Hating on Ratings

One of the big villains in the housing bubble was the ratings agencies. Providing ratings for complex securities is lucrative business, and in order to get it the agencies implicitly — or sometime explicitly — colluded with issuers to provide higher ratings for their securities than they deserved. The conflict of interest is obvious: having the issuer of a security pay for its rating is like having a student pay his professor for a grade. Dean Baker explains what to do:

The obvious way to fix the conflict is to take away the hiring decision from the issuer. The issuer would still pay the rating agency but a neutral party — the SEC, the stock exchange on which the company is listed, the local baseball team — would make the decision as to which agency gets hired.

I guess this is my question: if you do this, the ratings agencies no longer have any incentives to do much of anything. There are three of them, and presumably each one would get a third of the business at a price set by the SEC. So their incentive would be to hire the cheapest possible analysts and cut costs to the bone. The result would be ratings agencies even less able to cope with complex modern securities than the current ones.

This is what stonkers me about the ratings dilemma: there just doesn't seem to be any good answer. Turning the ratings agencies into regulated utilities might be better than the current situation, but not by much. And if you're going to do that, why bother with ratings agencies at all? Why not just have the SEC provide ratings?

I've read other proposed solutions too. Open up the business to more firms, for example, or pay the agencies based on the accuracy of their ratings. But the first doesn't really get at the conflict of interest, and the second is difficult because it often takes years before you know if a rating is accurate.

I remember once someone telling me that after every financial crisis ever, the ratings agencies are always rolled out as sacrificial lambs. They had always been too optimistic, or too stupid, or too corrupt, or something. And then there'd be a hue and cry about "fixing" them, even though the real problem was that every single person on Wall Street, buyers and sellers alike, had wanted them to do exactly what they did: help inflate a bubble that made everyone truckloads of money. The hue and cry, he suggested, was more a way of deflecting blame from the real villains than it was a serious attempt to address an underlying problem.

I don't remember who told me that, and I don't even know for sure if it's true. It's stuck with me, though. I'm just not sure what the answer is here.

Turning Off the Texting

K C Cohen, a counselor at Riverdale Country School in New York, recently asked students to participate in an experiment: spend two days without texting. The results:

This text-free Sunday, the Riverdale students said, was unusually relaxing. They were shocked at how quickly they finished their homework, undistracted by an always-open video chat, or checking in on Facebook or responding to the hundred messages they typically get in a day. Kayla and her mother went for a stroll in SoHo, a rare outing, with them both off the computer.

I think we can count this as a data point against the idea that multitasking is a productivity boon. Kids today might multitask more than earlier generations, but that doesn't mean they're getting more done. Probably a good deal less, in fact. But this, I thought, was even more interesting:

The experiment left Kayla Waterman, a 12-year-old sixth grader, with a new appreciation for the convenience of texting over calling. On Monday morning, instead of texting, she called her mom to let her know there were “a gazillion fire trucks at school.” Then she called right back: false alarm — fire drill. “I could tell she was getting annoyed because I kept calling,” Kayla said. How many times during the school day does she usually text her mom? About 10, Kayla said; a friend nodded in agreement.

Boundaries between work and home have long since fallen, so maybe it should not be surprising that the same is true for school and home. But what middle school student 20 years ago would have voluntarily reached out to her mother 10 times between 9 a.m. and 3 p.m.? If school had any universally agreed upon upside, it was that it gave a 12-year-old some much-needed space to revel in independence or struggle with rejection — space in which, presumably, that 12-year-old could start to figure out who she was, or how he wanted to navigate the world.

I don't really have anything profound to say about this. But it does strike me that, in general, teenagers these days frequently have closer relationships with their parents than they did in the past. Obviously that has a good side as well as a bad one. They're more comfortable around adults at an earlier age, for example. But I wonder what the downside is?

David Brooks suggests that since the establishment herd mostly missed the housing bubble, financial reform ought to take power away from the establishment:

One might have thought that one of the lessons of this episode was that establishments are prone to groupthink, and that it would be smart to decentralize authority in order to head off future bubbles.

Both N. Gregory Mankiw of Harvard and Sebastian Mallaby of the Council on Foreign Relations have been promoting a way to do this: Force the big financial institutions to issue bonds that would be converted into equity when a regulator deems them to have insufficient capital. Thousands of traders would buy and sell these bonds as a way to measure and reinforce the stability of the firms.

....The premise of the current financial regulatory reform is that the establishment missed the last bubble and, therefore, more power should be vested in the establishment to foresee and prevent the next one....But the bill doesn’t solve the basic epistemic problem, which is that members of the establishment herd are always the last to know when something unexpected happens.

I don't have a firm opinion on the Mankiw/Mallaby idea. But I will say this: it wasn't just the "establishment" that missed the housing bubble. It was also the market, represented by those thousands of traders who buy and sell bonds. In fact, pretty much by definition, the market always misses bubbles.

Brooks has the causation backward here, I think. The establishment didn't miss the housing bubble because of generic groupthink. It missed the housing bubble because of a specific case of groupthink: the nearly unanimous belief that markets can't be wrong. Thus, if the market price of housing is going up, it had to be the case that housing prices should be going up. All that was left was to invent reasons to explain skyrocketing property prices, and the establishment did that in spades. But it was market delusion that drove establishment delusion, not the other way around.

Brooks is right that the market and the regulatory establishment and the political establishment all colluded to allow the bubble to get out of control. Merely giving regulators more authority probably isn't enough by itself to prevent a repeat. But relying on the market isn't either. That was the ur-delusion that brought the global banking system to its knees in the first place.

Chocolate and You

From the LA Times today:

Study links chocolate and depression 

Well duh. When there's no chocolate around I get kind of depressed. They needed a study for that? Apparently so:

Researchers at UC San Diego and UC Davis examined chocolate consumption and other dietary intake patterns among 931 men and women who were not using antidepressants. The participants were also given a depression screening test. Those who screened positive for possible depression consumed an average of 8.4 servings of chocolate — defined as one ounce of chocolate candy — per month. That compared with 5.4 servings per month among people who were not depressed.

Oh please. 8.4 ounces per month? As in, two ounces per week? I'd say that anyone who consumes that little chocolate ought to be checked for personality disorders. It's the rest of us who are normal.

Palin Inc.

Gabe Sherman writes in New York magazine about Sarah Palin's constant money worries during and after her vice-presidential campaign:

Palin knew there were ways to solve her money problems, and then some. Planning quickly got under way for a book....Two former Palin-campaign aides — Jason Recher and Doug McMarlin — were hired to plan a book tour with all the trappings of a national political campaign. But there was a hitch: With Alaska’s strict ethics rules, Palin worried that her day job would get in the way. In March, she petitioned the Alaska attorney general’s office, which responded with a lengthy list of conditions. “There was no way she could go on a book tour while being governor” is how one member of her Alaska staff put it.

On Friday morning, July 3, Palin called her cameraman to her house in Wasilla and asked him to be on hand to record a prepared speech. Around noon, in front of a throng of national reporters, she announced that she was stepping down as governor. To many, it seemed a mysterious move, defying the logic of a potential presidential candidate, and possibly reflecting some hidden scandal — but in fact the choice may have been as easy as balancing a checkbook.

The whole thing is worth a read.

Greece Update

After Greece officially requested financial help on Friday, markets responded favorably. But that lasted no more than a few hours. Here's today's news:

Financial markets upped the pressure on debt-ridden Greece, as investors remained skeptical about its long-term solvency despite assurances that a rescue loan will help pay off a chunk of its crushing debts in coming weeks.

....Analysts had said they expected the euro's bounce to be short-lived. Now it appears the so-called relief rally after Greece on Friday formally requested financial aid has already run its course....Underscoring those worries, Greek 10-year bond yields soared to 9.60%, from 8.70% late Friday, as the yield premium over comparable German debt, the euro-zone benchmark, widened to 6.55 percentage point, from 5.63 percentage point late Friday.

This is just FYI. I continue to think that Greece's prospects look very grim, IMF bailout or no.

Inside the Cocoon

Is the conservative noise machine good for conservatives? Ross Douthat suggests that while it might be good politically, it hasn't been very effective at getting conservative policies enacted:

The presidency of George W. Bush, the first Republican to govern in the age of Fox News, represented a political high-water mark for modern conservatism: For the first time since, well, ever, a right-wing Republican Party controlled the House, the Senate and the presidency all at once. But nobody on the right regards the Bush era as a golden age of conservative policymaking.

....In the age Before Fox News, on the other hand (B.F.N., to historians), the American Right managed to lower taxes, slow government’s growth to a crawl, whip inflation, and deregulate important swathes of the American economy, among other Reagan-era accomplishments. The Berlin Wall came down, and then the Soviet Union fell, even though conservatives were forced to follow both stories in the mainstream media, rather than hearing about them from Sean Hannity.

There are some caveats to this, which Douthat notes, but he suggests that the noise machine, overall, has made conservatism flabbier by making it unnecessary for them to really engage with the outside world:

Given the trajectory of conservatism across the last thirty years, I think the burden of proof here is on the partisans of Fox News and talk radio: It may be that conservative politics have benefited dramatically from the rise of a right-wing media-industrial complex, but there’s plenty of evidence pointing the other way....Conservatives had a real intellectual advantage in the days when they had to engage with the mainstream media....In the age of Fox News they’re giving this advantage up.

As it happens, I think this goes a little too far. Conservatism was largely successful in the 80s because it was primed for a backlash against the previous two decades of liberalism. But then conservatives won: taxes went down, the Soviet Union fell, the economy surged, and social liberalism, if not defeated, was at least slowed down. Frankly, by the time George Bush was elected in 2000, they didn't have all that much left on their plate. Liberals, conversely, by 2008 had a backlog of several decades' worth of ideas they wanted implemented, so it's hardly surprising that they came out of the gate pretty strongly after Obama was elected.

Still, there's a worthwhile point here. The Fox cocoon may be good for stirring up the troops, but it's almost certainly not good for the intellectual development of new ideas. And eventually that catches up to you. If modern conservatism is simultaneously politically vigorous but intellectually enervated, Roger Ailes and Rush Limbaugh probably deserve both the credit and the blame.

Jon Chait points to this paragraph in today's Politico story about a Republican filibuster of the financial reform bill:

McConnell secured a commitment from his conference to hold together in opposition on the first vote, but all bets are off after that, aides acknowledge. McConnell’s challenge after Monday is preventing moderates such as Snowe and Sen. Susan Collins (R-Maine) from breaking away and weakening Republican leverage.

It is a little peculiar that Republican aides would concede this, isn't it? If even they think that a few moderates are going to peel off after doing their duty on the first round, what real incentive do Democrats have to seriously compromise? In fact, this puts them in the best situation they could have hoped for: they get to slam Republicans for obstructing a popular reform bill; they get to pass something fairly soon anyway; and they get points with their base for not caving in to GOP demands to water down the bill. What's not to like?

China's Housing Bubble

David Pierson of the LA Times reports on China's housing bubble, which is now far more frenzied in third-tier cities like Hefei than it is in places like Beijing or Shanghai. Some excerpts:

Taxi drivers boast of owning multiple flats for investment. Billboards hawk developments with names such as Villa Glorious and Rich Country. Frenzied crowds pack sales events with bags of cash, buying units that exist only on blueprints. Average home values in Hefei soared 50% last year.

....Xi Zhou, a cameraman for a local news channel, paid $50,000 for his 900-square-foot unit in December. He figures it's now worth $80,000...."For people of my generation, property is all we talk about," said Xi, 27, who will share the new home with his wife and parents. "I felt a lot of pressure to buy because the longer I didn't, the more likely I wouldn't be able to afford anything."

....Many Hefei residents are as obsessed with real estate news as Angelenos are. One of the most popular radio programs here is an afternoon talk show called "Blossom Real Estate." Some prospective buyers get half a dozen text messages a day on their cellphones from developers advertising new properties. Apartments are opened with great fanfare, with outdoor concerts in malls.

....Guo Hongbing, a marketing consultant for several developers [...] gave visitors a tour of Mediterranean-style condominiums....All the properties had been sold, and Guo was interested in estimating how many were left empty by investors. His unscientific method? Looking for curtains. "See, less than half that building is occupied," he said, pointing to one block with several bare windows. "These speculators want to buy as many as possible."

"I felt a lot of pressure to buy because the longer I didn't, the more likely I wouldn't be able to afford anything." Hey, that sure sounds familiar to this Southern California native!

Every time I read about this, someone points out that China's housing bubble isn't driven by debt. China's middle class are huge savers, and they mostly buy with cash or, at the least, with a big down payment. But I wonder if that's really true? Reliable statistics are probably impossible to get, but even if real buyers are avoiding debt, I'd be surprised if speculators are. If half the units in a typical building are being snapped up by speculators hoping to make a quick yuan, that might mean there's more debt than we think fueling this bubble.

But at least there's this: "China's central government is taking steps to cool the market. This month, lawmakers raised down-payment requirements for the purchase of second homes and gave banks new powers to restrict lending to speculators. Capital gains and monthly property taxes are being considered." Maybe it's enough, maybe it isn't. But it's a hell of a lot more than U.S. regulators did.

According to a new Washington Post poll:

  • 63% want stronger regulation of the financial industry
  • 43% want stronger regulation of derivatives
  • 53% support requiring banks pay into a fund to help wind down failed financial institutions
  • 59% support stronger regulation of consumer finance products

I'm a little unsure if this is good news or bad news. It's good that there's generally majority (or better) support for all this stuff, but the majorities aren't all that big. I wouldn't be surprised, for example, if lots of people had no opinion on regulation of derivatives, but I am surprised that among those who do have an opinion, support for stronger regulation is so weak (43%-41%).

On the other hand, numbers like these are often high and then fall once the political debate starts. These numbers are (mostly) still fairly high even though the public debate has been in full swing for a month or two. So that's promising.

Overall, though, the public doesn't exactly seem ready to hit the streets with pitchforks and torches. Maybe public opinion would be stronger if we could somehow convince them that Goldman Sachs planned to convene death panels?