Mitt’s Welfare-Driven Vulture Capitalism

/11 Comments/in , /by

When I hosted Steve Rattner at FDL Book Salon, I noted how blind he was to problems of other private equity firms–in the context of the auto bailout, Cerberus. So I was interested in Rattner’s attempt to defend Mitt’s tenure at Bain.

Bain Capital is not now, nor has it ever been, some kind of Gordon Gekko-like, fire-breathing corporate raider that slashed and burned companies, immolating jobs wherever they appear in its path.

[snip]

Instead, with modest exceptions (keep reading to learn more about these), Bain Capital was a thoroughly respectable — nay, eminent — investment manager that successfully discharged its responsibility of earning high returns for its investors by deploying capital in companies privately rather than by buying shares in the public market. (Hence the name, private equity.)

The point Rattner of course doesn’t delve into is this one: how taxpayers effectively subsidize this process because of tax law.

So what are the question marks (promised above) around the story of Romney and Bain Capital? First, it’s fair game to question the amounts of debt that are sometimes used in leveraged buyouts. While higher debt usually means higher returns — because debt is cheaper than equity, thanks in part to its tax deductibility — it also means higher risk of bankruptcy.

The problem, as private equity guy and public monies-scamming Steve Rattner sees it, is all this debt leads to more bankruptcies.

But what does it mean that all this debt incurs tax advantages?

Thankfully, Rortybomb posted this interview with Josh Kosman, who wrote a book on the topic, to explain it.

Your research has found that, far from being natural, private equity exists largely due to issues with the tax code. Can you explain?

The whole industry started in the mid-to-late 1970s. The original leveraged buyout firms saw that there were no laws against companies taking out loans to finance their own sales, like a mortgage. So when a private equity firms buys a company and puts 20 percent down, and the company puts down 80 percent, the company is responsible for repaying that.

Now the tax angle is that the company can take the interest it pays on its loans off of taxes. That reduces the tax rate of companies after they are acquired in LBOs by about half. Banks, also realizing this tax effect, were willing to finance these deals. At the time, you could also depreciate the assets of the company you were buying — that’s not true today.

They saw that you could buy a company through a leveraged buyout and radically reduce its tax rate. The company then could use those savings to pay off the increase in its debt loads. For every dollar that the company paid off in debt, your equity value rises by that same dollar, as long as the value of the company remains the same.

So the business model is based on a capital structure and tax arbitrage?

Yes. It’s a transfer of wealth as well. It’s taking the wealth of the company and transferring it to the private equity firm, as long as it can pay down its debt.

[snip]

A recent paper from the University of Chicago looking at private equity found that “a reasonable estimate of the value of lower taxes due to increased leverage for the 1980s might be 10 to 20 percent of firm value,” which is value that comes from taxpayers to private equity as a result of the tax code. Can you talk more about this?

That sounds about right. If you took away this deduction, you’d still have takeovers, but you’d have a lot less leverage and the buyer would be forced to really improve the company in order to make profits. I think that would be a great thing.

The whole interview very accessibly lays out precisely what I was trying to get at the other day: there are aspects of private equity that have bad consequences baked in. And they’re all baked in, in part, precisely because taxpayers are subsidizing the takeovers in the form of tax benefits.

Or welfare, as the creative destructionists ought to call it.

Update: Per prostratedragon, see this Dean Baker diary putting some numbers to this rich person welfare.

Share this entry

Santa’s Elves Just Got Fired

/6 Comments/in /by

Remember the “good” jobs report last week? As Dean Baker explained, many of the new jobs were actually the “couriers” who delivered your holiday presents.

The sharp drop in the unemployment rate over the last four months (from 9.1 percent to 8.5 percent) is not consistent with the job growth reported in the establishment survey. The survey reported 200,000 jobs in December; however, this figure is skewed by the 42,200 job gain reported for couriers. There was a similar gain in this category reported for last December, which was completely reversed the next month. Clearly this is a problem of seasonal adjustment, not an issue of real job growth. Pulling out these jobs, the economy created 158,000 jobs in December, in line with expectations.

Pulling out the courier jobs, growth has averaged 145,000 per month over the last four months. This is somewhat better than the 90,000-100,000 a month needed to keep pace with the growth of the labor force, but certainly not rapid enough to explain a 0.6 percentage point drop in unemployment. At this pace, we would not get back to pre-recession levels of unemployment until 2027. [my emphasis]

Now Baker’s predicted reversal in those jobs has started to appear, with initial jobless claims up 24,000 this week.

More Americans than forecast filed applications for unemployment benefits last week, raising the possibility that a greater-than-usual increase in temporary holiday hiring boosted December payrolls.

Jobless claims climbed by 24,000 to 399,000 in the week ended Jan. 7, Labor Department figures showed today in Washington. The median forecast of 46 economists in a Bloomberg News survey projected 375,000. The number of people on unemployment benefit rolls rose, while those receiving extended payments decreased.

Hiring by package delivery companies and retailers during the holidays to meet demand for gifts may now be giving way to an increase in dismissals.

These words–“couriers” and “package delivery companies”–are very cold. What we’re really talking about are Santa’s Elves, the wondrous people who make your holidays magical, particularly given how they help you avoid crowded malls by allowing you to shop online. In all the cartoon Christmas specials, those elves spend the off-season making more toys for the next Christmas. Not so our “modern” economy. Now, we benefit from their services, enjoy our holidays, and then <<BAM!!>> the Elves are on the street again, looking for work.

Merry Christmas!

Share this entry

Associate Attorney General Thomas Perrelli to Leave DOJ in March

/17 Comments/in , , /by

The guy in charge of–among other things–the elusive foreclosure fraud settlement with the banksters just told NPR’s Carrie Johnson he’ll be leaving in March.

Associate Attorney General Tom Perrelli will leave the third highest-ranking post at the Justice Department in March after nearly three years managing a bustling portfolio that has run the gamut from mortgage abuses and the oil spill in the Gulf of Mexico to stamping out domestic violence in Indian country.

Perrelli, 45, says that he’ll take several months off to spend with his growing family. He and his wife have a five-year-old, a two-year-old, and a pair of twins due in May. “This is the best job I’ll ever have,” Perrelli tells us, “you really couldn’t ask for better.” But, long hours spent overseeing Justice Department units that handle tax, civil rights, environment, antitrust, civil cases and billions of dollars in federal grant programs has taken “an enormous amount of energy and commitment and sacrifice.”

As Johnson points out, Perrelli has had his fingers in a number of contentious issues: the Cobell settlement and the BP investigation. But I suspect it also sets a finite deadline for the foreclosure fraud settlement, rumored to be imminent for about a year.

One of his biggest efforts has yet to come to fruition. For more than a year, the Justice Department and state attorneys general have been hammering out a settlement with the country’s largest mortgage servicing companies over faulty paperwork and forclosure abuses known as “robo signing” that helped push people out of their homes. The process has been complicated and sometimes fractious, as top lawyers for the state of California and New York criticized the process as going too soft on the banks.

And then, of course, there’s the question of a replacement–because there’s no way Republicans are going to confirm anyone for a functional post at a Department of Justice they like to claim is responsible for sending guns to Mexican drug cartels.

Just what this country needs, a DOJ even more hampered by missing key operational executives.

Share this entry

The Mafia Bank

/7 Comments/in , /by

In his book, McMafia, Misha Glenny describes how mobsters filled the vacuum left by communism in Eastern Europe and Russia.

The new circumstances bewildered old international institutions. All had to improvise and no party quite understood the implications of its actions or their unintended consequences.

One group of people, however, saw real opportunity in this dazzling mixture of upheaval, hope, and uncertainty. These men, and occasionally women, understood instinctively that rising living standards in the West, increased trade and migration flows, and the greatly reduced ability of many governments to police their countries combined to form a gold mine. They were criminals, organized and disorganized, but they were also good capitalists and entrepreneurs, intent on obeying the laws of supply and demand.

Which appears to be what’s happening in Italy, too, where the mafia now constitutes the country’s largest “bank.”

Organized crime has tightened its grip on the Italian economy during the economic crisis, making the Mafia the country’s biggest “bank” and squeezing the life out of thousands of small firms, according to a report on Tuesday.

Extortionate lending by criminal groups had become a “national emergency,” said the report by anti-crime group SOS Impresa.

Organized crime now generated annual turnover of about 140 billion euros ($178.89 billion) and profits of more than 100 billion euros, it added.

“With 65 billion euros in liquidity, the Mafia is Italy’s number one bank,” said a statement from the group, which was set up in Palermo a decade ago to oppose extortion rackets against small business.

Now, obviously, the strength of the Italian mafia is nothing new. Nor is its role in loan-sharking.

Nevertheless, it appears that the chaos caused by the financial crisis–and the oligarchs’ refusal to pursue a sane approach that puts the interest of society ahead of bond-holders–has created another vacuum the mob can fill.

Of course, that just makes Italy like many other countries in the world, where the mob has similarly accrued more power in recent years.

The refusal to inconvenience the oligarchs is really going to increasingly empower a more obviously brutal form of oligarchs. Something to look forward to!

Share this entry

“Creative Destruction” as Catchall

/14 Comments/in /by

Matt Yglesias has responded to my post on the destruction wrought by some capitalism with a fairly narrow complaint about my sarcastic comment about what I still maintain his original post entailed: an apology for the kind of destruction that Bain Capital engages in because (he argued) all successful capitalism creates such destruction.

I don’t really want to get into the weeds of things with Marcy Wheeler on private equity, so let me just say that this view she sarcastically attributes to me is the reverse of the view I hold:

Capitalism is all about creative destruction, you see, so we must celebrate that creative destruction.

What I think is that in a market economy creative destruction happens, and that has terrible consequences for the lives of people who are adversely effected by circumstances beyond their control.

[snip]

The message of creative destruction, when you understand it, is that the idea that “a rising tide lifts all boats” is a cruel lie. Growth is broadly beneficial over the long-term but individual human beings live out their lives on finite time scales and many individual people suffer from even generally positive economic trends.

He goes on to describe several things as creative destruction:

  • The rise of desktop publishing software and the damage it does to established graphic artists*
  • The hypothetical legalization of gambling in CA and the damage it would do to Las Vegas’ casino industry
  • The decline of Kodak (which in his earlier post he attributed to the rise of digital cameras) and the decline it brought to Rochester, NY, generally

I won’t get too deep in this, but I think it useful to, first of all, point out that these are not all like things. Indeed, the legalization of gambling is only partly about market forces at all, it’s about legislative forces (and usually, in this day and age, is brought about by the purchasing of influence, precisely the opposite of real capitalism), and it often doesn’t lead to real growth at all. And both desktop publishing and digital cameras combine two things: the introduction of new technologies and their successful marketing. The example of Kodak also involves globalization. All of which are distinct from the financialization of capitalism represented by Bain, which is where this all started.

I’d like to suggest that we do ourselves a big disservice by lumping them all in together under the term “creative destruction.” The very term is one rolled out to excuse the ravages of capitalism. And used as Yglesias does, it doesn’t make fairly clear distinctions we can make between different practices of capitalism or even forces–like technology–that interact powerfully with capitalism but are distinct from it. Nor does it permit analysis of whether any useful “creation” is going on at all. That is, the term closes off precisely the kind of discussion we ought to be having–and Mitt’s Bain critics were engaging in, before Yglesias accused them of simplifying the issue–about the choices we make in our society and economy.

Yglesias and I absolutely agree we need to help those who suffer as a result of change brought about by capitalism, technology or (in the case of casinos) money-driven policy decisions. But there is, at the same time, plenty of space for distinguishing between capitalist practices that are considered noble or useful, and those which should be treated with shame and moral outrage, if not regulatory prohibition.

And I believe that those practices that serve no useful purpose for the society as a whole, like Bain’s vulture capitalism, falls into the latter category.

* In the interest of full disclosure, I should note that my father was one of those people at the intersection of technology and career success. As such, he had a significant hand in changes–particularly the roll out of the PC–that brought about the introduction of software that changed the value attributed to skills of graphic designers and secretaries. Which of course means all the advantages I’ve had in my life derive in part from the pain that computers have caused people. Not that it changes that fact, but I will say that many of my adolescent drag-down fights with my father consisted of me calling him a stupid asshole for rolling out technology before society was ready and the software was appropriate.

Share this entry

The Greatness of America: “Ashes of Doomed Factories, Pink-Slipped Workers, and Towns Laid to Waste”

/16 Comments/in /by

I’m utterly delighted with this paragraph:

But as is so often the case, the reality is more complicated. Almost every successful business career is built on the ashes of doomed factories, pink-slipped workers, and towns laid to waste.

Not because it’s true–it’s not! But because I’m so amused that someone (in this case, Matt Yglesias, presumably drawing on his long career as a business tycoon) claiming to complicate a purportedly simplified issue–whether Mitt Romney and other corporate raiders are the same as “the good kind of businessman, the one who launches and grows firms, creating new products and jobs and opportunities”–would make such a claim.

“Almost every successful business career.” Wow. Almost every one, huh? That’s a lot of towns laid to waste. I wonder … is this a one-to-one relationship? One successful business career for every town laid to waste? Does each “successful business career” entail doomed factories, pink-slipped workers, and towns laid to waste–all three–as the “and” logically suggests? Or is, um, “the reality … more complicated”?

And what counts as a “successful business career,” according to Yglesias, anyway? Just those titan-driven technology companies and industries he invokes–Apple, Google, broadcast, cable, Internet–or also the local business owner who succeeds at business by providing goods her customers want with excellent service? It seems laying to waste entire towns implies a scale that doesn’t include many–perhaps most–successful business careers.

Even more telling, though, is the causality. Read more →

Share this entry

Commodity Bubbles and the Resource Curse

/5 Comments/in /by

The FT links to this Oxford Policy Management study showing that 15 low and medium income countries have become newly dependent primarily on some commodity–fuel or minerals–for export income in the last 14 years.

The number of low- and middle-income countries1 that depend on minerals for more than 25%
of their tangible exports – defined as ‘mineral-dependent’ countries – increased by more than
30% between 1996 and 2010, from 46 to 61 countries.

  • Over this period, seven low- and middle-income countries became dependent on non-fuel minerals including: Montenegro, Guyana, Laos, Burkina Faso, Bolivia, Georgia, Somalia and Ghana.
  • Six low- and middle-income countries became dependent on fuel-based minerals including: Belarus, Belize, Chad, Cote d’Ivoire, Myanmar and Timor-Leste.
  • By 2010, more 80% of non-fuel, mineral-dependent states were low- and middle-income countries, compared to about 70% of fuel-dependent countries.
  • Overall, 45 countries depend on fuel-based minerals and 40 countries depend on non-fuel minerals, nearly half of which are in Africa.

The report goes on to raise concerns about the “resource curse,” the common occurrence by which oil and mineral dependent countries become especially corrupt, resulting in a decline in quality of life for the bulk of people in those countries.

This is an unsurprising outcome of the development- and speculation-driven growth in commodity prices of late. But that–plus our stated intent to conduct small-footprint paramilitary operations in to pursue claimed terrorist and drug threats–does suggest we’re headed for further globalization-driven destabilization. Sure, globalized finance was always part of the problem in developing countries, as corrupt elites incurred debts, stripped their country of cash, and then hid it outside of the country (where it would make western bankers a profit).

But now, it seems likely you’ll see more cash coming in, more weapons, and more inequality.

Share this entry

How Dare the President Protect Consumers!?!?!

/27 Comments/in , /by

We’ll have to come back to the issue of why President Obama decided to use his recess authority to appoint Richard Cordray to head the Consumer Financial Protection Board but not Dawn Johnsen or Elizabeth Warren. But for now, I’d like to collect the wails of Republican outrage.

Shorter John Boehner: Protecting consumers from rapacious banks is an extraordinary and entirely unprecedented power grab! Protecting consumers is bad for the economy!

Shorter Mitch McConnell: Obama has arrogantly circumvented the American people by protecting the American people!

Shorter Orrin Hatch: It is a very grave decision by this heavy-handed, autocratic White House to appoint someone to protect consumers. The American people deserve to be treated with more respect than this White House is affording them by protecting them from the banks!

Shorter Spencer Bachus: Appointing a director to the CFPB will cripple it for years. The greatest threat to our economy right now is uncertainty, and by protecting consumers the President just guaranteed there will be even more uncertainty.

 

Share this entry

Shorter Jamie Dimon: “I am not a psychopath”

/15 Comments/in , /by

As business professor Clive Boddy describes it, banksters like Jamie Dimon succeed–and cause great catastrophe–because they are able to exploit the chaos of today’s business environment while ignoring the consequences of their ruthlessness.

Boddy says psychopaths take advantage of the “relative chaotic nature of the modern corporation,” including “rapid change, constant renewal” and high turnover of “key personnel.” Such circumstances allow them to ascend through a combination of “charm” and “charisma,” which makes “their behaviour invisible” and “makes them appear normal and even to be ideal leaders.”

[snip]

They “largely caused the crisis” because their “single- minded pursuit of their own self-enrichment and self- aggrandizement to the exclusion of all other considerations has led to an abandonment of the old-fashioned concept of noblesse oblige, equality, fairness, or of any real notion of corporate social responsibility.”

Boddy doesn’t name names, but the type of personality he describes is recognizable to all from the financial crisis.

He says the unnamed “they” seem “to be unaffected” by the corporate collapses they cause. These psychopaths “present themselves as glibly unbothered by the chaos around them, unconcerned about those who have lost their jobs, savings and investments, and as lacking any regrets about what they have done.

Meanwhile, a Reuters article offers a possible explanation for how millions of MF Global funds disappeared: because its clearing firm, JP Morgan Chase, dawdled while clearing hundreds of millions of dollars in securities MF Global sold to Goldman Sachs as an effort to stay afloat.

MF Global unloaded hundreds of millions of dollars’ worth of securities to Goldman Sachs in the days leading up to its collapse, according to two former MF Global employees with direct knowledge of the transactions. But it did not immediately receive payment from its clearing firm and lender, JPMorgan Chase & Co , one of the sources said.

The sale of securities to Goldman occurred on October 27, just days before MF Global Holdings Ltd filed for bankruptcy on October 31, the ex-employees said. One of the employees said the transaction was cleared with JPMorgan Chase.

[snip]

JPMorgan has fought aggressively in bankruptcy court to protect its interests, and received a lien on some of MF Global’s assets in exchange for granting the firm $8 million to fund its bankruptcy costs. The lien puts JPMorgan’s interests ahead of MF Global customers who have not yet received an estimated $900 million worth of money from their accounts, which remain frozen as regulators search for missing funds.

As it turns out, a week before JPMC was stalling on clearing MF Global’s sales, Jamie Dimon sent out an email to JPMC employees boasting about the firm’s expansion at a time of strife for the industry.

“2011 was another year of challenges, both for JPMorgan Chase and for countries around the world,” Dimon wrote in a year-end e-mail to staff. “There is a lot of frustration out there and more than a little hostility toward our industry.”

[snip]

JPMorgan hired 16,000 people in the U.S. in 2011, Dimon said in the letter, expanding its total workforce to more than 260,000 in a year when financial companies announced more than 200,000 job cuts and protests against Wall Street firms spread worldwide. The New York-based lender is adding about 175 branches a year in the U.S., he said.

“In the face of challenges, JPMorgan Chase is doing its part,” Dimon wrote. “We have not shrunk back.”

I tell you, indefinite detention looks better and better for Jamie Dimon.

Share this entry

Predicting a New Paradigm

/22 Comments/in , , /by

In my seven plus years of blogging, I’ve never done year-end reviews or predictions and I don’t intend to start now.

But I do want to point to two pieces taking stock of this moment in history–the AJE piece on the decline of the American empire above (the transcript is here), and Juan Cole’s piece declaring the end to US hyperpower.

The AJE piece is generalized and describes a decline in both our economic and military hegemony. And while Cole includes this generalized framework,

The end of the Cold War, which had stretched from 1946 to 1991, had left the political elites of the United States and Western Europe without a bogeyman or security threat on which they could run for office and through which they could funnel resources to the military-industrial complex that largely pays for their political campaigns. With Russia in steep decline in the 1990s and China still run as a small, cautious power, the US emerged as what the French called a Hyperpower, the sole superpower. US hawks were impatient that Bill Clinton seemed not to realize that he had complete freedom of movement for a brief window of time. It was the new US status of hyperpower that allowed the G. W. Bush administration to respond to the September 11 terrorist attacks by launching two major wars and a host of smaller struggles, all against targets in the Muslim world.

As of 2011, the age of the US hyperpower is passing, along with the possibilities for American wars of choice, i.e., wars of aggression.

He situates it, not surprisingly, in the Middle East.

Some years are pivotal and serve to mark off eras of history. 2011 saw the end of American hyperpower, and it announced the end of a decade of US-Muslim conflict that began with 2001. It saw the killing of Usama Bin Laden, the virtual rolling up of al-Qaeda, the repudiation of al-Qaeda’s methods by the masses of the Arab world, and the US military withdrawal from Iraq. The upheavals of the Arab Spring and subsequent elections have led to Muslim fundamentalist parties being drawn into parliamentary politics on a Westminster model, rather than remaining sect-like corporate groups outside the body politic.

While I’m not certain that, fifty years from today, 2011–and specifically our withdrawal from Iraq–will mark the end of our hyperpower or empire (we might measure that date from the financial crisis in 2008; there might be some more spectacular loss in the future that will have that symbolism; or it could be something else entirely), I do generally agree that we’re at the twilight of the American mode of power that has dominated since the end of World War II.

I think that’s why predictions looking forward will be so hard to get right. Partly because there’s no telling how Americans–both those who run our domestic and foreign policy, and those average citizens facing a future without the self-importance derived from the country’s dominance–will react as this new state of affairs becomes evident. At both levels, we could just get a whole lot more violent.

But also because, as Tom Englehardt says in the AJE piece, I don’t think we’re seeing a simple matter of imperial succession, as happened when England passed the baton of world hegemon to us.

I don’t think it’s like the US is going down and you’re gonna get a Chinese empire rising. I think you’ve got a planet in crisis and we’re just barely beginning to feel it.

Rather, I think we’re going to see a new paradigm, one that not only robs average Americans of the arrogance of being the “best,” but also robs many around the world of their traditional means of understanding the world.

So while it may be interesting to think about President Obama dealing with a Republican Senate or President Mitt dealing with Speaker Pelosi, while it may be interesting to predict how many TBTF banks will fail over the next year, even while it may be interesting to start thinking about what Europe will look like after the Euro zone ends, I think all those exercises might be end up showing far too little imagination about what the future holds.

As I’ve said before, it’s fairly clear that 2011–like 1968 and 1989–was a year of great historical importance. But I’m not sure if we can even conceive of just how important it might be or why.

Share this entry