Sunday, July 31, 2011

Little Money Secrets

Little things can make a difference in money matters. Just as small adjustments to a swing can change a golfer's game or a batter's average, paying attention to a few details can make you better off financially speaking.

Calculate your net worth. This is the most basic thing you can do. At least every three months, figure out where you stand. If you don't keep score, you won't know how well you're doing and whether or not you're making progress. You can't do any financial planning without knowing your net worth.

Reinvest dividends and interest. Rolling your investment income into new investments allows you to compound your earnings. The leverage from compounding over time is astonishing (see If you reinvest your investment income, you'll have a more reliable source of growth in your wealth than stocks, gold, oil or any other asset class.

Sweep excess income into savings. Let's say, near the end of the month, you've been true to your budget and have some excess income from your last paycheck. Sweep the excess income into a savings vehicle. The savings vehicle can be a savings or money market account at a bank, or a money market fund account. As funds build up in the savings vehicle, you can transfer them to a mutual fund or other longer term investment, if you like. But the point is to get them out of your checking account, where they may be viewed as immediately spendable, and into the category of savings. Resist the urge to view excess income as mad money. Sweeping even small amounts adds up. If you sweep $50 a month, on average, after one year you'll have $600. After ten years, you'll have $6,000, plus investment returns. After twenty years, the total will be $12,000. With investment returns, it might have grown to $20,000. After thirty years, you've swept $18,000, and investment returns may have made the total $30,000 to $40,000. Remember that this is in addition to your 401(k), IRA and other retirement accounts. Little crumbs can be made into crumb cake.

Focus on saving. Too much time and energy are devoted to searching for the ideal investment strategies, and not enough to saving as much as possible. There is no way to pick the optimal investment strategy for the next five years, let alone the next thirty, forty or fifty, because no one can predict the future with certainty. Look at the past five years if you think otherwise. People who save more have more capital to invest and diversify among different asset classes. People who save only modest amounts may find themselves taking big risks in order to ensure a comfortable retirement. The Great Recession has taught us that taking large risks doesn't always yield high returns, or any returns at all. Saving more, and moderating risk, is a smarter long term strategy.

Avoid debt. This is the biggest secret of all, because, judging from the growth of consumer debt in recent decades, so few people seem to understand it. Since most people borrow money to consume, they get no financial return from it. It's a pure cost item, with the repayment of principal and interest coming out of future income. Of course, most people need to borrow to buy large items, like a house, an education, or a car. But borrow only when you must and when there is an important reason. You have a finite lifetime income, and the more of your finite income you devote to debt repayment, the less you'll have for everything else. Why enrich banks? (For more on this point, see

In baseball, most hits are singles, even for Hall of Famers. The same is true for financial planning. Apply these little secrets, and your golden years will likely glow more brightly.

Thursday, July 28, 2011

A Glimmer of Hope for a Debt Ceiling Deal

As the House of Representatives struggles tonight to hold a futile, symbolic vote on Speaker John Boehner's debt ceiling proposal--which the Senate will reject, so the vote achieves nothing except to throw more mud at the other side--there is a glimmer of hope for a resolution. It comes not from a smoke filled room on Capitol Hill, but the stock market.

For five days in a row, the Dow Jones Industrial Average has fallen, dropping a total of almost 4%. The S&P 500 has dropped four days in a row, for a total loss of over 3%. The Nasdaq went slightly off message today, rising 0.05%. However, in the preceding three trading sessions, it dropped a total of over 3%. Although these numbers don't come close to a correction, let alone a bear market, they are large enough to make many registered voters get nervous about their 401(k) accounts. If voters were wondering why the debt ceiling mattered, well, now they know.

The politics of the debt ceiling issue have become more convoluted than the serpents that served as Medusa's tresses. The impasse over the debt ceiling comes, to a large degree, from Tea Partiers and other conservatives seeing the ceiling as a matter of ideology. Just about everyone else understands it's a matter of financial management. But ideologues tend not to compromise on matters of ideology. So the trains no longer run on time in the processes of the federal government.

However, on Wall Street, Main Street and even Pennsylvania Avenue, money talks and bullswaggle walks. When the House got all wound up over TARP and voted it down on September 29, 2008, the market dropped about 8%. Constituents from sea to shining sea communicated with their representatives promptly, frankly and not positively. This captured the full attention of the House, and an amended TARP bill was promptly passed on a second try.

The principal activity of members of Congress is to tell their constituents what they want to hear; that's how they get elected. The debt ceiling squabble has devolved into a lot of posturing for the choir, which not surprisingly admires the Representative's new clothes. Representatives aren't getting enough objective feedback from the political process.

The stock market is just about the only means for imposing legislative discipline. There's no chance of a compromise before this weekend. Another down day in the market tomorrow might work wonders in opening hearts and minds on Capitol Hill to the joys of productive dialogue. Even though more market drops mean investment losses, there is no way to reach a resolution on the debt ceiling problem without pain. If there is no resolution, the pain from the financial markets will be much more acute that what we've experienced so far. If the markets fall again tomorrow, view it as filling the glass halfway.

Tuesday, July 26, 2011

European Credit Default Swaps: EU 15, Speculators Love?

An undercurrent of the EU sovereign debt crisis is that the Euro zone nations detest the speculators they believe have been gambling on the outcome of the Greek and other bailout efforts. Hedge funds and perhaps some investment banks dabble in credit default swaps protecting against defaults by various Euro zone nations as a way to gain speculative profits. While CDS's may have originated as hedging instruments, just about any financial instrument can be used to speculate as well as hedge. And CDS's, like many derivatives, can be traded on a leveraged basis, which makes them all the more appealing as speculative investments.

Euro zone governments loath speculators in CDS's of EU member nations' debt. Although CDS's nominally take their value from the market for the underlying financial instrument, there is a belief that derivatives markets can affect the markets for underlying financial instruments. In other words, a lot of CDS speculation on a Greek default might push the value of Greek bonds lower, increasing the potential for default by raising the market interest rates Greece must pay. The toxic interaction in the 1987 U.S. stock market crash between stocks and a type of derivatives contract called portfolio insurance fuels such beliefs. Portfolio insurance purported to guarantee the value of portfolios. Mutual funds, pension funds and other institutional investors flocked to this product (which is now extinct). When stocks dipped on Black Monday (Oct. 19, 1987), portfolio insurers began short selling underlying stocks in order hedge themselves against further stock drops. That short selling only increased the downward pressure on stocks, which triggered more selling and short selling. This increased selling impelled more short selling by portfolio insurers, which served only to fuel more panic. The market dropped a total of 22% that day, the greatest percentage drop ever, not excluding the 1929 stock market crash.

The EU's second bailout for Greece involves an expectation of a "voluntary" bond exchange by private holders of Greek debt for longer term debt, something that underlies the credit agencies' view of this bailout as a default. This exchange will entail a 20% loss for those holders. The exchange feature would lower the market value of Greek bonds and, perhaps, might be the sort of thing against which a CDS holder would expect protection. But the International Swaps and Derivatives Association, a trade organization composed of derivatives dealers, has decided that CDS obligations will not be triggered by the second Greek bailout because it doesn't change the terms for all holders of Greek debt. In other words, if a hedge fund holds a CDS on Greek debt and was hoping for a payout because the EU's bailout, part deux, would be considered a default by the rating agencies, it's out of luck.

How many speculators have been hurt by this decision, and how large their losses are, is unknown. The amount is probably not trivial, because all the volatility surrounding the Greek debt situation would provide a plenitude of speculative opportunities. Don't expect a lot of publicity about these losses. The speculators, knowing the EU member nations are probably quietly gloating over this victory, have plenty of reason to lick their wounds in silence. And don't be surprised if the EU, in the next bailout of Greece, Ireland, Portugal or whomever, doesn't try to structure things so that CDS's payment requirements again aren't triggered, and the speculators get spanked again.

Sunday, July 24, 2011

With the Second Greek Bailout, Will Greece Become Germany or Germany Become Greece?

The second Euro zone bailout for Greece confirms what was pretty clear from the tea leaves: the political leadership of the EU intends to stand behind all the public debt and all of the banks of all its members. This bailout gives the can another kick down the road, pushing back debt maturities but still leaving Greece facing an unsustainable debt load. While there is a provision for an exchange of bonds by private holders that would involve a 20% loss for them, that's a pretty generous deal considering that these bonds traded at a 50% discount in the open market. You can call it bailout light. The bond exchanges won't do much to reduce Greece's total debt load. More bailouts loom.

The Greek Bailout, Part Deux, necessitates more austerity. A nation where the public sector is 40% of GDP, Greece is looking at years of constraint in government spending. Politically, that will be a challenge. But the alternative--departure from the Euro zone to pursue other interests--would be worse. So Greece will have to man up and tighten its belt. Right?

Well, not so fast. The second bailout requires closer political supervision of Athens by Brussels than ever before. The same will be true for Ireland, Portugal and other nations, if they tap into the brave new bailout facility. The Euro zone is cruising toward political union. For a while, no high ranking European officials will say so. But political union is essential to prevent the bailout process from fostering an ever bigger sovereign debt bubble. Otherwise, the bailees could allow their public debt to keep growing, and stick the costs on their wealthy northern European benefactors. Greece, therefore, must become Germany.

But will it? There are obvious cultural, historical and linguistic differences between the two nations, differences that have existed for thousands of years. There are also lingering memories of World War II, in which Greece suffered under harsh German occupation. Greece won't transform itself over the next five years into the new Pomerania.

The very concept of political union implies a melding of traditions and cultures. All member nations of the EU will have a political voice, and they will have to listen to each other. All will influence the others. Such is the case with political amalgamation. The Roman Empire, at its indolent, libertine, epicurean peak, was a far cry from the relatively simple, disciplined world of Cincinnatus. America, the world's melting pot, has grown far from the spare, repressed, colorless culture of the Puritans, absorbing words, foods and values from wave after wave of immigrants. As the EU becomes the United States of Europe, Germany will absorb ideas and values from other members, including Greece. Southern Europe will also change to more closely resemble its northern neighbors. But the final outcome is unpredictable. Consider Daimler-Benz's acquisition of Chrysler Corporation.

Daimler-Benz merged with Chrysler in 1998. The idea was to give Daimler-Benz a bigger presence in North America, while joining Chrysler with a company that had much higher product quality standards. The Mercedes vehicles of the 1980s and early 1990s generally had excellent reviews for quality, reliability and safety. Chrysler, it was hoped, would become Mercedes.

That didn't happened. During the decade that Daimler-Benz was affiliated with Chrysler, Mercedes' products frequently got mediocre reviews for quality and reliability and Chrysler's products remained as crummy as ever. (See Consumer Reports.) In other words, Mercedes became Chrysler. Things got so bad the two companies went their separate ways.

Maybe Germany will become Greece. With a raucous, unruly union on its hands, Germany may find it easier to defer problems than face the pain of resolving them. The second Greek bailout's tack of pushing debt maturities back--another kick down the road for the can--doesn't portend well for a Germanic EU. Actual reduction of Greek and other sovereign debt loads is the litmus test for the EU's viability, and that fat lady ain't singing yet.

It will be up to the legislatures of individual Euro bloc nations to approve the second Greek bailout. Chances are they will, maybe with a teaspoon or two of rancor. The chances of a major financial crisis from the EU's sovereign debt problems have diminished for a couple of months, perhaps. But don't let your guard down. The American debt ceiling squabble is accelerating rapidly from 60 to 120. Ireland and Portugal may take their hats into their hands, and line for their second turns at the bailout trough. Ours is a world living on borrowed money, and consequently, we're never truly in control of our lives.

Wednesday, July 20, 2011

Facing a Never Ending Governmental Debt Crisis

As the federal debt ceiling scrum thrashes toward a short term solution, it's evident that we won't have a permanent solution for many months, maybe years. The Republican right made a mistake in thinking it could use the debt ceiling as a lever for reducing federal spending. The lever, it turns out, is one red hot tamale--not lifting the ceiling in time to prevent a government cash squeeze could blow up the stock and bond markets, slow economic and jobs growth, smack other nations with similar consequences, and worsen consumer malaise. The debt ceiling is like a nuclear weapon: too horrifying for actual use. So it doesn't provide much real leverage. Now, with time very tight, leaders of both parties are scrambling to stabilize an increasingly messy situation. Chances are they'll come up with something, but it will be short term, and the crisis will renew itself within months, if not weeks.

Across the pond, we have the same short termism managing an increasingly large load of governmental debt in the Euro zone. Greece's latest default spasm was quieted down with more borrowed money while a long term resolution was pushed off for a couple of months. The dominos in Ireland, Portugal, Spain and Italy quivered. High ranking EU officials debated what might be done without reaching agreement (sound familiar?). Banking officials in Europe applied extra lipstick to the latest round of bank stress tests, and admired the pigs as best they could. But the stink of the sty remained.

The sovereign debt problems on both sides of the Atlantic have taken on the quality of a sickening roller coaster ride, with crisis followed by crisis followed by crisis. Each crisis has the potential to blow up banks and sink financial systems, taking economies with it. With a frenzy of stress every few months, a toll on long term economic well-being will be extracted. You can't plan years ahead if your 401(k) is about to be torpedoed. A business can't hire for the future if its bank funding might evaporate in two months because a foreign nation 4,000 away can't get its national accounts straightened out. Just a few of the detrimental effects of such endemic crisis would include:

Lower business spending. It's well-known that corporate America is sitting on top of shiploads of cash, but not investing or hiring. While this reluctance to put money to work is due in significant part to overall economic sluggishness, the seasickness that comes from just watching the sovereign debt crises surely heightens cautiousness.

Less long term investment. The 2008 financial crisis drove large numbers of individual investors out of the stock markets. The sovereign debt dilemmas encourage further departures. With stocks still close to their two-year highs, it's easy to rationalize taking chips off the table, and some individual investors are doing just that.

More consumer malaise. If consumers keep hearing that the world as they know it will collapse in a couple of months, they won't: (a) buy a house, (b) buy a car, (c) buy household furnishings or equipment like washers and dryers, or (d) take a big vacation. Staycations devoted to buying bulk, discounted quantities of rice, beans, and ramen noodles will become all the rage.

Income stagnation, leading to economic stagnation. Incomes at almost all levels except the top 10 or so percent are stagnant. With federal deficits under scrutiny, governmental benefits may be trimmed. The continuing volatility created by these debt problems will only encourage the Federal Reserve to persist in its policy of never again allowing interest rates to rise. A future of low rates in America precludes a revival of the interest income on which millions of retirees and others used to depend. For an economy that's 70% consumption, income stagnation means economic stagnation. There's no possibility of growth if there's no income to spend. People aren't so crazy as to borrow money for consumption any more, nor are banks so crazy as to lend it. The inflation the Fed so desperate seeks won't spur consumption if there's no increased income to compensate for higher prices. Indeed, for most today, the response to inflation seems to be to stop spending on all but essentials.

A state of perpetual crisis precludes stabilization and growth. Today's sovereign debt crises are political problems more than anything else. Both Europe and America have the wealth to solve these problems. They just can't figure out how to allocate the burdens of the solutions. But the price of this political dysfunction is economic dysfunction. And that's our future, unless something really changes.

Monday, July 18, 2011

Dumb Couponing

Now that couponing has entered the zeitgeist, avid hordes descend on beleaguered cashiers, hoping not only to save big bucks, but best of all, score an appearance on cable TV. A little help for your budget is nice. A chance for celebrity, however ersatz, makes couponing irresistible.

Before you join the melee in the checkout lines, however, remember that coupons are a marketing device, meant to make you spend, not save. There are plenty of ways you can go wrong with coupons.

Stuff you don't need. Fifty cans of string beans that have the color and aroma of used Army uniforms from World War II aren't worth buying, even if you get them at 50% or even 75% off. While you might be able to defend having 100 rolls of toilet paper, on the proposition that too much tp is far better than not enough, there are very few things in a grocery store that are worth buying by the case. Stockpiling stuff you know you'll use is fine and even smart. But don't buy something just because it's cheap.

Stuff you wouldn't otherwise buy. The purpose of a manufacturer's coupon is to lure you in to buying something you'd normally ignore. It's meant to take money from your pocket, not save you money. You only save if you have a coupon for something you'd buy anyway. Focus coupon use on things that usually appear on your shopping list.

Impulse buying. Store coupons (as opposed to manufacturer's coupons) are aimed at getting you in the store, with the hope you'll spend your coupon savings on impulse purchases of full-priced items. You only get a bargain if you buy the coupon items and other stuff that's already on your shopping list. Don't think that coupons liberate your budget.

Shelving costs. Extreme couponers featured in the media all seem to have basements cluttered with rows of shelving that probably was bought at the local big box home improvement store. That shelving can get expensive when you buy enough to turn your basement into a warehouse. Remember, you can't put a rec room or man cave in space that's filled with jugs of laundry detergent and cases of pasta.

No quality time. If you're spending all your free time gathering coupons, and shopping at myriad stores in order to nab every bargain in sight, you may miss out on the finer things in life, like the next fad on cable TV after extreme couponing. When you're waltzing with your walker in the nursing home, you'll want more to remember than the time you got 50 gallons of mustard for $11.89.

The easiest way to save money is to not spend it. Save it for something that really matters, like a low financial stress retirement. Coupons are intended to lighten your wallet, so couponer beware.

Friday, July 15, 2011

A Buyer For 14th Amendment Bonds

There has been speculation that, if the federal debt ceiling isn't raised by August 2, 2011, the President might order the Treasury Department to issue more U.S. Treasury securities anyway, relying on supposed authority from the 14th Amendment to the Constitution. The President has said he won't do this. But if push comes to shove, and the ship is about to hit the iceberg, who knows? Desperate times call for desperate measures.

Legal talking heads have yammered busily about the correct interpretation of the 14th Amendment. Market talking heads have speculated that buyers would be hard to find because the uncertain legality of 14th Amendment debt would make it a pig in a poke that investors would shun.

The legality of such debt is open to vigorous debate. But in terms of finding buyers, that's easy. No sweat. There's a buyer out there who will snarf up all 14th Amendment debt, if necessary, and not worry a bit about its legality. That buyer would be the Federal Reserve.

Fed Chairman Ben Bernanke hasn't said a word publicly about the Fed buying 14th Amendment debt. The thought may not have even occurred to him. But if push comes to shove, and the Sword of Damocles is about to drop on the federal government, the Fed will undoubtedly ride to the rescue with regimental colors flying and Garry Owen playing. A central bank buying its government's debt is said to monetize that debt, a serious no no in the view of many economists because it could trigger inflation. But the Fed hasn't, in recent years, seen any inflation it didn't like. And with the economy slowing again, Chairman Bernanke may well be pondering how to slip a little more quantitative easing into the financial system. Buying up 14th Amendment debt may be the least controversial way to do it, since the Fed could claim it's monetizing debt for the sake of Old Glory.

The Fed need not send a check directly over to the Treasury for the 14th Amendment debt. That might be a tad indiscreet. Instead, it could quietly signal to its primary dealers that they wouldn't take any losses on the stuff. The dealers would likely do the patriotic thing and choke down these latter day Liberty Bonds even if they taste an awful lot like broccoli. The Fed could then buy the stuff up from primary dealers or accept it as collateral for their borrowings from the Fed.

What if the 14th Amendment bonds turn out to be unlawful? The Fed would surely protect its primary dealers and take the losses itself. The uncollectable bonds would simply relieve the Fed of the necessity of withdrawing some liquidity from its quantitative easing program. Nothing would make the Fed happier. Of course, the Fed would have a paper loss. But the loss would consist of money it printed, not real money from member banks or taxpayers. Easy come, easy go.

Tuesday, July 12, 2011

The Debt Ceiling Crisis: Did McConnell Just Throw Obama Into a Briar Patch?

Today, Mitch McConnell, the leader of the Republicans in the Senate, proposed a "backup" plan for the debt ceiling crisis: a law that would allow President Obama to raise the debt ceiling in three steps over the remainder of his presidency. The proposed law provides an elaborate procedure for Democrats and Republicans to tag each other "It." Obama would tell Congress of an increase in the debt limit. Congress could (and perhaps would) adopt a resolution opposing the increase. The President would then veto Congress' resolution. The Republicans would be unable to override the veto since Congress, as currently constituted, would not give debt ceiling opponents the two-thirds majority needed. Obama could use this procedure to increase the debt ceiling by a total of $2.4 trillion through the end of 2012.

Failure to raise the debt ceiling could cause chaos in the financial markets, and trigger an economic downturn. Opinion polls show that much (and perhaps most) of the blame would fall on the Republicans. McConnell surely wants to steer his party away from self-immolation. At the same time, unilateral increases in the debt ceiling might weaken Obama's standing with swing voters in the middle, bettering the chances for a Republican victory in next year's presidential elections.

Obama himself may be wary of the Republican proposal, because he would three times be taking action that would appear profligate in a time when austerity seems to be in political vogue. The amount of increased borrowing he could authorize--$2.4 trillion--is slightly below the $2.5 trillion to $2.7 trillion projected as the government's increased borrowing needs through the end of 2012. So McConnell's proposal would keep Obama on a fairly tight leash, and expose him to being excoriated by right wing debt ceiling zealots three more times before he faces the 2012 election.

At the same time, though, Obama would get an opportunity to shift his attention away from the deranged histrionics that now permeate the debt ceiling debate. He could focus on tax and entitlements reform (where the budget deficit problem will really be solved). He could also stay on top of defense matters. Completion of our withdrawal from Iraq, and a brisk drawdown from Afghanistan might do much to close the gap between the $2.4 trillion debt increase McConnell would allow, and the $2.5 trillion to $2.7 trillion Obama is projected to need.

Although the White House hasn't reacted to McConnell's proposal, it may go along in the end. One clever aspect of the McConnell proposal is that it allows both Democrats and Republicans to cater to their respective alternative political universes. The Republicans would allow the debt ceiling to increase--something they really have little choice about--while forcing the President to take the blame for this heresy by vetoing Congressional objections. The debt ceiling ideologues on the right would have a field day doing what they like best--babbling 17-second soundbites for the evening news. The Democrats in Congress would avoid a distasteful task (neither party likes having to raise the debt ceiling), while the President would three times have to grit his teeth momentarily but then be able to get on with more substantive matters. This may be a briar patch he doesn't mind being tossed into.

Commentators on the right have already blasted McConnell's proposal. That alone tells you it could be a sensible compromise. It wouldn't give the President the grand $4 trillion long term deal he's been seeking, so he can't claim it's a victory. Moreover, McConnell has now positioned the debt ceiling zealots to take the blame if his proposal isn't enacted, the debt ceiling isn't raised, and the financial markets tank. That surely infuriates the Tea Partiers who have bedeviled McConnell's efforts to negotiate with the President.

McConnell may be aiming to forestall a longer term checkmate for the Republicans. The extension of the Bush tax cuts, enacted last fall, expires at the end of 2012. That means the Democrats get the tax increases they want simply by not agreeing to extend the Bush cuts again. They don't need to negotiate with the Republicans to raise taxes. They can simply wait, and they win the waiting game if President Obama is re-elected next year. By forcing the President to take the initiative on raising the debt ceiling, three times no less in the next 18 months, McConnell may weaken Obama's chances for re-election.

Because of right wing fury, there's no certainty that McConnell's proposal will become law. Many in his own party already question it. McConnell himself may have floated the idea simply to send his Tea Partying colleagues a message that they should talk turkey instead of preaching hellfire and damnation. The debt ceiling crisis remains far from resolution. Don't bet the rent money on the financial markets being stable in the near future.

Monday, July 11, 2011

FDIC Insurance Coverage

Nothing's being resolved. The most recent flareup in the European sovereign debt crisis ended with Greece getting enough pocket change to tide it over for a couple of months, while the EU squabbles over the terms of a second Greek bailout. In other words, the can was kicked a short distance down the road, after Greece got a few hamburgers that it promised to pay for on Tuesday. But the prospects of a real solution are as bleak as ever.

The debt ceiling fight in Washington is getting louder and more strident. That could mean both sides are posturing for their supporters and preaching to their respective choirs for a while, before working out a last minute deal. Or else they might be heading for a showdown. The latter would be dumb, seeing as how it would flummox the financial markets. But then again we're talking about politicians, so dumb is s.o.p. The moody intransigence of today's politics makes it harder for politicians to compromise. The one hope we may have is the world's largest collection of hypocrites is in political Washington, and if driven by expediency, they'll readily go back on their words in order to save their glutei maximi.

Meanwhile, back at the ranch, the poor consumer has to figure out how to avoid having his or her own glutei maximi deep fried. The European sovereign debt crisis could trigger a financial crunch like 2008, except maybe worse. If the U.S. defaults on its debt, 2008 will seem like Party Central. When the going gets tough, the prudent make sure their bank accounts are FDIC insured. Here are the basics on coverage.

Each account "owner" gets $250,000 per bank. In other words, all of the owner's accounts are totaled, and up to $250,000 of deposits is protected. So if you have a checking account and a couple of CDs, their balances are aggregated and as much as $250,000 is covered.

Here's the fun part: you can be more than one type of owner, and each owner you become gets $250,000 of coverage. This isn't like the Internet where you might have multiple user names, and you don't need to have dissociative identity disorder. Just take on various different legal persona, and, presto, you get another $250K of coverage.

Start with you as an individual: $250,000 of coverage is provided for accounts in your name.

You as a joint account owner (such as with a spouse, parent or child): $250,000 of coverage for each joint account owner. So a joint account for a married couple gets $500,000 of total coverage.

You as the owner of an IRA: $250,000 of additional coverage for your IRA accounts.

You as the owner of a revocable trust account: another $250K of coverage per beneficiary.

You as the beneficiary of an irrevocable trust account: yet another $250K of coverage for all beneficial interests granted by the same person creating trusts (known to lawyers as the "settlor") at any one bank.

A corporation that you own: another $250K coverage, as long as you operate the corporation for an independent purpose (i.e., a purpose other than increasing your FDIC coverage).

Then, here's your ace in the hole: if the foregoing account types aren't enough to protect the enormity of your wealth, you can, until Dec. 31, 2012, get unlimited FDIC coverage for non-interest bearing transaction accounts. In other words, you can open a non-interest bearing checking account, and protect as many of your hard-earned shekels as you like until the end of 2012. If you hear some ringing that sounds like Hell's Bells, keep this in mind.

What are the chances that FDIC coverage will actually matter to you? So far, in 2011, 55 banks have been closed by the FDIC. In 2010, there were 157 bank closings. The number in 2009 was 140. Banks close when the financial system goes bonkers and the economy nosedives. If today's governmental debt crises keep metastasizing, more banks will fail, and holders of uninsured deposits will take losses. If your money is too concentrated for full coverage, spread it around.

In addition, if your money is an uninsured place, like a money market fund, you may want to move some or all of it into FDIC insured accounts. The European debt crisis has cast a cloud over money market funds holding commercial paper of European banks (which would be many of them; check to see if your fund holds it). The U.S. debt ceiling showdown could cause losses--probably minor, but you never know--for money market funds holding U.S. Treasury bills (many funds hold T-bills in varying amounts). FDIC protection for at least some of your cash may improve the quality of your sleep.

For more information on FDIC deposit insurance, go to

Saturday, July 9, 2011

How Statistics Can Lower Your Standard of Living

What you don't know can hurt you.

Nothing glazes over as many eyes as economic statistics. And with good reason, since most of them, even if accurate (a big assumption) don't mean much of anything by themselves. At best, even the most important economic statistics are meaningful only when considered in light of numerous other statistics and the big picture revealed thereby.

But there are a few statistics that really matter: the ones used to figure out how much we are paid and taxed. The ongoing debate over Social Security and tax reform revolves around three of them. Pay attention, because money talks and these statistics are talking loudly.

Social Security benefits and federal pension payments are adjusted by an inflation index called the CPI-W, or the Consumer Price Index for Urban Wage Earners and Clerical Workers. Federal income tax brackets are adjusted by the the CPI-U, or the Consumer Price index for All Urban Consumers. The CPI-W and CPI-U are not identical. But they both gather information about the prices and amounts of goods and services people buy, put the information in a giant mixing bowl, swirl things around vigorously, dump the contents in a large blender, and churn out a value that reflects a composite price value, weighted by the relative amounts of goods and services people buy. Changes in prices over time increase or decrease (usually increase) the value of the composite. These changes are treated as the measured inflation rate. The CPI-W and CPI-U also take account of changing consumption patterns of consumers--i.e., as consumers buy less iceberg lettuce and more arugula (or vice versa, which may be the case in times of recession), the weights assigned to the prices of iceberg versus arugula are adjusted. These adjustments are made once every few years.

The debt ceiling/budget deficit debate has included a proposal to use the Personal Consumption Expenditures Index (or Chained CPI) in place of the CPI-W and CPI-U as the measure of inflation for adjusting Social Security, federal pensions and tax brackets. The Chained CPI takes account of substitution of goods as prices rise. For example, if the price of beef rises, consumers may eat less beef and more chicken, thus lowering their overall spending on meat. The Chained CPI doesn't increase as much as the CPI-W and CPI-U because overall meat expenditures don't rise as fast when chicken is substituted for beef. If consumers substitute beans for beef and chicken, then the Chained CPI would rise even less. The Chained CPI may, over time, rise about one-third more slowly than the CPI-W or the CPI-U. (Actually, the CPI-W and CPI-U also incorporate the substitution effect but reflect those changes only once every few years, while the Chained CPI accounts for the substitution effect much more quickly.)

Using the Chained CPI, instead of the CPI-W, to increase various federal payments will be less costly to the federal government. But that's only part of the story. The Chained CPI, as an index for increasing Social Security and pension payments, punishes people for economizing, because it treats substitution solely as a matter of price, without taking account of the loss of perceived quality. Given a more miserly inflation adjustment, people might economize some more, only to be further punished through next year's use of the Chained CPI to get a lower inflation adjustment. That in turn would continue the cycle of skimping, followed by punishment, followed by more skimping, resulting in more punishment, until people are eating sawdust instead of bread. At a time when we need to sustain and support consumer spending in order to have a foundation for economic recovery, using the Chained CPI lessens the potential for recovery.

The use of the CPI-W as an index for adjusting payments to retirees has been criticized for not fully reflecting the rising costs of health care, which are more burdensome for retirees than younger, healthier people. But the Chained CPI would only make things worse, and if people turn to alternative medicine because they can't afford mainstream care, their cost of living adjustments will be further limited by the Chained CPI. Witch doctors will rejoice.

As if retirees and other Americans receiving Social Security haven't been penalized enough, look at what happens when the Chained CPI is applied to the tax code. By law, the CPI-U is applied to increase the level at which higher tax rates are imposed. In other words, the more inflation there is, the lighter taxes become at a given income level because inflation has effectively lowered the value of that amount of income.

The inflation adjustment was enacted in the 1980s as a matter of fairness and to take away an incentive for the federal government to inflate the dollar, slyly obtaining tax increases without legislating them. If the Chained CPI is substituted for the CPI-U, the effect will be to weaken that policy by raising tax brackets less quickly when there's inflation. The Chained CPI would, in effect, to raise taxes from what current law provides. That, in turn, would squeeze consumers, forcing them to cut back on their standard of living.

The combined effect of substituting the Chained CPI for the CPI-W and CPI-U would be that retirees and others receiving federal payments would be hammered harder by inflation, and their taxes would increase in real terms to reward them for having to live with lower standards of living. As they tried to cope with their reduced circumstances, their inflation adjustments would be even less, while their taxes would effectively rise some more. Catch-22, only this isn't fiction. Even if you're not receiving Social Security yet, don't think this doesn't affect you. Your taxes will be higher than otherwise because the brackets will adjust slower.

The Chained CPI provides useful information to economists and others trying to understand consumer behavior. But if it becomes the legal basis for deciding how much the government pays to retirees and other people (recall that many receiving Social Security are disabled), and also for how much government will tax its citizens, then it may end up automatically lowering standards of living. Why this beggar the citizens policy in a time of economic stagnation is a good idea hasn't been explained. Yes, it would tend to reduce the federal deficit, but only by making the electorate poorer.

The times are beginning to hark back to the pinched, self-flagellating malaise of the late 1970s, when it seemed we could do little about OPEC oil price hikes except turn down the heat and wear sweaters. The Chained CPI proposal takes advantage of the unfamiliarity of most citizens with the complexities of economic statistics. It would lower standards of living for tens of millions of Americans while raising taxes on all, and encourages the federal government to foster inflation. Why is this a good thing? The federal deficit needs to be addressed. But surreptitiously eroding the prosperity of citizens, most of whom aren't prosperous anyway, is the wrong approach.

Thursday, July 7, 2011

Solution for the Debt Ceiling Crisis: An Early Vote in Congress

A way to resolve the debt ceiling crisis would be to introduce legislation that would force an early vote in Congress (i.e., a week or so before the August 2, 2011 deadline). Why would this work? Because the Tea Partiers and other conservatives would reject it. The ensuing market consternation would force all concerned to quickly reach an effective compromise.

Recall TARP. On September 29, 2008, the House rejected an initial version of TARP due in large part to anti-bailout sentiment. The Dow Jones Industrial Average dropped 777 points that afternoon, pummeling voters' 401(k) accounts. Public reaction to Congress was swift and not favorable. Four days later, duly woodshedded, the House signed off on an amended version of TARP. Voters, if smacked in the pocketbook, deal with reality and insist on Congress dealing with reality.

An early rejection of a debt ceiling bill would trigger financial market dismay. Perhaps not as severe as the initial rejection of TARP, if the debt ceiling vote were held early enough to allow time for a second vote for the House to get it right. But a moderately melodramatic swoon by the Dow might work wonders in clarifying the thinking of members of Congress up to their left ears in revisionist misinterpretation of the unverified statements of the supposed Founders (not excluding those of elementary school age).

Tuesday, July 5, 2011

European Debt: Are the Rating Agencies Making Good Use of This Crisis?

Never let a good crisis go to waste, it is said. One senses that the credit rating agencies may be viewing the European debt crisis as an opportunity. They've questioned whether the "voluntary" or even voluntary reinvestment by banks and other holders of Greek debt in new long term bonds as a way of sharing losses with northern European taxpayers isn't a default. After all, it delays recovery of a good portion of the principal the bondholders would otherwise expect, and Creece's long term creditworthiness isn't self-evidently golden.

Today, Moody's downgraded Portugal's debt to junk status, finding that its chances of needing a second bailout are rising. This isn't a derivatives market domino effect. It results from an analytical process.

The credit rating agencies lost a lot of credibility during the 2007-08 financial crisis, amid allegations ranging from stupidity to blindness to conflict of interest from the fact that they are paid by issuers of securities. They've been dragged into court by angry investors, thus far surviving but hardly covering themselves with glory.

Reform of the regulation of credit rating agencies remains a work in progress. Particularly thorny are the problems of conflicts of interest and regulatory reliance on credit ratings. Resolution of these issues appears to be proceeding with all deliberate speed.

In the meantime, the agencies themselves may have figured out that demonstrating a little backbone would probably do them more good than squabbling in court or lobbying in Washington. Integrity is the scarcest thing in the financial markets--far scarcer than inside information, judging from recent government cases. Integrity's very scarcity makes it extremely valuable. The credit rating agencies' best chance for survival would come from providing accurate information and candid opinions in a timely manner. They would make themselves relevant and valuable to investors. And, at a time when virtually all high ranking governmental officials in Europe want to put new clothes on the sovereign's debt and kick the can farther down the road, the rating agencies would help move the crisis toward true resolution.

Sunday, July 3, 2011

The Moveable Greek Debt Crisis

The Euro Bloc's strategy for dealing with the Greek (and Irish, Portuguese et al.) debt crisis is becoming increasingly clear. Stall for time, bring in new bailout money, hope for economic growth (with the prospects murky), and hope that taxpayers can eventually be persuaded to bear a large portion of the cost of default.

First, let's be clear that the Greek debt crisis isn't a sovereign debt crisis as much as it is a European banking crisis. The major Greek, German and French banks all hold large amounts of Greek debt. A Greek default would imperil these banks, especially if the Greek debt crisis has a domino effect of putting Irish, Portuguese, Spanish, Italian and whatever else debt (which many banks also hold) under stress. German and French taxpayers would have no choice but to bail out their own nations' banks. That would put a lot of bees in their bonnets.

Even worse, the European Central Bank holds a lot of Greek debt (and debt of other EU member nations). If Greek debt defaults, and especially if there is a domino effect, the ECB could become insolvent. This would mean the collapse of the Euro. That would be a very bad thing.

The Euro bloc has been assiduously cultivating the Chinese, holders of $3 trillion of foreign reserves they need to invest somewhere. The Chinese have bought their fill of dollar-denominated debt, and are looking for alternatives. They have been willing to toss some capital at Greek debt, knowing that the goodwill they get in return is worth more than the losses they'll sustain. But China won't fork over the amounts of money needed to resolve the European debt crisis--their foreign policy is focused on expanding their influence and advantages. Marshall Plans aren't on their agenda.

By the skin of its teeth, the Greek government has signed off on more austerity, paving the way for bailout funding of $17 billion to pay debt coming due this month. The EU has been working on a second bailout package of over $100 billion because Greece has more debt coming due this year and over the next three years which it can't pay. The second bailout was to have been arranged this month, but German insistence on some private sector absorption of losses forced the EU to push back the timetable for completion to September. (The losses would take the form of reinvestment of some current bond repayments into new long term--30-year--debt, but that's economically tantamount to a loss.) Although the Germans and French have been talking about "voluntary" acceptance of losses, the rating agencies have been saying that if it looks, walks and quacks like a default, they're going to call it a default. A default would trigger an immediate banking crisis in Europe, with major banks and the ECB circling the big bowl.

One could say we have a rating agency crisis. The rating agencies, having been revealed to be fools (and maybe worse) during the mortgage crisis, are trying to do the one thing that debtors don't want them to do--be candid. Oddly, in this instance, it's the creditors who are squealing the loudest, because candor will expose the fragility of their banking system and dump shock and awe on their currency.

It remains to be seen who will prevail in this struggle. The rating agencies will come under astronomical amounts of political and commercial pressure to somehow look the other way as the Europeans cover their debts and currencies with fig leafs. Prior history does not auger well for the rating agencies to continue demonstrating backbone. But if the rating agencies can't bring themselves to kiss this pig, we will likely see repeated episodes of stalling and delaying on the question of private sector losses, while the rating agencies are hauled into back alleys, and are threatened direly and offered inducements of many varieties. The can will receive many kicks down the road while the total amount of unpayable Greek debt increases and then increases some more.

Of course, such a dynamic cannot continue indefinitely. But the ending is impossible to predict. One can only rest assured that it will be ugly.

One positive note for America on the eve of its national holiday: the Euro isn't the world's reserve currency and won't become such as long as the sovereign debt crisis threatens to gut the ECB on a moment's notice due a downgrade by the rating agencies. The U.S. Federal Reserve will maintain its as large as necessary currency swap arrangements with other central banks to provide continued availability of dollars, ensuring some stability in international finance, and perhaps just as importantly, preserving the supremacy of the dollar.

Thus, European debt dysfunction allows the dollar to continue its reign as the world's reserve currency. This would be especially so if the administration and Congress resolve the looming debt ceiling problem in a timely manner. The sovereign debt crisis exposes the Euro's true vulnerabilities to Europe's fractured politics. The dollar, for all its problems, still stands tall, and will continue to stand tall if America can demonstrate political maturity. Happy Fourth.