Lack of Regulation?

I don't know, we have dozens of government regulatory agencies with thousands of rules and regulations, yet somehow the entire financial sector was unregulated!

Face it folks, the regulations didn't work! The regulators were asleep! This is the problem with regulations and regulators, they often don't work and fail us!

What gave the ratings agencies the power to determine what securities are safe enough to hold in some portfolios?

Oh, regulations!

What made certain institutions purchase only assets that were deemed good enough by the ratings agencies?

Oh, regulations!

What gave these agencies monopoly power and prevented any other company or agency from entering into their business and offering better analysis?

Oh, regulations!!!!



And yet somehow there were no regulations and no regulators?

We have Greenspan's testimony, and somehow the government isn't involved in this crisis? It was a LACK of government? Gee, I guess Greenspan was never appointed by a government official or confirmed by Congress. He was never a part of the Federal government right?

Perhaps a better suggestion would be to craft regulations that work, cut the ones that don't, and be sensible instead of just screaming for more bad regulations.

Bad Journalism or Media Bias?

An article by Reuters titled Middle-aged Women Drive Rise in U.S. Suicides shown on MSNBC.com highlights the problems with journalism today, and why the main stream media is dying. At best, this is incompetent and poor journalism, at worst it is media bias meant to sway the reader to a particular viewpoint.

First of all, is this rise a percentage rise or absolute rise in the percentage of people committing suicide? If we have 100 suicides and then next year have 102, that could be stated as a 2% rise, but the rise is actually negligible. What is the overall suicide rate in the US, interesting that the article doesn't mention this because we need a baseline to make sense of the situation.

This is a perfect example of crappy journalism and media bias. You MUST give a baseline or something we can measure suicide rates by in order for the reader to get some sense of perspective. These numbers, percentage increases, are meaningless without that base. I could say suicide rates doubled on my street corner, but that in itself doesn't mean much. If suicides were 1 last year and 2 now, then that's nothing, but if suicides were 50 on my street corner and now is 100, then we have a real crisis.

Why won't journalists do their jobs? Why do they keep on putting out crap articles that are meaningless and incomplete? A less thoughtful reader might be fooled or tricked into believing there is a real problem here. A smart reader understands no determination can be made due to lack of crucial facts deliberately left out. If they weren't deliberately left out, then the writer should be reprimanded for incompetence and bad writing. Such writers should be fired if they do it consistently, or even sometimes. My God, is it too much to expect journalists to report all the important facts?

Pirates Justify Their Theft

My initial post on pirating received several comments from thieves defending their actions. As usual, the responses tried to blame software developers while minimizing the illegal and immoral actions of the pirates themselves. One of them even played the definitions game, pointing out that intellectual property infringement and theft are different actions. My response makes clear that this line of argument is irrelevant to the issue. What is wrong is wrong no matter what you call it, and pirating is wrong. Below is a typical comment and after that, my response to all comments.

Wow, dude, you're a judge or something ? Military ? Police officer ? Let's purge the world of the unworthy eh ?

I've got what, at home right now, in a box and around my computer, maybe 400 $ OF **** GAMES THAT I BOUGHT THESE LAST YEARS ? And all I am is a thief ? A criminal none the less ! I'm not rich that's for sure. And certainly not rich enough to enjoy playing a game for 3 days for 50 $. That's insane man, seriously. I'll have to prostitute myself to continu playing video games. Actually, is it worth it .... maybe, I dont know... I could get some easy cash with that guy ... NO, STOP !

You see, I'm against all those crappy developpers making crappy and unplayable games, tossing them one after the other for 50 $ +. PLAY OUR GAME, IT'S THE BEST ! And then, nothing. They fix a couple of things for a month, and then they forget you. They don't care anymore, you already got their stupid **** unplayable bug infested piece of crap game. THEY'RE MAKING ANOTHER ONE ! Why fix something you already bought, haha ! Buy the next one and see if it's better !

Anyway, I'm not as worse a criminel as you make it sound man (is this grammatically correct ? I'm not english, sorry !) ! Fallout 3 is coming out soon, and I'll certainly buy it. The least i can do, as i got Oblivion and Shivering isles pirated, and got a **** of gameplay hours (200 hours or something) ! Great game, but I just can't get myself to finish it. Ans then there's L4D, but like i said, with the support Valve offers, I'm buying everything they throw at me.

Hey, maybe we found the solution ! HOW ABOUT SOME SUPPORT FROM THE GAMES WE BUY. Update your ****, improve gameplay, add campaign missions, story modes, characters, VS options, MAPS, QUESTS, ANYTHING.
Thanks valve ! Vote Steam

CMON !

Love it when thieves try to hide behind semantics, stealing is taking something that doesn't belong to you without the owner's permission. Regardless of how you want to define theft, pirating is wrong, immoral, and illegal. That's the bottom line. You are taking and benefiting from someone else's hard work and depriving them of their deserved income. If I'm a game developer or musician, how am I supposed to make a living if everyone steals what I create?

Bashem, what another lame excuse. It's like a bank robber saying, "I deposited over $1500 in my account last month, and I paid $50 in overdraft fees while also having a CD at this bank! So what if I rob the cashier every once in a while? I do legitimate business with the bank!" What would a jury think of this defense? They would laugh, maybe they would find the robber not guilty due to insanity, clearly such a defense is so ridiculous that not even the most desperate defense lawyers would dream of using it.

Hey buddy, no one forces you to buy the games. But guess what? You get a lot of enjoyment from these games, that's why you keep on going back for more. Yeah I wish my car had a lifetime warranty and never broke down either. I wish that car makers would guarantee the car for life and pay for all maintenance too. You know how much I pay for routine maintenance? Why don't they make cars that never ever need repairs? I guess I should go and "borrow" a car, I return it after it breaks down. Hey, in the real world, that's grand theft auto and I'm a car thief if I do that. Blaming YOUR theft on the producer is just insanity.

Quote : The least i can do, as i got Oblivion and Shivering isles pirated, and got a **** of gameplay hours (200 hours or something) !

Wow, 200 hours of enjoyment, and you still aren't willing to pay $50 for that? Let's see, a movie runs 2 hrs, that's 100 movies, and at $10 a movie, that's $1000 of entertainment if you go to the movies, even rental would cost you around $300. And you're still trying to justify your theft?

You are a thief, stop trying to justify your actions. You are not a good person, it's time to look in the mirror, you are a common criminal, no better than the pickpocket on the streets, except that you don't have the courage to do something like that where you can get caught.

You received a lot of enjoyment from the games you pirated. How it is fair that the people who spent months and millions to make the game get nothing in return? Why do those people who make the games get nothing while you get to play them? How is that fair in any system, by any code of ethics, by any moral belief, by any religion on Earth?

It's too bad you can't "afford" those games, but I bet that you can, you just don't want to pay for them because that means you have to cut expenses elsewhere. And in the end, these games are entertainment, you have no right to these games under ANY social philosophy, failed or otherwise. I want a lot of things I can't afford, like a beach front property, a Ferrari sports car, my own basketball team. You can't justify your actions, just admit you are a criminal and yes, society would be better off without your illegal and immoral actions.

Hey, I'm paying a lot for my apartment, how about I come over and share your space for nothing? You still get to sleep in your bed and have your place. Why would it matter if I share it, I can't afford my own space! There's plenty of room for both of us, I'll only use your bed, your stuff when you're not using them, it doesn't change anything does it? OF COURSE IT DOES! That's why we have property rights. That's why you can't go and use someone else's stuff if they're not using it. You aren't allowed to benefit from what someone else paid for without their permission. Otherwise people from you city could come into your room and use your stuff when you're not there. That's called trespassing and is banned in every society and country on Earth. From China to Russia to the USA, you can't go into someone else's home and use it without their permission. You have zero argument.

Bad Regulations Caused This Crisis

Political Calculations provides a great case in point for my skepticism over regulations and regulators. The greatest problem with regulations is their unintended consequences.

An FDIC document on the risk weights of different bank assets. The higher the weight, the more capital the bank has to hold against that asset. As I read table 1 and table 3, if you originate a loan with a down payment of 20 to 40 percent, the risk weight is 35. But if you buy a AA-rated security, the risk weight is only 20. So if a junk mortgage originator can pool loans with down payments of less than 5 percent, carve them into tranches, and get a rating agency to rate some of the tranches as AA or higher, it can make those more attractive to a bank than originating a relatively safe loan. If you want to know why securitization dominated the mortgage market, this explains it. Regulatory arbitrage, pure and simple.

And the greatest problem with regulators is that they often do not act until it is too late. Regulators do not respond well to new technologies and new innovations because they are entrenched in a bureaucracy with a well-worn mode of operation. Going outside the box will put a regulator's job in jeopardy if he is wrong or at the very least, cause his actions to be examined. And if you have a cushy job, why rock the boat and put your generous benefits in danger? If all goes to hell, regulators can always just use the age old excuse that they don't have enough resources or that they need new powers and new regulations to do their job correctly.

I've heard too many people expressing a wish for more regulations recently, without any regard as to how these regulations will work and how they will be structured. We need more good regulations, but that's easier said than done. It's crucial we do not make more bad regulations and most of all, we cannot expect regulators to do a better job than they've done in the past. You can't expect a lifelong C student to become an A student. We have to factor in incompetence. Only then can we determine if the regulation is likely to do more good than harm. So far, only the good part is being examined, with nothing on the harm that regulations routinely inflict.

UK vs. US: Recapitalization Plans Compared

There are substantial differences between the US recapitalization plan and the UK recapitalization plan that is widely being hailed by the media right now. Portfolio.com has a nice table showing some of the key differences. One big difference is with the 12 percent dividend the UK banks are required to pay. 12 percent dividend? Given that loans to homeowners and businesses will be in the 5-7% range, the banks will only be able to pay that dividend thanks to leverage. They can lend out several times more in loans than they have in equity.

However, if I were a shareholder, I'd know that there will be very little chance for me to profit. The shares will be very depressed for a long while, until the government sells and gets out of the banking system. Basically, there is no way for the banks to raise capital from private sources now. Who the hell will buy stock with all these restrictions and no potential for profit? With this move, the UK just nationalized all of the banks they injected capital into. There will be no other source of funding for these banks. The capital market is closed to them until the government gets out, period. That's a huge difference between the UK and the US. US Treasury's terms were not so harsh that it removed all profit potential. Government will share in the gains, but won't hog all the upside for itself. And with that comes the possibility of raising money from private sources.

Has the UK and The Bank of England bit off too much to chew? I don't know, we'll have to see, but thanks to their harsh terms, they'll have to recapitalize their banks unilaterally. And I thought the UK was against unilateral actions.

Why Doesn't the Government Ask for More?

Some are asking why the government isn't getting a better deal like the one Warren Buffet received from Goldman and GE. Yes the government is only getting limited upside through warrants, but you cannot make them pay more than they are capable of or else they will fail under the burden of the payments to government. If we think banks will have to take more losses in the future, then making them pay 10% interest dooms them. There is no loan out there that banks can make 10% on, without taking a huge amount of risk! Buffet got his good deal because Goldman and others hoped that his investment would encourage others to invest with worse terms. So he was paid a premium as an advertisement to the rest of the world. His stamp of approval cost that much, Goldman cannot afford the same terms for everyone.

You also cannot wipe out existing shareholders and bondholders without a good reason, like the bank is insolvent. If there is anything left, there is no justification for government to take that away. Under bankruptcy, the bond holders are entitled to the assets, and the shareholders whatever is left.

If you are going to wipe out shareholders and bondholders, then why bother making this transaction? Why not create a new bank and allow the old one to fail? If the purpose is to prevent the bank from failing, then you cannot punish shareholders and bondholders beyond a certain point. This is especially true with bondholders which get the assets in a failure. As for common shareholders, they only get what is left after the government gets the dividend from the preferreds, their future profits are diluted, not to mention the warrants. And as I noted before, you can only ask the bank to cough up so much in dividends and interest before it becomes impossible for the bank to continue. A bank dies when its cost of funding becomes larger than the profit it can make from operations. A very high dividend rate on the preferreds and the bank cannot make money and is guaranteed to fail. People aren't stupid, if they calculate and see that there is no way for a bank to make that much to pay the government, they will start selling and we'll have a rout.

Treasury to Invest Directly In Banks

The government is set to buy preferred shares in banks. Why do this Adam Levitin of Credit Slips asks? He answers his own question below.

So why did Treasury do the deal as preferred stock?

My guess is that it mainly had to do with bank capital requirements. Both banks and bank holding companies have complex capital adequacy requirements. If violated, various regulatory sanctions are triggered.

Roughly speaking, bank capital is split into Tier 1 and Tier 2 type of capital, depending on the nature of the capital. Tier 1 capital is "core" capital and is more important. The deal appears to be structured to bolster Tier 1 capital, in order to have the biggest bang for the buck in terms of supporting bank capital adequacy. If the deal were done as straight forward debt, it wouldn't help bank capital adequacy, and if it were done as subordinated debt, it would be Tier 2 capital (not as good)...

So it in the end, we have what is basically an economic loan, but structured in a way to game bank capital adequacy requirements. What strange times we live in when Treasury and the Fed have to engineer a deal to circumvent their own regulations.

What is so strange about these regulations? They are there to make sure there is enough "equity" to back up the bank in case of losses. That's why banks have to raise capital instead of just borrowing at the FED window. Think of it this way, if a bank takes losses, it has to do so through equity. You borrow $100 million from the FED, you still owe $100 million. If you lose $20 million due to bad loans, you are insolvent then. But if the FED buys new shares and invests $100 million, then if you lose $20 million, you have $80 million left.

As a consequence, the shareholder also gets to profit from future bank results. So if the bank is able to make $20 million profit, net of expenses like interest, then that goes to the shareholder. With a loan, the government would be paid back, but not be able to participate in future profit gains.

The preferred shares allow the government to profit from future gains, while also getting interest. They are non-voting shares so conflict of interest is minimized, though in reality the government can make new laws and regulations anytime it wants. It can force the banks to do whatever anyway, but it legally shields the government from having to vote. The FED doesn't want to have to vote on thousands of shareholder proposals.

Again, it's all about capital. Capital is important for investors too, banks without enough capital can become insolvent very quickly if they take losses. Capital shields banks from insolvency, which is why banks are required to have a certain amount of capital to cushion themselves. And if the government waives those regulations, investors would have no faith in the ability of the bank to survive, or more accurately, much less faith, even with a government loan.

An Open Letter to Pirates

Some people are saying pirating is going to continue. What is their point, that we should accept pirating and pirates? Yes there will be criminals and murderers in the future too, but does that mean we should sit back and allow them to harm our society? No, this type of behavior is unacceptable and needs to be dealt with.

Do you think it's easy to make a game? That these corporations aren't taking risk or providing a good? If you don't think a game is worth it, then fine don't buy it, but that does not give you any justification to steal it. I don't think a Porsche is worth $100000 or whatever they cost, I'd pay $20,000, but guess what, they are free to set their prices and I'm a criminal if I take it. These companies provide jobs and a good living for a lot of programmers, not to mention marketers and all those people needed to set up a good gaming convention. Gamespot, Tom's games, and all those sites wouldn't be in business without games to talk about! People who pirate do a lot of damage and perhaps the only way to reduce pirating is for us to demand harsher penalties including criminal penalties.

DRM sucks, all copy protection is a hassle, but I don't blame EA for wanting to protect what cost them millions to make. I think one thing they should focus more on is suing people. I don't like more government intervention and regulation, but perhaps the only way is to require or allow software companies to track the downloading of their software on PtP networks and on the internet. The software companies would then sue the hell out of the pirates, probably causing them to go into bankruptcy. Once a few people lose their homes, then pirating will be reduced. It's not worth pirating if you're going to put everything you own at risk.

That will be unpopular I'm sure, but it'll upset the pirates the most and who cares if they get their panties bunched up? What are you going to do, stop buying....oh I forgot you pirate, you don't buy anyway. It's too bad that it might have to come down to that, but oh well, pirates screw it up for all of us. Thank you aholes for bring on DRM and ruining the experience. Thank you aholes for all the copy protection and new crap we'll have to endure in the future. You are a scourge to society, don't even pretend that you're not. Don't like DRM? Blame the pirates.

Need For More Regulation?

We need more regulation, that's been the current mantra heard across the country. But what has been overlooked is that we had regulation and already had regulators who failed us. Warren Buffet explains a fundamental problem with regulation and regulators, we can't assume that they will do their jobs and actually regulate the industries they're supposed to!

Mr. BUFFETT: And they sat there, made reports to the Congress, you can get
them on the Internet, every year. And, in fact, they reported to Sarbanes and
Oxley every year. And they went—wrote 100 page reports, and they said,
`We’ve looked at these people and their standards are fine and their directors
are fine and everything was fine.’ And then all of a sudden you had two of the
greatest accounting misstatements in history. You had all kinds of management
malfeasance, and it all came out. And, of course, the classic thing was that
after it all came out, OFHEO wrote a 350—340 page report examining what went
wrong, and they blamed the management, they blamed the directors, they blamed
the audit committee. They didn’t have a word in there about themselves, and
they’re the ones that 200 people were going to work every day with just two
companies to think about. It just shows the problems of regulation.

QUICK: That sounds like an argument against regulation, though. Is that what
you’re saying?

Mr. BUFFETT: It’s an argument explaining—it’s an argument that managing
complex financial institutions where the management wants to deceive you can
be very, very difficult.

I don't necessarily disagree that we need changes to the regulatory system. The question is in what manner and in what way? As with everything, the details are critical. But it is wrong for us to believe that there was no regulation and no oversight whatsoever and that's what caused the financial crisis. Regulators must be capable and have knowledge of the industry they regulate. They must understand the complex financial instruments in use and be smart enough to recognize a problem ahead of time. That's a lot to ask of a government employee. Especially if that employee is part of a no-name regulator like OFHEO, if you had any talent, why would you work for OFHEO instead of Treasury or a Wall Street firm?

It's failures like OFHEO's that make me question the effectiveness of government and government programs. I know the intent of programs and regulation, but no one seems to look at if the intent can be reasonably carried out, or make adjustments for government incompetence. A government plan or program is usually taken at face value, with very little consideration of the fact that government doesn't do many things perfectly, and is prone to screw up.

There should be regulation that sets up a clearinghouse for derivative instruments. There also needs to be a law that gives shareholders the power to veto any management compensation plan. Basel I has to be changed so that financial institutions have to keep more reserves and cannot leverage as much as they have been. Accounting rules should be reformed to make institutions show SIVs (Structured Investment Vehicles) on their balance sheets if they are obligated to fund them. Regulators like OFHEO and the SEC should be merged into a larger regulator such as Treasury or the FED. Those are large reforms, and I think they comprise most of what we need. But in the end, we still will have to depend on regulators to do their jobs, the financial sector, and the world at large are just too fast moving and changing for hard rules to work. We need good judgment and talent, something government agencies don't always have. But the more important the agency, the more likely we are to have talented people with good judgment working there. Paulson and Bernanke are two such examples, Rice another. Still, no amount of regulation and no government system has been able to prevent financial crises from occurring now and then. We've had financial crises in the past and will have them again in the future. There are some things that are just unavoidable.

Vox's Bad Plan B

Luigi Zingales recently wrote an article criticizing Paulson's TARP package and proposing his own Plan B.

Paulson’s plan won’t work. Leaders agreed to inject equity into the banking system, but too little, too late. Nothing short of a 5% increase in banks’ equity capital (about $600 billion) will restore confidence. This column explains that even then, there are three additional problems. We need a plan that minimizes the bailout money so we’ll have some for a stimulus package to restart the economy. (continued)

Unfortunately, his plan won't work either and is filled with holes. As a property manager myself, renting out a property is harder than it sounds. Someone has to maintain the property and there's always something that needs to be repaired, like the garbage disposal or a leaking shower head. I don't think the government is capable of property management, they'd have to create yet another agency to rent out the properties. The costs would be very very high, which is why banks don't rent properties in foreclosure, it's cheaper for them to leave them empty and sell them at auction. Banks aren't in the property management businesses and are wise enough not to get into an area where they have no expertise, but will require a large amount of resources.

The plan is not very good, in the end someone has to take the losses, you can postpone those losses for a while, but all that accomplishes is long term stagnation like what is happening in Japan.

Debt holders usually get the residual assets in a bankrupt company anyway. I don't see how forcing bankruptcy on lots of financial institutions would benefit them or anyone else. Bond prices would collapse and fear would spread. Plus what would bond holders do with the toxic stuff once they gain control anyway? All you do is transfer the toxic mortgages to new owners, and if those assets decline in value, then the new stockholders will face the same problems and need to raise more equity. Maybe we'll have another round of bankruptcies.

The problem with subprime mortgages is not necessarily that they are underwater, it's that the current mortgage borrowers can't afford to pay the interest. If forgiving 30% of the principal isn't enough to reduce payments to levels that borrowers can afford, then it will do no good at all. The borrower will also do a calculation, is it worth it to keep on paying interest on the property and accept only 50% of gains AFTER the property rises to what he paid for it originally? Or would it be better to walk away, save money on interest (if renting is cheaper), and then buy into a new home at lower cost where he stands to capture 100% of gains from the lower price point?

The plan is not very well thought out. Hedge funds routinely close after losing 30%, even if they can make that money back, the managers know that they won't get the 20% standard fee on gains until they first make up for that 30%. It's much easier and profitable to close down the fund and open a new fund that will give them 20% without first having to get back that 30% they lost. The only barrier is the willingness of investors to put money into the new fund. This is almost exactly what underwater homeowners face. Why bother trying to make up for lost equity when you can walk away, wipe the slate clean, and then take 100% of gains from a new, lower price point? The only issue is if they can acquire a new property. In the end, Vox's Plan B is even worse than the bailout package on the table currently.

Securitization a Sound Method

No, securitization is a sound method. We can make AAA securities from subprime mortgages, just like we can filter clean water from a cesspool. The question is how much "clean" water we can get. Clearly not as much as the rating agencies thought.

Yes there is a problem with the agencies and how they operate. Government regulations give the agencies a huge amount of power. They can force a company into bankruptcy like what they did with Lehman by downgrading the bonds that they had initially graded AAA to junk. That forces Lehman to put up more capital in a vicious cycle of destruction. Yet the ratings agencies aren't punished for making huge and substantial mistakes. It doesn't matter how wrong they are or were, they get to continue on. Where is the incentive to be right? Where is the incentive to do their job?

Japan's Spending Binge

And that domestic spending had just about NO EFFECT on the economy. All they did was screw their future, Japan has one of the highest debt/GDP ratios in the entire developed world! Their debt is nearly 100% of GDP, for all the fuss made about the US debt, we're only at 67%.

Japan's reckless spending proves my point. A whole lot of useless and wasteful government spending was instituted. All they did was destroy their future. Once the Japanese economy becomes healthy again, interest rates will rise to above the current 1.8% or so, and they will have to start paying a substantial amount of interest. And for what? What did they get out of this government spending? Like the Great Depression, that government spending did nothing in the grand scope of things, Japan still is waiting for a recovery. The Nikkei just dropped below 10,000! Absolutely shocking. Back in 1989, it stood above 30,000. (Stock market prices are only one of many important indicators, I'm not suggesting they should be the only or even most important indicator of a nation's economic health).