Posts tagged ‘Professor Bainbridge’

Born to Rule

I thought this a good commentary on the whole Tiger mom thing.  Via Insty [Note I added some paragraph breaks -  sorry Mr. Smith, but I simply cannot abide by paragraphs as long as yours]

But here's the thing.  And here the point has been made easier to make by the curious fact that Tiger Mom is a Yale Law School professor and as Professor Bainbridge has pointed out, it seems almost an epidemic among faculty parents in New Haven.

My fear is that little tiger kittens are not being groomed to make things that you and I can buy if we feel like it.  I'm afraid, call me paranoid if you like, that those little achievers will want to grow up to, well, rule.  Not in the imperial Chinese way, though I take it that is the ultimate inspiration for this model of child rearing.  If my high school understanding of Chinese history is correct, that Empire used to be ruled by a giant bureaucracy into which one got by passing extraordinarily difficult exams, competing against other fanatically hopeful parents who saw it as one of the few ways to get the young persons out of a life of horrible drudgery.  But rather in something more like the imperial Chinese way than my ideal, which is more like Thomas Jefferson's, without the antique and misguided dislike of commerce.

So, if I'm sitting in the middle of my Jeffersonian space, able to order whatever I want, within my budget of course, from Amazon, working at something I like, not taxed to death or harassed by officious officials;  if I can provide for my family and hope to provide a similarly independent life for my offspring, then what's it to me if some mom somewhere wants to drive her children so that someday they will produce a recording or a pill I might want to buy?  Only good.

But if we are sliding toward a world like the one that is, to exaggerate only a little, like that I was taught we should be sliding toward when I restlessly roamed the hallowed halls the The Yale Law School many years ago, then I am not so sanguine.  Then I worry that all this fierce intelligence, all this ambition, all this work are going toward the building of world in which my children will be mere, well, what do you call the people who support those who so intelligently manage things from on top.  Not to mention the unbelievably well educated 35 year old who will tell me someday I didn't score well enough in some algorithm I can't even understand to get my arteries bypassed or my prostate cancer treated.

I want to live in a world, and I want my children to as well, where we are free individuals, and geniuses can sell us stuff if we want to buy it.  When I suspect the little elites of tomorrow are just being made more formidable still, it excites not my admiration as much as my anxiety.

Reconciling the Skilling Verdicts

I have already read several commenters who have wondered how Skilling could be convicted of fraud (in the form of obscuring Enron's true financial health) but acquitted of most charges of insider trading.  Larry Ribstein (via Professor Bainbridge) asks

"Does this mean that the jury thought he didn't know enough about what
was happening to bar him from trading, but that he did know enough to
go to jail for fraud?"

Here is how I reconcile it:  The jury decided that Skilling committed fraud, but that it was not for personal gain in his stock.  How can that be?  What other incentive might he have?  Here is my explanation, based on some personal knowledge of Skilling and the Enron business model.

Enron's business model was Skilling's brainchild.  It was nearly 100% his baby.  He invented it at McKinsey and then moved to Enron to make it reality.  The trading model Enron adopted reflected Skilling's ability to handle a lot of complexity and his facility for numbers.  The failure of Enron would be a direct personal failure of Skilling's, perhaps the first and certainly the largest of his life.  Even without holding a single share of stock, Skilling had every incentive to want Enron to survive and in fact thrive.  Enron's failure would be a repudiation of his vision, a forceful proof that maybe he was not as smart as everyone thought he was.

Like nearly every new financial trading business, Enron at first enjoyed large margins on their trading deals.  This has happened throughout history, as the first traders who discover an arbitrage opportunity make lots of money.  However, over time, competition and general knowledge of the arbitrage opportunity tends to erode margins.  Eroding margins are a problem in every business, but particularly in trading.  Here's why:

Trading businesses typically make their money by executing huge transactions at thin margins.  These transactions require a lot of capital, and since margins are narrow, trading companies need to maintain a very low cost of capital.  For a company like Enron, this means maintaining a high stock price and platinum level credit to minimize borrowing costs.

The trap Enron fell into was not a new one.  As trading margins inevitably eroded (as described above) the company had to do more and more volume to maintain profits (it takes twice the volume of transactions when margins are halved to maintain profits at an even level).  But remember, Enron needed a high and growing stock price to keep its cost of capital as low as possible.  So it needed to show ever growing profits, which means in an environment of falling margins, trading volumes had to go up almost exponentially.  But, increasing trading volumes means more capital, much of it in the form of debt.  Borrowing more increased cash demands and put pressure on ratings agencies to downgrade their debt, which would have disastrously increased borrowing costs.  At the same time, falling margins and rising debt meant falling coverage ratios.    Old line trading firms like Goldman Sachs and Soloman Brothers have mostly avoided this trap by carefully husbanding and building their capital over decades.  But Enron tried to build the trading business too fast.

So you see the tiger Enron management was riding.  Any blip in their cost of capital, whether it be a fall in stock price or a downgrading of their debt, would crash the whole company.  But falling margins and a growing need for debt nearly guaranteed that their cost of capital was going to go up.  At first, management sought new growth avenues (e.g. broadband) or windfalls (e.g. California energy crisis) to make ends meet.  Eventually, management appears to have fibbed to bond and equity markets, in the form of false statements and burying the bad stuff in SPE's, trying to keep things from crashing.  Eventually, outsiders figured out what was going on, the commercial paper market dried up, and Enron faced a liquidity crisis that brought the whole thing down rapidly.

In this context, Lay and Skilling's obfuscation of the underlying financial health of the company makes sense.  Enron had reached a point where bad news about the business would do more than just depress the stock price - it could start a chain reaction that would bring the whole company to bankruptcy.  Knowing this, Lay and Skilling apparently sought to hide the true condition of the company, to try to buy time to find some way out.  Skilling, much much smarter than Lay, at some point probably realized that the crash could not be avoided and that's why he suddenly quit.  The tragedy (self-induced, of course) for these men is that nothing was going to prevent the eventual crisis, and Lay and Skilling bought a few months delay in Enron's downfall at the cost of what will probably be their freedom for the next several decades.

So, was Skilling a robber baron intent on nothing more than enriching himself at the expense of shareholders?  Or was he a visionary entrepreneur, who just couldn't accept that his dream and creation of over a decade's work was dying?  I don't really know, even having known the man personally, but the jury's verdict seems to point as much to the latter than the former.  And if it is the latter, has there ever been a visionary who was not the last person to admit his vision was a failure?  I can't tell you how many entrepreneurs I knew in the Internet bubble who were convinced their company was going to be successful almost right up to the day of bankruptcy.  Are we really better off as a society putting all these failed visionaries in jail?

I guess I end up with mixed feelings about the legacy of the case.  I certainly am worried about the prosecutorial abuse.  And cooking the books of a public company is bad and should result in jail time. Having worked once long ago with Skilling, I know for a fact that the man is brilliant and totally detail oriented.  There was no way he could not know about the SPE shenanigans, and for that alone he should face jail time.  My concern is that the other message, beyond just accounting fraud, of this case will be that we are criminalizing CEO's being overly optimistic about their company. And that strikes me as nuts.

Update:  Tom Kirkendall, who has been all over this case, has more here.  Larry Ribstein, whose question started this post, observed:

Many people think that there was so much loss associated Enron that the
guys at the center of it must have been villains. But they weren't
villains. The jury is saying they weren't even insider traders, as if
that would have made a difference. They lost as much as anybody, and
that's what drove them to lie, if they did lie. This doesn't make them
saints, but it should make even the most hardcore antibusiness types
queasy with the denouement of this tragedy. Locking these guys up for
pretty much the rest of their adult lives for being unable to face the
fact that their dream had ended is not the way a civilized society
would deal with this case.

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Lay and Skilling Convicted

Ken Lay and Jeff Skilling were convicted on numerous counts of fraud but were acquitted on most counts of insider training.  Professor Bainbridge has some quickie analysis.

I worked for Jeff Skilling for a brief period of time at McKinsey & Co.  Jeff was easily one of the smartest men I ever met, as well as the most detail-oriented.  It was this latter quality that forced me to concede that he was probably lying to Congress back when he said "I didn't know any of this stuff was going on in my organization."  Whatever else they did, Lay and Skilling will never be forgiven by my family for sucking in a couple of our family friends who were not business people (doctors and such) onto the Enron board, perhaps as dupes who had no hope of crying foul at the complex business machinations that were taken place.  Whatever the reason, our friends will spend the rest of their lives dealing with Enron lawsuits.

My only regret in this case is that I hate seeing some pretty scary prosecution practices get rewarded.  The guilt of Lay and Skilling does not change the fact that we need to start reigning in heavy-handed prosecutors, and disavowing the Thompson memo would be a good start. Update: Tom Kirkendall has much more on prosecutorial abuse in this case and possible appeal points.

Another Limitation on Individual Choice

I won't go too much into the details of the recent Vioxx jury verdict.  Professor Bainbridge has a complete roundup which is worth reading, and Reason had an analysis of the merits of the case a while back.  Though its not really the point of this post, I can't resist a few snippets:

Jurors who voted against Merck said much of the science sailed right over their
heads. "Whenever Merck was up there, it was like wah, wah, wah," said juror John
Ostrom, imitating the sounds Charlie Brown's teacher makes in the television
cartoon. "We didn't know what the heck they were talking about."

One juror considered the fact that the CEO, whose company faces thousands of law suits, didn't show up as an admission of guilt:

... [juror] Ostrom, 49, who has a business remodeling homes, was also disturbed
that former Merck Chief Executive Raymond Gilmartin and another top Merck
official gave videotaped testimony but weren't in the courtroom. "The big guys
didn't show up," said Mr. Ostrom. "That didn't sit well with me. Most definitely
an admission of guilt."

And of course there is this now famous gem:

One juror, Ms. Blas, had written in her questionnaire that she
loves the Oprah Winfrey show and tapes it. "This jury believes they're going to
get on Oprah," Ms. Blue told Mr. Lanier. "They only get on Oprah if they vote
for the plaintiff."

Read the Bainbridge post, it has much more.

Anyway, the point of this post is that this verdict represents a very dangerous assault on individual choice.  Recognize that there are many, many activities in life where individuals are presented with the following choice:

If I choose to do X, my life will be improved in some way but I may statiscally increase my chance of an early death.

You may react at first to say that "I would never risk death to improve my life", but likely you make this choice every day.  For example, if you drive a car, you are certainly increasing your chance of early death via a auto accident, but you accept this risk because driving allows you to get so much more done in your life (vs. walking).  If you ride a bike, swim, snow ski, roller blade, etc. you are making this choice.  Heck, everyone on the California coast is playing Russian Roulette with an earthquake in exchange for a great climate, beautiful scenery, and plentiful jobs.

The vast majority of drugs and medical therapies carry this same value proposition:  A drug will likely improve or extend your life in some way but carries a statistical chance of inducing a side effect that is worse than the original problem, up to and including death.  The problem is that we have structured a liability system in this country such that the few people who evince the side effects can claim more money in damages than the drug was worth to all the people it helped.  For example, if a drug helps 999 people, but kills the thousandth, and that thousandth person's family is awarded $253 million in damages (as in this case), the drug is never going to be put on the market again.  Even if the next 1000 people sign a paper saying we are willing to take the one-in-a-thousand risk to relieve the pain that is ruining our lives, they still are not going to get the drug because the drug companies know that some Oprah-loving jury will buy the argument that they did not understand the risk they were taking and award the next death another quarter of a billion dollars.

This exact same effect nearly killed the vaccination industry.  In the end, Congress had to pass legislation  immunizing (ha ha) vaccine makers from lawsuits when known 1-in-10,000 side effects occur.  While I am not a big fan of the FDA, if it is going to exist and put drugs through 20 years of tests and a forest full of paperwork to get approved, I think that approval process should confer some sort of litigation immunity. 

By the way, have you noticed the odd irony here?  Robert Ernst (the gentleman who died in the Vioxx case) is assumed, both by the FDA and the litigation system, to be unable to make informed decisions about risk and his own health.  But a jury of 12 random people who never experienced his pain can make such decisions for him?  And us?

Richard Epstein said it better than me, in the WSJ but I will like to Reason which is free:

I would like to send my message to [plaintiff's lawyer Mark] Lanier and
those indignant jurors. It's not from an irate tort professor, but from
a scared citizen who is steamed that those "good people" have imperiled
his own health and that of his family and friends. None of you have
ever done a single blessed thing to help relieve anybody's pain and
suffering. Just do the math to grasp the harm that you've done.

Right now there are over 4,000 law suits against Merck for Vioxx.
If each clocks in at $25 million, then your verdict is that the social
harm from Vioxx exceeds $100 billion, before thousands more join in the
treasure hunt. Pfizer's Celebrex and Bextra could easily be next.
Understand that no future drug will be free of adverse side effects,
nor reach market, without the tough calls that Merck had to make with
Vioxx. Your implicit verdict is to shut down the entire quest for new
medical therapies. Your verdict says you think that the American public
is really better off with just hot-water bottles and leftover aspirin

Ah, you will say, but we're only after Vioxx, and not those good
drugs. Sorry, the investment community won't take you at your word. It
realizes that any new drug which treats common chronic conditions can
generate the same ruinous financial losses as Vioxx, because the flimsy
evidence on causation and malice you cobbled together in the Ernst case
can be ginned up in any other. Clever lawyers like Mr. Lanier will be
able to ambush enough large corporations in small, dusty towns where
they will stand the same chance of survival that Custer had at Little
Big Horn. Investors can multiply: They won't bet hundreds of millions
of dollars in new therapies on the off-chance of being proved wrong.
They know they'll go broke if they win 90% of the time.

Your appalling carnage cries out for prompt action. Much as I
disapprove of how the FDA does business, we must enact this hard-edged
no-nonsense legal rule: no drug that makes it through the FDA gauntlet
can be attacked for bad warnings or deficient design.

Well, at Least I am Consistent

Via Professor Bainbridge, here is a nice Friday distraction for you -- a test via Philosophy magazine called Taboo.  Here are my results:

Your Moralising Quotient of 0.00 compares to an average Moralising Quotient
of 0.29. This means that as far as the events depicted in the scenarios featured
in this activity are concerned you are more permissive than average.

Your Interference Factor of 0.00 compares to an average Interference Factor
of 0.15. This means that as far as the events depicted in the scenarios featured
in this activity are concerned you are less likely to recommend societal
interference in matters of moral wrongdoing, in the form of prevention or
punishment, than average.

The test basically gauges wether you think an action can be immoral if no one is harmed, or if no one but the individual actor is harmed.  Its making a point that libertarians often make, and I made more generally here about respecting individual decision-making.  The distinction between immoral and yukky is also useful.  However, the nature of the questions reminds me of this funny bit by libertarian Dave Berry about libertarianism, sex, and dogs (scroll down):

John Dorschner, one of our staff
writers here at Tropic magazine at The Miami Herald, who is a good friend of mine
and an excellent journalist, but a raving liberal, wrote a story about a group
that periodically pops up saying that they're going to start their own country or
start their own planet or go back to their original planet, or whatever. They
were going to "create a libertarian society" on a floating platform in the
Caribbean somewhere. You know and I know there' s never going to be a country on
a floating anything, but if they want to talk about it, that's great.

wrote about it and he got into the usual thing where he immediately got to the question
of whether or not you can have sex with dogs. The argument was that if it wasn't
illegal to have sex with dogs, naturally people would have sex with dogs. That
argument always sets my teeth right on edge.

And I always want to retort
with, "You want a horrible system, because you think the people should be able to vote
for laws they want, and if more than half of them voted for some law, everyone
would have to do what they said. Then they could pass a law so that you had to
have sex with dogs."

Postscript:  By the way, I consider myself profoundly moral.  I just don't tend to apply morality to situations where an actors actions affect only themselves, or other via mutual consent.  More on this in another post.


All Your Base Are Belong To Us

Update 6/23: Property rights lost 5-4.  More on Kelo decision here and here.  The arguments below are still valid, even if the SCOTUS did not agree.


Photo:  Welcome to New London.  Note the small businesses, which will be happy to serve you until the town of New London takes their property away and gives it to someone they like better

As I have written before, there is a disgusting and increasingly popular trend among city governments to seize private property from one owner and give it to a developer who will build something that will generate more property taxes (e.g. seize house to build a new Home Depot).  This theory of eminent domain is being tested in arguments in front of the Supreme Court around actions of New London, CT to seize private houses and handing them over to a developer so he can build a private marina.  New London argues that it is economically depressed, and it needs to substitute some higher tax paying businesses for lower tax paying homeowners.  Dahlia Lithwick in Slate brings us this telling exchange yesterday between the Court and New London attorney Horton:

Justice Antonin Scalia asks what difference it makes that New London is depressed. What if a city acknowledged that it wasn't doing badly, but just wanted to condemn land to attract new industry? He describes Horton's position as: "You can always take from A and give to B, so long as B is richer." And O'Connor offers this concrete example: What if there's a Motel 6 but the city thinks a Ritz-Carlton will generate more taxes? Is that OK?

Yes, says Horton.

"So you can always take from A and give to B if B pays more taxes?" asks Scalia.

"If they are significantly more taxes," says Horton

"But that will always happen. Unless it's a firehouse or a school," protests Kennedy.

The Court even gave New London's attorney a bit of a lesson on how free exchange of goods requires consent of both parties:

"We're paying for it!" Horton exclaims, noting that no one is taking anything from these minorities.

"But you're taking it from someone who doesn't want to sell. She doesn't want your money," retorts Scalia.

Professor Bainbridge points out why Mr. Horton's payment will also be inadequate:

First, it fails to take into account the subjective valuations placed on the property by people whose families have lived on the land, in at least one case, for a 100 years. In other words, if the Supreme Court rules for the city, the government will be able to seize land at a price considerably below the reservation price of the owners. Second, unlike the prototypical eminent domain case, in which the land is seized to build, say, a school or road, in this case the city is using eminent domain to seize property that will then be turned over to a private developer. If this new development increases the value of the property, all of that value will be captured by the new owner, rather than the forced sellers. As a result, the city will have made itself richer (through higher taxes), and the developer richer, while leaving the forced sellers poorer in both subjective and objective senses

Read the whole thing, its depressing, all the more so since commentators seem to feel that New London will prevail.  To my eye, Mr Horton and New London look no different than Stalin-era Soviet planners.  The Economist (sub. req'd)agrees:

Put simply, cities cannot take someone's house just because they think they can make better use of it. Otherwise, argues Scott Bullock, Mrs Kelo's lawyer, you end up destroying private property rights altogether. For if the sole yardstick is economic benefit, any house can be replaced at any time by a business or shop (because they usually produce more tax revenues). Moreover, if city governments can seize private property by claiming a public benefit which they themselves determine, where do they stop? If they decide it is in the public interest to encourage locally-owned shops, what would prevent them compulsorily closing megastores, or vice versa? This is central planning.

Plenty more commentary at Professor Bainbridge (here and here), Volokh (here and here), Cafe Hayek,  and the Knowlege Problem.  The Institute for Justice is defending the property owners and is at the forefront of this fight - win or lose, they deserve props for their efforts.

Postscript:  I generally don't like the arguments I see in some blogs that go like "why aren't the ___________ [fill in  with liberal or conservative] blogs addressing such-and-such issue?"  Blogs are intensely personal, and since most of us write them as a hobby, there are always going to be issues that just don't really get us fired up.  For example, though many libertarian bloggers expend numerous electrons on gun rights, the topic is generally a yawner for me so I seldom go there.

With that said, it is interesting to speculate where the "progressives" are on this case.  When you see a story of a city making a virtue of taking from poorer people to give to rich developers, one would expect the left to go nuts.  As reason describes it (here and here and here):

... a growing number of governments are using eminent domain to circumvent the conventional real estate market. Eminent domain forces property owners to sell their property to the city while the city then turns around and sells the property to developers. Private developers can reap significant financial gains through this process. Reason finds these decisions are increasingly driven by local politics, not respect for property rights, and give well-connected property developers significant advantages over homeowners and small businesses.

Little guy vs. big guy -- where is the Left?  Well, the problem is that progressives generally support the erosion of private property rights.  They like cases that reinforce the ability of government and politicians to take, redirect, or otherwise control private property for their own goals.  In this case, I presume that they are willing to sacrifice a few little guys in Connecticut for the larger goal of increasing statism.

UPDATE:  Apparently the New London attorney ended on a note of mystery, according to SCOTUSBlog:

The moment of the day came in Kelo when the city's counsel attempted to close by saying, "I want to leave you with just four words," then his time expired. (Although he did say -- using more words, "I see my time has expired so I won't be able to tell you them.") Justice Kennedy then asked the plaintiff's lawyer on rebuttal, "You don't happen to know what the four words were?" Regrettably, he didn't.

Here is my guess for New London's last four words: "Everything belongs to us".  Of course "All your base are belong to us" would have been better, but that is seven words.

Its Not the CEO's Company

Too many CEO's of public companies in the 80's and 90's seemed to act like they owned the company.  In particular, the CEO's of Tyco and Adelphia appeared to be more interested in lining their own pockets with shareholder financed perks than with managing the company.  And, I highly recommend "Barbarians at the Gate" as not only a great story about the largest LBO of all time, but also as a narrative about CEO perks gone mad.

The fact is that public company CEO's are the hired help.  Talented, well paid, but hired help none-the-less.  Professor Bainbridge has a good post on the demise of the Imperial CEO

In theory, a corporation is run by its board of directors, whose decision-making is guided by the principle of shareholder wealth maximization. In practice, however, all too often corporations are run by their top managers for the benefit of those managers. Times are changing, however. In particular, the cult of the imperial CEO that dominated the business world in the 1980s and, especially, the 1990s is dying a slow death.

I hope he is right - it is past time for do-nothing OK-everything boards to reassert their primacy and fiduciary responsibility.

Doctored Han Solo Memos, errr, Evidence

This (Link courtesy Professor Bainbridge) is a pretty funny parody based on a scene from the original Star Wars movie that has famously been changed a couple of times by George Lucas in reissuing the movie.  It is especially funny in light of today's CBS memogate report.  If you don't know the story behind the changes to the movie, they are summarized in the intro page, or you can just dive into the comic by pressing "1".

Applying Coyote's Law to King County

Professor Bainbridge posted:

it's starting to look like the folks who ran the election in King County either (1) really did emulate old man Daley's Cook County elections or (2) are among the most incompetent morons in government.

Wow, the perfect application to test Coyote's Law in real time.  Coyote's law states:

When the same set of facts can be explained equally well by

  1. A massive conspiracy coordinated without a single leak between hundreds or even thousands of people    -OR -
  2. Sustained stupidity, confusion and/or incompetence

Assume stupidity.

Applying this to King County, I will assume stupidity.  I must say that having lived in King County, this is not the first time Meyer's Law has come up.  The city has made so many colossal blunders, including having a major bridge sunk in 1990 when someone accidental left the stopcocks open (that bridge, ironically, had been named after the State Highway director on whose watch was built the Tacoma Narrows Bridge, which tore itself apart famously).  There have for years been rumors that the ridiculous constriction created in downtown Seattle on Interstate 5 by the building of the convention center (and which is almost impossible to fix) was made on purpose by anti-growth planners.

Welcome New Readers!

Welcome to readers of Professor Bainbridge, Club for Growth, and the Carnival of the Capitalists. If my hosting company was Citicorp, they would be calling me right now to ask me about the unusual activity on my account.

In particular, I want to wish a happy second anniversary to the Carnival of the Capitalists