February 14, 2009

Market Insights 14-Feb-2009

Weekly Snapshot
• The U.S. Congress approved a $787 billion stimulus bill on Friday
• Chinese exports fall 17.5% in January-09
• UBS suffers biggest Swiss loss in history at nearly SFr20bn ($17bn) in 2008
• Bullion sales hit record in rush to safety
• Inflows into gold-backed exchange traded funds at an all-time high of 1,317 tonnes
• General Motors will cut 10,000 jobs, 14% of its salaried work force
• The Dow lost 350 points after Tim Geithner detailed the bank rescue package
• Obama imposed restrictions on pay for executives at banks bailed out by taxpayers; compensation to be capped at $500,000
• Germany's economics minister Michael Glos resigns

A Valentine's Gift for the U.S. Economy?
Just in time for Valentine's Day, the U.S. Congress approved a $787 billion stimulus bill which includes emergency government spending, tax cuts and many other hand outs - too many to mention. As swiftly as this bill has been pushed through, I can't help thinking about two similar "emergency" bills, both equally premature, ill-conceived and full of unintended consequences.

The USA PATRIOT Act of 2001 and the Sarbanes-Oxley Act of 2002 are both prime examples of bureaucratic waste at its best. Best examples are silly regulations drafted by lawyers and pencil pushers who have lost touch with reality just like the politicians who enacted these Acts. For instance, when I observe the security procedures at US airports I think of ceremony rather than real security. Those are rituals similar to those in churches, temples and mosques that have little or nothing to do with real belief and true prayer. Similarly, the tougher rules on US airports are really nothing more than keeping people busy and adding to the true cost of air-travel, a deterioration of service and a shift in many travelers opting for alternatives to air-travel.

With regard to the other nuisance, the Sarbanes-Oxley Act, this did nothing to true financial regulation nor did it in any way uncover the Madoff scheme nor did it help to predict/prevent the current financial crisis. Anyone who has had to deal with financial regulation as practitioner is aware of the many unintended consequences of these "rituals" that often do nothing more than keeping us busy and adding to the cost of doing business. Ultimately, the investors pay for this cost in terms of lower long-term returns and a false sense of safety leading to devastating results. One of the many examples I could present is the blatant conflict of interest of credit ratings agencies. Assigning a triple A rating to a CDS (Credit Default Swap) or CMO (Collateralized Mortgage Obligation), getting paid to do so by the institution that issues these CDSs and CMOs and then getting away with not even being questioned about their ratings when everything falls apart just shows how ineffective more rules can be.

With this in mind, we don't need to probe very deep into the details of the stimulus. But we should remember that the guy at the helm of this "rescue effort" cheated on his taxes; or if we give him the benefit of a doubt, he didn't understand the tax law and made a mistake. Either way, how can we entrust him with close to $1 trillion. More importantly, throwing more money at a problem does not guarantee positive results. The first $350 billion already spent within TARP 1 are exactly where? Has anyone found out where the money went? When Tim Geithner spoke this week, the markets reacted unanimously negative because there was no clarity as to what the plan was - a strategy was still being formulated...

If we were to translate this process into drafting a business plan it would look like this: Begin with the end, a final budget amount say $800 billion without a strategy or a plan as to exactly where this money is spent on. When we don't have the details or even parts of the strategy in place how can we come up with an amount of $800 billion? Is that just an arbitrary figure and if so, how can we allow this to go through?

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