor, its competitors would, eventually jeopardizing all of IBM's jobs. That's the theory, anyway.
What about the reality? High-bandwith internet connectivity obviously enables calls to be delivered anywhere on the planet for functions like tech support and allows emails, data and images to be shared in real time for collaboration and round-the-clock development. However, the quality of the business information and goals provided by the domestic firm to the outsourcer and the quality of the services coming back are not as clear. Firms like Dell Computer which depend upon call center functions have already determined that foreigners who speak impeccable English (possibly better English than some Americans) may still not understand customers and provide acceptable service. If English to English idiomatic language barriers exist when trying to talk a customer through the process of running a diagnostic on a server or shipping a defective part back for replacement, can you image the barriers in trying to communicate complex business processes that are being automated in an expensive ERP application or a customer self-care web site?
Anyone working in Information Technology or Engineering roles has no need to imagine such communication gaps. They already deal with them every day in corporate America and those gaps are likely fueling much of the outsourcing. Hardware and software in the 1980s developed rapidly but mainly by improvements in memory and sheer speed. Someone who DID technical work in 1983 would still recognize all of the paradigms and challenges involved if they were MANAGING technical work ten years later. The adoption of Internet based models for developing and running systems changed design paradigms from 1994 to about 1998. Once the first round of lessons were learned about the difficulty of developing and running web software at scale, an entire new generation of frameworks were developed (J2EE, ASP/.Net / AJAX) and have become commonplace. However, that means most mid-level managers and executives in Information Technology are now two technical generations removed from technical solutions they understand and with which they have hands-on familiarity.
Managers operating in this generational gap are prone to making mistakes in two areas. First, they often fail to understand how the flexibility of the technology allows systems to change much more rapidly than in the past. This is a double-edged sword. On one hand, the systems can adapt to changes much more quickly. On the other hand, they HAVE to change much more frequently because all the systems they integrate with are changing rapidly as well. To keep ahead of this curve, developers need to be close to the users and customers of the system to more quickly understand areas needing improvement without waiting for lengthy, obtuse documentation to be written. Outsourcing development to workers outside the company (whether domestic or off-shore) breaks this direct link between the user community and developers.
The other problem posed by the generation gap is the fixation on the cost of the development work versus the cost of inefficient "requirements" analysis that drives the development work. For every dollar saved by finding cheaper labor to do the final low-level technical work, it is likely in many scenarios that a matching dollar is being spent on convoluted requirements gathering, "use case analysis", and negotiations for contract terms and change requests. Highly profitable for outsourcers like InfoSys in India. Not so productive for the firms outsourcing the work.
Long Term Concerns With Outsourcing
For outsourcing to be effective, a firm must be able to describe in tremendous, mind-numbing detail EXACTLY what it wants the outsourcer to accomplish. The detail is required not only for contractual clarity to ensure avenues of recourse are available if the outsourcing firm fails to deliver but to ensure the requirements are clearly understood. Outsourcing relies on treating every layer of a project as a completely independent, isolated, well-defined black box so that any "resource" can be found to read the requirements for the contents of that box and produce it without knowing ANYTHING about ANYTHING else in the product being developed.
This approach would be similar to a buyer contracting to build a $1,000,000 custom home using a contractor who plans on subcontracting the assembly of the house down to the 2x4 and nail. Every detail of the house design must be specified down to the nail because the guy nailing the 2x4s in the wall between the kitchen and dining room will be different than the guy nailing the sheathing on the roof. It's technically possible to build a house this way but there is a tradeoff between the cost of a more traditional approach versus the cost of preparing specifications down to this level of detail.
The same problem applies to virtually all work performed by outsourcers (domestic or off-shore). The problem can actually grow more complicated as outsourcing takes root because the more technical resources you lay off within the firm, the fewer permanent employees you have to write the requirements documents that are detailed enough to state your needs so you don't pay for work that doesn't solve the problem because the requirements weren't correct. If you hire contractors to write your business requirements to hand to outsourced workers, you will pay a premium for the contract labor over regular full-time employee wages and all of the expertise about your core business will lie outside your firm where it can (and will) be sold by the same consultants to your competitors in your industry. In effect, you'll pay a premium to share any intellectual property you have with your entire industry. I wonder how astute board members might react when THAT outcome of outsourcing is explained.
A Case Study in Business Development
The YouTube portal simplified video sharing on the web by:
* providing simple video file upload tools for users
* mediating between different video formats / codecs
* providing a tagging scheme to categorize and search for content
* providing a message board function for users to provide comments on videos
* providing the actual hosting storage for the content for free
So exactly what was it about YouTube that made it an attractive acquisition at $1.65 billion? Google is already the master at search engine content, Google already hosts one of the biggest blog engines (www.blogspot.com) that provides content hosting and discussion board-like functions. Google already hosts and searches video and image content. There's no single component of the YouTube portal that can be protected by patent or trade secrets. Can a URL really be worth the $1.53 billion premium over YouTube's actual start-up cost?
YouTube's founders appeared on Charlie Rose a few weeks before the sale and explained how the company was founded and grew. The two founders attended a neighborhood party with friends and heard people who had bought new digital camcorders complain about how difficult it was to share videos with friends and family due to differing video formats, etc. The company was founded around February 2005 with about $6 million in venture capital. By the time the portal was live and on the public's radar, the company had still only spent about $12 million.
Google attracts some of the sharpest talent in software development and web site operations on the planet. By agreeing to hand over $1.65 billion in stock, is Google's management already telegraphing to the world they don't think their engineering staff could replicate the YouTube experience for less than $1.65 billion when YouTube only spent $12 million? Google has only been public for two years but it appears its management has already reverted to using the strategies of a much more sclerotic "old economy" company.
Google shareholders would be well advised to look back at Cisco Systems' track record in the 1990s of spending its stock to grow its product line by acquisition. Cisco certainly remained profitable but took a HUGE correction in its stock price after the weight of a long serious of expensive acquisitions hit the bottom line. Like Google's purchase of YouTube, Cisco used its stock as currency in most of its transactions which preserved cash but still diluted shares of existing stockholders considerably. If the acquisition really doesn't produce the value promised or distracts the combined firm, the deal can spell problems for shareholders.
In addition to the dangers of dilution to existing shareholders, business development by acquisition poses other risks as well. A firm focusing on external acquisitions instead of internal development assumes it will always be successful in acquiring a firm that creates a technology it needs or a technology that threatens its business. Bid too low and the target could stay independent or take a better offer. Bid too high and you'll get the target but dilute shareholder value. You might also bid too high and convince the target they really have something of value and convince them to stay independent and use their product to hurt your business.
Why Not Outsource Management, Marketing and Finance?
If one truly believes in a global market for talent and low wages, why should the market only apply to technology jobs? One thing that distinguishes technical work from other areas is that results can typically be directly measured and quantified and boiled down to a bottom line spreadsheet analysis. The new iPod either plays songs or it doesn't. The new call center in India either reduces average call time to 360 seconds from 390 seconds and call cost from $6.50 to $3.00 or it doesn't. Yields at the new plant either reached 3000 chips per wafer or they didn't.
The output of a CEO or CFO or CMO and their staffs is, of course, much harder to quantify (smirk). According to business school, they make decisions based upon highly complicated interactions between changing customer preferences, changing macroeconomic conditions, a changing regulatory environment, changing interest rates, etc. Of course, none of these caveats apply when the firm's stock does well --- when things are going great every executive claims to be "totally accountable" and wants to be measured by nothing except the stock price. Especially when flooded with millions of dollars in back-dated options guaranteed to be "in the money" unless the CEO tanks the company.
Anyone working in most of the Fortune 500 companies in America knows how corporate decisions really get made. Someone has an idea, someone makes an assumption about the revenue or "units" that idea will produce and a bogus attempt to formulate a business case to "quantify" the numbers previously assumed is made. The process is much like the process used in a freshman chemistry lab to produce data that proves PV = nRT when your real lab data didn't add up. The only difference is that in modern business, no one really "knows" the end formula being proven, they just think they do. After pencil whipping the business case, word comes down from the mountain to the minions and the project is approved. The minions then spend an inordinate amount of time using poorly defined strategies to meet what are often unachievable goals.
The process normally ends with maybe one of ten attempts producing something of value. Of course, the executives and bean counters are watching all the dollars spent on the projects and many of the hard, quantifiable dollars involve the actual technical work. When the project is late because of poor business requirements or it fails because of poor market research, the executives home in on the poor returns and begin trying to find cheaper ways to do the technical work.
Given the success rate of most product development efforts, exactly what is preventing the management, marketing and finance work supporting it from being outsourced as well? The typical 5 to 10 percent success rate in product development typically isn't due to absolute technical failures. Products typically don't fail because they didn't "work" as designed, they fail because no one wanted the product the firm's executives decided to make. Given that track record, how could off-shore, outsourced executives in these fields do any worse? With fewer lavishly compensated executives, maybe the firm could focus on customers more effectively using in-house talent rather than saving enough money through off-shoring to cover the costs of back-dated options and earnings restatements and defense attorneys.
=================
#1) http://www.chicagotribune.com/business/chi-0610130199oct13,0,2814322.story?coll=chi-business-hed
#2) http://www.forbes.com/business/healthcare/feeds/ap/2006/10/15/ap3092145.html
#3) http://www.informationweek.com/showArticle.jhtml?articleID=193105453
#4) http://msnbc.msn.com/id/15238129/
#5) http://www.forbes.com/home/feeds/afx/2006/10/11/afx3081724.html
#6) http://www.taipeitimes.com/News/worldbiz/archives/2006/10/11/2003331337
Fall Housecleaning in Corporate America -- A handful of companies, including CNET, McAffee, Apple Computer and United Healthcare, are frantically considering the removal of CEOs, CFOs, or board members or looking for replacements for those that have recently resigned or have been terminated due to back-dated options. The companies are facing pressure to confirm the impact to current and past financial statements to avoid potential penalties under SOX requirements. (#1, #2)
IBM Cuts 400 Jobs On A Core, Profitable Product -- The news story from Information Week pretty much says it all: IBM is quietly laying off about 400 U.S.-based engineers who have been working on the development of components for one of the technology giant's most important hardware products, according to sources familiar with the company's plans. The memo doesn't specify whether the work performed at the affected facilities will be moved elsewhere. However, IBM has publicly stated its intention to invest $6 billion over the next three years developing its high-tech workforce in India. Engineers and programmers in India are paid less than half of what their U.S. counterparts earn. IBM officials weren't immediately available for comment. (#3)
IBM Relocates Procurement Department to China -- Though claiming none of its domestic 2500 employees would be affected, IBM decided to relocate its headquarters to Schenzen, China where a growing number of component manufacturers have located as China encourages firms to move further inland. (#4)
Indian IT Outsourcing Firm InfoSys Announces 52% Net Profit Growth -- InfoSys added 10,795 jobs to support work for an additional 42 American firms. InfoSys now has a total of 66,150 employees. (#5)
Google Purchases YouTube -- A company founded by two men with only $6 million in cash becomes the most popular web site for video sharing in 21 months. The company has yet to turn a profit and has yet to prove it has a viable business model that can placate the potential copyright issues involving much of its content but is acquired for $1.65 billion in Google stock. (#6)
Bookends of the Outsourcing Trend
The stories about IBM and InfoSys make interesting bookends. Free market theorists would argue IBM and countless other American firms outsourcing domestic technology jobs to India, China and other low-wage countries are simply following the law of supply and demand. These other countries are producing workers of equal quality who work for wages substantially lower than their American counterparts. If IBM didn't take advantage of cheaper labor, its competitors would, eventually jeopardizing all of IBM's jobs. That's the theory, anyway.
What about the reality? High-bandwith internet connectivity obviously enables calls to be delivered anywhere on the planet for functions like tech support and allows emails, data and images to be shared in real time for collaboration and round-the-clock development. However, the quality of the business information and goals provided by the domestic firm to the outsourcer and the quality of the services coming back are not as clear. Firms like Dell Computer which depend upon call center functions have already determined that foreigners who speak impeccable English (possibly better English than some Americans) may still not understand customers and provide acceptable service. If English to English idiomatic language barriers exist when trying to talk a customer through the process of running a diagnostic on a server or shipping a defective part back for replacement, can you image the barriers in trying to communicate complex business processes that are being automated in an expensive ERP application or a customer self-care web site?
Anyone working in Information Technology or Engineering roles has no need to imagine such communication gaps. They already deal with them every day in corporate America and those gaps are likely fueling much of the outsourcing. Hardware and software in the 1980s developed rapidly but mainly by improvements in memory and sheer speed. Someone who DID technical work in 1983 would still recognize all of the paradigms and challenges involved if they were MANAGING technical work ten years later. The adoption of Internet based models for developing and running systems changed design paradigms from 1994 to about 1998. Once the first round of lessons were learned about the difficulty of developing and running web software at scale, an entire new generation of frameworks were developed (J2EE, ASP/.Net / AJAX) and have become commonplace. However, that means most mid-level managers and executives in Information Technology are now two technical generations removed from technical solutions they understand and with which they have hands-on familiarity.
Managers operating in this generational gap are prone to making mistakes in two areas. First, they often fail to understand how the flexibility of the technology allows systems to change much more rapidly than in the past. This is a double-edged sword. On one hand, the systems can adapt to changes much more quickly. On the other hand, they HAVE to change much more frequently because all the systems they integrate with are changing rapidly as well. To keep ahead of this curve, developers need to be close to the users and customers of the system to more quickly understand areas needing improvement without waiting for lengthy, obtuse documentation to be written. Outsourcing development to workers outside the company (whether domestic or off-shore) breaks this direct link between the user community and developers.
The other problem posed by the generation gap is the fixation on the cost of the development work versus the cost of inefficient "requirements" analysis that drives the development work. For every dollar saved by finding cheaper labor to do the final low-level technical work, it is likely in many scenarios that a matching dollar is being spent on convoluted requirements gathering, "use case analysis", and negotiations for contract terms and change requests. Highly profitable for outsourcers like InfoSys in India. Not so productive for the firms outsourcing the work.
Long Term Concerns With Outsourcing
For outsourcing to be effective, a firm must be able to describe in tremendous, mind-numbing detail EXACTLY what it wants the outsourcer to accomplish. The detail is required not only for contractual clarity to ensure avenues of recourse are available if the outsourcing firm fails to deliver but to ensure the requirements are clearly understood. Outsourcing relies on treating every layer of a project as a completely independent, isolated, well-defined black box so that any "resource" can be found to read the requirements for the contents of that box and produce it without knowing ANYTHING about ANYTHING else in the product being developed.
This approach would be similar to a buyer contracting to build a $1,000,000 custom home using a contractor who plans on subcontracting the assembly of the house down to the 2x4 and nail. Every detail of the house design must be specified down to the nail because the guy nailing the 2x4s in the wall between the kitchen and dining room will be different than the guy nailing the sheathing on the roof. It's technically possible to build a house this way but there is a tradeoff between the cost of a more traditional approach versus the cost of preparing specifications down to this level of detail.
The same problem applies to virtually all work performed by outsourcers (domestic or off-shore). The problem can actually grow more complicated as outsourcing takes root because the more technical resources you lay off within the firm, the fewer permanent employees you have to write the requirements documents that are detailed enough to state your needs so you don't pay for work that doesn't solve the problem because the requirements weren't correct. If you hire contractors to write your business requirements to hand to outsourced workers, you will pay a premium for the contract labor over regular full-time employee wages and all of the expertise about your core business will lie outside your firm where it can (and will) be sold by the same consultants to your competitors in your industry. In effect, you'll pay a premium to share any intellectual property you have with your entire industry. I wonder how astute board members might react when THAT outcome of outsourcing is explained.
A Case Study in Business Development
The YouTube portal simplified video sharing on the web by:
* providing simple video file upload tools for users
* mediating between different video formats / codecs
* providing a tagging scheme to categorize and search for content
* providing a message board function for users to provide comments on videos
* providing the actual hosting storage for the content for free
So exactly what was it about YouTube that made it an attractive acquisition at $1.65 billion? Google is already the master at search engine content, Google already hosts one of the biggest blog engines (www.blogspot.com) that provides content hosting and discussion board-like functions. Google already hosts and searches video and image content. There's no single component of the YouTube portal that can be protected by patent or trade secrets. Can a URL really be worth the $1.53 billion premium over YouTube's actual start-up cost?
YouTube's founders appeared on Charlie Rose a few weeks before the sale and explained how the company was founded and grew. The two founders attended a neighborhood party with friends and heard people who had bought new digital camcorders complain about how difficult it was to share videos with friends and family due to differing video formats, etc. The company was founded around February 2005 with about $6 million in venture capital. By the time the portal was live and on the public's radar, the company had still only spent about $12 million.
Google attracts some of the sharpest talent in software development and web site operations on the planet. By agreeing to hand over $1.65 billion in stock, is Google's management already telegraphing to the world they don't think their engineering staff could replicate the YouTube experience for less than $1.65 billion when YouTube only spent $12 million? Google has only been public for two years but it appears its management has already reverted to using the strategies of a much more sclerotic "old economy" company.
Google shareholders would be well advised to look back at Cisco Systems' track record in the 1990s of spending its stock to grow its product line by acquisition. Cisco certainly remained profitable but took a HUGE correction in its stock price after the weight of a long serious of expensive acquisitions hit the bottom line. Like Google's purchase of YouTube, Cisco used its stock as currency in most of its transactions which preserved cash but still diluted shares of existing stockholders considerably. If the acquisition really doesn't produce the value promised or distracts the combined firm, the deal can spell problems for shareholders.
In addition to the dangers of dilution to existing shareholders, business development by acquisition poses other risks as well. A firm focusing on external acquisitions instead of internal development assumes it will always be successful in acquiring a firm that creates a technology it needs or a technology that threatens its business. Bid too low and the target could stay independent or take a better offer. Bid too high and you'll get the target but dilute shareholder value. You might also bid too high and convince the target they really have something of value and convince them to stay independent and use their product to hurt your business.
Why Not Outsource Management, Marketing and Finance?
If one truly believes in a global market for talent and low wages, why should the market only apply to technology jobs? One thing that distinguishes technical work from other areas is that results can typically be directly measured and quantified and boiled down to a bottom line spreadsheet analysis. The new iPod either plays songs or it doesn't. The new call center in India either reduces average call time to 360 seconds from 390 seconds and call cost from $6.50 to $3.00 or it doesn't. Yields at the new plant either reached 3000 chips per wafer or they didn't.
The output of a CEO or CFO or CMO and their staffs is, of course, much harder to quantify (smirk). According to business school, they make decisions based upon highly complicated interactions between changing customer preferences, changing macroeconomic conditions, a changing regulatory environment, changing interest rates, etc. Of course, none of these caveats apply when the firm's stock does well --- when things are going great every executive claims to be "totally accountable" and wants to be measured by nothing except the stock price. Especially when flooded with millions of dollars in back-dated options guaranteed to be "in the money" unless the CEO tanks the company.
Anyone working in most of the Fortune 500 companies in America knows how corporate decisions really get made. Someone has an idea, someone makes an assumption about the revenue or "units" that idea will produce and a bogus attempt to formulate a business case to "quantify" the numbers previously assumed is made. The process is much like the process used in a freshman chemistry lab to produce data that proves PV = nRT when your real lab data didn't add up. The only difference is that in modern business, no one really "knows" the end formula being proven, they just think they do. After pencil whipping the business case, word comes down from the mountain to the minions and the project is approved. The minions then spend an inordinate amount of time using poorly defined strategies to meet what are often unachievable goals.
The process normally ends with maybe one of ten attempts producing something of value. Of course, the executives and bean counters are watching all the dollars spent on the projects and many of the hard, quantifiable dollars involve the actual technical work. When the project is late because of poor business requirements or it fails because of poor market research, the executives home in on the poor returns and begin trying to find cheaper ways to do the technical work.
Given the success rate of most product development efforts, exactly what is preventing the management, marketing and finance work supporting it from being outsourced as well? The typical 5 to 10 percent success rate in product development typically isn't due to absolute technical failures. Products typically don't fail because they didn't "work" as designed, they fail because no one wanted the product the firm's executives decided to make. Given that track record, how could off-shore, outsourced executives in these fields do any worse? With fewer lavishly compensated executives, maybe the firm could focus on customers more effectively using in-house talent rather than saving enough money through off-shoring to cover the costs of back-dated options and earnings restatements and defense attorneys.
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#1) http://www.chicagotribune.com/business/chi-0610130199oct13,0,2814322.story?coll=chi-business-hed
#2) http://www.forbes.com/business/healthcare/feeds/ap/2006/10/15/ap3092145.html
#3) http://www.informationweek.com/showArticle.jhtml?articleID=193105453
#4) http://msnbc.msn.com/id/15238129/
#5) http://www.forbes.com/home/feeds/afx/2006/10/11/afx3081724.html
#6) http://www.taipeitimes.com/News/worldbiz/archives/2006/10/11/2003331337
Monday, October 09, 2006
Alternate Scenarios for North Korea
The US and a few other countries have been cautious in confirming exactly what North Korea achieved in its claimed nuclear test. I'm torn between a cynical view of what North Korea is really capable of achieving scientifically and a REALLY cynical view of what a success would mean for the world.
The size of the seismic impact seems a bit smaller than some would expect for a typical "freshman gadget" attempt. A quick google for "seismic nuclear reaction" produces some links that indicate the duration of the strongest portion of the seismic shock produced by the explosion should be a good indicator of whether a true nuclear reaction was achieved or if conventional high explosives were detonated.
The cynic in me looks at videotape from North Korea and wonders how an economy incapable of generating enough electricity to light the country after dark could sustain research and manufacturing facilities capable of doing fission research and enrichment. Yes, they very well could be obtaining material from Pakistan, our "ally" in the War on Terror (TM) or stolen material from the former Soviet Union. You still have to put the weapons-grade material in a gadget and figure out how to trigger a detonation that produces critical mass. Have you seen video of anything in North Korea. The country looks like the land that the 1950s forgot. Black and white CRT monitors in nuclear facilities, not a single color flat-screen in sight. Are we sure ENIAC hasn't been stolen from a museum somewhere? Has the demand for vacuum tubes suddenly skyrocketed?
The REAL cynic in me assumes North Korea did actually pull off a nuclear detonation. Now what?
The first concern that comes to mind if they succeeded still involves those 1950-era facilities. What do you think the chances are of some poorly trained North Korean nuclear engineer making a mistake at a refining facility or reactor and producing another Chernobyl scale eco-disaster? North Korea's closed society / house of mirrors makes Russia circa-1986 look positively wide open in comparison. If North Korea makes a nuclear mistake, do you think they'll tell anyone before DAYS / WEEKS of radiation are released or before the first 500,000 North Koreans drop dead from the radiation?
The second concern that comes to mind if they succeeded is the lack of options the United States has in dealing with the consequences. We've already crippled our threat deterrent by previously stating nuclear development is unacceptable, doing nothing to stop it, and having nothing to say after they achieved the goal. At the same time, we have spent 3 years and over $330 billion undermining our actual military capacity to take any action chasing phantom WMDs in a situation that has now trapped us in the middle of a civil war. Ask any state Governor or state National Guard head and they'll tell you, WE HAVE NOTHING LEFT IN THE TANK.
A third concern is the complete lack of insight and communication about / to North Korea and the rest of the world. This is slightly chauvinistic from an American / Western standpoint, but virtually every country on the planet has SOMEONE in their foreign affairs office that can speak English clearly and with proper grammar and idiomatic phrases. Have you heard ANYONE speaking on behalf of North Korea that fits that description? That means not only that WE know nothing about their inner circle, it means no one in their inner circle has probably gotten out of the country much to learn anything about the rest of the world. The government and citizens of North Korea might as well be from another galaxy in terms of their ability to understand the world around them.
So what's left? Sanctions? Against a country that is already starving its people? Against a country that disappears off the satellite view after dark? I thought the failure of sanctions was why we invaded Iraq. Why will sanctions that "can never work" in one situation produce any benefits in another?
I guess when you only have a hammer left in your toolbox, every problem's a nail.
The size of the seismic impact seems a bit smaller than some would expect for a typical "freshman gadget" attempt. A quick google for "seismic nuclear reaction" produces some links that indicate the duration of the strongest portion of the seismic shock produced by the explosion should be a good indicator of whether a true nuclear reaction was achieved or if conventional high explosives were detonated.
The cynic in me looks at videotape from North Korea and wonders how an economy incapable of generating enough electricity to light the country after dark could sustain research and manufacturing facilities capable of doing fission research and enrichment. Yes, they very well could be obtaining material from Pakistan, our "ally" in the War on Terror (TM) or stolen material from the former Soviet Union. You still have to put the weapons-grade material in a gadget and figure out how to trigger a detonation that produces critical mass. Have you seen video of anything in North Korea. The country looks like the land that the 1950s forgot. Black and white CRT monitors in nuclear facilities, not a single color flat-screen in sight. Are we sure ENIAC hasn't been stolen from a museum somewhere? Has the demand for vacuum tubes suddenly skyrocketed?
The REAL cynic in me assumes North Korea did actually pull off a nuclear detonation. Now what?
The first concern that comes to mind if they succeeded still involves those 1950-era facilities. What do you think the chances are of some poorly trained North Korean nuclear engineer making a mistake at a refining facility or reactor and producing another Chernobyl scale eco-disaster? North Korea's closed society / house of mirrors makes Russia circa-1986 look positively wide open in comparison. If North Korea makes a nuclear mistake, do you think they'll tell anyone before DAYS / WEEKS of radiation are released or before the first 500,000 North Koreans drop dead from the radiation?
The second concern that comes to mind if they succeeded is the lack of options the United States has in dealing with the consequences. We've already crippled our threat deterrent by previously stating nuclear development is unacceptable, doing nothing to stop it, and having nothing to say after they achieved the goal. At the same time, we have spent 3 years and over $330 billion undermining our actual military capacity to take any action chasing phantom WMDs in a situation that has now trapped us in the middle of a civil war. Ask any state Governor or state National Guard head and they'll tell you, WE HAVE NOTHING LEFT IN THE TANK.
A third concern is the complete lack of insight and communication about / to North Korea and the rest of the world. This is slightly chauvinistic from an American / Western standpoint, but virtually every country on the planet has SOMEONE in their foreign affairs office that can speak English clearly and with proper grammar and idiomatic phrases. Have you heard ANYONE speaking on behalf of North Korea that fits that description? That means not only that WE know nothing about their inner circle, it means no one in their inner circle has probably gotten out of the country much to learn anything about the rest of the world. The government and citizens of North Korea might as well be from another galaxy in terms of their ability to understand the world around them.
So what's left? Sanctions? Against a country that is already starving its people? Against a country that disappears off the satellite view after dark? I thought the failure of sanctions was why we invaded Iraq. Why will sanctions that "can never work" in one situation produce any benefits in another?
I guess when you only have a hammer left in your toolbox, every problem's a nail.
Thursday, October 05, 2006
Who Needs an October Surprise?
After watching and reading a week of coverage about the recent political news, familiar and troubling patterns are emerging.
Democrats see the news and see "proof" that the inevitable outcomes of bad Administration policies are finally coming home to roost for voters to see and consider in the upcoming elections. Finally, America will wake up and change things at the polls.
Traditional conservatives must be approaching current events much like parents getting a call in the middle of the night to pick up Junior from the drunk tank at the Beverly Hills police department. They can't believe things have gone this wrong, they think they might be able to get someone to look the other way, and they're a little worried about the whispers at the country club afterwards. We didn't get what we wanted, but it WAS our guys. Maybe we'll get one more electoral mulligan and save our butts in a squeaker.
Far-right conservative supporters of President Bush see events and ... and... well, I have no idea what they see. Maybe rose-tinted dollar signs?
The two trends that bother me the most are the blogger froth about some sort of "October Surprise" and the hysteria over the page scandal. The tin foil hat crowd is convinced Karl Rove has something up his sleeve to pull an electoral rabbit out of his hat one more time by playing the terror card, the war card, or some other card. At the same time, the media has become completely fixated on the page scandal which seems ready-made for the current news climate. It involves Congress, corruption, sex, whispers of HOMOSEXUALITY, power struggles within a political party, and the inevitable guessing on the political impacts of the race for the House seat of Podunk, NY.
What everyone seems to be forgetting is that Bush isn't running again and most Republicans on the Hill don't want to run too close to him to produce any chits for future favors (in either direction). (CAVEAT: In reality, Bush DOES need to worry about keeping a Republican majority in the House to fend off impeachment...) Most importantly, he is surrounded by advisors, like himself, who have a messianic, fatalistic view about the wisdom of their policies and strategies. The bigger the flames when they go down, the more he'll actually think he made the "tough" (right) decision.
I said this after Katrina and it bears repeating again:
We cannot afford to become too fixated on any one disaster or political crisis with this administration in power. No matter how big the current problem may appear to be, you must continue watching EVERYTHING this administration does because they are ALWAYS capable of making even greater mistakes.
What plan do you think Cheney and Rumsfeld might be hatching right now as the media circles Dennis Hastert's office with 25 mobile TV trucks waiting for a comment on what he didn't know and when he didn't know it?
We don't need an October surprise to give this Administration another chance to screw something up. ANY opportunity will do. We faced the exact same scenario two years ago. Bush opponents thought the harm to the country was SO obvious that the facts spoke for themselves and didn't clearly articulate the damage and the alternatives. Republicans who voted for Bush probably thought our obvious failure in Iraq was chastisement enough for any rational leader and they could safely assume we would change SOMETHING with our Iraq policy and Bush would pursue the other normal "pro-business" / "pro-family" agenda items.
How'd that work out?
If you don't like what you're seeing right now, don't get too caught up in the current fiascos. Worse things CAN and WILL happen if more incumbents return safely to their seats on November 7.
Democrats see the news and see "proof" that the inevitable outcomes of bad Administration policies are finally coming home to roost for voters to see and consider in the upcoming elections. Finally, America will wake up and change things at the polls.
Traditional conservatives must be approaching current events much like parents getting a call in the middle of the night to pick up Junior from the drunk tank at the Beverly Hills police department. They can't believe things have gone this wrong, they think they might be able to get someone to look the other way, and they're a little worried about the whispers at the country club afterwards. We didn't get what we wanted, but it WAS our guys. Maybe we'll get one more electoral mulligan and save our butts in a squeaker.
Far-right conservative supporters of President Bush see events and ... and... well, I have no idea what they see. Maybe rose-tinted dollar signs?
The two trends that bother me the most are the blogger froth about some sort of "October Surprise" and the hysteria over the page scandal. The tin foil hat crowd is convinced Karl Rove has something up his sleeve to pull an electoral rabbit out of his hat one more time by playing the terror card, the war card, or some other card. At the same time, the media has become completely fixated on the page scandal which seems ready-made for the current news climate. It involves Congress, corruption, sex, whispers of HOMOSEXUALITY, power struggles within a political party, and the inevitable guessing on the political impacts of the race for the House seat of Podunk, NY.
What everyone seems to be forgetting is that Bush isn't running again and most Republicans on the Hill don't want to run too close to him to produce any chits for future favors (in either direction). (CAVEAT: In reality, Bush DOES need to worry about keeping a Republican majority in the House to fend off impeachment...) Most importantly, he is surrounded by advisors, like himself, who have a messianic, fatalistic view about the wisdom of their policies and strategies. The bigger the flames when they go down, the more he'll actually think he made the "tough" (right) decision.
I said this after Katrina and it bears repeating again:
We cannot afford to become too fixated on any one disaster or political crisis with this administration in power. No matter how big the current problem may appear to be, you must continue watching EVERYTHING this administration does because they are ALWAYS capable of making even greater mistakes.
What plan do you think Cheney and Rumsfeld might be hatching right now as the media circles Dennis Hastert's office with 25 mobile TV trucks waiting for a comment on what he didn't know and when he didn't know it?
We don't need an October surprise to give this Administration another chance to screw something up. ANY opportunity will do. We faced the exact same scenario two years ago. Bush opponents thought the harm to the country was SO obvious that the facts spoke for themselves and didn't clearly articulate the damage and the alternatives. Republicans who voted for Bush probably thought our obvious failure in Iraq was chastisement enough for any rational leader and they could safely assume we would change SOMETHING with our Iraq policy and Bush would pursue the other normal "pro-business" / "pro-family" agenda items.
How'd that work out?
If you don't like what you're seeing right now, don't get too caught up in the current fiascos. Worse things CAN and WILL happen if more incumbents return safely to their seats on November 7.
Wednesday, October 04, 2006
Morons, Troglodytes, Stupid Idiots?
PBS ran a Bill Moyers investigative piece that documented the history of the corruption scheme that toppled Tom Delay from the House and landed Jack Abramoff and others in the docket.
The basic finding of the story is that the people involved
The "money quote" of the program was a comment from one source who said "Before George Bush had found all of the linen closets in the White House, Grover Norquist was scheduling meetings in the White House and inviting his own guests for fundraisers." For $25,000 a pop, you can fly into Washington for a meeting in the White House, THE PEOPLE'S HOUSE, and get a chance to meet the President while you're here.
The people involved in this scandal, Jack Abramoff, Ralph Reed, Michael Scanlon, Tom Delay and countless others, care not one bit about not one of their clients or any of the issues they pushed. In correspondence between the parties, they consistently referred to their "clients" as morons, troglodytes, stupid idiots, (explitive shorthand)s.
After watching this program, one really has to ask the question:
Who exactly were the morons, the troglodytes, the stupid idiots, the (explitive shorthand)s in this scandal?
The clients who were defrauded by the Abramoff / Delay corruption dynamo?
Or the entire American public that watched signs of this hypocrisy going on since 1994 and continued to return these holier-than-thou hypocrites to power to continue the scam while distracting the country from our REAL problems with their morality agenda?
The basic finding of the story is that the people involved
- were connected together from their college days
- demonstrated gross unethical behavior while still active within the College Republicans
- exploited religious conservative organizations to milk contributions from them to strengthen Republican control of Congress
- established special PACs to accept contributions from special interest A to use in supporting / fighting legislation in support of special interest B, in some cases when A and B were opponents of each other (the Indian casino tribes versus anti-gambling Christian groups)
The "money quote" of the program was a comment from one source who said "Before George Bush had found all of the linen closets in the White House, Grover Norquist was scheduling meetings in the White House and inviting his own guests for fundraisers." For $25,000 a pop, you can fly into Washington for a meeting in the White House, THE PEOPLE'S HOUSE, and get a chance to meet the President while you're here.
The people involved in this scandal, Jack Abramoff, Ralph Reed, Michael Scanlon, Tom Delay and countless others, care not one bit about not one of their clients or any of the issues they pushed. In correspondence between the parties, they consistently referred to their "clients" as morons, troglodytes, stupid idiots, (explitive shorthand)s.
After watching this program, one really has to ask the question:
Who exactly were the morons, the troglodytes, the stupid idiots, the (explitive shorthand)s in this scandal?
The clients who were defrauded by the Abramoff / Delay corruption dynamo?
Or the entire American public that watched signs of this hypocrisy going on since 1994 and continued to return these holier-than-thou hypocrites to power to continue the scam while distracting the country from our REAL problems with their morality agenda?
Sunday, October 01, 2006
An Economy Too Clever for Its Own Good
Newspapers and blogs have been filled recently with commentary on the impact of nearly a half TRILLION dollars in mortgages originated in the past few years which will now hit their first interest rate reset in 2006. Big stories have also come out about the melt-down of several hedge funds providing high-risk / high-reward investment services to corporations and wealthy individuals.
These looming problems seem to be opposite sides of the same economic coin. Both involve financial strategies that create or attempt to leverage economic multipliers in the economy. Both are over-used by "customers" who originally probably thought they understood the mechanics involved (but probably didn't) and now are being used as a crutch to maintain an impossible level of consumption (in the case of consumers) or impossible levels of profit growth (in the case of businesses). More importantly, both trends pose major problems for the American economy for exactly the same reasons.
Unsophisticated Consumers + Sophisticated Mortgages = Trouble
During a recent drive around the neighborhood here in "Herdaburbia", I was struck by the sheer number of storefronts devoted to all things financing. You have the normal complement of branch locations of megabanks but lots of national and local "mortgage specialists" focused on re-re-re-re-financing, branch locations of national chains of financial advisors (not traditional brokers) and even a few "Check 'n' Go" type payday loan or check cashing stores.
Fifteen years ago, the only places one normally saw (ahem) "payday loan" stores were in poorer urban areas. The customers for these business were either high credit-risk customers who need loans or people who don't even have enough money to warrant a banking account to deposit a paycheck. I live in an area where virtually no new standalone homes are built for under about $220 and most start at $350k+ so the appearance of check cashing outlets is rather troubling from a macro-economic standpoint. There are clearly more households near the financial edge than one would first think.
Fifteen years ago, a mortgage was not an everyday product. Americans average about 7 years in one place so the average American probably only took out a mortgage every 7 years as well. I can't even remember any radio, TV or print ads for mortgage services. The ads obviously existed but were such a small part of the advertising landscape that they never really dented one's conscience. Now, in my market, morning radio literally has traffic reports sponsored by one home equity mortgage company while the news is sponsored by another competing firm with two or three other mortgage lender ads often interspersed between. Those ads are there because the market is there.
In a stable economy, the availability of zero-down loans and inventive ARMs helps many afford a home earlier than they would have otherwise or allow more home to be afforded than would have been the case. However, most homeowners probably don't understand how older, more traditional lending practices actually worked in all homeowners' favor. A requirement of a ten or twenty percent down payment for a home mortgage provides benefits not just to the borrower/lender involved, but all borrowers/lenders in the market.
For the borrower, traditional terms ensure the borrower has demonstrated the ability to save money which increases the likelihood they have the discipline to continue saving money for a financial cushion to cover payments if they experience an interruption in income. This actually HELPS THE BORROWER by reducing the chance they lose (roughly) 6 percent of their equity on a real estate commission and possibly lose even more on the home itself by setting a fire-sale price to unload the home quickly because they lack the cash for a few months' payments.
For the lender, traditional terms allow the lender to avoid fire sale pricing of a repossesed property, increasing the likelihood the lender makes a profit even if the borrower defaults. Even a 90 percent LTV usually provides enough cushion to cover a few months of interest while the house is for sale and still produce a profit for the bank as long as the overall market values haven't dropped 10 or 20 percent.
What seems to have been overlooked in the past five years are the protections traditional terms provide all borrowers and lenders in the market. If you purchase a home for $200,000 and borrow $160,000 (80 percent) for the purchase, the bank has a $40,000 cushion. If you default, they only have to sell the property for $160,000 to break even. However, most banks don't use the cushion to unload the home and make a few pennies. They use the cushion to wait out the market to get the highest price they can without dumping the house with a fire sale price. They do this to protect THEIR interest in both the defaulted property and other properties in the area but this also benefits other homeowners and lenders in the area.
In contrast, if the bank lent $200,000 on a home appraised at $200,000, once the borrower defaults, the bank is IMMEDIATELY exposed to a loss, creating a powerful incentive for them to sell the property ASAP. This causes downward pressure to be applied to home prices IMMEDIATELY, affecting all homeowners and lenders in the market. (Caveat: at this point, so many consumers are defaulting that banks have become far more lenient before foreclosing precisely to avoid triggering a flood of fire sales but they can only defer the inevitable for so long.)
When the economy is growing steadily or doing very well, these lending rules appear overly cautious for potential homeowners on the verge of being able to afford a home. However, these rules were developed in part in response to past boom and bust cycles and reflect a great deal of sound logic. In 2006, we have an economy where about 25 percent of loan originations were interest-only loans nationally with some expensive housing markets showing even higher percentages. (#1) Most Americans can't even explain the mechanics of a traditional fixed rate mortgage, much less these new variants, yet 25 percent of the growth in recent home sales depends upon them and depends upon a rosy employment and interest rate scenario to avoid a collapse.
Hedge Funds: In Theory and In Practice
If home equity loans and non-traditional mortgages have become an irresistible temptation for individual consumers to use in expanding their purchasing power for McMansions, Viking ranges, $2000 plasma TVs and $50,000 SUVs, hedge funds seem to be filling a similar role for multi-billion dollar multinational firms and the uber-wealthy.
Hedge funds originated as specially organized investment firms focused on protecting large amounts of wealth from wide fluctuations in value caused by fluctuating exchange rates, economic instability or political instability. Corporations producing billions in cash that cannot be immediately invested back in the business and (for some reason) cannot be paid back to shareholders aren't content to put piles of cash in a vault for safekeeping with no return. Corporations with revenue produced in multiple countries face even more pressure if they are publicly traded since investors expect steady or growing quarterly earnings but currency fluctuations can wipe out major gains as they are repatriated back to the corporation's country of origin.
Hedge funds attempt to balance and eliminate these international risks by selecting investments whose values are expected to have a strong negative correlation with one another. For example, if hedging risks related to exchange rates between the US and China for a firm with cash in both countries, a hedge fund might try to find investments which
This sounds very scientific and mathematical (and thus, do-able) but in reality the process is incredibly complicated and error prone since it depends upon events governed by human psychology and greed, not science. For example, even if you could find Investment A and Investment B above which had a perfect negative correlation to each other, there is no assurance that both investments would permit equal assets to be invested, since Investment A might only be a $20 million opportunity while Investment B might require $300 million. That leaves $280 million that must be "protected" via some other combination of investments.
To fulfill their mission, managers of large hedge funds inevitably wind up making hundreds of smaller, more intricate bets on highly complicated derivative instruments, options and speculative investments. As a result, the average hedge fund manager probably understands far more about the risks associated with currently fluctuations, futures markets, etc. than the average stock or bond trader or certainly the average investor. However, their greater understanding is COMPLETELY outweighed by the fact that nearly 100% of what they do every day is operating on this fringe.
Hedge funds have gained a particularly dangerous influence on the overall economy for three reasons. First, most hedge funds have begun straying away from their original purpose of PRESERVING WEALTH to strategies aimed at CREATING WEALTH for their clients. Of course, the hedge funds are simply conforming to the wishes of their investing partners. No corporation or individual with the kind of wealth needed to invest in hedge funds is content to put $100 million under a mattress with no gain.
Expecting to obtain a 1 to 5 percent return wouldn't be out of the question for such an investment just as brokerages often pay a nominal interest rate on margin account balances. However, many hedge funds have been tempted to use the vast cash at their disposal to "swing for the fences" to produce much larger profits, partly to pad the pockets of the fund managers and partly to allow their investing partners to use hedge fund gains as another source of profits on the company's bottom line. In effect, many large firms expect their hedge fund assets to return profits just like their continuing operations.
Hedge funds have responded to the pressure to produce profits instead of stability by attempting to use their specialized knowledge about exchange rates, anomalies in commodity prices or economic / political risks in what are essentially day-trading strategies. However, instead of short term trades based upon direct prices of traditional concrete assets (stocks, bonds, commodities), hedge funds frequently trade on derivative investments and are magnifying their exposure to risk by using the massive amounts of cash on hand to make huge bets on small variations on these highly volatile assets.
The second problem with hedge funds is that continued consolidation in many industries is producing huge multinational conglomerates that are producing HUGE amounts of cash profits by squeezing costs across a global supply chain. Due to management practices at these firms, many firms are reluctant to return this cash to shareholders in the form of dividends. Instead, they prefer to retain the earnings for some future acquisition to take the company to some even larger scale of efficiency or for some speculative investment in an unrelated industry that will supposedly produce "synergies" for shareholders. In the mean time, the firm expects to use the enormous horde of cash to contribute to the bottom line growth of the company.
As Cisco, GE and others can attest, this is easy to do if you're a mere $1 billion dollar company. If you're a $50 billion dollar firm, it gets more difficult. If you're a $500 billion dollar firm, it is IMPOSSIBLE to find investments that can grow at 10 percent yearly rates that can absorb the billions in free cash produced by a $500 billion dollar firm. However, that hasn't stopped many firms from trying to the detriment of their shareholders.
The massive amounts of cash available to hedge funds and the relative lack of regulation and oversight into their operation constitute the third major problem they pose to the economy. Traditional mutual funds must register with the Securities and Exchange Commission and follow strict guidelines regarding diversification, dividends and reporting. Hedge funds operate as private partnerships between their principal investors and have virtually no public reporting requirements. As a result, hedge funds act to funnel enormous amounts of wealth into the control of a very small number of investment managers who focus on the riskiest segments of the financial markets with virtually no oversight or accountability.
Excess Cash + Overconfident Hedge Fund Managers = Trouble
The dangers hedge funds pose to the American and world economies are not hypothetical. In 1994, a team of some of the brightest thinkers in economics founded Long Term Capital Management which used complicated formulas and theories involving government bonds to produce profits for its investors. Like every successful mutual fund, the hedge fund quickly encountered problems producing similar returns at larger and larger scale and began making other speculative investments along with its bond investments. In 1998, a default on Russian bonds triggered a meltdown of LTCM which eventually lost over $4 billion dollars. To avoid a wider panic, a $3.6 billion dollar bailout was arranged by a consortium of institutions including the Federal Reserve Bank of New York.
In September of 2006, a Connecticut based hedge fund, Amaranth Advisors, lost over $6.5 billion dollars on trades based upon the difference between summer and winter natural gas contracts. A single 32-year old trader controlled most of their strategy in this area and bet past patterns of low / high prices for summer / winter contracts would continue. They didn't. Prices for winter contracts dropped 12 percent after the Department of Energy announced unusually high inventory levels compared to the prior year which were unusually low due to production problems stemming from Hurricane Katrina. (#2)
The $4.6 billion lost by Amaranth includes dollars from many pension funds, including 3M ($92 million invested) and the San Diego County Employee's Retirement Association ($172 million invested). Amaranth also had many large banks as investors, including Morgan Stanley, Credit Suisse, Deutsche Bank AG and Bank of New York. (#3) Amaranth wasn't even the only hedge fund to fail recently due to bets on natural gas. MotherRock LP based in New York folded in August. (#4) Overall, over 400 hedge funds have closed in the past two years according to Bloomberg News. (#5)
Another fund currently in the news, Pirate Capital LLC (no joke on the name), actually specialized in taking large, temporary positions in companies with management issues in the hope of inducing management changes that would push the stock price up enabling a relatively quick sale for a profit. In effect, they operated as a leverage buy-out firm but used hedge fund cash instead of junk bonds to finance the short-term positions in their targets. The firm got in trouble when some of its targets proved more resistant to its management / strategy recommendations. (#6)
Opposite Sides of the Same Coin
As mentioned earlier, the growth of complicated mortgage products for consumers and complicated hedge funds and derivative investment products for big business are opposite sides of the same economic coin. In both cases, a financial strategy that makes sense if a limited group follows it can produce disastrous problems if the entire market becomes dependent upon it.
In the case of consumers, interest-only loans or zero-down loans CAN make sense in a market where home prices truly are increasing by 5-10 percent per year. However, if those 5-10 percent increases are being fed by a credit bubble rather than normal population growth and demographic trends, risks become magnified the later into the bubble one buys. Consumers have further compounded the problem by using easy mortgage terms to cash out the inflated value of homes to fund additional spending on consumer goods or even larger over-priced McMansions. Like many other aspects of human herd behavior, the cycle makes perfect sense to the uninitiated until it makes no sense, then it's too late.
In the case of hedge funds, arbitraging temporary differences in options prices and other complicated derivatives makes perfect sense if you truly understand the underlying "science" affecting your positions and truly believe the numbers upon which your positions are taken truly reflect real values. However, if one trader can trade on these fluctuations with huge amounts of cash, countless others can as well. So how do you know if the fluctuation you just saw is due to the actual market you think you understand or someone else's arbitrage strategy you might not understand or even know is at work? What if you bet correctly on the "science" but someone else bets incorrectly and tanks the same market you trade in? You lose.
The dangers posed by hedge funds also point out interesting applications and limits to the "invisible hand" concept. One could argue hedge funds are a direct, logical, justifiable consequence of an efficient global market that allows firms to produce billions in cash that need protection and appropriate venues for short-term investment. How efficient is it to allow $6.5 billion dollars to be destroyed in ONE MONTH by a single 32-year old natural gas trader making horrendous bets on future gas prices?
One could argue that the "invisible hand" would operate much more effectively if large multi-billion dollar multi-national companies would promptly distribute more of their excess cash back to SHAREHOLDERS rather than keeping it on hand as a temptation for the CEO and officers to use in chasing unsustainable growth. Even if it is incredibly efficient for a single company to operate at a scale that produces billions in free cash every year, that efficiency serves no purpose if the resulting cash is horded by a small number of managers who then squander it trying to produce even larger gains. It should be returned to shareholders who, operating independently using their own information, actually make up the invisible hand.
===============
#1) 2006 Loan Origination Trends:
http://www.dfw.com/mld/dfw/business/15598421.htm
#2) Hedge Fund's Collapse Met With a Shrug:
http://www.washingtonpost.com/wp-dyn/content/article/2006/09/19/AR2006091901388.html
#3) Amaranth hedge-fund losses hit 3M pension, Goldman:
http://www.thejournalnews.com/apps/pbcs.dll/article?AID=/20060921/BUSINESS01/609210307/1066
#4) Energy hedge fund closes shop:
http://money.cnn.com/2006/08/04/markets/energy_hedge/index.htm
#5) Over 500 Hedge Funds Shut in the past two years:
http://www.iht.com/articles/2006/09/18/bloomberg/sxhedge.php
#6) Pirate Capital Loses Its Swagger:
Wall Street Journal, page C1, September 27, 2006
These looming problems seem to be opposite sides of the same economic coin. Both involve financial strategies that create or attempt to leverage economic multipliers in the economy. Both are over-used by "customers" who originally probably thought they understood the mechanics involved (but probably didn't) and now are being used as a crutch to maintain an impossible level of consumption (in the case of consumers) or impossible levels of profit growth (in the case of businesses). More importantly, both trends pose major problems for the American economy for exactly the same reasons.
Unsophisticated Consumers + Sophisticated Mortgages = Trouble
During a recent drive around the neighborhood here in "Herdaburbia", I was struck by the sheer number of storefronts devoted to all things financing. You have the normal complement of branch locations of megabanks but lots of national and local "mortgage specialists" focused on re-re-re-re-financing, branch locations of national chains of financial advisors (not traditional brokers) and even a few "Check 'n' Go" type payday loan or check cashing stores.
Fifteen years ago, the only places one normally saw (ahem) "payday loan" stores were in poorer urban areas. The customers for these business were either high credit-risk customers who need loans or people who don't even have enough money to warrant a banking account to deposit a paycheck. I live in an area where virtually no new standalone homes are built for under about $220 and most start at $350k+ so the appearance of check cashing outlets is rather troubling from a macro-economic standpoint. There are clearly more households near the financial edge than one would first think.
Fifteen years ago, a mortgage was not an everyday product. Americans average about 7 years in one place so the average American probably only took out a mortgage every 7 years as well. I can't even remember any radio, TV or print ads for mortgage services. The ads obviously existed but were such a small part of the advertising landscape that they never really dented one's conscience. Now, in my market, morning radio literally has traffic reports sponsored by one home equity mortgage company while the news is sponsored by another competing firm with two or three other mortgage lender ads often interspersed between. Those ads are there because the market is there.
In a stable economy, the availability of zero-down loans and inventive ARMs helps many afford a home earlier than they would have otherwise or allow more home to be afforded than would have been the case. However, most homeowners probably don't understand how older, more traditional lending practices actually worked in all homeowners' favor. A requirement of a ten or twenty percent down payment for a home mortgage provides benefits not just to the borrower/lender involved, but all borrowers/lenders in the market.
For the borrower, traditional terms ensure the borrower has demonstrated the ability to save money which increases the likelihood they have the discipline to continue saving money for a financial cushion to cover payments if they experience an interruption in income. This actually HELPS THE BORROWER by reducing the chance they lose (roughly) 6 percent of their equity on a real estate commission and possibly lose even more on the home itself by setting a fire-sale price to unload the home quickly because they lack the cash for a few months' payments.
For the lender, traditional terms allow the lender to avoid fire sale pricing of a repossesed property, increasing the likelihood the lender makes a profit even if the borrower defaults. Even a 90 percent LTV usually provides enough cushion to cover a few months of interest while the house is for sale and still produce a profit for the bank as long as the overall market values haven't dropped 10 or 20 percent.
What seems to have been overlooked in the past five years are the protections traditional terms provide all borrowers and lenders in the market. If you purchase a home for $200,000 and borrow $160,000 (80 percent) for the purchase, the bank has a $40,000 cushion. If you default, they only have to sell the property for $160,000 to break even. However, most banks don't use the cushion to unload the home and make a few pennies. They use the cushion to wait out the market to get the highest price they can without dumping the house with a fire sale price. They do this to protect THEIR interest in both the defaulted property and other properties in the area but this also benefits other homeowners and lenders in the area.
In contrast, if the bank lent $200,000 on a home appraised at $200,000, once the borrower defaults, the bank is IMMEDIATELY exposed to a loss, creating a powerful incentive for them to sell the property ASAP. This causes downward pressure to be applied to home prices IMMEDIATELY, affecting all homeowners and lenders in the market. (Caveat: at this point, so many consumers are defaulting that banks have become far more lenient before foreclosing precisely to avoid triggering a flood of fire sales but they can only defer the inevitable for so long.)
When the economy is growing steadily or doing very well, these lending rules appear overly cautious for potential homeowners on the verge of being able to afford a home. However, these rules were developed in part in response to past boom and bust cycles and reflect a great deal of sound logic. In 2006, we have an economy where about 25 percent of loan originations were interest-only loans nationally with some expensive housing markets showing even higher percentages. (#1) Most Americans can't even explain the mechanics of a traditional fixed rate mortgage, much less these new variants, yet 25 percent of the growth in recent home sales depends upon them and depends upon a rosy employment and interest rate scenario to avoid a collapse.
Hedge Funds: In Theory and In Practice
If home equity loans and non-traditional mortgages have become an irresistible temptation for individual consumers to use in expanding their purchasing power for McMansions, Viking ranges, $2000 plasma TVs and $50,000 SUVs, hedge funds seem to be filling a similar role for multi-billion dollar multinational firms and the uber-wealthy.
Hedge funds originated as specially organized investment firms focused on protecting large amounts of wealth from wide fluctuations in value caused by fluctuating exchange rates, economic instability or political instability. Corporations producing billions in cash that cannot be immediately invested back in the business and (for some reason) cannot be paid back to shareholders aren't content to put piles of cash in a vault for safekeeping with no return. Corporations with revenue produced in multiple countries face even more pressure if they are publicly traded since investors expect steady or growing quarterly earnings but currency fluctuations can wipe out major gains as they are repatriated back to the corporation's country of origin.
Hedge funds attempt to balance and eliminate these international risks by selecting investments whose values are expected to have a strong negative correlation with one another. For example, if hedging risks related to exchange rates between the US and China for a firm with cash in both countries, a hedge fund might try to find investments which
- are relatively safe in their own right
- vary with (ideally) a -1.0 correlation with one another so that if investment A in China declines by 10%, investment B in America grows by 10%
This sounds very scientific and mathematical (and thus, do-able) but in reality the process is incredibly complicated and error prone since it depends upon events governed by human psychology and greed, not science. For example, even if you could find Investment A and Investment B above which had a perfect negative correlation to each other, there is no assurance that both investments would permit equal assets to be invested, since Investment A might only be a $20 million opportunity while Investment B might require $300 million. That leaves $280 million that must be "protected" via some other combination of investments.
To fulfill their mission, managers of large hedge funds inevitably wind up making hundreds of smaller, more intricate bets on highly complicated derivative instruments, options and speculative investments. As a result, the average hedge fund manager probably understands far more about the risks associated with currently fluctuations, futures markets, etc. than the average stock or bond trader or certainly the average investor. However, their greater understanding is COMPLETELY outweighed by the fact that nearly 100% of what they do every day is operating on this fringe.
Hedge funds have gained a particularly dangerous influence on the overall economy for three reasons. First, most hedge funds have begun straying away from their original purpose of PRESERVING WEALTH to strategies aimed at CREATING WEALTH for their clients. Of course, the hedge funds are simply conforming to the wishes of their investing partners. No corporation or individual with the kind of wealth needed to invest in hedge funds is content to put $100 million under a mattress with no gain.
Expecting to obtain a 1 to 5 percent return wouldn't be out of the question for such an investment just as brokerages often pay a nominal interest rate on margin account balances. However, many hedge funds have been tempted to use the vast cash at their disposal to "swing for the fences" to produce much larger profits, partly to pad the pockets of the fund managers and partly to allow their investing partners to use hedge fund gains as another source of profits on the company's bottom line. In effect, many large firms expect their hedge fund assets to return profits just like their continuing operations.
Hedge funds have responded to the pressure to produce profits instead of stability by attempting to use their specialized knowledge about exchange rates, anomalies in commodity prices or economic / political risks in what are essentially day-trading strategies. However, instead of short term trades based upon direct prices of traditional concrete assets (stocks, bonds, commodities), hedge funds frequently trade on derivative investments and are magnifying their exposure to risk by using the massive amounts of cash on hand to make huge bets on small variations on these highly volatile assets.
The second problem with hedge funds is that continued consolidation in many industries is producing huge multinational conglomerates that are producing HUGE amounts of cash profits by squeezing costs across a global supply chain. Due to management practices at these firms, many firms are reluctant to return this cash to shareholders in the form of dividends. Instead, they prefer to retain the earnings for some future acquisition to take the company to some even larger scale of efficiency or for some speculative investment in an unrelated industry that will supposedly produce "synergies" for shareholders. In the mean time, the firm expects to use the enormous horde of cash to contribute to the bottom line growth of the company.
As Cisco, GE and others can attest, this is easy to do if you're a mere $1 billion dollar company. If you're a $50 billion dollar firm, it gets more difficult. If you're a $500 billion dollar firm, it is IMPOSSIBLE to find investments that can grow at 10 percent yearly rates that can absorb the billions in free cash produced by a $500 billion dollar firm. However, that hasn't stopped many firms from trying to the detriment of their shareholders.
The massive amounts of cash available to hedge funds and the relative lack of regulation and oversight into their operation constitute the third major problem they pose to the economy. Traditional mutual funds must register with the Securities and Exchange Commission and follow strict guidelines regarding diversification, dividends and reporting. Hedge funds operate as private partnerships between their principal investors and have virtually no public reporting requirements. As a result, hedge funds act to funnel enormous amounts of wealth into the control of a very small number of investment managers who focus on the riskiest segments of the financial markets with virtually no oversight or accountability.
Excess Cash + Overconfident Hedge Fund Managers = Trouble
The dangers hedge funds pose to the American and world economies are not hypothetical. In 1994, a team of some of the brightest thinkers in economics founded Long Term Capital Management which used complicated formulas and theories involving government bonds to produce profits for its investors. Like every successful mutual fund, the hedge fund quickly encountered problems producing similar returns at larger and larger scale and began making other speculative investments along with its bond investments. In 1998, a default on Russian bonds triggered a meltdown of LTCM which eventually lost over $4 billion dollars. To avoid a wider panic, a $3.6 billion dollar bailout was arranged by a consortium of institutions including the Federal Reserve Bank of New York.
In September of 2006, a Connecticut based hedge fund, Amaranth Advisors, lost over $6.5 billion dollars on trades based upon the difference between summer and winter natural gas contracts. A single 32-year old trader controlled most of their strategy in this area and bet past patterns of low / high prices for summer / winter contracts would continue. They didn't. Prices for winter contracts dropped 12 percent after the Department of Energy announced unusually high inventory levels compared to the prior year which were unusually low due to production problems stemming from Hurricane Katrina. (#2)
The $4.6 billion lost by Amaranth includes dollars from many pension funds, including 3M ($92 million invested) and the San Diego County Employee's Retirement Association ($172 million invested). Amaranth also had many large banks as investors, including Morgan Stanley, Credit Suisse, Deutsche Bank AG and Bank of New York. (#3) Amaranth wasn't even the only hedge fund to fail recently due to bets on natural gas. MotherRock LP based in New York folded in August. (#4) Overall, over 400 hedge funds have closed in the past two years according to Bloomberg News. (#5)
Another fund currently in the news, Pirate Capital LLC (no joke on the name), actually specialized in taking large, temporary positions in companies with management issues in the hope of inducing management changes that would push the stock price up enabling a relatively quick sale for a profit. In effect, they operated as a leverage buy-out firm but used hedge fund cash instead of junk bonds to finance the short-term positions in their targets. The firm got in trouble when some of its targets proved more resistant to its management / strategy recommendations. (#6)
Opposite Sides of the Same Coin
As mentioned earlier, the growth of complicated mortgage products for consumers and complicated hedge funds and derivative investment products for big business are opposite sides of the same economic coin. In both cases, a financial strategy that makes sense if a limited group follows it can produce disastrous problems if the entire market becomes dependent upon it.
In the case of consumers, interest-only loans or zero-down loans CAN make sense in a market where home prices truly are increasing by 5-10 percent per year. However, if those 5-10 percent increases are being fed by a credit bubble rather than normal population growth and demographic trends, risks become magnified the later into the bubble one buys. Consumers have further compounded the problem by using easy mortgage terms to cash out the inflated value of homes to fund additional spending on consumer goods or even larger over-priced McMansions. Like many other aspects of human herd behavior, the cycle makes perfect sense to the uninitiated until it makes no sense, then it's too late.
In the case of hedge funds, arbitraging temporary differences in options prices and other complicated derivatives makes perfect sense if you truly understand the underlying "science" affecting your positions and truly believe the numbers upon which your positions are taken truly reflect real values. However, if one trader can trade on these fluctuations with huge amounts of cash, countless others can as well. So how do you know if the fluctuation you just saw is due to the actual market you think you understand or someone else's arbitrage strategy you might not understand or even know is at work? What if you bet correctly on the "science" but someone else bets incorrectly and tanks the same market you trade in? You lose.
The dangers posed by hedge funds also point out interesting applications and limits to the "invisible hand" concept. One could argue hedge funds are a direct, logical, justifiable consequence of an efficient global market that allows firms to produce billions in cash that need protection and appropriate venues for short-term investment. How efficient is it to allow $6.5 billion dollars to be destroyed in ONE MONTH by a single 32-year old natural gas trader making horrendous bets on future gas prices?
One could argue that the "invisible hand" would operate much more effectively if large multi-billion dollar multi-national companies would promptly distribute more of their excess cash back to SHAREHOLDERS rather than keeping it on hand as a temptation for the CEO and officers to use in chasing unsustainable growth. Even if it is incredibly efficient for a single company to operate at a scale that produces billions in free cash every year, that efficiency serves no purpose if the resulting cash is horded by a small number of managers who then squander it trying to produce even larger gains. It should be returned to shareholders who, operating independently using their own information, actually make up the invisible hand.
===============
#1) 2006 Loan Origination Trends:
http://www.dfw.com/mld/dfw/business/15598421.htm
#2) Hedge Fund's Collapse Met With a Shrug:
http://www.washingtonpost.com/wp-dyn/content/article/2006/09/19/AR2006091901388.html
#3) Amaranth hedge-fund losses hit 3M pension, Goldman:
http://www.thejournalnews.com/apps/pbcs.dll/article?AID=/20060921/BUSINESS01/609210307/1066
#4) Energy hedge fund closes shop:
http://money.cnn.com/2006/08/04/markets/energy_hedge/index.htm
#5) Over 500 Hedge Funds Shut in the past two years:
http://www.iht.com/articles/2006/09/18/bloomberg/sxhedge.php
#6) Pirate Capital Loses Its Swagger:
Wall Street Journal, page C1, September 27, 2006
Sign #248 That The US Press is a Joke
I was flipping through the channels this morning and stopped on The Chris Matthews Show on NBC. Today's enlightening roundtable featured talking heads Joe Klein (Time), David Gregory (NBC), Cynthia Tucker (Atlanta Journal-Constitution) and Julia Reed (Vogue).
WHAT?
Julia Reed of Vogue magazine?
Are you kidding me? Did Vogue open a new foreign affairs desk?
Having no idea who Julia Reed was, I did some searches and found she seems to have impeccable credentials for commenting on the conduct of the war in Iraq and national security. She wrote an absolutely fab book on all things southern from hair-dos, fashion and violence and the lack of gun control (all in one book! -- that's some book). She also apparently has a killer recipe for Puree of Cauliflower with Curry:
http://wednesdaychef.typepad.com/the_wednesday_chef/2006/03/julia_reeds_pur.html
To date, her most notable piece of work appears to be a hard hitting interview in the August 2004 issue of Vogue on the Bush Twins but honestly, it was a toss-up between the Bush Twins piece and another on Reese Witherspoon's challenges in nailing the nuances of June Carter Cash in "Walk the Line":
http://www.style.com/vogue/feature/110705/index.html
I don't demand serious, hardcore news 24x7 on every channel until every problem in the world is solved but we already have 90 minutes of celebrity porno-publicity puff stories every weekday with Entertainment Tonight, Access Hollywood and Inside Edition. We're losing a war that has cost 3000 American lives, probably over 50,000 Iraqi lives and $330 billion and counting. I don't think it's too much to ask of news shows to have people qualified to represent either side of legitimate proposals for winning the war or addressing the underlying problems that led to the war.
In return, I PROMISE that if I ever want the inside scoop on where Condi picked up those to-die-for black patent leather dominatrix boots, Vogue will be the first magazine to which I turn.
WHAT?
Julia Reed of Vogue magazine?
Are you kidding me? Did Vogue open a new foreign affairs desk?
Having no idea who Julia Reed was, I did some searches and found she seems to have impeccable credentials for commenting on the conduct of the war in Iraq and national security. She wrote an absolutely fab book on all things southern from hair-dos, fashion and violence and the lack of gun control (all in one book! -- that's some book). She also apparently has a killer recipe for Puree of Cauliflower with Curry:
http://wednesdaychef.typepad.com/the_wednesday_chef/2006/03/julia_reeds_pur.html
To date, her most notable piece of work appears to be a hard hitting interview in the August 2004 issue of Vogue on the Bush Twins but honestly, it was a toss-up between the Bush Twins piece and another on Reese Witherspoon's challenges in nailing the nuances of June Carter Cash in "Walk the Line":
http://www.style.com/vogue/feature/110705/index.html
I don't demand serious, hardcore news 24x7 on every channel until every problem in the world is solved but we already have 90 minutes of celebrity porno-publicity puff stories every weekday with Entertainment Tonight, Access Hollywood and Inside Edition. We're losing a war that has cost 3000 American lives, probably over 50,000 Iraqi lives and $330 billion and counting. I don't think it's too much to ask of news shows to have people qualified to represent either side of legitimate proposals for winning the war or addressing the underlying problems that led to the war.
In return, I PROMISE that if I ever want the inside scoop on where Condi picked up those to-die-for black patent leather dominatrix boots, Vogue will be the first magazine to which I turn.
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