Simple Math

I just read an article in Harper’s Magazine by Thomas Geoghegan (Infinite Debt: How unlimited interest rates destroyed the economy) about uncontrolled interest rates and how they got us into the present financial crisis. Part of the thesis is tied to a principle of investment – return is linked to risk. Traditionally this is interpreted to mean that investors demand greater return from investments that have greater risk of failure. Thus, corporate bonds pay more than your federally insured savings account. It works the other way as well. Greater return promotes greater risk taking.

I did some simple math.

Imagine you have a bank and you issue ten credit cards with a 10% interest rate. Customers carry an average of $1,000 on their account. None of them defaults. You make $1,000 x 10 x 10% = $1,000.

Now imagine that you pull the usual credit card company sleaziness (shortening the grace period, for instance, or penalizing for a late payment on a different account) and nail all your customers with a 25% penalty rate. One of your customers can’t manage it and defaults. In this scenario you make interest on nine customers ($1000 x 9 x 25% = $2,250) and lose the $1,000 from your defaulter. Your total take is $1,250. You have a 10% default rate and you are making 25% more money. This pushes the practice of banking towards the same gambling ethos of venture capital investing. The rule of thumb for venture capitalists is that three out of five investments will go bust, one will hold its own, and one will gush enough profits to make up for the three failures. For banks, the short term income from penalty rates and fees more than makes up for the defaults, inspiring them to issue cards to anybody with a pulse. Damn the credit ratings, full speed ahead.

Of course, not all credit card holders are paying penalty rates, and a 10% default rate would be disastrous if it applied to all customers. In fact, default rates among credit card holders is climbing past 5%. Here is Geoghegan’s premise displayed perfectly. In the short run the credit card companies made out like bandits (which, in fact, they are). In the longer term they are experiencing a financial “tragedy of the commons” as consumers crumple under multiple credit pressures.

I’d like to revive a proposal from Anthony Pollina’s campaign for Governor of Vermont. The citizens of this small state pay out roughly $250 million a year in credit card interest payments. Some unfortunate people are paying those punitive rates. At the same time we are trying to deal with a state budget shortfall in the tens of millions. We should have a State of Vermont credit card, with the profits going into the general fund. Even if we charge a humane 10% it would still mean something like $100 million into the state coffers. Why should we make an interest payment to an out of state credit card company and then turn around and write another check to the state tax department? We could write both checks in one.

It would be a multiple win. Vermonters would save money on the combination of debt and taxes. Many would be spared those rapacious fees and interest rates. The budget gap would close and then some. The money would have a chance to stay in state.

I know, I know: politics. There will be a group of conservatives, and not-so-conservatives, screaming about socialism and big government, and letting private industry do its thing. Because private banks have been so smart and good, right? You love your 26% interest rate and huge penalty fees for being a day late. This is one of those situations where ideology trumps common sense and the common good. Our Republican governor would veto such a proposal. He seems to regard government as a publicly funded organization for serving big business.

I still think the idea has legs. The combination of tax and debt relief could have even the most ardent ideologue going over credit card bills with a thoughtful look. Political principle could yield, as it generally does, to the bottom line.

The Big Ponzi

 Bernie Madoff sleeps behind concrete walls now, separated from the $60 billion he stole from gullible investors. For those of you who were too busy watching your retirement accounts waste away or searching for a new job, what Madoff created was the classic Ponzi, or pyramid scheme. He established a plausible sounding investment fund and convinced people to hand him their money. He invested none of it, but paid off early investors with the investments of later investors. Those investors, in turn, received healthy returns on “investment” from later investors. And so on, till he got caught. He should have gotten caught earlier. A money manager named Harry Markopolos notified the Securities and Exchange Commission that the returns coming out of Madoff’s fund were mathematically impossible, but he was ignored.

Ultimately it would have all come to light, for that is the foible of a pyramid scheme – it can’t last forever. The person running the scam has to plunder an ever-widening circle of suckers to pay off the existing suckers. Eventually the scamster runs out of human beings with sufficient money and the flow of returns stops. Only the man in the cell knows what he intended to do at that point. Run for a non-extraditing country? Go into permanent hiding? Give himself up?

Madoff’s investment con, at $60 billion, has been called the biggest pyramid scheme in history. Not so. We are in the middle of a larger one, planetary in scope, and named for its scale: globalization.

The corporate giants of the world have taken advantage of an economic trifecta. Its three parts are:

• The post-WWII prosperity of the United States
• Cheap and safe trans-oceanic shipping
• The so-called Green Revolution, which applied petroleum to farming in the poorer parts of the world, increasing productivity per acre. Combined with commodity cropping it resulted in driving peasants off their land, creating a hungry, cheap industrial labor force.

The push of these factors, plus the pull of the re-regulation of the banking industry sucked investment out of U.S. manufacturing. The best way to make money, if you don’t give a damn about humanity, is to have impoverished people make things for you and then sell these things to relatively wealthy people who have borrowed money to buy them.

The U.S. trade deficit stands at about $700 billion per year, double what it was back in 2000. We borrow a Wall Street bailout every year overseas, mostly to pay for consumer goods, oil, and automobiles. Our total debt is about $6.5 trillion, with the interest payments amounting to roughly $2000 per American worker per year. Another decade of this and we’ll be $12 trillion in the hole. That is, if the Asians and the Arabs keep lending us money. At some point the U.S. foreign debt will get so ridiculous that we will be unable to support it. Like the Ponzi artist, we’ll run out of suckers. Except that we are the suckers.

Historical note: The British ran into this problem a couple of hundred years ago because of their national addiction to tea. (Also porcelain and silk.) They imported tons of the stuff from China, the world’s sole producer at the time. The Chinese imperial government wanted silver, and only silver, for their commodity. The British coffers were draining. Their solution was to promote the use of opium, grown in British-controlled India, in China. They created millions of Chinese addicts and accepted only silver for their commodity. The silver went back to England and was recycled to China for tea.

The international corporations that buy cheap and ship across oceans to sell dear have sold us on the idea that restricting imports is bad. Never mind that control of the flow of money, goods, and people across national boundaries is part of the basic definition of national sovereignty. It is called “protectionism” and it has acquired the 1950’s taint of “communism.” Better that we should go bankrupt as a nation than actually control our borders for our own benefit. I’m not advocating a cessation of trade, but a modification of trade rules that will eventually eliminate our trade deficit.

Radically improving our energy efficiency in terms of transportation and heating would cut our oil-based deficit, presently hovering around $300 billion. The roughly $325 billion we blow overseas annually on consumer goods would require changes in both domestic and international politics. We need to revamp farm subsidies in the U.S. back to price supports, rather than the present practice of forking over cash. That would stop the flood of ultra-cheap grain that puts small farmers around the world out of business and feeds the labor demand of sweatshops. (Side effect: a slowing of the flow undocumented workers, formerly farmers, from Mexico.) We should scrap the present General Agreement on Tariffs and Trade (GATT) and start over with something more beneficial to ordinary Americans.

There are a couple of things we could do to even the odds with the sweatshops of the third world. One would be a sweat labor tariff. We can estimate the advantage a country such as China or Malaysia gets by either having lax labor laws or unenforced labor laws. Let’s say that underpaying and overworking people in unsafe conditions gives them a 10% price advantage over a situation where their people earn a living wage in decent conditions. We should put a 15% surcharge on their goods so that fair wages and safe conditions are to their advantage. Many countries also have nonexistent, lax, or unenforced environmental laws, which give them an economic break. I’d advocate the same tariff format for that issue. China in particular has engaged in manipulation of its currency, pegging it to the dollar at an artificially weak rate. This gives Chinese goods the equivalent of a 40% discount and discourages imports into China. The Chinese government would fight hard to retain this advantage, and there is not much the U.S. can do by itself to combat the currency manipulation. China and the U.S. are locked in mutual dependency – they need our bottomless demand for consumer goods and we need their bottomless supply of loans.

There are three end games for the U.S. trade deficit. We could essentially go bankrupt when international creditor nations decide we are no longer financially sound. International trade could shrink dramatically due to energy costs and political instability. We could decide as a nation to stop participating in the global Ponzi scheme and restart the U.S. manufacturing sector. The second option could end up being the only option by petro-geological default. Still, it would be beneficial to develop the third option before we run out of energy or money.

Wave power

 Water is 784 times as dense as air. You may have experienced this at the beach by getting knocked down by a relatively small wave. Some inventors have been at work taking advantage of this power.

In all the talk about new sources of renewable energy, solar and wind power have dominated the conversation, with biofuels coming in third. Hydroelectric power is a long established renewable energy option, but limited to very specific locations and restricted by environmental concerns. Wave power is just starting to show its potential, with a few installations on the coasts of Europe.

There are three basic types of wave power generators: bobbing buoys, bending buoys, and water column devices.

Bobbing buoys are basically big floats, either under water or on the surface. They travel up and down with the waves and transfer the energy of their motion though rods or cables to generators fixed to the sea floor or in the buoy itself. Ocean Power Technologies is developing the latter type of device and is in the early stages of a 1.39 MW project off the coast of Spain.

Bending buoys float on the surface and undulate with the waves, bending at their hinge points and transferring power with pistons that resist the bending. There is only one manufacturer of these right now, Pelamis.

Water column devices are installed on the shore, with a large diameter tube extending below the surface of the water. When a wave comes in, the rising water pushes a column of air up the tube and through a turbine. As with the bending buoys, there is only one company developing this model, Wavegen.

There are also a few companies developing a kind of modified hydroelectric system where waves are guided into a narrow area to make them taller. They splash over a wall and then are run back through the wall to a lower level through turbines.

Wavegen has the longest track record, with its 500-kilowatt LIMPET installation on the coast of Islay in Scotland. It has been feeding the island grid since 2000. Before that, an experimental 75 kW unit operated from 1991 to 1999. Wavegen just received approval in January for a 4-megawatt near-shore installation in Siadar Bay on the Scottish Island of Lewis.

Here’s a clip of the exhaust port on an installation on the Island of Pico in the Azores.

Pelamis has had more recent successes, with a 2.25-megawatt installation just off the northern coast of Portugal. They also have a 3-megawatt facility in development off the Orkney Islands just north of the Scottish mainland and a 5-megawatt installation planned for the west coast of Cornwall.

Here’s a video of one of their sea trials:

There are two significant benefits of wave power, to my mind. One is its relative predictability compared to wind and solar. The oceans are like a great flywheel for energy. Since wave energy devices are dependent on an oscillating energy source, they have inertial or pressure storage built in to make up for that oscillation. Arrays of wave power collectors average out their output. This means that wave power doesn’t suffer from the momentary power variations imposed on wind and solar by wind gusts or passing clouds. This means that wave generated power outputs tend to vary slowly and predictably by the hour or day.

The second significant benefit of wave power is its density. The Wavegen installation in Islay was designed for wave intensities of 25 kilowatts per meter of shoreline. That works out to a megawatt per 40 meters (131 feet). It doesn’t take a lot of shore or breakwater to produce serious power. The northern Atlantic and Pacific coasts of the United States and Canada offer a potential bonanza of clean, consistent power.

The State of Maine, for example, has 3500 miles of coastline. If one-half of one percent of that, 17.5 miles, were used for wave power generation it would amount to over 700 megawatts. There must be at least 17.5 miles of breakwaters and seawalls in Maine that could accommodate oscillating water column devices, and it would take up no shoreline at all if the floating devices were used.

Wave power is still in its early stages and needs to be accelerated through the inevitable period of technological diversity, shakeout, and further development of surviving designs. The U.K., Portugal, and Spain are leading the way in wave power development. The U.S. and Canada should look to our coasts for power and promote the technology on this side of the energy-dense Atlantic.

Cashocracy

I am hearing and reading the same theme over and over again in the news. The latest was an article on Alternet about why we can’t buy new cars online. The summary was that auto dealers donate something like $66 million to political campaigns every year and politicians don’t want to offend them. This is no great shock to anyone.

Why is Medicaid forbidden to negotiate drug prices with the drug companies, costing the taxpayers billions? Well, the drug companies spend hundreds of millions of dollars a year on campaign donations (through their executives) and lobbying.

Why haven’t the automobile fuel efficiency standards been raised since the Reagan administration? Well, the automobile and oil companies spend hundreds of millions of dollars a year on campaign donations (through their executives) and lobbying.

Why has all the bailout money so far gone to help huge banks and their stockholders instead of ordinary people? Well…

I’ll make it simple, with a form. Why don’t we (Insert rational government policy here)? Because (Insert name of relevant industry) spends (Insert astronomical sum of money) a year on campaign donations and lobbying.

I’ve written about this before, but it deserves repeating. All out present efforts to reform government policy within the present electoral structure are essentially futile. I forgot who said it, but there is a saying that it is impossible to convince a man of something if his paycheck depends upon not being convinced. The vast majority of our elected representatives are utterly dependent upon thousand-dollar donations from millionaires to get reelected. We have a cashocracy.

This has a twofold effect. The more gross effect is intimidation. Business groups have used targeted donations to intimidate politicians who have misbehaved. (Meaning “acted in the general public interest”) The more insidious effect is what I call the money filter.

The Public Interest Research Group studied congressional primaries and issued a report called “The Wealth Primary.”  The basic conclusions were that, on average,

• Whichever candidate spent the most money in a primary won, 9 times out of 10.
• The high spending candidates outspent the number two spenders 3 to 1.
• Most of the money came in $500 to $1000 chunks from millionaires.

The upshot? If you have opinions that dismay, offend, or alarm millionaires, you have perhaps a 1 in 10 chance of success in a primary. In reality, the second and third place spenders also rely on those chunky millionaire donations, so consider your chances far worse than that. The tiny minority of wealthy donors acts as an unofficial and undemocratic nominating committee. The rest of us get to choose between their ideologically screened choices.

The answer is simple but difficult. We need to equalize political clout across the economic spectrum. In a previous essay I proposed that we limit political contributions to a days wages at minimum wage – about $50 today - and have the government multiple-match each donation at something like 5 to 1, making it $300. It would cost us about $2 billion a year, but the savings in reduced corporate handouts would save us over a hundred times that much. It would also get around Supreme Court decisions striking down what they considered unacceptably low limits on political contributions. The people at Freakonomics proposed what they call Patriot Dollars. Every registered voter would get a debit card charged with $50 per election cycle, payable only to officially registered candidates. It would be the only legal way to donate to a campaign, and would cost about the same as my proposal.

Either way, it comes down to this: Bill Gates and the guy who mows Bill Gates’ lawn would have the same financial clout in Washington.

The difficulty lies in using a group of officials dependent upon and filtered by the big money system to get rid of the big money system. It is going to take focus and single-issue voting. Whatever issue is our personal favorite, we will have to drop it temporarily in favor of electoral reform, with campaign finance reform at the top of the list. Whatever their level of filtration or corruption, our “representatives” in Washington require our votes to be there. If a majority of voters make our votes absolutely dependent on mandatory public campaign financing, they’ll have to listen. It’s going to take a movement on par with the civil rights movement of the 50’s and 60’s, only beyond all the usual social divisions. Once we get an electoral system that listens to the majority rather than the tiny minority with money, then we can get back to debating each other over policy priorities.

I’m going to start by making a donation to Public Campaign, an organization dedicated to the principle of clean money elections. What about you?

Just a thought on $20 billion

A couple of headlines have jumped out at me lately. One is about the $20 billion in bonuses that executives from bailed out banks have collected recently. The other is the jobless numbers for January. 598,000 people lost their jobs last month, a number close to the entire population of Vermont. These numbers have a relationship.

The median household income in this country is around $50,000. Considering that about three-quarters of the households in the U.S. are two-income households, $33,333 each would put a couple comfortably above the median. Why did I pick $33,333? Round numbers. At that salary, a million dollars would pay 30 people for a year.

What about that $20 billion in bonuses? It would pay 600,000 people $33,333 each for a year. In other words, the chunk of bailout money that banks slipped into the pockets of their executives could have been used to keep those 598,000 unfortunates in work for another year, with a little left over.

This ties right in to President Obama’s proposed $500,000 cap on executive salaries at bailed out banks. Every million that these guys earn is 25 median incomes. We need that money for job creation, not plumping Swiss bank accounts. If I threw lightning, these executives would earn median income and not a dime more until their appallingly mismanaged companies got off the federal teat. In the real world, I’ll take the $500k cap.