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Do we really need stock markets???

by crankykarsten Mon Aug 30th, 2010 at 07:58:03 AM EST

Although I call myself a capitalist (whatever that means) I would answer the above question with a clear: not really!

To understand that, it is necessary to have a quick refresher on what stock and bond markets do and what they don't do.

Promoted by afew


In the mainstream media, there seems to be a belief that the stock market is the most important thing in the world. No wonder if even Alan Greenspan recently said "if the stock market continues higher it will do more to stimulate the economy than any other measure we have discussed here"

However, blind belief is one thing (I was also guilty of growing up and even during my university studies) but real understanding and critical analysis is another.

Let's start with some very basic but important definitions / explanations:

I. Stock vs. Bond Market

On the stock market, stocks/shares (i.e. equity, ie. ownership) of corporations are traded.

On the bond market, bonds (i.e. debt) of corporations are traded

II. Primary vs. Secondary Market

The primary market is where stocks are first listed on an exchange, commonly known as the IPO (initial public offering).  In that case one of two things happens: either new capital is raised for the corporation (e.g. to build new plants) or existing shareholders (e.g. the founders of the company) sell their shares (in which case money moves from a new investor to an old investor but NOT to the corporation). The last scenario is the important one later on in this diary.
The secondary market is where stocks are traded once they have been listed, i.e. after the IPO. There, money just passes from one investor to the next, the corporations sees none of this money! And during that process a wide variety of parasites feed on this money flow (banks / brokers / exchanges / hedge funds / etc...).

The important definition above is the primary vs. secondary market stuff. Only in the primary market do corporations get real new money (e.g to expand their factory), and then only if it is a real capital raising and not just old investors (who can also be private equity funds!) selling their shares.
The classical function of allocating capital to profitable ventures is therefore only rarely fulfilled by the stock markets!!!

Hence my remark at the beginning that we don't really need stock markets!

This might seem very trivial but let that sink in for a while (it took me all of my university studies plus the first 2 or 3 years on the job to realize the magnitude of this). The whole stock market which seems to play such a large role in today's economy, polticial decisions, etc... is really pretty much not necessary for a functioning economy! In fact, it's probably more of a liability than an asset (sic)!

In the bond market the situation is a bit different because there is a lot more activity on the primary market. Of course, often a bond is emitted to only pay back another bond or bank loan that will become due, but a lot of the time it is actually really new money which the corporations use for corporate functions such as building new plants (but unfortunately often also just buying back shares).

For me, this has several implications and further research potential:

  1. Stock markets are very costly (think of all those investment bankers and lawyers and regulators, not too mention free-riding and externalities...). If they only have a marginal value for society as a whole, why even bother having them?

  2. I checked the site of the German stock market, http://www.deutsche-boerse.de and looked briefly at their primary market statistics of the last couple of years (which, admittedly was not the best time for IPOs). The result, not many IPOs and those often not capital raising but selling of private equity funds or old investors. I know the situation is different in other countries (a lot more activity for sure in the US), but the sum of new capital going to capital raising IPOs is probably absolutely minute compared to total GDP / capital stock... Interesting research paper though...

  3. When I used to work for a bank I knew a couple of people how had worked on IPOs and some of their smaller companies did do real capital raising but didn't know what to do with all that money so they just parked a lot of it in their bank account (at measly interest rates)... The rest went to buying soccer tables for their employees :-)

  4. I bet some of the most "valuable" companies out there didn't really need the money from an IPO (e.g Microsoft, Google) for corporate used (e.g. plant / porperty / equipment / research and development). Just a hunch, but I am too lazy to search for old financial statements and look at the Cash-Flow statement to see if cash-flow from operations was enough for cash flow for investment ("real" investment like property plant and equipment, NOT  purchases of marketable securities and also considering the cash already at hand!)...  That would be generally a nice research paper, what were the proceeds of IPOs used for?

  5. If companies weren't listed on the stock market they wouldn't have to worry about all that quarterly reporting bullshit and could instead concentrate on long-term value creating projects.

I wonder how hard it would be for listed companies to slowly pull back or at least just blatantly ignore stock exchanges rules (e.g. as Porsche did in the early 2000s when they refused to report quarterly numbers). What would happen if some big Dow Jones or EuroStoxx50 company did this? How far would their stock really go down in the short term??? What would happen if an employee dividend was payed every year which was half of after-tax profits (fair 50/50 share of profit between shareholders and employees after giving the state its due in taxes?), which would be paid out in shares? Once all shares are in employee hands the company is delisted, shares scrapped (don't know how to technically do this) and the company would effectively turn into a cooperative ownership-type structure where henceforth profit is distributed to all employees? Those companies are profitable and are taxed to pay for pensions...

And last but not least: Why does it seem like no political party (whatever colour)is discussing this (or something similar) at all? Why is the moment of the crisis not being used for paradigm shifts in essential parts of our society?

Display:
So how does one prevent stock markets?

After all, as soon as one initial stock or bond investor decides she wants (needs) to swap the revenue stream you immediately have two-thirds of a "secondary market" right there.

The fact is that what we're experiencing right now is a top-down disaster. -Paul Krugman

by dvx (dvx.clt št gmail dotcom) on Thu Aug 26th, 2010 at 02:38:01 AM EST
Many European countries try to regulate the gambling industries, tax them, or subvert them with national lotteries etc.

Are not stock markets part of those industries?

You can't be me, I'm taken

by Sven Triloqvist on Thu Aug 26th, 2010 at 02:46:28 AM EST
[ Parent ]
So that would mean operating hedge funds as government monopolies, no?

The fact is that what we're experiencing right now is a top-down disaster. -Paul Krugman
by dvx (dvx.clt št gmail dotcom) on Thu Aug 26th, 2010 at 07:00:20 AM EST
[ Parent ]
That's one inference you could make ;-)

You can't be me, I'm taken
by Sven Triloqvist on Thu Aug 26th, 2010 at 12:59:18 PM EST
[ Parent ]
yes, the secondary market is indeed very much like a lottery... Regulating it more is definitely an option that should be looked at more closely. How good regulation will look like is the difficult task...
by crankykarsten (cranky (where?) gmx dot organisation) on Thu Aug 26th, 2010 at 07:04:07 AM EST
[ Parent ]
I remain a supporter of the Robin Hood tax on all financial transactions, including personal ones that carry no other tax.

Such a tax on transactions would slow markets down and also keeping your value in one place for longer will become more attractive.

The problem with this is that the standard Anglo Disease answer to a squeeze on margins would be to go for greater volumes and thus increase volatility.

'Hang the buggers' may at some point become cost effective.

You can't be me, I'm taken

by Sven Triloqvist on Thu Aug 26th, 2010 at 01:09:40 PM EST
[ Parent ]
How good regulation will look like is the difficult task...

Hopefully, not like the SEC!

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Thu Aug 26th, 2010 at 02:32:38 PM EST
[ Parent ]
how true...
by crankykarsten (cranky (where?) gmx dot organisation) on Thu Aug 26th, 2010 at 03:01:56 PM EST
[ Parent ]
first of all, the bond market is ok, that can stay according to my reasoning, but it is the stock market that is superfluous.

The only "good" part of it is the primary market, but there, as I pointed out only in limited cases and in the context of the whole economy only a very marginal asset. There are lots of good (and also big) companies out there which never listed on the stock exchange (think of most of the German Mittelstand or German companies like Bosch and Aldi).

Getting rid of the stock market is not going to be easy, that was my rambling at the end how already listed companies could delist... But the government could play a role at least curtailing many of the the sick side-effects of stock markets (essentially all hedge fund and investment banking activity). Banning naked short-selling, high frequency trading and instituting a tobin like tax of e.g. 1 cent per share trade would go a long way. Forcing shareholders to hold a stock for a certain minimum time period might also produce some positive side effects...

Essentially, there are a lot of questions which need to be answered. My point at first was only to say that stock markets are practically useless for the economy. But just like the atomic bomb a the stock market cannot just be "un-invented"...

by crankykarsten (cranky (where?) gmx dot organisation) on Thu Aug 26th, 2010 at 06:47:22 AM EST
[ Parent ]
...and not to forget governments could make sure people get an adequate pension and not force them to gamble by encouraging 401k-like retirement planning...
by crankykarsten (cranky (where?) gmx dot organisation) on Thu Aug 26th, 2010 at 06:49:09 AM EST
[ Parent ]
But still, my question remains: what happens when the guy who bought in the "good" market needs to cash in his stake?

Also, you seem to be treating markets and exchanges as synonymous. SME's (and shares in them) get bought and sold every day - just not via exchanges.

The fact is that what we're experiencing right now is a top-down disaster. -Paul Krugman

by dvx (dvx.clt št gmail dotcom) on Thu Aug 26th, 2010 at 07:04:29 AM EST
[ Parent ]
I think that there are very few occasions where an IPO is necessary, in those cases however, there could indeed by an investor who needs to sell his shares or, if he can't do this in an easy way such as using an exchange, would maybe not ever touch an IPO. I think there are enough long-term investors out there who would take a stake in the company at IPO time without having an easy way out, such as insurance companies.

Your point about the difference between markets in general and stock exchanges is a good one. thanks. My main gripe is with stock exchanges because they made all the shenanigans of the past 20 years possible. By commoditising the selling and buying of company fractions so easy a whole entire industry has developed which parasticially feeds on these transcations and in many ways turns the whole market into a big Ponzi scheme.

by crankykarsten (cranky (where?) gmx dot organisation) on Thu Aug 26th, 2010 at 07:19:30 AM EST
[ Parent ]
That is the question. The point of stock markets is to allow ownership of a publicly traded corporation to be bought and sold, since the point of shares is that they represent votes at the Annual General Meeting. Its only in the neo-classically inspired economic models that the primary role of stock markets is to raise capital, and since these models are already falsified at their core, what's the harm of one more fallacy added on top?

Forcing all corporations to be privately held corporations would be a big move with a lot of unintended consequences. And the more wrenching the move, first, the greater the likelihood that efforts invested into mobilizing to achieve it will be for naught, and second, the greater the risk that the unintended consequences will include massively malignant ones.

Saying it explicitly, the proposal is either to force owners of corporations to remain owners of the corporation until they die or the corporation goes bankrupt is not, or else to make some cosmetic change to how stocks are traded with no real major impacts.

If the former, why not just propose abolishing open-ended charters and require charters to be renewed every fourteen years? That would allow corporations to be brought to heel by binding them with new charter terms, and that would not be anywhere near as massive an institutional change as abolishing publicly traded corporations.

And if the latter, why bother?

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Fri Aug 27th, 2010 at 01:33:36 PM EST
[ Parent ]
Enact a rule stating that a third of the company's board must be elected in internal elections (one employee, one vote in a secret ballot), that the other two thirds are elected by the general assembly of stockholders, and that shares that the company has bought back from the shareholders always vote "none of the above," resulting in empty seats on the board.

This permits a company to repurchase half its shares plus one and then have an internal majority on its board - for all important purposes effectively removing it from the stock market.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Thu Aug 26th, 2010 at 08:10:26 AM EST
[ Parent ]
If you're gonna reform corporate boards, you might as well go all the way and make sure the board constitution points corporations in roughly the direction society would want them to go. That means perhaps a third of the members should be consist of local, regional, and national representatives of those political entities. There should also be representatives of creditors on boards. Investors should perhaps be allowed 25% of the board representatives, representatives of various levels of community/democracy a third, employees a third, and creditors the leftover.

Boards operations also to be transparent except when discussing trade secrets. It could do all its work over the internet, and 'everyone' could watch.

fairleft

by fairleft (fairleftatyahoodotcom) on Tue Aug 31st, 2010 at 02:21:12 PM EST
[ Parent ]
I was proposing to reform boards, not replace them.

At any rate, I am unconvinced that the proper way to regulate corporations is to place political appointees on their boards. Firstly because I am not convinced that the power of board members who are not intimately familiar with the actual operations of the firm (read: Used to work in the production arm of the firm) to govern the firm is greater than the power that the firm exercises on outsiders on its board. And secondly because if the company requires that level of direct control, there is no good reason not to simply nationalise the company in question outright.

Similarly, creditors have no business being on the board, any more than a supplier of heavy machinery does. If creditors have an interest in managing corporate operations that is even remotely comparable to that of the employees, it is because the company is gearing too heavily. In that case, the creditors have not exercised due diligence. Creditors who do not exercise due diligence should be told to take a long walk off a short pier, not rewarded with operational control.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Tue Aug 31st, 2010 at 05:22:02 PM EST
[ Parent ]
The corporation should plan going forward with the intertion of paying off its debts. And that 'sense of obligation' should be part of its internal make-up, rather than something imposed from the outside by threat of legal action. This is what the 8% (I tentatively propose) of creditor voting strength on a board would change.

Learning from the Yugoslav 'worker-self-managed corporations' experience, interest groups within the board of directors will find some matters much more vital than others, and all will not want to or be capable of participatory management of all aspects of firm affairs, especially the everyday and short-term-planning aspects. That doesn't mean they should not be included in the firm's commanding heights (the board of directors). Again based on the Yugoslav experience, no one should expect most workers to be interested in long-range corporate strategy, or marketing strategy, or a firm's financial or operational details. But workers damn well will be interested in everyone's salaries and compensation, and in whether a firm will hire new workers or offer more overtime (workers tending to strongly prefer the latter, to the detriment of employment rates). Political representatives also shouldn't be expected to be interested in, and you wouldn't want them to be, in the details of operations or finance (except perhaps wanting banking to be local), but they'd want the firm to increase employment, and work productively with local high schools and training institutes. What would happen is horse-trading, and exchange for rubber-stamping some decisions by the experts (which is what an efficient society would want), political and worker representatives, and creditors, would get concessions on matters that matter a great deal to them. And all groups will be keenly involved/interested when a new CEO is being selected. Anyway, that's how I would picture the operations of a new corproate brain.

The above at least seems roughly how it worked in Yugoslavia's simpler version thereof: the managers were given sway to 'do their thing', but the workers retained power, and used that on matters that were vital to them. The problem in Yugoslavia is that that became disfunctional, since workers severely restricted the firm's capacity to generate new employment, a vital function of any economic system. The solution is to balance the wider community's needs against the workers' needs: that's why community/political representatives are necessary. But expect them to take a back seat to the experts most of the time.

fairleft

by fairleft (fairleftatyahoodotcom) on Tue Aug 31st, 2010 at 06:10:35 PM EST
[ Parent ]
The corporation should plan going forward with the intertion of paying off its debts.

Yes. If you do not believe that they are already doing this, then you should not lend to them in the first place. In fact, this is another excellent reason to not include creditors on the board: Inclusion of creditors would give them an incentive to attempt to persuade corporations to not retire their debts.

The problem in Yugoslavia is that that became disfunctional, since workers severely restricted the firm's capacity to generate new employment,

But maintaining full employment is not the purpose or responsibility of individual firms. The sovereign is the only planning unit that has sufficient scope, information and power to reliably serve as employer of last resort.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Tue Aug 31st, 2010 at 06:24:11 PM EST
[ Parent ]
But maintaining full employment is not the purpose or responsibility of individual firms.

The democratic society reforming firm 'desires' in socially productive directions is the essence of what I'm talking about, but that doesn't mean giving 'responsibility' for social goals over to the firm, and it doesn't mean firm purpose would be 'full employment', since 'firm purpose' is always very complex. Corporations should be, or can be, one of the tools society uses to satisfy social needs.

What you want is for firms to decide 'naturally' in favor of expanding employment when that makes sense for the society at large. Firms' decision-making was skewed against that in a socially counterproductive way in Yugoslavia in the worker-self-managed firms. Not that that's the only thing that matters to a society, but it is a vital matter. And not that worker-self-managed firms were not a good thing in other ways.

fairleft

by fairleft (fairleftatyahoodotcom) on Tue Aug 31st, 2010 at 07:23:52 PM EST
[ Parent ]
The corporation should plan going forward with the intertion of paying off its debts

I disagree! Some companies can very well be run at a high rate of indebtness (leverage), given that its earning stream is very stable, and the owners are well capitalised (so they can step up in case of a rights issue brought on by a crisis). Examples of companies like this are real estate and tobacco companies.

Again based on the Yugoslav experience

Yeah, and the economy of Yugoslavia was a shining beacon to the rest of the world, wasn't it?

I think our current model works well. The owners name the members of the board, and then there's a union representative. What we should change is make board members far more personally legally resonsible in case of fraud or mismanagement of the company, ie big fines and long prison terms.

Peak oil is not an energy crisis. It is a liquid fuel crisis.

by Starvid on Wed Sep 1st, 2010 at 09:48:22 AM EST
[ Parent ]
I think our current model works well in some ways, horribly in other ways, for example in how firm income is distributed. The economy of Yugoslavia had its good points, egalitarian incomes comparing managers and workers, and bad points.

Fraud/mismanagement liability for board members, who represent shareholders, besides boosting board member liability insurance sales, further increases the weight of shareholder interests in firm decision-making. And, of course, I think society might want more 'mismanagement from the shareholder perspective' not less. Anyway, the external 'stick' of legal action is clumsy and easily corrupted into being ineffectual, compared to changing internal motivations.

fairleft

by fairleft (fairleftatyahoodotcom) on Wed Sep 1st, 2010 at 03:04:24 PM EST
[ Parent ]
You asked the key question.

Despite all the deleterious shenanigans a stock market provides the best way for an investor to get out of an investment.  As you rightly point-out, "as soon as one initial stock or bond investor decides she wants (needs) to swap the revenue stream you immediately have two-thirds of a "secondary market."  

A properly (honestly) run stock market with proper regulation and taxation provides a Public Good.  

She believed in nothing; only her skepticism kept her from being an atheist. -- Jean-Paul Sartre

by ATinNM on Fri Aug 27th, 2010 at 10:49:41 AM EST
[ Parent ]
And banning the holding of derivatives as investment grade assets would go a long way toward reducing the incentive to engage in a lot of the newer games.

Institutional investers holding stocks and voting against malignant corporate policies are one of the few points of leverage civil society has on private corporate governments, and shutting down secondary markets implies that most institutional investers can no longer hold stocks.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Fri Aug 27th, 2010 at 05:21:26 PM EST
[ Parent ]
Seems to me that institutional investors are one of the big sources of malignant corporate policies...

Say what you will about the CEO of a steelworking company, he's likely to understand the steel business a lot better than the CEO of a pension fund.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Fri Aug 27th, 2010 at 07:03:49 PM EST
[ Parent ]
Yes, but the CEO of a steel company gets a massive pay increase for juicing the stock price from 1% below the strike price to 1% above the strike price on his options, and loses nothing if the stock price drops from 1% below the strike price to 50% below the strike price, so the incentive to take risks is far greater for the CEO of the company itself, paid primarily in stock options, than for the institutional investor.

And of course, its not always the case that the guy who was Chief Financial Officer of the Gap who is now CEO of a Steel Company actually does know more about the steel business than an institutional investor ... it certainly would have been true back in the day that CEO's primarily came up from operations, now that they primarily come up through finance, its not always true.

But more importantly, sure, hopefully even if the CEO started out not knowing a lot about the industry the business is in, they quickly come up to speed ... the incentive that we have set up for CEO's is to chase the quick bucks right away. Senior management blaming "the markets" are blaming the fact that they are chasing short term stock price increases ... and the right to chase short term price increases is what they were defending when there was a threat that the cost of stock options would be as such in the profit and loss statement in the 1990's and the corporate jets descended on Washington DC.


I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Sat Aug 28th, 2010 at 12:03:48 AM EST
[ Parent ]
While that is all true, what makes you think that the CEO of the institutional investor is less susceptible to these problems, or that the CEO of an institutional investor is subject to greater oversight?

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Sat Aug 28th, 2010 at 05:13:24 AM EST
[ Parent ]
The exorbitant salary of the CEO of an instititional invester may depend in a similar way on the share price of that firm, but not on the share price of the shares they hold. Institutional investors have far less incentive to support risky gambles in the companies whose stock they hold.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.
by BruceMcF (agila61 at netscape dot net) on Sat Aug 28th, 2010 at 10:12:56 AM EST
[ Parent ]
Why would that be so? If the CEO's plans fail, he'll lose just as much of his share value as the institutional investor will lose on his investment in the company.

Peak oil is not an energy crisis. It is a liquid fuel crisis.
by Starvid on Sat Aug 28th, 2010 at 10:51:35 AM EST
[ Parent ]
But CEO's in the US do not get paid primarily in stock, they get paid primarily in stock options. If the option is to buy stock at $50/share, and the stock is at $48, nothing is lost in those options from the stock dropping by $8, and a great deal is gained in those options from the stock rising by $8.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.
by BruceMcF (agila61 at netscape dot net) on Sat Aug 28th, 2010 at 01:44:37 PM EST
[ Parent ]
Really? And here I thought everyone knew that handing out stock options to CEO's is an insane way of rewarding management, as it disaligns the interests of shareholders with that of the management. It for example shifts the focus from dividends to share buybacks, among other things.

Really, doesn't everyone know this? I read of it (for abouth the thosandth time) as late as a few days ago, in  a book I just bought.


Peak oil is not an energy crisis. It is a liquid fuel crisis.

by Starvid on Sat Aug 28th, 2010 at 01:56:17 PM EST
[ Parent ]
Hence the occasionally discussed agency problem in corporate governance. In theory, corporate officers should be selected by and accountable to the shareholders, but this is rarely the case in practice. Just another one of those problems, about which we seem never able to do anything effective. Now the SEC is supporting a rule that allows any group that holds 3% of the stock of a publicly traded corporation to be able to propose candidates for the board of directors. We will see if this holds and if it makes any difference.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sat Aug 28th, 2010 at 09:38:57 PM EST
[ Parent ]
On the other hand, institutional investors have been on the forefront of the whole leveraged buyout game, and are the ones driving the unrealistic expectation of double-digit (or even high single digit) real return on investment.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Sat Aug 28th, 2010 at 12:43:32 PM EST
[ Parent ]
And the institutional investors were also heavily involved in the move by retirement funds into commodities. IIRCC, CALPERS is still reeling from the hit they took on oil futures when they were too slow to exit positions in June and July, 2007.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sat Aug 28th, 2010 at 08:41:56 PM EST
[ Parent ]
Doesn't lose anything? If the stock price doesn't go up, his options becomes worthless and he loses all the money he bought options for.

Peak oil is not an energy crisis. It is a liquid fuel crisis.
by Starvid on Sat Aug 28th, 2010 at 10:45:13 AM EST
[ Parent ]
He didn't spend any money buying the options, they were compensation. And the point about the moral hazard is that once the stock option goes out of the money, there is no further loss.

Consider the fair value of the following 50:50 bets for stock currently at $50 to someone with options to buy stock at $48, maturing sometime in the next three months (values times 0.5 chance of occurring):

$48:$52, incremental value -$1+$1=+$0
$40:$60, incremental value -$1+$5=+$4
$30:$70, incremental value -$1+$10=+$9
... and so on.

If the stock option is out of the money, it only makes the incentive to pursue bigger win / bigger loss bets stronger.

Of course if the stock price goes down, someone holding the stock does not recover until it returns to its original level.

By contrast, someone paid in short term stock options will have the stock options issued relative to current market price, so if last quarter they lost, they restart at a lower level and continue gambling from there.

Payment in short maturity stock options involves substantially higher moral hazard than payment in stock or in long maturity options.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Sat Aug 28th, 2010 at 01:53:24 PM EST
[ Parent ]
That's an utterly insane bonus system.

If you want to have bonuses for corporate officers, you could just give them an extra sack of cash. If they believe in the company they can use that money to buy shares, or even options, in it.

Alternatively one could issue shares to them, which would be held in an escrow account for 5-10 years after which they can be sold.

Peak oil is not an energy crisis. It is a liquid fuel crisis.

by Starvid on Sat Aug 28th, 2010 at 02:00:34 PM EST
[ Parent ]
What you haven't addressed is the issue of how to encourage investors into businesses when they can't get out. The theory is that if people have no obvious route out of their investment - currently you sell your shares on the secondary market - then they won't be as likely to invest in an entirely illiquid asset.
by Colman (colman at eurotrib.com) on Thu Aug 26th, 2010 at 07:01:01 AM EST
that is indeed somehting that needs to be looked at.

Using my examples above you mean that early stage investors who gave e.g. seed-money to a silicon valley start-up. That investor has two choices:

  1. if it is a profitable company keep owning it and be happy about the dividend.
  2. Find another investor which doesn't necessarily needs to be using the stock market. There a constantly transactions taking place privately which don't use the stock market. And those are investors who are acutally interested in the company and not just the stock. I could imagine many life-insurance companies would be willing buyers...

Furthermore, don't forget that many IPOs are not important for the companies themselves so from a macro-ecomomic perspective IPOs are almost never necessary and therefore there shouldn't be many IPO investors who would neet to sell their stock later on in the secondary market. Those few companies actually using an IPO to raise capital could do this and e.g. promise to buy back the stock as the investment pays off...

The question which really begs to be asked in the context of your question is really who finances companies early on and during the expansion phase? Are there not enough investors out there who could do without a stock market to be able not have to use venture capital funds which just want to get rich quick by an IPO? Getting relevant historic data would be very interesting but probably nearly impossible...

by crankykarsten (cranky (where?) gmx dot organisation) on Thu Aug 26th, 2010 at 07:14:11 AM EST
[ Parent ]
SO your solution to the problem that the stock markets has captured its regulators is to convert the secondary market into an the kind of entirely unregulated over the counter market, supposedly for large investers, that worked so well for Credit Default Swaps?

Huh? Is this learning the lessons of history or dislearning them?

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Fri Aug 27th, 2010 at 05:23:19 PM EST
[ Parent ]
Bonus points for hitting the target so well and so often...and in this case, in summary.

I particularly like cranky's idea of a time-lapse workers buy-out, but everything else is laced with what you called up thread, "unintended consequences." As Colman said, a regulated market is required for allowing well-intentioned people to trade their interests.

The hard part to fathom is where to place the mirror so that people recognize that the problem isn't the stock (and commodities) markets, but that the society is rigged so that some people can't survive without a huge return. They've worked all their life, they want to live in the same fashion they have up until retirement, they don't want to sell their assets, so they have to play with their cash.

For the few who have saved a million and only need 40k a year (after taxes), 5% return on their money might do. I know one person who had a million after he retired. Actually, he has more than 2 when he retired, but bad investments left him a million after only 2 years.

Instead of being a way to keep things in balance, there are winners and losers, which appears to be at anything over or under 7%. Of course, being a loser once means that 7% just won't do...to the point where everyone's grandmother now has to be involved and gambling on every 20% potential that can spam our mailboxes.

The problem is not the stock market. The problem is how people are treated. Like many things, the solution turned into a problem.

Never underestimate their intelligence, always underestimate their knowledge.

Frank Delaney ~ Ireland

by siegestate (siegestate or beyondwarispeace.com) on Tue Aug 31st, 2010 at 06:59:28 AM EST
[ Parent ]
Colman is right on the money. Remove stock markets and the liquidity falls radically, and with it the supply of capital for companies to invest. The result is less investment and fewer jobs, and more debt for companies as they try to compensate for their deficit of equity.

Furthermore, it would be all but impossible for the small investor to create a diversified portfolio without stock markets.

My conclusion is that stock markets do lots of good, and nothing bad. If there is too much focus on quarterly earnings at the expense of the long term (and there is), then that's due to the growth of faceless capital (pension funds, hedgies, mutual funds etc), not due to stock markets per se. Companies with strong owners don't suffer from that problem, and the solution is to adapt our regulations so that being a long term strong owner pays a premium.

Peak oil is not an energy crisis. It is a liquid fuel crisis.

by Starvid on Fri Aug 27th, 2010 at 10:41:47 AM EST
[ Parent ]
I wouldn't go as far as to state "stock markets do ... nothing bad."  Depends on one's definition of "do," I suppose.  :-D

All quibbling and P/N aside, Stock markets are an avenue for social and economic Good and a social and economic Bad.  Under current regulation, and etc., they are more of a latter than the former.  That is not intrinsic to a stock market but something we - in general - have chosen.  We can choose otherwise.

She believed in nothing; only her skepticism kept her from being an atheist. -- Jean-Paul Sartre

by ATinNM on Fri Aug 27th, 2010 at 11:00:04 AM EST
[ Parent ]
Starvid:
Remove stock markets and the liquidity falls radically, and with it the supply of capital for companies to invest.

Just like now, you mean?

Stock markets are literally a late medieval throw-back - idiotic casinos for people with too much cash who don't understand how the physical world works and are only interested in mindless rat-headed comparisons of their personal rate of return while they chat with their fellow money morons at the country club.

Which sounds lime hyperbole, but if you look at the actual distribution profile of stock ownership in the West, you'll see it's not even an exaggeration.

Markets annihilate useful liquidity by skimming it off, hoarding it and wasting it, and also by raising the cost of entry for small innovators - because the last thing anyone with a good idea wants is to have to share board level control of it with some privileged frat jock who believes he's cooler and smarter than people who do real work.

The only sane way to use markets is to force investors to actually invest in real projects, to make investment more accessible, to create ratings agencies that aren't just political PR firms, and to aggressively redistribute profits into education, science R&D, and social investment.

And what's worse is that markets aren't just economic idiocy, they're also directly responsible for distoring politics in ways that are fatally corrosive to real participation and democracy.

by ThatBritGuy (thatbritguy (at) googlemail.com) on Fri Aug 27th, 2010 at 11:00:15 AM EST
[ Parent ]
Can't outlaw stupidity, greed, and ignorance.  

Well, we can but we'd better be prepared to increase the number of prisons (privatized, of course! :-D ) by 1,000%.  

The problem isn't the stock market per se.  The problem is we've chosen to put the sociopaths in charge of the looney bins and have the monkeys supervising the banana plantations.  

She believed in nothing; only her skepticism kept her from being an atheist. -- Jean-Paul Sartre

by ATinNM on Fri Aug 27th, 2010 at 11:36:57 AM EST
[ Parent ]
But stock is not where most funds for new capital investment typically come from: they more normally come from corporate retained earnings, bonds, and bank lending or other forms of institutional finance.

And when new equity is part of raising capital, its normally as a complement to bond issues, to avoid over-leveraging.

As far as taking the place of common stocks for capital raisings, ChrisCook's units would seem to be a useful recourse: issue tradeable units on a particular revenue stream, and then the leverage is intrinsically lower than bond obligations, and the need to balance it with new equity to reduce the leverage substantially reduced.

But of course this is all in the context of "what the new revolutionary government does after taking power", because to abolish publicly traded corporations is to essential abolish the entire political economy of corporate capitalism, and the Powers That Be who are having a death sentence passed on their power will fight it with far greater unity and far greater ferocity than any of the reformist battles any of us have seen fought in the last few decades ... whether won or lost.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Fri Aug 27th, 2010 at 01:43:38 PM EST
[ Parent ]
BruceMcF:
As far as taking the place of common stocks for capital raisings, ChrisCook's units would seem to be a useful recourse: issue tradeable units on a particular revenue stream, and then the leverage is intrinsically lower than bond obligations, and the need to balance it with new equity to reduce the leverage substantially reduced.

Quite so.

In Canada and Australia before that we saw units in 'Income Trusts' which emerged spontaneously, and were hugely popular with pension funds etc. These days we see the Master Limited Partnership which unitises revenues in a similar fashion.

This uses the Limited Partnership form, which, unlike the UK LLP or US LLC, has partners with limited liability (and little or no management control) and 'General Partners' with unlimited liability who manage the investment.

It's only a matter of time before people start using US LLCs and UK LLPs in exactly the way I advocate - indeed, they may have already done so - the Hilton Group created in the UK what I call a 'Capital Partnership' (>£1bn) but didn't 'unitise' the partnership interests, as far as I know.

We're getting loads of interest in Scotland up to and including ministers. Watch this space.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Fri Aug 27th, 2010 at 03:28:43 PM EST
[ Parent ]
I just looked at the google annual report from 2004 when they went public. They got ca USD 1.2bn from the IPO, spent about USD 320m for capital expenditure and ca USD 60m on acquisition stuff. About 1.5bn was used to buy marketable securities (i.e. "parking" money). Therefore the "real' investment could easily have been done by the cash already in their accout or held as marketable securities at end of 2003 (ca USD 330m) plus the cash flow generating by their operating activities (net income of ca USD 400m).

This was just a quick fly over their annual report without much cross checking but to get my point across it is enough...

by crankykarsten (cranky (where?) gmx dot organisation) on Thu Aug 26th, 2010 at 07:38:43 AM EST
the million dollar question is now: who much money did google need before they went public, who invested in google then and would they have done it if they hadn't had the easy and quick way out through and IPO in sight at the time of their seed-investment?
by crankykarsten (cranky (where?) gmx dot organisation) on Thu Aug 26th, 2010 at 07:40:27 AM EST
[ Parent ]
The venture-capital investors who invest in these start-ups have money to invest in them primarily because of the minority of their prior investments that led to a successful IPO earning back many multiples of their initial investment.

Willingness to invest in these ventures for a one in ten chance that one of them will yield 10x+ returns is only part of what creates the venture-capital: those willing to make that kind of investment and who succeed are, without an IPO, getting their reward in profit dividends over time rather than as one lump sum when the venture goes public, which means that the prospect of re-investing in a given year is the profit dividend yield rather than the funds from the IPO.

The idea that the stock market is primarily about raising funds for real capital investment is a fantasy of neo-classical textbooks, because neo-classical economics is incapable of modeling economic power, and so are incapable of explaining markets where what is being bought and sold is economic power. They therefore have to pretend that stock markets are something other than what they are.


I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Fri Aug 27th, 2010 at 01:53:28 PM EST
[ Parent ]
Here's two things to consider:

  1. In order for capitalization to efficiently occur in a primary market, a secondary market is necessary.  Unless there is a secondary market available to resell stuff, stuff sold in a primary market will fail to obtain the value it would otherwise achieve.  (Alternatively, a secondary market for something will almost always turn up if there is a primary market. Garage sales, for example, are examples of secondary markets.)

  2. It's usually better in a number of ways (as we've all recently learned regarding private credit default derivatives) to have a market that is regulated by society in some way instead of just private, back-room deals.

Therefore, a stock market, which is just a regulated market for legal entitlements to a firm's profits, is both needed and very beneficial in a capitalist society. Your analysis vastly underestimates their economic value both to firms that need to raise capital and to individual investors who want to maximize the value of their saved labor at any point in time.
by santiago on Thu Aug 26th, 2010 at 11:49:13 AM EST
In order for capitalization to efficiently occur in a primary market, a secondary market is necessary.

Only if you assume that initial capitalisation comes from either small investors or organisations who make it their business to capitalise new enterprises with the intention of selling their commitment on the secondary market.

However, what we increasingly see is that firms are initially capitalised out of retained earnings or by enclosing commons for sale (companies spinning off subdivisions, technology commercialisation piggybacking on university R&D, pork barrel projects offering a protected environment with guaranteed revenue streams, etc.). These are generally justified on the basis of the prospective revenue stream, not the prospective resale value.

It's usually better in a number of ways (as we've all recently learned regarding private credit default derivatives) to have a market that is regulated by society in some way instead of just private, back-room deals.

In the particular case of equities, however, your ability to sell depends on the sovereign's will and ability to enforce your buyer's claim. There is no physical product to hide, smuggle or transact in. Just as a simple decision to not enforce over-the-counter CDS contracts would kill the CDS market stone dead in an instant.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Thu Aug 26th, 2010 at 12:34:44 PM EST
[ Parent ]
Only if you assume that initial capitalisation comes from either small investors or organisations who make it their business to capitalise new enterprises with the intention of selling their commitment on the secondary market.

No, I only need to assume that at least some capitalisation comes from people who intend to resell at least some of their commitment relatively quickly in a secondary market.  If their money is left on the table, and it is a significant amount of money, it's inefficient. My claim would be that alot of venture capital, particularly in risky investments such as technology start-ups and artistic ventures, require the ability to realize a profit wihin a very short time horizon. Risk becomes reduced as a firm or industry matures, and the risk-seeking investors who require higher returns to justify the risk they take need to be able to exit and get replaced by risk-averse investors with lower return expectations.  Without a secondary market of risk averse investors -- the regulated stock markets, there would be significantly less venture capital available for innovative work.

by santiago on Thu Aug 26th, 2010 at 04:57:05 PM EST
[ Parent ]
No, I only need to assume that at least some capitalisation comes from people who intend to resell at least some of their commitment relatively quickly in a secondary market.  If their money is left on the table, and it is a significant amount of money, it's inefficient.

Fortunately, that's an empirical question: How much investment into emerging companies came from investors, as opposed to securing a revenue stream from the customers before launch? Unfortunately, I don't have the data at hand to answer that question.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Thu Aug 26th, 2010 at 07:42:21 PM EST
[ Parent ]
There has been a lot written about what an insider scam the IPO is. The company that arranges the IPO makes certain that their clients are able to sell some of their stock at a price that will not again be seen for some time and that other favored insiders get to buy at the initial price and quickly sell at the short lived top. The public gets access at that top and gets to hold the stock until it regains those levels -- if it does. Meanwhile, founders and insiders get to cash out. People complain, but nothing gets done.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Thu Aug 26th, 2010 at 10:18:06 PM EST
[ Parent ]
There's a really simple solution here, which I use. Never participate in IPO's where the current owners cash out. If it was such a good investment they wouldn't sell their shares to you, would they?

Peak oil is not an energy crisis. It is a liquid fuel crisis.
by Starvid on Fri Aug 27th, 2010 at 10:43:24 AM EST
[ Parent ]
In the US IPOs are the preferred way for Venture Capital firms to unload their 'stake' and take a profit. It is also a way for the principals of the company to get a 'pay-back' for the work they've done.  Third, it is almost the only way, in the US, employees of the company actually get some economic benefit of the work they've done in relation to the "wealth" or "value" they've produced.  Somewhere down in the basement is getting money for the company to invest in current and future operation(s).  

Have to be a damn fool to buy into an IPO but there seems to be plenty of damn fools running around ... and we know what happens to their money!

She believed in nothing; only her skepticism kept her from being an atheist. -- Jean-Paul Sartre

by ATinNM on Fri Aug 27th, 2010 at 11:24:14 AM EST
[ Parent ]
There sure is a way to get economic benefit for the work they've put in: sit on the shares and accumulate dividends, and when the company looks over-valued, start selling off your shares.

Peak oil is not an energy crisis. It is a liquid fuel crisis.
by Starvid on Fri Aug 27th, 2010 at 02:12:14 PM EST
[ Parent ]
In the US new companies don't pay dividends.  

She believed in nothing; only her skepticism kept her from being an atheist. -- Jean-Paul Sartre
by ATinNM on Fri Aug 27th, 2010 at 08:17:53 PM EST
[ Parent ]
Neither do companies around here, not when they're start-ups. But after a few years when the cash flows heads to reasonable levels and the initial debt burden has been reduced, there'll be a surplus available for dividends.

Peak oil is not an energy crisis. It is a liquid fuel crisis.
by Starvid on Sat Aug 28th, 2010 at 10:53:28 AM EST
[ Parent ]
Dividends in the US are beside the point.  Microsoft only started paying them in 2003 when they had, from memory, about $30 billion sitting around in their bank accounts.

US stock markets operate under the Greater Fool Theory.

She believed in nothing; only her skepticism kept her from being an atheist. -- Jean-Paul Sartre

by ATinNM on Sat Aug 28th, 2010 at 12:35:00 PM EST
[ Parent ]
As far as I know, the handful of US companies I have shares in all pay dividends.

Peak oil is not an energy crisis. It is a liquid fuel crisis.
by Starvid on Sat Aug 28th, 2010 at 12:48:43 PM EST
[ Parent ]
JakeS:
securing a revenue stream from the customers before launch

Ouch. That's tough enough when you have a going concern and an existing product - for example, a manufacturer of bespoke machine tools will be lucky to get 10% up front, the rest paid in installments as milestones are hit over the project period (say, 18 mo.). But an established company can often get financing to cover the cash flow.

It would be damn near impossible for a startup with no track record to finance development and manufacture of an unproven product through advanced sales (unless they're very good at marketing to morons).

The fact is that what we're experiencing right now is a top-down disaster. -Paul Krugman

by dvx (dvx.clt št gmail dotcom) on Fri Aug 27th, 2010 at 01:17:29 PM EST
[ Parent ]
Or they manage to latch on to a sovereign revenue stream with relatively relaxed oversight. In the US, this has traditionally been military pork barrel (Microsoft, for instance, started their business in the protective environment of selling to a Pentagon contractor).

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Fri Aug 27th, 2010 at 03:12:00 PM EST
[ Parent ]
re 1. yes, that is true. However, as I tried to argue and described with the google IPO in a comment, the capitalization in the primary market is usually not necessary as many firms acutally had enough money to grow from profitable business before. Therefore the whole primary market (in the sense of IPOs on an exchange) is not necessary and therefore the secondary market doesn't matter.

re 2. many things should be regulated yes. But buying and selling ownership shares in companies if done by professional investors who are in it for the long run and buy material stakes is not something that needs to be regulated or standardised in a stock market. Although, of course, you could be right and it ends in armageddon as with the CDS market. However, I think the players in this market would not be greedy short term bonus driven investment bankers...

generally, mutual ownership in a cooperative kind of structure has in my opinion many many advantages and is a model which is underrated and needs to be looked at in more detail (myself included).

by crankykarsten (cranky (where?) gmx dot organisation) on Thu Aug 26th, 2010 at 01:26:54 PM EST
[ Parent ]
In order to believe that the buying and selling of ownership shares in businesses doesn't need regulation, you have to be willing to believe that almost none of the businesses who would be selling unregulated shares of their future income would ever engage in fraudulent activity or that people would just stop investing in such shares if the government stopped enforcing their interests.  Are either of those really realistic beliefs to have given frequent news items regarding investor fraud, insider trading, unregulated hedge fund activities, etc.?

Compare it to another issue for illustration: Do you believe it would be better policy for the government to ban marijuana commerce entirely, as is usually the case today, or to regulate it? Why or why not, and whom would benefit or be harmed either way?

by santiago on Thu Aug 26th, 2010 at 05:06:21 PM EST
[ Parent ]
santiago:
Compare it to another issue for illustration: Do you believe it would be better policy for the government to ban marijuana commerce entirely, as is usually the case today, or to regulate it? Why or why not, and whom would benefit or be harmed either way?

I would say that drug regulation depends on how spread it is in the particular society. Banning commerce (outside medicinal proscription) of drugs that are not commonplace appears sometimes to be effective to prevent it from entering, while not effective when it comes to drugs that are already established.

I think this answer illustrates that it depends on the situation...

Sweden's finest (and perhaps only) collaborative, leftist e-newspaper Synapze.se

by A swedish kind of death on Fri Aug 27th, 2010 at 05:31:16 AM EST
[ Parent ]
... growth of existing firms that is primarily quashed by the reform, but rather establishment of innovative new firms.

Crunchyroll, for example, would not exist without venture capital: when it became untenable to proceed on its original basis, which relied on bootleg uploads, it would have simply shut down.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Fri Aug 27th, 2010 at 05:27:35 PM EST
[ Parent ]
Actually I doubt that's true. If you stop thinking of venture capital as the financial equivalent of petrol and start thinking of it as a class benediction from the powerful to the less powerful - albeit a self-interested one, if the benediction happens to be blessed - then the role of venture capital becomes less positive.

The basic issue here isn't funding, it's collective social permissions and policy judgement. Businesses are only 'viable' or 'not viable' according to rules that are decided by the ownership class, and which are designed to benefit the ownership class.

VC is a lynchpin of the conspiracy which creates collective efforts - i.e. businesses and corporations - which are forced to follow the rules.

Real innovation might not be quite so constrained. If the restrictions on viability, profitability and payback were loosened it's possible we'd see an explosion of genuine inventiveness.

We'd also see more interest in projects with generational payback times, which are impossible to imagine with the current politics.

In fact the VC system guarantees that only socially trivial start-ups like Facebook are possible, and that the most interesting and creative long term R&D remains goverment funded, or in some cases barely funded (i.e. approved) at all.

Having said that, kickstarter is a new(ish) model that's doing some very interesting things, and could be retooled for other applications.

by ThatBritGuy (thatbritguy (at) googlemail.com) on Fri Aug 27th, 2010 at 07:05:32 PM EST
[ Parent ]
VC is a lynchpin of the conspiracy which creates collective efforts - i.e. businesses and corporations - which are forced to follow the rules.

Whatever takes its place will also, if effective, be part of a conspiracy which creates collective efforts which are forced to follow the rules.

The rules that collective efforts are forced to follow may be changed, but the fact that they are is not going anywhere so long as we are social animals.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Fri Aug 27th, 2010 at 09:35:27 PM EST
[ Parent ]
It's not a conspiracy if it's overt and the rules are clear.

Currently the rules are hidden for very selective advantage, and it's implied that they're the only possible rules.

This is a nonsense in a nominal democracy. It excludes the majority of the population who are deprived of policy input, and it also makes rational policy choices impossible.

by ThatBritGuy (thatbritguy (at) googlemail.com) on Mon Aug 30th, 2010 at 08:14:28 AM EST
[ Parent ]
Do we really need stock markets???

  1. Stock markets are the chief means for entrepreneurs to "realize" their wealth generated by starting up or investing in a successful enterprise.

  2. They are the most efficient means identified for gathering in one spot the largest possible collection of "greater fools".

  3. They provide highly remunerative employment for the more sociopathic element of the middle and upper middle classes.

  4. How else is the general public and the mainstream media to know when times are good and when they are bad?

To the extent that we value those factors we need stock markets. Corporations, limited liability, immortality, etc. are all possible without stock markets.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Thu Aug 26th, 2010 at 02:48:37 PM EST
nice summary, guess that means my diary is superfluous...

However, even though you say this so sarcastically, the tragedy is that most people simply don't see through the fog of the media and free-market / stock market zealots.

Being somewhat of a computer geek I often surf computer centric / silicon valley centric sites and I have noticed two things there:

  1. a LOT of people are totally obsessed with  pre-IPO stock option plans

  2. an increasing amount of people seem to be increasingly aware that IPOs are not that easy anymore and the alternative is currently to hope to get bought by some big company (e.g. Microsoft, google, yahoo,...) In that sense big established companies are substituing the stock exchanges. Now, if only they could somehow delist/go private...
by crankykarsten (cranky (where?) gmx dot organisation) on Thu Aug 26th, 2010 at 03:09:59 PM EST
[ Parent ]
guess that means my diary is superfluous...

Hardly! I view them as the counter balance to santiago's statement of the value of stock markets.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Thu Aug 26th, 2010 at 10:09:18 PM EST
[ Parent ]
... / going private to society?

You've said you don't want to eliminate capitalism, which I take to mean corporate capitalism ("retaining" capitalism in the sense of eliminating corporate capitalism and instituting individual capitalism in its place would be about as wrenching a change as to syndicalism or communalism or resource feudalism), so what you are talking about is the same things going no, but with less accountability and more going on behind closed doors.

Indeed the bulk of the direct problems traced back to stock exchanges would be corrected by banning payment of executives in stock options maturing in under five years time and banning the incorporation of investment banking ... the problems from games played by derivatives traders are the problems of regulating any other casino, and are not due to the particular real or financial asset that the derivative is based on.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Fri Aug 27th, 2010 at 09:46:34 PM EST
[ Parent ]
Schumpeter: The eclipse of the public company | The Economist

FOR most of the past 150 years public companies have swept all before them. Wall Streeters have dissolved their cosy partnerships to go public. Communists have abandoned their five-year plans in favour of stockmarket listings. And Silicon Valley entrepreneurs have bowed before the god of the IPO--the initial public offering that takes a start-up public and makes its founders rich.

But is the sun finally setting on the public company?

The result has been a revolution among small and mid-sized businesses in America. Larry Ribstein, a professor of law at the University of Illinois, calculates that about a third of American businesses large enough to file tax returns are now organised as partnerships or what he calls "uncorporations". Plenty of big businesses, too, are shunning the stockmarket, with its costly reporting requirements and impatient investors. Publicly traded partnerships and real-estate investment trusts mix and match features from corporations and uncorporations. Many big firms, such as Alliance Boots (a health-and-beauty group) have abandoned public stockmarkets and embraced private equity.

The most fashionable investment vehicles--leveraged buy-out firms, hedge funds and venture-capital funds--are spearheading the "uncorporate" revolution. These firms are usually organised as partnerships, though some, such as the Blackstone Group, are also listed. Corporate raiders often raise money by creating funds in the form of partnerships. Their targets are often restructured as partnerships.



"The future is already here -- it's just not very evenly distributed" William Gibson
by ChrisCook (cojockathotmaildotcom) on Fri Aug 27th, 2010 at 03:33:03 PM EST
... stock markets will do nothing to eliminate all the evils associated with stock markets, they will just migrate to a new arena.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.
by BruceMcF (agila61 at netscape dot net) on Fri Aug 27th, 2010 at 05:30:01 PM EST
[ Parent ]
... and that fellow writing in the Economist is no Schumpeter.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.
by BruceMcF (agila61 at netscape dot net) on Sat Aug 28th, 2010 at 01:55:45 PM EST
[ Parent ]
One suspects that the results of putting his ideas into practice would be, (have been?), uncreative destruction.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Sat Aug 28th, 2010 at 09:45:47 PM EST
[ Parent ]
Having read Schumpeter's Business Cycles, I can say that the destruction caused by the Economist "Schumpeter" concept of innovation including "financial innovation" does indeed extend to include pure and simple destruction, nothing creative about it.

Labeling the re-creation of Gilded Age Version 1 financial games as "innovation" is, indeed, part of the defense mechanism of an obsolete system against creative destruction, but defenses like those are like levies built of sand: they work until the flood comes.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Sun Aug 29th, 2010 at 03:57:27 AM EST
[ Parent ]
Hence my remark at the beginning that we don't really need stock markets!

Indeed. Stocks are just capitalised income streams and have nothing to do with "capital."
Here is an example:

A finnish bank NORDEA has in it's accounts real "capital," plant and equipment worth of 350 million euros. Their annual profit is however 3 500 million euros. So, their return on capital is 1000%.
They paid dividends to the stock owners 19% of the result = 665 million. A 200% yield on capital. Real money, without any effort or participation in the "production process."

by kjr63 on Sun Aug 29th, 2010 at 05:20:17 PM EST
Banks are a particular case which can't really be compared to other companies when it comes to equity/debt.

Peak oil is not an energy crisis. It is a liquid fuel crisis.
by Starvid on Mon Aug 30th, 2010 at 03:13:33 AM EST
[ Parent ]
Perhaps so. But if capital in banking gives 1000% yield, we are seeing huge flood of capital and allocation of savings. And banks popping up everywhere, right? But that is not what is happening?
by kjr63 on Mon Aug 30th, 2010 at 11:23:58 AM EST
[ Parent ]
Most of the 'productive' capital in a bank is 'human' capital - ie the people - and intangibles/IP.

The fixed assets and equipment are pretty much de minimis in comparison.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Mon Aug 30th, 2010 at 12:06:15 PM EST
[ Parent ]
Most of the 'productive' capital in a bank is 'human' capital - ie the people..

The idea that stock owners "own" labour does not make sense. The price of labour is defined by the labour market. If their "capital" is labour, the picture is similar: the labour costs for NORDEA are 2 500 euros. So "Return on Labour" is 140%.

by kjr63 on Tue Aug 31st, 2010 at 04:00:12 AM EST
[ Parent ]
Owning human assets goes by another name - slavery.

You can't be me, I'm taken
by Sven Triloqvist on Tue Aug 31st, 2010 at 04:54:14 AM EST
[ Parent ]
Indeed.
by kjr63 on Wed Sep 1st, 2010 at 06:38:26 PM EST
[ Parent ]
Not "labour." Organisation (and brand and power).

And stockholders do indeed "own" the organisation (and brand and power), in the sense that if they decide to do so, they can - legally and without any great social stigma - murder it in its sleep. This entitles them to a cut of the added value that the organisation (resp. brand or power) produces which is above and beyond the added value that the members of the organisation could produce on their own.

And since the added value created by the organisation, brand and power is, in a bank, substantial, the shareholders' apparent return on capital is substantial.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Tue Aug 31st, 2010 at 09:07:28 AM EST
[ Parent ]
And since the added value created by the organisation, brand and power is, in a bank, substantial, the shareholders' apparent return on capital is substantial.

If they have low wages, relative to "added value," that just means there is an oversupply of labour.

There is no lack of labour, return on capital is 1000% and a country of 5 million has just 4 banks?
Of course, the reason for these profits is clear:

Banking is a government created monopoly.
Free lunch to stock owners.

by kjr63 on Wed Sep 1st, 2010 at 07:11:46 PM EST
[ Parent ]
No, it means that you're committing the same fallacy as the neo-classicals. You are neglecting a factor of production: Financial assets. Trust. Institutional stability. Confidence in the present value of promises pertaining to the future.

In many cases, this doesn't matter, because in many cases money is not the limiting factor of production. But it is when dealing with the financial system, and its interaction with the rest of the economy.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Thu Sep 2nd, 2010 at 03:02:30 AM EST
[ Parent ]
It's just not very relevant. A normal company which makes stuff has a solidity of say 50 %, ie half is debt and half is equity.

Banks on the other hand have a very small equity, because ther assets are essentially the same thing as there liabilities. That is, they don't lend their own money to people but instead lend money from some people and re-lend it to other, taking a cut as payment for the service.

Because of this, they only need equity as a reserve against credit losses. This creates a phantom view of immense yield on equity, bu as banks are traded at huge multiples of equity, banks are not more profitable than other companies when you look at stuff like p/e and dividend, which is what actually matters to investors.

Peak oil is not an energy crisis. It is a liquid fuel crisis.

by Starvid on Mon Aug 30th, 2010 at 06:37:10 PM EST
[ Parent ]
Banks on the other hand have a very small equity, because ther assets are essentially the same thing as there liabilities.

"Assets" are their "products" like in any other business. Products are produced by land, labour and capital like in any other business. Why would anybody invest capital to anything else than banking when the yield there is 1000%?

by kjr63 on Tue Aug 31st, 2010 at 04:17:16 AM EST
[ Parent ]
Because banks are traded at many times their own capital. Their profitability is generally not higher than that of other companies.

Of course you could always start a new bank and compete with the current crop, but then you must be better that the other banks, or you won't get any customers, and if you lower your margins, you won't make any money.

Peak oil is not an energy crisis. It is a liquid fuel crisis.

by Starvid on Tue Aug 31st, 2010 at 05:05:46 AM EST
[ Parent ]
"Assets" [in a bank] are their "products" like in any other business. Products are produced by land, labour and capital like in any other business.

Not so. The (main) economic function of a bank is that it reduces the spread between what the buyer pays and what the seller receives by acting as a clearing house.

If you buy something on credit, the price you see is the full discounted value of the cash flow that you commit to paying the seller. But the price that the seller gets is only the discounted cash flow minus the credit risk that you represent. The bank is, in a functioning monetary system, a smaller credit risk to the seller than you are (because banks don't usually go bust in a well-governed monetary system). And you are a smaller credit risk to the bank than you are to the seller (because you are only a credit risk to the clearing house on your net position, whereas to the seller, you are a credit risk on your gross position).

In principle, the function of clearing house has nothing to do with land, labour and (real) capital - it is a purely monetary construct. In the real world, functioning as a clearing house requires, obviously, organisation, which in turn requires land, labour and capital - but organisation is poorly represented in double-entry bookkeeping.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Tue Aug 31st, 2010 at 09:20:54 AM EST
[ Parent ]
Another way of looking at this is that a bank's economic function is in fact as a guarantor of IOUs issued by borrowers or trade buyers.

The bank backs that guarantee with a proprietary pool of capital at a level specified by the BIS.

The Credit Crunch came about because banks outsourced that guarantee (aka credit risk) to investors:

(a) Totally - through securitisation;

(b) Temporarily - through credit default swaps (CDS), which are essentially time limited guarantees;

(c) Partially - through credit insurance by the likes of Ambac; and

(d) toxic cocktails of the above, such as CDOs and CDO squared.

Since these 'shadow bank' investors have withdrawn from the market, and the level of leverage which banks may build on their own capital is also resricted, it follows that the pyramid of credit, and hence the asset prices inflated by that credit, is now drastically reduced for decades to come, if not permanently.

The net 'interest' margin between the interest a bank charges to borrowers and that which it pays to depositors must cover operating costs and default costs, with any surplus being available for distribution to shareholders.

To the extent that operating costs relate to land and labour then they are distinctly 'real world'.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Tue Aug 31st, 2010 at 12:47:37 PM EST
[ Parent ]
they don't lend their own money to people but instead lend money from some people and re-lend it to other, taking a cut as payment for the service.

Actually, they lend the money into creation, up to a limit set, in theory, by their reserve requirements. When they make the loan they simply credit the customer's account with the money. Reserve requirements have been seriously blurred by accounting or lack there-of. For a bank the essence of their business is the acumen to make loans that will be repaid. So long as they do that, things will, in general, be fine. When they start making loans that won't be repaid they light the fuse for a financial catastrophe, such as the one we are now experiencing.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Tue Aug 31st, 2010 at 09:38:45 AM EST
[ Parent ]
Yeah I know, I was just trying to simplify. When people are confronted with fractional reserve banking their minds usually lock up.

Peak oil is not an energy crisis. It is a liquid fuel crisis.
by Starvid on Tue Aug 31st, 2010 at 12:52:46 PM EST
[ Parent ]
ARGeezer:
Actually, they lend the money into creation, up to a limit set, in theory, by their reserve requirements.

In fact the restriction is not related to reserve requirements, because the Interbank market enables these reserve requirments to be bypassed. What restriction there is on credit creation is that based upon BIS 'Basel' capital requirements which restricts the size of the pyramid of credit which may be built upon a given amount of capital. Aka 'leverage'.

The wilder elements of the Austerian tendency of economics are therefore barking up the wrong tree, because 'fractional reserve banking' has long been a canard.

What even well informed people miss is that banks create credit and new deposits not only when they lend at interest but also when they spend on:

(a) staff, management, suppliers and other costs;

(b) acquisition of assets, such as property or T-Bills;

(c) dividends to shareholders.

What is going on with QE is that the Fed and BoE are creating credit and thereby manufacturing new money which is being spent on financial assets.

This simply replaces one financial asset in the system (interest-bearing bonds) with another (zero interest bills). For this money to get out into the system and cause retail price inflation will actually require lending (to the over-indebted and essentially insolvent 90% of the population)or spending (fiscal action).

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Tue Aug 31st, 2010 at 01:04:23 PM EST
[ Parent ]
For this money to get out into the system and cause retail price inflation will actually require lending (to the over-indebted and essentially insolvent 90% of the population)or spending (fiscal action).

Which is why QE to save/prop up TBTFs is harmful to the broader economy. It serves to keep the parasites alive with no benefit to the host. The money would be better spent on infrastructure projects built by private sector contractors or by re-constituted New Deal type agencies such as the CCC and WPA. Current policy is financing an ongoing harm.

Spending the same amount of money on renewable energy, charging infrastructure for electric vehicles and upgraded, electrified rail systems would be highly stimulative, as it is capital spending. Revise policies to bring as much domestic manufacturing as possible back to the USA as is possible, as quickly as possible, and such spending could fuel a boom. Steve Keen has a dynamic simulation of a three sector economy with a government sector, a banking sector and a business sector which he used to demonstrate that the same amount of spending directed to the private sector was much more stimulative than when directed to the banking system.

But we know the problems getting to the point where we can do something sensible.

"It is not necessary to have hope in order to persevere."

by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Tue Aug 31st, 2010 at 01:32:44 PM EST
[ Parent ]
Corporate capitalism needs stock markets, in a way that it does not need, for example, derivatives markets.

We don't need corporate capitalism, in the fundamental way that we need a functioning biological life support system, but my view is that trying to take it down in such an up front way with so few clear immediate benefits to draw in allies in the fight is an exercise in futility.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Mon Aug 30th, 2010 at 02:26:11 PM EST
We don't need corporate capitalism the same way we don't need fertiliser or internal combustion engines. There were after all a time when we didn't have them and the human race still survived. But that's not setting the bar very high.

Well-regulated corporate capitalism is a great system for creating wealth and prosperity for a society. Instead of arguing for the destruction of said system, progressive efforts should be focused on once again taming capitalism. For it's own sake as well, I might add. Only socialism/social democracy/whatever can save capitalism from itself.

This is the same ancient revolutionary vs. reformist debate on the left which we've had for at least a century. As both models were tried in lots of different countries at different times, it's easy to compare and see which yielded the best results, and one have to be utterly blind not to see that it was the reformist path.

Let's not throw the baby out with the bathwater.

Peak oil is not an energy crisis. It is a liquid fuel crisis.

by Starvid on Mon Aug 30th, 2010 at 06:49:21 PM EST
[ Parent ]
Starvid:
We don't need corporate capitalism the same way we don't need fertiliser or internal combustion engines.

Capitalism, like the internal combustion engine and the more aggressive kinds of fertiliser, are like burning down your house for warmth because you're too stupid to work out how to turn on the free heating.

Regulation certianly helps, but it has to be absolute to prevent regulatory capture. Once regulatory capture begins the inevitable outcome is the one we have today - bonkers people running around doing suicidally bonkers things for the bling.

It might be more useful to question aims and then consider means.

What would the aims of a sane culture be?

Would it surprise anyone - outside of the US and the MBA schools - if bling wasn't top of most people's lists?

by ThatBritGuy (thatbritguy (at) googlemail.com) on Mon Aug 30th, 2010 at 08:12:03 PM EST
[ Parent ]
One of the most pernicious phenomena of the last 30 years has been the limited choice survey. "Is your pill a) red or b) blue?"

This may make sense actuarily, but socially it promotes monoculture.

You can't be me, I'm taken

by Sven Triloqvist on Tue Aug 31st, 2010 at 01:35:35 PM EST
[ Parent ]
Starvid:
We don't need corporate capitalism the same way we don't need fertiliser or internal combustion engines.

The thing is that - as the Economist pointed out the other day - the conventional corporate form is obsolescent.

New enterprise models are emerging because 'they work'.

My prediction is that capitalism as we know it will eat itself as the 'Co-operative Advantage' - ie the freedom from making returns to unproductive shareholders - makes itself felt.

In a world of direct instantaneous connections there is no need either for the State or for rentier shareholders as intermediaries.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Mon Aug 30th, 2010 at 08:47:13 PM EST
[ Parent ]
... is also a great system for destroying the life support system upon which we all depend, if any of the existing observations of corporate capitalism are to be believed ...

... and indeed, a great system for financing the aggressive and persistent undermining of the regulations which would define a "well-regulated" corporate capitalism, which would seem to make well-regulated corporate capitalism an intrinsically unsustainable system lying on the path from mostly unregulated corporate capitalism to mostly unregulated corporate capitalism.

Indeed, we do not in fact know that partially regulated corporate capitalism is able to deliver increasing affluence and wealth without tapping non-renewable resources, nor indeed whether the increasing affluence and wealth was caused by the corporate capitalism, or whether corporate capitalism just happened to be at the right place and the right time to benefit from the technology for irreversibly tapping a massive stockpile of non-renewable resources.


I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Mon Aug 30th, 2010 at 09:00:19 PM EST
[ Parent ]
This is the same ancient revolutionary vs. reformist debate on the left which we've had for at least a century.

This might not be as clear as we might like to think. The Russian Revolution and the emergence of the Soviet Union turned out to be instrumental to the defeat of the Axis Powers in WW II and the rise of a bi-polar world after WW II. The reformist path gained traction, at least in part, by the fear engendered among the very wealthy of a similar occurrence in their own country. Rightly or wrongly, such fear is not present these days and the very wealthy have been assiduously dismantling all constraints on their power, especially since the fall of the Soviet Union.

Given the way things are going, the mess they have made of the economy, the inability of the great mass of the people to gain any reformist traction, given the security state organization and apparatus that has been legislated and put into operation in the USA and given the deliberate stoking of populist rage against scapegoats by ultra-conservative, authoritarian elements such as Murdoch and the Koch brothers, it is not inconceivable that a post-coup US Government could constitute the political and ethical equivalent of a new Soviet Union to the rest of the world. To me, that is the single greatest danger against which we need to guard, but I see little evidence of any effective action in that regard.

"It is not necessary to have hope in order to persevere."

by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Tue Aug 31st, 2010 at 10:01:52 AM EST
[ Parent ]
This is the same ancient revolutionary vs. reformist debate on the left which we've had for at least a century. As both models were tried in lots of different countries at different times, it's easy to compare and see which yielded the best results, and one have to be utterly blind not to see that it was the reformist path.

This is not as clear-cut as you put it, for a number of reasons:

  1. Revolutions have a greater chance of success in countries where the reformist path is successfully obstructed. Reformism is, in turn, more likely to be obstructed in poor countries than in rich ones, since successful reformism requires sufficient resources to cover the needs of the poor and still leave comfortable opulence for the rich.

  2. Reformism is much more likely to be successfully opposed where the oligarchy is more entrenched.

  3. Left-wing revolutions are historically associated with agrarian societies. This is partially a function of the first two bullets, but part of the reason is almost certainly that agrarian countries offer greater scope for guerrilla strategy than urbanised countries do: It's easier to lock down urbanised than rural areas. It is also easier to avoid collateral damage in rural than in urban settings, something that is far more important to guerrilla strategy than to anti-guerrilla strategy.

So simply looking at the outcome after the fact is similar to claiming that a financialised economy is superior to an industrial economy because the USA has greater consumption at the moment than China.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Tue Aug 31st, 2010 at 10:49:36 AM EST
[ Parent ]
The most efficient and reliable way to reform corporate capitalism is to reform their brains, by democratizing (and making transparent) corporate boards of directors so they represent the cross-section of interests that work best for social democratic society as a whole. Then regulatory capture is no longer the constant threat, and corporations generally work in the directions society wants them to without having to be directly taking order from the state.

fairleft
by fairleft (fairleftatyahoodotcom) on Tue Aug 31st, 2010 at 12:55:00 PM EST
[ Parent ]
The problem is that many boards believe that they DO represent a cross-section.

You can't be me, I'm taken
by Sven Triloqvist on Tue Aug 31st, 2010 at 01:36:57 PM EST
[ Parent ]
An honestly social-democratic society would listen hardly at all to what the wealthy and well-connected board members believe they are doing/representing.

fairleft
by fairleft (fairleftatyahoodotcom) on Tue Aug 31st, 2010 at 02:08:44 PM EST
[ Parent ]
There is one fundamental fact to bear in mind: there are more of us (bar the sleepwalkers). This is vital in any system that includes universal suffrage in rights and opportunities. Thus we should focus on all systems that enable the 'more', whether print, electronic, local or global.

I see IT as the best bet as leverage because it is relatively easily scaleable, and has low transaction cost.

You can't be me, I'm taken

by Sven Triloqvist on Tue Aug 31st, 2010 at 02:41:35 PM EST
[ Parent ]


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