Felix Salmon

We now know what the New York Fed knew about Barclays fudging its Libor submissions. Included in the NY Fed’s vast document dump in response to a congressional request is this confidence-deflating exchange from Apr. 11, 2008:

Barclays: So, we know that we’re not posting um, an honest Libor.

NYFR: Okay.

B: And yet and yet we are doing it, because, um, if we didn’t do it

FR: Mm hmm.

B: It draws, um, unwanted attention on ourselves.

The NYT reports that after that and other exchanges between members of the NY Fed and Barclays, Tim Geithner, then head of the NY Fed, called and emailed the head of the Bank of England with his concerns and suggestions for how to improve oversight of Libor. The governor of the BoE, Mervyn King, called those suggestions “sensible”, but as the NYT’s Marc Scott writes, none of them were actually implemented.

And that leads back to the post-scandal explanation offered by Barclays: that England’s central bank tacitly encouraged Barclays to continue its improper Libor submissions. Deputy BoE governor Tucker forcefully argued before members of Parliament on Monday that he was acting precisely as he should have, questioning what Barclays was doing to lower its borrowing rates in the aftermath of its rejection of government capital.

To Matt Levine, the real question for regulators in Barclays’ Libor fixing is intent. The latest emails, he writes, actually make Barclays seem more diligent:

The earlier Barclays emails, in which derivatives traders asked Libor submitters to change their rates to help the swap book, sound terrible: market manipulation for high-fives and profit. Mis-marking within a reasonable range is not necessarily a scandal; in some sense it’s most of what most traders do most of the time. It only becomes a scandal when you do your mis-marking for nefarious purposes, with “hiding trading losses” and “screwing derivatives counterparties” being reasonably obvious nefarious purposes. “Keeping our name out of the FT and our stock price out of the crapper” is a gray area…

During the financial crisis interbank lending all but dried up and, Levine writes, Libor was widely known to be a fiction: ”I think these Fed documents make it hard to share the collective amnesia of thinking that Libor was the most important and trusted thing in the world until it was broken by a secretive coterie of bankers and nobody knew about it. Everybody knew about it”. – Ben Walsh

On to today’s links:

Economy
Public-sector cuts have likely cost the US economy 751,000 private-sector jobs – Jared Bernstein

Politicking
To counter super PAC influence, Soros’s son launches super-duper PAC – WaPO

Long Reads
A mega-mall isn’t all – the multibillion-dollar business of the Mormon Church – Businessweek

JPMorgan
JPMorgan reports $5.8 billion loss on failed CIO trades, quarterly profit drops 9% – DealBook
The complete JPMorgan earnings release – JPMorgan
JPMorgan’s 8K: CIO traders mis-marked securities – JPMorgan
Former-CIO head Ina Drew cedes two years’ pay over trading losses – Bloomberg

China
China’s economic growth is slowing  – and likely at a faster rate than official GDP data suggests – Also Sprach Analyst
China’s “M&A is driven more by politics than the domestic economy” – Bloomberg

Ouch
In a few years the federal government will face a trillion dollars of student loan credit risk – Sober Look

Welcome to Adulthood
Youth unemployment is double the national average – Young Invincibles

Disgusting
Far-right party wants to create Greeks-only blood bank – Foreign Policy

Terrifying
Bankruptcy-seeking San Bernardino has “no legitimate financial filings” – Cate Long

Nothing to See Here
Wells Fargo pays $175 million to settle discrimination claims it denies – WaPo

Two weeks ago, Bloomberg’s Dawn Kopecki reported that Ina Drew would be allowed to keep all of the money she was paid over the past two years — more than $20 million in all. Today, Kopecki’s headline is very different: “JPMorgan’s Drew Forfeits 2 Years’ Pay as Managers Ousted”.

What happened in the interim? There are three possibilities, as I see it, all of which can overlap:

The first is the official story: that Drew unilaterally approached Dimon, offering to return two years’ pay.

“She has acted with integrity and tried to do what was right for the company at all times, even though she was part of this mistake,” Chief Executive Officer Jamie Dimon said today during a meeting with analysts. “In that spirit, Ina came forward and offered to give up a very significant amount of her past compensation.”

This is actually entirely consistent with everything I’ve read about Drew’s conscientiousness and professionalism, and although returning $20 million surely hurts, Drew isn’t exactly impoverishing herself by doing so: Kopecki estimates that she retired with about $57.5 million in stock, pension and other pay.

The second possibility is that Drew was always going to give back her pay, and that Kopecki’s initial story was simply wrong. There was no JP Morgan source for that story, which was based on the idea that if Drew was subject to any kind of clawback, that would have been reflected in an SEC filing; Kopecki had no JP Morgan source for her article, and JP Morgan had no particular reason to scoop itself with a formal denial, if it had long planned to announce the clawback today.

Finally, there’s the other bit of new news today: the way that JP Morgan has started pointing fingers at its now-departed traders:

Traders in CIO were expected to mark their positions where they would expect to be able to execute in the market. In this instance, while the positions were within thresholds established by an independent valuation control group within CIO, the firm has recently discovered information that raises questions about the integrity of the trader marks and suggests that certain individuals may have been seeking to avoid showing the full amount of the losses in the portfolio during the first quarter. As a result, we are no longer confident that the trader marks reflected good faith estimates of fair value at quarter end.

This is a very tricky tightrope that JP Morgan is trying to walk here: it’s basically saying that its traders were acting fraudulently, but not so fraudulently that they were doing anything actually illegal. Essentially, it’s saying that the bank itself can’t be blamed for reporting marks outside the market’s bid-offer spread, but that the traders can and should be severely disciplined for choosing marks towards one extreme of that spread, even as they knew they couldn’t realistically get those prices if they needed to unwind their position.

As a result, Drew was overseeing a group that wasn’t just losing money, which is something that all traders do from time to time, but was also behaving unethically. That’s something no traders should ever do, and is good reason to claw back bonuses from the traders and their bosses, all the way up to Drew and possibly even Dimon himself.

You can mix and match these different narratives however you like. For instance: Drew retired a respected executive of long standing, but then — possibly within the past two weeks — discovered that her employees had been behaving unethically. In response to that discovery, she offered up a payment equivalent to a two-year clawback. If that’s the case, then Kopecki’s initial story was correct, when it was published, and then the facts changed later on.

But there’s still something smelly here. The restatement to first-quarter earnings came to $459 million — that’s basically the amount by which the trading loss in that quarter was increased, as a result of re-marking positions. And notwithstanding the fact that the London Whale had extremely large positions, it’s still the case that $459 million is a huge amount of money. Which raises the question: is it credible that a difference of $459 million could be within JP Morgan’s internal thresholds? And if so, what does that tell us about JP Morgan’s internal thresholds?

What’s more, if you’re the CIO trading desk and your single biggest and most public position starts sliding away from you in a nasty manner, would you really try to massage those marks? I can see why traders can get a bit overoptimistic when they’re angling for a big bonus, or trying to make it look like they made money rather than lost money. But if you’re already ‘fessing up to a $2 billion loss, at that point you have precious little incentive to make it look like it’s “only” $2 billion rather than $2.5 billion. You’re almost certainly going to lose your job either way; the last thing you want to do is exacerbate matters by being less than fully honest about where you’re at.

So try this other narrative on for size: after the losses were first disclosed, the markets continued to move away from JP Morgan, and the bank’s losses grew, as Dimon always warned that they might. At this point, however, with the losses up to $5.8 billion in total, it became increasingly difficult to justify the idea that there wouldn’t be any clawbacks. At the same time, JP Morgan, for whatever reason, didn’t want to set an internal precedent saying that taking on risk and then losing money was sufficient reason to claw back funds. So instead it went back to the original marks and unilaterally determined that they were unethically self-serving. And at that point it could claw back bonuses not on the grounds that the traders lost money, but rather on the grounds that they were behaving unethically. And similarly, because Drew was now someone who had been in charge of unethical traders, it could ask her to return a lot of money as well.

This solution would allow Dimon and JP Morgan to be seen to be taking the ethical high road, sending a clear signal to the bank’s trading desks: we understand you’re in the risk business, and that sometimes people in the risk business lose money. That’s OK, especially when executives up to and including the CEO signed off on your trades. But what’s not OK is if you lie about your marks, or you try to hide how much money you’re losing.

The truth is in here somewhere, although we’ll probably never know where exactly. If I had to guess, I’d say that Dimon was in the first instance inclined not to claw back pay, especially since he had personally approved the trade in question — but then, as JP Morgan’s share price got out of hand and there was outrage about the lack of clawbacks, he changed his mind. All he really needed to do was make a couple of phone calls. The first would go to the people trying to clean up the mess in London, asking whether the first-quarter loss was really as small as the bank originally said, and implicitly encouraging them to do what mess-cleaner-uppers always do, which is put as much blame as possible on the people who created the mess being cleaned up. And then the second call would go to Drew, who would probably need very little prompting to do the right thing and volunteer a clawback equivalent.

The downside of this strategy is that JP Morgan was forced to restate its first-quarter earnings, and public companies hate doing that. Still, the bank’s share price is up more than 5% today, so the markets don’t seem to mind. The big write-off this quarter, along with the claw-backs, look as though they have drawn a line under the whole sorry story. Which means, I guess, that JP Morgan can now concentrate more of its attention on the ongoing Liebor scandal.

I just arrived in LA, where the news that Leon Black was the buyer of The Scream is taking a decided back seat to the saga of MOCA. Just today, four life trustees of the Museum of Contemporary Art here wrote a letter to the LA Times distancing themselves from the direction it is taking, and another one — artist John Baldessari — resigned from the board entirely, becoming the fifth board member to do so since February.

The proximate cause of the latest storm was the firing of respected curator Paul Schimmel — and not even by MOCA’s new director Jeffrey Deitch, but rather by the man who brought Deitch in, Eli Broad. Broad tried to explain himself in an LA Times op-ed this week:

It became clear to the board that it needed a director who could create exhibitions that would dramatically increase attendance and membership and make MOCA a populist rather than an insular institution. After an extensive search and interviews with 10 candidates, the board wisely chose Jeffrey Deitch…

In today’s economic environment, museums must be fiscally prudent and creative in presenting cost-effective, visually stimulating exhibitions that attract a broad audience.

Broad was roundly criticized by, well, pretty much everybody in the art world, with the LAT’s Christopher Knight blithely asserting that “a great art museum whose board of trustees has a combined net worth far in excess of $21 billion shouldn’t have financial problems”, and that none of the moves made by Broad and Deitch were necessary.

But the fact is that MOCA has had enormous financial difficulties for many years, that Broad is pretty much the only individual willing to write it large checks, and that therefore he pretty much gets to call the shots. If populist is what he wants, populist is what he’s going to get. And so Schimmel is out, and MOCA’s next big exhibition is going to be a disco show curated by LCD Soundsystem’s James Murphy, following up on a James Dean show curated by film star James Franco. These things are fast, cheap, and popular — the exact opposite of Schimmel’s meticulously-constructed and art-historically incredibly important shows. You can’t throw a show of Robert Rauschenberg combines together in the space of a few months.

And so while Broad is willing to continue to subsidize expensive things that fit in with his vision, such as the main Grand Avenue building opposite the site of his own new museum, the rest of the museum’s program is becoming a parody of the LA mindset, where the only thing that matters is the box-office gross.

Is the saga of MOCA of purely parochial interest in LA, or is it indicative of broader trends? I hope it’s the former, but I fear it’s the latter. Broad is the prime exemplar of the way in which rich Gagosian clients have devastated the delicate ecology of the art world, especially in places like LA where its roots had little depth to begin with. The LA art world is fascinating and storied and important and wonderful in many ways — but for most of its history it was largely out of view as far as the city’s broader popular culture was concerned, the province of a small and dedicated group, rather than of high-profile celebrities and billionaires.

But now that contemporary art has become internationalized and homogenized, it has increasingly little time for geographical idiosyncrasies. Larry Gagosian is the Robert Parker of the art world, imposing his taste on institutions across the planet, via a group of nouveau-riche collectors who tend to buy whatever’s expensive.

Leon Black, it should be said, is not one of those collectors. He doesn’t buy trendy contemporary art: instead, he has amassed a formidable collection of indisputably world-class pieces, including some of the greatest drawings in the world. He owns Brancusi’s Bird in Space, for instance, which is the great and timeless precursor to the shiny rabbit that Eli Broad loves posing next to on the cover of his memoir. And as Kelly Crow noted in her scoop about Black buying The Scream, as a work on paper, it actually fits into Black’s collection very easily. Yes, it’s a trophy piece. But Black didn’t buy it just because it’s often found on the side of canvas tote bags.

Black operates at the very heights of the art world, sitting on the boards of both the Metropolitan Museum and MoMA. My guess is that The Scream will end up at the former, just because MoMA already has a surfeit of iconic 20th-Century works. But wherever it lands, it will enrich rather than change the nature of the museum: both institutions are so big as to dwarf any single donor or artwork.

Move down a notch or two, however, and when you get to the level of MOCA, or of most of the thousands of other modern art museums in the world, a small group of Gagosian-educated plutocrats can set the artistic agenda much more easily. Whether it’s Eli Broad at MOCA or Dakis Joannou at the New Museum, or even whether it’s the way in which big art fairs have become public spectacles in their own right, ratifying the expensive and ignoring any kind of curatorial context, a new popular consensus is taking hold. And consensus is always boring.

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Back in the spring of 2008, Roger Lowenstein came out with While America Aged, warning that the fragility of America’s pension plans “loom[s] as the next financial crisis”. Thanks to Lehman Brothers, his timing was a bit off. As Phillip Longman explains in a great piece in the Washington Monthly, now might be the time to start worrying:

According to a recent study by the Employee Benefits Research Institute, fully 44 percent of Baby Boomers and Gen-Xers lack the savings and pension coverage needed to meet basic retirement-age expenses, even assuming no future cuts in Social Security or Medicare, employer-provided benefits, or home prices. Most Americans approaching retirement age don’t have a 401(k) or other retirement account. Among the minority who do, the median balance in 2009 was just $69,127.

Among the litany of factors Longman cites that are coming to a head this decade: the “demographic deficit” that’s leaving the US with fewer working young people supporting more retired folks; the increase in household debt of all varieties over the last five decades; and the decline in median family net worth over the past 20 years.

There’s also the mostly undelivered promise of 401(k)s. As Jia Lynn Yang wrote recently, in 2009, 51% of Americans were “at risk” of not being able to maintain their current standard of living into retirement. That’s up from 31% in 1983. It’s looking more and more like Teresa Ghilarducci was right to argue: The 401(k) “is a failed experiment of how well individuals can save for their retirement”. Maybe it’s time to try her idea of “guaranteed retirement accounts“? – Peter Rudegeair

On to today’s links:

LIEBOR
Congress wants another try at asking a banker tough questions, this time with Bob Diamond – Guardian

JPMorgan
All 40 of JPMorgan’s in-house regulators were replaced last year with less experienced peers – DealBook

Politicking
Romney said he left Bain Capital in 1999. Government documents said he stayed on for three more years – Boston Globe
Confidential documents support Romney’s version of events – Dan Primack

EU Mess
Spanish PM announces tax increases and budget cuts, and predicts zero economic growth amid protests – WSJ

Negotiations
One-stop shopping: Private equity pulls a Wal-Mart and dictates prices to suppliers – DealBook

Bold Rationality
Forcing young people to work for the government at minimum wage for 18 months may not be the best idea – Bloomberg View

Markets Have A Message
US Treasury sells 10-year debt at lowest yield ever – FT

The Fed
FOMC minutes: More stimulus or additional policy actions may be needed “if the economic recovery were to lose momentum” – The Fed
The US economy is “stuck in a new kind of normal, somewhere between crisis and prosperity” – NYT

Charts
Soviet Russia: bad at economic planning, good at economic infographics – Ripetungi

Economy
Weekly initial unemployment claims decline to 350,000 due to onetime factors – Calculated Risk

Pigs in Mud
Lawyers demand ex-Dewey lawyers give back pay or “face years of litigation” – WSJ

Must Watch
Joe Weisenthal interviews Paul Krugman and shows CNBC how it’s done – Business Insider (Part I, Part II, Part III)

Bad News
The connection between rising black unemployment and the shrinking public sector – Dave Weigel

Michael Kinsley tackles outsourcing today, complaining that Barack Obama is a protectionist who doesn’t understand its value, and that Mitt Romney is keener to pander to protectionists than he is to defend free-market principles. He writes:

Romney or Obama? “I don’t want the next generation of manufacturing jobs taking root in countries like China or Germany.” Early in the Republican primary campaign, China was the one subject Romney seemed genuinely agitated about. Imposing tariffs on Chinese goods was on the long list of things Romney said he was going to do on Day One of his presidency. Maybe he still is, but he doesn’t play it up the way he used to.

Meanwhile, if Romney is a free trader at heart, faking a bit of protectionism, Obama seems to be a protectionist at heart, faking a belief in free trade. That quote in the previous paragraph is from Obama, and shows a fundamental misunderstanding of how markets work. Trade is not a zero-sum game. There isn’t a certain number of manufacturing jobs that will either go to China or Germany, or come to us. We want China and Germany to have lots of manufacturing jobs. The more they have, the richer they are, the better off we will be as well. Beggar-thy-neighbor policies don’t work.

Kinsley is probably right on the politics, here, but he’s wrong on the economics. Here’s Obama’s quote, in context:

I was able to sign trade agreements with Korea and Colombia and Panama so our businesses can sell more goods to those markets. That’s why I’ve fought for investments in schools and community colleges, so that our workers remain the best you’ll find anywhere, and investments in our transportation and communication networks, so that your businesses have more opportunities to take root and grow.

I don’t want America to be a nation that’s primarily known for financial speculation and racking up debt buying stuff from other nations. I want us to be known for making and selling products all over the world stamped with three proud words: “Made in America.” And we can make that happen. (Applause.)

I don’t want the next generation of manufacturing jobs taking root in countries like China or Germany. I want them taking root in places like Michigan and Ohio and Virginia and North Carolina. And that’s a race that America can win.

This, it seems to me, is an entirely coherent economic policy if what you’re trying to do is maximize the number of good working-class jobs in America. There’s no doubt that US employment, as a whole, is on a long-term secular trend away from goods and towards services. And at the same time, the two countries with the world’s biggest trade surpluses — China and Germany — are precisely the two countries with the healthiest manufacturing industries. What’s more, neither of them is suffering a jobs crisis.

So the question arises: should the US continue to accept the Ricardian bargain whereby it concedes to China and Germany the comparative advantage in manufacturing, while keeping for itself the comparative advantage in borrowing-to-consume and constructing synthetic CDOs? The answer is no, and not only because there’s something hollow and dangerous about an economy which is too reliant on financial whiz-bangery. There’s something more important at stake here, and that’s employment.

US manufacturing in fact is extremely competitive on a global scale; the problem is that output has lagged productivity improvements, with the result that we’re making more stuff with ever fewer people.

There’s no particular reason why that should be the case: when manufacturers in China and Germany become more efficient, that’s their sign to employ more people, rather than fewer. As each employee becomes increasingly profitable, it makes perfect sense to keep on adding more employees. Or at least it does in some countries. In the US, by contrast, capital is cheap and plentiful, and there’s much more incentive here to replace people with capital goods wherever possible.

But at that point, why even invest the money in the manufacturing industry at all? Everything becomes a question of opportunity cost, and if you can get higher returns in say the financial sector, then the rational thing to do is to start an investment bank, make lots of money from your trading desk, and then take the proceeds and spend them on manufactured goods from China and Germany. That’s how markets work: goods and money become interchangeable, and if you have money then you don’t need to be able to actually make things any more. Money gives you all the competitive advantage you need.

Except, that’s a strategy which works until it doesn’t. I’m reminded of this bit from Kurt Eichenwald’s piece on Microsoft’s Steve Ballmer in the latest Vanity Fair:

The Microsoft CEO used to proclaim that it would not be first to be cool, but would be first to profit — in other words, i would be the first to make money by selling its own version of new technologies. But that depended on one fact: Microsoft could buy its way into the lead, because it always had so much more cash on hand than any of its competitors.

No more. The advantage that Ballmer relied on for so long is now nonexistent. Google has almost the same amount of cash on its books as Microsoft — $50 billion to Microsoft’s $58 billion. Apple, on the other hand, started the year with about $100 billion. Using superior financial muscle won’t work for Microsoft or Ballmer anymore.

A technology company’s ability to innovate is not a bad metaphor for an economy’s ability to manufacture things and employ people while doing so. If it’s lacking, then for a certain amount of time that hole can be patched with money. But not forever.

And so I think that Barack Obama’s push to bring manufacturing employment back to Michigan and Ohio and Virginia and North Carolina makes all the sense in the world. Trade is not a zero-sum game — Kinsley is right about that — but at the same time that’s no reason to feel sanguine when you see good working-class jobs get exported to countries where the idea of building a blue-collar career in the manufacturing sector is still a perfectly sensible and reasonable one. America does not have a jobs crisis among college graduates, even if the employment situation for recent graduates right now is grim. It does have a jobs crisis in areas where factories have closed and industrial skills are no longer valued.

If you run a company, one of your jobs is to ensure that your company’s money isn’t wasted. And similarly, if you run an economy, one of your jobs is to ensure that your country’s labor force isn’t wasted. There are far too many Americans, right now, who could be working and aren’t. That’s downright inefficient. Their skills are well suited to the manufacturing industry. And so, if new manufacturing jobs are to be created, somewhere in the world, it makes a huge amount of sense that they be created in places like Michigan and Ohio and Virginia and North Carolina: that’s where the low-hanging fruit lies, in terms of hard-working employees with enormous potential productivity gains.

Kinsley’s right that we want China and Germany to have manufacturing jobs. But here’s the thing: China and Germany have manufacturing jobs. New manufacturing jobs, at least in the short term, should move where there’s both a shortage of such things right now, and a large potential labor force willing to get to get to work tomorrow. Certainly it’s the job of the president to encourage precisely that. And if he succeeds, he will have built a powerful economic engine in a part of America which is not doing well at the moment.

Note that Obama talked about bringing those jobs to America not in any protectionist context, but rather in the context of a series of free trade agreements which, at the margin, make outsourcing easier rather than harder. His goal is not to steal jobs from elsewhere, but rather to make America a place where the infrastructure and workers are so attractive that companies around the world decide to source their manufacturing here. No one cares, any more, about the nationality of the employers in these states: a job is a job, whether your employer is American or Brazilian or Swedish.

The computer I’m writing this on was made by an American company in China, but there’s no particular reason why other items in my household shouldn’t be made by a Chinese company in America. If the US can create the conditions for that to happen — if Chinese companies voluntarily move some of their manufacturing here because that’s how effective the US manufacturing sector has become — then everybody wins. That’s what Obama wants. And wanting that requires no misunderstanding whatsoever of how markets work.

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This is no Meredith Whitney-sized apocalypse, but it’s worth noting that San Bernardino is the third California city in two weeks to seek bankruptcy.

The San Bernardino City Council made the decision after a report by staff said it would run a deficit of $45 million in its current fiscal year and that further cuts were not possible: “The city has declared numerous fiscal emergencies based on fiscal circumstances and has negotiated and imposed concessions of $10 million per year”.

In the short term, this means San Bernardino will stop making payments on debt and attempt to find some sort of fiscal path forward. As Matthew DeBord notes, San Bernardino could come “out of bankruptcy with its debt reorganized and with a better chance to have a balanced budget and a reserve fund in the future”. However, debt payments are a small portion of the city’s deficit, so even under that rosy scenario, the city faces tough choices elsewhere. (The city is also contending with allegations of more than a decade of misreported city fund balances).

Twenty percent of the city’s workers have already been laid off, and many have taken pay cuts, DeBord reports. A recent auditor’s report noted that 31% of the city’s revenue comes from property taxes, and recovery to pre-housing-bubble levels seems unlikely. There’s also the issue of how to right-size spending on vital services like police and fire. Fellow bankruptcy-seeker Stockton, MuniLand’s Cate Long notes, ”[admitted] that the city has had little-to-no success in getting the pay of its public safety workers under control” and sought bankruptcy, in part, to renegotiate union contracts. The picture is brighter for San Bernardino, which spends only 42% of city funds on public safety, compared with Stockton’s 76%.

Although San Bernardino’s looming bankruptcy is having “basically having zero impact” on the bond market, there’s a bigger issue here. State and local government spending is in long-term decline: Two prominent forecasters expect it to fall to 10% of GDP by 2020 from 11.9% last year. Meredith Whitney may have been wrong about mass muni defaults, but we’re still seeing cities coming within just a few thousand dollars of insolvency. – Ben Walsh

On to today’s links:

Interesting
Income distributions for Major League Baseball and the US as a whole are surprisingly similar – BMO
Muni bonds’ tax-free status limits their appeal to investors – Josh Barro

Inefficient Markets
More than 80% of the US equity premium is gained in the 24 hours before Fed announcements – Liberty Street Economics

Tax Arcana
In 2009, Americans paid the lowest federal tax rates in 30 years – WaPo

JPMorgan
JPMorgan may claw back millions in pay from execs over the London trading scandal – WSJ

EU Mess
Under bailout terms, Spain may cede bank control, while investors face haircuts – WSJ

Take Your Time
Regulators have met just 37% of Dodd-Frank’s rule-making deadlines – Politico

Apropos of Nothing
The value of the general manager: Why corporations need more Michael Scotts – HBR Blog
Blame horses for pants – Alexis Madrigal

Appropriately Surly
Krugman: “I just did Squawk Box … it was one zombie idea after another” – NYT

MF Doom
US Bank is being drawn into the PFG investigation – WSJ

Brad Miller, arguably the most sophisticated and well-informed member of the House when it comes to housing finance issues, has an op-ed in American Banker today about the eminent-domain plan being mooted in San Bernadino (which just voted to file for bankruptcy, by the way). Miller’s excited about the plan, because he thinks that it will force banks to take losses on all-but-worthless second liens. But, sadly, he’s wrong about that.

Miller actually makes two mistakes in his piece. The first comes when he explains how the price of the mortgages would be determined:

Deciding a fair price would not be hard. There are frequent auctions of mortgages with a sufficient number of informed, sophisticated buyers. The auctions are an almost perfect pricing mechanism. There would be comparable sales to determine almost any mortgage’s fair market value.

Miller’s right that mortgages do get auctioned relatively frequently, if not frequently enough that the market can even be considered highly liquid, let alone “an almost perfect pricing mechanism”. But here’s the thing: the private-label mortgages which tend to get sold off are precisely the mortgages that Mortgage Resolution Partners does not want to buy — the ones in default. Banks which own performing mortgages have almost no incentive to ever auction them off. And MRP has said that performing mortgages are the only mortgages it’s interested in.

What’s more, when performing underwater mortgages are traded, they’re often sold above par, since the homeowner is locked in to higher-than-prevailing mortgage rates. MRP, by contrast, is determined that it will only buy mortgages well below par: indeed, they’re saying that they’ll demand a discount not only to the face value of the mortgage, but even to the market value of the property. As a result, deciding a fair price might well be completely impossible: the owners of the mortgage would value it as a performing loan at a high rate of interest, while MRP would essentially ignore the fact that it’s performing, and value it on the basis that it cannot be worth more than the value of the collateral.

A free market copes quite easily with huge valuation discrepancies like that: there’s simply no trade, and the owner of the mortgage holds onto it, while companies like MRP find themselves unable to offer a price at which anybody is willing to sell. That’s why MRP’s whole idea is contingent on doing an end-run around the free market, and forcing the owners of the mortgage to sell. The point here is that if there really was a low market-determined fair price for the mortgages, then MRP wouldn’t need eminent domain at all: it could simply buy up those mortgages on the free market, directly from banks. Maybe, eventually, once it ran out of free-market mortgages to buy, MRP could try to use the eminent-domain method to buy mortgages from CDOs and MBSs. But at that point they’d have real-world market-based proof of how much such mortgages were worth.

MRP isn’t going down that road, however, because it knows that no one will voluntarily sell them mortgages at the kind of discounts it’s looking for. Which is prima facie evidence that the amount it’s willing to pay is not a fair price after all.

Miller then moves on to the thorny issue of second liens. While first liens are often owned by special-purpose investment vehicles, second liens are generally owned by banks. Miller writes:

So the real losers from the program would be the biggest banks, the holders of second liens, not investors in first mortgages. And even for the biggest banks, eminent domain would not cause losses but reveal losses.

But this isn’t true. If anything, the holders of the second liens would make money from this scheme, rather than losing money. Remember that MRP is not planning to buy houses using eminent domain, which would make much more sense. Instead, it’s only planning to buy mortgages — and it’s refusing to buy any mortgages held directly by banks. Instead, it’s only buying mortgages held by special-purpose investment vehicles, which tend not to have expensive lawyers willing and able to contest any and every valuation.

“Involuntary sales of seconds at fair market value would end fictitious valuations and require an immediate accounting loss,” writes Miller — and he’s right about that. Sadly, there’s nothing in the MRP plan which suggests that MRP has any interest at all in buying up second liens from banks. If MRP were buying houses rather than mortgages, then the banks holding the second liens would be forced to take an immediate loss. But it’s not. Instead, it’s just buying up performing first liens, and leaving everything else intact, including all second liens. At the margin, then, by reducing the amount of money that homeowners owe on their first liens, the MRP plan will increase, rather than decrease, the value of the second liens.

Why won’t MRP buy up second liens at what it considers to be a fair market value? For the same reason that it won’t buy up first liens directly from banks, either — the two sides will never be able to agree on a price. By MRP’s calculation, if the first lien is worth much less than par, then the second lien has to be worth something very close to zero. By the bank’s calculation, on the other hand, a performing second lien is a valuable revenue stream, worth a significant amount of money. And because MRP will be willing to pay very, very little for that second lien, it will not be willing to spend a substantial amount of money defending that near-zero valuation in court: its legal fees would almost certainly be greater than the amount it was willing to pay for the second lien in the first place.

If Brad Miller can point me to a plan where eminent domain is used to buy underwater houses rather than underwater mortgages, or if he can point me to a plan where eminent domain is used to by delinquent mortgages rather than performing ones, including seconds — then he’ll have me persuaded. But sadly the plan on the table is not the plan that Miller thinks it is. Which is why it’s a bad plan.

I’ve just been told that it’s International Media Ethics Day in September, which is so far away that I’m bound to forget to post something. But I have been thinking a bit about media ethics of late, and especially the ever-increasing list of rules designed to ensure that journalists are neither conflicted nor seen to be conflicted. And the more I look at such things, the more I come to the conclusion that all too often they do a very good job of banning harmless activity, while at the same time proving quite ineffective against situations which are far more ethically problematic.

It’s easy to come up with a list of cases where ethics watchdogs in high places have come down too harshly on infractions which were pretty harmless. Think of Mike Albo being fired from his NYT column, or for that matter Neil Collins being fired from Reuters. In neither case did the punishment fit the crime, notwithstanding of the letter of the law as unilaterally interpreted by the news organization in question.

It’s also easy to come up with instances of news organizations tying themselves up in rather hilarious knots in order to meet their own self-imposed ethical standards. Len Downie and Mike Allen never vote, for instance, for fear that their private and secret ballot might in some way inform their journalism. And I was particularly tickled by the contortions that the WSJ went through when faced with an extremely good-natured wager by Dan Neil:

The Wall Street Journal, which I joined in February 2010, does not permit its journalists to engage in this kind of wagering, regardless of subject or beneficiary — even by critics and columnists like me who are paid to have and express their opinions. And that’s perfectly reasonable: You wouldn’t want a theater critic betting a play will succeed or fail. Moreover, it’s better for journalists to write about the story than to somehow become part of the story. However, since I undertook this obligation before my tenure at the WSJ, and since the outcome is a charitable contribution, the Journal allowed me to follow through.

There’s an implication here that if Neil had promised to pay Elon Musk $1,000, rather than Doctors Without Borders, then the WSJ would have considered his welshing on his bet to be more ethical than his making good on it. We don’t know, which is a bit problematic in itself.

The theme running through all of these cases is that of reductio ad absurdum. Organizations decide that their journalists should be above reproach, and draft a set of rules to that effect. They then consider themselves bound by the rules, rather than by the principle underlying those rules.

The risk of absurdity is particularly high when it comes to social media in general, and Twitter in particular. As Twitter inexorably erases the professional/personal distinction, sophisticated organizations are increasingly adopting social-media policies based on simple “don’t be stupid” principles, rather than on hard-and-fast rules.

What goes for Twitter goes more generally, too. Twitter has proved that journalists are human, which has upside as well as downside. Journalistic ethics should embrace that, rather than trying to force all journalists into being magisterially impartial observers.

What would ethics look like in a world which is messier and more transparent? For one thing, we would spend less effort ring-fencing journalists’ lives and conflicts, and more time simply being open about them. The end result could actually be a significant improvement.

The reason is that the single biggest problem, when it comes to journalistic bias, has nothing to do with journalists owning stock in companies, or being paid speaking fees. (Although with speaking fees, a simple would-you-be-happy-being-transparent-about-this test is often a very good place to start.) Rather, by far the most common way in which journalists are captured by corporate interests is precisely the same way that journalists get scoops: source cultivation.

Journalists don’t always have sex with their sources, but when you’re having long and often boozy meetings with people, it’s statistically inevitable that many journalists are going to end up liking some subset of those people. After all, sources aren’t necessarily bad or evil: some of them are very good, very charming people. And often journalists end up working incredibly closely with sources for weeks or months on end as stories progress. Sometimes, that work becomes formalized: after Gretchen Morgenson used Josh Rosner as a source during much of the financial crisis, she then co-authored a book with him. Other times, the source ends up marrying the journalist: think Alan Greenspan and Andrea Mitchell.

But most of the time, it’s not nearly as obvious as that. Especially when it comes to background dinners with no particular agenda, a lot of what’s going on is a complex game of two people trying to get comfortable with trusting each other. That trust needs to be built up over time, and building it up takes a substantial amount of effort. It can be hard to distinguish, sometimes, from friendship. And if the journalist writes something bad about the source or the source’s company, the whole relationship can be jeopardized.

Keith Winstein has a fantastic way of explaining why beat reporters don’t make great investigative reporters; it basically comes down to the fact that beat reporters need access, which is the one thing that no company wants to give to an investigative reporter. But all reporters, be they beat reporters or investigative reporters or opinion journalists or anything else, have human sources and understandably feel bad if they write something that upsets the sources they get along well with. And that ends up shaping news stories, at the margin, much more than any financial incentives they might have.

Source relationships are particularly fraught when it comes to short-sellers, most of whom have good relationships with a certain subset of the financial-journalism world. That makes perfect sense: short-sellers often uncover newsworthy frauds, and it’s in everybody’s interest for those frauds to be uncovered in a public manner. But the closer a short-seller gets to a journalist, the more problematic the relationship, just because the short seller is likely to have advance notice of a key precipitating event — the publication of the story in question.

Here’s the problem: let’s say I’m a short seller, and I’ve uncovered a big fraud. I can go short the stock, but doing so is fraught with danger: so long as the fraud isn’t public, the stock can rise a lot and I can get stopped out. And if I simply sit back and wait for some journalist or government agency to find the fraud on their own, I could be waiting a very long time indeed. So I make things happen by talking to a journalist I know I can trust. And somewhere along the way I get a reasonably good idea for when that journalist’s story is going to appear — a story which I’m pretty sure is going to result in the company’s share price falling. At that point, I have the holy grail for any short-seller: knowing not only that a stock is going to fall, but also when it’s going to fall. And I have that information just because of how close I am to the journalist. You can see how the journalist, in this light, looks a bit less like the impartial crusader of Truth, and a bit more like the willing patsy of the short-seller.

I don’t know how or even whether this problem can or should be addressed, but I suspect that a bit more transparency could only help. And that’s not the only area where more transparency would surely be a good thing. I’m a long-time reader and fan of Joe Nocera, for instance, and so I know that he has featured Westwood Capital’s Dan Alpert in his column numerous times, as well as letting Alpert guest-blog for him on occasion. Last August, Nocera introduced him, quite explicitly, as “my friend Daniel Alpert”.

Yesterday, Nocera wrote about the eminent-domain plan for seizing underwater mortgages; he concluded that “it’s time to give eminent domain a try”. In doing so, he ducked all of the questions I’ve raised about the plan he’s writing about: how Mortgage Resolution Partners is buying mortgages rather than homes, and performing mortgages rather than defaulted mortgages, and indeed is trying to buy performing mortgages for a fraction of their face value, even as investors are valuing them at or even sometimes above par. “Since the home has dropped dramatically in value, the mortgage is worth a lot less than its face value,” asserts Nocera — ignoring the fact that once a mortgage is seasoned and performing well, it has to be worth at least as much as a performing unsecured loan of the same amount.

Why was Nocera so seemingly blind to the weaknesses in the MRP plan? Maybe he considered and rejected them; maybe he didn’t consider them at all. Or, maybe, he was predisposed to like the MRP plan because his friend Dan Alpert is one of the principal movers behind it. I knew that Nocera had written about the MRP plan before I knew what Nocera had written about the MRP plan — but because I also knew about the Nocera-Alpert connection, I didn’t need to read the column to know what Nocera’s conclusion would be. Nocera was under no compulsion to write about the plan, and I’m reasonably certain that if he can’t say something nice about Dan Alpert, he’s not going to say anything at all.

Dan Alpert wasn’t mentioned in Nocera’s column, and neither was his company, so even a close reader of Nocera’s work would have found it difficult to notice what you might call the friendship conflict. Nocera gives paid speeches, including to securitization professionals, and I don’t think that the money he gets paid for giving those speeches affects his columns one bit — any more than his cruise-ship seminars do. But the NYT keeps very close tabs on all that extracurricular income, because it’s seen as raising potential ethical issues. Nocera’s connection with Alpert, on the other hand, isn’t scrutinized at all — it’s a perfectly unexceptional journalist-source relationship — despite the fact that it must have had some significant effect on the column.

This, then, is where a bit of first-person transparency would come in useful. “I’m biased: I’ve known Dan Alpert for years, and he’s a friend. But I still think this is a good idea.” It doesn’t take up much space, it’s perfectly natural, and it helps readers understand where the writer is coming from.

Was it unethical for Nocera not to disclose his relationship with Alpert? I wouldn’t go that far. But then again, I don’t think it’s particularly helpful to try to draw rules-based bright lines between “ethical” and “unethical”, and say that anything on one side of the line is fine, while anything on the other side of the line is unacceptable. We don’t want journalists to become like corporate executives, who, in the words of Eduardo Porter, “behave as corruptly as they can, within whatever constraints are imposed by law and reputation”.

Instead, I’d encourage all journalists to consider every action they do, every day, and ask whether it’s helpful or unhelpful, good or bad, at the margin. And the point here is to spend as much time trying to do things which are good as you do avoiding things which are bad.

Right now, US journalism has a rather Calvinist view of ethics: it’s all downside and no upside. But it seems to me that if publications encouraged their journalists to be more ethical, rather than just requiring them not to be unethical, things might get a lot better. We’d see more detailed disclosures like Kara Swisher’s at All Things D. We’d see fewer anonymous quotes, since there’s always something a bit dirty and secretive about them. We’d have fewer journalists automatically saying “yes” whenever anybody asked them if they could talk off the record. And we’d have columnists like Nocera explain their personal connections to the subjects they were writing about, even when doing so isn’t strictly necessary: it would still at the margin be better than not doing so.

My suggestion for Media Ethics Day, then, is that, this year, we stop talking about rules: what behaviors are OK, and what behaviors aren’t. I don’t have a problem with those rules existing, but I worry that an unintended consequence of putting those rules in place is that journalists end up worrying much more about the rules, and what side of the rules they’re on, than they do about the underlying ethics of what it is that they’re doing, or not doing. Similarly, I’d like to see a little less emphasis on what constitutes unethical behavior in journalism. While that’s an important topic, it’s also a constrained one. What I want to see more of is discussion of what constitutes ethical behavior in journalism — what kind of things can all journalists do to make their practice ever more ethically sound?

I’d particularly love to see that conversation take place in the context of an increasingly social world, where friendships and relationships are more out in the open than they have been in the past, and where grown-ups recognize that conflicts are a fact of life, rather than something which should always be avoided.

If you study ethics in a philosophy department, it’s a tough nut to crack, with lots of very difficult questions. In a journalistic context, by contrast, everybody seems far too keen to boil everything down to simple yes/no answers.

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A few hours after filing a complaint with the World Trade Organization about China’s duties on American car exports, President Obama last week told an Ohio crowd that ”Americans aren’t afraid to compete”.

Competition is one of those loaded, euphemistic campaign terms. Last fall, the Obama administration passed the biggest group of free-trade agreements since NAFTA and even created an enforcement squad on the subject. But there’s no agreement on whether this will create or destroy American jobs.

If you’re interested in the slippery notion of free trade, read Zach Carter and Sabrina Siddiqui’s fascinating piece on the Obama administration’s attitude toward the international pharmaceutical market. India’s government, rather than leaving its citizens to pay $5,000 a month for the cancer drug Nexavar, opted to allow a local company to produce a generic version of it, which costs $157 per month. India’s actions, according to recent testimony from US Patent and Trademark Office Deputy Director Teresa Stanek Rea, were an ”egregious” violation of WTO trade rules.

The only problem with that contention, Carter and Siddiqui report, is that this “compulsory licensing” is one of the WTO-sanctioned ways countries offer versions of drugs like Nexavar to their citizens. Indeed, they add, the US uses the same technique. Strangest of all, Bayer, which owns the patent on Nexavar, isn’t even an American company:

Rea and others at the briefing also failed to note that Bayer is a German company. During a lengthy discussion of the Obama administration’s efforts to prevent the Indian government from providing affordable medication to its citizens, Rea declared, “We are doing everything we can to respect the rights of U.S. innovators.” But she didn’t mention that her efforts weren’t actually supporting an American corporation.

That’s the “spaghetti bowl effect” of bilateral trade negotiations for you: It’s so incredibly recondite that it almost never makes any sense when viewed dispassionately from the outside. – Ryan McCarthy

On to today’s links:

MF Doom
“We’re doomed” – An MF Global-like implosion, a suicide attempt and more missing customer money – Reuters

LIEBOR
Bob Diamond could lose out on $31 million in compensation over the LIBOR scandal – DealBook
We’d really like to know what happened at the NY Fed’s 2008 meeting on “Fixing LIBOR” – Reuters
LIBOR-fixing may have cost muni issuers tens of millions of dollars – Bond Buyer

EU Mess
Europe decides to release Spanish bailout funds now (as opposed to eventually) – Bloomberg
“The ECB is guilty of malpractice” – Christopher Mahoney

Housing
Rents reach record highs, vacancies drop to lowest level since 2001 – WSJ

Self-Harm
“It has become transparently clear that the central bank has failed to take the actions its own principles demand” – Bloomberg View
President of the St. Louis Fed: Current Fed policy is “appropriately calibrated” – WSJ

New Normal
Every Scranton city employee now earns minimum wage – NPR
Economic mobility still elusive for the poor, African Americans and non-college graduates – Pew Charitable Trusts

Remuneration
Wall Street employees lost $2 billion last year on their own company’s stock – Bloomberg
Wall Street CFO pay raises outpace all other sectors, up 21% in 2011 – WSJ

Wonks
What is a bank loan? – Interfluidity

Literary
A firsthand account of how the Pulitzer fiction finalists were chosen – New Yorker

Plutocracy Now
For just $2,500 you could eat boudin with Nouriel Roubini or do squat thrusts in the vicinity of George Soros – Bloomberg

God’s Work
A quarter of Wall Street execs see wrongdoing as a key to success – Reuters

Indicators
Consumer credit rose like crazy in May – WSJ

Must Watch
“Share it Maybe”: Cookie Monster’s version of “Call Me Maybe” – YouTube

TomTom has released its first congestion indices today, comparing 31 cities in Europe and 26 cities in the US and Canada. (They call that North America, which is a bit disappointing, because I’d dearly love to see how Mexico City compares to other North American cities, and it’s not on the list.) The rankings are interesting, but even more interesting, to me, are the way that the rankings have changed over the past year.

Consider Edmonton, for instance: a town in the midst of a massive oil boom, where road construction can’t even begin to keep up with population growth. That was obvious back in September 2009, in the city’s transportation master plan:

As Edmonton evolves from a mid-size prairie city to a large metropolitan area, it is inevitable that congestion levels will increase, particularly during peak periods. Physical, financial and community constraints in many areas make it unfeasible or even undesirable to build or expand roads to alleviate congestion.

TomTom doesn’t give data as far back as 2009, but at least we can see what direction the city is moving in. Last year, Edmonton had a congestion index of 24%, which means that on average, travel times were 24% longer than they would take if traffic were flowing freely. That meant Edmonton was the 8th most congested city on TomTom’s list. This year, the Edmonton congestion index has plunged to just 13%, placing Edmonton 23rd out of the 26 cities, with an enormous decrease particularly during the evening rush hour:

I have no idea why traffic in Edmonton has improved so much over the past year; certainly I wouldn’t have been at all surprised if it had gotten worse rather than better. But the point here is that there’s an important stochastic element to congestion. Consider New York: in 2008, Mike Bloomberg proposed a congestion charge, which passed muster with city legislators but which was ultimately killed in Albany. Again, we don’t have data for what congestion was like in 2008. But between 2011 and 2012, congestion rates in New York overall fell from 23% to just 17%: a very impressive improvement. And today, New York is only the 15th most congested city on the list — behind metropolitan areas like Tampa, Ottawa, and San Diego.

What’s happened in New York to cause the drop in congestion? You can’t say higher gas prices, since those are a nationwide phenomenon, and don’t explain the drop in relative congestion. Plus, congestion in North America overall has stayed stable at 20% even as gas prices have risen. So if it’s not gas prices, what is it? Could it be all those bike lanes? Could it be that John Cassidy needs to eat some crow, and admit that bike lanes reduce congestion, rather than increasing it?

Perhaps: the jury’s still out. And maybe what we’re seeing here is more a function of random variation, and less a function of anything under the control of New York’s Department of Transportation.

What this report does tell me is that it’s going to be very difficult indeed to judge how effective any congestion-charging system is, just by looking at what happens to congestion after such a charge is introduced. I’m sure that if Edmonton had introduced a congestion charge at the beginning of 2011, the city would have claimed a huge amount of credit for the drop in congestion that resulted. But in fact, as we’ve seen, that drop in congestion would have happened anyway.

I’m planning to talk to the people at TomTom next week, and I’ll ask them whether they have any bright ideas when it comes to separating out causative factors for changes in congestion. In the meantime, we now at least have reasonably reliable league tables for the least pleasant cities to drive in. In North America, you want to avoid Los Angeles and Vancouver; in Europe, you want to avoid pretty much every major city. (Stockholm and London, with congestion charges, both have 27% congestion rates, putting them on a par with the very worst US cities.) But especially avoid driving in Warsaw, Rome, and Brussels. They’re even worse than LA.

Update: JCortright, in the comments, makes the excellent point that these numbers are much better at showing congestion changes within a city than they are at comparing congestion between cities. If you have a 45-minute commute in Atlanta, for instance, as measured on a congestion-free basis, and you’re stuck in traffic for an extra half an hour, then that’s 67% congestion. Whereas if you’re stuck in traffic for 15 minutes on a drive that would take you 15 minutes without traffic, that’s 100% congestion. So this methodology makes denser, smaller cities (like Europe’s) look worse.

Look at this scatter chart. There will be a quiz. Another dot is going to be added to this chart, in line with the distribution you see here. You get to choose what the X value of the dot is — and your aim is to get a Y value of greater than zero. So here’s the question: at what value of X are you going to have a 95% chance of getting a dot above the axis, in positive territory on the Y axis?

Emre Soyer and Robin Hogarth of the Universitat Pompeu Fabra, in Barcelona, recently asked a group of economists that question — all of them were faculty members in economics departments at leading universities worldwide. There’s a right answer: it’s 47. And there’s a spectacularly wrong answer: anything less than 10. The economists being asked the question are smart, highly-educated people who are intimately familiar with regression analyses. And it turns out that as a group, they did very well: just 3% got the question very wrong.

But the economists also like being precise. They don’t like eyeballing answers: they like to be certain. And so, Soyer and Hogarth write:

Most of the participants, including some who made the most accurate predictions, protested in their comments about the insufficiency of information provided for the task. They claimed that, without the coefficient estimates, it was impossible to determine the answers and that all they did was to “guess” the outcomes approximately.

This is fair enough. So Soyer and Hogarth found some other economists — chosen randomly in exactly the same way. And they presented those economists with all the coefficients and data they could want, just as it would be presented in an academic paper. It looked like this:

Everything’s there — the formula for the random perturbation, the means and standard deviations for both variables, the OLS fit, the lot. With all this information to hand, economists can be much more accurate when being asked to do something like work out a value for X such that there’s a 95% chance that Y will be greater than zero.

But here’s the thing: when the economists were shown both the graph and the detailed numbers, the number of economists getting the answer spectacularly wrong — the number giving an answer of less than 10 — soared. Just working with their eyeballs, 3% of economists got it wrong. Working with the numbers as well, that proportion rose to 61%! And when a third group was given the numbers and no chart at all, fully 72% of them — professional economists all — got the answer badly wrong.

What the authors conclude is that economists tend to overstretch when they read academic papers — they think that papers show much more than in fact they do. And the more academic papers that economists read, the more misguided they’ll become:

By reading journals in economics they will necessarily acquire a false impression of what knowledge gained from economic research allows one to say. In short, they will believe that economic outputs are far more predictable than is in fact the case.

We make all of the above statements assuming that econometric models describe empirical phenomena appropriately. In reality, such models might suffer from a variety of problems associated with the omission of key variables, measurement error, multicollinearity, or estimating future values of predictors. It can only be shown that model assumptions are at best approximately satisfied (they are not “rejected” by the data)… There is also evidence that statistical significance is often wrongly associated with replicability.

I’m certainly guilty of this kind of thing: I see a paper demonstrating a statistically significant correlation between one variable and another, and I generally assume that if the experiment were repeated, we’d see the same thing again. But that’s not actually true.

And so it’s easy to see, I think, how economists become convinced of things that the rest of us aren’t sure of at all — and how the economists often end up being wrong, while the rest of us were right to be dubious.

What’s more, if economists are bad at this kind of thing, just imagine what other social scientists are like, or even doctors. Next time you see a piece of pop-science talking about interesting findings from some paper or other, bear this in mind. A lot of papers are written; a few of them have interesting findings. Those are the papers which tend to get publicity. But there’s also a very good chance that they don’t actually show what the headlines say that they show.

(Via Dave Levine. And please, don’t get me started on all the meta-implications of this post; suffice to say I’m fully aware of them.)

Walter Hamilton of the LAT has a big trend story today; since I’m in California last week, I can tell you that it even made the front page of the paper. Here’s the thesis:

Americans worried about running out of money in their golden years are trying a new investment strategy: day trading their retirement funds.

Hamilton’s certainly found a few of these people. The most striking is Vlad Tokarev, a biomedical software engineer from Minneapolis with three different retirement accounts. “He is careful not to take excessive risks,” he says, since “he trades only one-third of his retirement savings.” Tokarev is also known as Vlad T on Amazon, where he asked some detailed questions of Richard Schmitt, who’s published a whole book, entitled “401(k) Day Trading: The Art of Cashing in on a Shaky Market in Minutes a Day”. Eventually, Vlad left a glowing review of the book, and seems to be following its prescriptions very closely.

But Hamilton gives very little evidence that this is a real trend at all. He mentions the guy with the book, of course, and also the guy with the website. (The book is $50; the website charges $200.) Other than that, there’s the guy who reviewed the book on Amazon, and then there’s one other person.

Joe Hansman, 29, who handles customer complaints at Wells Fargo, shifts money among two conservative mutual funds in his 401(k) and the banking company’s own stock. He trades 10 to 15 times a month, steering money into Wells Fargo’s stock when he expects it to rally for a few days.

This of course confirms everything you suspected about the kind of people who answer the customer-complaints line at Wells Fargo. Hansman really is day-trading Wells Fargo stock, buying before he thinks it’s going to rise, and then selling before he thinks it’s going to fall. The chances of this working out for him are pretty much exactly zero, despite (or perhaps because of) the fact that Hansman thinks he has some kind of inside track on what’s going on at Wells Fargo from answering the phones in its call center.

In reality, the last stock you should ever own in a 401(k) plan is your employer’s stock — you’re far too exposed to that employer already, and the whole point of having control of your own funds is to allow yourself to diversify. But this obvious fact, underscored by the Enron debacle, seems to be curiously lost on the good employees of Morgan Stanley:

Current and former Morgan Stanley employees, who receive company shares to match their 401(k) contributions, held 24 percent of retirement assets in the firm’s stock before last year’s decline, the highest percentage of any of the banks. They lost $570 million in 2011 as the shares plunged 44 percent…

The bank gives employees $1 of its stock for every $1 put into a 401(k) plan, with a limit of $9,800 a year. Once they receive the shares, employees are free to move the funds into investments other than the stock.

This actually gives me grounds for hope. Morgan Stanley employees, who can be assumed to be reasonably sophisticated about matters financial, turn out to be just as path-dependent as anybody else. Put them into something, and they’ll just stay there, no matter how obvious it is that they should move into something more sensible.

As a result, I suspect that day-trading retirement funds is extremely unlikely to actually become a Thing. People just don’t have the time or the self-discipline to do something like that — especially once you find out what’s involved. Because most 401(k) plans deliberately make it very difficult to do this kind of thing, these plans can only really be put into effect if you have two or even three accounts to trade. And if this kind of activity catches on, chances are the fund administrators will put an end to even the existing loopholes. These accounts are designed for buy-and-hold retirement funds, not for trading.

Lauren Young, in a peculiarly gushing video, says that we shouldn’t think of this as day trading, “but as a smart way to rebalance your portfolio”. That just doesn’t make sense to me. Opinions differ on what the optimal frequency is, when it comes to rebalancing: should you do it every six months? Every year? Only when you’re more than 5% or 10% out of whack? One thing I know for sure is that nobody advocates rebalancing on a daily basis.

And there’s a good reason for that. The strategy being advocated by Schmitt basically only works in highly volatile sideways markets, when up days are followed by down days and vice-versa. But the fact is that everybody who’s made real money in the stock market has done so by buying stocks and just holding onto them over the long term, as they steadily rise in value. Sometimes, stocks don’t do that; sometimes they move sideways for years at a stretch. But the point about retirement funds is that they’re designed for the long term — for patient investors who can afford to wait until the market rises. Whereas, with this strategy, the first thing you do when the market starts to rise is that you start selling.

Which brings me to the most profound problem with all these strategies. Because you can’t short stocks in a retirement account, all of these strategies involve moving back and forth, as frequently as once a day, between broad stock funds, on the one hand, and money-market or cash funds, on the other. As a result, over time, you’re going to find your retirement account much more invested in cash than it should be. A retirement account is no place for cash.

The phrase “day trading” brings to mind large losses on high-risk strategies. And it’s actually not that easy to engineer big losses if all you do is switch back and forth between a stock fund and cash: you have to try quite hard to buy high and sell low. What you will be doing, however, is ensuring that you’re less than fully invested in the kind of securities you ideally want to own over the long term. And the opportunity cost of that underweight allocation, when compounded over a decade or more, can add up to be something enormous.

The psychology behind day-trading 401(k) funds is not hard to understand. People want a decent amount of money when they retire, they don’t have that much money now, and they’re quite right to suspect that if they just keep their money invested in the S&P 500, then they’re very unlikely to end up where they want to be. So they decide that they’re going to try to take matters into their own hands. David Denby wrote a whole book about this kind of thinking; he called it American Sucker.

But the good news is that we learned, collectively, from the dot-com crash and from the 2008 crisis. Many fewer people, today, believe that they can turn the stock market into some kind of get-rich-quick scheme. And given the enormous obstacles involved in trying to day-trade retirement funds, I’m reasonably confident that 99% of their participants — including Lauren Young — will never even attempt it.

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Five days after Bob Diamond testified before members of Parliament on the LIBOR scandal, Bank of England deputy governor Paul Tucker had his turn today. He took aim at Barclay’s less-than-subtle insinuation that in 2008 he all but asked the bank to submit artificially low rates. Tucker told the House of Commons that he was only warning Barclays not to spook the market by indicating it would borrow at elevated rates: “I was plainly talking about their money market activity”.

That conversation, Tucker said, came the day after Barclays refused to accept fresh capital from the UK government and he wanted to understand what the bank’s plan to instill confidence was, exactly. Tucker went on to say that he had similar conversations with non-LIBOR submitting financial firms. “Absolutely not” was Tucker’s immediate reply when asked if he or any other government official ever pressured banks to lower their LIBOR submissions. (Tucker’s full testimony is available here.)

As Felix noted earlier, what Tucker “meant … is that Barclays should do whatever it took to improve its reputation with other banks, so that they would lend to Barclays at lower rates. And yet the corrupt Barclays operation, including Jerry del Missier, reckoned that it would be easier to just go back to their old sordid ways, and nobble the Libor fixings instead”. That culture of deception has caught the eye of EU regulators, who are now readying their response to the scandal:

Michel Barnier, the EU commissioner overseeing financial services, will amend reforms to EU market abuse rules so that potential “loopholes” are closed and criminal sanctions specifically cover tampering with indices such as Libor and Euribor. Mr Barnier called the falsification of such benchmark rates a “betrayal” with potentially “systemic consequences”.

Holman Jenkins thinks the parsing of emails and secondhand misinterpretations of phone calls is just the latest evidence of the too-big-to-fail problem: No central banker or regulator has wanted to pull back the curtain and expose the continuing failures of large financial systems. That’s as big a problem as bankers behaving badly. – Ben Walsh

On to today’s links:

Problems
Patents: a multibillion-dollar business that’s less and less about invention – WSJ
“10% of Medicare beneficiaries who received hospital care accounted for 64% of the program’s hospital spending” – WSJ

Wonks
After a crisis, we feel the need to “maintain the illusion that the world is understandable” – Guardian

EU Mess
Things look even bleaker after another pointless EU summit – Forbes
Greeks underreported €28 billion in income in 2009, enough to cut the deficit by a third – WSJ

New Normal
Credit scores as de facto segregation – WaPo

Tax Arcana
Obama to propose a one-year extension of Bush tax cuts for Americans earning under $250k – NYT
Investors are really not worried about the fiscal cliff at all – Business Insider

Moving Your Money
Racehorses: an attractive investment opportunity (for drug cartels laundering cash) – WSJ

Long Reads
Amazon, the vampire squid of ecommerce: “People complain about conflicts of interest. But you still have to do business with them” – FT

Ugh
Day trading is the hot new way (again) to boost retirement funds – LAT
“An adjunct professor at a third-tier school hawking an overpriced get-rich-quick scheme with clever slogans? Don’t miss this” – Gawker

Must Read
Albrecht Muth and Viola Drath: odd couple and D.C.’s latest social Ponzi schemers – NYT

Old Normal
NYC before AC, where wearing shorts instilled fear of arrest for indecent exposure – New Yorker

Primary Sources
The Bob Diamond-Paul Tucker emails – John Mann MP

Politicking
Romney donor: “I don’t think the common person is getting it … the baby sitters, the nails ladies” – LAT

Oxpeckers
“The newspaper industry looks a lot like, well, steel, autos and textiles” – NYT

Sad
Gabriel García Márquez’s writing career ended by dementia – Guardian

Back on June 21, I looked at the plan from Mortgage Resolution Partners to use eminent domain to buy up underwater mortgages. I wasn’t very impressed, and now that the dust has settled a bit, it increasingly looks as though the scheme — at least as currently designed — is going to end up going nowhere.

San Bernadino, which seemed to be very interested in the idea originally, is now backpedalling:

“We see it as intriguing, but it’s definitely not something we’ve decided to do,” says San Bernardino spokesman David Wert. “We just wanted to get all the information and see if it might actually work.”

And most importantly, a grand coalition of powerful interest groups has released a strong broadside saying that MRP’s plan is a really bad one. Check out some of the names here: The American Bankers Association, the American Securitization Forum, the Association of Mortgage Investors, the California Bankers Association, the Community Mortgage Banking Project, the Mortgage Bankers Association, Sifma, the Financial Services Roundtable — it’s an impressive list, and at this point it’s pretty much impossible to find any institution which supports the idea, other than those directly involved.

The letter from the various interest groups does not, in truth, make particularly compelling arguments. For instance:

If eminent domain were used to seize loans, investors in these loans through mortgage-backed securities or their investment portfolio would suffer immediate losses and likely be reluctant to provide future funding to borrowers in these areas.

This is pretty silly stuff: the fact is that nearly all new mortgages in San Bernadino and across the country are being financed by the government, and insofar as there is a little bit of private-sector financing, it’s probably not coming from people who bought subprime CDOs at the height of the bubble.

But really the point of the letter isn’t to make an argument: it’s to make a point. Two points, really. Firstly, there’s the word “unconstitutional”, which appears very high up. That’s code for “we’re going to appeal this thing all the way to the Supreme Court, so you’d better be willing and able to spend an enormous amount on legal fees.”

And secondly, the letter sends a very clear message that CDO investors are not on board with this scheme. And that’s the thing which ultimately will result in its death.

In principle, a plan like this could be put together in a way that investors could get behind. But it wasn’t, and MRP got greedy, and as a result it’s not gaining traction: just this morning, for instance, the LA Times came out against it.

The problem, at heart, is that MRP is looking to buy up only seasoned, performing mortgages: precisely the ones which are worth the most money, and which don’t present much of a systemic danger to the San Bernadino housing market. We’re talking here about loans which were made during the height of the bubble, on homes which have since plunged in value — and yet the homeowners have diligently made all of their payments on time. If I’m a mortgage investor holding a portfolio of mortgage loans, these are the ones I love — they’re the ones which help to offset the fact that so many of my other loans are in default. Yes, it’s true that I will have written down the value of my holdings on the grounds that my mortgages aren’t worth as much, in aggregate, as they were during the bubble. But that doesn’t mean that I’m valuing the performing loans at deeply-discounted rates. Quite the opposite, in fact: many of them are worth more than par, trading at about 106 cents on the dollar, just because the interest rates are high and the underwater status of the loan means that it can’t be refinanced.

MRP, by contrast, wants to pay vastly less than par for these loans. To use Kathleen Pender’s example, where a homeowner owes $300,000 on a house now worth $200,000, MRP might pay $170,000 for the loan. Which works out at just 57 cents on the dollar. That’s a highly-distressed price for a performing asset, and I can definitely see that MRP would have a huge amount of difficulty persuading the court that it was a fair price. After all, the only way you get to such a price is by assuming that there’s an extremely high probability of future default — despite the fact that the homeowner has remained current through the largest financial and housing crisis in living memory.

There’s a very big collective action problem in the distressed-mortgage world, and in principle the use of eminent domain is just what the doctor ordered to sort it all out. But I fear that MRP has done everybody a disservice here by putting forward the worst possible use of eminent domain: basically buying up precisely the mortgages which no one is particularly worried about. What’s desperately needed here is a plan which CDO investors can get behind. Right now, they own many mortgages they’d love to get out of, but instead they’re holding on to them because the way that the CDOs are structured, they basically can’t be sold and have to be serviced instead, at significant expense, even when they’re deeply in default.

So let’s see an eminent-domain plan which is designed to buy up defaulted properties, rather than ones which are current on their mortgages. Let’s see a plan which buys properties themselves, rather than just the liens on those properties. And most importantly, let’s see a plan which is constructed by the owners of CDOs, rather than by a bunch of outside financiers looking for a huge profit opportunity. In principle, there’s a way to do this right. It just isn’t the MRP way.

On Thursday, I looked at the way in which cultural institutions tend to spend a huge amount of money on architecture, even if they would be better off spending that money more directly on their missions. In response, I got a fascinating email from a professor at NYU, asking me about its plan to spend some $6 billion on a hugely ambitious construction project — one which is fiercely opposed by local residents and NYU faculty.

The opposition is predictable, of course: Greenwich Village is as Nimbyish as communities get, and the professors who are railing against the plan are precisely the people who are going to suffer the most from endless construction work and ultimately the disappearance of the views and light many of them currently enjoy. But that doesn’t mean they’re wrong to oppose the plan. As we saw at Cooper Union, ambitious construction projects can be hugely damaging to colleges — especially ones which don’t have a large endowment to fall back on.

At Harvard, the empire-building of Larry Summers resulted in a disaster — but at least the endowment is huge enough that if Harvard loses $1.8 billion, it’s not the end of the world. At NYU, by contrast, the size of the endowment is significantly smaller than the budget for the university’s expansion. And as a result, the whole project is significantly riskier. If NYU ends up having to dip into its endowment to fund losses on this project, then that could be hugely damaging for an institution which is already under-endowed by the standards of most top-tier US colleges.

The situation at NYU Is, I think, the flipside of the saga we just saw at the University of Virginia. There, a popular president found herself at odds with trustees who had been successful in the private sector; at NYU, the faculty is similarly opposed to the plans of the trustees, but in this case the president is very much aligned with what the trustees want.

In both cases, it seems, the faculty seems pretty happy with the state and status of the university as it stands, and are looking for low-risk stewardship. The trustees, by contrast, are much more aggressive, and are looking for growth and full-bore engagement in the higher-education arms race known as Bowen’s Rule. Here’s how Howard Bowen put his five-point rule in 1980:

1. The dominant goals of institutions are educational excellence, prestige, and influence.
2. In quest of excellence, prestige, and influence, there is virtually no limit to the amount of money an institution could spend for seemingly fruitful educational needs.
3. Each institution raises all the money it can.
4. Each institution spends all it raises.
5. The cumulative effect of the preceding four laws is toward ever increasing expenditure.

On top of that, there are many New York-specific idiosyncrasies involved in the NYU plan. NYU is nestled in the heart of downtown New York, on some of the most valuable land in the world. That makes expansion insanely expensive, of course — but it also raises opportunities for a higher-education form of regulatory arbitrage.

New York has strict and recondite zoning laws, which are largely responsible for the value of any given plot of land. Take a site in Greenwich Village: if all you’re allowed to build there is a few townhouses, it’s going to be worth a fraction of its value if you’re allowed to erect a 40-story hotel. Every so often, zoning is changed, normally in the direction of allowing more development. When that happens, the people lucky enough to own the land in question make windfall profits.

This dynamic helps explain the way in which property developers are deeply enmeshed in city politics — and it also, I think, helps explain a lot of NYU’s behavior. NYU, quite aside from being an educational non-profit, is also the largest property developer in downtown New York. And with this plan, it’s trying to change the zoning for a lot of the Washington Square area in a way that will, if all goes according to plan, essentially drop a huge pile of money in the university’s lap. Hence the proposals for things like hotels and retail: they’re not allowed right now, and if they do become allowed, NYU fully intends to build such things and make substantial profits from them.

This isn’t a stupid plan. It makes sense, if you don’t have a $30 billion endowment throwing off huge amounts of cash every year, then you look for income in other places.

On the other hand, when a university turns property developer that’s decided mission creep — and it’s mission creep accompanied by billions of dollars in debt. Property magnates generally do really well for themselves — until they don’t. And here’s where you can see the cleavage between NYU’s trustees and its faculty. The trustees tend to be successful businesspeople — people who have had the requisite combination of risk appetite and luck that’s necessary to make lots of money. And rich people have another characteristic, too: they nearly always overestimate the amount of skill and underestimate the amount of luck which went into their success. Plus, they think that success is somehow infectious: if they’ve made their millions through levering up, then that’s probably a good strategy for the non-profits whose board they’re on, too.

On top of that, the president-and-trustee class of people has a natural tendency to want to build monuments to themselves, as well as a certain emotional detachment when it comes to empathy with other people. They’ve seen the plans: the architects have shown them glossy pictures of what Greenwich Village is going to look like in 2031, but they don’t really feel the amount of noise and pain involved in getting there from here. They don’t live in Washington Square Village.

And most importantly, they don’t need to rack up enormous student loans just to attend NYU in the first place. Here’s the chart, from the NYT’s excellent infographic on university tuition and student debt:

You can see from this chart that while there are lots of colleges which charge NYU-level tuition fees, NYU is among the very worst of them in terms of the amount of debt its students are burdened with upon graduation. That’s partly because it has a relatively small endowment, and therefore can’t offer the level of financial aid that, say, Princeton can; it’s also, of course, a function of the fact that New York is an incredibly expensive place for a student to live. But either way, if NYU cared about its students as much as it cares about its reputation, it would be searching hard for ways to decrease the debt they’re graduating with.

Instead, NYU is embarking on a building plan which will almost certainly, in one way or another, feed through into higher tuition fees and higher levels of student debt at graduation. After all, tuition fees are a hugely important source of income for NYU, and NYU is going to need all the income it can lay its hands on if it’s going to be able to pay off the loans it takes out to construct all these new buildings.

I’m no preservationist stick-in-the-mud: I think that cities need to evolve over time, and that if Greenwich Village had a bit more density, New York would cope just fine. I also carry no torch for things like “the acclaimed Sasaki Garden”, which turns out to be a bunch of concrete planters which are all but inaccessible to real New Yorkers. If NYU wants to replace that garden with something better, I’m all ears.

But I do think it’s worth asking some pointed questions about who exactly all this construction is supposed to benefit. It’s certainly not the current students, who will be long gone by the time it even gets started. It’s not the current faculty, whose lives will be disrupted and who are almost unanimously opposed. And there’s a strong case that it’s not future students, either, who will see even higher tuition fees and I’m sure won’t welcome the extra student loans they’re going to have to take out.

Universities will always have plans to expand — and indeed NYU already has campuses in no fewer than four different countries. Before embracing this particular plan, then, it might be worth looking at the history of previous university expansion projects, and asking whether they actually delivered on the promises they made at this point in the process. Because the costs of this particular project seem a lot more obvious than the benefits do.