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Commentary on The Capital Markets

For roughly seven years I've written on economics, social issues and the markets.  In several areas of the economy and markets have I put forward what I believe would be an improvement in what we have now, whether it be in the area of health care, education, monetary theory and practice or energy.

Leverage, for example, featured all of these areas of the economy in quite-significant detail.  But in the time since its publication, along with the time before that I and a few others have spent writing on these matters, little has changed and in fact one can easily argue that economic matters have gotten much worse for the average American.


I want to advance a "unifying theory" if you will that underlies all of these ills.  I've talked about it a bit in the last year but I believe we must bring it front-and-center in our economic debates both among our associates and in the political sphere.

It is simply this: We must stop and reverse the financialization of all areas of our economy.

What am I speaking of in this regard?  The increasing acceptance by us in being sold a payment instead of a price.

You may not have noticed it but virtually everything nowdays is sold this way.  And unlike the various perverse games that are played in Washington DC to screw you in one form or another this one is completely under your control; no President, Senator or Representative can force you, at gunpoint, to acquiesce.

Consider the common situation with cell phones that I wrote about in Leverage: You walk into a cell phone store to get a new phone and are told it's "ninety-nine dollar!"  No, that's not the price.  The price is in fact $99 down and about $40 a month imputed for two years; that $600 phone in fact costs about $1,059!  The rest was extracted from you because you allowed yourself to be sold a payment ($100 a month for cell service) instead of a price.

If you bought a price instead you would have paid $500 for the phone and then $50 (or less!) for the service.  Indeed, you can do that now -- it's called Straight Talk over at your local WalMart.  There is no subsidy on the phone and the price is $45 per month for unlimited talk, text and 2Gb of data -- about half of what Verizon or AT&T want for the same thing.  Oh, did I mention that you're actually running on their networks anyway?  Yeah, that too.

So by refusing to allow the cell phone store to financialize your service and phone you pocket about $25/month when all is said and done.  That's $300 a year with which you can buy an (inexpensive) vacation or just a few nights at your local bar.  $25/month doesn't sound like much but for many people it's about half of their monthly water bill, and that's nothing to sneeze at -- especially if you're tight on money.

Let's look at another example: College educations.  You're sold a payment when you start playing the loan game.  "Yes, you awesome and unique high school senior snowflake (and you fine parents of said snowflake!) all you need to do is sign right here and when you finish your education, of course at the top of the class with straight As, you'll land a great job earning $65,000 a year and will pay a mere $500 a month to cover this grand educational experience, complete with a fabulous student center, indoor pool, tennis courts and, of course, sushi every night."

Uh huh.  What they forgot to tell you is that in order to do this you will have borrowed $45,000, or over $10,000 a year.  Your parents will have raided their retirement funds for another $50,000 -- money that, over that same ten years, will be the difference between them eating cat food down the road and being reasonably comfortable.  Your so-called "education" in fact will cost approximately $100,000, or six times what it cost just 30 years ago, dramatically outstripping inflation.

The real bad news is that this "affordability" presumes you succeed, and even if you do you're still in trouble.  Why?  Because $65,000 a year is a gross income of $5,417 per month.  The problem is that most lenders will not allow your total debt service to exceed 36% of your gross income and even that is unsafe.  That 36% means that all debt service must not be more than $1,950 monthly -- that's housing, car payment and the student loan.  Your student loan will chew up better than one quarter of that right up front and if you have a $500 car payment on top of it you're now down to under $1,000 a month for all mandatory housing spending including principal, interest, property taxes and hazard insurance.

How much house does that buy?  Let's look -- at 5% interest and a 30 year fixed loan assuming your hazard insurance is under $500 a year (achievable in most parts of the country) you can finance $177,705 worth of house.

That looks doable in many parts of the country, until you realize something else -- the places where you can land that $65,000 a year job have no chance of having hazard insurance and property taxes both payable with that $500.  Indeed it is not uncommon for the property tax on that $170,000 house to be $3-4,000 a year in metro areas that support your $65,000 salary!

Now run the numbers starting with your same $5,400 in gross income, allowing $1,950 for all debts and subtracting off $750 for the student loan and property tax on the house, plus another $500 for the car payment.  You now have $700 a month with which to buy the house, and by the way that only buys a $130,000 house.

How many of those are in that major metro area and aren't crack houses?  Uh, yeah.

Now you know why you are sold a payment on that education instead of a price; it allows the glib-talking salesman (commonly called a High School counselor or admissions "adviser") to not bother telling you about all the math you ought to do before agreeing to these terms.  It also evades a discussion about what happens to those numbers and your economic life if you don't finish in four years but instead take five (adding 25% to the cost) or worse, you leave without finishing at all but still have the debt.

Without financializing the cost and preventing you from declaring bankruptcy and walking away you would never accept this and no lender in his right mind would give you the money either.

Now let's look at cars.  The other day I wrote about the utter insanity of the average new car costing $32,000.  How did that happen?  Simple -- you're sold a payment instead of a price.  If you walk into a car dealer and tell them you can "afford" $300 a month they will do everything in their power to find a vehicle they can sell you that will "cost" $300 a month.  However, the way they get there won't matter to you because you just told them how much you'll spend monthly, without regard to how much the vehicle actually costs!

By going down this road you virtually assure yourself of getting screwed out of thousands of dollars and what's worse is that you drive the demand curve for those higher prices northward which hurts everyone else irrespective of whether they came into the dealership intending to do the same thing or not.

Of course houses are the worst offenders in this regard.  That's how we wound up with the housing bubble -- financialization.  And it's how we'll get screwed again and again until we stop it, because as soon as you allow this sort of manipulation to take place in something as essential as housing (or transportation) you are going to get reamed by it no matter whether you participate or not

No, you don't "win" by participating while others "lose."  You all lose because you overpay.

Let me expound on that a bit.  When we allow financialization to take place the means by which you overpay seems complex or even ethereal but it really isn't.  The banksters and other people in the transaction have a huge database of outcomes to look at for statistical purposes.  That is, they know what the odds are of your defaulting on a given loan and since they have millions of examples they have an enormous amount of information in this regard.  You, on the other hand, have none of that information and what's worse is that even if you did it wouldn't help you much because you don't know where you fall on the curve.

It is human nature to believe in our own exceptionalism.  However the fact is that experiences on an individual basis tend to fall on a statistical bell curve; some bad, the median being the most-likely, and some good.  The goal of financialization is to allocate almost all of the benefit from a given basket of transactions across that bell curve to everyone except you.

Sit down and think about this folks.  You buy a car to get to work, the grocery store and similar.  That is, to transport you and your effects from place "A" to place "B" and back again.  That has utility value to your life and if you analyze it sufficiently you can actually put a financial number on that value in dollars, with the alternative being either public transportation or the use of human muscle power (by either walking or riding a bicycle.)  That utility value varies widely; for someone who lives in a big city with a good public transportation system it may actually be negative when all costs such as city stickers and parking are taken into account, but for most of us there is positive utility value present.

Financialization is all about analyzing that value across the entire base of cars sold and then allocating all except a tiny little bit of that value to the people selling both the cars and the money.  

Note that without financialization the car dealer has much less information about the value to you of a given vehicle sale, and he has less capability to capture that value to you.  If you have wondered why a dealer in a big city often prices cars lower than a rural dealer you might think it's mostly about the number of cars sold.  Not entirely so -- it's also about utility; the person in the country can't realistically choose to walk or ride the bus!

But when you financialize the car transaction now the entire nation gets averaged on that bell curve and the amount extracted from you and transferred to them goes up.  Not only do they have vastly more data to integrate and thus the supplier's information becomes more-superior but in addition there is another party involved in the transaction -- the lender -- and he insists on getting paid for his work as well.  

Left to its own devices this will ratchet prices higher until all but the last dollar of utility value is extracted from you on average and winds up in the dealer's, the manufacturer's and the bank's pocket.  Anyone who is left of the peak of the bell will see negative value in the transaction, while those who see positive value will see much less of it.  This is simply due to information asymmetry but the blame is yours because you allowed it to happen.

The same thing has occurred with education.  Why can't you spin pizzas on weekends and in the summer and pay your way through college without any loans at all?  You could do that 30 years ago -- it wasn't particularly difficult either.  You had to work full-time in the summer and perhaps do the first two years at a community college, but it penciled out -- even if you didn't live at home.  Today that's impossible; you'd have to work 120 hour weeks in the summer and 40+ during the school year, and you probably still can't hit the numbers without borrowing.  

Has Calculus changed in the last 30 years?  Has chemistry?  Has pretty-much anything else?  No.  What has changed is that the financialization has allowed colleges and lenders to collude in analyzing the outcome data and then ratcheting up the price so that only those on the right side of the bell curve get any financial benefit at all from attending; those on the left get hosed and those on the right get a fraction of the benefit they should.  

The college, however, along with the car manufacturer and dealer, don't care because their goal is to maximize their profits and so long as half plus one of the people participating get some benefit there will be those they can sell their scheme to.

The Real Estate business is likewise polluted with this crap for the same reason.  Whether you will benefit in the long run doesn't matter any more.  All that matters is whether there is a marginal amount of economic benefit that can be siphoned off and whether those on the right side of the curve will keep a single dollar.  So long as they do and you keep playing the game continues and prices are ratcheted up with nearly all of the benefit going to someone else.

Here's the point though folks -- we can stop it.

You, I, everyone else.

We stop it by refusing financialization.







Especially things like cars and educations along with consumer consumables like cellphones.  In other words, reduce to the maximum extent the ability of others to use their superior information and aggregation of data against you.

And before you pipe up and say "But if I do that I'm screwing myself!" consider that for most of us our desires and influence extend beyond our own person.  Most of us have or want to have children during our lives.  By participating in this scheme whether we win or lose personally we are screwing our kids because the economic impact of this scheme falls worst on those who follow us.

I will argue that while there are sociopaths among us, and many of them, most of the population doesn't want to financially screw their own children for their personal aggrandizement.  The problem is that most people don't understand how signing that FAFSA, buying a $35,000 car on an 8 year payment schedule, going along with Obamacare or playing the "real estate" game hoses their kids -- and grandkids.

But it does; if you doubt it find and defend a competing explanation for why it is that in the 1970s and early 80s you could spin pizzas and work in the summer to go to college, paying the entire nut to do so, and yet today the cost has risen at six times that of the minimum wage making that course of action impossible.

That is, in the 1970s and early 80s anyone who could pass the classes and had the desire to go to school sufficient to work in the summer and on weekends could do so without taking on debt.  That meant that whether you came out ahead (e.g. you finished and got that good job) or not you were financially ruined by attending; the worst case was that you failed and lost your investment you had previously earned spinning the pizzas.

Today we impoverish a large percentage of those who attempt to attend college -- on purpose.  It's our (we being those who have tolerated this crap for the last 30 years) fault and if we don't educate the younger people in this country and demand it stop it will continue to be our fault.

You can no longer claim ignorance folks.

Now the question is whether you will continue to willingly participate.

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Today is Easter Vigil; for Christians of all stripes it has meaning in the theological calendar as the day between Christ's death on the cross and his resurrection.  For everyone else it's just a normal Saturday.

Usually what you see from me are missives related to economics or the political landscape around the world.  This is a bit different -- it's about commodities, one in particular.

That commodity is time.

Time is the one commodity you cannot buy more of, no matter how hard you work or how much money you have.  It is a commodity that you begin life with an unknown amount in your possession, and like the sand in an hourglass it slowly slips away.  Unfortunately the top of your hourglass is covered in black paint; only the last small bit of the glass before the pinch-point is transparent.  You must therefore divine exactly how much sand you began with and your alleged knowledge is usually predicated on nothing more than personal hubris.

Most people will believe they have a great deal of sand remaining in their teens, twenties, thirties and beyond.  Many of them will be right.  But with each passing decade a larger percentage of the population discovers that their optimism was misplaced as they see the top of their personal pile descend into the clear area of the hourglass, realizing that their time is about to run out.

When I was a young man, like most young men, I believed I was Superman in some form or fashion.  I could not die, absent undertaking some bold and spectacularly-stupid stunt.  This of course was a false belief but most boys and young men share it to some degree or another.  Death was abstract and while I had relatives that met the reaper during those years I was simply unprepared to deal with it -- so I didn't.

As the years have passed more people that I know have had their sand run out; several long before, in my view, it should have.  But my view doesn't matter as I wasn't in charge of filling those hourglasses originally.  That right belongs to the man upstairs, and despite anyone being able to ask "Why?" it is only through a rather extreme showing of arrogance that I, or anyone else, could claim the right to an answer.

Today marks a time of the year in which renewal is promised; the renewal of spring, in which longer and warmer days brings the renewal of agriculture, without which we would fall into famine and many would perish. The world around us blooms in color, promising fruits and growth in the months ahead.  

But for those of us already here today and tomorrow should bring reflection and perhaps self-examination as to whether the time we spend irrevocably, and which we cannot recover and repurpose, should be put toward something better suited to the nature of that which we are expending.

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2014-04-18 11:05 by Karl Denninger
in Consumer , 409 references

This sort of thing makes my blood boil, and not for the reasons you may think:

If you think cars are getting too expensive, you may be right. A new report shows that the average price of a new vehicle is out of reach for people in medium-income households in all but one of the 25 largest metro areas in the U.S.

The report by shows that Washington, D.C. is the only American metropolitan area in which a family earning the city's median income can afford the average price of a new vehicle, which was $32,086 in 2013, according to Kelley Blue Book. That price equates to a monthly payment of $633, assuming the buyers put 20 percent down, financed for 48 months and principal, interest and insurance did not exceed ten percent of the household's gross income.

$32,000 for an average new vehicle is utterly nuts.

Flat-out, stark raving nuts.

First off, virtually nobody puts 20% down on cars any more; almost everyone I have heard from or about is buying them with 100% financing -- which is stupid all on its own, because if you don't take GAP insurance and wreck it you're totally screwed.  If you do take GAP insurance then you're paying for yet another service and your monthly cost goes up even higher.

Second, there is this claim that the car should be "no more" than 10% of household gross income.  What are you smoking over there?  We are talking about two-income households, right?  So now we're also talking about two cars, right, or is the second person walking to work?  20% of household gross tied up in vehicle payments and insurance?  

Are you stark raving mad?

To put some percentages on this that actually matter my "reasonably safe" financial leverage limit for most people stands at 28% maximum for all fixed housing-related expenses, which means principal, interest, hazard insurance, any mandatory association or coop fees and property tax (or rent + tenant insurance.)  The maximum safe leverage limit for all fixed obligations (including housing and transportation) is 36%.  That means that you can afford one vehicle that has a carrying cost of 8% of your gross assuming no other debt of any sort, such as credit cards or student loans, if you are up against the 28% maximum on housing expenses.  By the way note that taking on that 8% obligation means you are locked into not taking any more debt until either your income rises or you pay off the note -- it is not just a "qualify and then do what you want" ratio.

But this, by the way, this is not what you'll be sold at any dealer.  If you actually run to my limits (36% maximum gross income obligation against housing and transportation) you will find that your household is pretty damn tight on money.  Not desperately so, but moderately.  That means you won't be buying fancy vacations nor will you end the month with a bunch of extra cash allowing you to go out on shopping sprees and spend it.  Instead you will be coming to the end of the month juggling a few things -- that night in the bar will burn your last disposable $50 but you'll still manage to hit the match on your 401k at work -- barely.

If you go the limits "recommended" by the "finance guys" you will instead be eating Mac-N-Cheese on a fairly regular basis or you will start doing really bad, destructive things -- like carrying a credit card balance from month to month, having zero in cash reserves and, when the inevitable bad thing happens that requires you to spend a few hundred dollars without prior warning or planning you will be screwed.

I am not surprised though.  What did surprise me, as I recently shopped for a new car (and ultimately bought one as I wrote about here a few weeks ago) was how utterly outrageous vehicle prices had gotten over the last few years in comparison to what you actually got for your money.

Why, one might ask?

That's pretty simple -- the financialization of vehicles has advanced to the point that we no longer do "traditional" car loans from a bank or credit union, or paying cash, as our primary means of purchase. This has taken what should have been a dramatic and continuing technology improvement process that reduces price and led to everyone along the way, from manufacturers to banks to dealers scalping all of the value add from that process for themselves, increasing prices so that all but the last ten cents of that value goes to them and only a tiny bit comes to you.

This is exactly what has happened in both education and health care -- and what happened in housing as well.

This pattern is self-destructive for the economy as a whole but it will not stop until something breaks the financialization model -- and there is no indication we're going to see that from the car industry or the finance industry any time soon.

Can you fight back against it?  Yes and no.  Unfortunately this same trend causes used prices to rise too, so there is only some defense available by buying a quality used vehicle instead of a new one.  But what you can do is stop playing "I need a Lexus" and start showing the car dealers the back of your head on a regular basis.

I don't think that's going to happen, however, which makes this a problem that we're going to have to deal with for some time to come -- right up until it blows up in all of our faces in aggregate, just as college loans and medical spending are destined to.

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Oh oh....

Jews in the eastern Ukrainian city of Donetsk where pro-Russian militants have taken over government buildings were told they have to "register" with the Ukrainians who are trying to make the city become part of Russia, according to Ukrainian and Israeli media.

Jews emerging from a synagogue say they were handed leaflets that ordered the city's Jews to provide a list of property they own and pay a registration fee "or else have their citizenship revoked, face deportation and see their assets confiscated," reported Ynet News, Israel's largest news website.


You might want to pretend that stuff like this doesn't happen in the world any more. The sad fact is that it appears that it does, and now the difficulty is determining whether this is some sort of hoax or whether it is in fact part of the so-called "separatist" people who are trying to take over part of eastern Ukraine.

If the latter then some very difficult decisions need to be made, particularly in light of what Putin has used as justification for what amounts to an invasion of Crimea.

That would make the situation, on balance, a bit dicey folks......

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Sit down, shut up, and take responsibility for your life as the adult you are.

There.  I said it right up front.

To whom?

Sharon Gochenour.

Who is that?  The crazy chick who wrote this diatribe:

The first thing—the reason I'm writing this article, and the reason I find it almost impossible to write this article—is that I went to the Massachusetts Institute of Technology for my bachelor's, starting in September 2006 and graduating with a degree in "Art and Design" (that means architecture) in June 2010. I usually tell people who ask that I went to school in Boston. This, besides being a factual inaccuracy, adroitly captures my ambivalence about the whole experience.

Oy.  First, Sharon is upset because MIT is, well, competitive.  Guess what darling?  So is the real world.  If you don't like that then you have options.  You can flip hamburgers or spin pizzas.  You can mop floors.  You can do all sorts of things.

But what you can't do is expect world-class opportunities to be dumped in your ****ing lap because the world is not your oyster!  It is, like it or not, filled with other people who are kinda interested in eating the same lunch you want to gobble down.

Now you can take the scraps or the caviar.  But to get the caviar you might have to whack other people over the head -- or stomp on their heads.  Did your parents not tell you this?  Go bitch at them if not.

Incidentally, it's perfectly fine for you to say "No!" to all of that.

But then you don't go to MIT!

Yes, I am bitter.

I am bitter that forty-eight hours of class and study per week was the official minimum expected of us, and that sixty hours of coursework was totally unremarkable.

I am bitter that when I had personal crises -- I got dumped by my freshman-year boyfriend, my family's home and business were flooded, I felt abandoned and directionless in my major -- I had so little energy left for coping that my life slipped out of control.

What the hell do you think is going to happen in the real world?

Let's say you go get a job tomorrow drawing, well, how about buildings?  You know, what you went to study?  Yes, architecture.  Let's also say you're really good at it.

You get hired to draw a building.  A very expensive building that costs millions of dollars.  It has a schedule to be built and the guys and dolls who put that together start selling the space in it.  Space that doesn't exist yet, because, well, you have to design it so they can build it.

You know, that job you have?  Yes.  You are under quite a bit of pressure to perform, yes?

Now, something bad happens.  Your Dad dies.  That's something that happens. All people die. Your father will eventually die.  Mine recently did.  It sucked.  I'm not going to tell you it didn't, because it did.  It will suck when your father dies too, if you have any sort of relationship with him at all.

There are lots of other bad things that happen to people too.  You might get married (real good, right) but then your spouse might decide to file for divorce.  They might make your divorce into a nearly 2 year hell complete with all sorts of false claims you have to defend yourself against, never mind the crazy amount of money you will spend in the process.

That's just an example, by the way.  There are dozens of others, all of them hypothetical but all of them very real risks.  We all face them every day; that's part of life.  It's not all roses darling; there are lots of thorns along the way!

If you think that studying 60 hours a week was hard, wait until something like that happens and you have to discharge your duties at a job at the same time you're dealing with a very personal and serious issue that is consuming your mind (and possibly your wallet as well!)  

Oh, and if you don't deal with it and get fired?  Now you've got more and very-pressing issues to deal with that go far beyond psychological pressure -- like buying food, shelter and the other necessities of life!

That's real life.  That's how it works.  And yeah, it sucks real bad but this is commonly called "adulthood" and whether you like it or not it's part and parcel of being an adult.

Indeed, this is arguably the defining difference between childhood and adulthood.  When you're a child these challenges are someone else's to deal with, at least the really big ones.  Sure, you still have to handle the emotional issues but you have others who are responsible for making sure the water bill is paid so you can take a shower -- and a crap, never mind having heat in the building (or a place to sleep!)  With adulthood comes the responsibility to manage these things on your own even when life really, really sucks.

What I want to see is an educational environment where there is not so much pressure, both subtle and not-so-subtle, to cut yourself loose from your support networks to go to a school like MIT. I want for students to respect their own needs for sleep, good food, and social interaction, instead of seeing those as some sort of "concession" to their weaker human natures.

Moreover -- though this would require change in the entire American system -- a strong educational environment needs to be free of the overhanging shadow of debt. Debt forces people into untenable and unproductive situations, like taking seventy hours of coursework rather than registering for another semester, or dropping activities they love rather than risking their grades over a scholarship.

Well, you got one thing right -- get the damn debt monster out of education.  You know how you do that?  You get the government out of it.  You stop treating student loans as "special" and instead treat them as unsecured credit cards as they were before the 1980s and beyond.  

Now lenders won't loan you crazy amounts of money because if you blow up they lose it instead of being able to hound you for it.

I suspect you had a basic economics class at MIT.  If you did you probably heard of this thing called "supply and demand."  It works everywhere it's allowed to.  We destroyed it in the 1970s and 80s by creating the ability to borrow money to go to school through various vehicles, all of them backed in some form by government force.  This of course created a lot of people who showed up waving money at colleges and they responded by ratcheting up the price.

Like every financialized thing we ever do the colleges and lenders got together and figured out how to take all but one dime of the value of their education out of your ass right up front.  This is why your "education" was so damned expensive and why, on balance, it's usually not worth it if you have to go for more than four years -- and often even if you can manage to get out on the original plan!



Well, guess what?  It was rainbow-chasing bull****!

Now I understand being bitter that you were deceived.  But you should be bitter at the college, at your High School which probably pimped this path to you in exactly that fashion emotionally if not financially and you probably ought to be really*****ed at your parents who probably did the same because their first and foremost job as parents is to give you the tools, emotionally and otherwise, to be able to deal with life (including detecting and calling "BS" on those who run this sort of exploitive crap) as an adult.

Students (even very smart ones!) are people, not tools needing to be ground into their proper shapes. They need to be encouraged and allowed to grow. 

You're an adult, Sharon.

Yes, you were hoodwinked.  I'll give you that without seeing your evidence, because I'm damn near sure it's true.  I've been writing about this very point for years; indeed, it's part and parcel of the book you can find advertised to the right of this article.

But there are two options available to you when this sort of realization visits you as an adult.  

One is constructive and one is destructive.

The destructive (to yourself) choice is to bitch, whine, and blame other people, while putting forward vague claims that others have a "duty" to "encourage and allow you to grow."  That's self-destructive because you are refusing to recognize the part of the scheme that you willingly participated in and, in addition, you're not altering your behavior and evaluation of others -- which played a major part in how this happened to you.

The constructive choice (for yourself and others) is to make damn sure the people responsible are held to account to the extent you were lied to or misled, take responsibility for the part of it that was your unrealistic expectations and the chasing of claims that you should have known with even a basic understanding of mathematics were impossible to achieve and do your level best to change things so those who follow you cannot be similarly hoodwinked as you were.

Your choice Sharon.

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