New Geography

Tag: Financial Crisis

  • Let’s Snooker The TARP Babies

    Snook, Texas, a town of less than 600 souls, is best known for being the home of Sodalak’s Country Inn, the originator of country fried bacon. It may seem an odd place to launch a return to financial health, but that’s exactly what Dean Bass has in mind.

    Bass, a veteran banking entrepreneur from Houston, in November bought the tiny First Bank of Snook as part of his plan to build a new financial powerhouse amid the worst economic downturn in a generation. The old bank, which also had a branch 15 miles away in College Station, home to Texas A&M, provided Bass with his charter, as well as access to a strong market on the far periphery of his home town.

    Since buying into Snook’s bank, now renamed the Spirit of Texas Bank, Bass opened a new branch in the Woodlands, northwest of Houston. Over the past six months, the new bank’s assets have doubled to over $70 million, and by the end of the year he expects to break $100 million. Longer-term plans include expanding as well into Austin, Fort Worth and other major Texas markets.

    Bass’ basic strategy: Take advantage of the stumbling TARP-funded banking giants and steal what he calls their “disenfranchised customers.” This approach has implications well beyond the Lone Star State. Like other successful community bankers across the country, Bass believes that the mega-banks have been hopelessly tarred by TARP taxpayer funds. They have been revealed to be, if too big to fail, also too incompetent and poorly run to trust.

    “This is one of the worst banking markets I have ever seen–but the best for people like me,” said Bass, who sold his last venture, Houston-based Royal Oaks Bank, for $38.6 million in 2007. “When else would you see A+ customers fleeing places like Bank of America, Chase and Citi? People can’t even understand their balance sheets and stress tests. Their customers are ready to move on.”

    Over the next few years, the emergence of banks like Spirit of Texas could prove the silver lining in the largely bungled Bush-Obama bail out of the big financial companies. Ironically, the attempt to shore up the mega-dinosaurs has revealed these mega-banks to be creatures of little brain and even less principle. They now seem more akin, as economist Simon Johnson has pointed out, to Third World crony capitalists than paragons of free enterprise.

    In comparison, independent, non-TARP banks like the Spirit of Texas appear like paragons of traditional capitalist virtue and homespun values. For the time being, their rise will be most notable in “the zone of sanity,” the vast range of territory between south Texas to the Great Plains, which largely resisted the housing and stock asset bubbles of the past decade.

    In this region, most homes are well above water and many businesses–in everything from agriculture and energy to manufacturing and high-end business services–remain on solid footing. Of course, notes Randy Newman, president and CEO of Grand Forks, N.D.-based Alerus Financial, many local companies have been slowed by the recession. However, for the most part, places like the Dakotas and Texas enjoy relatively low unemployment and foreclosure rates, making them relatively good places for cultivating new customers.

    Politics and a sense of propriety also may play a role for resurging community banks. In places like the Great Plains, people prefer old-fashioned shots of banking fundamentals to the exotic financial cocktails concocted by the “genius” financiers on the coast. Politicization of banking is even less popular than elsewhere.

    “For the government to come out and stimulate the economy seems OK, but you think, jeepers, this TARP business makes little sense,” says Newman, whose bank enjoys assets of roughly $750 million. “TARP,” he adds, “is simply prolonging or delaying what has to happen. The walking dead will have to die sometime.”

    Uncertainty about the big banks, Newman believes, is leading customers, particularly smaller firms, to rediscover the merits of old-fashioned relationship banking. At banks like his, each loan is scrutinized not only by formula but also by things such as character, markets and a firm’s record of accomplishment.

    “The big banks will tweak their standards system-wide. There are no individuals in their book,” says Newman.” The big banks are geared to mass markets and big customers. But if you are looking at the $1 to $5 million loan a small business wants, the big bank does not look at you as an individual.”

    This up close and personal approach may seem laughably archaic to the once-celebrated “genius” quant jocks and bonus baby M.B.A.s on Wall Street–and perhaps also the brainy financial types running the Obama economic team. Yet if a sustainable private sector economic recovery is to take hold, the key may well lie with smaller bankers who can help small firms survive the recession

    Of course, the administration’s favoritism of the big boys also creates some real problems to community banks. Some fear the mega-banks will use TARP funds to acquire better-run, local institutions. Newman calls this prospect a “travesty.” Given their awful real balance sheets, Newman believes, banks like Citicorp and Bank of America “really shouldn’t be in a position to grow, much less expand.”

    So here’s a better course. Let these giants shrink or even fail. Let their insured depositors seek out new banking relations; with the stronger, well-run community banks. It’s widely believed that some 500 to 1,000 smaller banks may fail in the next year or so, so why not some big boys, too?

    Many economists, both right and left, including Nobel Prize winner Joseph Stiglitz, have urged this course. It would pave the way for well-run banks to expand at the expense of the incompetent and venal. Competition, after all, is supposed to be the basis of capitalism.

    Right now, the zone of sanity probably offers the best chance for this capitalist revolution. However, the shift to smaller banks may prove even more important in reviving the epicenters of lunacy, such as my adopted home state of California. Here, little banks like the privately held Montecito Bank and Trust are quietly expanding as customers leave the TARP babies for an institution a little more personal and grounded in sound banking principles. “Better boring than broke,” jokes Janet Garufis, Montecito’s president and CEO.

    It also helps to be local, she notes, even in a mega-state like California. Much of the damage to the TARP banks came when they bought into sliced and diced mortgages in locations they didn’t know. It turns out that local knowledge counts–not only in real estate, but in deciding about the right business to back.

    “The differences between a big-box bank and community are the difference of night and day,” suggests Garufis, who spent 35 years with Security Pacific, a onetime L.A. area powerhouse. “People like to see the whites of the eyes of the people they are doing business with. We know the community. We are part of it, and we understand what is going on here.”

    Of course, being local, smart and disciplined may not be enough for all these upstart banks. The failures of the mega-banks have increased the costs of things like FDIC insurance for even well-run institutions–in Montecito’s case, from $400,000 to $1.2 million over the past year. Equally challenging, TARP funds are helping the big boys offer slightly higher rates for mass-market products like CDs.

    Rather than focus on saving their Wall Street friends, the administration needs to allow an upsurge in smarter, smaller and better-run banks. Let us give these grassroots capitalists a chance and see what they can do.

    The road to a financial and economic recovery does not run through Wall Street and K Street, which, after all, are the primary originators of our distress. It lies in places that look more like Snook–even if country fried bacon is not to your taste.

    This article originally appeared at Forbes.

    Joel Kotkin is executive editor of NewGeography.com and is a presidential fellow in urban futures at Chapman University. He is author of The City: A Global History and is finishing a book on the American future.

  • Who’s Watching AIG?

    The House Committee on Oversight and Government Reform held a hearing Wednesday – “AIG: Where is the Taxpayer Money Going?” Questions are being raised about whether the bailout better serves the interests of AIG’s customers and trading partners or the interests of U.S. taxpayers.

    The highlight of the Committee’s questioning of Chairman and CEO Edward Liddy came when Chairman Town (D-NY) asked the blunt question: “Why would you give retention bonuses to AIG employees who failed? Plus, the economy is so messed up, where would they go?” On the minds of many committee members were the facts that AIG got $70 billion in TARP money, $50 billion through the Federal Reserve Bank of New York’s Maiden Lane LLC and another $60 billion directly from the Federal Reserve Bank of New York (the FRB-NY’s AIG Credit Facility). When compared to the fact that AIG is currently worth just $5 billion, the repeated question became: “How will taxpayers be repaid?” Mr. Liddy pointed to the value of some subsidiaries and other assets that can be sold off, but he had to admit that the timing and possibility of AIG repaying taxpayers really “depends on the economy and the capital markets.”

    The Trustees of the AIG Credit Facility Trust testified in the second panel. The Trustees were named by the Federal Reserve Bank of New York, under then-President Timothy Geithner, in September 2008. The panel included one non-Trustee – Professor J.W. Verret of George Mason University School of Law. Professor Verret expressed concern over the form of the AIG trust agreement: “I am concerned by the AIG trust because of the precedent it sets. Secretary Geithner has announced his intention to create another trust to manage the Treasury’s investment in Citigroup as well as other TARP participants. If the AIG trust, crafted during the Secretary’s tenure as President of the New York Fed, is used as a model for these new entities, the risk to taxpayers will be multiplied many times over. “ Professor Verret raised three specific problems with the agreement: 1) the agreement specifically expects the Trustees to act in the best interest of the U.S. Treasury, not the U.S. taxpayers; 2) the Trustees cannot be held liable for their actions; and 3) the Trustees can invest on information they gain in the course of their duties.

    At the end of the hearing, the final question went to Representative Norton (D-D.C.). Too many of the AIG Trustees also serve or have served as directors and officers to other TARP recipients. Ms. Norton noted that all of the witnesses are connected to Wall Street and all know each other. Evidently, one of the Trustees, Jill Considine, is involved with a Bermuda company that provides services to hedge funds. Ms. Considine was uncomfortable naming the hedge funds that benefit from her advice because the Bermuda company is private – it is also foreign. Considine took Norton aside when hearing ended, engaging her in an animated conversation – off the record, of course.

    It seems evident that some of the Trustees didn’t recognize the risks AIG was taking when they were in a position to have close contact with not only AIG but their counterparties – those final recipients of the bailout money. If the Trustees missed the AIG risk then, when they were regulators in the self-regulatory industry and serving on Boards at the Federal Reserve Banks, then what can we expect from them now?

  • Lenny Mills to Urban America: Clock Is Ticking for Ranks of ‘New Homeless’

    I always do my best to make time for Lenny Mills because he’s earned that sort of consideration.

    Mills is the fellow who wrote several pieces under the banner of his trademark “7 Rules” outline, where he applies the tricks he learned as a telemarketer to analyses of real estate development, politics, and other matters.

    Mills did an especially fine job on the “7 Rules of Downtown Gentrification,” which appeared in the Garment & Citizen’s issue of April 21, 2006. He laid out a number of reasons – seven, to be exact –to consider the possibility that the residential real estate boom ringing through Downtown Los Angeles back then would eventually turn into a busted bubble.

    Events have certainly borne out Mills’ prediction, so he brought credibility with him on his latest visit to my office.

    Mills waved a recent copy of USA Today at me, saying that he’s worried about the sort of folks who were featured in a recent front-page story in the national publication, a piece that described the circumstances of some of “the new homeless.” These are individuals who worked steadily their whole lives before hitting the skids and losing their homes in the current economic downturn. It’s a trend that has become familiar these days, with homeless encampments cropping up in all sorts of places, including Los Angeles.

    Mills has some added credibility when he speaks about homelessness – he spent a number of years living on the streets. He knows what it means to go through life with a weather-beaten face, watching opportunities slip away for lack of a telephone number to leave behind when seeking work.

    Mills has a place to live now, but he remains determined to inject his warnings about the new homeless into the public debate. The clock it ticking, he says, and the deterioration that comes with life on the streets will make it harder and harder for folks to climb back into mainstream lives. Once the wardrobe starts to fray, he says, the odds against getting back on track grow longer. Once the teeth start to go, he adds, homeless individuals can just about write off any return to the life they once knew. Each bit of deterioration makes it tougher for the homeless individuals – and more likely that they will become permanent burdens to the rest of us in one way or the other.

    Mills is remarkable in a number of ways, including the ability he mustered to retain his social skills during his time on the streets – something that many individuals quickly lose. I disagree with him on some things, but I can’t fault his ability to make fine use of the language to get his points across.

    Mills used such skill during our recent talk, driving home a couple of points about the new homeless: Our society has a narrow window of opportunity to pay for programs to reverse the trend – and a failure to act soon will mean far greater costs in terms of human lives and the public purse.

    Mills can spout chapter and verse on what he sees as the causes of the increases in homelessness over the past 40 years. He can cite demographic trends, economic patterns, and public policies to make a compelling case that a lot of folks were swept into life on the streets by causes beyond their control. He firmly believes that we as a society could have prevented most of the homelessness we have seen over the years had we not lacked the will to do so.

    I wouldn’t describe Mills as a fun guy. He’s a valuable fellow, though, because he’s willing to tell you what you’d rather not hear – and he’s capable of doing so in reasoned tones.

    Give Mills his due for hitting upon something of vital importance now. It’s clear that all the talk we’ve heard about addressing the old homelessness has led to no great progress over the course of decades. What did that latest Blue-Ribbon Public-Private Committee to End Homelessness Forever accomplish besides a photo opportunity, anyway?

    Someone wake the Blue Ribbon brigade and fire all of them.

    We have a whole new homeless problem – and we’re in desperate need of new ideas.

    Jerry Sullivan is the Editor & Publisher of the Los Angeles Garment & Citizen, a weekly community newspaper that covers Downtown Los Angeles and surrounding districts (www.garmentandcitizen.com)

  • Cap and Trade: Who Wins, Who Loses

    President Obama recently announced his plan for environmental protection and Congress took up the debate. Called “Cap and Trade” Obama explained it simply in several public appearances. The government puts a limit on the total amount of carbon emissions that are acceptable in the United States. Carbon emissions come, basically, from burning carbon-based fuels – natural gas, petroleum and coal – in the production and use of energy. Users and producers of energy emit carbon dioxide (and other pollutants) into the atmosphere.

    As Richard Ebeling writes at the Mises Institute, under cap and trade “the government will formally nationalize the atmosphere above the United States.” The program bypasses fundamental questions like what is pollution, how much does it take to cause harm, who is harmed by it and linking the causation between pollution and harm. Fear of lawsuits, torts and injunctions (which could provide the answers) keeps the Administration from addressing these questions head-on. Reliance on the same, tired old source for solutions – Wall Street – ensures that those being harmed aren’t necessarily the ones who will benefit.

    Under Cap and Trade, each carbon-emitting entity – cars, power plants, factories, etc. – is allotted some share of that total limit, or Cap, permitted for carbon spewed into the air in the United States. For example, a power plant producing electricity for 50,000 homes and businesses might be allowed to emit 2 tons of carbon per year. That’s their “cap,” the maximum amount of carbon they are allowed to put in the air.

    Now for the “trade”: if that plant finds a cleaner way to produce the electricity needed for 50,000 homes and businesses, say only 1 tons of carbon per year, they can sell the right to emit 1 ton of carbon to a power plant that puts 3 tons of carbon into the air while generating electricity for 50,000 homes and businesses. The plant that buys the right to emit an extra 1 ton of carbon per year is not required to limit their emissions to 2 tons – they bought the right for the extra ton.

    It all sounds very lovely as long as the caps will control the total amount of carbon added to the air from the United States. The money gained by selling the rights for “unused” emissions will provide financial incentives to the makers and users of cars, power plants and factories to pay for the technology to be cleaner. Since the money spent to pay for the more efficient technology can be recovered in the Cap and Trade marketplace, the cost of the cleaner energy shouldn’t require higher costs to consumers of the now cleaner air.

    This is great if you live near a power plant that manages to reduce the carbon emissions into the air you breathe below the maximum cap level. Here’s the problem: what if you live next to the power plant that paid for the right to put an extra ton of carbon into the air? Two things happen. First, you will be paying for the extra carbon because the power company will have to charge more to pay the cleaner power company for the right to produce the extra ton of carbon. That leads to the second problem: the extra ton of carbon is being emitted into the air around your home. That means that you could end up paying more for your electricity, while also breathing more polluted air.

    Cap and Trade is not a solution, it is another money-making scheme cooked up by the “dangerous dreamers” of Wall Street. In the EU they at least have the good grace to call it a “Trading Scheme.” A global carbon trading market already exists. “Pollution rights” have been traded since the 1990s when the Environmental Protection Agency held the first auction of air emission allowances, or pollution rights, at the Chicago Board of Trade. Starting with sulfur dioxide allowances, other pollutants were added in the next ten years to eventually create a complete trading market on the Chicago Climate Exchange. “The right to use water or air is more valuable than food, and we can use the price system to allocate that right,” said Richard Sandor at the 2005 Milken Institute Global Conference (yes, that Milken). The Chicago Mercantile Exchange and the New York Stock Exchange are now prepared to expand the environmental markets for industrial pollution, also known as the carbon markets, into “futures and options on more than 40 U.S. and international indexes [for pollution rights].”

    But, really, do we want the same bunch of guys that gave us junk bonds, mortgage-backed securities and credit default swaps allocating air and water? Globally? Into the future?

    Like sending subprime mortgages throughout the global economy, this scheme will allow pollution rights to be bought and sold by anyone. So, it isn’t just the factory next door to the power generator in Detroit that will be emitting the extra tons of carbon – factories in other countries will be able to sell their carbon emitting rights to power companies in Detroit. It’s a great money-making scheme for a solar powered producer in Costa Rica – but a very bad deal for those breathing the air and paying for power in Detroit.

    The Cap and Trade scheme is being supported by President Obama’s main economic advisor, Larry Summers – who once said we should export pollution to Africa because their per capita figures are too low. “I think the economic logic behind dumping a load of toxic waste in the lowest wage country is impeccable and we should face up to that.”

    Cap and Trade gets the polluters mixed up with the victims of pollution. Shouldn’t the money generated from the sale of pollution rights accumulate to the persons harmed by the pollution? The idea that you can structure economic incentives to produce socially beneficial results really ends up being about creating paper profits for the money-traders at the expense of the people living with the pollution. This does not seem like a fair trade to me.

    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.

  • Lessons from Chrysler and the Nationalized Economy

    Economists and accountants could very likely have told us six months ago that Chrysler was doomed as a business and that the likely best course of action would be Chapter 11 bankruptcy and restructuring. Doing this in a timely manner would have saved the taxpayers billions of dollars.

    But the politics were not right to permit this to happen at that time. So instead we invested billions of tax dollars to save it, only to find ourselves right back were we started. Except now the clock is striking twelve and it is the right time to reorganize the automaker – politically speaking.

    The politics has worked to “force” Daimler, Cerberus, Banks, UAW and the U.S. taxpayer to forgive nearly $17 billion in debt, and to transfer ownership to a consortium that includes Fiat, U.A.W., and the U.S. and Canadian governments. The same fate may soon await General Motors given the current political atmosphere.

    Government action is not driven so much by economics or accounting as it is by shifts and changes in public opinion and the political winds on Capitol Hill. Regardless of the problem and the consequences of delay, no issue will be dealt with until opinion has been properly shaped around it. This is inefficient by its nature, but government is not a business and cannot fail, so the consequences are never felt by government.

    This means government will often invest in what’s next and ignore what is needed in the present. Why? Because the public likes the new and the novel and grows weary of the old and tried and true. Transportation infrastructure is a great example. It is an accepted fact that our road and bridge infrastructure is failing and will require billions of additional dollars to rebuild and reform into a 21st century, integrated mobility network. Yet there is no political will to address an issue which could seriously undermine our economic competitiveness costing us countless jobs and businesses.

    Politicians know that a solution will require new revenues and very likely a new user fee to augment the current gas tax. Raising taxes is not good for the long term political health of our elected “leaders” because the public does not want to pay for things. So rather than solve a pressing need, government proposes borrowing $8 billion to spend on high speed rail projects like the one to connect Disneyland and Las Vegas. This project works politically because it is filled with perceived benefits and no one really has to pay for them – we can pass it all on to the next generation.

    As we move toward increasing the politicization of our economy where politicians replace CEOs, government becomes a major shareholder in corporations, and the metrics of elections replace standard accounting practices, we should remember the inherent and unintended consequences.

    Businesses succeed or fail based on markets. The government’s attempt to create a false housing market with its affordable housing initiative is arguably one of the major contributing factors to our current recession. They will likely assert their new power in the automobile industry to create “green” cars that may or may not sell. What if consumers choose to buy Japanese, Korean or German label cars made in Mississippi or Alabama, instead of UAW-built cars from Michigan?

    Markets work, and yet they are being ignored. The second most profound economic event of the past year (the collapse of the financial markets being the first) was when the price of gasoline moved above $4.00 a gallon in April of 2008. People drove less. Demand for SUVs plummeted. Ridership of public transportation increased dramatically. Many valued components of American way of life changed almost overnight.

    What is often missed is the fact that government was powerless to do anything about gas prices. Elected leaders looked for scapegoats in speculators and commanded the heads of the Big Oil companies pay homage at their feet. They attacked profits, demanded more drilling, put their environmental agenda on the back burner. The crisis showed them to be feckless on the horns of a dilemma. When prices retreated swiftly in August 2008 and public opinion cooled on the issue, drilling for new energy disappeared from the radar and everything was “green” again. The problem has not disappeared of course, but only public support for a solution. Is this any way to run an economy?

    Businesses concentrate on profit. Elected leaders focus on votes. Bad business decisions are unsustainable in a free market which metes out consequences with failure. Bad political decisions make an elected official unelectable, so it is always better to avoid conflict by putting off the really tough decisions for another day. This is not the way most Americans run their households, but it’s how politicians would run our economy – responding to opinion, not market conditions.

    There are some very difficult decisions as we move through this economic downturn. Do we want more and more of the political processes to be incorporated into our economy on a permanent basis? Banks and financial institutions have already seen first hand the consequences of getting into bed with government. Our automobile industry is next in line. Let’s hope it is the end of the line, but it probably won’t be.

    Dennis M. Powell is president and CEO of Massey Powell an issues management consulting company located in Plymouth Meeting, PA.

  • Buffett’s Partner Agrees with Us

    Billionaire investor, Warren Buffett, is hosting the Berkshire Hathaway shareholder meeting “Capitalist Woodstock” in Omaha this weekend. Every news truck this side of Kansas City has been moved into town to cover the event.

    While using words like “evil”, “folly” and “demented” to describe the activities that generated the global financial meltdown, Buffett’s partner, Charlie Munger, told CNBC in an interview that credit default swaps (CDS) should be outlawed completely. I have said clearly that Buffett’s strategy on CDS has gotten him in too deep. His strategy requires “new money” coming into the system regularly at a time when investors are pulling back.

    Munger also says that “the people who make a lot of money out of the system as it is have a lot of political power and they don’t want it changed.” We think he must be speaking about Buffett here, too. Berkshire Hathaway is a financial company that benefits from the bailout of financial companies. Buffett must also be aware that the government will continue to make bailout payments, that will be passed along to CDS holders, just like the approximately $50 billion Uncle Sam passed out through AIG during the fall of 2008.

    According to a report from Reuters, Berkshire Hathaway will not report their 1st quarter financial results on Friday and no new date or reason for the delay has been given. According to Bloomberg, the results will be delayed until six days after the meeting. There is some speculation at CNBC that Buffett may want to avoid some “terrifically worried” investors at the meetings this weekend. The stock price closed down $1,995 per share on Friday, May 1.

  • Main Street Middle America: Don’t Get Mad, Get Ahead

    Like many on Main Street Paul Goodpaster is angry. Paul is my banker friend in Morehead, a retail, medical and education hub on the edge of eastern Kentucky. He observed that his bank was doing quite well – albeit hurt now by rising unemployment and an economy starting to have an impact even on those unglamorous places that had minded their business well.

    “If only some of those ’experts‘ would get out of their inside-the-beltway heads and visit with me here in Morehead, I’d give them ideas on how this October disaster could have been averted. “Too big to fail,” he scoffed. “It should be about too big to have been allowed to do business and thus too big not to fail!”

    So, what can forgotten middle America do about all this mess? Anger won’t get it; and self pity is a waste of time. Only by developing the “swagger” of elbowing our way through the noise can we hope to be heard. We still hear the cacophony of all the blither and blather coming out of the well-connected east coast crowd. Cutting through means learning how we in the “flyover“ zone can position ourselves in the national and global economy.

    The world most assuredly did change – likely in perceptible ways prior to but with an exclamation point in October. In November “we” – with more than a few exceptions in the south and middle country – elected a president that exemplified our hopes and dreams. He was touted as a guy who understands cities and community life better than any in modern history.

    But, all that being said, middle and certainly southern and Appalachian America did not vote for the president. We are a long way – in our economy, our habits and our viewpoints – from Chicago. We are the home of coal and factories and small places far out of the way.

    Our outlook, on the surface, could not be worse. As a community we are out of power and also perhaps out of favor. Yet the world changed for us as well and opportunity abounds for those who are willing and able to fight back. We discovered that (1) we are interdependent with the global community no matter where we are; (2) that the experts don’t all graduate from Harvard and Yale – note the Greenspan bewilderment in October, 2008 and (3) that a new kind of sensibility is emerging.

    As the world grows bewilderingly out of control, people will be seeking places that are affordable and welcome growth. That is where middle America comes in.

    We will have something close to another 100 to 120 million more people in this country by the year 2050. Conventional wisdom would have it that they will all move to glamorous, hip and fast places. But not so fast on that theory. A visit to Owensboro, Kentucky yields a different answer. Set on the Ohio River across from Evansville, Indiana, Owensboro is a town with a unique DNA that has been preserved over the years. With high performing schools and a rich tradition of civic activism, they are planning a major “quality of life” initiative that the Mayor Ron Payne describes as something aimed squarely at children and grandchildren – a statement that bucks the “all about me era.” Owensboro, with a diverse economy that never rode the wave of the “bubble” always minded its Ps and Qs. He is building walking and bike trails and bolstering a downtown that he describes as the living room to the community.

    Owensboro is also home to a world class performing arts center headed up by Zev Buffman, a master producer of over 40 Broadway plays, who made Owensboro his home after visiting the arts center and appreciating its high quality. Zev has convinced Broadway of the wisdom of “staging” plays in Owensboro at a fraction of New York City prices. What is the advantage to Owensboro? Young people can see first hand that life in middle America is not the same as being banished to the boonies. It can also be enriching and connected. As one young man put it: “I can get started earlier in owning a business in a place like Owensboro that would take years or never happen in one of the mega cities where I would just be a cog in the machinery.”

    In middle America, we need to learn that nothing is predictable. But we should have more confidence that we can build expertise at home. People like Mayor Ron Payne and Zev Buffman have taken their entrepreneurial spirit and applied it to an emerging new frontier of America’s battered small- to mid-sized cities in the middle of the country. It’s time for this portion of America to stop getting mad, and start getting ahead.

    Sylvia L. Lovely is the Executive Director/CEO of the Kentucky League of Cities and the founder and president of the NewCities Institute. She currently serves as chair of the Morehead State University Board of Regents. Please send your comments to slovely@klc.org and visit her blog at sylvia.newcities.org.

  • Credit Cards Flash At The White House

    Back in the 1980s, Citibank CEO John S. Reed looked at the bank’s earnings and said, more or less: This is really a credit card company with six other lines of business. That is, the card portfolio was making lots of dough, and carrying the rest. Commercial lending, real estate lending, clearing, foreign exchange, branch banking — all of them were flat or losing money, while the card business was cooking.

    Membership has its privileges indeed. I am reminded of this today because this past week President Obama has been meeting with the CEOs of the big credit card companies and trying to jawbone them into giving up some of the power they enjoy to goose their earnings by opportunistic manipulation of terms of service to their customers. It’s as if Mobil or BP had the power to come back in the dark of night and siphon off some of the gas they sold you in the afternoon.

    I wish the president well. He made it clear during his session with the card executives that he was familiar with their machinations from personal experience. We have come a long way since the first President Bush marveled at a bar code reader. But I have my doubts. Right now, the whole banking portfolio looks a good deal like Citibank did in those days. Commercial lending, mortgages, trading… all underwater.

    Credit cards may or may not be making money—that shoe doesn’t drop all at once—but when you can squeeze your customers the way all that fine print allows, you don’t give up the franchise lightly. Let’s not forget, the credit card business already had its bailout, in the form of the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005, which functions according to the Law of Goodfellas: Drowning in medical bills? “F* you, pay me.” Swamped by alimony and child support? “F* you, pay me.”

    To that, add: Lost your job, house, and health insurance? “F* you!”

    When I arrived at Citibank in 1980, one of the first speeches I wrote was for the opening of Citibank, South Dakota, which was created expressly for the purpose of lodging the credit card business. Citibank had transplanted this business from New York State because New York still had usury laws, which capped retail interest rates at 12%.

    The bank was in big trouble. In the preceding years, Mr. Reed had flooded the nation with credit cards, a bold move in an era when people did their banking locally. A credit card was generally an extension of an existing banking relationship, replete with a credit history and some suasion of banker over customer. Reed’s folly, as it was occasionally called, entailed giving cards to total strangers by mass mailing—unlike retail banks, the U.S. Post Office could branch across state lines—many of whom were of dubious creditworthiness, or dubious character for that matter. With interest rates capped at 12% by New York law, and overnight money, borrowed as needed from other banks, floating north of that—this was when Paul Volcker was Fed chairman—something had to give. As Walter Wriston put it, “When you borrow money at 14% and lend it at 12%, you can’t make it up on volume.” When I was recruited as a Citibank speechwriter, among the perks my boss mentioned was that I could take out a loan at a low employee rate and buy a CD that paid a higher one.

    New York State legislators never imagined that one of the most venerable of banking institutions would relocate the business to a more favorable venue, a practice called jurisdiction shopping. But armed with some combination of the Bank Holding Company Act and other legislation, and something called the Commerce Clause of the U.S. Constitution, they found their way to South Dakota and its accommodating four-term Governor William Janklow. Governor Janklow’s signature legislative accomplishments were the reinstatement of capital punishment, and lifting the State’s usury limits. (He was later convicted of running a stop sign and hitting a motorcyclist, killing him. The family was precluded from collecting damages because Janklow was heading home from a speech at a country fair, and thus on official business. He is now a practicing lawyer.)

    But enough local color. Suffice it to say that the bank got what it wanted, and so did the State. The bank instantly became South Dakota’s largest employer, and, as we pointed out in our speeches, its college graduates found an employer where they could put their degrees to work without leaving home.

    This was so soon after I started working at Citibank that I was denied my first credit card because I hadn’t been at my job long enough. “I’m writing speeches for the chairman of the bank and for your boss, Rick Braddock,” I told the phone rep. “That may be,” she said, “but you haven’t been employed long enough to qualify.” When I told Rick, he laughed and said, “At least they’re doing their jobs. What do you want, plain vanilla or preferred?”

    Freed from the constraints of New York State law, Citibank survived its catastrophic loan losses and pioneered many now-standard innovations, including risk-based pricing, affinity cards, and a portfolio of cards targeted to different categories and classes of users.

    Even then, the promiscuous marketing of cards and the potential resulting horrors were manifest. Like pornographers’ lawyers, we found the germ of redeeming social importance. We were providing consumers with a tool for managing their personal and family finances. We were freeing working people from the necessity of relying on loan sharks from payday to payday. We were dealing with consenting adults.

    The bankers were fully aware, of course, that in spite of talk about sensible use of credit and managing the household budget, they were really selling liquor to the natives. Behind the scenes was a laboratory where young people with degrees in psychology were kicking the consumer behavior of millions around like a soccer ball, finding ways to hype the impulse to buy, buy, buy, and mining data to place “choices” in front of people based on their previous purchases. We take it all for granted now, with Amazon.com and a thousand other websites, but this took place in the years of the mid-1980s, one of which was 1984.

    By the end of last week, the biggest story out of the credit card summit was that Larry Summers fell asleep, a serendipity that is almost a reenactment of regulatory behavior over the past eight years or more (I am aware of the role Summers played under Clinton). The New York Times reported, “One executive told the president that although her assignment had been to try to persuade the president not to support new restrictions, ‘it was pretty clear I won’t succeed.’” The biggest underlying argument is that with the banks’ other businesses so weak, they don’t want to give up the one cash cow.

    My fear is that whatever new restriction is placed on this weasel industry, whether we have to wait for new Federal Reserve regulations in 2010 or they are expedited, the evil minions at the banks will find a way around it. This is the game they have long played. I have seen their tricks in my own accounts, including that first one that Mr. Braddock granted me. Lower the interest rate? They accelerate the repayment schedule, which means the customer has to pay just as much each month, resulting in lower repayment of interest as a share of the payment.

    It reminds me of the way cigarette companies lower the tar content of cigarettes by perforating the paper. The poor addict drags more often and harder, just to maintain the accustomed nicotine levels. Or the time I paid my balance in full—thousands of dollars worth—when my interest rate was low, then used the card in an emergency, only to find that my rate had shot up to Tony Soprano levels. Why? Because when I had paid my bill in full, they hadn’t yet posted $6 in new interest charges, which went unpaid, and therefore I was now being charged at deadbeat levels.

    Or, as Michael Corleone would put it, just when I thought I was out, they pulled me back in.

    Henry Ehrlich has written speeches as a freelancer for both the new, white-knight CEO of Fannie Mae and the former, disgraced CEO of Freddie Mac. He is author of Writing Effective Speeches and The Wiley Book of Business Quotations.

  • Geithner’s Collusive Capitalism

    Jo Becker and Gretchen Morgenson (she reported on the lack of mortgages behind mortgage-backed securities) did a long piece on Treasury Secretary Timothy F. Geithner in the New York Times. They paint a stark picture of Secretary Geithner’s brand of “Collusive Capitalism”: lunch at the Four Seasons restaurant with execs from Citigroup, Goldman Sachs and Morgan Stanley; private dinners at home with the head of JPMorgan Chase.

    Most importantly, Becker and Morgenson raise the question of why – with all that frequent contact – Geithner never sounded the alarm about these banks? Indeed, as I’ve pointed out before, Geithner took no steps to prevent $2 trillion in US Treasury bond trades go unsettled for 7 months – until it was over, when he called a meeting of the same bankers that caused the problem to have them do a study, take a survey, make some suggestions, etc. The one action that needed to be taken – to enforce finality of settlement – was never on the table.

    When the banks behaved recklessly in lending, trading, issuing derivatives and generally fueling the Bonfire of their Vanities, according to Becker and Morgenson, Geithner’s idea was to have the federal government “guarantee all the debt in the banking system.” As Martin Weiss asks in his ads for Money and Markets, “Has U.S. Treasury Chief Geithner LOST HIS MIND?”

  • Here in the Real World They’re Shutting Detroit Down

    Once upon a time, not so long ago, in a city at the heart of the American continent, General Motors produced cars, like Pontiac’s “Little GTO,” celebrated in Beach Boys songs that captured the thrill of driving Detroit’s latest creations. Today, as GM struggles to appease the government’s auditors just to stay alive, Kris Kristofferson, with a little help from Mickey Rourke, curses the financial wizards from Wall Street that are “Shutting Detroit Down” while “livin’ it up in that New York town.”

    Never has the inherent tension between the investor class and the country’s manufacturing sector been more pronounced or the stakes in this particular poker game higher for the future of America. Chrysler may be forced into bankruptcy first, but it’s GM’s downfall that represents the true mid-American earthquake.

    Back in the late 1950s, General Motors so dominated the American automobile market that its corporate goals were focused on achieving a 60% market share. The hubris of its executives led them to decide to pick up more and more costs for medical insurance, pensions and retiree benefits, beginning GM’s slide down a slippery slope of poor financial performance

    This posed a huge but not initially recognized risk to GM. By taking on these obligations that didn’t show up as a cost or balance-sheet liability until the government changed its accounting rules in 1992 and required companies to show the cost of “other post-employment benefits” (OPEB) on their books, General Motors lit a ticking time bomb that has now exploded in its face. In 1972, as GM came the closest it would ever come to achieving its sixty-percent market share goal, GM was paying the entire health insurance bill for its employees, survivors and retirees, and had agreed to “30 and out” early retirement that granted workers full pensions after 30 years on the job, regardless of age. Its world then began to come apart.

    In 1973, OPEC’s embargo tripled the price of oil. GM failed to respond quickly enough to the consumer’s sudden demand for fuel-efficient cars. At the same time, the Japanese with their then superior, lean manufacturing techniques stepped into the vacuum, gaining a foothold in the North American car market that they have continued to expand. Ironically, thirty years later the very same inability to shift product offerings during a spike in oil prices precipitated GM’s current difficulties.

    GM’s reluctance to go green is often cited by its new government owners as the reason it’s in so much trouble now, but the crux of GM’s problems really go back to those heady days of market domination and financial profligacy.

    In the 1960s GM’s annual operating margin (profits divided by revenues) averaged 8.7%. The turmoil of the seventies and the pressure from Japanese competition drove those average margins down to 5.5%. Margins fell by about half to an average of 3% in the 1980s, and about half again to 1.3% in the 1990s (not counting the $20 billion hit GM took when the new accounting rules for OPEB took effect.) Finally, in this decade the slide has actually taken the company into an average of negative margins. Now only the government’s suggested radical restructuring seems to offer a way to stop the bleeding.

    It is estimated that the cost of OPEB, essentially GM’s retiree pension and health care programs, have cost the company about $7 billion each year since 1993 and are probably around $10 billion per year now. The bargain auto company management made back in the 60s with labor to provide generous off the balance sheet benefits has now become an albatross that threatens the manufacturing jobs for the Big Three’s own current workers and suppliers across the Midwest. It’s the kind of problem only government can solve.

    But the Obama Administration’s early efforts to do so have been far from promising. First it selected Steve Rattner as its “car czar”, a politically well-connected private equity investor and turnaround artist from “that New York town,” someone with no significant automobile industry experience. In addition, the government’s demands that GM dismantle more brands and shut down more dealerships suggests the process may get a lot uglier by the May 31 decision deadline.

    Luckily the United Auto Workers remain on watch to try to ensure that whatever concessions are demanded of GM’s current and retired employees reflect an equitable shared sacrifice with the company’s bondholders and investors. The kind of GM that emerges from these negotiations will have a huge impact on these workers and on the many industrial towns that depend on the car business for their basic existence.

    Ultimately, the decision on how best to “rescue” GM may turn out to be the most difficult call President Obama will make in his first year in office. He will be pulled by pressures from the green gentry left to force GM’s future products to conform to a pre-determined environmental agenda. He also will face predictable Republican calls to let the market work its will, even if it means the end of the company.

    President Obama will need the wisdom of Solomon to recognize that today’s workers no more deserve to be punished for the mistakes of prior management than CIA agents do for carrying out the orders of their equally arrogant Republican counselors during George W. Bush’s administration. To paraphrase the President’s words, it’s “time to move on” and offer GM the support it needs to “Catch a Wave” and start producing more “Good Vibrations” for America’s hard pressed, but still very critical manufacturing sector.

    Morley Winograd and Michael D. Hais are fellows of the New Democrat Network and the New Policy Institute and co-authors of Millennial Makeover: MySpace, YouTube, and the Future of American Politics (Rutgers University Press: 2008), named one of the 10 favorite books by the New York Times in 2008.