Wednesday, December 2, 2009

Junior Achievement Celebrates 90 Years of Financial Literacy Education

In 1919, Theodore Vail (President of AT&T) and Horace Moses (President of Strathmore Paper) raised $250,000 to start an organization for boys and girls activities that would become what we know today as Junior Achievement. In the words of Horace Moses:

"The future of our country depends upon making every individual fully realize the obligations and responsibilities belonging to citizenship. Habits are formed in youth…what we need in this country now … is to teach the growing generations to realize that thrift and economy, coupled with industry, are necessary now as they were in past generations."

Today, Junior Achievement is the largest organization in the world that is dedicated to children's financial literacy and entrepreneurship education. It has programs in 123 countries around the world and reaches 9.3 million students with nearly 300,000 volunteers.

In today's economic environment, many have recognized the need for kids to become financially literate in order to succeed in life. Thus, dozens of new organizations have popped up in recent years with the stated purpose of improving financial literacy. Junior Achievement, however, has been doing exactly this kind of work for ninety years now with impressive success. JA is unique among financial literacy organizations because it has the existing infrastructure to effectively provide free-of-charge educational programs to millions of students worldwide.

In recent years, school demand for JA's free programs has increased significantly. JA's ability to meet these increased demands is limited by the number of available volunteers and by funding. Since the programs are provided at no cost to schools, the actual cost of each program must be fully funded by donations. In tough economic times like these, charitable giving is harder to come by, when by definition, donations are needed the most.

Notwithstanding, Junior Achievement continues to grow and flourish as more and more people are coming to realize the importance of what JA has been doing for nearly a century now. Happy 90th birthday, Junior Achievement!

More information about volunteer opportunitites with Junior Achievement can be obtained at .

- Craig Everett is a classroom volunteer for Junior Achievement and also serves on the board of directors of Junior Achievement of Greater Lafayette.

Tuesday, December 1, 2009

Treasury to Modify Failing Foreclosure Prevention Program

With nearly 15% of all home mortgages being at least 30 days past-due or already in foreclosure, it has become clear that Obama administration efforts to assist homeowners have been largely ineffective to date.

The promised loan modifications have been elusive for most troubled homeowners. The crux of the problem is that banks have little incentive to do these modifications. When they crunch the numbers, most often it is in the banks' best interest to foreclose or do a short-sale, rather than modify the loan.

What many homeowners do not know is that in many states, banks can go after defaulting borrowers for up to six years for any principal that they lose on the loan. So a foreclosure or a short sale is not the end of the borrower's obligation, unless so decreed by a bankruptcy judge or explicitly written into the short-sale or deed-in-lieu-of-foreclosure contract.

Under the current loan modification program, borrowers must make at least three payments under a trial loan modification program before the modification can become permanent. Transition to permanent modification status also requires additional documentation that many find onerous. More than 600,000 borrowers have begun the trial program, but very few of those have received permanent loan modifications to date.

Unfortunately, under the current program, most troubled borrowers don't even qualify to start the trial modification plan.

Details of the new administration plan are still murky, but comments from Assistant Treasury Secretary Michael Barr hint at the possibility of sanctions and penalties for banks that do not start making more loan modifications.

The administration, of course, is missing the point that the banks' primary responsibility is to their shareholders (otherwise the stockholders will sell and take their investment dollars elsewhere) and therefore the banks will not, as a rule, act against their own financial interests. Imposing penalties is clearly one way to make foreclosure less attractive to banks. In a free-market system, however, carrots often work better than sticks. A better approach might be to offer the banks more positive incentives to perform loan modifications.

The most rational approach from a free-market standpoint, though, is to just let it all play out on its own:
  • No bailouts of banks -- increase the FDIC insurance levels and let the bad banks fail. There will be plenty of smaller good banks around who will be glad to take their place.
  • No bailouts of industry -- again, economic downturns are traditionally the crucible that separates good companies from bad ones. The failure of big firms is the impetus that drives small innovative firms with good management and good ideas to rise up to take their place.
  • No bailouts of individuals -- if homeowners made bad decisions, then they should live with those decisions. Bankrupcty is a reasonable option that allows the person to mostly erase their mistakes and start again under a probationary seven-year period. Given the magnitude of the mortgage problem, my guess is that having a bankruptcy on your credit report will not represent nearly the stigma that it has in the past, since so many people will share that particular blemish.

Maybe it's just the cynic in me, but whenever the government rides up on their white horse to save the day, I cringe a little. It just seems that whenever a bureaucracy tries to fix one thing, they break two other things in the process. With the loan modification program, let's hope they get it right.

Tuesday, November 24, 2009

New Jersey Passes Financial Literacy Law

Last week Governor Corzine of New Jersey signed a bill into law that will create a three year high school financial literacy pilot program in six school districts across the state. The intention is that the six districts chosen will represent a cross-section of urban, suburban and rural students. Curriculum and materials will be provided by the NJ Dept. of Education. A grant provided to each test district will offset the cost of instruction.

Evaluation of the success of this pilot program will determine if it will be subsequently rolled out to the entire state.

Thursday, August 6, 2009

Indiana Now Requires Financial Literacy Education for Kids

Effective July 1, 2009, Indiana became the latest state to require that each public school and accredited non-public school incorporate financial literacy education into its curriculum. The law was entitled "Dollars and Sense for Hoosier Children." Section 20-30-5-19 of the Indiana code now mandates that instruction concerning financial responsibility be given in grades six through twelve.

This is a good thing. It is widely understood that the 2008-2009 financial crisis was mainly caused by the subprime mortgage crisis, and many believe that the root cause of the subprime crisis was financial illiteracy. Kids need to learn at a young age how business, economics and finance works. Any steps taken to increase the financial wisdom of the next generation will help ensure that we don't experience a repeat situation of millions of borrowers taking out loans that they had no chance of repaying.

Hopefully, the financial literacy training adopted by schools in Indiana will be a program like the excellent one provided by Junior Achievement (JA). JA has age appropriate financial literacy classroom seminars for the entire grade span mandated by this new law. What I like about JA's program is that it is largely based on a small-business / free enterprise approach, with a lot of hands-on reinforcement of basic financial concepts.

There are other financial literacy curricula out there from other non-profit organizations that are also excellent and age-appropriate. Whatever the state and local school boards decide, it will likely be a step in the right direction to ensure a healthy financial future for our children.

Craig Everett is a financial researcher, an advocate for financial literacy, and a board member of Junior Achievement of Greater Lafayette.

Monday, August 3, 2009

More Good News for Ford

Ford Motor Company announced today that new car sales for July increased 2.3%. Most analysts attribute this jump in sales to the Cash For Clunkers program.

This assumption is somewhat dubious. The Cash For Clunkers is the government program that allows consumers to trade in a used car bad fuel efficiency for a new car with better miles-per-gallon and receive a rebate up to $4,500.

It is certainly true that this program has resulted in a binge of new car buying, but it is also reasonable to expect that the program should affect all auto companies in a similar way. It hasn't. While Ford posted a sales increase of 2.3%, rivals GM and Chrysler experienced decreases in sales of 19% and 9.4%, respectively. Even Honda, otherwise considered a healthy company, had its sales drop by 17% during the month in question. Here is a summary of July sales results:

  • Ford +2.3% (the ONLY one with an increase!)
  • Chrysler -9.4%
  • Toyota -11%
  • Honda -17%
  • GM -19%
  • Nissan -25%

So why is Ford benefiting so much, while the others aren't? At first blush, there are four possible explanations:

  1. American consumers are rewarding Ford for refusing to take bailout money. By taking the high road, Ford has established itself as the last truly American car company, a family business that relies on its customers for its success, not handouts from taxpayers.
  2. New car buyers just randomly picked Fords last month, signifying nothing.
  3. New car buyers avoided GM and Chrysler because of the "stink of death" surrounding their bankruptcies. If this is the case, then we should see their sales improve as their survival grows more and more likely. Of course, this explanation is contradicted by Honda's poor performance.
  4. Some other unobserved factor.
My humble opinion is that #1 played a significant role. Keep up the good work, Ford.

Saturday, August 1, 2009

A Remedy for Rising Health Care Costs

Health care reform is slightly off-topic here, but since the President has claimed that reforming health care is the key to economic prosperity, he has brought the subject into play here in the World of Finance.

The idea that increased government involvement in something will help reduce costs is somewhat humorous. Our government is very good at doing a small handful of things, like national defense, for example. Our military is clearly the best in the world, but achieves its results at tremendous financial expense. Our military is renowned for its skill, but not its cost efficiency.

Most of the other activities of the federal government fail to achieve their intended results, yet still manage to incur mind-boggling waste and expense.

How can anybody seriously think that government-run healthcare will be better and cheaper? When has anything run by our government ever met those standards?

Unfortunately, the proposed health care reform legislation does not even address the primary causes of rising costs of medical care in recent years. The primary cure for rising medical costs is tort reform, but this is mysteriously missing from the legislation. The direct costs of the lawsuit-friendliness of our medical system are not overwhelming. Most estimates of the cost of lawsuits and malpractice insurance range between 2% and 4% of overall medical costs.

What these estimates do not consider, however, are the indirect costs created by the culture of "defensive medicine." When doctors practice their art in constant fear of frivolous lawsuits, they may have a tendency to request unnecessary tests and do other activities that go beyond their best medical judgment. Otherwise, a bad outcome could result in a lawsuit.

My simple idea for medical tort reform has two parts. First, raise the bar for crimes of omission. Malpractice should be mainly about doing something wrong, not failure to do something right. The exception would be gross negligence in not doing something completely obvious. Second, completely eliminate punitive damages. Civil lawsuits should be only about recovering actual financial damages (past, present and future) as a result of a medical mistake. Punitive damages don't belong in a civil lawsuit, since punishment is a concept that appropriately belongs to the criminal law system, not the civil law system.

If a doctor intentionally harms someone, or harms someone because of gross negligence, he/she should be prosecuted in a criminal court and then pay fines and/or go to jail if convicted. Again, it should not be the job of civil courts to punish people.

So, instead of replacing a working medical system with a risky social experiment, let's try a little tort reform first and see how it goes. It is reasonable to believe that health care costs would quickly come under control. If they don't, then we can try something more ambitious (and expensive) later.

Am I saying that tort reform will solve all health care cost problems. No, I am not saying that. But it's an easy place to start, so why not try it first before spending trillions of dollars replacing a system that already works for most people.

The next simple step after tort reform would be to allow private insurers to sell policies across state lines. I just visited my mom in Maine, where competition among insurers is pretty much non-existent. She was complaining about being forced to insure through Anthem. Allowing interstate competition would help a great deal in bringing health insurance premiums down. But this is an entirely new subject that should be addressed in another blog post.

Thursday, July 23, 2009

Hurray for Ford Motor Company!

Ford is my newest hero. Not only did they refuse to participate in the auto industry bailout, but they just posted a $2.3 billion profit for the second quarter. For the same quarter last year, they posted a $8.67 billion LOSS. Clearly, a big improvement.

Granted, the company is still experiencing problems. Revenue is down and is just now showing signs of recovery. North American operations are still generating losses. Ford expects to be back to permanent profitability next year due to its leaner and meaner organization, as well as consumer excitement over some of its new products.

Ford also appears to be gaining market share over its main US competitors, GM and Chrysler. This is likely the result of consumer uncertainty about the shaky future the bankrupt companies that are now being run by UAW.

It's also possible that many Americans are like me -- impressed by the one company that didn't take bailout money.

Fierce independence is an American value. It's right up there with baseball and apple pie. Americans are right to be impressed with Ford right now, and maybe that will translate directly into purchasing more Ford vehicles.

Wednesday, July 22, 2009

TARP's Lack of Transparency

Yesterday, Neil Barofsky, the special investigator general for the Troubled Asset Relief Program (TARP), testified before congress about the status of the program. A couple of points were particularly troubling.

First, the potential liability of the TARP program is much higher than originally anticipated. Congress has authorized $643 billion for TARP (of which only $441 billion has been spent). But when you add in the liability assumed for the "toxic assets," the total taxpayer liability for the program in a worst case scenario is $23.7 TRILLION. Pretty scary.

Second, Mr. Barofsky complained that his recommendations for providing transparency for TARP are being ignored. Four of these ignored recommendations are:

  • Require TARP money recipients to report on what the money was actually used for.
  • Treasury should report regularly on the value of its portfolio of TARP assets
  • Disclose the identity of defaulting TARP borrowers
  • Disclose all trading activity of TARP assets.
These suggestions seem quite reasonable if the government is serious about transparency. Perhaps it is not as serious as it claims.

Thursday, July 16, 2009

The Independence of the Federal Reserve

There is a political storm brewing with regard to the independence of the Federal Reserve (aka The Fed). Some people correctly point out that the Fed is a tremendously powerful organization in our country, has a large influence over the economy, and as such, should have to answer to the people. The fact that the Fed has no oversight makes them nervous. Who is this "Fed" which has so much control over us, yet does not answer to us in any way?

The Fed is run by a seven-member Board of Governors. The Chairman (currently Ben Bernanke), vice-chairman, and the remaining five members are appointed by the President of the United States in staggered 14-year terms, one governor every two years. It was set up this way so that it could make decisions detached from political consideration. The Chairman serves a four-year term but can be re-appointed by POTUS as long as the total of 14 years is not exceeded. In any given presidential term, POTUS can only appoint two members of the board, making it impossible to stack it in his own favor.

The idea is that the Fed should be like the Supreme Court of the United States (SCOTUS), above the fray of politics. Each governor's job is secure for 14-years, which spans 7 congresses, more than two senate terms, and more than three presidential terms.

Like SCOTUS, its members are appointed by the President. But as one of the three branches of government, SCOTUS is subject to checks and balances. If SCOTUS does something really wacky, then it can be overruled by Congress (the people) via constitutional amendment.

The Fed is different. In a way, it's much easier to overrule the Fed than SCOTUS. The Federal Reserve does not exist in our constitution. It was created by Congress in the Federal Reserve Act of 1913 (at the encouragement of progressive icon Woodrow Wilson). As such, Congress has the power to change the Fed's charter if it gets out of line. But there's the rub. How do we know when the Federal Reserve is out of line? It operates within a shroud of secrecy, so no one ever really knows the nature and extent of its activities.

Many people are now calling for greater oversight of the Fed by Congress. We need to be careful, though, because this is a two-edged sword. Do we really trust politicians in Congress enough to have them influencing monetary policy without it being based on their own personal political concerns?

I think not.

The Fed should continue to be completely independent with regard to its monetary policy. They should do what they do based on their own best judgement, without any consideration to political consequences. However, once any decision is made and implemented, it should be part of the public record and open to bright sunshine pouring onto it. GAO should be able to do audits after-the-fact, and the American people should be able to know exactly what the Federal Reserve did on their behalf.

Then, if it turns out that they did something really wacky, we can pressure Congress to modify their charter to prevent that same sort of behavior in the future. This is America. Every nook and cranny of government must ultimately answer to the people.

Wednesday, July 15, 2009

Throwing off the TARP

J.P. Morgan Chase & Co. recently paid back $25 billion in federal bailout money that it had received via TARP, thus ending its brief stint of indentured servitude to the federal government.

The difference is quite striking. Now free of its vow to "honor and obey," J.P. Morgan Chase has stepped up its criticism of government proposals to impose new regulations on the derivatives market that many in the financial industry see as short-sighted.

A quick primer on derivatives may be helpful. In financial markets, the word "derivative" refers to any financial contract the derives its value from an underlying cash instrument (such as stocks, bonds, currencies, or commodities). There are three basic types of derivatives: 1) Futures and Forwards, 2) Options, and 3) Swaps.

Derivatives have received a bad rap recently because of the collapse of many derivatives constructed from mortgage-backed securities when the real estate bubble burst. The fact remains that derivatives are, for the most part, a good thing. They help reduce risk in financial markets, not increase it. Financial managers of corporations use derivatives to hedge against future uncertainty, which results in smoother earnings over time.

This is the crux of J.P. Morgan Chase's complaint. The Obama administration wants to force ALL derivatives to be traded via a central exchange, similar to a stock market. This would allow regulators to easily monitor the entire derivatives marketplace. The problem with this approach is that a significant portion of derivatives are one-of-a-kind contracts specifically designed to reduce a specific risk in a specific company.

The central exchange approach would be a logistical nightmare. Even if it were technologically possible, it would put a massive damper on the custom derivatives market. The seemingly honorable intent of the Obama administration is to reduce risk in the financial markets, but by damaging the attractiveness of derivatives in this manner, the perverse result could be an increase in risk, not a decrease.

J.P. Morgan Chase holds approximately $81 trillion (yes, trillion) in derivatives contracts. Clearly, they have a dog in this fight. They also have a great deal of expertise, which is demonstrated by the fact that they have paid back their TARP money and will be posting a profit this quarter. They know what they're talking about in this particular area. Maybe we should listen to them.

Tuesday, July 14, 2009

Reflections on a Trillion Dollar Deficit

Yesterday the Treasury Department announced that as of the end of June, this year's federal budget deficit exceeded one trillion dollars. And the fiscal year doesn't end until October 1. Remember, this is the deficit we're talking about, not the total debt. So in the last nine months we've added an entire trillion dollars to the debt that we are passing down to our children and grandchildren.

To put this in perspective, in just the last nine months we have added nearly 10% to the ten trillion dollar national debt that taken 233 years to accumulate. Not only does this deficit represent the highest deficit ever recorded in terms of dollars, but it also represents the highest percentage of gross domestic product (13%) since the end of World War II. The spending is expected to accelerate over the next few months, with government sources anticipating the final deficit this year to exceed 1.8 trillion dollars.

What are they thinking?

There are only four ways to pay for deficit spending: 1) Borrow money by issuing government bonds; 2) Print more money; 3) Raise taxes; 4) Cut other spending. Let's take a quick look at each of these approaches.

Borrow Money. This is what the government has been doing this year. They have been able to sell bonds to companies and foreign governments in order to bankroll the deficit. Ultimately, however, this will lead to rising interest rates because the fed will eventually have to increase the interest rates on the bonds in order to attract new customers. Rising interest rates will have a devastating impact on the real estate market, which has already taken its fair share of lumps.

Print Money. This a very dangerous option. If the government prints money to pay its bill, the result will be high inflation, putting the country into a prolonged economic malaise like we had in the 1970's. The other effect will be a loss of worldwide confidence in the dollar, possibly impacting its status as the world's reserve currency.

Raise Taxes. This is a short-sighted solution. Economically, tax increases are contractionary. This means that raising taxes historically stifles economic growth. A recent exception to this was the Clinton tax hike, where tax increases were followed by economic growth. This was likely due to the fact that the tax hikes occured during the internet boom, which fueled tremendous economic growth entirely unrelated to the tax increase. Of course, that growth turned out to be the tech bubble which burst at the end of Clinton's second term. There is wide agreement that tax increases during a recession are a bad idea and would ultimately prolong the recession by preventing both businesses from growing and jobs from being created.

Cut Spending. This is the logical place to look to solve the problem. Our trillion dollar deficit was generated by the two stimulus packages, the first by Bush and the second by Obama. As long as we stop doing more stimulus and do not add any more expensive new legislation, such as health care reform, next year's budget deficit naturally will be much lower.

That's the beauty of it. We don't even need to actually cut spending to solve the problem. All we need to do is prevent Congress from enacting any new spending. Unfortunately, over the last several years, Congress has not demonstrated any ability whatsoever to fiscally reign itself in. In fact, the current Congress has shown itself gleefully willing to approve any and all new spending, no matter what the cost, as long as it carries the emergency misnomer of "stimulus."

They just need to take a deep breath and put away the checkbook for a while. The economy will recover just fine without them.

Monday, July 13, 2009

Financial Literacy and the Financial Crisis

Nearly 7,000 high school seniors completed the latest financial literacy survey in 2008. The results were not encouraging. The average score was 48%, representing a solid failure and the worst performance of high school seniors to date (Source: Jump$tart Coalition).

When we also consider the students that drop out and never make it to senior year, we can clearly see that well over half of our young people entering adulthood are unprepared to effectively manage their own finances and make informed financial decisions. This cannot be good. It would be naive to think that the dismal state of financial literacy among today's young adults does not have wider economic consequences.

The most obvious consequence that comes to mind is the current financial crisis. Blame for the collapse of the financial markets has been laid at the feet of many people, groups, agencies and organizations, including: Wall Street financiers, members of the executive and legislative branches of government, mortgage lenders, mortgage guarantors (like Fannie Mae), and even borrowers. Certainly a strong case could be made against each of these potential culprits.

Lurking beneath all of these causes, however, is the most insidious one of all - financial illiteracy. With so many of America's young people unable to pass a basic financial literacy test, is it any wonder that they became victims of questionable lending practices?

Few would argue with the fact that it was the subprime mortgage crisis that started the financial chain reaction that ultimately resulted in our current economic situation. But what caused the subprime mortage crisis? The subprime mortgage industry owes its existence to the Community Reinvestment Act (CRA) which was originally created in the 1970's. Its purpose was a noble one - to help encourage more widespread home ownership by disadvantaged households that might normally have difficulty qualifying for mortgage loans. These mortgage loans given to people who would typically be denied due to credit risk issues are called subprime loans.

As long as the subprime market remained relatively small, there was no danger to the overall economy. In the last ten years, however, these loan programs were heavily pushed by groups like Fannie Mae, who would buy up the questionable loans, guarantee them, and then package and sell them off to Wall Street at a profit. They were making lots of money doing it, and heavily lobbied both Republicans and Democrats in Congress to make sure they could continue the practice unrestrained.

But who were the borrowers? For the most part, they were the financially illiterate, who due to lack of financial education, were unable to make informed decisions about how much house they could really afford, if any. Since they lacked the tools to understand the level of risk they were taking, they were inclined to believe whatever they were told by their lender, missing the obvious fact that as soon as their adjustable rate started to increase, they would be forced into mortgage default.

The supply of subprime loans was high during this period due to the fact that the loans could be easily sold by lenders to Fannie Mae at a profit (and with no risk to the lender). It was so profitable that any lender would have been doing a disservice to their stockholders by NOT participating.

The demand for subprime loans, however, was driven by financial illiteracy. If as a society we had done a better job educating our young people in basic financial principles and budgeting, then there would have been many fewer borrowers willing to enter into these excessively risky mortgage contracts.

Free markets work very well when all parties are well-informed and educated. Prosperity inevitably follows a well-functioning free market. As such, financial illiteracy represents perhaps the greatest threat to capitalism that we have yet encountered. It is therefore incumbent upon parents, businesses, teachers and local officials to ensure that the next generation is better educated than the current generation to make wise personal finance decisions.