Author Archives: Robert

The European Disunion

Posted on June 4, 2013 by Robert

I’ve been interested in all things Euro these days, especially in the wake of my trip to Germany, Spain, and the ECB (see Reflections on My Trip to Germany/Spain). I was therefore interested to read a recent article in the Economist commenting on last week’s European Union summit, and offering prescriptions for all that ails the European Union (see The Sleepwalkers).

Although things have been relatively quiet recently (the markets are currently discounting the likelihood of a break-up), the article criticizes Europe’s leaders for their overly rosy outlook. Instead of taking decisive, concrete actions to repair the flawed Euro system, European leaders seem content to kick the can while trying to reassure the world that the worst of the crisis has passed.

According to the Economist:

The urgent task is to sever the ties between banks and governments too feeble to support them…In addition, the euro zone needs growth-boosting reform…it should ease austerity by slowing the pace of budget cuts and using cash from the core euro zone to pay for schemes to boost youth employment and investment in small and medium-sized firms in the periphery.

This is consistent with my position, as espoused in Reflections on My Trip to Germany/Spain. As I mentioned in that entry, the way core countries (Germany et al.) and peripheral countries (Spain et al.) view the crisis is fundamentally different; consequently, there is a gulf between the core and the periphery on the appropriate steps needed to resolve the crisis.

As long as those in the core keep pushing austerity as the answer and remain unwilling to come to the aid of their brethren (and part of the problem is that they don’t see them as brethren) in the periphery, the prospects for the Euro remain bleak.

Although the rhetoric coming out of the core continues to favor austerity as the answer, the call for easing austerity burdens is gaining currency.

The solution, however, goes beyond simply addressing the crisis with short-term economic fixes – e.g., easing austerity, instituting bailout programs, and/or quantitative easing. The real onus is on Europe’s politicians to address the Euro’s long-term ills with political solutions – chiefly, addressing the Euro’s design flaws.

To solve the European Union’s long-run problems, politicians need to think beyond myopic self-interest. They need to consider the greater good of Euro-land, and not simply what might be best for their individual countries and/or their constituents alone. They will need to make difficult (read: not popular) decisions regarding the Maastricht treaty, banking union, and deeper fiscal (political) union.

If Europe’s leaders are serious about keeping the Euro together, there needs to be a committed, cohesive effort to create a fiscal union, as opposed to simply a monetary union with a reliance on ECB intervention and half-baked, hastily designed bailout programs.

I’m not suggesting that fiscal union (i.e., a United States of Europe) is the only answer. One workable alternative would be to return to a system in which each country within the Eurozone controls both its fiscal and monetary policy (i.e., a return to individual currencies). But if European leaders are as committed to preserving the Eurozone as they claim, then the logical long-term solution is to complement the monetary union with a fiscal union.

 

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Reflections on My Trip to Germany/Spain

Posted on April 18, 2013 by Robert

I recently accompanied a group of EMBA students on a study tour of Germany and Spain. The intent was to study the European Economic Crisis from the point of view of a core country (Germany) and the point of view of a peripheral country (Spain). We benefited from some truly amazing visits with economists and officials on both sides. We were able to speak with folks from the ECB, Deutsche Bank, BBVA, AFI, and a former official of the Spanish Ministry of Economics/Finance.

What struck me is how differently both sides view the crisis. The Germans with whom we met typically view the crisis as a consequence of bad behavior on the part of both private and public actors in the periphery. The Spaniards with whom we met, who do not deny that bad behavior amongst private and public actors played a role, nevertheless view the crisis as one aided and abetted by the countries in the core.

Given the divergent views on the causes of the crisis, both sides, not surprisingly, disagree on how to resolve what ails the Euro zone.

The core is pushing the austerity agenda – e.g., compelling peripheral countries to cut government expenditures and reduce labor costs – to accomplish an internal devaluation to improve competitiveness. Unfortunately, austerity is very painful medicine, and has serious unemployment and social stability consequences.

Peripheral countries, by contrast, are asking for the ECB, and the countries in the core, to do more – e.g., intervene to stabilize sovereign borrowing costs, explicitly allow for greater levels of inflation, engage in stimulus, and/or lessen demands for austerity - as a means of helping the periphery make difficult structural adjustments (i.e., to cushion the blow).

Personally, I think those in the periphery have a point. I don’t think austerity has been working so well – resulting in a deeper, and more protracted, recession. The ECB seems wedded to austerity as an answer, even in the face of evidence to the contrary (though they do seem increasingly open to engaging in quantitative easing – OMT – if necessary). The powers that be in the core, however, have very little appetite for allowing inflation to increase (as memories of the Weimar Republic loom large).

So unfortunately, and especially for the constituents at the core, the issue is not just economic, but political. And as long as those in the core keep pushing austerity as the answer and remain unwilling to come to the aid of their brethren (and part of the problem is that they don’t see them as brethren) in the periphery, the prospects for the Euro remain bleak. How much pain can countries like Spain, Italy, and Greece endure before there they decide that enough is enough and walk away from the Euro experiment? We might not on the precipice at the moment, but without a meaningful compromise, such an outcome might be inevitable.

Nevertheless, as the unbridled optimist that I am, I am hopeful that when push comes to shove, the ECB will intervene and the core countries will do more – ultimately recognizing that they bear tremendous costs should countries like Italy and Spain abandon the Euro. I am also hopeful that once the federal elections pass in Germany (in September), that the current rhetoric in favor of austerity will shift to one that emphasizes European unity and solidarity, with a commensurate commitment to do more to keep the Euro together. But let’s just hope that countries like Italy and Spain don’t reach their breaking point before that happens…

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Curbing Abuses to Shareholder Democracy

Posted on March 14, 2013 by Robert

The New York Times recently published an article on shareholder activists and how they can sometime abuse shareholder democracy for their own short-term gain (see ‘Shareholder Democracy’ Can Mask Abuses).

The article noted a recent conflict between activist/investor David Einhorn and Apple in which Einhorn has requested Apple distribute cash to investors. Marty Lipton criticized Einhorn’s actions and, more broadly, the practices of some activist investors. According to the New York Times:

Martin Lipton, one of the nation’s top corporate lawyers…wrote a scathing memo to his clients on his view that “shareholder democracy” has run amok…Mr. Lipton said that long-term shareholders in public companies are being undermined “by a gaggle of activist hedge funds who troll through S.E.C. filings looking for opportunities to demand a change in a company’s strategy or portfolio that will create a short-term profit without regard to the impact on the company’s long-term prospects.”

Although I don’t always agree with Marty Lipton (best known for inventing the poison pill), I think he’s onto something here.

Clearly, it can be problematic when the goals of short-term institutional investors don’t match those of the companies in which they invest, where the incentives should favor long-term outcomes.

I’ve written about these issues in the context executive compensation (see Revisiting Executive Pay: The Problem is Systemic), but given the prominence of institutional investors with short-term horizons, I think the overarching issues are worth revisiting.

In a previous article I mused:

Who are shareholders? Although seemingly a silly question, the answer has important implications…

Historically, shareholders were individual company owners (often dispersed) who held stock for long periods of time. Today, the picture is quite different. Shareholders are represented less and less by individuals and institutions holding stocks for the long-term, and more and more by individuals and institutions looking to make a quick profit – buying and selling shares with frequency. The rise of such traders who seek to profit from near-term volatility in stock prices has changed the nature of the system. These traders are inconsistent with the spirit of the view of the shareholder as a long-term owner. They are not really owners, and sometimes have little interest in the long-term survival of the firm. They often only care about micro-movements in share price in a very narrow window of time.

I think what really drives this point home is the fact that even the definition of “short-term” has gotten, for the lack of better words, shorter. In the 1960s, investors held stocks for an average of about 8 years. That number can now be counted in days (see Stock Market Investors Have Become Absurdly Impatient). Add in high frequency traders, and the average hold time can be counted in seconds (see How long does the average share holding last? Just 22 seconds).

I think we really need to ask ourselves: Given the decreasing shareholding periods, are current shareholders congruent with our vision of shareholders as long-term owners?

The short-term mentality now prevalent among a certain strata of shareholders is not only a troubling in its own right, but it can also have serious implications for companies and how they are managed on a day-to-day basis. How can the CEO and the company’s top management team focus on long term outcomes when they are forced to cope with a set of stakeholders who favor near-term performance? After all, according to theory, managers are supposed maximize profitability over an infinite time horizon.

So, how can we solve the problem of some institutions trying to game the shareholder democracy system? For me, one interesting possibility lies in differentiating between ownership classes of stock and trading classes of stock. For example, perhaps we could consider creating “ownership” classes of stock that must be held for longer periods of time and come with certain, enhanced voting privileges so as to better align the incentives of shareholder/owners with the company. We could also create “trading” classes of stock with fewer ownership and control rights that can be freely traded at will. I’ve written a bit about this idea in the blog post entitled “Different Stock Classes: Trading vs. Ownership Shares“. I’d encourage you to take a look if you have an interest in the topic.

Nevertheless, whatever the outcome, one thing is for certain –this issue hasn’t been getting nearly the attention it deserves.

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