Felix Salmon


Felix Salmon
Jul 12, 2010 06:54 UTC

Volcker “lined up public support for a tough crackdown from other well-known financiers who are roughly his age” — NYT

“Crowds of football-mad Polynesians turned away from the World Cup final to look to the skies instead” — BBC

“Toy Story 3″ now the top-grossing film in Pixar’s history — EW

Are government scientists just as frustrated with Obama as they were with Bush? — LAT

Conde Nast subsidiary Reddit launches a pledge drive. Does Si know about this? — Reddit

In Despicable Me, “The Bank of Evil” has a sign that reads “formerly Lehman Brothers” — Jackson

Me, on Marketplace Money, talking about how you can’t trust financial journalism — Marketplace

Evelyn Konrad: A real-world version of Charlotte Graves, in Adam Haslett’s Union Atlantic? — NYT


Here’s a worthwhile read:
Shadow Banking by the NY Fed
http://www.newyorkfed.org/research/staff _reports/sr458.pdf

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Money supply chart of the day

Felix Salmon
Jul 9, 2010 19:55 UTC

If Matt Yglesias can wonk out with meditations on the velocity of money, then I can wonk out with a chart:


The red line, here, is the total US money supply, and as you can see it’s started leveling off recently. (Source data here.) In fact, in many months it has actually declined — a rare occurrence, historically speaking. The blue bars are the month-on-month change in M2; it declined as much as 0.65% in January 2010, and in the first five months of this year — all that we have data for so far — it has fallen in three and risen in only two. The money supply in April 2010, at $8.5 trillion, was lower than it was in November 2009: it’s almost unheard-of for the money supply to shrink over so many months.

More generally, I’d take issue with Matt’s assertion that the Fed’s response to the crisis has “involved a sharp increase in the M2 money supply”. Yes, M2 rose in the wake of the crisis. But the sharp rise in M2 dates back much further than that — in fact, you can trace it all the way back to the mid-1990s. The red line doesn’t start rising more sharply when the crisis hits, nor do the blue lines get noticeably larger. There’s one big jump in M2 between August 2008 and January 2009, right at the height of the Lehman collapse, during which it rises from $7.79 trillion to $8.32 trillion, a rise of just under 7%. But we’ve seen that kind of thing before: between November 2000 and May 2001, M2 grew by more than 5%, and then between May 2001 and October 2001, it went on to grow another 4% on top of that.

But I do agree with Matt that we should start publishing M3 data again. If America’s economic statistics are “arguably the most robust in the world”, as Emily Kaiser says, then we should be able to know what’s happening to broad money, without using narrower money as a proxy. These things are very wonky, and only one part of a much bigger puzzle. But they’re still important.


I’m not an economist but:

1. Matt is probably thinking of the monetary base, which the Fed did double in response to the crisis. But this was offset by a tanking M1 multipler.

2. I think MZM is often used as a stand-in for our missing M3.

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The dynamics of sovereign debt

Felix Salmon
Jul 9, 2010 18:22 UTC

Edward Chancellor’s masterful 10-page essay on sovereign debt crises past and present should be required reading for anybody seriously interested in the “new normal” and the way that sovereign debt dynamics might play out over the medium-to-long term. The whole thing can be found here (warning: 12.2 MB PDF file), or it’s embedded below.

Chancellor does a great job of explaining in a single graph why the PIGS in particular are being singled out for trouble — although in this case the I is very much for Ireland rather than Italy.


What’s more, Chancellor has read his Rogoff and Reinhart thoroughly, and is unafraid to draw smart conclusions from their fantastic trove of data. The main one is that governments nearly always prefer inflation to default — unless and until most of their creditors are foreign, in which case default becomes more attractive. What’s more, the best predictor of future default is simply past default: credit ratios tell you almost nothing. The UK managed to get through debt-to-GDP levels of 240% without defaulting or even inflating the debt away in the early 19th Century, while Russia defaulted in 1998 with a debt-to-GDP ratio of just 12.5%.

More generally, sovereign defaults are by their nature unpredictable. At some point, a country hits a tipping point, and then it’s all over — but no one can tell where that point might be. Greece has already reached its tipping point, which is why it needed the EU bailout; Japan seems as though it might, but it’s not there yet. Notably, the interest rate it’s paying on its debt is lower today than when it was first downgraded in 1998 — despite the fact that the Japanese domestic savings rate has dropped from 9% to 3% over those years, making it harder for Japan to finance its enormous structural deficits.

Chancellor concludes powerfully:

Current yields on government bonds in most advanced economist are at very low levels. Under only one condition – that the world follows Japan’s experience of prolonged deflation – do they offer any chance of a reasonable return. But this is not the only possible future. For other outcomes, long-dated government bonds offer a limited upside with a potentially uncapped downside. As investors, such asymmetric pay-off profiles don’t appeal to us.

There are still trillions of dollars invested around the world on the implicit basis that sovereign debt is risk-free. It isn’t, and as those investors wake up to the new realities, they’re going to do unpredictable things with their money. Which is a good reason to prepare not only for volatility in sovereign debt going forwards, but also for volatility in just about all other asset classes as well. It’s going to be a bumpy, unpredictable ride.

Reflections on the Sovereign Debt Crisis


With the spectre of sovereign default rearing its royally ugly head, it makes me wonder why sovereign investment wouldn’t be legally restricted to investing in any given sovereign’s own people.

At State level, within the United States, adhering to this as a general guideline would have avoided a hell of a lot of “where’s all our money gone to?” type of questions, to which the answers are almost entirely speculative. I’m not sure how much respect any sovereign anticipates retaining when he’s wearing new clothes tailored by Goldman.

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The myth that risk goes away over time

Felix Salmon
Jul 9, 2010 14:21 UTC

Rodney Sullivan has a great column which is nominally about “risk parity” strategies, but which in fact applies much more broadly — to anybody, in fact, who buys in to the idea that if you invest in riskier assets, you’ll end up with higher returns.

Of course, high risk sometimes means that returns are much higher than expected. But it can also mean that returns are far lower, perhaps crippled beyond hope of redemption. Given the reality of fat tails, the likelihood of large negative events is also higher than normal. And poor results can persist for long periods. By now, the myth that risk “goes away” over time should be well put away — risk accumulates over time. In short, investors cannot expect to “get” the expected return, but rather a draw from a very wide distribution. And in reaching for high returns by using leverage, investors dwell in the extremes of the return distribution.

The idea behind a “risk parity” strategy is simple. Let’s say you’re 100% invested in equities, because you’re happy with that level of risk. The problem is that you have no diversification: bonds can outperform equities for very long periods of time. So you rotate some of your holdings out of stocks and into bonds. But bonds don’t return as much as stocks, and that can hurt your total returns. So you leverage your bond-market investments, to bring them up to the same riskiness as the stocks.

Sullivan is not impressed. “Using leverage simply to increase the expected return is almost always a bad idea,” he writes, credibly enough. Which makes sense to me: the person lending you the money you’re borrowing expects to make a profit on the deal, which is only going to make it that much harder for you to make a profit as well.

What’s more, you could hardly pick a worse time to start levering up your bond investments than now:

That this leveraged-bond strategy is emerging after a long bond bull run and poor equity performance is curious. This likely hindsight-driven idea runs strikingly close to the frequent overweighting of equities during the late 1990s and the more recent affinity for uncorrelated assets during the early years of this century. Asset allocation decisions should never be made by simply extrapolating the future from the past.

This, of course, doesn’t just apply to bond-market rallies: it can be applied equally to the stocks-for-the-long-run crew. If you’ve got a coherent fundamental reason why stocks should outperform other asset classes, that’s great. But “they always did in the past” is much less convincing.


***If you’ve got a coherent fundamental reason why stocks should outperform other asset classes, that’s great. But “they always did in the past” is much less convincing.***

Excellent point, Felix! Of course, this argument ought to be applied to all investments, not merely stocks. (For that matter, it ought to be applied to individual securities WITHIN asset classes.)

Before you invest in something, you’d better have a coherent reason why that investment makes sense. Historical results are heavily dependent on the time period being considered and also tend to be cyclical.

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Felix Salmon
Jul 9, 2010 05:58 UTC

George Soros on the crisis and the euro — NYRB

Dan Ariely on how people are like wine: describing them is not a very good way of telling whether you’ll like them — Big Think

Who’s pawning $14 billion of gold to the BIS? — Alphaville

Texas Tribune + NYT = NYT Texas edition? Seems like a good idea to me — CJR

David Merkel sets out his own shingle — Aleph

John Paulson’s painful June — Bloomberg

Matt Yglesias is no fan of the distinction between goods and services — Yglesias


The Arbitrariness of Manufacturing …see Yglesias above.

What Warren and Brian had to say in comments was much more relevant, interesting and truthful then the dumb article.

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Attacking unemployment

Felix Salmon
Jul 9, 2010 05:54 UTC

Unemployment is tragically, stubbornly high — and that’s going to prove devastating not only for the millions of long-term unemployed but also for the USA as a whole, if it continues indefinitely. And it’s not just the Americans without jobs who need a way out: it’s the ones in bad, underpaid service-industry jobs as well.

I wrote about that problem on Wednesday and got some fantastic comments in response. And a lot of other people are making similar points these days. Mark Thoma picked up on the same Richard Florida piece that I did and noted that improving productivity is not certain to help: since the early 1980s, productivity has fed through into improved pay only once, briefly, during the dot-com boom.

Chrystia Freeland has been attending similar discussions in Aspen:

What frightened me most about today’s discussion was a possibility endorsed by Ron Brownstein, political director of Atlantic Media, that America’s two-speed economy may not be anyone’s fault (as [Arianna] Huffington insisted it was) but might, instead, be the inevitable consequence of the twin revolutions of globalization and technological change.

[Allstate CEO Tom] Wilson was certainly right about one thing: one of the great success stories of our age is how dynamically American companies have adapted to globalization and the technology revolution. But, as Huffington pointed out, the political consequences of a two-speed America might not be pretty: “America cannot be America without a middle class … we will become Brazil and all live behind gates to protect our children.”

There’s a real risk that American companies will thrive on foreign labor, leaving their home nation to slowly devolve into a land of chronic unemployment and widespread lack of skills.

Andy Grove reckons that the solution is for American companies, at the urging of the government, to become more protectionist, putting up trade barriers to create domestic jobs. Like Reihan Salam, I’m unconvinced. But Reihan isn’t particularly constructive himself, saying only that we need “a wrenching series of labor market and entitlement and tax reforms designed to improve work incentives, most of which will prove far less popular than simply bashing China”, which will somehow both raise taxes and foster lots of new employment at the same time. I’ll believe it when I see it.

Michael Hudson is a bit more inventive: he’d like to see a move away from income taxes and towards property taxes. That would help bring property prices down, making housing more affordable, and leaving more money left over for consumption. But that’s a plan designed to work in Eastern Europe, not in the U.S.

Mohamed El-Erian, meanwhile, has a whole laundry list of things he reckons need to be done with some urgency:

Instead of simply debating the case for further government stimulus, policy makers should also come up with a comprehensive strategy that focuses on improving human capital, particularly through a greater emphasis on education and training; expanding infrastructure and technology investments, in part by creating a more friendly tax system; encouraging a bigger translation of scientific advances into economy-wide productivity gains; and better protecting the most vulnerable segments of society.

This is all well and good, but none of it is likely to bear fruit during the presidency of Barack Obama, even if he gets re-elected. And I think it’s fair to say that if he leaves office with unemployment significantly higher than he inherited it, that will be a major blemish on his administration.

But maybe unemployment is simply a problem to which there is no good medium-term solution, let alone any short-term fix. Certainly the government can’t directly employ the unemployed, and although I’m a big fan of arts subsidies as a way of creating jobs, that kind of thing is only ever going to have a marginal effect.

I do think that my first commenter, Harrington, is right that it’s high time to start giving labor unions more recognition and power. That might seem a bit counterintuitive — unions have never been very good at improving employment numbers, as opposed to improving the plight of the employed. But if workers at places like Wal-Mart start being paid a decent living wage, that is surely a significant improvement on where we are now. And if we raise the minimum wage to a point where employees are less likely to quit and more likely to learn reasonably high-level skills, that will help get us to Richard Florida’s promised land. Without unions and minimum-wage laws, corporations compete on who can pay the least. With them, they compete on who has the best employees and they invest significantly in those employees. Which is exactly what we want, especially since raising the minimum wage is unlikely in and of itself to increase unemployment visibly.

My third commenter, billyjoerob, depressingly reckons that reduced immigration will do the trick. It won’t. But immigration is important: if it’s sensibly structured, it can create more jobs more quickly than just about any other low-cost government intervention. Just allow lots of rich and high-skilled immigrants into the country and they will rapidly create businesses which will employ millions. (One prime example: Andy Grove.)

And Dollared notes another important tack: fixing the national health care system so that employers aren’t burdened with enormous healthcare costs and can concentrate instead on what they do best.

But I like HBC’s comment the best:

The prevailing epidemic of bad jobs (formerly known as careers) American workers are having to get used to can be directly attributed to protracted periods of really awful American management, for which there can be no tolerable excuse.

America invented the concept of management as a profession and course of study and in doing so helped to cement the victory of capital over labor. That works until the workforce becomes so demoralized as to be useless — at which point the jolly capitalists just decide to hire foreign workers instead. This is good for investors in the short term, but it’s very bad for the economy in the long term. And I don’t think that anybody believes that the U.S. stock market can rise steadily if the U.S. economy is in a slow and inexorable decline.

At the same time, however, it’s hard to imagine capital giving up its hard-fought gains and becoming much more paternalistic and generous to its employees, hiring more people and paying them better. Which is one reason why I’m a pessimist when it comes to the long-term employment situation.


“It is not a right of American workers to be paid more than a fair global wage.”

It is not a right of any exporter to have access to the American market.

Welcome to the world of political uncertainty, as the consensus commitment to destruction of the American middle class impacts globalized business. You helped make this world, you should be comfortable in it.

We need tariffs. With high enough tariffs, the jobs will come back.

The global trading system: Break it, then mend it.

The brutal truth is that profits are up, even as the American people spiral down into the toilet.

Who cares about Marx, or Reagan. Just break globalization.

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Why is Nick Denton suddenly so bullish?

Felix Salmon
Jul 9, 2010 04:31 UTC

At the very end of his profile of Henry Blodget, Andrew Goldman drops in a jaw-dropping quote from Gawker founder Nick Denton:

Denton lays out the most optimistic scenario: “This is like the early days of cable,” he says. “High—surprisingly high—startup costs. But eventually advertisers move across and the margins are lavish for the leading players in each category. Jezebel becomes Lifetime, HuffPo becomes MSNBC and Henry becomes CNBC.”

This is by far the most bullish thing I’ve ever heard come from Denton and it makes me wonder whether, finally, he’s beginning to seriously consider — for the first time — selling a large chunk of Gawker Media.

Denton hasn’t launched a new website in a while; in fact, he’s been consolidating his properties, folding the likes of Valleywag and Defamer into Gawker and selling off blogs like Wonkette and Consumerist which he felt he couldn’t make work. Instead, he’s been quietly seeing his empire grow truly enormous: according to Quantcast, he reaches 30 million unique visitors globally every month and 17.3 million in the U.S. That’s 450 million pageviews per month — pretty impressive, although the rate of growth is clearly slowing.

Maybe now is the point at which Denton needs to find an outside investor to shoulder the “surprisingly high” costs of taking a strong online franchise and turning it into the multi-billion-dollar media property of the future. Denton is a serial entrepreneur, having become wealthy by founding and selling First Tuesday and Moreover. He doesn’t need the money from selling Gawker, but at the same time I can’t imagine him just sitting there running it as a going concern, cashing his dividend checks and patting himself on the back for creating a successful company. He needs a challenge, and competing head-on for advertisers with the giants of cable TV is certainly that.

As for Nick being nice about Blodget, that’s classic Denton. Gawker doesn’t do slideshows and listicles and in fact does very little of the aggregation that’s the bread and butter of Blodget’s business. And Denton knows full well that in an apples-to-apples comparison, Blodget is going to make Gawker look almost old-fashioned in its rectitude. If Denton can help give Blodget a certain amount of credibility, that just makes Gawker Media look positively Olympian. Which is maybe exactly what he wants, if he’s finally willing to accept outside investment — at a suitably stratospheric valuation, of course.


“Why is Nick Denton suddenly so bullish?”

I think it’s because I recently sent him a friend request on facebook. I have to admit, I might have already done so, only to be turned down. God is that a long list.

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Jingle mail datapoint of the day

Felix Salmon
Jul 9, 2010 03:35 UTC

David Streitfeld has got his hands on new data from CoreLogic. It’s hard to find actual numbers in the article, or any kind of link to the data, so here’s the accompanying chart:


You can see how this might have blindsided lenders: the richest borrowers, who historically had the lowest default rates, now have the highest.

“The rich are different: they are more ruthless,” said Sam Khater, CoreLogic’s senior economist.

And, they’re disproportionately likely to live in California, or other non-recourse states where you can default on your seven-figure mortgage without any realistic worry that the bank will come after your other assets. That said, there’s a good chance that many of these delinquencies are forced rather than strategic.

Streitfeld’s piece is bylined Los Altos, California, a town where the median home is $1.5 million. In such towns, you don’t need to be a millionaire to find yourself in a multi-million-dollar home. Let’s say you’re a tech geek who found yourself with $200,000 for a downpayment on a house over the course of the dot-com bubble. So you buy a million-dollar home, and then start up a series of companies. You need to live, of course, and you can’t afford to pay yourself a salary, so you do two or three cash-out refinancings on a home which by 2007 was worth $2.5 million. Before you know it, you’ve got a $2 million mortgage, no way of paying it, and a home which is worth significantly less than the mortgage. Realistically, you have no choice but to default.

Even after accounting for your initial $200,000 downpayment and a series of mortgage-interest payments along the way, you still took out of the house much more money than you put in: the cost of living there over the past 10 years has probably been negative to the tune of well over half a million dollars. Essentially, the house has paid you $50,000 a year — money which is easy to spend, and is now long gone.

In any event, these were jumbo mortgages when they were taken out, and they’re jumbo mortgages now — none of this has anything to do with Fannie or Freddie, except insofar as the homeowning majority of the population might yet wake up and, emulating the rich, default on their underwater homes. And so the GSEs are desperately, and unconvincingly, trying to persuade them not to do so:

Knowing the costs and factoring in the time horizon, some borrowers have made the calculation that it is better to purposely default on the mortgage. While I understand how that might well be a good decision for certain borrowers, that doesn’t make it good social policy. That’s because strategic defaults affect many other families and communities. And these costs – or as they are known in economic jargon, externalities – are not factored into the individual borrower’s calculations.

Well, sure, it’s not good social policy to strategically default. Fine. That doesn’t stop the rich, and it shouldn’t stop the rest of us either. I think it’s pretty clear which direction we’re headed in, and moralistic exhortations aren’t going to turn the tide.


It is my understanding that an initial purchase mortgage in California is non-recourse, but that once you refinance it that it is no longer non-recourse. Unless I’m mistaken, in the story that you tell, the bank could pursue a deficiency judgment, though of course it’s possible it wouldn’t be worth doing so if the failed entrepreneur simply has nothing else of value to attach or what have you.

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Lafite datapoint of the day

Felix Salmon
Jul 8, 2010 23:51 UTC

Andy Xie on the market for fine wine in China:

Some analysts estimate that 70 percent of China’s Lafite consumption is counterfeit. I personally experienced this on a few occasions. The people who served me fake Lafite didn’t know it, because at the very least, the prices seemed genuine. And the fakes were probably decent wines, possibly some good second growth poured into a Lafite bottle. They just weren’t the real thing. The forgers have targeted the legendary 1982 vintage in particular. Many rich Chinese have bought large stocks of 1982 Lafite. The odds are that these are all fakes. There are very few bottles of the vintage left. It is highly unlikely that one can get several cases of the real thing.

The interesting thing about this is that so long as no one says anything in public, everybody’s happy. Xie explains that Lafite is the drink of choice for buttering up government bureaucrats — not because it tastes good, but just because it’s expensive. If Yellow Tail cost as much, they’d buy that instead. So when you’re served a bottle of 1982 Lafite in China, the important thing is not that it’s 1982 Lafite, but just that it’s expensive.

All of this focus on the brand is great for Lafite, which gets to charge insane prices not only for its flagship wine, but also for its second growth, Carruades de Lafite, as well. It’s great for the forgers, obviously. And it’s great for the purchasers, who otherwise would never be able to get their hands on anything as expensive and special as a bottle of 1982 Lafite.

But Xie sees a dark cloud on the horizon:

A market is efficient when consumers are informed and make rational choices. An efficient market motivates producers to improve quality and control cost. The virtuous cycle leads to great brands that last. The French wine market is like that. I am afraid that Chinese demand is decreasing the market efficiency and may bring down great brands over time. When winemakers see the price a result of propaganda, not quality, they will focus on marketing and decreasing investment for improving quality. It would be a tragedy if Chinese demand, by bringing easy money, brings down a French legacy that has lasted for five centuries.

The wine market in general, and the market in first-growth Bordeaux in particular, has never been efficient. Certainly the big chateaux have never been particularly interested in cost control or in market efficiency, and it’s pretty obvious, as Xie recounts, that the success of Lafite in China is more a matter of dumb luck than it is anything to do with smart marketing. If the price of Lafite goes up, I don’t think that will bring down its quality. No one’s going to mess with a winning formula. Especially when non-Chinese buyers can bid up the price of Petrus to $40,000 a case before it’s even been bottled.

(Incidentally, every time a “br” appears in Xie’s post, it has been replaced with “P”. I’m sure this was an HTML find-and-replace gone rather wrong. Don’t let it put you off.)


“So when you’re served a bottle of 1982 Lafite in China, the important thing is not that it’s 1982 Lafite, but just that it’s expensive.”

This sentence is perhaps two words too long–and those two words are “in China.” The price and the label are almost certainly the two most important factors in the enjoyment of high-end wines above a certain threshold of quality.

I’m eagerly awaiting another post about how intolerably wicked blind taste tests are…

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