Felix Salmon

The Fed’s earnings

Felix Salmon
Jan 12, 2010 05:34 UTC

Neil Irwin has worked out that the Federal Reserve earned $45 billion in 2009, thanks to the steep yield curve that it engineered and its move into higher-risk, higher return securities. This is good news: all that money is being dividended back to the public fisc, keeping the deficit that little bit lower.

Essentially all that $45 billion was earned by one profit center, the New York Fed: the rest of the Federal Reserve system is basically cost centers. Now if the New York Fed was a commercial investment bank, it would pay half of that money out in bonuses. Let’s be conservative and call it $21 billion. The New York Fed has 3,000 employees, which means that the bonus pool would work out at $7 million per employee: a full order of magnitude greater than the equivalent number at Goldman Sachs.

Of course, making money is much easier when you can print the stuff. But it wasn’t at all obvious, at the beginning of 2009, that the Fed was going to have such a banner year. So let’s file this one — along with the lack of bonuses at the Fed — under “happy” for the time being. Yes, as Irwin points out, it’s still entirely possible that the Fed might end up taking substantial credit losses. But it’s becoming increasingly probable that any such losses will ultimately be more than made up for in higher coupon payments along the way.


Any talk at all about any Fed “profits” with the deficit at its higher-than-heaven-ever-was level is just too ludicrous to fathom. Only our pathetic gov’t would essentially brag, “Hey, we are big losers(for you)in almost everything we have done in this economic crisis, but here is one (puny)example of a (manufactured)profit we made for you(that is not even real; don’t ask for details). How about them apples, Bubba? Whoo-Hoo”

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Healthcare scatterchart of the day

Felix Salmon
Jan 11, 2010 21:59 UTC

Frank Hansen has put together this chart from OECD data:


(Via Gelman, who earlier found something similar putting life expectancy on the y-axis.)


The y-axis on this graph is labelled “Quality” it’s actually “Resources.”

The link explains it takes into account factors like the rate of new doctors graduating, etc…

Resources are fine and all, but what should be plotted is health-care outcomes. There is lots of research and reports that look at international healthcare as measured by outcome.

If the Y axis where measured outcomes, the the list of countries rated as below or equal (on the y axis) to the US would change dramatically – for example, Canada and the UK both achieve superior outcomes (better care) than the US, at less cost. According to the “resource” measure, though, they appear inferior.

So, at best, this chart is just yet another way to illustrate that the US pays too much for healthcare. It’s not, however, a good way to determine what countries are doing things right.

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How to get our money back from the banks

Felix Salmon
Jan 11, 2010 21:43 UTC

Of course it would be great if the big banks, currently making outsize profits thanks to the Fed’s zero interest-rate policy, had to pay back some of the enormous fiscal cost of the financial crisis they were largely responsible for causing.

The Obama administration has come under pressure at home and abroad to support a financial transactions tax on institutions and to heavily tax their executive compensation.

But the United States, led by the Treasury Secretary Timothy F. Geithner, has been opposed, arguing that a transactions tax would simply be passed on to customers and a bonus tax could be easily circumvented.

So, how to do this? The NYT and Politico are talking about some kind of “fee”, but it’s hard to see how to stop that from being passed on to customers. Simon Johnson, then, reckons it should be the bankers who are targeted, rather than the banks:

The answer is easy: people working at our largest banks – say over $100 bn in total assets – should get zero bonus for 2009…

The administration should immediately propose and the Congress must at once take up legislation to tax the individuals who receive bonuses from banks that were in the Too Big To Fail category – using receipt of the first round of TARP funds would be one fair criterion, but we could widen this to participation in the stress tests of 2009.

The supertax structure being implemented in the UK is definitely not the right model – these “taxes on bonuses” are being paid by the banks (i.e., their shareholders – meaning you, again) and not by the people receiving the bonuses.

Essentially, we need a steeply progressive windfall income tax – tied to the receipt of a particular form of income. This is tricky to design right – but a lot of good lawyers can get cranking.

I think Simon is right that such a tax is hard to design, and therefore wrong that it’s in any way “easy”. If you tax 100% of bankers’ 2009 bonuses, then the banks simply won’t pay any 2009 bonuses, and you’ll get no revenue. Meanwhile, banks will just double those bankers’ bonuses in 2010.

I don’t think there’s any easy answer here, but I do think that Simon is unnecessarily harsh on the UK supertax, which seems to have worked quite well: banks are doubling their bonus pools and paying half to the government, raising a lot of money for the public fisc. Yes, the public does own a large number of bank shares. But I see no evidence that the UK supertax has done particular damage to bank stocks.


I think that these bankers are not alone. Lots of business people, including auto company executives drain the capital from their companies. Many times, and this includes bankers, do a poor job and still get the big bonuses. I do not know how to slow this greed down, but in the end nobody has a U Haul trailer attached to their coffin. If you have any sense of decency you cannot take a huge bonus when so many people are hurting and just trying to put food on the table.

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Citi’s US branch network: Doomed to mediocrity

Felix Salmon
Jan 11, 2010 20:36 UTC

The departure of Terri Dial from Citibank only serves to underline how dysfunctional Citigroup remains, long after Vikram Pandit was meant to have created small-enough-to-manage Citicorp within the larger behemoth. Tellingly, Dial is being replaced by Manuel Medina-Mora, a manager who has succeeded within Citigroup largely by having enough power from day one to do what he wanted, rather than having to navigate Citi’s labyrinthine bureaucracy. Medina-Mora, for instance, flat-out refused to rebrand Banamex as Citibank, and so Banamex it remains to this day.

Aaron Elstein quotes Dick Bove as saying that Dial was “severely constrained in what she could do”; Bove thinks that Dial left “in total frustration” rather than being pushed. My feeling is that either way she failed to deliver results, and that she was beginning to be more trouble for the bank’s top management than she was worth.

Citi’s branch network in the US is not huge — Wells Fargo and Bank of America both have six times as many branches as Citi does — but it’s symbolically very important, as the public face of the troubled bank. The problem is that making significant changes across 1,000 different branches is an extremely expensive proposition, without any guarantee of success.

The real problem for Citi here, of course, is that it lost Wachovia to Wells Fargo. Pandit had it all worked out: Citi’s US consumer bank would get folded into Wachovia, and run out of Charlotte, by people who had a proven ability to run a US branch network extremely efficiently. (It wasn’t Wachovia’s branches which caused its downfall.) When Wells swooped in at the last minute to snatch Wachovia out of Citi’s grasp, the California bank probably saved Citi untold billions in extra losses. But it also destroyed Pandit’s last real hope for being able to build a top-tier retail franchise in the US. Terri Dial couldn’t change that fact, and I doubt that Medina-Mora will be able to do so either.

Another proposed deaccessioning rule

Felix Salmon
Jan 11, 2010 17:27 UTC

Judith Dobrzynski has come up with her own version of the Ellis rule when it comes to museums selling off their art. Adrian Ellis’s rule is quite elegant:

You can deaccession and spend the money on whatever you want – a new roof, working capital, education programs, or even a boffo night out with your chums on the board — provided that you ensure that the institution or individual to whom you sell commits in some binding form to equal or higher conservational standards and equal or higher public access.

Dobrzynski’s proposed alternative has two parts. The first is that any museum wanting to sell art first would need to argue its case before an “impartial arbitrator”, someone “schooled in art, art law and nonprofit regulations”. Given the heat surrounding the deaccessioning debate, I don’t actually believe that there is anybody impartial on this front, so this part of Dobrzynski’s test might be very hard to implement fairly.

Then there’s the second part:

Most important, as part of any deal permitting the sale of art, the de-accessioning museum would have to offer the works to other museums first. If it received no offers, it could sell the pieces via a public auction — and any American museum would then have the opportunity to match a winning bid if it promised to keep the work in a public collection.

Is this realistic? Would auction houses agree to such a deal, whereby the winning bidder might win the auction but still lose the piece in question? I asked Christie’s, who said that although such deals haven’t been seen in the US, they are reasonably common overseas: in the sale of the of Yves Saint Laurent and Pierre Berge collection in Paris in February 2009, for instance, several museums exercised just such a right and acquired works for their collections.

I suspect that cultural norms would make the first such sale quite difficult in the US, but that eventually both auction houses and their clients would learn to live with them. On the other hand, that could take some time, if Dobrzynski is correct and her rule makes deaccessioning nearly impossible.

Essentially, Dobrzynski here is taking the Kimmelman rule — that museums should get first dibs on any deaccessioning sale — and beefing it up with two extra layers: first arbitration, and second the option to buy in the wake of a public auction. Personally, I think that the Ellis rule is still the best option, since it puts the focus where it belongs — on the art, rather than on the museum. Both Dobrzynski and Kimmelman would let art disappear from a museum into private hands, never to be seen again; Ellis wouldn’t. I wonder whether Christie’s could find a way of putting an Ellis binder on works before auctioning them.

(As ever, Donn Zaretsky is the first place to go for more on this subject.)

Why Apple shouldn’t pay a dividend

Felix Salmon
Jan 11, 2010 16:33 UTC

Brett Arends — journalist and published author — is a real thinker, not a blogger.

I’ve seen bloggers at work. They sit at their desk and stare at a computer screen for 10 or more hours a day. Tap, tap, tap. Click, click. Tap, tap, tap. Tap. Tap. Double-click…

Is blogging journalism or a nervous tic? I couldn’t do it. I don’t know how anyone can.

I am equally baffled by the readers. Who says “Hmmm, it’s 11 o’clock. I wonder what Felix Salmon has written about Morgan Stanley since breakfast?”

At least writing books involves real research, real thinking and real writing.

Let’s examine, then, what happens when Arends does real thinking, on the subject of Apple’s capital structure and dividend policy. Maybe this blogger could learn a thing or two!

Arends first declares that Apple’s cash hoard is reducing shareholder returns:

Even by conservative estimates the surplus is probably nearing $30 per share.

This is not all money Apple needs to run its business. Most of it is sitting in low-yielding investments like short-term corporate bonds. It’s earning next to nothing.

Apple should therefore start declaring a dividend, says Arends. But that’s not all:

Apple should — gasp — start borrowing, and hand that money back, too. All told, it could probably hand out more than 60 cents or so per share without breaking a sweat…

It could surely borrow, say, $30 billion without any serious risk or problem.

In the current bond market it could get excellent terms, too. Top, AAA-rated companies are paying just 5.5% or so on long term bonds. As Apple earns more than that on its invested capital, borrowing (within reason) would add value.

On the one hand, then, Arends is saying that Apple’s earning nothing on its cash, and so should hand it back to shareholders. Then he adds that Apple should borrow $30 billion at 5.5%, and hand that back to shareholders too — because, and this is where he loses me — “Apple earns more than that on its invested capital”.

But Apple wouldn’t be investing that $30 billion, it would be handing it back to shareholders. What’s more, if Apple could invest $30 billion, it would surely do so with the cash it has on hand — with its opportunity cost of “next to nothing” — rather than borrowing it at 5.5% interest.

What Arends doesn’t mention here is that Apple stock is trading at an all-time high. He also neglects to mention that economically speaking, dividending $30 billion or $60 billion to shareholders is identical to taking that money and spending it on share buybacks. Except that shareholders generally prefer buybacks to dividends, because buybacks don’t end up saddling shareholders with taxable income.

Now if Arends ever read the tap-tap-tapping of bloggers, he’d understand why it’s an idiotic idea for Apple to buy back its own stock at north of $200 a share. I explained as much back in December 2007, and again in February 2008: buybacks mainly benefit short-term speculators. Meanwhile, companies which buy back their own stock at the top of the market are liable to regret it.

In any event, it’s far from obvious that long-term Apple shareholders — none of whom have ever expected a dividend — particularly want Apple to start paying them 60 cents a year in cash. With the stock at $210 per share, that kind of money would barely make a difference to the share price. And that cash still belongs to them: it’s quite literally money in the bank, and if they want to monetize their stock by selling 0.3% of their holdings, they’re more than welcome to do so.

Apple says that it likes having the cash on hand because it gives the company strategic flexibility when it comes to investments and acquisitions. That makes sense. But I think there’s another good reason for Apple to be cash-rich: it allows the company to continue to play the long game, rather than worrying overmuch about quarterly cashflow. To give just one example, Apple spent five years, from 2000 to 2005, writing and developing a version of its operating system, OS X, which would work on Intel chips. It didn’t do that because it wanted or expected to move to an Intel-based architecture, but it felt that the option value was worth it. And then, after five years of capital expenditure with no expectation of any return on that investment, it decided to exercise the option.

In Brett Arends’ ideal world, Apple would lose its cash hoard entirely, and would have to pay for all such projects out of operating earnings. What’s more, it would also have to pay $1.65 billion a year in bond coupons, plus another $540 million in dividends. That’s more than $2 billion a year going out the door, most of which would go to banks rather than shareholders, and none of which would make Apple a better, or more innovative, or more profitable company.

Apple is a fast-growing technology company; the iPhone makes it a major player in the high-capex world of telecommunications. I don’t know what kind of strategic possibilities Steve Jobs and his inner circle are thinking about, but it’s entirely reasonable to assume that at least some of them might involve spending large sums of cash — which doesn’t necessarily mean big acquisitions. So long as Apple’s shareholders evince no desire to start receiving a dividend, I see no reason why Jobs should start paying one.

As for borrowing money in order to return it to shareholders, that’s the kind of desperate move engaged in by companies on their last legs. It’s most decidedly not the kind of thing Apple would, or should, ever do. As Arends would probably realize, were he to engage in some real research and real thinking.


A stock split would be nice. It would make purchasing a small number of shares of stock more affordable to young people who are graduating from college, getting jobs and setting up a 401Ks. They are a new generation of investors who long ago “bought into” the product by spending their allowances on – or asking for gifts of – iPods and iTunes, then MacBooks and iPhones.

….. and it would reward those of us “oldies’ who kept the faith through the years, both in adopting the Mac brand and staying with it, despite the ridicule of friends and colleagues… (Ha!) and purchasing and holding stock for many years. A client I have worked with for 10 years used to tease me about being “a Mac person.” Two years ago, he bought an iPhone and said he’d never go back….. when the family’s PC died earlier this year, he bought his son the promised Desktop Mac. and learned that Apple’s “plug and play” slogan really means what it says.

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Sovereign default of the day: Foxwoods

Felix Salmon
Jan 11, 2010 14:31 UTC

Peter Applebome notes that dire financial situation at Foxwoods casino looks much more like a sovereign default than a run-of-the-mill commercial real-estate deal gone sour:

The Pequots, like all Indian gambling operators, are no mere business enterprise but a sovereign nation, exempt from most commercial regulations and almost certainly unable to use the bankruptcy laws or sell off gambling assets that could be operated by others. So lenders have no choice but to restructure debts, work with the tribe and hope that the economy picks up.

Essentially, the lenders can’t foreclose on the casino, because the current owners — the Pequots — are the only people who can own it. If it’s not an Indian casino, it’s can’t be a casino at all. That, in turn, gives the debtors enormous leverage over their creditors: they can pretty much name their terms, and the lenders have little choice but to agree to them.

How did the lenders find themselves in such a dire situation? I think you know the answer to that one: they just weren’t thinking.

“It’s kind of uncharted territory,” said Tom Foley, a lawyer who specializes in Indian gambling issues and is a past chairman of the National Indian Gaming Commission. “Many of the banks and bondholders should have been aware of these kind of risk factors, but when everything is good, nobody is really looking at the downsides.”

You can be sure they’re looking at the downside right now.


I think HBC wins the thread.


Felix Salmon
Jan 9, 2010 06:53 UTC

Neutra Face. Quite possibly the greatest YouTube video of all time. — YouTube

Why cheap Chianti is often better than the expensive stuff — Slate

“If you really want to know what a person thinks, ask for advice and he or she will open up.” — Marginal Revolution

Portugal Parliament votes to permit gay marriage — Yahoo

Not that impressed with the Library of Congress’s new logo, sorry — Under Consideration


Yahoo, indeed.

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Social cohesion and sovereign default

Felix Salmon
Jan 8, 2010 20:17 UTC

Gillian Tett has an interesting column today on the degree to which “social cohesion” determines whether or not a country in fiscal difficulties will end up defaulting on its debts. The Japanese, she says, are used to the idea of sharing the pain, and would probably not tear themselves apart should the country have to make painful fiscal cuts in order to remain current on its obligations. (Besides, given that 95% of Japanese government bonds are held domestically, a default would probably cause even more pain among the population as a whole.)

On the other hand, says Tett, the US is used to growing its way out of problems:

In the US, the government has less experience of dividing up a shrinking pool of resources. Instead, in a land built by pioneers, Americans prefer to spend time thinking about how to make the pie bigger – or to find fresh frontiers – than about making shared sacrifices.

Thus it remains an open question whether Washington will be able to slash without real political or social upheaval. Signs of tension are already there: Bill Gross of Pimco, for example, this week warned that “our [American] government does not work any more; or perhaps more accurately, when it does it works for special interests and not for the American people”.

I think that this issue of social cohesion has its limits: it’s hard to think of a more socially cohesive country than Iceland, for instance. And extremely heterogeneous and divided populations like that of Brazil have managed to stay current on their debts (I’m thinking 2002 here) even as everybody expected them to default.

What’s more, the really important thing here is what fund managers like Pimco think, not what ratings agencies think: we’re (thankfully) past the point at which a sovereign’s triple-A credit rating reassures investors that there’s no chance of default. After all, Moody’s was rating not only Iceland but also its banks as triple-A, as recently as 2007. And we know how that turned out. Ratings agencies might only now be thinking in terms of social cohesion, but bond investors have always considered it as a factor. And they’re the ones who really set prices and yields.


Felix, looks like I won’t be reading that Gillian Tett piece, since FT now only allows unregistered users to read 1 free article. I’d rather pay for the WSJ than deal with the FT’s attempts to extract money from me EVERY time I go to their site.

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