Friday, November 7, 2008

The Worst Is Not Yet Over…But Happy Days Can Come Again

With the recent massive injection of capital by the Feds and other governments around the globe, one would think that the worst is nearly over. After all, with nearly $1.2 trillion spent and earmarked alone in the U.S., it would seem that the worst is over and all that remains are localized events and global cleanup. Well folks, the worst is not over. In my opinion, the worst is yet to come and it would seem that we are nearly out of bullets.

The rationales for my assessment are as follows:
1. We have yet to register the losses to come from the credit card write-offs.

2. We have yet to account for the increased burden to the state and municipal governments from increased spending toward unemployment, welfare, and other social services benefits

3. We have yet to prepare ourselves for the substantial reduction in consumption, which will lead to further losses and contraction

4. We have yet to understand the long-term effects of the massive bail out of financial institutions

Was it the right move to spend / earmark for spending nearly $1.2 trillion to bail out the U.S. financial institutions? To me, the answer is clear “No.”

The purpose of the massive cash infusion into the banking industry was to “prime” the lending activity. In my view, this money was wasted by putting it into the financial market that allocates nearly 50% of revenue toward compensation and general administrative purposes. An apt analogy would be a donation to an organizations setup to help the less fortunate.

Which would be a wiser investment of funds?
1. To donate vast sums of money to an organization that uses only 2 to 5% of the donations toward administrative and salary and funnels 95 to 98% to where the money was really needed or,

2. To an organization that uses 45 to 55% of the donations toward administrative and salary and funnels the rest to “future” spending?

The answer to this is obvious, except for the Wall Street Firms who think nothing of taking billions of American Taxpayers dollars and still pay their senior managers millions of dollars in compensation.

Economists and risk managers, I include, scoffed when, earlier this year, Congress approved Mr. Bush’s $168 billion economic stimulus plan as being a misguided policy. They just do not get it; and for us to expect them to do so would be our fault.

So, where should the government inject its cash stimulus?
We could take a page from the Roosevelt era’s “New Deal” and put the money into rebuilding our infrastructure. President elect Obama is the right person who can, in the mold of FDR, put the government stimulus packages toward those projects that would help to put money into ordinary American citizen’s pockets, help to revive and modernize the manufacturing bases of the rust belt states, while helping to stabilize the financial markets.

One of the places for the right stimulus would be our crumbling highway system. Put the Federal funds toward re-building the Interstate system, this time with the addition of light-rails, high-speed rails, and cargo-rails as a part of the Interstate highway system. By doing so, people would be hired to build the system all across the U.S., manufacturing companies will have to rehire, ramp up, and seek capital to remodel or expand their facilities. Wall Street firms will lend to those companies involved in the rebuilding efforts, as the Federal Government would implicitly guaranty the income stream of these companies. Other places for a right stimulus would be our crumbling Electric grid system and our overburdened and antiquated Air Traffic Control Systems.

Even if President-elect Obama and his administration just focused on these three areas, our economy would:

1. Quickly revive through increased productivity and added jobs, which would increase the tax revenue to local, state, and Federal governments,

2. Benefit from lower overall fuel consumption as more people would travel on high-speed rails on shorter distance travel and air travel becomes more efficient,

3. Spend less on energy and fuel resulting from more efficient electric grids that lose less power along the way from generation to use

4. Experience faster recovery as innovations in services and manufacturing, resulting from the rebuilding of our infrastructure, would lead to creation of new industries and jobs,

5. Grow Growth from new capital investments made by investors into projects and companies involved in the rebuilding of America.

Happy Days will be here again. This risk manager is hopeful that President-elect Obama will take the right actions toward this better future.

Ed Kim
Practical Risk Manager

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