Tag: Known Unknowns

Paying more for less

Mary Pat Campbell

Link: https://allisonschrager.substack.com/p/paying-more-for-less

Excerpt:

Between the controversies at Disney, Bud Light, and Target, I think we need a return to shareholder primacy.

In 2019, many of the biggest American CEOs signed a manifesto declaring the end of shareholder primacy and embracing a new stakeholder model. With shareholder primacy, the main objective of a corporation is to maximize profits, both long- and short-term profits, because that is what boosts share prices and dividends, and shareholders like that. With the stakeholder model, a corporation has many other objectives: worker well-being, the environment, and the good of society. That may sound nice, but often, these stakeholders have competing objectives, and choosing who gets priority is a question of values.

When Milton Friedman argued for shareholder primacy, he said that a CEO should not forgo profits to exercise his personal values. It is not his money to spend, and not everyone shares his values, nor should they. And worse, I blame the multi-stakeholder model  for making everything feel more political.

Now, I realize even before 2019, companies were getting more political, but it got ramped up several notches in 2020. And now, everything you buy feels like a political statement. And even innocuous well-intentioned marketing campaigns that aim to give visibility to marginalized groups are taken as an explicit endorsement of a more divisive political agenda. I think shooting Bud Light cans in protest is stupid. But I get that people feel frustrated that everything is political and often not their politics.

And even if corporations mostly did pursue profits after 2019, and the stakeholder manifesto was a cynical ploy to appease young workers, get ESG capital, or avoid regulation, rhetoric matters. Before 2019, people could shrug at corporate pandering because it all seemed like a marketing ploy, and who can argue with selling lawn chairs and beer to the trans community? It is a growing demographic.

But in the context of announcing that you are doing it to make the world a better place, it strikes a different tone. And since stakeholder capitalism is about choosing between competing values, it is political. And now everything is worse for profits and society, since it adds to division and rancor.

Milton Friedman was right; shareholder primacy is better for corporations and society.

If CEOs really want to save the world, they should do the brave thing: announce an end to stakeholder capitalism and go back to just worrying about profits.

Author(s): Allison Schrager

Publication Date: 5 Jun 2023

Publication Site: Known Unknowns at substack

Bond prices mean revert after all

Mary Pat Campbell

Link: https://allisonschrager.substack.com/p/bond-prices-mean-revert-after-all?utm_campaign=post&utm_medium=web

Excerpt:

On day one of Fixed Income School, you learn that bond prices mean-revert. While a stock or a house’s price can continue to increase as the company or land becomes more valuable, yields can only go so low. Nobody will pay to lend someone else money, or at least, they won’t pay much to do that. Bond prices can only climb so high before they fall. While some evidence shows that yields trended downward slightly as the world became less risky, they still tended to revert to a mean greater than zero.

It’s easy to blame Silicon Valley Bank for being blissfully ignorant of such details. They purchased long-term bonds and mortgage-backed securities when the Fed was doing QE on steroids! Did they expect that to last forever? Well, maybe that was a reasonable assumption, based on the last 15 years, but I digress.

Many of these smaller banks, particularly Silicon Valley, are in trouble because they were particularly exposed to rate risk since their depositors’ profit model relied on low rates. So, when rates increased, they needed their money—precisely when their asset values would also plummet. It’s terrible risk management. But, to be fair, even the Fed (the FED!) did not anticipate a significant rate rise. Stress tests didn’t even consider such a scenario, even as rates were already climbing. Why would we expect bankers in California to be smarter than all-knowing bank regulators?

According to the New York Times, Central Bankers still expect rates to fall back to 2.5%. Why? Because of inequality and an aging population. But how does that work, and what’s the mechanism behind it? No good answer, or not one that squares with data before 1985, but we can hope. Sometimes we just want something to be true and for it to be true for politically convenient reasons.

Author(s): Allison Schrager

Publication Date: 20 Mar 2023

Publication Site: Known Unknowns at Substack

Men left behind

Mary Pat Campbell

Link:https://allisonschrager.substack.com/p/known-unknowns-27b

Excerpt:

The economy is still short 4.2 million jobs, but as the virus (hopefully) recedes and remaining restrictions are lifted, these trends should continue. The labor market is on the road to recovery—or the cyclical piece of it is, anyway. But during each recession we see many prime-age men leave the labor force and never come back. This was the case during the last recession, too. Prime male labor force participation is still down nearly 1 percentage point from pre-pandemic levels, and this poses huge costs to the economy because a large number of productive workers are simply sitting out. This is terrible for social reasons as well, because work is important to feeling productive, for increasing stability, for marriage, and being fully productive members of society.

This is a difficult economic problem that falls under the category of “structural,” which means that the Fed’s tools are not well-equipped to deal with it. Even with a tight labor market and rising wages, men are simply not working.

Instead, we need to think more creatively and just fix what’s broken. The common answer is that some of this is driven by a skill mismatch and that there just aren’t many good jobs for men without a college degree. I’m not sure that’s true, it’s very hard to find a good plumber or electrician, which are very well-paying jobs that don’t require a college degree. But they do require skills and training. Community college is often the answer we are given, but it has a terrible track record, primarily because it’s trying to paper over a bigger problem, namely the terrible quality of secondary school, which often fails to properly educate our teenagers. It seems like if we really wanted to keep men from leaving the labor market, this is the low-hanging fruit. Many people drop out of community college, but high school graduation rates are at record highs (or at least they were pre-pandemic). We can raise standards and accountability and fund more vocational high schools. However, tech education has become less popular from the 1980s to 2013, even if the skills are still in quite high demand.

Author(s): Allison Schrager

Publication Date: 7 Feb 2022

Publication Site: Known unknowns

What does risk really mean?

Mary Pat Campbell

Link: https://allisonschrager.substack.com/p/known-unknowns-c60

Excerpt:

In Bloomberg last week, I argued that the price of safety is mis-priced. Real yields have been negative for the better part of the last 10 years, and have been very negative since the pandemic. And the Fed has no plans to bring it above zero. I can understand a market negative real yield from time to time for convenience reasons. But all of the time? For decades? How can you explain that? Well, I blame the Fed and regulatory policy, as well as other countries buying lots of safe assets to manage their currencies. Lately, it’s been a lot of the Fed.

The risk-free rate is always being tinkered with by policymakers. Maybe it never actually equals the market price, but sometimes it’s more distorted than others, and it seems like it’s really off right now. And if that’s true, what does that say about the price of any risky asset? Perhaps that explains why crypto currencies are worth so much despite not offering much inherent value and having such a high Beta. When celebrities are hawking an esoteric risky asset, you know something is wrong.

Risk-free assets are the most systematically important asset in markets. They touch absolutely everything. And when it goes wrong, things get real. When market prices are not market prices for years at a time, risk gets distorted, and people subsequently take on more risk than they realize. I’m not predicting a financial crisis, but I do reckon that this could be why markets are just so weird right now.

Author(s): Allison Schrager

Publication Date: 24 Jan 2022

Publication Site: Known Unknowns

What is good tax policy?

Mary Pat Campbell

Link: https://allisonschrager.substack.com/p/known-unknowns-1c3?utm_medium=email&utm_campaign=cta

Excerpt:

So the goal of tax policy should be taking as much revenue as you can while trying to minimize distortions. Some kinds of taxes are more distortionary than others. In order of least to most harmful, it goes

1.     Consumption taxes

2.     Income taxes

3.     Wealth taxes

Cut to our current tax debate, where these concerns get no attention. The goal seems less about minimizing distortions/maximizing revenue and more about punishment, i.e., rich people for making too much in a zero-sum world and corporations for being greedy. Now, I think our tax system should be more progressive, too. But there are good and bad ways to achieve that goal.

Author(s): Allison Schrager

Publication Date: 6 July 2021

Publication Site: Known Unknowns at substack

Known unknowns – teacher salaries

Mary Pat Campbell

Link: https://allisonschrager.substack.com/p/known-unknowns-0a3

Excerpt:

 My colleague at Bloomberg writes we’ll have to pay teachers more to get them to return to work. Their pay has been stagnant for a decade. But their compensation has not been. A very large part of teachers’ compensation comes in the form of a massive risk-free asset—a defined benefit pension. The value of this pension increased as real interest rates fell. It not only took more resources for the states and municipalities to finance (assuming the pension funds were well funded—a big if) the pension when rates were low. The pension became more valuable.

So teachers really got large raises in the form of their more valuable pension. The problem is they don’t fully internalize how much more their pension is worth. Also, pensions are less valuable for young teachers who may change jobs one day. If we do want to increase teachers’ pay, we really need to reform the pensions. Reform would free up more money for salaries, and there’s evidence young teachers prefer more flexible compensation.

That probably won’t happen since the teachers’ union is very attached to its defined benefit plan. But you can’t have it all, even in this labor market.

Author(s): Allison Schrager

Publication Date: 7 June 2021

Publication Site: Known unknowns at substack

Global minimum tax

Mary Pat Campbell

Link: https://allisonschrager.substack.com/p/known-unknowns-905

Excerpt:

Is it just me or are people obsessed with tax compliance lately? I suppose it is part of this fantasy that high earners and corporations have enough money to pay for all our new spending – we just have to force them to pay up.

You know what might be simpler than jacking up taxes and doubling the size of a government agency? A broader base and simplified tax system that doesn’t leave so much room for getting out of paying taxes. Take the idea of a global minimum corporate tax. Sounds sensible enough; after all, you can’t increase the corporate tax rate too much because it is so easy to send profits overseas where taxes are lower.

But anyone who studied public finance can tell you there’s the tax rate and there’s the tax base. Generally, it is better to have a broader base and a lower rate. You get more revenue that way, and it causes fewer distortions and enhances transparency. Maybe we can convince OECD countries to set a higher corporate rate, but that creates a new race to the bottom to degrade the base. Countries will compete to offer more loopholes and deductions. And that seems worse to me.

Author(s): Allison Schrager

Publication Date: 24 May 2021

Publication Site: Known Unknowns at substack

The Tyranny of Experts

Mary Pat Campbell

Link: https://tinyletter.com/acs171/letters/known-unknowns-44

Excerpt:

It is a miracle anyone ever listens to us. Honestly, sometimes they shouldn’t. Other than the theory of comparative advantage, I can’t think of any correct economic insights that defy common sense. Economists, or experts in any field, are meant to offer a framework to weigh costs and benefits, help us see risks, and understand how the economy and people respond to shocks and policy. This helps people make choices that are right for them. If someone is pushing something totally counterintuitive, whether in economics or public health, we should be skeptical.
 
The same goes for debt. I heard someone say MMT has become an accepted theory – that is simply not true. And there is nothing new here. If you look at the history of debt cycles and financial crisis, they often featured some convoluted justification for why taking on tons of leverage isn’t so risky after all because this time was different – we are so much more clever now. Guess what, you might use some big words that tell you otherwise, but debt is always risky. Sure, some of the time it works out and juices higher growth, but when it doesn’t, things get really nasty. 

Author(s): Allison Schrager

Publication Date: 15 March 2021

Publication Site: Known Unknowns on TinyLetter

Resiliency vs. efficiency

Mary Pat Campbell

Link: https://tinyletter.com/acs171/letters/known-unknowns-43

Excerpt:

I expect some big institutional changes to be coming our way soon. One favorite debate, at least according to the editorial page of the Financial Times, is the trade-off between efficiency and resilience. Buying all your goods from China, including PPE, may be efficient—but if you have a global pandemic, then it means that you’re not so resilient. Or, if you live in Texas, cheap energy is great when you blast your air-conditioning every August when it’s 110 degrees outside, but if there’s a crazy cold snap and your power gets shut off, you see that your system is actually not that resilient at all.
 
We already see the Biden administration taking on resiliency, as he is trying to revive domestic manufacturing. And we can expect some soul searching in Texas as well. But I’m not convinced that we’ll get the big overhaul, because the problem with resiliency is that it can be extremely expensive, and once we forget about the shock, we don’t want to pay for it anymore. It’s expensive if you define resiliency as the ability to seamlessly handle a once-in-a-lifetime tail risk that you never saw coming. People like cheap power and goods, and those things help the economy grow.

Author(s): Allison Schrager

Publication Date: 1 March 2021

Publication Site: Known Unknowns