Tuesday, January 19, 2010

Ethics, Taxpayer Massacre, And The Infinite Bailout

When it comes to ethics, economics and politics, most people rely on their feelings rather than an integrated philosophy to guide their thinking, values and action. But feelings and intuitions are not a valid means of gaining knowledge about the world.

To set upon a course of action while engaging in the willful evasion of reality and reason is always to court destruction and disaster. To move forward on a path to a goal while disparaging or ignoring the identification and guidance of valid principles to help to get you there is to act on the premise that anything goes. In all areas of life, including business and politics, such pragmatism ensures that whim and corruption will rule the day.

Unfortunately this mode of thinking and operating is endemic amongst today’s self-proclaimed elite, both in business and politics. Right now in Washington, D.C., for example, as far as I can tell, when it comes to ethics, economics and politics, principled thinking has been willfully abandoned and an atmosphere of damning the facts exists. This method of operation is creating a situation rife with epistemological and moral corruption, where anything goes.

One of the biggest recent stories of governmental moral malpractice is the ongoing bailout, management and oversight of the government owned entities Fanny Mae and Freddie Mac. The WSJ’s January 4, 2010 Opinion Piece “The Biggest Losers” reports on what they have dubbed “the Treasury’s Christmas Eve taxpayers massacre.” The massacre refers to “the Treasury’s Christmas Eve…lifting of the $400 billion cap on potential losses for Fannie Mae and Freddie Mac as well as the limits on what the failed companies can borrow.”

In essence, the U.S. Treasury Department has removed all limits on the U.S. government’s acquisition of private housing property through Fanny and Freddie. The WSJ writes:

The firms have made clear that they may only be able to pay the preferred dividends they owe taxpayers by borrowing still more money . . . from taxpayers. Said Fannie Mae in its most recent quarterly report: "We expect that, for the foreseeable future, the earnings of the company, if any, will not be sufficient to pay the dividends on the senior preferred stock. As a result, future dividend payments will be effectively funded from equity drawn from the Treasury."

The loss cap is being lifted because the government has directed both companies to pursue money-losing strategies by modifying mortgages to prevent foreclosures…. Fannie reported last quarter that loan modifications resulted in $7.7 billion in losses, up from $2.2 billion the previous quarter.

The government wants taxpayers to think that these are profit-seeking companies being nursed back to health, like AIG. But at least AIG is trying to make money. Fan and Fred are now designed to lose money, transferring wealth from renters and homeowners to overextended borrowers.

Even better for the political class, much of this is being done off the government books. The White House budget office still doesn't fully account for Fannie and Freddie's spending as federal outlays, though Washington controls the companies. Nor does it include as part of the national debt the $5 trillion in mortgages—half the market—that the companies either own or guarantee. The companies have become Washington's ultimate off-balance-sheet vehicles, the political equivalent of Citigroup's SIVs, that are being used to subsidize and nationalize mortgage finance.

While all of this looting by elected politicians of its nation’s citizens may be legal in today’s morally nihilistic world, I eagerly await an explanation by anyone - including those in the “business ethics” profession - to justify how such behaviour by some people against others is ethical. Ethical principles are ethical principles, so whatever those principles are, they must apply to all people – politicians included. Otherwise, it just isn’t ethics. The same goes for economic principles and political principles. Principles are, by their nature, objective and universal in scope.

One businessman and potential politician of note has come forward recently to proclaim his outrage – entrepreneur, author (Crash-Proof 2.0) and 2010 United States Senate candidate for Connecticut, Peter Schiff.

Mr. Schiff used the unlimited Treasury bailout commitment for Fanny and Freddie as the launching pad for a more principled economic/political argument as to why government bailouts are bad. Here is my transcription of his extemporaneous comments from his weekly webcast, Wall Street Unspun With Peter Schiff, December 30, 2009.

The way capitalism works is that when you are generating a profit, that means you are doing something right. You are combining resources in an effective way and you are generating a profit.

The profit is the market’s way of rewarding you for doing the right thing, and the companies that are making profits can expand and get bigger because they are doing the right thing. But the other way, if you do the wrong thing you lose money, you get a loss. And what happens then is that activity ceases. You can’t keep losing money forever. So that fact that you’re losing money is a sign that you’re doing something wrong.

Now obviously General Motors Acceptance - GMAC - is doing something horribly wrong because now they’ve had to be bailed out [by the U.S. Treasury Department] for a third time. But instead of letting the market put that company out of its misery, they keep perpetuating it so it can do even more damage to the US economy; they [the U.S. government] can squander even more resources. And in order to keep GMAC in business they have to take resources away from other companies that are doing it right, that would otherwise be growing and expanding and benefiting the economy. Instead they [successful companies] suffer so we can prop up these [failing] companies. The same thing is going on with Freddie and Fanny.

Every business that the government decides to bail out is a business that the economy would be better off without. It’s just enforcing all the wrong things. It’s the reverse of Darwinism and we’ve got to get our leaders to understand the capitalistic system. They’re not in the politburo there – this is the United Stated of America – and they need to understand what that means…

When [Fanny and Freddie] were initially in trouble and they bailed them out when they should have let them fail, the government said we stand behind these entities to the tune of 200 billion dollars each – we will cover the first $200 billion in losses of each company - which is a staggering amount of money. But now last week they said that isn’t even enough – we’re going to cover it all. Even if they lose $500 billion – even if they lose a trillion – the American taxpayers have got it covered. Unbelievable!

And the fact that they would even raise it shows that they know this is going to happen because there were obviously some problems in the bond market…people didn’t want to buy the Freddie and Fanny debt because they began to realize the guarantee only covered $200 billion and they could see the problem was bigger than that, so in order to get people to buy these bonds they had to guarantee everything. So despite the fact that the government is trying to tell us that the housing market is improving, the fact that they had to guarantee all their liabilities shows you that it’s not improving but that it’s getting worse.

Mr. Schiff’s ability to analyze and explain clearly and logically in economic fundamentals makes him a great teacher of economics for the educated layperson and I highly recommend you subscribe to his weekly investment podcast to gain a better understanding of economics.

The underlying causes and solution to all of these economic and political problems we face today has its roots philosophy, especially epistemology and ethics. If, as individuals, we are to promote and engage in civilized societal renewal, we must first embrace reason as our means to understanding, and then identify and define sound ethical principles to guide human action. Only then can we apply those principles to guide the other human sciences, the most important of which are economics and politics.

Abandon or neglect ethical principles and you will enable and create human misery and destruction. And it does seem that our politicians are hell-bent on creating destruction, their declarations of good intentions notwithstanding.

When it comes to politics, I’m always reminded of a line by singer/songwriter Bruce Cockburn: the trouble with normal is it always gets worse.


Copyright 2010, Barry L. Linetsky, All Rights Reserved

Tuesday, January 12, 2010

What Is A Stakeholder?

The word “stakeholder” has become ubiquitous in the world of business. People talk about it as if it has some definite meaning, but I’ve come to the opposite conclusion.

All legitimate concepts refer to some specific entity that can be identified in reality and can be fully integrated within the context of human knowledge. To be a legitimate concept, the thing referred to must have distinguishing characteristics of similarity and difference, with the fundamental characteristic(s) identified. If this can’t be done, then the concept is not (yet) legitimate.

Let’s try to answer the question: what is a stakeholder?

To start, businesses are funded by investors, run by employees, and organized to align resources in ways that create customers and operate at a profit. They operate in a market, which includes everybody that may be affected by the company. This latter group – everybody that may be affected by the company – is what is usually referred to as "stakeholders."

The term "stakeholder" is in practice meaningless because it pertains to everybody that has an interest in any aspect of the company including owners, lenders, employees and their families and spouses, and all people and organizations whom are affected by the activity or lack thereof of the business entity or anything associated with it. It also includes all citizens of a nation because the business pays taxes which support government redistribution and social spending. Thus, for all intents and purposes, everyone is a stakeholder of everything if they are in any way affected by the existence of that entity.

If this is true, then stakeholders are just people - members of society - the market. If you want to group them by interest, then there are stakeholder groups - a group that wants higher wages, a group that wants less noise, a group that wants lower profits, a group that wants union membership, a group that wants more recycling, a group that wants subsidized education, etc., subdivided into as many groups as there are wishes - rational or irrational, prudent or imprudent. moral or immoral, legal or illegal.

Business managers must always operate within the boundaries of opinions and laws of the society to remain in business. That's what it means to be a market-focused enterprise. To proclaim oneself to be a stakeholder in a free-market means that one is free to influence the thinking, decisions, and actions of business owners and management as one sees fit. It is to behave within the confines of freedom, respect for individual rights, and human decency. But it is a concept that isn’t necessary because there is nothing distinguishing about it. What, for example, distinguishes a stakeholder from a non-stakeholder?

In an interventionist market, the claim to be a stakeholder often means the attempt to leverage a moral claim - beyond what one is entitled to in a free-market - to influence the government to coerce businesses through legislation and regulation to act in ways contrary to the interests of the market - in ways that the market would not otherwise voluntarily support. If this is what stakeholder means, then it is a distinct concept, but I don’t think this is what those who use the term consider to be the essence of the concept.

The question therefore remains as to whether the notion of "stakeholder" has any validity as a concept at all if it refers to everybody that has an interest in the outcome of a business.

It seems to me that the designation of stakeholder is often used by some groups to presume moral entitlement to influence business management because they will be affected or impacted by the decisions made by a business, when no such entitlement exists. The self-referenced designation of stakeholder is often an attempt by some to assert or imply the status of victim of an injustice, and therefore redress is required, where no such injustice has occurred. Legitimate injustices can be dealt with through established courts of law with no need for references to stakeholders.

An astute manager should be taking into consideration all external influences to his business when making resource allocation decisions in pursuit of profit, but ultimately, if one believes in the principle of property rights, the ultimate decisions and responsibilities rest with the business owners.


Copyright, 2010, Barry L. Linetsky, All Rights Reserved

Wednesday, January 06, 2010

Ideology, Not Wages, Hurt Unionized Workers Most

I wrote the essay below in response to another titled “Unions are one of our key tumours in this cancerous economy,” written by Mark Borkowski, owner of Mercantile Mergers and Acquisitions Corp. of Toronto, Canada.

His essay, which was posted on the LinkedIn Rotman Alumni Network on Jan 3, 2010, is a general argument that unions, by driving up wages, are a major cause of business failures and plant closings in the current economy because “[t]he increased costs of labour in North America will make it more expensive to produce goods than almost anywhere else in the world.” It is for this reason, asserts Mr. Borkowski, that we should prepare ourselves for more plant closings.

I agree with Mr. Borkowski that unions often act contrary to their economic self-interests. And it is that observation that enticed me write my supportive response.

Ideology, Not Wages, Make Unionized Workplaces Uncompetitive

Posted by Barry Linetsky, January 6, 2010, on LinkedIn Rotman Alumni Network. © 2010, Barry L. Linetsky, All Rights Reserved.

Greed is a human condition. It applies as much to ill-informed unionists as it does ill-informed executives.

Many unions, but not all, and not unions per-se, are a major problem, not because they are unions, but because they attract and operate with an underlying philosophical commitment to a Marxist ideology of class struggle. To this extent they are at war with the process of wealth creation which is at the base of Capitalism, even though they want the benefits. Earning the benefits, though, requires a system of non-coercive cooperation, which is the social-political system of capitalism.

When I was a child, I recall union advertisements that unionized workers did better work due to training and pride. This may have been true about the union movement at one time. I don't claim to know if it was ever true about the union movement in general, having not studied it. But it makes some economic sense.

If you can gather like-minded people who join together voluntarily to engage in self-actualization and workplace excellence as a means to protect their jobs, then all the power to them. But at the base of this is an economic argument that workplace excellence and cooperation creates additional efficiencies and market competitiveness that justify higher wages. If a union can voluntarily organize and motivate employees to achieve and sustain excellence as defined by market competitiveness and customer perceived quality, then they serve their members and their families, the communities they work in, and themselves. But this requires a philosophical mindset and paradigm model of cooperation, not class warfare and envy.

The flip side to this from management's perspective is the general and erroneous - yet common - conclusion drawn by Mr. Borkowski that businesses move their locations because it's "cheaper to get it somewhere else with non-union labour." This is not a sound business reason for rejecting a union.

If the success of the business really rests on the costs of labour - which it might in a labour-intensive commodity business - then this is likely the result of management failure over a number of years to recognize and deal with a failed business model, which, if parts of the business are unionized, both the company and the union are likely to be the culprits. Where unions make it their mandate to prevent adaptations to market conditions, then clearly they must shoulder the blame for increasing uncompetitiveness that culminates in a crisis around wages.

The proper focus for both unions and management is economic value added by the labour relative to competitors, not wages per se. I may be accused of being naive, but there is no inherently necessary reason why management and workers can't cooperate to combine economic and human resources to build and sustain great businesses over time. At its root, any such constraints are primarily philosophical and ideological, not economic. That individuals think that their interests are best served by unions today given the antagonism of the underlying social philosophy of the movement to social benefits of voluntary cooperation, explains why they join unions. In many cases business owners and managers operating and struggling under unsustainable business models engage in poor employee business practices to try to meet their own financial obligations, thereby attracting ill-will and retaliation through union organizing. Yes, those people should seek other jobs rather than seek coercive retaliation through unionization, but the law allows otherwise, and humans don't always act wisely.

IMO, it is ideology, not wages, that is the primary cause of the clash between businesses and unions. Unions would better serve their members by aligning themselves with a market-driven, cooperative perspective to serving their members. The future success and social viability of unions will depend on it. Kudos to those 'progressive' unions that already do.

Barry Linetsky