Who's running the health care show?

A CNN article says "some congressional Democrats are 'baffled,' and another senior Democratic source told CNN that those members are frustrated that that they're not getting more specific direction from him on health care."

Haven't they read Obama's extensive health care plan?

Oh wait - this isn't the Obama plan - he's letting Congress write it, just like the pork-laden stimulus package. The New York Times pointed out that there currently is no "Obama plan" on the table since he has not endorsed any of the plans being discussed in Congress. (The NYT later removed the remark from the story).

Isn't it odd that Obama got so much credit for all the detailed "plans" he displayed on his campaign website while running for President, but now is deferring to Congress so much that his own party is confused and frustrated with him?

Perhaps Obama intended to have Daschle quarterback this process, but Daschle is not around anymore.

Let's see what Obama says tonight in his prime-time speech...

A 0% Tax Rate?

An interesting opinion piece in the Wall Street Journal last week made the case that the U.S. tax code has become so screwed up, that a 0% tax rate for the bottom 60% of income earners would be better.

"The federal income tax code is now so mangled that we can probably increase federal revenues with a 0% income tax rate for a majority of Americans.

Long before President Barack Obama took office, the bottom 40% of income earners paid no federal income taxes. Because of refundable income tax credits like the Earned Income Tax Credit (EITC), in 2006 these bottom 40% as a group actually received net payments equal to 3.6% of total income tax revenues, according to the latest Congressional Budget Office data. The actual middle class, the middle 20% of income earners, pay only 4.4% of total federal income tax revenues. That means the bottom 60% together pay less than 1% of income tax revenues."

Obama criticizes checks and balances

In an AP Story today , "President Barack Obama is defending his relentless campaign for a health care bill before Congress' August recess, saying 'the default in Washington is inaction and inertia.'"

Yes, Mr President, our government was set up intentionally with checks and balances to keep overzealous governments from doing stupid things. If you don't like it, maybe you should try a dictatorship...You know that was a joke, right?

Did Goldman make too much money?

Goldman Sachs posted a huge profit last week, in the wake of unprecedented problems in the financial sector. An interesting article in the Washington Post today, "Resist the Urge to Punish Success", says:

"Conventional wisdom says that Goldman's profit must be the result of a formula that involves excessive risk. Former labor secretary Robert Reich points to Goldman's "value at risk" calculations to conclude that the government should limit Goldman's risk-taking.

How quickly we forget that just a few months ago, nearly all the formulas that were intended to explain the behavior of the bond markets and provide banks with the tools to manage their risk turned out to be useless -- or worse. A regulatory regime whose goal is to limit profit, in the hope of thereby limiting risk, is one that merely codifies the same bogus and incompetent thinking about risk that held sway in the financial industry during the mortgage bubble."

What risk systems will our government come up with, when the previous regulators and most of Wall Street failed? What White Swans will they monitor in their attempt to uncover and prevent the next Black Swan? And, what doors will the new system open to enable the next crisis?

How much money has the government made on their investments during this crisis? My guess is that Goldman has a better handle on risk than the regulators.

Whenever I see these articles about a company being "too profitable", it reminds me of this story from the Wall Street Journal in August 2008: "What is a 'windfall' profit?" It explains how difficult it is to identify one, and that "what constitutes an abnormal profit is entirely arbitrary. It is in the eye of the political beholder, who is usually looking to soak some unpopular business. In other words, a windfall is nothing more than a profit earned by a business that some politician dislikes. And a tax on that profit is merely a form of politically motivated expropriation. It's what politicians do in Venezuela, not in a free country."

Do some people make too much money? Sure. Is it possible to "correct" that without creating bigger problems? Probably not. I'd rather have the companies that make profits be in the U.S., hiring Americans, than moving to other countries if the U.S. becomes a horrible place to do business because too much success has become a crime.

Politics and Investments don't mix

Politics is often about getting votes. Politicians campaign for the next election as soon as the last is over. Long-term objectives are not their strength.

Investing well is about thinking long-term and not chasing short-term results. Investment cycles are generally longer than election cycles.

One area where these short-term and long-term goals conflict most obviously is in the management of large university endowments. The goal of the investment manager at an endowment is to contribute some percentage of its assets (usually about 4.5 to 5%) to the university's operating budget. They also need to earn a little extra to keep up with inflation (about 3% more). So, their target is about 8%, and they need to be as consistent as possible to keep the school's budget from jumping up and down.

At the end of 2007, the S&P 500 Index had increased by 12.8%, on average, for 5 years. This return was above normal, and some universities earned more than this. Some politicians started calling for endowments of large universities to expand scholarship programs to more people who can't afford college (and who were constituents of said politicians). However, many investment managers realized it was too good to last, the markets would eventually fall, and were resisting paying out more. The politicians, in turn, made it a point in a public letter to tell their constituents how greedy these folks were. How could they possibly deny opportunities to bright young students when the markets had provided such surpluses?

In 2008, the S&P 500 dropped -38.5% in the midst of a recession that started in late 2007 and a credit crisis fueled by irresponsible behaviour by many parties, including politicians (I'll need several other posts to talk about that!).

So, the chatter about expanding scholarship programs subsided, and the blame game continued, but with different rules. How could these investment managers so foolishly lose all of this money? Even more, some of them are getting bonuses? Those criminals!!!

Well, the reason some investment managers were due to get bonuses is that they are paid for performance relative to an index, and usually over a multi-year period. For example, if the S&P is down -38%, and they were down "only" 35%, they saved their employer a lot of money. Bonuses were set up this way to encourage long-term thinking and discourage excessive risk-taking in up markets. After all, investment manager can't control which way the wind blows, only how they set their sails.

Now, the politicians are pounding their chests about taking these bonuses away (sometimes by voiding contracts). Why should anyone get a bonus for losing money? Don't they realize people are losing their jobs? Never mind that these bonuses would likely be paid out of the money saved by managing the money well. Also never mind that there are good reasons the bonuses were set up this way. Also never mind that large endowments are increasingly competing for talent with investment firms that pay much, much more.

In response to political pressure, some bonus arrangements are being re-written so that no bonus is paid in negative years, and higher bonuses paid in positive years.

So, the next time there is a tech bubble or housing bubble, or any short-term mania in the market, the government will be responsible for setting up a system that strongly encourages investment managers to take as much risk as possible in order to get the biggest bonus they can before the bubble inevitably bursts! Which means their employers are likely to lose even more money on the way down, and be in even bigger trouble.

Of course many investment managers will be responsible custodians of the money they manage, in spite of short-sighted incentive systems. But, there are also many who will do what they are paid to do. People respond to the incentives put before them, particularly if they report to a board that might fire them for trailing their peers in a bull market, or if honoring bonus contracts leads to public shaming with the press at full attention.

Also, there are politicians who understand investing and the need to think beyond the next election. But, whether investment performance is good or bad, there will be politicians who need to show their constituents how much they care about them and that they need their vote. They will focus on the short-term problem, and how to get credit for attempting to "fix" it. And then there are constituents who don't mind letting politicians have it both ways.

Economists: Left vs Right

Economics (the "dismal science") tries to model human behavior, but naturally has to make a lot of assumptions. Greg Mankiw, who was chairman of President Bush's Council of Economic Advisors from 2003 to 2005 and now teaches at Harvard, posted his thoughts on how economists on the right and left differ in their worldview and how they interpret the "facts".

For example:
"The right sees people as largely rational, doing the best the can given the constraints they face. The left sees people making systematic errors and believe that it is the government role’s to protect people from their own mistakes."

Link to Greg Mankiw's post

Happy reading!

One way state-run health care could widen the rich/poor divide

In Britain, National Institute for Health and Clinical Excellence (NICE) (sometimes derided in the US as the "National Institute for Compulsory Euthanasia") decides what medical treatments will be reimbursed according to the cost of a "quality-adjusted life-year" (QALY). If the cost of the treatment, per year that it extends life, is higher than the QALY, the government won't back the treatment. The limit is £30,000, according to a 2008 Economist article. Not an awful lot of money. The purpose is to control health care costs.

A similar policy in the US would indirectly discriminate against the poor because those with the means will just pay for the treatments out-of-pocket, since they can afford it. Those without the means will be without.

Of course, this applies only to already available treatments. If the government decides some treatments are too expensive, biotech and drug companies will be less likely to develop drugs that cost more than the reimbursement rate, since the market for those drugs will shrink dramatically. Who knows what medical advances would be prevented by government rationing?

Do we really need the government to put a dollar value on how much "life, liberty and the pursuit of happiness" each of us has a right to? Particularly when some lives are worth more than others, by official government policy?

References:
Wikipedia page on QALY
Economist article: "NICE turns Nasty"

So what's this all about?

OK - so I have a blog now. Now I can keep facebook relatively clean of "serious stuff", and put it all here! But, once I decided I needed a blog, I didn't know what to call it.

Some of you may know the book "The Black Swan" by Nassim Nicholas Taleb. The title is a reference to the idea that, years ago, Europeans thought all swans were white, because that was all they saw. But, they eventually found black ones in Australia, proving them wrong. Because Taleb luckily published the book right before the current financial crisis, he has become something of a celebrity philosopher. The term "Black Swan" comes up all the time in financial writing whenever something seems like an unlikely, extreme event that contradicts prior experience. Then, the idea started spreading outside finance and now everyone is looking for Black Swans. Politicians are making the "causes" of the Black Swans into scapegoats, Black Swans make great stories for journalists trying to win Pulitzers; economists want to win Nobel Prizes by finding the next Black Swan etc, etc.

So, I thought something about White Swans would be unorthodox and sarcastic enough for my blog. Besides, many extreme Black Swan stories (i.e. the credit crisis) are really the result of many ordinary choices that accumulate (i.e. the millions of decisions that added up to the crisis, but more on that in a later post). The White Swan must feel left out.

I hope I can post and/or write some interesting and informative stuff here, and maybe entertaining too. I hope you'll read and comment whether you agree or not. If you disagree, perhaps you can point out some Black Swans I haven't thought of.