New Geography

Blog

  • Blame Wall Street’s Phantom Bonds for the Credit Crisis

    The “credit crisis” is largely a Wall Street disaster of its own making. From the sale of stocks and bonds that are never delivered, to the purchase of default insurance worth more than the buyer’s assets, we no longer have investment strategies, but rather investment schemes. As long as everyone was making money, no one complained. But like any Ponzi Scheme, eventually the pyramid begins to collapse.

    For the last couple of months trillions of dollars worth of US Treasury bonds have been sold but undelivered. Trades that go unsettled have become an event so common that the industry has an acronym for it: FTD, or fail to deliver.

    What’s the result? For the federal government, it’s an unnecessarily high rate of interest to finance the national debt. For states, it’s a massive loss of potential tax revenue. And for the bond buyers, brokerage houses, and banks, it’s yet another crash-and-burn to come.

    First, a primer: The Federal Government issues as many bonds as Congress authorizes (the total value is an amount that basically covers the national debt). Many are purchased by brokers and investors, who then re-sell them in “secondary” trades. The way the system is supposed to work is that the broker takes your bond order today and tomorrow takes the cash from your account and ‘delivers’ the bonds to you. The bonds remain in your broker’s name (or the name of a central depository, if he uses one). If there is interest, the Treasury pays the interest to your broker and he credits your account for the amount.

    What is happening today that strays from this model? Because the financial regulators do not require that the actual bonds be delivered to the buyer, your broker credits you with an electronic IOU for them, and, eventually, with the interest payments as well. But the so-called “bonds” that you receive as an electronic IOU, called an “entitlement”, are phantoms: there aren’t any bonds delivered by your broker to you, or by the government to your broker, or by anyone.

    The significant result of the IOU system is that brokers are able to sell many more bonds than the Congress has authorized. The transactions are called ‘settlement failures’ or ‘failed to deliver’ events, since the broker reported bond purchases beyond what the sellers delivered. Since all of this happens after the US Treasury originally issues the bonds, the broker’s bookkeeping is separate from US Treasury records. That means there is no limit on the number of IOUs the broker can hand out…and there are usually more IOUs in circulation than there are bonds.

    The ramifications are far reaching for the national budget. Wall Street, by selling bonds that it cannot deliver to the buyer — in selling more bonds than the government has issued — has been allowed to artificially inflate supply, thereby forcing bond prices down. These undelivered Treasuries represent unfulfilled demand by investors willing to lend money to the US government. That money — the payment for the bonds — has been intercepted by the selling broker-dealers. The subsequently artificially low bond prices are forcing the US government to pay a higher rate of interest than it should in order to finance the national debt.

    The market for US Treasury bonds has been in serious disarray since the days immediately following September 11, 2001. Despite reports, reviews, examinations, committee meetings, speeches, and advisory groups formed by the US Treasury, the Federal Reserve, and broker-dealer associations, massive failures to deliver recur and persist. Somehow, government, regulators and industry specialists alike believe that it’s OK to sell more bonds than the government has issued. It shouldn’t take a PhD-trained economist to tell you that prices are set where supply equals demand. If a dealer can sell an infinite supply of bonds (or stocks or anything else for that matter), then the price is, technically-speaking, baloney. And the resulting field of play cannot be called a “market”.

    If regulators and the central clearing corporation would only enforce delivery of Treasury bonds for trade settlement — payment — at something approaching the promised, stated, contracted and agreed upon T+1 (one day after the trade), there would be an immediate surge in the price of US Treasury securities. As the prices of bonds rise, the yield falls. This falling yield then translates into a lower interest rate that the US government has to pay in order to borrow the money it needs to fund the budget deficit and to refinance the existing national debt.

    This week’s drop in the yield on US Treasuries was accompanied by a spike in bond prices. The data won’t be released until next week, but you can expect to see that a precipitous drop in fails-to-deliver occurred at the same time. Don’t get your hopes up, though. One look at the chart above will tell you that the good news won’t last until real changes are made to the system.

    As a bonus insult to government, consider the $270 million in lost tax revenues to the states. This is because investors (unknowingly) report the phony interest payments made to them by their brokers as tax exempt; interest earned on US Treasury bonds is not taxed by the states.

    For the bond buyer, the situation poses other problems and risks. As an ordinary investor, you’re not notified that the bonds were not delivered to you or to your broker. Of course, your broker knows, but doesn’t share the information with you because he or she plans to make good on the trade only at some point in the future when you order the bond to be sold.

    The electronic IOU you received can only be redeemed at your brokerage house, and no one knows what will happen if it goes under, although I suspect we’ll find out in the coming quarters as more financial institutions get into deeper trouble. You’re probably not aware that, in order to cash in that IOU when you’re ready to sell, you depend not on the full faith and credit of the US government, but on your broker being in business next month (or next year) to make good on the trade. In other words, you’re taking Lehman Brothers risk, and receiving only US Government risk-free rates of return on your investment.

    Your broker, meanwhile, enjoys the advantages of commission charges for the trade, maybe an account maintenance fee and – more importantly – they use your money for other purposes. Wall Street is not sharing any of this extra investment income with you. In my analysis of Trade Settlement Failures in US Bond Markets, I calculate this “loss of use of funds” to investors at $7 billion per year, conservatively.

    Despite this, rather than require that sold bonds be delivered to the buyer, the Treasury Market Practices Group at the Federal Reserve Bank of New York merely points out FTDs as “examples of strategies to avoid.”

    Now for the really bad news. The tolerance for unsettled trades and complete disregard for the effect of supply on setting true-market prices is also responsible for the “sub-prime crisis,” which everyone seems to agree on as the root of the current global financial turmoil. You see, there are more credit default swaps — CDS — traded on mortgage bonds than there are mortgage bonds outstanding. A CDS is like insurance. The buyer of a mortgage bond pays a premium, and if the mortgage defaults then the CDS seller makes them whole. CDS are sold in multiples of the underlying assets.

    A conservative estimate is that $9 worth of CDS “insurance” has been sold for every $1 in mortgage bond. Therefore, someone stands to gain $9 if the homeowner defaults, but only $1 if they pay. The economic incentives favor foreclosure, not mortgage work-outs or Main Street bailouts.

    In the same process that is multiplying Treasury bonds, sellers are permitted to “deliver” CDS that were not created to correspond with actual mortgages; call them “phantom CDS”. According to October 31, 2008 data on CDS registered in the Depository Trust & Clearing Corporation’s (DTCC) Trade Information Warehouse, about $7 billion more CDS insurance was bought on Countrywide Home Loans than Countrywide sold in mortgage bonds. That provides a terrific incentive to foreclose on mortgages.

    Countrywide is the game’s major player: The gross CDS contracts on Countrywide of $84.6 billion are equivalent to 82% of the $103.3 billion CDS sold on all mortgage-backed securities (including commercial mortgages) and 90% of the total $94.4 billion CDS registered at DTCC sold on residential mortgage-backed securities.

    General Electric Capital Corporation is the fifth largest single name entity with more CDS bought on it than it what it has sold; someone is in a position to benefit by $12 billion more from consumer default than from helping consumers to pay off their debt. Only Italy, Spain, Brazil and Deutsche Bank have more phantom CDS than GECC, according to the DTCC’s data.

    The US auto manufacturers also have net phantom CDS in circulation: $11 billion for Ford, $4 billion for General Motors, and $3.3 billion for DaimlerChrysler (plus an additional $3.5 billion at the parent Daimler). Of course, these numbers change from week to week and only represent CDS voluntarily registered with the DTCC, so the real numbers could be much greater.

    Who stands to gain? There is no transparency for CDS trades, which means that we don’t know who these buyers are. But in order to get paid on these CDS, the buyer must be a DTCC Participant… and that brings us to Citigroup, Goldman Sachs, JP Morgan and Morgan Stanley – all Participants at DTCC and instrumental in designing and developing CDS trading around the world. By the way, these firms are also in the group that reports FTDs in US Treasuries; the top four firms represent more than 50% of all trades. You can do the math from there.

    The US government and regulators are in the best position to end these fiascos, turn us away from casino capitalism, and return our financial industry back into a market. It won’t require any new rules, laws or regulations to fix the situation. If someone takes your money and doesn’t give you what you bought, that’s just plain stealin’, and we already have laws against that.

    Susanne Trimbath, Ph.D. is CEO and Chief Economist of STP Advisory Services. Her training in finance and economics began with editing briefing documents for the Economic Research Department of the Federal Reserve Bank of San Francisco. She worked in operations at depository trust and clearing corporations in San Francisco and New York, including Depository Trust Company, a subsidiary of DTCC; formerly, she was a Senior Research Economist studying capital markets at the Milken Institute. Her PhD in economics is from New York University. In addition to teaching economics and finance at New York University and University of Southern California (Marshall School of Business), Trimbath is co-author of Beyond Junk Bonds: Expanding High Yield Markets.

    More on the US Treasury market’s structural failure: The US treasury market reaches breaking point

  • US Treasury Bonds Sold but Not Delivered

  • cpzilliacus

  • Pittsburgh Turns 250 Years Old Today

    But instead of a nice birthday card, my home town of Pittsburgh could use a sympathy card. It’s been a tough last 100 years for a once great and powerful city.

    The first 150 years were not so bad. On Nov. 25, 1758 British Gen. John Forbes named the city for prime minister William Pitt after chasing the French from the militarily and economically strategic triangle of land where the Allegheny and Monongahela rivers meet to form the Ohio.

    Historically, we started off on a roll, thanks to our strategic location on the rivers, North America’s first oil and gas boom, and lots of coal. By 1909, when social scientist Paul Kellogg cataloged the city’s industrial might in “The Pittsburgh Survey,” he said it was not just “first among American cities in the production of iron and steel” but also “first in electrical apparatus and supplies.”

    “In coal and coke, tin plate, glass, cork, and sheet metal … its output is a national asset,” Kellogg wrote, adding that Pittsburgh’s banking capital exceeded “that of the banks of the North Sea empires and its payroll that of whole groups of American states.” “Here,” Kellogg claimed without exaggeration, “is a town, then, big with its works.”

    Unfortunately, that world famous powerhouse of iron and steel is long gone. Today the Pittsburgh region’s de-industrialized economy runs mainly on providing health care for its aging populace, the education of about 140,000 college students and the construction of taxpayer-subsidized professional sports stadia and mass-transit boondoggles.

    In her 1969 book The Economy of Cities, Jane Jacobs traced the origins of Pittsburgh’s economic downturn all the way back to 1910. But its demise, she claimed, was abetted and accelerated after World War II by its downtown political and corporate powerbrokers. These are the direct ancestors of the civic movers-and-shapers, government redevelopment planners and political hacks who have been mismanaging our city so horribly for the last 20 years.

    The post-WW II power elites cleaned up Pittsburgh’s poisoned three rivers and Venutian atmosphere, but Jacobs said they also worked overtime to protect incumbent steel and manufacturing industries and discourage new industries from being born. They also launched misbegotten urban renewal projects in three poor and/or black neighborhoods – the Hill District, East Liberty and the North Side – whose destructive effects still afflict the city.

    As most Americans know, having its biggest economic eggs in heavy manufacturing turned out not to be such a good long-term plan for Pittsburgh when the steel industry collapsed in the 1970s and 1980s. Its metropolitan population went into its nationally famous free-fall. In 1960, there were 2.4 million people in metro Pittsburgh and 604,000 in the city of Pittsburgh. Metro Pittsburgh was the 12th biggest TV market in the USA. Today, Pittsburgh metro has a population of 2.3 million and – incredibly – there are just 310,000 souls left in a city that peaked in 1950 with 676,000 people. Metropolitan Pittsburgh is ranked 26th today.

    As its population has shrunk, the region has emulated the demographics of Western Europe and Russia. Its population is disproportionately old (24 percent are 65 or older, about twice the national average) and since 1990 more Pittsburghers have died each year than have been born – a net loss of 25,000 people since 2000 alone. It also has fewer foreign-born immigrants (about 3 percent) than any major American metro area.

    This is all the more the shame since the city boasts many priceless assets. These include a relatively low crime rate, great old middle-class city neighborhoods, affordable suburban homes in good school districts, top universities like Carnegie-Mellon and Pitt, major league sports teams, big-time cultural attractions and a beautiful landscape of hills, hollows and wide rivers.

    These assets are one reason why “Places Rated Almanac” crowned it the country’s most livable city in 1985 and again last year. In 1985 The New York Times immediately dispatched a reporter to Pittsburgh to check out the claim and he wrote back that “With its breathtaking skyline, its scenic waterfront, its cozily vibrant downtown, its rich mixture of cultural amenities, its warm neighborhoods and its scrubbed-clean skies, it no longer is the smoky, smelly, gritty mill town of yesteryear.”

    Pittsburgh – which, for the record, hadn’t been “The Smoky City” since about 1950 – is re-discovered by the bicoastal media every few years. Brendan Gill of the New Yorker came here in 1990 and famously raved about the beautiful terrain, the old architecture and ethnic neighborhoods and said if it were a European city people would travel hundreds of miles out of their way to visit it.

    So if the place is so great why are people – especially young people – leaving in droves? For one thing pay scales are low and the general populace, though friendly and unassuming, fully embraces not risk-taking but the two unofficial regional religions – unionism and Steelerism.

    When it comes to pop culture and new retail chain outlets, Pittsburgh’s at least 5 years behind L.A. or San Francisco, which isn’t necessarily a bad thing. Pittsburgh remains a fine city in which to raise a family, grow old and die. What travel writers never seem to notice when they parachute into town however, is the chronically sorry state of Pittsburgh’s public sector.

    A one-party (Democrat) town since 1934, the city of Pittsburgh has been run like Argentina ever since. Over-taxed, over-regulated, over-planned, quick to abuse its eminent domain powers, it’s now virtually bankrupt. Its finances are now overseen by the state. Its budget flirts with red ink each year. On the horizon loom huge pension liabilities that it can’t possibly pay.

    City Hall can barely provide a decent level of basic services. Meanwhile, they find money to subsidize downtown retailers who often go bust and leave. The city’s redevelopment gurus have handed out tens of millions of taxpayers’ cash to private businesses. The most recent example was giving PNC Financial $48 million in public subsidies to build its new and superfluous skyscraper downtown where vacancy rates, pre-recession, stood well in the double digits.

    Pittsburgh’s public school district is equally inept and even more expensive. It spends well over $20,000 a year per student while enrollment – nearly 40,000 in 1998 – is down to 26,600 and falling. The graduation rate is 64 percent, according to a recent Rand Corp. study. Local school and property taxes are among the highest in the country.

    The region’s roads and parkways are in bad shape – can you spell p-o-t-h-o-l-e? – and designed for 1950s traffic counts. The city of Pittsburgh’s parking tax could be the highest on Earth – 40 percent. City firefighters have some of the highest public salaries in town – and trade their votes for sweetheart contracts.

    The poster child for mismanaged government bodies, however, is Pittsburgh’s public transit monopoly, the Port Authority of Allegheny County. For the last 20 years, as its ridership has fallen steadily and its annual budget has hit $350 million, it consistently enriched its union workers and managers with high salaries, super-generous benefits and pensions.

    Port Authority budgets have outpaced inflation since 1980 and with fares covering about a third of operating costs, it has had to ask for higher and higher subsidies from the state to keep its mostly empty buses lumbering around town. Since the late 1970s, it has spent upwards of $2 billion (in current dollars) on three dedicated busways and a rinky-dink light-rail system that serves about 12,500 suburban round-trip commuters a day.

    The transit agency’s proudest boondoggle, however, is the North Shore Connector, aka “The Transit Tunnel to Nowhere.” Arguably the premier transit boondoggle in North America today, it’ll cost $435 million (a low-balled figure that hasn’t been adjusted to reflect reality in several years) for a 1.2-mile twin light-rail transit tunnel under the Allegheny River from Downtown to the taxpayer-subsidized pro sports stadiums and not far from the new casino.

    The tunnel’s construction currently is tearing up a huge chunk of the North Shore between PNC Park and Heinz Field. It is projected (most dubiously, of course) to carry 16,000 passengers a day – by 2030. A local think tank, the Allegheny Institute, worked out the per-trip subsidy to be $15.50. Set to be completed in 2011, it will be a miracle if the project comes in under $600 million.

    Today Pittsburgh’s regional economy is what it’s been for the last 40 years – stagnant at best. Yet perversely, but predictably, its civic boosters are trying to sell the anemic economy as something to be thankful for because it is “recession-proof.” Since Pittsburgh never had a housing bubble, the spin goes, the foreclosure crisis will hardly affect it. Because Pittsburgh has all those extra citizens on Social Security, the economic meltdown will be less severe. Maybe becoming a morgue might be even safer.

    Yet somehow the local spinmeisters continue to put a bright spin on Pittsburgh’s century-long death spiral. For example, USA Today recently cranked out a big upbeat feature on how wonderful Pittsburgh is – without mentioning such unseemly things as high taxes, bankruptcies or out-of-control government agencies.

    And on Sunday, Nov. 23, the Cleveland Plain Dealer – hometown paper of a city arguably in even worse shape – published a similarly glowing piece of chamber-of-commerce journalism with the headline “Pittsburgh’s renaissance holds lesson for Cleveland.” It began with the sentence “The city that once defined rust belt decay might show the rest of the nation how to weather a recession.”

    True to form, it went on to say that while the rest of the country “reels in debt and despair, Pittsburgh is on the move: A new $200 million downtown office tower, upscale condos, a casino, a new hockey arena and a riverfront convention center.”

    What the Plain Dealer never bothered to note, of course, was that the office tower, the pricy condos and the hockey arena were not being built in downtown Pittsburgh because they actually made economic sense. They were being built only because local politicians had handed millions of dollars in public subsidies to their private, well-connected owners. If this is the road to an urban renaissance, it’s certainly an expensive one. Most likely, it will prove the path to yet another dead end.

    Bill Steigerwald, born and raised in Pittsburgh, is a former L.A. Times copy editor and free-lancer who also worked as a docudrama researcher for CBS-TV in Hollywood before becoming an associate editor and columnist for the Pittsburgh Tribune-Review.

  • Bill Steigerwald

  • Michigration: It’s Not About Out-migration in Michigan

    Pertaining to brain drain hype, Michigan has no equal. So profound is the out-migration that a local broadcasting network coined a term: Michigration. This was in January of 2008. I did a little digging and discovered the fuel for the story was a United Van Lines study about Michigan’s net loss of residents.

    Net population loss is often confused with emigration. Upstate New York, another brain drain case for a future article, is no exception. The Federal Reserve Bank branch in Buffalo issued a report that tried to clear up the confusion, explicitly stating the challenge is attracting more people instead of the assumed issue of retention.

    Michigan is in the same boat. There is nothing remarkable about the rate of out-migration from the state. What is shocking is the lack of newcomers. Most of the Rust Belt has a problem with a distinct lack of in-migration.

    Another oversight of the media is the aging population. Rarely does natural decline make the news. Of course, that “problem” doesn’t lend itself to political gain. That is too bad because making better use of an aging workforce is a missed opportunity. Shouldn’t talent retiring in Michigan be celebrated?

    A third misconception about shrinking cities is that the best and brightest are heading to hip out-of-state destinations. The truth is many graduates go no further than the suburbs, resulting in the donut pattern of urbanization. Those that venture beyond likely end up in the next state over, not halfway across the country. A lot of talent moves from one Rust Belt city to another. Much of the rest – although perhaps not the offspring of the remaining economic and cultural elite – shifts to those areas that have been creating jobs, particularly places like North Carolina, Texas and, before the recent bust, Arizona and Florida.

    In and of themselves, reports of Michigration are harmless. But popular perception is often used to push various initiatives such as Michigan’s Cool Cities:

    Building vibrant, energetic cities that attract jobs, people and opportunity to our state is a key component of Michigan Governor Jennifer M. Granholm’s economic vision for Michigan. Governor Granholm kicked-off the “Cool Cities” initiative in June, 2003 throughout the state, in part as an urban strategy to revitalize communities, build community spirit, and most importantly, retain our “knowledge workers” who are leaving Michigan in alarming numbers.

    The promise is that cooler cities will keep talent from leaving the state. I challenge Governor Granholm to list the top-10 Cool Cities in the United States and their respective out-migration rates. How do Michigan cities compare? How do you quantify “alarming numbers”?

    US cities with the fastest growth rates in population tend to have the highest rates of emigration. Ironically, shrinking cities have relatively weak out-migration. Furthermore, the college educated are much more likely to leave any state or metro than people with just a high school education. Knowledge workers leaving Michigan is normal. The low number of knowledge workers arriving, from out of state, is abnormal. Neither better urban place-making nor more tolerance on its own shows any strong positive correlation with less brain drain. In fact, the opposite may be true. Cool Cities simply hasn’t delivered.

    We do understand that knowledge workers are geographically fickle. But Governor Granholm fails to put the attraction of talent on top of the agenda. She continues to play to fears of Michigration as justification for significant investment in the state’s cities. I’m not anti-urban. On the contrary, I’d like to witness the revitalization of Rust Belt downtowns. But sprucing up an aging downtown in a region with massive job losses will not get the job done.

    The most promising research I’ve read comes from Edward Glaeser, an urban economist at Harvard University. The best investment of public money would seem to be in human capital, education. What would attract well-educated parents would be better schools, something the suburbs have mastered. Inner city Detroit’s main competition for talent is the communities ringing around it.

    Michigration will not be stemmed by being “cool” but by providing some sort of opportunity for a decent middle class life. If Michigan could combine its excellent Universities, skilled workforce and low housing costs with a decent business climate, and significant school reform, perhaps the state would again become a beacon for entrepreneurs and knowledge workers.

    Read Jim’s Rust Belt writings at Burgh Diaspora.

  • King Bloomberg: New York City Mayor Run Amok

    When Mayor Bloomberg deployed his vast personal and political power to overturn the term limits law, he began to demystify the public relations image he had purchased at considerable expense.

    It was only then that New Yorkers began to recognize the danger of making Gotham’s wealthiest man its chief executive. That recognition is the reason his approval rating slipped by nine points in the latest Marist poll. The public chose a mayor; they didn’t expect an elected monarch.

    The latest furor over his unaccountable power is his unlawful refusal to send out property tax rebate checks that have been due since Oct. 1. “We have no money . .. . this is not a legal issue, it’s a fiscal issue,” he says, an argument that boils down to “I know better.”

    But the cupboards are bare because Bloomberg has emptied them for his own political ambitions. While the stock market was heading south, Bloomberg, one eye on a potential presidential run, raised his approval numbers by expanding the city payroll. Since 2004, he has hired at least 40,000 new city employees, while bringing his own mayoral staff to record levels.

    Similarly, to help clear the way for a third term, Bloomberg has been shoveling out considerable money in the form of newly negotiated union contracts with the Policeman’s Benevolent Association, DC37 and the Corrections Officers that run above the rate of inflation. If it wasn’t above an elegant gentleman such as the mayor to stoop to such measures, you might call this what Tammany Hall did: vote buying. Bloomberg is only too happy to raise property taxes on the unorganized middle class if that’s what it takes to keep the power of the city’s politically well-organized unions in his corner or on the sidelines come election time.

    *

    People assume that because of his successful career in business, Bloomberg is a manager and not a politician. That gets things exactly backwards.

    As mayor, he’s been little interested in management. When the Staten Island Ferry crashed, killing 11 people, the politically well-connected Transportation Commissioner was spared a reprimand, let alone fired. When the mayor was informed that a set of subway switches had burned out and couldn’t be replaced for months or even years, guaranteeing massive delays, Bloomberg nonchalantly said fine, that’s the way it will have to be. He reversed himself only after howls of public protest. When a blackout produced by Con Ed incompetence left more than 100,000 Queens residents without electricity for a week, Manager Mike declined even to visit the affected areas until the press began to hound him. Even then he declared, “I think [Con Ed CEO] Kevin Burke deserves a thank you from this city. He’s worked as hard as he can.” It took 13 construction-related deaths before the mayor was moved to replace the City Building Commissioner.

    Bloomberg touts himself as a CEO who can negotiate the best deal for the city. But part of running the city includes bargaining with people he can neither give orders to, nor buy like the City Council. That’s made Bloomberg a singular failure in Albany, where the mayor tried to steamroll his ill-conceived congestion pricing plan through the Assembly. The plan, which seemed designed as much to provide Bloomberg with a green issue for his presidential campaign as to decongest Manhattan, met with a skeptical response. Bloomberg’s reaction was to blame his defeat on “gutless” opponents. While arguing over whether to reauthorize Off Track Betting, the Mayor clashed with the normally mild-mannered Governor Paterson, whose support is essential for the city; Paterson came away describing the mayor to the Post’s Fred Dicker as “a nasty, untrustworthy, tantrum-prone liar who has little use for average New Yorkers.”

    While Bloomberg has been little interested in management, he has been superbly self-promoting. Early on he sold credulous journalists on the idea that he was a post-partisan mayor, a man who rose above conventional party politics. This is in a sense true. He has been only too willing to buy support from either of the major parties to achieve his own ends. A self-described “liberal Democrat,” he shipped out with the Republicans under a flag of convenience in order to run for mayor in 2001. He then abandoned the GOP to become an independent, and his staff is now exploring the chances of his running as a Democrat for re-election in 2009.

    But talk of party labels misses the point. Bloomberg runs his own personalized political party. He is not so much bi- or non-partisan as his own political pole, one that offers Michael Bloomberg as the sole program.

    *

    The traditional danger with party candidates is that they can be bought up by special interest groups. Bloomberg reverses the old game; he’s won office by buying up the interest groups.

    When in office, Bloomberg – like most mayors – used public funds to keep the organized interests happy while putting the city at fiscal risk. But Bloomberg adds a twist, by dipping into his own vast treasury to buy support through “anonymous” gifts to non-profit institutions.

    For years, our so-called “business savvy” mayor has only one strategy: Spend. In 2007, the city took in 41% more in taxes than it did in 2000. And yet that wasn’t enough to cover Bloomberg’s gargantuan vote-buying spree. During Bloomberg’s first six years as mayor, notes The Manhattan Institute’s Nicole Gelinas, city spending shot up about 50% – from $41 to $62 billion. That meant that even in the midst of an unprecedented boom, Bloomberg’s genius required the city to incur record levels of debt.

    One method of buying support has come in the form of lavish subsidies to his wealthy developer friends. Early in his administration, when Bloomberg was still presenting himself as a reformer, he promised to end the practice of “bribing companies” to stay in New York. Yet that is exactly what he did in the case of developer Jerry Speyer, part owner of Yankees, who is building the New Yankee Stadium, and Fred Wilpon, owner of the Mets. Between direct and indirect subsidies the city is committed to spend nearly a billion dollars on the two very profitable teams in what amounts to a transfer of money from working stiffs into the pockets of the wealthiest New Yorkers.

    The Industrial Commercial Incentive Program, meanwhile, designed to retain business that might flee the city’s onerous taxes, has doubled under Bloomberg. Today roughly 6,000 business received a half a billion dollars in the kind of rebate relief that the mayor now wants to deny to middle class homeowners.

    For those who object to his tax strategy, Bloomberg always has the same response: “we’re just not going to return to the dark old days of the ’70s, when service cuts all but destroyed our quality of life.”

    It’s not clear if this argument is willfully ill-informed or merely self-serving evasion. But it was John Lindsay’s tax hikes in the years leading up to the fiscal crisis that sent the city spiraling down into effective bankruptcy. The upshot was that in the 1970s, the city work force faced major layoffs, which only deepened the downturn. We’re again headed down that path. Even as Bloomberg hikes the wages of senior workers who are crucial to the leadership of their respective unions, and hence Bloomberg’s royal re-election bid, he’s threatening sizeable layoffs for the newest hires.

    The city was only rescued from the Lindsay/Beame policies when the stock market revived in the early 1980s. That was the beginning of the long boom built on highly leveraged financial firms that has now come to a definitive end.

    Bloomberg is so committed to his ideal of the “luxury city” run by and for the wealthy and organized interest groups that the Wall Street collapse took him completely by surprise. Like Lindsay’s successor, the hapless Abe Beame, Bloomberg seems not to understand what’s happening around him. His budget projections are based on the notion that the future economic path will be shaped like a U, but it’s more likely to look like an L.

    New York, which became ever more dependent on Wall Street’s high rollers to create each new job a thousand-dollar meal at a time, is going to have to rethink its economic future. Wall Street as we knew it is never coming back. The high taxes and over-regulation Bloomberg prefers pushes out the small- to medium-size businesses that will have to drive much of our economic growth in the future.

    *

    We’re likely to look back on the Bloomberg years as a time of lost opportunities to build on the gains of the Giuliani years. Between 2003 and 2007, the vast flow of revenues produced a boom that gave the city a chance to dig out from under its massive debt and restructure its labor contracts. Instead, Bloomberg’s agenda added costs that will plague the city long into the future.

    There is no better monument to Bloomberg failures as a CEO – of his arrogant inability to negotiate, of his purchased reputation – than with New York’s education system.

    Bloomberg, who has had whole subway cards plastered with ads and full-page spreads in the newspapers touting his educational “achievements,” has done a far better job of promoting himself than improving the schools. He has nearly doubled the education budget. Yet his “reforms” have created considerable chaos in the schools, which have now been re-organized three times to little educational effect. What the changes haven’t produced, Bloomberg’s vast PR operation notwithstanding, is improvement on the national education tests. His education legacy to date: the debts that will have to borne by a work force ill-prepared for the economy to come.

    Bloomberg says he’s beyond politics. He’s right. We’re living in his monarchy, subjects to his unwavering faith in himself.

    This article appeared originally in the NY Post.

    Fred Siegel, senior fellow of the Manhattan Institute’s Center for Civic Innovation, is writing a book on the making of modern liberalism.

  • Understanding the Geography of the 2008 Election

    Scholars as well as pundits and politicians will study this remarkable election exhaustively. Many, including me, will use county data, because they are convenient and available. From a statistical point of view, counties are lousy units, because of huge variation in size and excess internal variability. But we can’t resist, so here are some at least suggestive findings.

    First, what correlates with the percent voting for Obama? By far the strongest variables are negative – characteristics associated with voting Republican: a county’s share of husband-wife families (-.64), the rate of home ownership (-.55), percent working in craft occupations (-.52), and religious membership (-.51) all work against Obamamania. Other high negative correlations were with percent rural (-.48), with percent white (-.47), other positive were median rent (.45) and percent foreign born (.45). These are not at all surprising, and are what the exit polls told us.

    The highest positive correlations for Obama lay in percentages of non-family households with 2 or more persons (partners, roommates, .50), percent in urbanized areas (.49), or using public transit (.48), and percent with a BA or higher degree (.46). What these figures highlight is the continuing basic polarization between large metropolitan (+ variables) and non-metropolitan (- variables) areas, and simultaneously between the more modern and diverse character of the big city and the more traditional and conservative values of much of non-big city America.

    But, you may protest, we thought race, ethnicity and age played a big role in this election? Indeed, they did, but the correct dependent variable should be the degree of change in the share voting Democratic. In other words, what helps distinguish the 2008 from the 2004 results? The largest effect, of course, is simply the quite large 5-6 percent shift in national sentiment because of economic uncertainty and disillusionment with the Republican regime.

    But beyond that, the pro-Obama variables tend to be the percent of women in the labor force, percent with a BA degree, median household income (yep, time to toss out the traditional wisdom of Republicans being the party of the ‘rich’), non-family households, professional-managerial occupations, and, yes, percent Hispanic, percent Black and percent aged 25-34. In contrast variables leading to a lesser shift, no shift, or even more Republican, were again church membership, percent rural, percent in crafts jobs, and percent 45-64 or over 65, and percent with less than a 9th grade education.

    Overall, education, occupation, age, race and ethnicity help us understand Democratic strength in large metropolitan America and also in rural and small-town American Indian, Black and Hispanic areas, especially in parts of the South and West. But areas and regions with a less educated and professional populace, with higher rates of religious persuasion, with fewer women in the labor force, and with older populations remained loyally Republican. This helps us understand the resistance to Obama and the Democrats in Appalachia and across the border South, from WV, through KY and TN, AR, LA and OK.

    An interesting geographic phenomenon should be noted: the emergence of Chicago and the upper Midwest as part of the new Democratic coalition. Metropolitan Chicago provided Obama with a margin of almost 1.5 million votes, more than New York or Los Angeles. This presaged a gigantic increase in Democratic margins throughout the upper Midwest, including IN, IL, MI, WI, IA, and MN. In this one part of the country more than 150 counties moved from the Republican to the Democratic column. In addition to the big shifts on the coasts, this is where Obama gained the most ground.

    If this pattern continues, the Democrats may well have achieved a critical mass in their core support, adding a powerful upper Midwest base to their almost total control of both coasts. These would leave the GOP with little more than the heart of the Old Confederacy – even that is threatened in places like North Carolina and Virginia by modernization – as well as more socially conservative regions such as Appalachia and parts of the Great Plains. It’s not a pretty picture if you are a Republican.

    Richard Morrill is Professor Emeritus of Geography and Environmental Studies, University of Washington. His research interests include: political geography (voting behavior, redistricting, local governance), population/demography/settlement/migration, urban geography and planning, urban transportation (i.e., old fashioned generalist)

  • Voting Shift Map, Change in Margin of 2008 Presidential Election

  • California’s Inland Empire: Is There Hope in the Heart of Darkness?

    Few areas in America have experienced a more dramatic change in fortunes as extreme as Southern California’s Inland Empire. From 1990-2008, the Inland Empire (Riverside & San Bernardino counties) has been California’s strongest job generator creating 20.1% of its employment growth. The area also consistently ranked among the nation’s fastest growing large metropolitan areas. However in 2008, the mortgage debacle has sent this area, which had not seen year-over-year job losses in over four decades, into a steep downturn. Understanding what happened and how to put the region back on its historical growth path offers an important public policy perspective not only for the Inland Empire but for other once fast-growing metropolitan areas.

    The Economic Problem. The California Employment Development Department (EDD) reported an Inland Empire loss of 17,900 jobs from August 2007-2008. The bulk of this was directly tied to the housing meltdown. Within shrinking sectors, the loss was 32,600 with 82% (26,800) tied to the demise of residential construction. This included construction losses (-16,000); non-vehicle manufacturing (mostly building materials: -5,600), non-vehicle retail sectors (mostly furniture or home supplies: -3,200); and financial groups like escrow, title, insurance and real estate (-2,000). By September 2008, unemployment was 9.1%, the highest in 49 metropolitan areas with over 1,000,000 people.’


    Note: EDD’s report is an underestimate as more accurate U.S. Bureau of Labor Statistics data show the area began 2008 with job losses 61.7% higher than EDD’s estimates.

    Housing Market Creates A Recession. Some history is necessary to understand how the housing sector got into trouble and set off the inland recession. The last housing downturn ended in 1996. Analysts agree that from 1997-2003, California’s many building restrictions prevented housing supply from matching demand by families needing homes. Prices rose to chase away excess potential buyers:

    • Seasonally adjusted homes sales rose from 13,227 quarterly units in early 1997 to 25,328 by late 2003, an annual rate of 10.1%.

    • In this period, median price increased from $105,643 to $246,807, an annual rate of 12.9%.

    Starting in 2004, speculators began wanting to capitalize on these 12.9% gains by buying and flipping homes. Simultaneously, foreigners awash in dollars from U.S. trade imbalances started flooding investment markets with cash looking for “safe” returns. A belief that home prices never fall led to the development of variable rate mortgages with extremely low “teaser” rates and loose underwriting standards, plus AAA rated mortgage backed securities based on them. The low rates financed the speculators and convinced many families to buy over-priced homes or borrow newly found “equity.” Thus:

    • Median home prices increased even more aggressively from $246,807 in late 2003 to a $404,611 peak in third quarter 2006, up at a 19.7% compound rate.

    • Seasonally adjusted sales increased from 25,328 in late 2003 to a peak of 29,670 in fourth quarter 2005, up a modest 2.29% compound rate.

    • However, by first quarter 2006, volume began declining as affordability reached just 18% and even speculators no longer saw much upside.

    • By the price peak in third quarter 2006, seasonally adjusted sales were down 27.6% to 21,478 units.

      Once the fall in demand became evident, median prices started down. The descent began slowly. However, by mid-2007, with the myth of ever-rising prices debunked:

      • Housing demand plunged.

      • Housing supply took-off as sub-prime mortgages began resetting from teaser to market rates with investors and homeowners trying to sell homes they could no longer afford.

      • Price declines thus accelerated causing ever more homeowners to be upside-down on their homes.

      • Unable to sell, many houses entered foreclosure and were aggressively marketed by the lenders, further accelerating price declines.

      By 2008, the market began changing:

      • Supply, with 60% of inland activity from foreclosures, continued to overwhelm demand with prices falling to a median of $237,784 by third quarter, equal to the mid-2003 level.

      • Demand hit a trough in late 2007 at 11,398 units. By third quarter 2008, lower prices caused it to rebound to 18,453, up 61.9%, equal to volume in 2001.

      • Demand rose as inland housing affordability reached 50% (assuming 3% down, 6.19% mortgages, 1% taxes, $800 property insurance, 0.5% FHA insurance, payments 35% of income).

      Crucially, by third quarter 2008, home construction all but halted as price competition from foreclosures caused developers to lose money on every unit built -even with land treated as free. Hence, the steep downturn and a 9.1% inland unemployment rate. In the short run, conditions will worsen as office construction stops once existing projects are completed. Already, the loss of tenants in fields like escrow and finance has pushed vacancies from 7.0% to 19.9%.

      The Routes Out? With the Inland Empire’s construction sector shutting down, economic hardship has spread far beyond those whose terrible decisions created the crisis. This is also is true in numerous markets, particularly in Arizona, Florida and Nevada.

      Until national action reduces the rising flow of foreclosures into the supply side of the nation’s housing market, supply will continually overwhelm demand sending prices downward. Residential construction will not return until markets see fewer foreclosures and prices move to higher levels. Two strategies are available:

      • Mortgage servicers can lengthen the term of mortgages and reduce rates. allowing families to afford staying in homes. However, given the principal owed, they will not be able to move until prices return to recent highs. Many are thus walking away.

      • Servicers can reduce the principal owed, allowing families to refinance and both remain in their homes and have equity in them.

      Modern housing finance has generally barred the second and more effective strategy. When banks originate mortgages, they typically sell them to Fannie Mae, Freddie Mac or investment houses to get their money back and make more loans. They are paid to service loans they no longer hold. Meanwhile, secondary mortgage holders often formed them into groups and then sell “mortgage backed securities” (MBS) worldwide. Both the originating bank and those creating MBS’s signed contracts barred them from harming investors. Unless a servicer owns 100% of a mortgage or MBS, they cannot lower mortgage principals.

      Unless national policy can convince secondary mortgage holders and/or MBS investors to allow the principal owed them to be reduced, the foreclosure crisis and residential construction depression will persist … prolonging the recession. The state attorneys general, Congress, some major banks and the FDIC have tried to lure mortgage investors to allow this or to buy them out. The results have been very mixed. The idea of allowing bankruptcy judges to lower principals has been offered as a club to force this result. Yet this raises fear of long term damage to international belief in the consistency of U.S. contract law.

      Finally, at the local level, officials could favorably impact construction costs through the developer impact fees imposed on new homes. These are justified by the need to build the infrastructure required by population increases. Inland Empire fees are $40,000 to $50,000 per home. An analysis shows that at today’s low prices, a fee holiday of 80% by local agencies and 40% by schools would put the industry profitably back return to work. The re-imposition of fees could be tied to an index like median existing home prices.

      So far, the reaction of local decision makers has been that this is legally, programmatically and politically impossible. Their traditional worry is not having the money to build the infrastructure needed as new homes cause population growth. However, for construction dependent economies like the Inland Empire, the choice appears to be temporarily foregoing such funding, or finding a broader source of infrastructure financing. Otherwise, they must face the reality of a multi-year deep recession with double digit unemployment.

      John Husing, Phd. is president of Economics & Politics, Inc. based in Redlands, CA