Wednesday, May 16, 2012

The Icing And The Cake-Jamie Dimon And Edward Conard

The Icing And The Cake-Jamie Dimon And Edward Conard

You may have heard that JPMorgan Chase has suffered a large loss-the preliminary reports are at least $2 Billion, and the number may eventually rise to twice that

It might occur to you to ask what Chase, with its army of dark suited French-blue shirted souls smilingly collecting deposits that pay no interest, could possibly do to lose $2 Billion.  I remember, as a child, taking a locked heavy-duty canvas bag with the night deposit from my Dad’s pharmacy, walking a couple of blocks, and dropping it down the bronze chute to some unseen all-night teller.  It took a lot of pills and lipsticks and deodorants and boxes of Barton’s candies to make a $1,000 deposit, so I imagine that my Dad would be very upset if the bank lost that bag.  A quick back-of-the-envelope calculation tells me that $2 Billion is actually two million Canvas Bags, which might make for an interesting Two Million Bag March on Wall Street.  Since each of those bags were roughly 8’’ by 11”,  that would imply a line of bags forty feet wide stretching the length of Manhattan.  Quite the motorcade.

So, how does one lose that many bags?  Fortunately, that’s a question lesser minds (like mine) can explore.  Chase lost their bags through something called a hedge.  Some of us think “hedge” sounds either horticultural or very sleek and exotic, like “hedge fund”, where highly trained quants divine subtle signs in mathematical tea leaves to bet stupendous amounts of money and win untold quantities of bags (and other baubles).  Rich people can invest in hedge funds-perhaps because they have a better affinity for numbers. Rank and file folk like me aren’t “Qualified Investors” and are pretty much relegated to putting our bags in a bank, like Chase.

Chase’s leader, Jamie Dimon, has been out there on the Sunday talk show circuit, manfully pronouncing mea culpa (actually, it’s more like a “someone else was culpa,” as three other heads have rolled.) 

What Mr. Dimon has owned up to is that traders in the London office (I promised it was sleek and exotic) working on behalf of the bank’s chief investment office were engaging in hedging activities, and these hedging activities went a tad awry.  How does one go awry in hedging bags?  Isn’t the very act of hedging supposed to be a limitation of risk, like a bookie laying off bets so he can make his money on the vigorish?  Isn’t that what a bank’s chief investment office supposed to do, manage risk?  Well, yes, and no.  Chase’s chief investment office wanted to manage risk, but it also wanted to be a profit center, and as the saying goes, “no risk, no reward”.  So, in search of the reward, known in Chase by the very descriptive term, the “Icing”, they took the risk.

Ok, so let’s just sum up for a moment.  A bank collects bags from people like my Dad and lends money out at higher rates, providing capital for people to grow their business, buy houses, etc.  So far, so good, and that’s what banks did (usually quite prudently) for decades after the Great Depression.  The FDIC insured, so if ignorant people like myself were suddenly seized with irrational fear and tried to grab back those bags all at once, the rest of the bank’s depositors would be sure to get theirs back.

Unfortunately, we are talking about low-tech locked canvas bags, producing merely moderate vast wealth.  Not enough glamour, and not enough Icing.  So, the banks went to their friends in Congress (from both parties), managed to get “regulatory relief” and the in-house pastry chefs really began to bake.

You may recall a minor economic global catastrophe back in 2008, where the bag collectors had a bit of a sugar high.  Fortunately, we bag depositors were there to bail them out with our tax dollars, an irony which seems to have been lost on many of them.  An effort to balance the risk going forward led to Dodd-Frank and Volcker Rule, the intent of which is to curtail some of the more gymnastic impulses of those banks with the bags.  These reforms, supported by Mr. Obama, have been vociferously objected to by Wall Street, with Mr. Dimon at the forefront, and the entire Republican Party.  No Wall Street cash for Donkey this election cycle.

The Chase mini-disaster might be just another news blip if it weren’t so artfully juxtaposed with the upcoming release of former Bain (and Romney) partner Edward Conard’s book, “Unintended Consequences: Why Everything You’ve Been Told About the Economy Is Wrong”.  Mr. Conard was interviewed for the May 1, 2012 Times Sunday Magazine by Adam Davidson, and the article has to be read-I can’t do it justice.

Mr. Conard’s point of view, in short, is that income disparity is good, and huge income disparity is better.  The wealthy know how to invest capital for growth and innovation, while the unwashed merely spend it on consumables (like food). Therefore, government policies need, for the good of all of us, to enhance the opportunities of the wealthy to become even more so.  Conard blames the little meltdown in 2008 on ignorant bag-holders who made a run on the banks, not those Icing-seeking types.  Conard likes government insurance-in fact he wants an even bigger fund to be created using taxpayer money. He doesn’t like any other type of government regulation.  And he has a special disdain for Warren Buffett.  Buffett is failing society by giving billions to charity when he (Buffett) could invest it so much better.

Davidson’s article is hard to digest, because Conard can come off like a smoking jacket garbed Marie Antoinette-his disdain for the less successful is palpable, and his ideas appear to socialize risk while privatizing profit.  But they should been taken seriously, if not to the extreme he does.  There is an association between capital formation and innovation, albeit not Conard’s conflating Bain’s extractive financial engineering with Apple’s incredible contributions to productivity and pleasure.

It’s the kind of discussion our political leadership should be having when they look at how we regulate, who we tax, and how much we take away in entitlement reforms. And stark though they may be, Conard's views may be representative of many in the GOP, and their nominee.

Who takes the risk, who gets the Icing, and who gets the cake?  Are there any leftovers?

Food for thought?