Felix Salmon

Paul Krugman today argues in favor of a financial-transactions tax on the grounds that it would discourage over-reliance on ultra-short-term repo markets, among other reasons. In other words, reliance on repos is a bad thing, and it’s a good idea for government policy to “nudge” financial institutions away from it.

That’s something that opponents of the Miller-Moore amendment should bear in mind, when they complain that it could hit the repo market hard. Here’s Agnes Crane:

The repurchase agreement, or repo, market is a critical source of financing for dealers, hedge funds and others who use leverage to finance short-term trading positions. It’s a source of extra income for those holding virtually risk-free securities since they can squeeze out extra return by lending them out.

Such financing makes for a deeper and more liquid market that gives investors confidence that if they buy a Treasury note, for example, they can quickly sell it if they want to.

The problem is that we don’t want to encourage the use of leverage to finance short-term trading positions. Indeed, from a public-policy point of view, we’d ideally want to discourage it.

Would a less liquid repo market mean, in turn, a less liquid Treasury market? I daresay it would. But that’s no bad thing: the more liquid the Treasury market, the more that investors flock to it in times of crisis, exacerbating the systemic downside of the flight-to-quality trade, and reducing the amount of liquidity elsewhere in the markets, especially among credit instruments.

There are serious systemic consequences to living in a world where a Treasury bond — or any asset, for that matter — is considered a safe haven from all possible harm. Investing shouldn’t be about safety: it should be about calculated risk. Excess demand for triple-A-rated risk-free assets, as we’ve seen over the past couple of years, can be much more systemically damaging than excess demand for risky assets like dot-com stocks. So yes, let’s throw some sand into the wheels of the repo market, either through a Tobin tax or through the Miller-Moore amendment or both. Because liquidity is not ever and always a good thing.

The Economist has a good short overview of the situation in Dubai, which includes this interesting take:

Investors had half-expected Dubai World to seek forbearance from its bankers, asking them to extend their loans. But they felt sure the emirate would make good on publicly traded instruments, and in particular Nakheel’s sukuk, rather than suffer further damage to its financial reputation.

I remember the days when investors felt that in the world of emerging markets, publicly-traded bonds were implicitly senior to bank loans. But those days came to an end in the late 1990s with bond defaults in Pakistan, Ukraine, and Ecuador — and they’ve never returned. And it’s not even obvious at this point that restructuring loans is easier than restructuring bonds.

Certainly any entity like Dubai World carrying a large amount of bank debt would be very wary about needlessly infuriating its bankers by defaulting to them while remaining current on its payments to bondholders. If Dubai World’s bondholders really took solace in the fact that they held bonds rather than loans, they thoroughly deserve a large hit in the wallet. And as Willem Buiter says, it’s a good thing too:

Property developers tend to be highly geared and very procyclical in their revenue flows and access to the capital markets. During construction slumps they drop like flies. Because the property sector is risky (ask Donald Trump), its creditors tend to get better interest rates than the sovereign rate. Dubai is no exception to this rule. If you earn a risk premium during good times, you should not moan when the borrower defaults from time to time when the going gets tough…

Property companies don’t fall into the systemically important category. Their collapse is painful for their shareholders, creditors and, if the local labour markets are weak, their employees. They are not, however, systemically important. Their collapse will not threaten the delicate fabric of financial intermediation. They are fit to fail. Creditors beware.

It’s almost quaint that there are still people out there who believe that all market participants are always rational actors making decisions in their own economic best interest. Take Daniel Indiviglio, who even stands up for IndyMac and its “inequitable, unconscionable, vexatious and opprobrious” regional manager, Karen Dickinson:

I’m a little confused about how Salmon proposes that the bank here wasn’t acting in its own best interest. If he means that its actions led to a judge awarding the home to the borrower, and that screws the bank, well that’s true. But I seriously doubt that the bank believed that its actions would lead to that outcome…

Had the mortgage contract been upheld, then Indymac would have repossessed the home, as planned. Clearly, that’s the outcome it expected its actions to bring. If Salmon means to speculate that the bank would have been better off if it had accepted one of Ms. Yaho-Horoski’s modification alternatives than force her to foreclose, then I’m not sure I can agree…

For whatever reason, it didn’t like the modification options Ms. Yaho-Horoski presented. Maybe it believed that they all had far more risk than just foreclosing and settling for whatever price it could obtain in the battered housing market. So the bank deemed foreclosure its best option.

On the one hand, this is trivially false, since IndyMac rejected a bid at full market price from Yaho-Horoski’s daughter: it’s inconceivable that after going through the expense of foreclosing on and selling the house, IndyMac would net more money than that. After reading judge Jeffrey Spinner’s decision, it’s pretty clear that Dickinson was a malicious liar who was acting not in the best interests of IndyMac but much more simply in the worst interests of the Yaho-Horoskis. If they suggested anything at all — even a desperate offer of simply giving IndyMac the deed to the house, in lieu of foreclosure — Dickinson was predisposed to reject it.

It’s also inconceivable that IndyMac thought it could get a significant amount of money out of Yaho-Horoski over and above the proceeds from a foreclosure sale. Yes, New York is a recourse state. But we’re not talking here about the only kind of situation in which lenders ever go after borrowers after they’ve foreclosed — a case where the borrower is wealthy, clearly has the money to repay the debt, and is simply refusing to do so because the value of the house has fallen. The borrower in this case was Diana Yano-Horoski individually, and all of the proposals she made involved using the combined income of herself, her husband, and her daughter. But Dickinson evinced no interest in maximizing the amount of money being put towards repaying the mortgage: she even “summarily rejected” the offer from Yano-Horoski’s husband and daughter to be added to the loan as obligors.

More generally, it seems that Indiviglio’s fundamentalist beliefs about what banks do are utterly unfalsifiable. This case isn’t a cut-and-dried example of a bank acting against its own best interest, yet he still refuses to accept that’s what was happening. It’s almost as if he doesn’t understand that banks are run by humans, and that humans are fallible, especially in emotionally-fraught circumstances: they get caught up in an us-versus-them mindset which confuses the best outcome for themselves with the worst outcome for their opponents, or they just panic and do something stupid, like lying to a judge or pulling an emergency brake cord on a subway train.

I’m not saying that “Indymac is just pure evil” — the straw man that Indiviglio sets up as the only possible alternative to his sunny world where everybody always acts in their own best interest. I’m saying that certain corporate officers, in certain situations, make mistakes — and often make very large mistakes. In the case of the housing market in general, and foreclosure proceedings in particular, those mistakes happen quite often, if not always as egregiously as in this case. Loan servicers are simply overwhelmed by the sheer quantity of mortgages in default, and frequently rush to foreclosure even when there are much better options available.

It’s both in the national interest and in the best interest of the loan servicers collectively to put a brake on such actions: if everybody’s rushing to foreclose at the same time, that just creates a glut of distressed property sales which in turn drives down property prices further and perpetuates the vicious cycle. On the other hand, if everybody else is slowing down, then immoral banks like IndyMac can try to act as free riders and grab all the collateral they can, free-riding on rest of the banking community. Such actions should be opposed by all three branches of government, including the judicial branch. Which is one reason why Jeffrey Spinner is such a hero.

One quote jumped out at me from the Reuters Dubai round-up this morning:

“We have seen a classic risk aversion reaction in the markets over the past 24 hours. The dollar has slumped, the yen is stronger,” a Societe Generale note said.

Needless to say, this isn’t exactly a classic risk-aversion reaction: when the markets are really scared, they tend to flee to the safety of the dollar, rather than to the Japanese yen. So my feeling is that this — along with the relatively modest stock-market reaction in New York this morning — counts as a sign that Dubai really isn’t all that bad: it shows that markets are trading the news, rather than panicking.

On the other hand, it’s clearly not good news that a severe-if-not-life-threatening shock such as this one sends the dollar down rather than up. The immense fiscal cost of the financial crisis has hurt the dollar’s standing as the global reserve currency, and if I were at Treasury right now I’d be very concerned about this reaction. Not that there’s much Treasury can do about it.

The Dubai World default is big news — big enough that it’s even made it into Gawker. Your one-stop shop for bloggy coverage this Thanksgiving is Alphaville, which features for instance this wonderful chart of the debt structure which is now being crawled over by lawyers around the world.

Personally, I’m quite happy about this default, since it sets another very useful precedent of a state-owned company defaulting on its debt. Historically investors in state-owned companies have perceived an implicit sovereign guarantee — there’s even a German word for it, Anstaltslast. The result is a huge and unhelpful moral-hazard trade.

So it’s great that the government of Dubai has made it clear that Dubai World’s lenders aren’t going to be automatically bailed out by the sovereign, despite the fact that the government has hundreds of billions of dollars in its sovereign wealth fund*. Would that Treasury will follow suit when it comes to the creditors of state-owned companies like AIG.

*Update: As my commenters have pointed out, it’s Abu Dhabi which has hundreds of billions of dollars in its sovereign wealth fund, not Dubai. Some of those dollars might well yet be used fora Dubai bailout, but it won’t be on terms Dubai likes.

Why You Should Support The Lynch Amendment: Don’t let banks own more than 20% of derivatives exchanges! — Rortybomb

A very sad day for the financial blogosphere: the invaluable John Jansen is giving up his blog to move to the sell side — Across the Curve

Hedge fund prospectus says its “Directors will not receive, open, or deal directly with mail addressed to the Fund” — Risk Without Reward

Don’t forget! $50 feeds 8 tomorrow — Robin Hood

The real connection between Arnold Schwarzenegger and Sarah Palin — Sorensen

Debunking the paradox of choice — FT

Pareene unloads on Lou Dobbs. Totally deserved — Gawker

The behavioral economics of Thanksgiving — Bloggingheads

Claims of Thanksgiving Excess Fueled by Feast of Fuzzy Data — WSJ

Greatest Fox News pie chart ever — Fox

John Carney is right: a very large number of Americans is always going to be financially illiterate, and there’s nothing we can do about it. Indeed, if we try too hard to do something about improving financial literacy, there’s a good chance we’ll only end up creating a new cohort of overconfident financial illiterates who think they understand things when they don’t.

This is why we need a Consumer Financial Protection Agency: to make sure that people buying financial products don’t end up buying something that’s going to end up exploding in their face. As Elizabeth Warren so frequently says, we do it for toasters, we should be able to do it for mortgages and toasters and annuities. There’s a decent case to be made that we can and should give a decent financial education to people starting up small businesses. But there’s not much empirical evidence that it works for people more generally.

(Via Konczal)

This chart (via Paul) I think is too meek: of course the current emerging-markets boom is debt-financed. And boy does it look bubblicious, what with the Bovespa having doubled in the past 12 months and rapidly approaching its all-time high. I’m a believer in the long-term future of Brazil, and even count a Brazilian ETF among my few investments. But at this point any investment in emerging markets looks very much like a speculative momentum play: don’t invest anything you can’t afford to lose.

Keith Bradsher’s NYT story on Australian credit-card fees kicks off with an eye-opening anecdote:

When Steve Franklin bought four plane tickets on Qantas last June, he faced an unexpected expense: a surcharge of 7.70 Australian dollars on each of the 136.70 dollar ($126) tickets — just for using his Visa credit card…

Now, as Congress debates how to rein in credit and debit card companies in the United States, Australia’s experience is being pointed to as an example of just how tricky that can be: for one thing, if regulators limit one fee or rate, banks are likely to find another way to keep revenue flowing.

It’s not until the very end of the 1,400-word article that Bradsher sees fit to inform us that “no one is suggesting outright surcharges for paying with a credit card in the United States” — and he never mentions that airline surcharges are a very special case, because of those holdback charges.

That said, if you start introducing legislation which decreases the amount of money that credit card companies get from hidden charges, it’s almost certain that you will increase the amount of transparent charges that credit-card companies will start imposing. And when people start seeing new charges, they use their cards less:

The main consumer federation in Australia, Choice, says that while regulations here have had a few unintended consequences, they have created incentives for retailers and consumers alike to rely more on debit cards, which have much lower processing costs, instead of credit cards.

That’s already happening in the US, and the trend will accelerate if new legislation gets introduced, and it’s a good trend to see accelerate — especially now that banks are being banned from imposing unasked-for overdraft fees on debit-card purchases. (Mike Konczal has a good post up today on the way that hidden fees can force invidious choices.)

Interchange fees on both debit cards and credit cards are rising, and in general it’s a bad thing when banks start making billions of dollars from hidden fees that very few people ever see. Much better to cap those fees and force the banks’ income sources out into the open where consumers can make their own decisions about whether and how they want to pay them. One consequence is likely to be that total credit-card indebtedness will fall. And we should all be happy about that.

File under “about time too”: HIV-positive immigrants will be able to apply for a green card as of January 4. But I don’t like this part of Anna Gorman’s article:

Mark Krikorian, executive director for the Center for Immigration Studies, said the decision to remove HIV as a bar was based on politics, not science. “It was clearly a politically motivated move,” Krikorian said, adding that the decision could have real consequences — more HIV cases and more costs. “It is extra healthcare spending that we wouldn’t have otherwise.”

An analysis by the Centers for Disease Control and Prevention showed that in the first year, an estimated 4,275 people infected with HIV could come into the U.S. at a cost of about $25,000 each.

The Center for Immigration Studies, the article never points out, is an anti-immigration and pro-deportation pressure group which can be counted on to oppose any kind of increase in the number of green cards being given out for any reason. And the CDC report starts off by saying this:

The incremental impacts of the rule should be a comparison between the arrival of an HIV-infected immigrant and the arrival of an HIV-negative immigrant. Presumably, HIV-related healthcare expenditures will be different, but there are a variety of health expenditures that the HIV-infected immigrant may not incur that other immigrants may incur (e.g., certain types of cancer, diabetes, heart disease). It is not clear that, over the course of a lifetime, on net an HIV- infected immigrant would consume more health care resources than other immigrants. Furthermore, HIV treatment yields benefits that offset the expenditures, including increased life expectancy and productivity.

In other words, although HIV-related costs will obviously be higher, other costs will be lower, and there’s no indication that an HIV-positive immigrant will cost more overall.

And even if you concentrate only on HIV-related costs, it turns out that “about $25,000″ comes from this:

The primary estimate of the present value of lifetime medical costs for persons identified as HIV-infected in Year One is $94 million in the first year.

What we’re talking about here, then, is the present value of lifetime medical costs, no matter who pays for them; in most cases the cost will be paid mainly by the immigrant, and be paid into the US medical community. And $94 million divided by 4,275 is less than $22,000, not “about $25,000″. And remember that this number is nowhere compared to the present value of lifetime medical costs for someone who is HIV-negative. What’s more, the $94 million uses a very low 3% discount rate; if you increase the discount rate, the present value of future costs comes down sharply.

The important thing to concentrate on here is that the US is finally putting to an end a period of official discrimination which dates back to the days when people thought that HIV could be transferred by people sharing towels. Here’s the CDC report again:

In 2004, the Joint United Nations Programme on HIV/AIDS (UNAIDS) and the International Organization for Migration (IOM) issued the ‘‘UNAIDS/ IOM Statement on HIV/AIDS-related travel restrictions’’ which provides guidance to governments regarding addressing the public health, economic, and human rights concerns involved in HIV-related travel restrictions. This document concludes that HIV-related travel restrictions have no public health justification.

There are a dozen countries that deny entry if a person has HIV. These countries are: Armenia, Brunei, Iraq, Libya, Moldova, Oman, Qatar, the Russian Federation, Saudi Arabia, South Korea, Sudan, and the United States.

This proposed rule will remove the United States from the list of countries that continue to have entry restrictions for HIV-infected individuals.

I’m sure that Mark Krikorian would love for the US to remain on that list of shame, but most sane people will be very happy that we’re finally leaving it. There’s no excuse for any state action which serves to perpetuate the stigma associated with HIV-positive status.

(Via Drum)