General Electric Models the Past and Future

After the American Century

Back in 1980s I was something of an expert on the history of General Electric, having written a book about it. Since then I have casually followed the company, as part of my interest in the history of technology, but I have not done any research directly on GE itself. Nevertheless, from a historical viewpoint, GE is a fascinating study in what has happened to the American economy during the last century.

GE began as a merger in the 1890s between a number of electrical manufacturing companies, including those of Thomas Edison. It held a large clutch of valuable patents in electrical lighting, transmission, and so forth, and it was also wise enough to establish the first corporate research and development center in the United States, in 1900. It gave inventors and scientists security in return for patent rights, and managed to parlay its early dominance in the industry into a long-term dominance in most things electrical, including radio, television, and much else.

GE also bought promising small companies that made consumer goods, such as irons or toasters and developed these products. At first each kept its own brand identity, but around 1920 the company was convinced by the legendary advertising man, Bruce Barton, to consolidate all its consumer goods and sell them under the single logo of GE. For generations afterwards the GE label was an assurance of quality, and many consumers bought their refrigerators, stoves, televisions, and other large electrical purchases from GE, which remained one of the largest corporations in the United States for all of the twentieth century.

Of course GE made some mistakes, like missing the emerging computer revolution, and it was unlucky in taking a leading role in nuclear power, which became unacceptable to the American public after the Three Mile Island Accident. Still, until the last quarter of the twentieth century it remained a powerhouse, and a corporation loved by investors, because from the 1930s it just never missed a dividend, and usually paid a little more than expected. GE was the definition of a blue-chip stock.

But last week GE was on the ropes, as it announced a big cut in its dividends. Its stock price fell to little more than $6 a share, a two-thirds drop over just a few months, and even since 2007 when it was selling for $37.

What happened? GE changed its winning strategy. Instead of focusing exclusively on being the best in the world at its core businesses, electrical power generation and electrical consumer goods, its management decided to branch out. It bought coal mines, for example, and got into medical services. This seemed to make sense, as Asian companies were making the appliances at prices so low there was little profit in it, compared to the 1950s. Most tellingly, GE made a lot of money by lending other people money. GE competed with banks, through a financial division.

For years that finance division was the most profitable part of the company. No more. In the late Bush marketplace, GE's lending was apparently no more profitable than the banks' mortgages. Depending on what rumor you believe, the debt ranges from a paltry billion (which I can easily handle) or two to maybe 40 billion. No one outside the company seems to know. And so the stock falls.

Is this not, in miniature, the history of the American economy since 1900? From blue collar jobs and heavy industry to white collar jobs in finance? From patent control and market dominance to loss of control over markets? From blue chip stocks, rock solid in value, to a faltering stock price amid uncertainties about the company?

If GE was the model company for the 20th century, can it revive to be a model for the new century? I submit that GE should get back to its roots. It still has terrific research labs, excellent consumer products, and exciting new alternative energy technologies. It could help to develop a national smart transmission grid, new mass transit, and much else. But to do so, it might need to split itself into two companies, letting the financial arm go it alone, and if necessary, fall into bankruptcy.

[Update: On June 26, 2009, GE was selling for just under $12.00 a share, and had been trading at higher prices since this piece was written, briefly even getting over $16.]

Shootings Plague Normally Placid Copenhagen

After the American Century

In Denmark one almost never gets a message from the American Embassy warning that a certain part of the country is dangerous and should be avoided. In fact, I cannot remember getting one before. But I did receive such an email a few days ago.

Denmark generally is regarded as one of the most peaceful nations on earth. The Economist regularly places it among the three or four safest nations. But in Copenhagen for months casual and unmotivated shootings, with a few dead and many wounded bystanders, have become an almost daily byproduct of a gang war. Sometimes the press presents these shootings as matters of mistaken identity, which would suggest that if you don't look like a drug dealer there is no danger. But many of those shot do not fit that profile, and other motives seem behind the shootings.

Indeed, the City of Copenhagen had to suspend delivery of food to elderly shut-ins because those who make the deliveries were being threatened. (No one is suggesting that these city employees were delivering illegal drugs to the elderly!) When city police were then told to protect workers delivering food to the elderly, there were threats against the police.

So how safe is Copenhagen? And for tourists, is it still worth visiting? My own sense is that most of the city remains quite safe compared to American or British cities, for example. But if the city cannot find a way to stop these shootings, it it cannot control the areas where they most frequently occur, notably Nørrebro and parts of Amager, the image of Copenhagen will suffer. And that will undo the millions being spent to attract tourists to the City.

The world press has begun to take note. The Times of India estimated that there have been at least 60 shootings since last August. Bloomberg.com called Copenhagen "a shooting gallery." Stories have appeared in The China Post, The Hindustani Times, and in The International Herald Tribune. Tourism to Denmark, already suffering due to the weak world economy, can only be hurt further, as people decide where to take their summer vacations.

An Aside: Danger does draw a certain class of visitors,. "Riot tourism" is promoted by at least one website, promoting the excitement and learning potential of disorder. For those looking for confrontations with the state and solidarity with fellow radicals, Copenhagen might become an attractive destination. If the city is really to draw such tourists, however, the current drug war would have to be politicized, so that it seemed like something else, for example class warfare (the long proclaimed collapse of capitalism?) or perhaps official discrimination against immigrants.

But leave speculation aside. Denmark is not really so dangerous that tourists should avoid it, whatever you may read in the press. However, unless you are a "riot tourist," stay out of Nørrebro.

Weird Home Computer Tax in Danish "Reform"

After the American Century

With the world's highest taxes, Denmark periodically goes through the ritual of pretending to lower and simplify taxes. What always seems to result is a more complex tax code than before. I will not try to explain the new law, because after reading through it, I am not certain I understand it. That is why Denmark is a paradise for tax accountants, because you literally cannot figure out what the rules are yourself.

Rather than write about the whole complex package, I want to single out one remarkable new tax that has been added. (In any tax reduction plan in Denmark new taxes are always added). This one is for 5000 DK a year, almost $1000 for anyone who gets a computer or telephone from their employer. I hope I am misreading it, but it might mean that even if you have paid for your home computer, as I have (because the humanities faculties generally are broke), just using the Internet hookup would unleash the tax office on me. That's right, if I have a home office and check emails from home at night or on the weekend - that is, if I want to work a bit overtime, the punishment will be almost $1000 a year.

Now if the real purpose of the tax law was to get people to work less, this might make sense. But the stated purpose of the law is to encourage people to work more, to increase the work people are willing to do by lowering the tax rate. Denmark's baby boomers are marching into retirement soon, and the country cannot afford it unless people work for more years and more hours during those years.

This tax seems particularly stupid because it is aimed at anyone whose work involves communicating with Asia or North America (two rather large markets). Think about time zone differences. Send an email at noon from Denmark to Los Angeles (where it is midnight), and the reply will probably come after 21:00. Under the new law, if an employer wants someone to read and respond to that email, and gives them a computer to do it with, the cost will suddenly be $1000. As I read the law, just one message a year would do it. Nothing seems to be in the law about modulating the tax to take account of whether you have the home computer 24/7, only sometimes on the weekends, or just during a busy month. Apparently, it is all or nothing.

What will people do? They will not accept a computer or phone from their employer any more. Instead, they will try to get by with an older machine, typically with older software, that they have at home. Instead of using the same institutional network both day and night, they will sign up for a separate system that costs less than 5000 DK a year. Corporate security will no doubt be compromised. Messages needed at work will occasionally be inaccessibly at home.

This "reform" will make Denmark less efficient. It may well retard the spread and use of the Internet. It will encourage people not to work at night or on weekends. It will hurt the efficiency of international contacts and likely hurt exports. It can easily compromise corporate IT security, as employees use home systems to avoid the extra tax. It could easily make the university a bit less efficient. This is another example of an inane Danish "reform" that was worked out in a private room between a couple of political parties without the benefit of public discussion.

I get hundreds of emails from students in the off hours, and I guess this means I should not answer any of them until I get to the office, no matter how important, such as the one I got an hour ago asking urgently for a letter of recommendation. Thank goodness in the future I will not read such messages until it is too late. Less work for me to do, and no job at all for the student!

The marvel is that Denmark on the whole is such a great place, despite its tax system.

Back to Banking Basics: Learning from Canada

After the American Century

Once upon a time, mortgages were simple. The home buyer went to a bank, which (1) decided whether the house was worth its price, (2) whether the purchaser looked like a good risk, (3) what rate of interest to offer, and (4) how big a down payment was needed to seal the deal. Furthermore, (5) banks kept on hand a decent reserve of capital, in case some buyers defaulted on their loans. In those simpler days, all the risk was divided between just two parties: the customer and the bank. But all five of these elements of the simple mortgage have changed over time, and the disastrous results emerged in the present crisis.

(1) Houses were bought and sold for irrationally high prices. There were years when home prices rose by 20% or more. But salaries were not shooting up that fast, and banks should have considered the potential resale price to be less than the irrationally soaring market price. In Britain, for example, by 2005 people were buying houses for as much as five times their annual salary, but a good rule of thumb in the industry has long been that people cannot afford a house that is more than c. three times their salary. To find a way for ordinary people to pay extraordinary prices, banks invented all sorts of new kinds of loans, including some where the buyer only paid off on interest, without making any attempt to pay down on the loan itself. And so the bubble grew.

(2) Banks failed to make hard-nosed evaluations of whether customers were good risks. In fact, as has been documented again and again, lenders encouraged people to purchase homes that they really could not afford, secure in the knowledge that they would repackage and sell these dodgy mortgages to others. In many cases, banks divided up mortgages, repackaged them, and spread the (as it turns out toxic) risk, and so distributed these risky loans all over the world. By 2008 millions of people were defaulting on their loans, the rate of foreclosures shot up, house prices began to fall, the whole house of cards came tumbling down. In the United States, in January of 2009 alone the number of foreclosures was 274,399. Assuming an average of four occupants per home, that means more than 1 million people lost their house and all they had invested in it, in just one month.

(3) During the years of bad practices, banks also played games with interest rates. In Britain, for example, many banks offered quite low rates for the first years of a mortgage, whose cost then increased dramatically. Borrowers would then go out and pay some high fees to refinance the house and start the process over again, without ever managing to pay off much on the house itself. As a result of such practices and many other manipulation of interest rates, it became quite difficult for consumers to understand what they were really paying for a mortgage. so that "supply and demand" were not as important as (mis)perceptions of capital supply that stimulated irrational demand.

(4) Down payments have fallen over the last century. Back in c. 1920 it was not unusual to demand one third to one half of the total value of a house as a down payment. I am not suggesting that one should return to that standard, but it does put in perspective the developments since that time. After World War II, in the US, veterans could buy a house with a down payment of only $1, as the federal government insured the contract, making it risk free for the banks. Veterans did prove to be good credit risks during the expansive 1950s and 1960s. But the great success of such programs suggested that enormous economic growth could be achieved by extending more credit to more people, notably by asking for smaller down payments. Today, few people put up more than 20% as a down payment, the amount necessary to obtain the best interest rates. In some cases, cash payments were not made, as many people used their pension plans as collateral, putting their old age at risk. Thus there are people in the present crisis who are losing not only their homes but their pensions as well. Others paid higher interest rates but put up as little as a 5% down payment or in some cases even 0%.

(5) As the number of loan defaults snowballed, it quickly became apparent that banks were not prepared. They had not kept decent sized reserves on hand. In many cases, they had purchased mortgage insurance, from companies such as AIG, that is now the dead weight threatening to drown the whole banking system. For AIG became a global player in the mortgage business, giving the appearance of safety and solvency to all sorts of schemes, each of which helped banks to escape from the irritating demand that they actually have some money in their vaults. US banks on average have only about 4% of their capital value on hand in the form of actual money.

President Obama is trying to clean up this enormous mess, but it will not be easy, because the simple borrower-lender relationship has become so complex, with so much division and sale of risk, insurance schemes, and arbitrage that only accountants who specialize in this field can understand the billion dollar details. In the short term, it seems impossible to avoid pumping billions more into the under-regulated industry, to rescue the economic system as a whole. Meanwhile, the public is understandably furious that bankers should continue to be well paid.

Fortunately, there is a model for a better banking system: Canada. There, banks were kept under tighter control, and as a result the Canadians have weathered the world financial storm without much damage. Theie banks did not have so many dodgy mortgages and they had an average of 9.8% capital on hand, more than twice the US average. Canadians did not forget the five essential features to mortgage lending discussed above. In 2008 the Geneva-based World Economic Forum rated Canada's banking system as world's best. Not incidentally, the Canadian dollar today is far stronger against the American dollar than it has been historically.

Obama's Tax Plan Would Increase Equality

After the American Century

President Obama has been forced to spend much of his first month in office dealing with Bush's mistakes, particularly economic mistakes. With the submission of a new budget proposal, however, he has begun to present his own vision. He does not want to spend all his time being a fireman putting out Republican fires. Rather, he wants to redesign the economic fabric so that the economy is stronger and more resilient.

In the short term, Obama is spending lavishly to try to escape the mess Bush created. That is the gigantic budget one reads about. But longer term Obama wants to return to the tax system of that most dangerous radical, Dwight D. Eisenhower. During Ike's presidency (1953-1961) taxes on the wealthiest Americans were high, and although adjusted they remained so during the 1960s as well.

During these years the real income of the middle class (in other words their income once adjusting for inflation), rose steadily. After the weak economy of the 1970s, however, Ronald Reagan pushed through dramatic reductions in the tax rate on the wealthy, which began a sizable redistribution of wealth that has lasted for almost thirty years. I lay out the basics of this change in Contemporary American Society (161-166). Just before Reagan lowered taxes on the wealthiest Americans, the top fifth of all US citizens received 43.7% of all income, while the bottom fifth got just 4.3%. In other words, the top fifth made ten times as much as the bottom fifth. By 2005 the poorest fifth had sunk to just 3.4%, while the top fifth received 51.3%. The top fifth made fifteen times as much as the bottom fifth.

What about the middle 60%, the second, third, and fourth fifth? During the same 25 years all of them, the entire middle class, lost out to the wealthiest fifth. In short, between 1980 and 2005, fully 80% of all Americans saw their share in the nation's wealth drop.

With the collapse of the Reagan-Bush economy and its favoritism for the rich, it is time for a new tax code. Something radical. Something that Dwight D. Eisenhower and Harry Truman each supported. That something is familiar to anyone in Scandinavia, and is called progressive taxation. The object of public policy is not to take money from the poor and middle class and give it to the rich, but to give all classes an equal chance to increase their stake in society.

Expect to hear howls of protest from the Republicans and cries of socialism and fears of big government, and the usual rhetoric of the right. For Obama wants to reverse the Reagan revolution. He wants not just to end the Bush tax cuts that threw the budget into deficit years ago, but also to raise taxes on the top fifth of society, in order to pay for the sweeping changes he wants in energy policy, education, and medical care. Over the next decade, Obama wants to get almost $1 trillion in new taxes from the wealthiest Americans. In case you want to know, they are defined as people with incomes of more than $250,000 a year. (More than 1.4oo,000 DK).

Obama is also hoping to save some money through cuts to the Defense Department, partly from winding down the engagement in Iraq and partly through cutting spending on programs that have outlived their usefulness with the end of the Cold War. I wish him luck but am not too optimistic about this phase of his plans. One would have thought that the fall of communism might have reduced defense spending drastically. Back in c. 1990 there was lots of talk of a "peace dividend." There was talk of spending more money on infrastructure, notably decaying bridges and roads. But there was not much of a peace dividend then, and Obama's first defense budget is larger, not smaller, for the two year period of 2009 & 2010, weighing in at a gigantic $1.3 trillion.

Realistically, Obama is more likely to move in the direction of fiscal responsibility via higher taxes on the rich. He will probably be accused of class warfare, but he is trying to end the pillaging of the poor that began under Ronald Reagan. Obama is rejecting "trickle down" economics. He wants the US government to take more responsibility for health and education, and to give Americans back the growth and equality they had in the prosperous 1950s and 1960s. No doubt he will be called a radical and a socialist for trying to do this. Few sensible people ever mistook Dwight D. Eisenhower a socialist.

For a Nobel Prize-winning economist's positive evaluation of the Obama budget, click here.

"Rumsfeld Wing" for Baghdad Museum?

Postmodern ruins could symbolize Bush Era

After the American Century

This week the partially looted museum of antiquities "reopened" in Baghdad. Only special guests could see the collections, however. Before the invasion, world archaeologists warned the Pentagon that it needed to be protected. It was not. That looted museum is perhaps a fitting symbol of the Bush years. The former director fled Iraq due to threats to his family, and now teaches on Long Island. The museum itself is not ready to receive tourists, due to security concerns.

One of the many ignoble moments of the Iraq War and its aftermath was Donald Rumsfeld's response to reports that priceless collections had been looted. "Stuff happens" he said. That formulation denies human action and responsibility. But "stuff" does not happen. Rather, generals make mistakes, ignore advice, and are directly responsible for the destruction of cultural heritage. And for as long as people remain interested in the ancient civilizations of the Middle East, Donald Rumsfeld will be remembered as a modern barbarian.

Indeed, they ought to build a special wing in his honor. In the "Rumsfeld 'Stuff' Wing" would be placards next to empty spaces and broken pedestals, each describing missing objects. In the center of the room one could place shattered objects, broken in the thieves' scramble. Such a monument would best be placed underground and lit only by broken skylights. Very deconstructive and postmodern.

To save architectural fees in these difficult times, one might build an identical "W" wing somewhere between 9/11 and Wall Street, and place there valueless commercial paper from failed banks, copies of auditor's reports from Lehman Brothers, and repossessed furniture from executive offices. There should be a place, too, for framed copies of some of the millions of dollars in bonus checks issued to the MBAs who masterminded the mortgage market. Indeed, why not inscribe the names of all who received these infamous checks on walls, in alphabetical order, together with the size of their bonuses, so that every Americans can come and see who they were. It seems only fair, as the American people bailed them out.

Click here for more about the "reopened" museum.

Exective Pay and the Angry Public

After the American Century

The average American is furious at Wall Street firms, banks, fat-cat executives, and government bailouts, which do not seem to be helping the ordinary people. But the executives themselves appear only vaguely aware of the unjust disparities between their incomes and those of most people. President Obama has proposed that firms receiving Washington bailouts must limit executive salaries to $500,000.

There is a passage in Tom Wolfe's Bonfire of the Vanities which explains how easily a salary of $1 million a year disappears in New York City. The protagonist of that novel feels he must live in a certain part of Manhattan, send his children to private school, and drive German car, which requires a protected indoor parking space, and so on. The joke is that the monthly $80,000 always disappears before payday, and at the end of the month he feels a little pinched for spending money just like anyone else.

For an up-dated, real life estimation of the costs of being an executive in New York City, an article in the New York Times by Allen Salkin explains how difficult (read impossible) it will be to get along on an annual salary of "only" $500,000 (2.8 million kroner). The assumption is that such executives must have an armed chauffeur, a second summer house that costs $4 million (more than 20 million kroner), and so forth. Reading the piece, one is not entirely certain that the reporter can see the absurdity of these "needs."

But for the record, here are a few comparative facts and figures. Salkin reports that such an executive (defined as male with a non-working spouse) has the following expenses:

Mortgage and monthly fee for a Coop $192,000
Nanny $45,000
Private School $32,000 (per child)
Garage $8400
Driver $75,000-125,00
Personal trainer (3 times a week) $12,000
Formal gowns (for "charity balls"), $35,000
etc.

It is perfectly obvious to the 99.9% of the world that does not have an income of $1 million or more a year, that this mortgage is too expensive and that all the other items on the list are unnecessary. Indeed, in New York City even a car is unnecessary, as they have a subway and taxis there the last time I checked.

Now consider the expenditures of the average American family, from the Statistical Abstract of the United States.

Annual income: $48,000 (Black families only $30,800, single mothers, $23,000)
(one tenth the cap Obama has proposed, half what the executive pays for a chauffeur)

House: 6 rooms ( in 2006 before the economy collapsed) $404,000
(one tenth the cost of the executive's summer house)

Automobiles (including monthly payments, insurance, gasoline, etc.) $8,300
(what the executive pays for parking)

Nanny? Are you kidding?
Personal Trainer? The family dog insists on walks
Formal Gowns? Get real.

The average American has every right to be angry, especially when they learn that even as the banks were failing they granted their executives billions in bonuses, paid for by the US taxpayers. But what will be the political consequences of this anger? Will it build up pressure for Obama's programs? Or will it be channeled elsewhere?

Republicans Spent Much More on Iraq War Than Obama Wants for Stimulus Package

After the American Century

Those who thought I was too hard on the Republican Party yesterday might want to read Paul Krugman's column today. He also feels that their proposal to substitute tax cuts for spending is a failed Bush policy.

Elsewhere in today's New York Times there is an interesting story about the Japanese economy during the 1990s, when it went into deflation. Then the Japanese government spent a great deal of money on economic stimulus, and there is considerable debate about whether this was successful or not. But one thing is clear. Not all stimulus money is equally effective. Money spent on infrastructure gave the least bang for the yen, while money spent on education was the most beneficial. The test should be whether spending will develop new skills (education), new capacities (spreading broadband more widely), or renew the population (e.g. preventive health care). Such things make the economy more resilient. The least effective way to stimulate the economy is to build more weapons. A row of tanks worth a billion dollars for the most part just sits there, and never creates any new wealth.

However, if you a Republican, then a row of tanks represents a chance to wreck not just one economy, but two, as the economic cost of the Iraq war comes to mind. According to an article in the Washington Post last March, the total cost of that conflict will be more than $1.5 trillion, perhaps even as high as $3 trillion. Thus the Republican Party gladly spent at least twice as much on that war as the Democrats want to use to stimulate the American economy. Is there any logic to Republican thinking? The Republicans have destroyed billions in resources in the deserts of the Middle East, but they will not invest in the future of their own country. They have used billions to defend access to foreign oil, but they will not spend money on green energy which could free the US from dependence on that oil.

A paranoid on the far right might think that subversives (call them economic terrorsits) who hate the United States have infiltrated the Republican Party and twisted its thinking so it will embrace policies that are destructive to the United States. Not being anywhere near that paranoid, I can only conclude that the Republicans are illogical and that they choose badly.

The Republican Desire for Disaster

After the American Century

In the last month it has become clear: Republicans want disaster. They want the economy to get so much worse that the public will forget who got them into this economic mess. They are willing to let millions of people lose their jobs and their homes, if only it will take the heat off them and make Obama look like the culprit. How else can one explain the fact that all Republican members of the House of Representatives voted against the stimulus package, even as virtually all economists, regardless of party affiliation, agree that the stimulus package is needed immediately? How else explain that the Senate Republicans seem ready to block the stimulus bill if they can?

The Republican Party may have become irrelevant, and it may be time for Americans to ask themselves if such a party really ought to survive. The death of major political parties is a rare event in US politics, and one has to go back to pre-Civil War times to find an example, when the Whig Party foundered and died rather suddenly, because it could not deal with the sectional crisis. The Republicans emerged as their replacement, and this very year we are celebrating the bicentennial of the birth of the first Republican president, Abraham Lincoln. But as noted earlier in this space, Lincoln would not recognize his party today. He had no Southern support at all, and won what are now called the blue states. Today's Republicans are not the heirs of Lincoln, and conceivably the public will realize this.

The Republicans have moved from irresponsible leadership to irresponsible opposition, and they are quickly losing any meaningful relationship to the emerging majority of the American public. They have lost more than two thirds of the support of Blacks, Hispanics, scientists, and humanists. Even those who used to support them such as doctors and even many stockbrokers are deserting the party. They need to change, or they ought to die, and do so quickly, so another party can take their place. I know, it will probably never happen. Yet at present they are a ball and chain tied to the body politic. They are a useless mass of backward thinkers, with nasty political practices, and they have strong tendencies to xenophobia and red-baiting. Their ranks are rotten with anti-evolutionary and anti-science neanderthals. Indeed, their very persistence as a party may be a kind of proof that human evolution has not taken place. More than half of them actually thought Sarah Palin was qualified. Doubtless, they will long survive because so many of them are so narrow and ill-educated that they cannot change. But can the US remain a world power chained to such a throwback party?