The Super Rich

25 November 2014 | By ken in Society | 1 Comment

And the Rest of Us

Most of us may not have noticed, but the rising tide of income inequality is engulfing the super rich as well.

As The Times put it recently: “For decades, a rising tide lifted all yachts. Now, it is mainly lifting megayachts. Sales and orders of boats longer than 300 feet are at or near a record high, according to brokers and yacht builders.”

The same is happening to private planes: “Sales of the largest, most expensive private jets — including private jumbo jets — are soaring, with higher prices and long waiting lists. Smaller, cheaper jets, however, are piling up on the nation’s private-jet tarmacs with big discounts and few buyers.”

The underlying dynamic is the same, and it affects everyone, though obviously it affects us differently — depending where we are on the spectrum of wealth. The poor may have difficulty scraping together the money to buy a new car – or even repair the one they have — but the problems of the rich are different.

“The wealth of the top 1 percent grew an average of 3.9 percent a year from 1986 to 2012, though the top one-hundredth of that 1 percent saw its wealth grow about twice as fast. The 16,000 families in that tiptop category — those with fortunes of at least $111 million — have seen their share of national wealth nearly double since 2002, to 11.2 percent.”

Thomas Piketty, the French economist, recently clarified how existing capital grows faster than wages, countering some assumptions that had entered mainstream thinking. And he pointed out that the structure of taxes could have a major impact on the growth of wealth. But it is still striking how little we appear to want to do about that, how we are content to let the gap widen and widen.

Could it be that so much of that extra money ends up in the pockets of lawmakers in the form of campaign contributions? Perhaps, as a result, legislators have little interest in tax reform?

But another interesting question is why do people want so much more money than they could ever spend?

After a point where basic needs have been satisfied, money begins to have a purely symbolic meaning, and competition and envy shape the desire for more. There are billionaires who scrutinize the Forbes list of wealthiest Americans, just as sixth graders scrutinize test scores to see who came out on top. And there is no end to how much money is needed to triumph over others. Even if you have more money than anyone else right now, who can guarantee that someone else will not come along soon to trump your achievement?

But there is another factor. The growing wealth disparity means that we are in the process of creating a new class system. The money being made now, as a result, becomes the foundation of new dynasties, a way of ensuring that one’s descendants will continue to be secure and powerful for generations to come.

So this is a relatively rare moment in history in which a new social order is being created. That raises the stakes. A few billion dollars can give your descendants a permanent place in that order. On the other hand, failing to succeed on that level means that your children and their children will have to make it on their own.

For some, that’s a real incentive.

Why Boards Pay CEOs More

17 November 2014 | By ken in Society | No Comments Yet

Presumably corporations would not want to overpay their CEOs, which is why they hire “compensation consultants.” The consultants study the publically available information on comparable CEO compensation so that they can benchmark their peers.

But a new study by three professors at Cambridge University found otherwise: “We consistently find evidence that supports the argument that compensation consultants are hired to justify higher C.E.O. pay to the board, shareholders, and other stakeholders.”

Why do they all bother – for which, no doubt, they charge handsomely? Either the boards that commission the research ignore the findings or the consultants consider it expedient to inflate their recommendations.

Sorkin notes the obvious: It’s a mistake to let a CEO hire his own compensation consultant. According to the study, though, when that happened it “led to a 13 percent increase in pay.” It doesn’t make sense, “but it happens more than you would imagine.”

But an even better question is why, when they have the information they commission, they ignore it?

“Let’s be honest,” wrote Andrew Ross Sorkin in The New York Times, reporting on the study, “compensation at the top level is rarely based on a true marketplace. Unless a rival company tries to poach a chief executive, it is hard to determine exactly what they should be paid.”

Trying to be honest and respectful of the data, it looks like Boards want to please their CEOs. Far from paying fair market value – and possibly disappointing the CEOs who have a somewhat exaggerated sense of their own value – they flatter and appease them. As a result, compensation has no logic, either in relation to a norm or in response to performance.

It is as if board members and CEOs are members of the same club – which in some respects they are. Board members, often the CEOs of other companies, know how they want to be treated. They travel in the same circles and they are attentive to the perks and rewards they others are getting. Indeed, many of them are competitive and envious of those perceived to be better off than themselves.

Sorkin reports a story Warren Buffett tells about the time he ran Salomon Brothers. “At Salomon, everyone was dissatisfied with their pay, and they got enormous amounts. They were disappointed because they looked at others, and it drove them crazy.”

We are forced to think, though, that more than envy is at stake. CEOs are the nucleus of a new elite class. They often move from job to job, expecting the same privileged treatment, the jets, the bonuses and stock options that entitle them to extraordinary lifestyles.

For most boards, Sorkin concludes, “the best chief executive makes the most money.” That is, by definition. The greater the compensation, the best the performance must be. And those with the most compensation increasingly run the country with the power they exert not only through their corporations but also with their personal fortunes.

They endow new museums, concert halls, and hospitals. They fund schools and university departments, buy newspapers and magazines, create new charities – and, of course, donate heavily to political campaigns to maintain their access to power. In helping each other, they are also helping to establish their class and cementing their social position for years to come.

THE DECLINE OF INVESTMENT BANKING

11 November 2014 | By ken in Society | No Comments Yet

Not Just Less Profitable

MBA’S no longer flock to investment banking. In 2007, according to The Economist, “44% of Harvard’s MBAs landed a job in finance; 12% became investment bankers. Yet in the class of 2013 only 27% chose finance and a meagre 5% became [investment bankers.]”

“The trend is the same at other elite business schools. In 2007, 46% of London Business School’s MBA graduates got a job in financial services; in 2013 just 28% did, with investment banking taking a lower share even of that diminished figure.”

But why? To be sure, the financial rewards are less. The outcry about excessive bonuses, following the crisis of 2008, especially for firms that had been bailed out by the government, led to increased scrutiny and regulation. But banks also tend to lock in their people, tying them down when the business climate is volatile and varied. That’s not appealing to those starting out on their careers.

The increasingly more attractive alternative careers for new MBAs are in consulting, which in addition to offering good financial rewards also provide exposure to different firms and industries. “Almost 30% of students at the elite business schools now typically find work at consulting firms.” A close second is technology.

The Economist notes, it’s not just about the money: “less than 5% said that higher pay was their most important consideration when deciding to enroll at business school.” The entrepreneurial approach of smaller firms is increasingly appealing. One B school graduate said: ‘I have never heard anything about the corporate culture of investment banks that sounds like it’s an environment I’d like to work in.’”

Added to this, MBAs also seem to be searching for a sense of moral purpose, seeking “careers that have a positive impact on the world around them.” That contrasts with the fact that investment banking became tainted during the credit bubble, playing a major role in preparing the ground for the unemployment and economic misery of the Great Recession.

But there may be an even more important reason for the shift away from banking: “A survey by the Graduate Management Admission Council found . . . 26% say they want to start companies after they graduate.” That makes a lot of sense in an economic climate where success is measured almost entirely by “shareholder value.”

That undercuts the gratification of managing and building a business. Investors seeking higher stock prices continually urge restructuring, merging, and repurposing with an eye to raising the value of their investments. Producing products, offering useful services, being good places to work, creating jobs, protecting the environment, serving as responsible citizens – all are secondary. Business leaders are increasingly judged by that one standard.

For managers that can be frustrating and demoralizing. Moreover, the very jobs they work hard to accomplish responsibly and successfully can be spun off, outsourced, or consolidated if investment advisors start to think that such moves will make the stock rise in price.

The one way to avoid that loss of control is to be at the top, owning and controlling your own business. That seems to be what the really bright people want, and who blame them for wanting that kind of control?

CREATING THE NEXT FINANCIAL CRISIS

03 November 2014 | By ken in Society | 1 Comment

Can We Stop Ourselves?

We know how to prevent it, but we don’t seem to want to pay the price.

It’s like our dependency on fossil fuel. We talk about it and make gestures to cut back on emissions, but essentially we are immobilized. Our financial system is set up to give immense power to moneyed special interests, the banks and investment firms that have recruited squads of lobbyists and spent billions on political campaigns to protect their way of doing business. As a result we can’t protect ourselves from the long-range dangers posed by their insistence on issuing loans backed by inadequate assets.

Banks are still too big to fail. Limits on speculation are inadequate. The revolving door between regulators, legislators and traders is spinning. A key issue now is the size of down-payments required for those buying homes. As Peter J. Wallison of The American Enterprise Institute explained: “If the required down payment for a mortgage is 10 percent, a potential home buyer with $10,000 can purchase a $100,000 home. But if the down payment is dropped to 5 percent, the same buyer can purchase a $200,000 home. The buyer is taking more risk by borrowing more, but can afford to bid more.” Can afford it, that is, so long as the buyer earns enough to make the payments.

“In other words,” Wallison continues, “low underwriting standards — especially low down payments — drive housing prices up, making them less affordable for low- and moderate-income buyers, while also inducing would-be homeowners to take more risk.”

So who is in favor of this risky practice? Almost everyone it turns out. Banks and mortgage companies like it because it means more business for them. Real estate developers like it because they can sell more units. And prospective home owners like it because there are fewer obstacles in the way of realizing their dreams, even if they are being unrealistic about affording them.

But they can easily end up being the losers in this scheme: “The losers, as we saw in the financial crisis, are borrowers of modest means who are lured into financing arrangements they can’t afford. When the result is foreclosure and eviction, one of the central goals of homeownership — building equity — is undone.”

And if this happens often enough, we have a situation like the credit bubble – and eventual crash – of 2008.

It is unlikely that we will repeat that specific debacle. Everyone now is aware of the sloppily put together securitized mortgages that brought down Lehman Brother and almost destroyed AIG. This time it will be something else, some danger less well advertised.

When bankers are caught up in the frenzy of making money, their eyes are on the opportunities in front of them and the competition they face from other bankers. They easily neglect the danger signs. They also tend to over-estimate their intelligence and skills as there is often a competitive advantage in being brash and self-confident. No one is telling them “watch out.”

But the deregulated, politically powerful, over-extended, hyper competitive financial world is much less safe than it can appear, and holds the potential for multiple losers.

BECOMING CONSCIOUS

27 October 2014 | By ken in Society | 2 Comments

Trading and Hunting

Contrary to our subjective beliefs, we make most of our decisions automatically, unconsciously. Professor Michael S. A. Graziano at Princeton recently reminded us of this.

He asked: “How does the brain go beyond processing information to become subjectively aware of information? The answer is: It doesn’t.”

It just thinks it does. Using the example of seeing the color white, he notes that we see what doesn’t actually exist, as the color white is an amalgam of the entire spectrum of colors.

It follows, then, we usually don’t need to be conscious of what we want. We already “know” what it is, and once we have started to be aware of having a choice we have already made it. In effect, we are largely sleep-walking through out lives.

This was a great advantage to our ancestors struggling for survival, as they did not have to think of what to do when seeing an animal they could eat or a danger they needed to escape.

Similarly, it is a great advantage to traders scanning the markets for commodities or currencies or derivatives. Opportunities for profit appear in a flash, and traders must pounce.

Under these circumstances, Professor Graziano notes, awareness is actually “a cartoonish reconstruction of attention that is as physically inaccurate as the brain’s internal model of color. In this theory, awareness is not an illusion. It’s a caricature.”

But that’s not sufficient for making complex and difficult decisions. Our ancestors needed to become conscious to hunt down very large beasts or to organize and manage their communities. So we, too, need to think about managing our wealth, when to buy and sell, how to plan, when to be suspicious, when to hedge.

More importantly, we have to think together so we can act together. Cartoonish reconstructions may work when the choices we face are simple and need to be acted upon quickly. But faced with making communal choices we need to weigh alternatives, to debate and reflect, exploring the long-range consequences, and think about the impact on our communities.

That means, in short, we have to inhibit our impulses for immediate action. That’s tricky. We need to be able to think fast as well to think slow, as Daniel Kahneman put it in his useful book on the mind, but when do we know which is best?

In politics, it’s easy to have knee jerk reactions. Apart from being driven by ideologies and interests, we are often overwhelmed by the complexity and importance of the social issues we face. A quick and dirty response is sometimes the best we can manage, especially when our choice is only one among thousands or millions of votes being cast. And then we have to contend with the thought: “Does it matter?” And, if it doesn’t, is that a reason not to act?

Neuro-science has made huge contributions to our understanding of how the mind works, but it does not have much to say, yet, about us as social animals or group members. Research will no doubt illuminate the pathways in the brain that lead us to follow the crowd, but we also need to understand better how to cooperate, to listen, to reflect and to contribute.

We can’t really do much just by ourselves.