Ged Carroll

Category: economics | 經濟學 | 경제학 | 経済

Economics or the dismal science was something I felt that I needed to include as it provides the context for business and consumption.

Prior to the 20th century, economics was the pursuit of gentleman scholars. The foundation of it is considered to be Adam Smith when he published is work An Inquiry into the Nature and Causes of the Wealth of Nations. Smith outlined one of the core tenets of classical economics: each individual is driven by self-interest and can exert only a negligible influence on prices. And it was the start of assumptions that economists model around that don’t mirror real life all the time.

What really is a rational decision maker? Do consumers always make rational decisions? Do they make decisions that maximise their economic benefit?

The problem is that they might do actions that are rational to them:

  • Reducing choice when they are overwhelmed
  • Looking for a little luxury to comfort them over time. Which was the sales of Cadbury chocolate and Revlon lipstick were known to rise in a recession
  • Luxury goods in general make little sense from a ration decision point of view until you realise the value of what they signal
  • Having a smartphone yet buying watches. Japanese consumers were known to still buy watches to show that they care about the time to employers when they could easily check their smartphone screen

All of which makes the subject area of high interest to me as a marketer. It also explains the amount of focus now being done by economists on the behavioural aspect of things.

  • Who is Gary Winnick (and why I am writing about him?)

    You may not know Gary Winnick, but at one time the fund manager who looked after your pension probably knew his name.

    For over two decades, Gary Winnick worked at the sharp practice end of capitalism. In the 1980s he worked with Michael Milken Drexel Burnham Lambert (Drexel) selling junk bonds. These were used to finance some of the most savage slash-and-burn management takeovers in modern history.

    Here’s a simplest version of it

    The ability of a company to get credit to grow depends on a number of factors including market sentiment towards the company, its industry sector and its credit rating. Junk status when a company is viewed to have fallen below investment grade material by a credit ratings agency such as Standard & Poor or Moodys.

    A bond is piece of paper that can be bought and sold like a company share, however it is really an IOU, a company sold the bonds to raise money and promised to pay a set amount of interest on that money and repay it at a set time in the future. They are used by companies and governments to borrow money (you may have heard of them mentioned as gilts or t-bonds, in the UK premium bonds are a government loan but with the interest divided out via a lottery selected by a computer called ERNIE), government bonds are commonly used in a portfolio as a low risk strategy or to hedge against interest rate declines.

    From a practical point of view junk status means that credit becomes more expensive, the company is considered to be a higher risk loan. Consequently, companies seeking credit and having junk status generally had a low share price and relied more on the bond markets to provide their capital requirements. Investors generally seek a higher return for higher risks so bonds from junk status companies (junk bonds) are also known by the more benign name of high-yield debt.

    Anyway, somewhere along the line some bright spark (possibly Milken himself) realised that just because a company had junk status, it did not mean that it would disappear overnight. Many large household names and solid industrial performers had junk status, because they were steady but unspectacular performers. This meant that there were bargains to be had. Investments providing high returns because of an unfair high risk status. Junk bonds became the new HOTNESS.

    The outcomes

    – There was blood in the water and Milken was eventually prosecuted for massive corporate fraud, after Ivan Boesky ratted him out rather than take the full rap on a number of insider trading charges

    – Many companies were gutted by modern-day robber barons who borrowed money to buy companies, and then paid back the debt through the placement of junk bonds and asset stripped the company. Books that outline this include Barbarians At The Gates

    – Savings and Loans scandal – S&L are kind of equivalent to mutual building societies in the UK and Ireland. During the 1980’s, they were deregulated and their money poured into the stock market. This deregulation fuelled a feeding frenzy causing many S&L collapses due to fraud and speculation. Since there were regulations still on what S&l’s could invest in, merchant banks put together complex financial instruments (derivatives – so called because they are derived from something else, like orange juice and pork belly futures in the film Trading Places) that would allow them to get into the ‘high-yield debt’. Initially the idea of these derivatives was to bind just enough government investments like T-bonds (treasury bonds) into the deal so that credit ratings agencies like Standard &Poor would not rate the derivative as a junk status investment. These instruments (known as derivatives) were very arcane and complex making it virtually impossible to understand their true investment value or how they would be impacted by changes in the market. Think of the childrens story The Emperors New Clothes. If you would like to know more read Liars Poker by ex-derivatives trader Michael Lewis. The S&L mess was bailed out by the Fed.

    Global Crossing

    Gary Winnick parted company with Michael Milken before Drexel flamed out and set up an unspectacular investment company called Pacific Capital. In the mid 1990s, Winnick saw the telecoms gold rush and founded Global Crossing.

    The telecoms goldrush came about due to a number of factors:

    – Deregulation allowing competition in the telecommunications sector

    – The rise of the Internet created an increased demand for new networks

    – Sustained economic growth in the developed world and a collapse in some emerging markets and Japan meant that there was too much money chasing too little investment opportunities. Gary Winnick raised and destroyed some 20 billion USD. Much of which would have come from pension fund managers in the US and Europe, or was invested into similar companies like Worldcom or RSL Communications (RSL COM).

    – Companies pay to get their credit evaluation from the likes of Standard & Poor and Moody

    – Grow and the profits will come became a mantra for bankers, VCs, analysts and business leaders due to cheap capital and as a way of keeping the castle in the sky; making it exceptionally easy to sell in a new business strategy

    The telecoms market came apart because:

    – Too much telecoms capacity was supplied as companies rushed in to profit from the gold rush. Global Crossing and its peers built out network capacity first and thought about getting customers later

    – Technology, competition and excess supply drove down prices to make the industry less profitable

    – Many of the companies had the same disease of corporate corruption and creative accountancy that occurred in the 1980s in S&L and junk bonds; inflating the value of deals, booking sales before the money was in (when is a sale a sale is a question that has been of interest to accountants for years) or fabricating them as inter-carrier deals

    – Accounting techniques were shockingly useless allowing Winnick and Co to distort reality

    – Equity analyst hyped stocks that they privately admitted were dogs

    – High yield debt was being used to finance a low-yield industry

    – Much of the growth was promoted through equipment-vendor financing, which allowed the likes of Lucent, Nortel and Cisco to bill higher than normal growth-figures and artificially inflate share prices. A friend of mine who was a telecoms analyst at a brokerage in the city of London at the time of the bust was afraid that Cisco would get severely damaged because of vendor financing. He outlined an allegation that new IP-based carriers were being set up by people close to the Cisco channel, financed by equipment for equity as part of a glorified Ponzi scheme to inflate the value of Cisco

    In Global Crossing, Winnick managed to extract his own position two weeks before the firms lawyers stopped internal share trading due to the companies terminal financial decline. Winnick is back in court this week and you can read all about it here. Many see Gary Winnick as a criminal, he sees himself as a business visionary. More on telecoms here and finance here.

  • Cash divide

    The 1990s had a cash divide. A number of years ago in college, I wrote an essay about the role of technology exclusion in society. This internet as a thing was only really starting to get going and we had just changed over the web browsers at the college from Mosiac to Netscape.

    I used to surf the web in 16 shades of grey available on my battered PowerBook 165, when I jacked into the JANET network. Why am I rambling about a geriatric computer and the ‘net before Google?

    Well, I used the web to research my essay and came across an article on the Washington Post about the cash divide discussing a ‘cash ghetto’, increasingly if you had to deal in cash you were on the margins of society. Part of this was down to the laundering of money from organised crime, including the drug cartels. It made sense to move as many people as possible out of the cash economy, but it created a cash divide. The cash divide separated illegal migrants from citizens; criminals from law abiding citizens.

    An article in the Arizona Daily Star, which my RSS feed aggregator picked up talked about the pervasive nature of Visa and MasterCard where cash was once king reminded me of the college essay.

    Visa and Mastercard have moved in alongside cheque cashing services and remittance businesses to bridge the cash divide profitably. Poor people tend to pay more charges than richer members of society.

    You don’t even need to have a credit record or a banking account. There are ways to provide pre-loaded credit cards in the US to bridge the cash divide. From intern payments to staff bonuses can be provided on cards form Visa, Mastercard and even American Express.  Interesting reading check it out. More finance related posts here.

  • Ugly Americans by Ben Mezrich

    My book of the moment is Ugly Americans by Ben Mezrich. Ben previously wrote Bringing Down the House; a book about a group of maths geeks who take on the Las Vegas casinos by team playing with a gambling system and making a killing at poker.

    In Ugly Americans, Ben turns his attention to hedge funds exploiting the economic collapse of Japan in the 1990s. There are many similarities with the books:

    • They both are written in the same style, paced with a future film adaptation in mind
    • They both alternate chapters of action with ‘expert testimony
    • They both claim to be true, however I have my doubts (names have been changed to protect the innocent et cetera)
    • Both are a ripping read 

    But the polished nature of the read makes me think that its fiction masquerading as truth. And thats why Ugly Americans feels a bit dirty and hard to recommend, despite my enjoying reading it.

    Mezrich feels as if he’s hit his stride with style and format rather like Lee Childs or James Patterson. The idea isn’t the important thing, the truth probably doesn’t matter. Instead Mezrich has a pattern. The key difference to Childs and Patterson is that Mezrich is thinking about the film or TV adaptation from the beginning. It feels cynical. And that’s why the book Ugly Americans feels a bit ugly and dirty for me as a reader. More related content here.

  • Lollapalooza 2004

    Lollapalooza 2004

    US music festival Lollapalooza has a similar standing in the UK to Glastonbury or the Mean Fiddler events. It is best known to UK audiences for appearing in at least one Simpsons episode (where Cypress Hill jam with a symphony orchestra). Due the reaganomic policies of the Bush administration Lollapalooza 2004 will not be going ahead this year.

    A message from Perry

    The organisers wrote on their website “A MESSAGE FROM PERRY

    To all my Fellow Artisans, Activists, and Feverish Supporters,

    It is with heart gripped despair that I inform you of Lollapalooza’s disbandment for the summer of 2004. To say that you terribly miss something that never was born is somewhat odd, yet in this case, it is quite accurate.

    I hope you can accept my apologies for not providing you with the summer that you had your hearts set on. I tried very hard to keep us on course; heading straight into the most ferocious musical storm in history. We were not able to continue; we were taking on huge financial losses.

    And still, I want you to know that I fought for our lives into the final hour.

    Please know that I value your talents and look forward to meeting you again – a little later on to re-discover ourselves as friends. If it makes you feel any better, I am in the same boat as most of you; “Only loaded with talent.” But with talent like ours, they can’t hold us down for long.

    Upon reflection, I conclude there is a story here. It is the story of a musical community under the influence. No, silly, it’s not drugs. This is an influence far more damaging and threatening, as in: “They are threatening to sue us for damages.” My prayer is that we live to fight another day and walk together at the victory parade.

    We hoped for comfort but we’ve never felt too safe. And in these hard times, we’ve had to navigate through. Unexhausted; is our virtue,

    Peretz

    PS. I am still looking for a shining moment or two for us this summer. I hope you will receive me when I call.

    LOLLAPALOOZA 2004 CANCELS ALL DATES

    “You can imagine the dismay I share at this moment with the artists and musicians who were looking forward to the tour. Lollapalooza could no longer see fit to continue this year. Our plight is a true indication of the general health of the touring industry and it is across musical genres. Unexhausted is our virtue. We are taking Lollapalooza back and plan on rebuilding and recreating the festival in surroundings more conducive to the cultural experience we’ve become known for.”

    – Perry Farrell”

    More related posts here.

  • Hudson Institute Economic Update

    This was originally posted to the email list for interesting-people.org as an economic update from the Hudson Institute.

    IRWIN M. STELZER for Hudson Institute 21 June 2004

    When markets talk, politicians would do well to listen. The oil markets are doing more than mere talking — they are shouting for the attention of policymakers who seem determined not to listen.

    First, we have the recent run-up in crude oil prices, which fluctuate around $40 per barrel. That rise was in part due to the fabulous growth of the U.S. and Chinese economies, which sent demand for oil soaring. But a further driver is OPEC’s manipulation of the market, creating a situation in which rising demand cannot elicit the increased supplies that would flow in a competitive market.

    Lesson number one for policymakers: it is no longer prudent to ignore the OPEC cartel, or to rely on it for mercy. Trust busters have had time to worry about less important price conspiracies — the commissions charged for selling old master paintings is less likely to affect the economy than is a conspiracy to fix oil prices — but have shied away from attacking the OPEC cartel. Now would seem to be the time for the voice of the Antitrust Division to be heard above that of the State Department, ever-eager to avoid a diplomatic row with the house of Saud.

    The markets are also saying something about the state of the gasoline market. The margin between crude oil prices and gasoline prices has doubled in the United States, driving refining profits up several hundred percent. Yet, refining capacity has not increased. Oil industry executives with whom I have spoken say that environmental and other permitting restrictions make it virtually impossible to build new refineries. Lesson number two for policymakers: restrictions that were appropriate when crude oil was selling for $10 per barrel and gasoline for $1 per gallon are not economically sensible at current price levels. Revise them to allow more refineries to be built.

    These are important messages from the market. But not as important as the persistence of the so-called risk premium of between $5 and $10 per barrel that seems to be built into crude oil prices. Part of that premium is a response to the continued disruption of supplies from important producers. Terrorists in Iraq periodically sabotage that nation’s pipelines. Unrest and violence in Nigeria, Africa’s largest producer, make that country an unreliable source of oil. Islamic terrorism casts doubt about the reliability of supplies from Kazakhstan.

    Add self-inflicted wounds by important producers. Russia, which rivals Saudi Arabia as the world’s largest producer, Vladimir Putin and his old KGB buddies have frightened foreign investors by jailing the country’s richest oil baron, Mikhail Khodorkovsky. Venezuela’s Castro-loving president, Hugo Chávez, has replaced the nation’s skilled oil industry managers with political appointees, causing a loss of 500,000 barrels per day of production from that important supplier of the low-sulfur oil most suitable for use in U.S. refineries. Iran’s mullahs have stifled the foreign investment that Iran’s oil industry so desperately needs.

    But even these multiple threats to a steady flow of oil pale by comparison with developments in Saudi Arabia. The Kingdom sits on 25% of the world’s known reserves, but that figure understates its importance. The Saudis can tap their reserves for over 80 years without slowing output. And it is well known that the Saudis haven’t really attempted to explore for new reservoirs because they already know precisely where some 260 billion barrels are located. “You don’t plant potatoes when you have a cellar full of spuds,” a grizzled denizen of America’s “oil patch” once told me. Not only are the Saudis sitting on the largest known reserves, and on the cheapest, most easily discovered as-yet “unknown reserves,” they are also the only country in a position to increase production quickly should some other supplier be knocked out of action.

    But Saudi Arabia is no longer the stable rock in a turbulent Middle East sea. The terrorists funded by the Saudis have turned on their benefactors, and are killing foreigners to cause a flight of oil-industry and other trained personnel. They are winning because they seem immune to capture, because many top Saudis insist that it is the Zionists, rather than Al Qaeda, that are causing the mayhem, and because hundreds of thousands of unemployed youths see no future for them so long as the royal family siphons off the nation’s wealth to support its opulent lifestyle.

    Whatever the reason, it is far from certain that the corrupt geriatrics who run the country will be able to head off the threat to the Saudi industry’s ability to produce a steady flow of oil. True, the production facilities are well protected, but by troops of uncertain loyalty. And pipelines are difficult to protect, as are port facilities.

    Final lesson for policymakers: prepare for the day when bin Laden and associates are in a position to topple the Saudi regime and withhold supplies of oil, causing a major economic trauma in industrialized countries and a humanitarian catastrophe in the undeveloped world. That means continuing to build strategic reserves, but much more. Alternative sources of energy for transportation uses cannot be available in the relevant time frame, if ever; places such as Alaska take a long while to develop, and anyhow don’t have enough oil to matter; renewables such as solar and wind power are not replacements for gasoline; conservation can be useful when prices rise gradually, giving consumers time to adjust to higher prices, but not when there is a price explosion.

    I was asked many years ago at a gathering of government and industry experts to lay out an energy policy for America, to cope with a supply interruption. Two words: “aircraft carriers.” That remains true today. Iraq is not a war for oil. The next U.S. intervention in the Middle East may well be.

    A version of this Hudson Institute Economic Update appeared in The Sunday Times (London)

    Irwin Stelzer is a Senior Fellow and Director of Economic Policy Studies for Hudson Institute. He is also the U.S. economist and political columnist for The Sunday Times (London) and The Courier Mail (Australia), a columnist for The New York Post, and an honorary fellow of the Centre for Socio-Legal Studies for Wolfson College at Oxford University. He is the founder and former president of National Economic Research Associates and a consultant to several U.S. and United Kingdom industries on a variety of commercial and policy issues. He has a doctorate in economics from Cornell University and has taught at institutions such as Cornell, the University of Connecticut, New York University, and Nuffield College, Oxford.

    More related content here.