Relevant and even prescient commentary on news, politics and the economy.

New Bear

Noni Mausa has agreed to become the latest ‘Bear’ who will contribute on a regular basis to Angry Bear. Her wit and gracious style as a professional writer (and poet) are familiar to regulars, but she has been captured for now as a contributor. An addition of spice to the mix. Welcome to another really fine contributor.


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CGI 2: Opening Ceremony / Initial Plenary Session (1 of 2)

This one’s going to be long because a lot of general themes get presented. Those looking for the shorter version may want to just go to the website and watch the videos.*

William Jefferson Clinton (WJC) introduces the proceedings by giving a background on the Clinton Global Initiative (CGI). CGI began in 2005, and required each participant to make a specific, measurable commitment. (This statement is followed by shot of Jessica Alba and Cash Warren, possibly because they started dating that year, but probably just because the director liked the shot.) Almost all commitments that were made then were multi-year (generally 3- to 5-year commitments). Five years into the CGI, about one-fourth of the commitments made have been fully completed. The CGI has, for instance, given 48 million people better access to health care. (Isn’t that just about what National Health Insurance would do for the US alone? Still, it’s 48 million people who are often ignored.)

There have also been “unvaluable but invaluable” effort at reconciliations. (I checked this; “unvaluable” is indeed a word.) Unlike other conferences, attendees will receive only a gift bag—the gift to participants is “only a bag.”** Each attendee (not certain if this includes the press, but I assume not) has been allocated 200 “points” that can be used at the “Giving Back Center.” For instance, one can donate “a P&G water filtration system” for 10 points.

I should mention that the organizers and donors to the conference are the clearest indication of the payoff from WJC’s “third way” efforts: Tom Golisano, for instance, is cited as a founding and continuing sponsor. Other major sponsors and donors to the conference include P&G, ExxonMobil, and APCO Worldwide (who are providing Wi-Fi access). I half expected to see ADM listed. (Matt Damon’s appearance sponsored by?)

(That ExxonMobil is a major sponsor of a conference that is placing Climate Change front and center in its discussions [see below] is a sign of either encouragement or a coming paradigm shift. Perhaps both.

WJC noted that Participants not invited back unless they do something toward their commitment during the year. However, due to the Global Financial Crisis, several previously-made commitments have had to be extended. (Three-year goals have become five-year goals, fives have become seven. This mirrors the year in which I expect to be solvent again.)

And then WJC talks about what WJC is best at talking about: po9litics. He notes that there are two questions that are asked in any political discussion: 1) What are you going to do? 2) How much money are you going to spend on it? Politicians almost never discuss how to do it to maximize positive impact in other people’s life. And it is that discussion that the CGI is all about.

He proceeds then to introduce a pairing that was made possible by last year’s CGI: Gary White and Matt Damon of The statistics flow from his (WJC’s) tongue: one billion people lack water, and 2.5 billion lack sanitation facilities. He loves this, and it’s somewhat infectious. is an outgrowth, I gather, work that Gary White has been doing since 1990. Mr.White describes the economy before Watercredit was founded, where people paid 25% of their gross income for clean water, or had to borrow money from loan sharks at 125% interest rates to install toilets. By combining microfinance with technology transfer, water credit was able to ameliorate this situation in many areas—and its loans are repaid 97% of the time. I can think of several mortgage lenders who would like that repayment ratio.

Matt Damon then announced a new commitment for, in that they are extending their efforts into Haiti, where 51% of the rural population lacks clean drinking water and 29% of the urban population lacks proper sanitation facilities. They are able to do this in part due to a generous commitment from the Ex;it Foundation. Many organizations are getting some good, useful publicity here.

The next presenter is Linda Lockhart of Global Give Back Circle, whose group is devoted to Educational Progress in Kenya for girls. Again, the source for this group was through CGI Connect. (Ms. Lockhart claims to have been surprised when she entered the keywords for her group’s goal [education, women] and immediately received multiple responses from organizations. (We clearly do not travel in the same circles.) The group’s efforts were rewarded when they discovered one of the root causes of women dropping out: lack of shoes. Teaming up with, among others, Microsoft, they presented the feel-good moment of the Opening Ceremonies with three Kenyan girls speaking–often in unison, sometimes sotto voce—about the good that Global Giveback Circle did for them.

At this point, the Plenary Session begins. WJC introduces Muhtar Kent, President and CEO of Coke. Mr. Kent speaks how Equal allocation of resources in Sub-Saharan Africa would, in and of itself, increase production 10-20%. In the current situation, women’s mobility is severely more restricted than men’s, of course. Kent, too, seems amazed to have learned this.

Kent is followed by Michelle Bachelet, current President of Chile and also, the first female defense minister in Latin America. Being a female politician, she not only has noticed but also has a strong interest in “soft” issues.

Mike Duke, the current CEO of Wal-Mart (WMT), ran the International Division before ascending to the chairmanship. WJC notes that WMT now offers health insurance to its employees, as well as having made a major effort to reduce its greenhouse gas emissions. (WJC stated, I believe, that WMT’s stock began rallying only when they announced their “global warming initiative.” I cannot find the evidence of this, though I didn’t do a thorough search.) Duke notes that a 5% reduction in their packaging alone was the equivalent of taking 210,000 diesel trucks off road. (And it saved them money. This theme will recur throughout from the CEOs.)

After this, WJC introduces Australian Prime Minister Kevin Rudd, describing him as having spoken about climate change in “excruciating detail,” which may well be the first time someone has done that to WJC instead of the reverse. Rudd notes that Australia is the country that has been the hardest hit by Anthropogenic Global Warming, and is the leading proponent of the other first-day theme: the G-8 giving way to G-20.

The particpants’s discussion on a Rock Following.

*If they post them; let me know in comments if you can find the video on the site and I’ll add a direct link.

**Compare with most conferences, where you get a bag and almost enough “swag” to cover the retail cost of the membership (which, for attendees, was $1,000 minimum).

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CGI 1: Barry O. coming soon to a room somewhat near me

The one thing that got both daughters excited last night was “You’re going to see the President!” Didn’t have the heart to tell them it would probably be from a separate room.

And, indeed, space upstairs maxed one. It’s 3:40; Barack H. Obama is scheduled to speak in about twenty minutes, though I might bet that it will start late, since everything else has. (You try scheduling a meeting with two Presidents, the current leaders of Chile and Australia, and the Presidents of Wal-Mart and Coca-Cola—and that’s just the scheduled Plenary speakers—and not have things run late.)

The food is very good, and the teas are good (and all too useful), though they have run out of lemon.

Hoping the second session (leaders of three more countries—Turkey, the Netherlands, and Argentina—; security has been amazingly efficient and polite) and the head of the IMF to present.

The Really Good Stuff starts tomorrow.

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Brad’s Draft Lecture

Robert Waldmann

Brad DeLong just posted a very interesting Draft Henry George lecture. It contains ideas which I haven’t found written down before by Brad or by Krugman. I strongly recommend reading it (for one thing I don’t know how to cut and paste from it). People who have read the draft lecture are invited to read my thoughts after the jump (I can’t keep people who haven’t read it out, but comments which reveal ignorance of the lecture will be mocked ruthlessly).

update: I hereby ruthlessly mock myself for failing to provide the link.
What an idiot. That’s the problem with it enables people incapable of handling html to post on the web.

So that was a nice lecture wasn’t it ? Much of it was new to me.

1) Brad confesses the reason for his lapsed Greenspanism.

I hadn’t seen the explanation that he opposed tight regulation of finance, because he thought the purpose of structured finance was to trick people into bearing more risk that they want to bear and that this is a good thing, since people are irrationally unwilling to bear risk.

Oh my not just Greenspanian but a Straussian believer in noble welfare enhancing lies. I might have found the argument convincing in 2006, so I’m glad I didn’t read it.

2) Brad claims that fresh water economists have traction, are getting attention etc. I didn’t know that. I’d guess a lot of it is due to Paul Krugman who is arguing with them in public. Also, I mean, Nobel memorial laureates tend to get all the attention they want. However, Brad has an interesting theory. Republicans in power listen to economists who don’t sound crazy to them (and all non economists). Republicans in opposition use any rhetorical weapon to hand so any criticism of Obama however crazy it sounds to non economists is amplified by the vast right wing conspiracy. An interesting idea. Are fresh water economists really getting a hearing from non economists ? That’s a scary thought.

3) Brad notes the similarities between Herbert Hoover, Alan Greenspan and Job. Hoover and Greenspan have been very loyal to the pro market ideology. yet when trouble comes, people who should be their friends accuse them of being pinkos.
Now that is an excellent rhetorical weapon to hand.

Brad’s been writing about how Prescott has decided that the Great Depression was caused by the anti market policies of Herbert Hoover. He notes that for Prescott’s latest theory to make sense, one would have to argue that Hoover was more anti market than Roosevelt, Truman or Johnson (or any post WWII European socialist ever in power). Now to me, this is no more absurd than the average assertion by Prescott. But it seems to me much more striking to non economists. Usually Prescott uses mathematical terminology and so most people either have no clue as to what he is saying or assume that the clue they have must be misleading, because he couldn’t be claiming that (as he is). I’d say some documentation that Hoover was not a pinko is in order.

The similar claim that fresh water economists are saying that Greenspan over regulated is also interesting. I think documentation of that claim is in order. Then I’d go to Greenspan’s personal history as a disciple of Ayn Rand. I just found out that he was not just a fan from a distance but part of her tiny group. Rand was a very extreme ideologue and a very unpleasant person. Many on the right will not accept criticism of her. In a no holds barred rhetorical struggle, writing about Rand and Greenspan is likely to be an effective strategy.

Of course, I am not interested in rhetoric and think we should all seek the truth together assuming that all are sincere and well meaning, so I will have nothing to do with that. But someone less high minded and scrupulous than I would talk about Ayn Rand’s sex life as often as possible.

update: I am not suggesting that Brad is interested in using any rhetorical arm at hand. I’m sure he argues in good faith and presumes that others do as well until they prove otherwise.

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Free, freer, and trade…what flavor cool aid?


Trade policy and actual trade are related but different matters. This post from last year caught my eye, partly due to the discussion on tires from China. While any blog post has to be simplified due to the nature of a short post and comment format, such discussion at times seems amazingly simplified beyond recognition of what trade entails…

Cafe Hyek Don Boudreau offers a thought on tariffs, but more broadly on what is free about trade. I assume he knows something of the rules of the WTO and trade restrictions imposed by these agreements.

So, how does one deal with claims of a theoretical ‘free’ trade versus what?, ‘restricted’, ‘constricted’, ‘protectionist’ trade? Do multi-national companies not have rules? Trade always has rules.

Is there a difference between ‘free’ and ‘freer’? ‘Free’ reminds me of lunch, and who picks up the tab. And even that simple example becomes rather convoluted. Is it even a useful term, or simply propaganda?

Persons who, fancying themselves observant realists, insist that “free trade doesn’t exist” have their visions and brains distorted by political boundaries.

It is quite true that national governments almost universally erect barriers that hinder their citizens’ freedom to trade with citizens ruled by other national governments. Some governments erect higher barriers than do other governments. But, indeed, it’s rare to find a national government that doesn’t indulge the greed of politically powerful interest groups, as well as the prejudice and economic ignorance of much of its population, with trade barriers.

And yet free trade is ubiquitous. Freedom to trade generally reigns within political borders. For example, the 50 U.S. states are united on one very large and very successful free-trade zone.

Karol, Thomas, and I live in Burke, Virginia. We are free to trade not only with cabbage growers in Culpeper, Virginia, but with cabbage growers in California. We trade freely with residents of any state, from the Atlantic to the Pacific, from the U.S. border with Canada to the U.S. border with Mexico. That is, whatever taxes and burdens Uncle Sam might impose (however wisely or foolishly) on economic activity within the U.S., those burdens are nation-wide. No special space-specific burdens are placed on my and my family’s ability to trade with other Americans; no extra tariff or restriction applies to our exchanges with an Alaskan or with a Floridian simply because we do not live in those states.

Practically speaking, therefore, there is free trade throughout the United States. My family and I routinely buy wine from California and Oregon, oranges and lemons from Florida, computer software from Washington state, maple syrup from Vermont, peaches from South Carolina, television newscasts from New York and Atlanta, lumber from Alabama, spicy sauces from Louisiana, crabs from Maryland. The list is long.

On a random note, I am also reminded of Orrin Hatch’s amendment to the Baucus health bill that excludes any state beginning with the letter U from the excise tax on fancy plans. It seems government can be merely a part of a business plan. Do we ever approximate a ‘free’ market, or are there more usefull approaches and language? (Before the terms are co-opted, that is)

Update: I was reminded in comments that I should have included these links to aid discussion and definition from previous posts. There were more than I remembered.
See these posts:
and directly this one on buy America and the question of how does one do that anymore with vertical specialization, which is not a sexy title??
Vertical specialization
Trade policy for mid-terms 2010
WTO rulings
American jobs are not the same as American companies
Tariffs not for labor, but good for banks and pharma

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It’s true that I have been a bit nastier than usual with some posts (especially this one and this one—though the latter was rather justified by preceding events, as Tom detailed.) The sight of economists who should know better saying “Ewww, tariffs” in the manner of second grade boys who think girls have “cooties” is rather tiring. It’s almost as if they note that a strong rule of law is necessary to ensure that problems of asymmetric information are remedied and then complaining when those laws are actually used. Oh, wait…

Part of this is that people who should know better—maybe not Max B., but certainly Barry O.—keep pretending that Democrats have no obligation to be better than Republicans at addressing issues of inequality and opportunity. In which case one might as well vote for Republicans, if one can find those small-government, fiscally-conservative candidates that only Andrew Samwick seems to believe still exists.

But I am cautiously optimistic today. Thanks to Lance Mannion, I’ll be spending most of this week blogging/reporting the Clinton Global Initiative in New York City. While many of the participants are The Usual Suspects, there is at least some hope that they will approach the world better than they appear to approach their electorate.

If there is anything, especially on Thursday, that someone especially wants to cover, feel free to note it in comments. (Or, if you’re going to be there, say hello.)

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Why didn’t CDO purchasers just pool for themselves ?

Robert Waldmann

One brief question about structured finance and a possible answer. Why did investors need financial operators to make pools for them ? Now it is easier to make sense of financial intermediaries which pool than of those which pool and tranche. The obvious explanation is that an investor investing a small amount of money can’t buy a diversified portfolio without paying absurd amounts in odd lot fees.

However, this doesn’t seem to fit the CDO market. Correct me in comments if I’m wrong, but I thought the final investors were entities with a good bit of money to invest — pension funds, endowments, insurance companies etc. Importantly one can achieve almost as good a risk return portfolio buying only assets in a randomly chosen subset of say 10% of all assets. The variance of a portfolio is a sum of say the market variance plus … plus idiosyncratic variance on single assets. So a term which can’t be diversified away plus stuff plus terms which are proportional to the inverse of the number of assets in the portfolio.

I have an idea. People investing other people’s money in fixed income instruments do not like to pool, because it is too easy ex post to find a better portfolio of fixed income instruments. Some will default. The principal is likely to note one bond that defaulted and ask the manager why he bought that bond not the similar one which didn’t default.

Letting someone else pool means you get an asset which pays a fairly high fairly safe return and those ugly but unimportant specific underlying assets which defaulted are hiden from the principal’s eyes.

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Why Tranche

Robert Waldmann

Still almost fishing from archives, but this time I think the version after the jump is maybe even less incoherant than the old version.

Quite a lot of pooling and tranching has been done in the past decade. I think explanations of this fact offered by the tranchers can’t be accurate or at least sure aren’t complete.

So the idea is to set up a special purpose entity which purchases a portfolio of similar assets and issues claims on the income from those assets in tranches. The top tranche has a stated fixed payment. Owners get all the income of the SPE up to that level. A second tranche has a stated fixed payment and gets the income, if any, left after the first tranche has been paid up to that level. Maybe a third tranche is sold. Finally there is a last or equity tranche which gets what’s left over. Typically, the sum of the prices of the trances is greater than the price of the underlying portfolio, so huge amounts of money have been made by pooling and tranching. why ?

A standard argument is that tranching is useful to investors with different attitudes towards risk. The more risk averse like more senior tranches. It is very very hard to make sense of this argument using standard simple finance models.

First the simplest. Assume that assets and agents last 1 period and that agents have constant absolute risk aversion. Assume that there are no non traded assets so investor’s portfolio of traded financial assets is their only wealth and source of income. Agent’s have different coefficients of absolute risk aversion.

In this case agent’s demand for each risky asset will be inversely proportional to their coefficent of risk aversion. All agents will divide their wealth between the safe asset and the whole pool of risky assets. This means, in particular, that all agents will buy tranches in the same proportions so they will reverse the tranching process.

Ok how about constant relative risk aversion. In this case all agents will buy risky assets proportional to their wealth divided by their coefficient or relative risk aversion. Again they detranche.

How about infininitely lived agents in continuous time. same as above.

The existence of agents with different risk tolerance simply does not explain tranching.

OK how about non traded assets. This would typically include ones human wealth or labor earnings (including future labor earnings). 13th amendment says it can’t be bought and sold. On average this is larger than financial wealth (roughly twice financial wealth). It matters a lot.

Agents will not like assets whose returns are positively correlated with the returns on their human wealth (their labor income). So for 2 agents A and B, the junior tranches of some pool might be worth much more to B than to A, because the returns on the pool are more correlated with the labor income of A. Typically, the most senior tranche will be worth more to B than to A. Since it has low variance, it has low correlation with the labor income of A, but stil it is better for B than for A.
I don’t see any plausible way how untraded assets can explain tranching.

OK transactions costs. Maybe the amount of a pool that a risk averse agent would buy is so low that it is not worth paying transactions costs. Well first, the idea that huge numbers of people in finance are employed reducing transactions costs is very odd. Their salaries are transactions costs. The idea sounds totally crazy. Also I don’t see any link with tranching as opposed to pooling.

It really seems to me that it is very hard to explain why tranching is profitable using standard models in finance. I have assumed that agents care only about the distribution of returns on their portfolio and that they are rational. I think one or both assumption must be relaxed.

First irrationality. It would be irrational to assume that all AAA rated instruments are absolutely safe. It would also be irrational to assume that they are equally safe. The ratings aren’t supposed to be comparable across asset classes. AAA rated corporate debt may be less safe than AA rated sovereign debt. The rating agencies don’t claim or even suggest otherwise. Only a very irrational investor would think he was getting something for nothing by buying a high yielding AAA rated CDO and assuming that it is as safe as an AAA rated treasury security. Somewhat less irrationality would be required to think one was getting something for almost nothing. I’m pretty sure that this is a large part of the explanation.

Second many investors have interests other than risk and return. Banks have capital requirements based on the rated risk of their portfolio. Under Basel I rules, that means based on the credit rating of instruments in the portfolio with no consideration of portfolio theory. Thus tranching is useful to agents who want to bear more risk, but don’t want to set aside more capital. Obviously a source of profits from tranching was such regulatory arbitrage.

Finally, I suspect, that many privatre rules explicitly referenced credit ratings and just added up over assets without any consideration of diversification. I would guess than many endowments and pension funds and such had explicit rules about how a share of the money had to be invested in AAA securities. Oh and rules rewarding the managers for return.

Basically, I think tranching was profitable for two reasons. It enabled the tranchers to separate fools from their money and it enabled people investing other people’s money to achieve the appearance of lower risk for the same actual risk.

At the moment, I can’t think of any sound argument against a law banning pooling and tranching.

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