The truth behind those unemployment figures

Posted on by j.giglio

As we all know, the world economy recently endured a precipitous tumble. Even five years after the near-depression ‘s onset, unemployment remains high and economic growth is constipated. The financial crisis opened up a sinkhole in which millions of Americans lost their jobs. No one has been more affected by the debacle than young people.

To the average American, the unemployment rate is the indicator to which they pay the closest attention. As well they might, when you consider that unemployment is the black mark on the American economy .

The August headline unemployment rate dropped from 7.4 to 7.3 percent and 169,000 new jobs were reported, but that was fewer than expected. Unemployment is at its lowest rate since December 2008, but the rate fell for the wrong reason: another 312,000 Americans stopped looking for work and are no longer counted as unemployed.

These people essentially become nonexistent, usually a sign of an ailing economy, not a recovering one. If the economy were growing, the unemployment rate would decline because people found jobs, not because they quit looking.

From a broader perspective, current views of the labor market can roughly be divided into two groups. One argues that the weak labor market is the result of a shortfall in aggregate demand and argues for continuing an aggressive monetary policy known as quantitative easing, whereby the U.S. Treasury buys up billions of dollars of debt.

The other group notes that structural factors such as the rise of technology are the major challenges for the labor force. That means firms have jobs but can’t find qualified workers. For this crowd, greater emphasis must be placed on programs such as job training and mobility assistance.

It is generally believed that 250,000 new jobs are needed every month to keep pace with population growth and people entering the workforce for the first time. In addition to the anemic August jobs report, the federal Bureau of Labor Statistics also revised its June and July figures sharply downward.

It turns out that June’s job growth was not 188,000 as previously reported, but only 172,000. July’s numbers got knocked down all the way from 162,000 to 104,000. Does this suggest a correction next month to the August increase of 169,000jobs?

Labor participation, the percentage of Americans over 16 who have jobs or are looking for them, declined slightly from July to August and is at a 35-year low. BLS reports that 90 million eligible workers are sitting on the sidelines who don’t count as unemployed. The recent decline in the unemployment rate reflects reduced labor force participation, not increased employment.

The labor market is worse than government numbers reflect. Businesses are not hiring because of stagnant demand, and sales are not growing because consumers have less money. Consumers have less money because stagnant demand means businesses are not hiring full-time employees. It’s a classic Catch 22.

Many subgroups, especially the young, less educated and minority groups, are facing unemployment rates well into the double digits. Young workers have been the hardest hit. The recession and weak recovery have sharply reduced opportunities for entry-level workers in virtually every industry. The August unemployment rate for Americans under 25 was 15.6 percent, more than two and halftimes the rate for those 25 and older.

This may explain why young people are so pessimistic about the future; perhaps they fear they will be part of a “lost generation.” Many of these future leaders are sitting on the sidelines, having trouble finding full-time work that will help them develop the skills they need to transition to higher paying employment. They are struggling to pay off massive student loan debts and living with their parents because they can’t make the loan payments while living on their own.

The jobless economic recovery and the absence of bright, young people in the labor market do not portend well for our country. Instead of buying homes and creating new households, more young people are becoming dependent on government benefits, not paying taxes and creating a new underclass that will endanger America’s future.

originally published: September 21, 2013

A glossary to the Great Recession

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Five years ago this month, a financial meltdown didn’t merely plunge America into the Great Recession, it drove the country into the worst economic crisis since the 1930s. It’s not hyperbole to call the 2008 meltdown one of the most critical events in American history.

This was a cataclysm far worse than any natural disaster in the nation’s experience and it has given rise to its own terminology.

Financial Meltdown: A biblical-style plague that drained nearly 60 percent of the stock market’s value and killed off other financial and credit markets in the process. Banks and other businesses either vanished into bankruptcy as the nation’s credit system froze up and forced the federal government to spend $2.8 trillion and commit another $8.2 trillion in taxpayer funds to bail out major corporations like General Motors, Chrysler, Citigroup, Bank of America, AIG, and a host of other “too-big-to-fail” private-sector institutions even as those taxpayers were themselves crippled by some $11 trillion of wealth and eight million jobs being wiped out.

Economic Crisis: What we seem to be stuck in right now. Middle America struggles with rising food and gas prices, finding or keeping a job and simply keeping their heads above water. The rich get richer and everyone else gets poorer. It is marked by an economy that can’t seem to grow its way out of a paper bag. Instead of early retirement, countless Americans will have to keep working until they drop because half the value of their 401(k) vanished into thin air. Paying for their children’s college education is entirely out of reach.

Lascivines: The CEOs of these firms were the modem equivalent of saloonkeepers in classic Westerns who paid the usual “gaudy ladies” to hover at the bar and sweet talk us into drinking overpriced, watered-down whiskey while their painted eyes promised that we can “take them upstairs” later.

Rocket Scientists: Bright young nerds with Ph.D.s in math or physics from major universities who found that earning a decent living in the academic world was tougher than earning a decent living by becoming the intellectual equivalent of Broadway actors. Their technical backgrounds let them quickly master the intricacies of”Quantitative Finance Theory” and engineer all kinds of wild derivative securities that are too complicated for most people to understand, but very profitable for their employers.

Master of the Universe (actually the reincarnation of 1980s terminology): An infantile term of “respect” for anyone in the financial industry who’s aggressive enough to generate big dollars for his firm (by hook or crook).

Is it any wonder that increasing numbers of outraged Americans are screaming that there ought to be laws against allowing just anybody to hold senior positions in industries so important to the public welfare? Shouldn’t they be required to possess licenses testifying to their qualifications, like physicians and lawyers? Accountants are prohibited from expressing formal opinions about the “adequacy” of corporate financial statements until they’ve passed the Certified Public Accountants exam and worked in their field for a number of years. Why not have the same kind of rigorous licensing requirements for top management jobs in critical industries, including administering competency tests to all graduates of MBA programs.

After all, the senior managers at Lehman Brothers, Merrill Lynch, Bear Steams, AIG and so many other financial-services firms were totally clueless to the dangers of undue risk, excessive leverage and abusing lax regulations, all while being more outrageously overpaid than top managers in any of the world’s other major industries.

Americans can’t forget the financial meltdown of 2008 because they are still dealing with its effects. Like any victims, two things that would help them process the trauma would be for those responsible for it to finally be brought to justice and for safeguards to be put in place to prevent a reoccurrence.

originally published: September 14, 2013

The continuing resolution continues

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While the average American family is working out daunting problems of health care coverage, home mortgage payments, financing a college education and making ends meet -not to mention saying goodbye to summer – Congress returns on Sept. 9.

Those same average Americans want the feds to round up the folks responsible for paternity of the economic crisis, slap the cuffs on them and send them to Guantanamo. But they have come to understand that no wealthy client is ever guilty until they run out of money.

The long August recess was a chance for lawmakers to hear from constituents, chill out and recharge their batteries before returning to the capitol to address two major budget deadlines: Funding the government for the 2014 fiscal year that begins Oct. 1, and once again raising the nation’s debt ceiling.

Since Congress is only in session for nine days in September and there is little hope for a broader deficit reduction agreement with the White House, lawmakers will likely pass a continuing resolution to avoid a partial government shutdown. Republicans will try to leverage the need to raise the debt ceiling to extract cuts in Obamacare and other government spending. The debt ceiling is the maximum amount of gross debt Congress allows the federal government to carry. The current limit is $16.7 trillion.

In the summer of 2011, the White House and congressional Republicans locked horns in a bitter fight over the ceiling. An agreement was finally reached in August to increase the debt ceiling through the early part of 2013 as part of the Budget Control Act, which set caps on certain spending levels and led to across-the-board “sequester” cuts that are scheduled to continue through 2021. After this debt ceiling debacle, Standard & Poor’s reduced its rating on long-term U.S. debt from AAA to AA+ reflecting the federal government’s dysfunctional politics.

The Treasury Department says the government will reach its borrowing limit in mid-October and be unable to pay all its bills soon after. The feds actually hit the ceiling on what it could borrow in May. Since then, Treasury has used a variety of accounting techniques to continue to borrow. A sharp decline in spending this year and repayments from bailed out mortgage fmance giants Fannie Mae and Freddie Mac also eased the reliance on debt.

Republicans are demanding significant new spending cuts in exchange for increasing the $16.7 trillion debt limit, with some also insisting on delaying or scrapping Obamacare. They want any increase in the debt limit offset dollar-for-dollar by other cost savings.

Meanwhile, the President insists he will not negotiate on the debt limit to pay the bills Congress has racked up. It is worthwhile noting that as a senator, President Obama voted against raising the debt ceiling. This debt ceiling stalemate could shut down the government, force the first default on U.S. debt in the nation’s history and add to the general anxiety besetting the average American, who has come to believe that what passes for fiscal governance is a political gong show.

This just isn’t a problem with politicians, it’s also a problem with voters, who say deficits and debt are major concerns, but favor government spending to create jobs and oppose major cuts to most government programs. They want something for nothing.

What lies ahead is another replay of this tired script and before the ink is even dry on the latest budget deals; they will become part of the permanent, rolling fiscal cliff. The choices are pure Woody Allen: “More than at any other time in history, mankind is at a crossroads. One path leads to despair and utter hopelessness, the other to extinction. Let us pray we have the wisdom to choose correctly.”

originally published: September 7, 2013

‘Caveat Emptor’ no help to investors

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In the wake of the 2008 financial crisis, the conventional wisdom is that financial markets need to be more tightly regulated. That is certainly true, but the problem is as much about who is doing the regulating as it is about the regulations themselves.

The 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act represents America’s biggest financial regulatory reform since the Great Depression, but its success will ultimately depend on having competent and honest regulators who cannot be compromised by lucrative employment opportunities dangled by the regulated.

The dominant global financial players’ failure to rein in their greed set the stage for the last economic crisis, and it was hardly the first time; under-regulated markets went on a murderous rampage.

Common-sense regulation ensures that a buyer can be confident that the item being purchased possesses all the advantages the seller claims, and that any disadvantages are clearly identified. This allows the buyer to make a rational decision about whether the item is actually worth the price. Many libertarians assume sellers will always inform the buyer of pertinent factual information because the seller knows that economic success ultimately depends on a reputation among potential buyers.

At the other extreme is the idea that sellers are inherently Times Square shell-game scammers who can’t be trusted to provide clear, honest, information about their products’ advantages and disadvantages, so  the buyer must accept sole responsibility for obtaining all necessary information about whatever products he or she may purchase. This is the spirit behind the popular Latin phrase: “caveat emptor,” or “let the buyer beware.” Responsibility for regulating private firms rests with government agencies staffed by highly qualified managers and analysts who regard “public service” as the noblest of callings and their surest path to heaven. ·There are at least two real-world problems with this concept.

The first is that it depends on a large supply of trust fund babies to staff these government agencies free to devote their professional lives to “public service.” Sadly, the supply is nowhere near sufficient. Most of the intelligent and well-educated people they require emerge from graduate school burdened by crushing student loan debt that forces them to opt for the most lucrative job they can find.

The second problem flows naturally from the first. Many gifted, well-educated, young people see government regulatory agency job as stepping stones to lucrative private sector careers. They can develop useful contacts with key players with the firms they are supposed to regulate and impress the contacts that their “hearts are in the right place” as far as the regulated firm is concerned.

So it’s scarcely a surprise that there’s a parade of people marching back and forth between lavish private sector executive suites and the basic steel-desk offices of agencies like the Securities and Exchange Commission.

If we want federal regulatory agencies that prevent financial debacles, we have to end close the revolving door.

To make that work, we will need to address the economic concerns of gifted but highly indebted people. We could pay them much higher salaries for government jobs or subsidize their student loan burdens in return for their committing to careers in public service. Perhaps we could make up some of the difference with generous pensions, health benefits, and perhaps even offer them college scholarship for their children.

It’s awfully hard to be serious about regarding financial markets when you need a program to tell the regulators from the regulated.

originally published: August 31, 2013

The charms of group purchasing

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One thing almost all industries share today is pressure to cut costs in an economic environment where demand is stagnant. Many companies have responded by substituting capital for labor and outsourcing jobs offshore. But collaborative purchasing has also emerged as an effective cost-saving strategy, and not only for the private sector.

Over the past two decades, procurement and supply chain management have risen to the top of the management agenda for private-sector managers seeking to rationalize their cost structures. Among the advantages the private sector has over government are much more flexible procurement regulations. Aggregating purchases is relatively simple in the private sector and presents such an obvious savings that few operating managers resent its imposition.

By contrast, government procurement regulations reflect the American cultural bias that it is better to spend $100 on gold-plated oversight procedures than to risk letting a single dollar slip away to a supplier who may not truly deserve it. This commitment to a squeaky-clean procurement environment tends to relegate public agencies to the end of the line when it comes to implementing new tools and technology.

The inevitable result is that operating costs are higher and service is poorer than it could be. Also, government procurement is often a powerful tool for advancing political interests like supporting the local economy, often at the cost of capturing major savings.

Experienced managers know that flexibility is necessary in negotiating and administering contracts with suppliers if the results are to pay meaningful dividends. This can often mean a heavy emphasis on interpersonal relationships and the use of negotiated contracts rather than arms-length competitive bidding.

Traditional critics of the public sector like to call this “honest graft,” which just plain smells bad to much of the American public regardless of its real-world benefits. They fail to realize that what really counts are results, not civics class myths about what constitutes “good government.”

Sure, chicanery has a long tradition in the rough-and-tumble world of American capitalism and appears to be unavoidable. After all, you don’t survive long in business by acting like a Sunday school teacher.

No area of government is more interested in reducing costs than the transportation sector, where demand for new assets is high, federal funding has stagnated and revenue from sources like the fuel tax has been eaten by inflation. As a result, states’ Departments of Transportation (DOTs) have had to scale back on capital replacement and focus a larger portion of their funding on preserving existing assets.

Many state DOTs need to be grabbed by the lapels and given a good shake by a new generation of leaders who understand that working in an era of constrained resources requires them to create customer value without relying on the federal government.

Fortunately, a number of DOTs realize that joining their counterparts to do collaborative procurement represents an opportunity to reduce costs without jeopardizing service delivery. Under collaborative procurement, several entities combine their purchasing efforts to secure a selected group of products and services with commonly accepted specifications. The goal is to leverage the aggregated purchasing  power to save money and obtain favorable terms and conditions from suppliers. The initial focus is on demonstrating success in a few discrete spending categories that illustrate the practice’s larger potential.

Collaborative procurement certainly faces potential impediments, such as antiquated state laws and regulations. The time has come to rethink existing rules that constrain a tool that can result in better quality at a lower cost. If allowed to be judged on its merits, collaborative procurement will become the new status quo in the public sector.

originally published: August 24, 2013

Reasons for hope in Detroit’s bankruptcy

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Once the symbol of American industrial power, Detroit filed for bankruptcy last month. The causes of the largest municipal bankruptcy in American history are clear, but there are also reasons for hope.

The federal government is unlikely to bail the city out, as it did for financial institutions and the big three automakers, because the fallout from Detroit’s bankruptcy is not expected to affect other cities and states. Detroit, unlike American banks, is not too big to fail. But bankruptcy offers the city an opportunity to nullify ridiculous labor contracts and reform pension and health care agreements.

Detroit was once the center of an economic miracle. In the 1950s it was one ofthe nation’s wealthiest cities and by the early 1960s automobile manufacturing accounted for half of Michigan’s gross domestic product.

But by 2008, automobile manufacturing’s share of Michigan’s GDP had declined to less than 5 percent. Detroit, the cradle of the automobile industry, developed with its expansion and also suffered as a result ofthe industry’s  decline.

The scale of the city’s decline is amazing. Detroit, which had 1.8 million residents in 1950, currently has about 700,000. The property tax base has been gutted. Large parts of the city consist of abandoned residential buildings and industrial sections that resemble war zones. Many of the remaining residents are essentially deprived of many basic public services like police and fire protection.

What set Detroit on the path to extinction? By the late 1960s, management at the big three automakers had become insulated and more interested in maximizing their own value than delivering value to customers. The 1973 OPEC oil embargo resulted in increased fuel prices and provided an opening for Japanese automakers to flood the American car market with cheaper, fuel-efficient alternatives. Many Americans soon became convinced that Toyota, Honda, and other Asian-based manufacturers offered better quality for their dollar than did domestic vehicles.

In an effort to preserve profitability in the face of a dramatic loss of market share, the big three’s less­ than-sure-footed managers evolved defensive business models that emphasized selling fewer vehicles at higher profit margins. This increased their dependence on SUVs, high-performance cars, light trucks, and similar gas-guzzlers that faced less Asian competition. As long as gas prices remained relatively stable, as they did through the 1980s and 90s, their strategy seemed viable.

But beginning in 2001, rising gas prices again cut the legs out from under the big three’s business models. Demand for fuel-gulping vehicles plummeted and sales started falling. This trend was compounded by the financial crisis in the fall of 2008. When the global recession took hold that fall, sales plunged, including a 32 percent drop in October alone, to the lowest level in 25 years. The big three had to depend on multibillion dollar taxpayer assistance to survive.

But it was not just the auto industry’s collapse that killed Detroit. Decades of mismanagement, fiscal and political ineptitude, municipal corruption and racial tensions exacerbated middle class flight, sending the city into a death spiral. Anyone who could get out did; since 2000, Detroit has lost a quarter of its inhabitants.

Detroit has also long been governed by a Democratic machine controlled by the city’s powerful labor unions, which mustered voting blocks big enough to ensure that only Democrats got elected. The result is that almost half of the city’s $18 billion in debt consists of unfunded pension obligations and retiree health benefits.

But there are hopeful signs. The automobile industry is again profitable. Businesses are slowly moving in and the city is becoming more attractive to entrepreneurs. Young people are returning to live downtown. Developers are buying office buildings and large tracts of land and turning them into living, office and retail spaces. The downtown sports teams sell out and firms such as Blue Cross/Blue Shield, Quicken Loans and others have recently arrived.

Building on these signs will require both city and big three leaders to resist the temptations they succumbed to in the past. Instead of quick profits and machine politics, the focus must now be on giving middle-class families a reason to return.

originally published: August 17, 2013

Applying Radford’s ‘Economic Organization’ to economists

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Since the days of Adam Smith, more nonsense has been written about capitalism than any subject except religion.

During the 19th century and the first half of the 20th century, economists from David Ricardo to Alfred Marshall raised the status of the free market, guided by its miraculous “invisible hand,” to something like a beneficent secular priest that was supposed to rule worldly lives.

Beginning in the latter part of the 20th century, things got even worse.

Ivory-tower economists started developing a host of “rigorous” quantitative models that claimed to show how markets actually work. Tagged with such intimidating names as “The Efficient Market Hypothesis ,” “Modem Portfolio Theory,” “The Capital Asset Pricing Model” and “The Black- Scholes­ Merton Option Pricing Model,” they focused primarily on markets for common stocks and other financial securities assumed to represent the closest real-world approximation to the free market ideal.

And they were all wrong. They were based on a misapplication of Gaussian statistics, epitomized by that overworked bell-shaped curve, which supposedly demonstrates that female college students have less aptitude for math and science than males. For good measure, they also used antiquated principles of Newtonian physics that had long been discredited.

But these theories still became conventional wisdom among Wall Street rocket scientists during the 1980s and ’90s. Not to mention winning for several of their developers the Nobel Prize in economics, despite the havoc they raised for the financial firms that actually tried to put them into practice.

It may come as a surprise to many, but markets are not artificial hothouse entities. They are, in fact, entirely natural and instinctive products of everyday human pragmatism.

Nowhere is this illustrated more clearly than in the informal markets that developed among American and British bomber crews in German prisoner-of-war camps during World War II. It’s the basis for a fascinating article by British economist R.A. Radford titled “The Economic Organization of a P.O.W. Camp.”

Prisoners received weekly food parcels from the International Red Cross that typically included Spam, powdered milk, jam, chocolate bars, soap and five packs of cigarettes. With lots of time on their hands and regular weekly deliveries of identical parcels, the POWs began trading these goods among themselves.

In a surprisingly short time, each barrack became a hotbed of informal “barter markets.” These activities soon expanded to include trading between barracks and even featured “bid and offer” notes for various goods that aggressive POWs looking for trading action would pin to the bulletin boards in each barrack.

As volume grows, the barter system is an awkward way to conduct trading activity. But human ingenuity quickly solved this problem by pricing all goods in terms of a single good, known formally as the “medium of exchange”- in other words, money. The POWs instinctively chose cigarettes as their money, since each Red Cross parcel contained five packs, with 20 cigarettes in each pack.

Once the POWs had a reliable and widely accepted form of money, their trading activities increased by leaps and bounds. Soon they allowed for credit, futures markets, arbitrage, investment, entrepreneurship, rules and institutions to facilitate market activity, and- because there were nonsmokers- savers. There was something universal and spontaneous about the development of a market economy.

After the war, these thoughtful members of the greatest generation went to college on the G.I. Bill and built highly successful careers. The descriptions of markets in their college economics courses bore little resemblance to how markets actually worked naturally in their POW camps. From which we can learn a great deal about how markets really work in a world of full-blooded human beings.

originally published: August 10, 2013

Privatization: Old wine in new bottles?

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Privatization, or public-private partnerships, is an arrangement under which the private sector becomes involved in the financing, design, construction, ownership, and/or operation of public facilities or services. The underlying concept is that both the public and private sectors can benefit from cooperating to provide services and/or facilities.

The concept is a valid one, as long as public officials consider privatization’s impact on tomorrow’s taxpayers, not just what the effect will be during their own terms in office.

Privatization is more common than most people realize. Governments routinely use private firms to prepare engineering and architectural designs for public facilities. Essential public services such as electricity, gas and telecommunications have traditionally been provided by private firms that function as regulated monopolies. Public-private partnerships are as American as handguns.

But the concept of private firms operating public libraries, prisons, sanitation services, toll roads or other functions normally associated with public agencies is newer. Contemporary privatization represents a collaborative effort, with the public and private sectors sharing risks, rewards and responsibilities.

Interest in privatization is increasing, partially driven by fiscal challenges. The assumption is that private firms can often deliver these services for less, even though they must pay taxes and make a profit ­ expenses that public agencies do not have.

How is this possible? There are at least five factors that can work in a private firm’s favor:

Higher salary and incentives: A public agency’s salary structure and inability to offer things like stock options may make it impossible to attract a sufficient number of talented managers.

Faster procurement: Public purchasing processes are often constrained by regulations originally implemented to prevent fraud. Purchases can take an inordinately long time to complete.

Economies of scale: By providing the same service to a number of public entities, a private firm can develop both market power and specialized expertise. This can be particularly critical for high-technology services.

Less restrictive work rules: Public sector collective bargaining agreements often saddle public agencies with work rules that prevent implementation of new and more efficient procedures. Private firms are often in a better position to negotiate rules that promote efficiency.

Availability of tax deduction: Finally, private firms have access to two federal subsidies that are not available to public agencies: tax deductions for accelerated depreciation on capital equipment and interest payments on borrowed funds.

Sadly, the nation’s most restrictive anti-privatization law all but prevents Massachusetts taxpayers from reaping benefits from public-private partnerships. Under the so-called Pacheco law, named after its author, State Sen. Marc Pacheco, state managers must overcome virtually insurmountable obstacles before contracting out any service currently delivered by state employees. As a result, few privatizations have even been attempted during the two decades the law has been in effect.

The privatization debate has waxed and waned since 13 colonies became the United States of America. Should we let government take care of our problems or should we rely on private enterprise? As governments struggle to figure out how to handle mega-problems created by a stagnant economy, the prudent use of privatization is more important than ever.

originally published: August 3, 2013

So let’s talk about insider trading

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So let’s talk about insider trading. A great American dream. Like having your own private copy of tomorrow’s Wall Street Journal delivered this afternoon, in time to place your trades before the markets close. Is it any wonder most people find the concept irresistible?

The Securities and Exchange Commission generally uses the term “insider” to identify those individuals – corporate officers, directors, employees, and other professional advisers -who have access to material information before it is available to the public. Insiders are permitted to trade as long as the trading does not take advantage of the confidential information and breach their fiduciary duty to the company. Such trades must also be disclosed to the SEC.

Illegal securities trading by an insider is a key Department of Justice and SEC enforcement priority. The SEC has initiated about one insider trading action a week since 2009 and the feds show no signs of slowing down. But what Congress should look at is changing the penalties for insider trading.

The government has won a number of high-profile cases, including one against the Galleon hedge fund manager Raj Rajaratnam, who was found guilty and given an 11-year prison term. Nearly two dozen people associated with Rajaratnam’ s insider trading scheme pleaded guilty or were convicted.

Rajat Gupta, the former chief of McKinsey and Co. who also served as a director for Goldman Sachs and Procter & Gamble, was the highest profile executive convicted of illegally passing confidential information to Rajaratnam. He was sentenced two years in Club Fed.

There has been extensive debate as to whether insider trading should be banned. The theory most often used by the SEC and the courts is that insider trading undermines investor confidence in the integrity of the markets. Shareholders and outside investors are at a disadvantage when they trade against insiders. If they aren’t protected, capital markets would be damaged as fear of trading with insiders might stop potential buyers from coming to the market.

On the other hand, some economists say insider trading benefits markets and improves the accuracy and efficiency of stock prices. Milton Friedman, for example, questioned whether insider trading is harmful and worthy of legal action. He was as decent a human being as you could find, regardless of whether  you agree with his support of unrestrained free-market capitalism.

Friedman believed that trading on material, non-public information benefits investors by more quickly introducing new information through prices into the securities market. And better information makes for more efficient markets.

Others argue the ethical questions raised by exploiting uninformed investors for personal gain are valid enough to justify prohibiting insider trading on material non-public information obtained in breach of a fiduciary duty.

For certain, these are difficult policy questions. But when it comes to meting out punishment for engaging in illegal insider trading for personal gain, the real punishment should be for the guilty to give up their lifestyle.

Instead of meting out prison terms that cost the American taxpayer $30,000 per person per year, guilty parties should be sentenced to live at the standard of the average American. That can be accomplished by imposing a fine equal to the perpetrator’s assets, then paying part of it back to them over their lifetime by giving them an amount equal to the median income.

Perpetrators could also spend the rest of their working lives performing community service. So bankers who profited from the housing crisis could work in homeless shelters. This would be a classic example of the punishment fitting the crime.

originally published: July 27, 2013

America’s so-called Golden Age

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Visit any bookstore and your eyes are assaulted by scores of books explaining the meltdown that plunged America into a major economic crisis, and prescribing what must be done to return to the glory days from the end of World War II through the early-1970s, when the United States enjoyed the greatest boom in modem history.

The economy grew at an annual rate of over 3 percent, and the median family income almost doubled. But the circumstances that produced that growth were an historical aberration.

World War II destroyed the industrial capacity of the main belligerents. It was not fought on American soil, however. Here, the war ended the Depression and put everyone back to work.

It also produced wartime savings that helped fuel the boom when those savings turned into post-war consumer spending. For example, the automobile industry exploded after years of producing military hardware, and new industries such as aviation and electronics grew by leaps and bounds. At the same time, the post-war “baby boom” increased the number of consumers, and more Americans joined the middle class.

A number of programs were enacted that also contributed to the economic boom and enabled American business to exploit the lack of global competition. These would include:

The GI Bill: This gave millions of veterans the opportunity to enjoy middle-class living standards thanks to things like free college educations, the ability to buy their own homes with low-cost mortgages, and capital to start businesses. This expanding American middle class created an ever-growing market for consumer products and provided businesses with trained managers and professionals.

The Marshall Plan: Over five years during the late 1940s, the federal government invested nearly $13 billion to rebuild the devastated economies of Europe and Asia. This was a deliberate Cold War strategy aimed at strengthening the economies of the non-communist world and binding them to the U.S. It is a form of vendor financing that the Chinese have successfully copied.

The Federal Government/Fortune 500 Compact: During the late 1940s and 1950s, the federal government effectively subsidized corporate America with tax benefits, lucrative defense contracts, and various kinds of market protection. In return, Fortune 500 companies diverted some profits from shareholders to employees by giving them steadily rising purchasing power, free medical coverage, generous pensions, and other welfare benefits that Europe depended on government to provide. In the immediate post-war era, the view was that corporations had responsibilities to employees and the local and national community as well as to shareholders.

Things began to change when the oil crises of the 1970s hit.

By the late 1960s, our allies’ economies had recovered from World War II. Initially, those countries’ exports only penetrated low-end industries, giving us foreign goods on the cheap while leaving our high­ value industrial sectors unharmed. But intensifying global competition brought excess capacity and reduced profit margins. Steadily rising real wages gave way to a business model focused on  “maximizing shareholder value ,”under which firms were run solely to serve their owners’ interests.

A confluence of circumstances allowed the United States economy to emerge from World War II with no real global competition. Those circumstances, which resulted in decades of prosperity, were not sustainable. As they fell away, so did assurances that each generation of Americans would enjoy a better standard of living than the one that preceded it.

originally published: July 20, 2013