Perverse Incentives Are Endemic (TM)
Posted by Marc Hodak on November 22, 2009 under Self-promotion | 
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One Silicon Valley firm made a brilliant investment in a couple of great kids. And I can assure you that those kids are totally into getting that firm an obscene return on that capital.
Posted by Marc Hodak on November 21, 2009 under Collectivist instinct, Politics | Be the First to Comment
I was at a CFO conference on Thursday where the keynote speaker was CFO of the Department of Energy, Steve Isakowitz. You’d think a CFO, even one in government, would talk about things like accountability or controls for spending, especially with $36 billion in stimulus funds dropped into his department’s lap. Instead, this CFO ran a cheerleading session about all the investments the government was making on “green” initiatives and energy independence, which he acknowledged had a history of failure, but not one word about accountability.
At the end of his talk, I got up and asked him: “What controls will you have to monitor the returns on these investments? And how will you keep from crowding out private investment in similar energy projects?”
His answer: “The private sector is not making these investments. In fact, one of our screens for making any particular investment is that the private sector is not financing such projects.”
When I sat down, a couple of the CFOs sitting at my table shrugged and said that it appeared that he didn’t want to answer the question about accountability for returns, or that he chose to answer it with with a highly questionable assertion about lack of private sector involvement.
I felt that his answer was clear. He basically said that the government has created a huge venture capital funds–rivaling Kleiner Perkins, Sequoia, NEA, etc.–and that this fund will only make investments that no private investor would touch.
What upset me wasn’t that he failed to answer my question, because I think he did after a fashion, but that his answer was intended to satisfy a finance audience. And what really upset me is that it appeared, aside from a few of us cranks, that it worked.
Posted by Marc Hodak on November 12, 2009 under Reporting on pay, Scandal | Read the First Comment
But the verdict was not at all what the prosecutors were looking forward to when they tried a pair of Bear Stearns traders in the press, using what we now know to have been highly selective leaks. Once the jury saw the leaked material in context, in a forum that consisted of more than soundbites and press outrage, they came to their own conclusion:
In the indictment, the prosecution quoted from a note Mr. Tannin sent in April 2007 from his personal Gmail account to Mr. Cioffi’s wife. The government made much of the fact that Mr. Tannin chose not to send it to Mr. Cioffi himself or from his Bear Stearns’ e-mail account, suggesting he was trying to hide something. “The subprime market looks pretty damn ugly,” Mr. Tannin wrote, adding that if a recent financial report was correct, “I think we should close the funds now …. The entire subprime market is toast.”
But the jury eventually saw the entire message, in which Mr. Tannin ruminated at length about various courses of action and seemed to be striving to make the soundest financial choice. In other words, it was just what you would hope your fund manager would be worrying about in a precarious time. In the end, he concluded he was feeling “pretty damn good” about what was happening at the funds and that “I’ve done the best possible job that I could have done.” Any wonder the jurors came away with reasonable doubt?
The Bear Stearns executives are smiling now, but that’s what one does when the authorities threaten to take your life away, and you suddenly get it back. The jury made it clear this case was not close:
“They were scapegoats for Wall Street.”
“The entire market crashed,” one juror explained. “You can’t blame that on two people.”
But you can try if you’re a young prosecutor with the press, public, and political bosses cheering you on. And unlike these traders who lost their jobs, their firms, and much of their personal fortunes on their gamble, the prosecutors lost nothing personally on their gamble. Like the traders, though, the prosecutors did lose millions of dollars of other people’s money–ours, the taxpayers.
And even now, most commenters are assuming that this an unfortunate outcome, that the prosecution was merely incompetent rather than opportunistic.
Posted by Marc Hodak on November 8, 2009 under Politics, Scandal | Be the First to Comment
It should, according to the logrolling that got the vote of the lone Republican, freshman congressman Rep. Anh “Joseph” Cao:
Mr. Cao wants the Department of Homeland Security to forgive $1.27 billion in disaster loans in the wake of Hurricane Katrina; officials said they would try… Mr. Cao said in a statement that he won a commitment from Mr. Obama to address issues involving Louisiana hospitals and the disaster-loan forgiveness.
There may be good reason to forgive disaster loans to New Orleans residents or businesses. But doing so in exchange for committing the nation in a decisive step toward nationalized health care seems like a weak and profoundly cynical bargain, not to mention naive.
Posted by Marc Hodak on under Executive compensation | Be the First to Comment
Bruce Yandle’s modest proposal:
But the chief concern is not with presidents and vice presidents of too-big-to-fail banks and other bailed-out enterprises. As large as they are, they are small potatoes relative to the big generators of systemic risk. The critical concern is with top government executives who can create national and international panic, lay the groundwork for international inflation or deflation, and just by voting and writing regulations can change the risk profile of entire industries.
Similar in spirit to my earlier proposal here.
Posted by Marc Hodak on under Governance, Politics | Be the First to Comment
Well, Treasury blocked the sale of Fannie Mae tax credits to Goldman Sachs and Warren Buffet:
Treasury Department officials blocked the deal after concluding that it would have resulted in a loss of tax revenues greater than the savings to the federal government had it allowed the sale. “In short, withholding approval of the proposed sale affords more protection of the taxpayers than does providing approval,” an administration official said in a statement.
As noted earlier, this sale would have helped Fannie and Freddie improve their financial positions while promoting the public policy intent of these tax breaks, i.e., spurring low-income housing. The Administration’s objection no doubt centered on the idea that Goldman might have also benefited, a politically difficult fact that Saint Warren’s involvement could not overcome.
So Treasury, which appoints the board of Fannie and Freddie is breaching its duty of loyalty as the conservator of those wounded institutions, making it more likely that they will end up going to Treasury for another bailout, while undermining the public policy intent of Congress in creating those tax credits.
On the other hand, if Treasury can get away with arguing in favor of taxpayers on this tax credit, why don’t they overturn every tax credit in the name of helping taxpayers with something resembling a fair and flat tax? Why should taxpaying renters be penalized by the existence of a mortgage interest tax credit? Why should taxpaying singles and childless couples be penalized by a child care tax credit? ….
Posted by Marc Hodak on November 4, 2009 under Reporting on pay | Be the First to Comment
Articles are starting to prepare us for a horrible truth: many Wall Street bankers are going to get (gasp) big bonuses this year!
Incentive pay on Wall Street is set to rise by about 40% as stronger financial markets collide with the political backlash over bonuses, according to a closely watched survey set to be released Thursday.
Clearly, the backlash is as expected as the bonuses.
Whatever the actual numbers, the bonuses — most of which will be calculated between now and the end of the year and paid out in early 2009 — are bound to be controversial given the hard economic times many Americans are facing and the resentment directed at the financial industry.
After all the talk about pay for performance, you’d think that we would recognize and accept the fact that some bankers have performed perfectly well this year, and therefore should be paid what well-performing bankers can get. But the fact that such bonuses are still grabbing headlines reveals that the underlying controversy is not about big pay for good performance–it’s a about big pay, period. The story is not really one about greed; it’s about envy. It’s about the idea that no one should make that much more than I do, dammit.
I really like the Santa drawing accompanying the WSJ article, as if the bankers lined up for their bonuses are getting a gift from a generous Mr. Claus, instead of getting as little as their embarrassed, profit-seeking firms could get away with paying them without losing them.
Posted by Marc Hodak on under Governance | Be the First to Comment
Fannie Mae has tax credits that are worthless to them. As the value of these credits have declined, Fannie has had to write them down, hurting its earnings. The government created these tax credits to spur the creation of low-income housing, so it has a public policy interest in seeing these credits utilized. Along comes Goldman Sachs with an valuable offer to buy these credits. Fannie is willing, but their government masters say “No, thanks,” and veto the deal.
Why would the government stop a transaction that would be good for Fannie and for low-income families? Because it would also be good for Goldman Sachs. And, the logic goes, it might be bad for the government because it would reduce the taxes that Goldman pays to the government over time, which is of course what the government intended when it created the tax credit. The government wields this veto in its capacity as Fannie’s conservator, which appoints the board members.
One of the fundamental tenets of corporate governance is the duty of loyalty. This duty states that a member of the board must place the interests of the company ahead of his or her personal interests. In Fannie’s case, selling these tax credits to a willing buyer would be good for the company. The fact that the board, at the behest of a politically-motivated conservator, is blocking this transaction suggests that the interests of the conservator are being placed ahead of the interests of the company. In other words, Fannie’s government masters would rather avoid a deal with Goldman in which the bank might (gasp) make a profit, than to actually do what is best for the company they are overseeing, one they presumably wish to see back on its own feet some day. This move makes the government as lousy fiduciary. But we knew that already.
