Author: sgstofka

Health Care Right

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For some Americans, there is a question fundamental to the debate on health care insurance reform: is health care insurance a right or a privilege? Taking apart the question, the central debate is whether health care itself is a right or privilege.

In 1986, Congress passed the Emergency Medical Treatment and Active Labor Act (EMTALA), requiring hospitals to treat those in need of emergency care. The law, and subsequent amendments, established some universal access for urgent health care. What the law left out was any provision for paying for the care received and about half of emergency room care goes unpaid. The debate over reform involves two issues.

The first is does a person have a right to health care? Legislation and both state and federal court cases ensure that prisoners have a right to adequate medical care. In 2002, a heart transplant for a California inmate prompted a contentious debate over the meaning of “adequate.” If you are a taxpayer who pays to maintain the prisoner, however, you may or may not have a right to health care. It depends on your condition, which has to be assessed by a doctor using a number of guidelines, both local and federal, to determine if you have an EMC, or Emergency Medical Condition. If you do have an EMC, you have a right to health care. That doesn’t mean you have a right to free health care. You’ll have to figure that one out on your own or with the help of a counselor at the hospital.

Among Americans who are not lawyers, the debate often turns on this constitutional and philosophical debate: does a person have a right to health care? Some say that the Declaration of Independence clause citing a right to life and the 5th Amendment protection of life gives one a right to health care. Some argue that these constitutional provisions include only life or death care. People see it one way or another and there is a tall fence between the two camps.

The second debate is partially founded on the first. If someone has a right to health care, does that imply that the government then has an obligation to provide that care at no cost? Some argue yes, some argue no and there is a big wall between these opposing groups.

As a comparison, let’s review a few other rights. The citizens of this country have a right to the protection of life and liberty. Government, then, has an obligation to provide for armies, police and courts to sustain that right of its citizens. Likewise, if health care is a right, shouldn’t that also be provided by government? Some who argue that health care is a right, could also argue that there is a differentiation of rights. Defense is provided to all citizens whether they pay taxes or not. The 2nd amendment gives one the right to own a gun but the government has no obligation to buy any citizen a gun. If health care is a right, is it a right similar to that of owning a gun?

Some argue that there is no right to health care, be it life or death. For those people, the case is closed on both the health care and health care insurance debate. I heard one older man say that when he was growing up, if you didn’t have money for a doctor, you died and that was how it was and everyone got along the way it was.

For some pragmatic Americans, the debate over rights to health care is stupid. There are two camps here as well, some arguing that unhealthy people spread disease and inevitably are a burden to those around them so we, as a community, have to find a way to provide health care to everyone. Some object that simply paying the additional taxes required to provide that health care will make us all more unhealthy, thereby exacerbating the condition we hoped to cure.

In this debate, which camp are you in?

For a look at some of the gripes about the existing health care insurance situation, read a few
real life stories

Health Insurance Reform

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In a 9/26/09 WSJ article, Janet Adamy breaks down the health care bill that is working its way through the Senate Finance Committee. It will probably be the core of final legislation. Here’s the short and sweet:

Income: Family of four making less than $22K per year, no more than 2% of income for health insurance premiums through state run exchanges. Subsidy decreases with income with a cap of $88K for a family of four, who would pay no more than 12% of income on premiums. Credits not available till 2013.

Individual Mandate: Fines as high as $1900.

Pre-existing Conditions: Can buy plans through high risk pools till 2013.

Young people: Low cost catastrophic and preventive care policy available for those less than 25 years old.

Insurance Companies: Can’t drop people when they get sick. Limits on extra premium charges for age, family size and smoking.

“Cadillac” plans: New taxes on insurers for individual plans more than $8K, family plans more than $21K. Retirees and employees with high risk jobs will be exempt. Insurer will no doubt pass tax on to employers who will pass it on to employees or simply stop offering the plans.

Medicare: No charge for preventative services. New discounts on drugs to offset the so called “doughnut hole” gap in Medicare D coverage. Competitive bidding by insurers for Medicare Advantage programs.

Employers, Large: More uniform insurance packages throughout the states – a plus for large employers. Companies with more than 50 employees pay a fine of $400 if they don’t provide employees with affordable health insurance. Size of fine and other provisions regarding flexible spending accounts may change in future versions.

Employers, Small: Provide at least half the cost of employee’s premiums. Tax credits. State run insurance pools.

Doctors: Conflict of interest rules so that doctors could not refer patients to hospitals that they owned. Comparison reports on doctors’ use of medical resources. Those in the bottom 10% of their category would get lower payments from government programs like Medicare.

Hospitals: Bill patients with no insurance at the same rates as they bill those with insurance as long as the patients qualify for financial assistance. No overly aggressive collections on past due bills.

BLS Estimates

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Every month the Bureau of Labor Statistics (BLS) releases their initial unemployment estimates and these figures headline many newspapers and news broadcasts. The unemployment percentage moves markets and provides endless opportunity for comment and analysis.

TrimTabs, an investment research company, argues in a concise four page report that the employment numbers from the BLS are inaccurate. There have been many critics of the BLS methods in the past but they have generally focused on the “birth/death” adjustment that the BLS uses to account for the creation of jobs by new businesses. In the past several years, these BLS adjustments have proven to be fairly accurate. But the BLS does not appear on CNBC to refute their critics.

This TrimTabs report focuses on several other flaws in BLS methodology. The methods that the BLS uses were developed many years ago when the majority of employment in the U.S. was in manufacturing. Today, manufacturing represents a small portion of the U.S. economy. Yet the BLS continues to survey mostly manufacturing companies and government institutions to come up with their unemployment number. Of the private companies surveyed by the BLS, most of them are large despite the fact that smaller companies, those with 500 employees or less, make up 50% of the economy and most of the economic growth in the U.S.

The BLS reports a statistical 90% confidence in their estimate numbers, resulting in an error of + or – 100,000 jobs lost to their monthly estimate, a relatively small error out of a workforce of 140 million. But market trading is based on pre-estimates of monthly jobs lost by “analysts” as well as competing estimates like that of the payroll processing company ADP. If the BLS figure of jobs lost is 300,000 and concensus pre-estimates were 400,000 jobs lost, the stock market often rebounds. Yet, statistically, the BLS estimate could be the same as pre-estimates. The market conveniently forgets the sampling error of both analyst estimates and the BLS estimates and trades on the estimates as though they were hard data.

The BLS does not report on the hard data, actual state unemployment insurance claims, till it has received and compiled all the state reports. This is done about 12 months later.
In a 12 month period during 2005-06, TrimTabs research shows that the BLS had underestimated job growth by 750 million when the estimates were compared with actual data. While the BLS does a remarkable job gathering data from almost 400,000 companies in a month to arrive at their estimates, the problem of accurately assessing the employment activity of this country is enormous.

Global Trade Recovery

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The Bureau of Economic Policy Analysis, based in the Netherlands, recently reported that their index of global trade rose 3.5% in July. Although trade is 16% below the level of spring 2008, the 3 month average has shown an increase of .5%, it’s first rise in a year. The July ending 3 month average of industrial production increased by 3.2% but production was still 1.9% down in the U.S. Japan and Asia are leaking the pack in the production rebound.

Annual trade volume, though, was down more than 11% and far below the growth rate of 2006. A month ago, the U.S. imposed trade tariffs of 35% on tires from China. Last week, the European Union slapped tariffs of 40% on steel pipe from China. Contending with high unemployment during a global recession, governments come under pressure from their domestic industries and unions to preserve market share and jobs. During the depression of the 1930s, the U.S. unilaterally imposed a number of high tariffs, which led to retaliatory tariffs from other countries. The stifling of trade during that decade had a drastic impact on the economies of many nations. Hopefully, leaders in the G-20 nations will have learned from the lessons of the 1930s.

Reckless Regs

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In a 9/24/09 WSJ op-ed, Jeffrey Friedman, editor of the Critical Review journal, makes the case that the causes of the banking crisis lie more with reckless regulation than reckless bankers. Mr. Friedman notes that several studies suggest that “bank executives were simply ignorant of the risks their institutions were taking – not that they were deliberately courting disaster because of their pay packages.” He notes that “bank CEOs held about 10 times as much of their banks’ stock as they were typically paid per year, ” and that several high profile CEOs lost $500 million and more.

So what role did reckless regulation play in the debacle? In 2001, financial regulators in the U.S. amended international banking rules regarding mortgage backed securities (MBS). These “recourse rule” changes allowed banks to maintain less of a capital risk cushion for MBS than that needed for holding individual mortgages and commercial loans. By 2007, the rest of the G-20 countries implemented the same rules. Thus regulators created a profit opportunity for investment banks.

If banks had been out to take additional risk to maximize profit, Friedman argues, they would have bought far more lower rated packages of MBS. But they didn’t. Many opted for the least risky MBS packages, rated AAA, which provided lower profits. Reassured by the AAA rating, Citigroup brought all of the MBS packages it could. Doubtful of the underlying soundness of these financial products, J.P. Morgan Chase didn’t. In this competition, J.P.Morgan Chase emerged strong from the crisis while Citigroup is a taxpayer supported financial house of cards.

Friedman argues that capitalism is a competition of predictions about which procedures will bring profits. “Regulations homogenize,” he states, promoting a herd behavior on competitors in the market. The investment banking herd, prodded by regulatory ideas of what constitutes prudent banking, ran off the cliff. After this disastrous experiment in regulating capital allocation at banking institutions, the G-20 now wants to write rules on what should be prudent compensation practices in the banking industry.

The responsibility for the crisis is certainly shared by the regulators. Friedman neglects to mention the lobbying by the financial industry during the nineties to loosen up the recourse rules. Friedman contends that the purchasing of AAA rated MBS packages was a desire for safety. In 2001, Marty Rosenblatt, a well recognized expert on securitization, wrote an analysis of the rule changes on the capital requirements for banks. Rather than a desire for safety, as Friedman contends, purchases of AAA and AA rated MBS packages enabled banks to multiply the leverage of their capital by five times. Instead of requiring banks to hold 8 cents in capital for every $1 of risk, banks had to hold only 1.6 cents, a leverage of 60 to 1, or $1 of capital to $60 of risk. This highly leveraged capital to risk ratio dwarfs the high ratios of the late 1920’s, whose high leverages brought on the stock market implosion of 1929.

Why would the the Federal Reserve and other U.S. banking regulators adopt such a lax captial requirement? Because they were using historical data of losses on mortgage securitizations when lending requirements were stricter. Shortly after financial regulators loosened captial requirements for banks, the regulators at the U.S. mortgage giants, Freddie Mac and Fannie Mae, began relaxing lending standards for mortage holders in order to promote President Bush’s “ownership society” in the aftermath of 9/11. This uncoordinated confluence of regulatory changes laid the foundations for the crisis. The imprint of financial rule makers certainly conveyed a sense of sound and prudent financial standards. Investment banks discarded their internal risk management rules to take advantage of the opportunity to make large profits from the securitization boom.

Some, like Friedman, will lay most of the blame on the regulators while some place it at the feet of the investment banks who chose to ignore principles derived from decades of risk management experience. Investment bankers lay some of the responsibility on the “pressure” of savings, particularly savings accumulated in a rapidly industrializing Asia, chasing the higher yields of MBS. The demand for these financial products became a strong persuasion to bankers who scrambled to put financial packages together to meet the demand. To meet that demand, investment bankers reached out to mortgage brokers, who met the demand of the investment bankers by selling mortgages to people who really weren’t good mortgage risks. Those people simply took advantage of an opportunity to buy a house, to ride the wave of escalating property values.

This larger story is too often left out by op-ed writers. It is the gestalt of regulation, profit seeking capital markets and opportunistic savers and consumers that is responsible for the financial crisis. Each of these components are necessary to a well functioning market. Probably the one flaw common to each of these “players” was the decision to ignore an old maxim, “If it sounds too good to be true, it is.”

Father of Modern Economics

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In his seminal work The Wealth of Nations (full text), Adam Smith refers to a man by his last name only, “Cantillon”. Smith was stingy in acknowledging the ideas of others so the reference to another author is striking. It is ironic that, in this instance, Smith argued with an idea that he mistakenly attributed to Cantillon. Had Smith paid closer attention to Cantillon’s text, he would have understood that Cantillon was refuting an earlier proposal by a William Perry.

So who was this rather obscure author? He was Richard Cantillon, a multimillionare who died a decade after Smith was born and who was arguably the first modern economist. Contrary to the stereotype of the drab economist, Cantillon enjoyed a colorful life and is the only prominent economist to have been murdered. In his posthumously published book of 1755, Essay on the Nature of Trade in General (full text) Cantillon begins with “The Land is the Source or Matter from whence all Wealth is produced. The Labour of man is the Form which produces it: and Wealth in itself is nothing but the Maintenance, Conveniencies, and Superfluities of Life.”

It is not often that one finds a book on economics that is short, understandable by the general reader and contains no cryptic formulas.

Lobbyists

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When I watch Senate and Congressional hearings on C-Span, I see a number of people seated behind the Senators and Congresspersons. I have assumed that they were employed as part of a representative’s staff.

When the banking system exploded in crisis in September 2008, Fed chairman Bernanke and Treasury Secretary Paulson insisted that they needed mega-billions of dollars in immediate funding to avoid the destruction of civilization. I believed them. The Congress believed them and gave them our money.

In March 2009, two non-profit organizations, Essential Information and The Consumer Education Foundation, released a report, “Sold Out”, on political lobbying by the financial industry. For every Senator and Congressperson, there are five financial lobbyists. Perhaps that’s who I see sitting behind our representatives at those hearings. The one page summary of the report, as well as the full report, can be found here at Wall Street Watch.

Benchmarks

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When evaluating stock prices, it is helpful to know some historical benchmarks.

For the S&P 500, the index of the 500 largest companies trading in the U.S., the average Price Earning ratio (P/E) since 1936 is 16 for TTM (Trailing Twelve Months, or the past year) earnings. Standard and Poors offers a spreadsheet of quarterly historical P/E ratios.

The Price To Book (P/B) ratio over the past 40 years averaged 2.4. The Return On Equity (ROE) averages 12% but the past 15 years have seen an ROE closer to 16%.

In an FT column 9/23/09, the book value of the S&P 500 was calculated at $451. If the S&P 500 were to trade at historical averages of price to book, it would be 867. The index closed at 1044 this past Friday.

Finance Tax

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In a 9/25/09 FT op-ed, Peer Steinbrück, Germany’s finance minister, argues for “a global financial-transaction tax, applied uniformly across the G20 countries.” His proposal encompasses all financial products, not just those that are traded on exchanges, and would presumably include the more exotic private contracts like credit default swaps (CDS) and credit default obligations (CDO).

Using calculations by the Austrian Institute for Economic Research, Steinbrück proposes that a .05% (20 basis points) tax on financial products would raise $690B a year, about 1.4% of world GDP. Applied uniformly across the G20 nations, it would create a level playing field for all market participants.

But wouldn’t this give those markets outside of the G20 an unfair advantage? Steinbrück relates that G20 and EU exchanges account for 97% of equity and 94% of bond trading volume in the world.

In essence, this tax would be an insurance fee paid to the taxpayers of the G20 countries who have proven to be the insurer of last resort for “Too Big To Fail” institutions throughout the world.

Bond Surge

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In a 9/22/09 FT article, Sam Jones compares hedge fund participation in the market for the past three years. In the fixed income sector, hedge funds that used to comprise almost a third of the trading volume are now only an eighth of the volume. So what is driving the huge inflow of money into bonds in the past few months? Money market rates that are close to zero. Many market funds that paid over 2% interest at the end of last year are paying about a tenth of 1%.

In a 9/19/09 WSJ article, Jason Zweig examines this flood of money out of money market funds and into bonds. He notes that “investors sank over $40B into bond funds in August, an all-time high for a single month, and are on pace to break that record again in September.” Zweig cautions investors not to chase yield by loading up on long term bonds, which will decline in price much faster than shorter term bonds when interest rates rise. Zweig briefly explains the concept of duration and how it affects bond prices and risk exposure.

At gurufocus.com, David Dietze compares money inflows into bond and stock funds this year with the bull market of 2003 – 2006. Since March of this year, $20 has been invested in bond funds for every dollar in equity funds. Dietze notes “More money has found its way into bond mutual funds this year than in the bull market from 2003 to 2006.”

Options to hedge against both inflation and rising interest rates include buying shorter term bonds, stocks that pay consistent dividends, and Treasury Inflation Protected bonds (TIPS).