Streetwise Professor

February 29, 2020

The Sultan’s New Clothes

Filed under: History,Military,Politics,Russia,Turkey — cpirrong @ 12:28 pm

Turkey’s president Recep Tayyip Erdoğan imagines himself to be a modern Ottoman sultan. Presumably he has in mind, say, Suleiman I (“The Magnificent”), but if he keeps it up he is more likely to be a reincarnation of Osman II.

The first object of Erdo’s imperial ambitions is nearby Syria, all but destroyed after 9 years of civil war–not that it was a paradise before 2011. Erdoğan supported the Muslim Brotherhood/Sunni jihadi anti-Assad forces early on, and worked hard to overthrow Assad. He failed: the Russian intervention in particular turned the tide in favor of Assad.

Erdoğan’s air force shot down a Russian SU-25 in November, 2015. This led to a tense standoff with Putin, and given the correlation of forces, Erdoğan was forced to back down. This led to a rapprochement with Russia, resulting in gas deals and most importantly an agreement to purchase S-400 air defense systems.

This mightily irritated the United States. Tensions between the ostensible Nato allies were already high in the aftermath of the July, 2016 coup, which Erdoğan blamed in large part on the US because of its giving asylum to erstwhile ally and subsequent arch enemy, Fethullah Gülen: Erdoğan believes that the coup was a FETO (Fethullah Terrorist Organization) plot.

Relations between Turkey and the US had been fraught since Erdoğan’s decision (when he was prime minister) to deny the use of Turkey to stage the 4th Infantry Division for the offensive against Iraq. Things have gotten progressively worse, as Erdoğan’s Ottoman pretensions have become progressively more grandiose. Moreover, the war on ISIS, which required the US to rely on the Kurds–the only force in the region that can fight its way out of a piss-soaked paper bag–further aggravated the relationship, because Erdoğan considers all Kurds terrorists too.

In sum, Erdoğan has been burning his bridges with the US for years. Decades even.

But now he needs us. The war in Syria has turned sharply against Turkey’s jihadist (Al Qaeda, actually) allies. Regime forces have made steady gains against the last rebel stronghold, Idlib. To try to stave off complete defeat, Erdoğan sent Turkish army units into the neighboring country.

Assad has responded predictably. He has bombed and shelled Turkish army outposts, killing dozens: last week, an airstrike killed 33 Turkish soldiers.

Assad’s calculus is quite simple and quite rational. He knows Russia has his back. Push comes to shove, if Erdoğan launches a full-scale offensive against Syrian Arab Army forces and their supporting militia units, Putin will almost certain order Russian forces (air forces in particular) to strike hard at Turkish units. So Assad has no compunctions about bombing Turkish forces. Indeed, he has an incentive to do so because this may bring the Russians in even more forcefully on his side.

Caught in a trap of his own making, Erdoğan is now spinning desperately–and pathetically–to find a way out. Amusingly, yesterday he asked Putin to “step aside” in Syria. Quite a plan there, Erdo! I’m sure Vova will graciously respond to your request!

Erdoğan is now appealing to the US for help–after years of chest thumping denunciations of the country. Most amazingly, he asked the US for Patriot air defense systems–presumably to shoot down Russian airplanes. (This further convinces me that the real purpose for the S-400s is to use against his own air force in the event of another coup.)

The Pentagon is adamantly opposed to this–good! But elements of the (Deep) State Department insanely and inanely want to accede to this request. FFS:

A senior State Department official is at odds with the Pentagon over sending additional military equipment to help Turkey fight against Russian-backed Syrian government forces, four people familiar with the matter tell POLITICO.

James Jeffrey, the U.S. special representative for Syria engagement, has been pressing the Defense Department to send Patriot missile defense batteries to Turkey to help it repel the Syrian government’s assault in Syria’s Idlib province, the people said. But Pentagon officials are worried about the global ramifications of a move they see as reckless.

Just to be clear: Jeffrey wants to run the risk of an armed confrontation with Russia to protect “rebels”–who happen to be, to a man, Sunni jihadis who are basically just rebranded Al Qaeda.

I have still to hear a remotely persuasive argument as to why the US should give a tinker’s damn about Assad winning in Syria, especially since the alternative is Al Qaeda in all but name. To risk a confrontation with Russia over this is beyond insane.

Erdoğan is also playing the refugee card in an attempt to force the pusillanimous Europeans to intervene on his behalf. What they would do–or are even capable of doing–is a mystery. But Erdoğan is desperate, and flailing about in the hope something or someone will save him.

All he is succeeding in doing is making the Europeans even more sick of him than they already are. Oh, and risking a naval conflict with Greece. As if he didn’t have enough fights on his hands.

Oh, and as if he didn’t have enough problems, Erdoğan has intervened militarily in the only country in the Middle East that could make Syria look at least somewhat functional–Libya. Moreover, he has intervened in opposition to the faction that Russia supports, thereby aggravating Putin either more, and making it less likely that Putin will “stand aside” in Syria.

There’s an acronym in the military–PPPPPP. Prior planning prevents piss-poor performance. Turkey’s new sultan is obviously unfamiliar with this. He plunged into Syria with little thought, and apparently no prior planning regarding Russian and Syrian countermoves, and his ability to counter those countermoves. And predictably, piss-poor performance has been the results.

It will be interesting to see how the US responds. Presuming that Trump overrules the lunatics in the State Department, I am guessing that the administration will give Erdoğan lip service, but leave him twisting in the wind.

Which raises the question of the political reaction within Turkey. A humiliated Erdoğan should be politically vulnerable, but he has succeeded in de-fanging the military and so the historical response to political failure in Turkey–a coup–is probably out of the question. The opposition in Turkey is divided, and its national leadership is hardly inspiring. The country is divided between the Rumelian fringe and the Anatolian heartland. Erdoğan still has strong support among the religious portions of the populace, especially in Anatolia. Meaning that I expect that he will be weakened, but will survive.

Indeed, I anticipate a crackdown on the opposition. The threat to dispossess the opposition CHP of its stake in İşbank  is perhaps a harbinger of such a move.

Watching Erdoğan’s pathetic, incompetent performance also highlights the pathetic, incompetent performance of the United States’ foreign policy elite, which viewed him as a harbinger of an enlightened political Islam that would prove a model for improved governance throughout the region.

They sure can pick ’em, can’t they?

February 28, 2020

If Only Economists Were So Powerful

Filed under: Economics,Financial crisis,Politics,Regulation — cpirrong @ 7:38 pm

Eminent economist Paul Romer has assumed the role of professional scold. A few years ago he excoriated other eminent economists (notably Robert Lucas) for “mathiness.” Now he is chastising the profession for enabling deregulation that has wreaked havoc across the land.

I have to say his essay is unpersuasive, not to say incoherent. One way of framing the issue is to contrast the view of Keynes:

Practical men, who believe themselves to be quite exempt from any intellectual influence, are usually the slaves of some defunct economist. Madmen in authority, who hear voices in the air, are distilling their frenzy from some academic scribbler of a few years back. I am sure that the power of vested interests is vastly exaggerated compared with the gradual encroachment of ideas.

with that of Stigler (speaking of the passage of the Corn Laws):

economists exert a minor and scarcely detectable influence on the societies in which they live . . . if Cobden had spoken only Yiddish, and with a stammer, and Peel had been a narrow, stupid man, England would have moved toward free trade in grain as its agricultural classes declined and its manufacturing and commercial classes grew.

Romer is clearly in league with Keynes, rather than Stigler.

But he fails to make the case. This is true for many reasons. For one, he argues by anecdote, and hence his style is journalistic rather than rigorously scholarly. A few cherry-picked anecdotes–and Romer uses only three–are clearly insufficient to support Romer’s broader claim that the deregulation favored by many economists (not all) was on the whole baleful. There are entire areas of deregulation (e.g., transportation, telecommunications, restrictions on advertising) that he says nothing about, but which were the subject of massive scholarship in the 1970s and 1980s which demonstrated the inefficiency of the existing regulatory structure: the experience in these industries post-deregulation strongly supported the scholarship that criticized existing regulations.

One interesting example is pharmaceutical regulation, something that exercises Romer quite greatly. Sam Peltzman showed in the 1970s that efficacy regulation under the 1962 Drug Act amendments did not result in a reduction in the amount of inefficacious drugs introduced, but did reduce the rate of introduction of new, valuable therapies. All pain, no gain.

Romer has nothing to say about this.

With respect to pharma regulation, Romer blames the opioid crisis on “pliant pretend economist[s]” who “assume[d] the role of the philosopher-king—someone willing to protect the firm’s reckless behavior from government interference and to do so with a veneer of objectivity and scientific expertise.”

He doesn’t quote any economist, pretend, real or otherwise, playing the role of philosopher-king/academic scribbler whose frenzy regulators or legislators distilled into opioids. Instead, he says:

By the 1990s, such arguments were out of bounds, because the language and elaborate concepts of economists left no opening for more practically minded people to express their values plainly. And when the Drug Enforcement Administration finally tried to limit the distribution of these painkillers, pharmaceutical companies launched a massive lobbying effort in favor of a bill in Congress that would strip the DEA of the power to freeze suspicious narcotics shipments by drug companies. It is a safe bet that these lobbyists made their arguments to Congress in the language of growth, incentives, and the danger of innovation-killing regulations. The push succeeded, and the DEA lost one of its most powerful tools for saving lives.

Of course, during earlier eras, regulators allowed many industries to profit massively from products known to be harmful; Big Tobacco is the most obvious example. But until the 1980s, the overarching trend was toward restrictions that reined in these abuses. Progress was painfully slow, but it was progress nonetheless, and life expectancy increased. The difference today is that the United States is going backward, and in many cases, economists—even those acting in good faith—have provided the intellectual cover for this retreat.

So apparently, by highjacking the language economists prevented rational debate, thereby rendering legislators and regulators defenseless against predatory corporations.

Or something.

That is, not only does Romer fail to show that deregulation was on the whole detrimental, he also fails to show that economists had anything much to do with making it happen. He asserts the Keynesian line, but does not come close to proving it.

Indeed, the reverse is true. Romer’s argument actually supports Stigler’s claim, which can be “distilled” thus: money talks. Or to use Keynes’ term: vested interests talk. What economists said or didn’t say or how they said it or what language they said it in (English, Yiddish, Aramaic) was nothing, compared to the lobbying might of the pharma industry. So not only does Romer fail to identify any actual economist who advocated the policy that infuriates him, he fails to show that what any economist said meant squat for the outcome.

Indeed, this is precisely why a certain species of economists (Stigler, and well, yours truly) was/is so skeptical about regulation: it tends to favor the interests of the regulated. It always has, and it always will. Economic efficiency is a secondary consideration, and what economists have to say on the matter has little (if any) bearing on the outcome. If anything, Romer’s piece is a case for Public Choice economics. But that has implications that Romer would no doubt find inimical.

Romer’s other big anecdote is from the financial industry, namely the infamous Goldman Abacus transaction in which Goldman served as the middleman between John Paulson (who wanted to short US real estate) and a hapless German bank.

The stand in for all economists in this anecdote is one sorta economist: Alan Greenspan. Apparently, Greenspan was the Representative Agent for the economics profession. This is beyond simplistic. Insultingly so.

Another bogeyman in Romer’s telling is Michael Jensen:

Michael Jensen, an economist who helped reshape the U.S. financial sector in the late twentieth century. Jensen rightly worried about several problems that bedeviled the market, including how to keep corporate executives from promoting their own interests at the expense of shareholders. His proposed solutions—hostile takeovers, debt, and executive bonuses that tracked the share price of a firm, among other changes—were widely adopted.

Corporate shareholders saw their earnings skyrocket, but the main effect of the changes was to empower the financial sector, which Greenspan, for his part, worked doggedly to unfetter. As Lemann writes, Jensen’s ideas also helped chip away at the power of the traditional Corporate Man—the sort of executive whose pursuit of profit was tempered somewhat by a commitment to noneconomic norms, among them a belief in the need to foster trust and build long-term relationships across company lines. Taking his place was Transaction Man, who focused on little more than driving up share prices by any means necessary.

There is so much wild generalization here that I am at a loss of where to begin. For one thing, Jensen’s heyday was the 1980s LBO and hostile takeover boom, which had been largely stymied by regulation by the early-1990s, long before the Financial Crisis. (So much for the power of Jensen’s advocacy! Jensen’s hero, Michael Milken, was in jail, FFS.)

I am at a real loss to trace the connection between Jensen’s advocacy of measures to control managerial agency costs and, say, the real estate securitization boom of the mid-2000s. Romer certainly doesn’t lay out the road map. Here merely cites Jensen’s views and asserts some connection with those of Greenspan, and proclaims QED! The South Park Underwear Gnomes’ argumentation was tighter.

And again, what economists said was almost certainly irrelevant here. There were powerful forces–political as well as economic forces–behind the real estate boom and crash. Homeownership became a totem for politicians of both parties in the 1990s and 2000s. Wall Street was on board, because it realized this could be an engine for profit. Main Street financial institutions were on board for the same reason.

So what if Alan Greenspan was cool with this? If he hadn’t been, he wouldn’t have been around long. Economic and political interests found a convenient mouthpiece: the mouthpiece didn’t create the economic and political forces. At the end of the day, economists would not have mattered, and the financial sector would have gotten the mouthpiece it wanted.

This part made me roll my eyes:

the traditional Corporate Man—the sort of executive whose pursuit of profit was tempered somewhat by a commitment to noneconomic norms, among them a belief in the need to foster trust and build long-term relationships across company lines. Taking his place was Transaction Man, who focused on little more than driving up share prices by any means necessary.

Evidence for this “commitment to noneconomic norms, among them a belief in the need to foster trust and build long-term relationships across company lines” among 1960s-1970s corporate executives? None whatsoever. This is an ex cathedra pronouncement that bears no relationship to the reality of self-serving corporate management during this era–management that a 1970s Romer probably would have inveighed against as venal and self-serving (as many criticisms of managerial capitalism did).

No, the issue here is not Corporate Man vs. Transaction Man. It is Straw Man (Romer’s, specifically) vs. Reality.

Romer gives economists both too much credit, and too little. By painting all economists who criticized regulation (based on empirical evidence and theory) as stooges, he gives them too little credit. By blaming them for massive public policy failures, he gives them too much. If only we had such influence.

Does economics matter? Yes. Do economists matter? Not really. And the reason for these answers is the same. Economic considerations–distributive considerations in particular, as they operate through the political and regulatory system–drive political and regulatory outcomes. Economists can comment on this, analyze it, and even advocate particular outcomes. But their participation has as much effect on the outcome as a sportscaster’s does on who wins the Super Bowl.

Commodity Indexation and Financialization: The Debate Goes On Because the Literature is Flawed

Filed under: Commodities,Derivatives,Economics,Energy,Regulation — cpirrong @ 3:41 pm

A recent RFS paper by Brogaard, Riggenberg, and Sovich purports to show that the rise of commodity index investing has had adverse effects on the real economy. Like most of the papers that analyze index investing, this one is seriously flawed and does not support the broad conclusions it asserts.

Like virtually all of the papers in this literature, it relies on crude before-after comparisons based on some magic year (2004? 2005? 2006?) during which commodity index investing became important. Even assuming that the rise in index investing was a sort of exogenous shock, this crude method of attributing causation has problems. After all, a lot of other stuff happened after, say, 2004. The rise of China as the predominate force in commodity markets, for instance.

Perhaps this problem would be less troublesome were commodities assigned randomly to “treatment” (part of an index) and “non-treatment” (non-index) groups. But this is definitely not the case. There are systematic differences between index and non-index commodities, so it is difficult to know whether the effects documented in Brogaard et al are due to a correlation between these systematic differences and the performance measures they utilize.

Ah. The performance measures. That raises yet more issues. The paper claims that firms with exposure to index commodities experienced lower returns on assets (i.e., operational income/assets) post-indexation than their non-index-exposed counterparts.

So what is the implicit model of the market in which these firms operate? If the presumption is that the markets are relatively competitive, why would you expect profit margins to change over a period of several years? Even assuming that indexation increased costs via the channels posited by the authors, in equilibrium this would lead to (a) an initial decline in profits, (b) exit (meaning fewer assets and lower output), and (c) a return of profits to the competitive level. Meaning that actually looking at assets or output would be a better measure of how indexation affects cost than profit margins.

If, conversely, the presumption is that these markets were imperfectly competitive prior to the indexation shock, the fall in profit rates could be a good thing, rather than a bad thing. It could indicate that indexation resulted in more intense competition/lower market power.

This is particularly interesting, given that this was a period in which measured profit rates were rising generally in the economy, a phenomenon which some (not I, but some) attribute to declining competition. Now, there are big problems with that literature (problems that the late great Harold Demsetz identified in the 1970s, but which modern scholars have forgotten), but take it at face value. Declining profits/margins could be interpreted as a signal of increased competitiveness and efficiency. A feature, not a bug.

And via a channel exactly contrary to that posited by Brogaard et al. They posit that indexation reduced the informational efficiency of commodity prices. But an increase in informational efficiency would tend to reduce market power–and reduce margins/profits. Note that many firms HATE the introduction of futures, or increased trading of futures, of their main inputs or outputs. Precisely because futures trading increases the informational content of prices which undermines an information asymmetry that generates profits for major producers and consumers.

Which brings me to that information channel. Brogaard et al measure informativeness using the autocorrelation in commodity returns.


They basically find that autocorrelations went up, which they interpret to mean that commodity futures markets became weak form inefficient (or further from weak form efficiency).

Again: really?

Taking their argument literally, it means that speculators were able to eliminate predictable movements in prices prior to indexation, but weren’t able to do so afterwards. This stretches credulity to its limits. After all, “financialization” of commodities also saw the entry of banks and hedge funds into commodity trading. We’re supposed to believe they left easy money on the table?

This purported reduction in price efficiency raises another issue. When I read about return autocorrelations I think time-varying expected returns. So the Brogaard et al result suggests that index commodity returns became more time-varying after indexation became a thing.

Arguably the primary impact of indexation was to integrate more closely commodity prices and stock and bond prices, and in particular, ensure that systematic risk was priced more consistently across commodities and financials. We know that equities and bonds have time varying returns. It is plausible that the documented increase in time variation in expected commodity returns reflects this integration, and is yet another feature rather than a bug.

If so, commodity prices that more accurately reflect the pricing of risk should lead to better investment decisions, not worse decisions. Further, these better investment decisions need not be associated, over several years, the operational performance measures they employ.

Indeed, along the lines of a paper that I wrote a few years back, indexation improves the allocation of risk and reduces the cost of commodity price risk to firms. In equilibrium, this would lead to lower rates of return. Which is exactly what Brogaard et al find.

Pursuing this further, I note that the authors do not use sensitivity to commodity prices as a means of determining whether firms are exposed to commodity prices, on the basis that hedging can reduce price exposure. Yes, but consider the following. Hedging is costly. Hedgers frequently pay a risk premium to speculators. This leads them to hedge less, which leads to high exposure. If indexation reduces hedging cost (as my paper implies), at the margin, firms will hedge more, and bear less risk. This reduces expected profits (which incorporate compensation for risk).

This has at least two implications. First, the average profit rate of firms exposed to hedgeable commodity prices (which are precisely the commodities that are included in indices) should decline post-indexation: this is consistent with the Brogaard et al finding. Second, firms should hedge more–leading to lower exposure to commodity prices. Brogaard et al do not test this latter implication. (Admittedly, this raises complications. Firms may limit commodity exposure in ways other than hedging, and a lower cost of hedging can lead to a substitution of hedging for these other means, leading to offsetting effects which reduce the commodity exposure impact of cheaper hedging.)

The upshot of all this is that the conclusions that the authors advance–namely, that indexation resulted in poorer real outcomes in terms of performance and investment–are not supported by their empirical findings. That is, there are alternative hypotheses that are consistent with the empirical findings that are diametrically opposed to their hypothesis.

This paper is well done within the analytical confines that its authors select. But that’s exactly the problem with this literature. The analytical confines exclude important channels of cause and effect. Most importantly, these confines make implicit assumptions about the degree and nature of competition that either make their results problematic, or mean that their results have diametrically opposed implications to those of the chosen analytical framework.

Meaning that the debate on the effects of indexation are still very much open, and that finance and economics scholars have largely failed to devise reliable tests to distinguish indexation-is-bad hypotheses from indexation-is-good hypotheses. Which is precisely why the debate is still open.

February 22, 2020

Yes, American Military Leadership Has Been Strategically Inept, But Don’t Blame the Service Academies.

Filed under: History,Military — cpirrong @ 6:31 pm

I read this article about a West Point professor’s jeremiad with interest–I may buy his book.

I agree in part, but disagree in large part.

Prof. Bakken is obviously quite cynical about USMA cadets. That is a very common attitude among civilian faculty (who are much more prevalent at Navy than at Army or Air Force). I have personal experience along these lines.

As many of my readers know, I went to the Naval Academy, but punched out before graduating. I don’t know if any of you know that years later I was interviewed for, and offered, the Admiral Crowe Chair in the economics department at Navy. When I was interviewing, I met with all of the civilian economics faculty, many of whom had been my profs at Navy. At first I was shocked at their cynicism about the Midshipmen. But upon a little reflection, it made total sense. The intense competing demands on Middies’ time (and USMA and USAFA Cadets’ time) leads many to cut corners, and academics is where a lot of the corner cutting occurs. Most distressingly, this leads to chronic violations (with varying degrees of severity) of the Honor Code. The faculty are not stupid. They know this occurs. They also know that the officers who run the academies know, but tolerate it. Hence the cynicism.

I completely get it.

Prof. Bakken laments the insularity of the military, and its alienation from civilian culture. This is understandable, but I would make two remarks. First, causality runs both ways: much of the alienation is due to a degraded civilian culture and civil society that too often scorns and denigrates those who serve. Second, there is nothing new under the sun: a truly professional military is always alienated from civilian culture, and arguably has to be to be an effective fighting force. Martial virtues and civil virtues are very different. The military almost have to see themselves as men apart.

Prof. Bakken focuses on the failures of the American military leadership as strategists. I agree, but it is simplistic to lay this at the feet of the academies, for a variety of reasons.

First, whereas once it was the case that virtually all the flag officers in the military were academy graduates, that is hardly the case today. Indeed, two of the examples mentioned in the article–Tommy Franks and Colin Powell–were not ring knockers. Franks was an enlistee who became an officer via the Army’s Boot Strap Degree Completion Program. Powell went to OCS. If anything, these men’s careers are emblematic of the decline in the prestige of the academies. Whereas once they were a necessary condition for advancement to the highest echelons of military command, they are no longer so.

Second, even with respect to the academies, they are not, nor have they ever been, focused on strategic leadership. They train junior officers.

The disconnect between academy training and strategic education is perhaps most pronounced at Navy. Junior officers in the Navy are first and foremost engineers focused on making sure engines and reactors and boilers and electrical systems work. The education is highly engineering-focused, and exposure to higher-level strategic thinking is superficial at best. Even tactics receive short shrift. (80 percent of Midshipmen must major in engineering or the sciences, and engineering represents a large majority of majors.)

Army is somewhat different, because the billets Cadets take after commissioning require tactical expertise, so there is a tactical element to USMA curriculum that is absent at USNA. But at its origins, USMA was predominately an engineering school, and its top graduates went into engineering: those who scraped by in class went into the infantry. The consequences of this were seen vividly in the Civil War, where West Pointers (especially those who graduated near the top of their class, and were commissioned into engineering branches) were hardly noted for their strategic brilliance. The most prestigious graduates (e.g., George McClellan) were often strategically inept, or unduly cautious, or both. Many of the most successful commanders were at the middle or bottom of their class (e.g., Grant, Sherman, Sheridan).

The bottom line is that it is not now the case, and has never been the case, that the service academies are intended to, or designed to, shape strategists capable of winning wars. There is significant reason to doubt whether any military education system for 18-21 year olds can do so. The academies should be evaluated on the basis of whether they produce effective junior officers, a few of whom prove to have some strategic aptitude that may profit the nation if they are not so disillusioned that they leave the military before achieving positions that have strategic responsibilities.

I would also argue that the personal and mental characteristics that make good engineers do not make good strategists. The former are men of system with tidy minds. The latter are creative, unsystematic, and rebellious.

The more serious problem–and one that has plagued all militaries of all eras, not just the US military since 1945–is that the selection process for senior command that operates in peacetime invariably selects based on every characteristic BUT strategic leadership. For how can one identify such skill in peacetime?

This is why the beginning of conflicts is so often characterized by blunder after blunder, as those with the characteristics that are valued in the bureaucratic peacetime military prove utter failures in the crucible of combat. Sometimes a nation is lucky enough that after those failures are cashiered or reassigned to command backwaters that a strategic genius (or at least a strategic competent) can emerge.

But there is no way of designing military education, or the operation of a peacetime military, to prevent the blunders, or assure the emergence of a Grant or an Eisenhower.

So I can understand Prof. Bakken’s cynicism, and agree with his criticism of American military leadership since WWII. But expecting that changing the service academies will fix that is delusional. Ultimately the problem is that the bureaucratic imperatives and incentives of a peacetime military are inimical to the development and promotion of the truly exceptional individuals with strategic insight. Such men are rare indeed, and the things that make them rare also make them outcasts in a bureaucratic peacetime military.

February 11, 2020

Tweedle-Alex and Tweedle-Yevgeny. An American Dreyfus Affair–Not.

Filed under: History,Military,Politics — cpirrong @ 6:53 pm

Even as jaded and cynical as I am, I am agog at the hysterical reaction to the re-assignment of the Vindman twins. Note: re-assignment. They were not consigned to Gitmo or Devil’s Island or even Leavenworth. Hell, it’s unlikely that they will even draw a crap duty assignment. Thule, Greenland, say. They were active duty military personnel switched from one REMF duty assignment to another. Cry me a river. Then jump in it.

It goes with the territory.

But to hear the likes of Ben Wittes and other assorted ticks deeply embedded in the Deep State, this routine part of military life was the American equivalent of the Dreyfus Affair. One can just hear them: “J’accuse! J’accuse!”

At the very least, Tweedle-Alex and Tweedle-Yevgeny were opposed to the policies of the President of the United States. The President, as chief executive and commander and chief, has every right to expect those who are charged with carrying out his policies agree with them, or at the very least, put aside their personal differences and dutifully execute those policies to the best of their ability. If so doing offends their sense of honor, they should resign, or request re-assignment.

But there is evidence that Tweedle-A and Tweedle-Y did more than disagree intellectually with their commander-in-chief’s policies: they actively sought to undermine them. Indeed, there is a colorable case that they were at the very least insubordinate, and perhaps criminal, in going outside the chain-of-command to oppose the lawful authority of the CinC/chief executive.

In which case, their fate is far, far too kind.

The freak out over their “firing” is very revealing, no? Constitutionally, the case is crystal clear. The President has the clear Constitutional authority to assign these guys anywhere. He has the clear right to staff his administration with people who will implement his policies, and will not oppose him.

But the DC mafia clearly believes that positions in the National Security Council or other executive departments are sinecures beyond the reach of the chief executive. This lot considers the unelected bureaucracy to be the fourth branch of government, and indeed, not a mere co-equal to the executive, legislative, and judicial branches, but a superior branch.

There is no greater threat to the Constitutional order–and to liberty–than an overawing and unaccountable bureaucracy. Far more draconian measures are necessary than the mere reassignment of mid-level apparatchiks like the Tweedles.

Today’s news brings another example of the grandiosity of our unelected and unaccountable betters. The four prosecutorial thugs (who include veterans of Mueller’s posse who despite their clear animus and prejudice couldn’t find bupkus on Trump) who recommended the vindictive and punitive sentencing of Roger Stone to 9 years in prison (for doing no worse than James Comey, Andrew McCabe, James Clapper, and other assorted CNN and MSNBC flacks did) resigned in a huff after Main Justice objected to their recommendation–which occurred after Trump tweeted (how else?) his anger at their action.

Good riddance. If there is a god, it will start a trend. Only several hundred-thousand to go.

February 5, 2020


Filed under: Politics — cpirrong @ 9:49 pm

I can’t remember the last time I watched the State of the Union Address. It is usually just political onanism. But the prospect of a SOTU on the eve of an impeachment vote in the Senate was sufficiently unique that I tuned in last night, partly to observe how Trump handled it, but mainly to see how the Democrats did. There were no surprises.

Trump knew he was going to be acquitted, and had every reason to be magnanimous, gracious, and forward looking. And he was. Yes, he told some stretchers, but (a) he was usually within two standard deviations of the truth (a good performance by SOTU standards), and (b) had a good story to tell. So he told it, with what for him involved little bombast. By Trump standards in particular, he was reserved and contained.

Trump can indeed be small and petty (though he was not last night). Given that, it is quite the challenge to appear smaller and more petty. But the Democrats managed, appearing Lilliputian even in comparison to Trump at his pettiest.

Trump did the by now normal (post-Reagan) shout-outs to ordinary Americans whose stories personalized his political themes. And who could take issue with any of his ordinary American stories?

Well, the Democrats could, quite clearly. A centenarian Tuskegee airman–a sour, taciturn response. A young black girl given a scholarship–a sour, taciturn response. A recovered addict now gainfully employed and reunited with his family–a sour, taciturn response.

Normal people could not help but find these stories uplifting. So I guess that shows the Democrats in the House and Senate are not normal people, but are instead twisted partisan freaks whose hatred of Trump transcends normal human sentiments. They hate Trump so much that they cannot express love for ordinary Americans that he has embraced.

And nota bene: all of these people were African American.

Perhaps that explains the Democrats’ sourness. Yes, Trump threw plenty of red meat to his base (e.g., the awarding of the Medal of Freedom to Rush Limbaugh). But he also quite plainly went straight for the Democrats’ base, by making appeals to their single-most important constituency. Trump has already made inroads there, and I have no doubt that he built on that last night. Hence, the Democrats are afraid. Very afraid.

As a result, expect them to crank the racism charges up to 11. And not against Trump only–against you, if you have the temerity to support him, or even if you merely fail to engage in the most vituperous denunciations of him. We are in for a very ugly 9 months.

Of course the piece de resistance was Nancy Pelosi’s peevish and theatrical ripping of her copy of Trump’s speech after he concluded.

Expect to see that over and over and over again. It was not a good look, and the Trump campaign will remind you of that repeatedly.

There’s the old expression: never interrupt an enemy when he (or in this instance, she) is in the middle of making a mistake. And petty, peevish, partisan Pelosi made a big one. So do carry on, Nancy. It may play well in Smallville, but in other precincts, not so much.

February 2, 2020

Position Limits: What a Long, Strange Trip It’s Been

Filed under: Commodities,Derivatives,Economics,Music,Politics,Regulation — cpirrong @ 12:43 pm

On Thursday, the CFTC voted along party lines to approve a proposal on position limits. The party line vote reveals a salient fact: the proposal represents a virtual abandonment of the Commission’s earlier proposals (2011, 2013, 2016). Indeed, virtually all of the features that I criticized in the earlier proposals are gone, and the current proposal largely mirrors the recommendations of the Energy and Environmental Markets Advisory Committee that I served on (before being uninvited by current EEMAC chair Dan Berkovitz). (More on EEMAC below.)

Most importantly, limits outside the “spot month” (which is actually just a few days for some commodities) for energy and metals commodities are gone. Good riddance. They remain for nine legacy ag futures contracts (corn, cotton, and the like), but the any-and-all limits have been expanded substantially.

The rule expands hedging exemptions beyond the prior proposals, and in doing so meets the objections of companies like Vitol. Interestingly, the proposal tidies up the definition of a “bona fide hedge” and makes explicit, rather than implicit, the principle that bona fide hedges are solely for the reduction of price risk.

The Commission did eliminate the “risk management” hedging exemption for swaps dealers, based on an interpretation of Congressional intent and a reading of statute that limits hedging to the management of risk of physical commodity positions. On principled grounds, I object to this. A swap dealer buying an oil swap from an E&P firm facilitates the hedging of a physical position, and hedging that swap via the futures markets serves a classical risk transfer function. A dealer selling an index swap to a pension fund isn’t hedging a physical risk, but it is still serving a risk transfer function and the distinction between physical commodity hedges and non-physical hedges is rather Talmudic.

The practical effect is unknown. In terms of index swaps, most swap dealers are out of the nearby contract when an index (e.g., GSCI) rolls, which is well before the spot month for energy and metals that make up the bulk of most indices. Hedges of the ag portion of these swaps could be affected by the any-and-all limits and the elimination of the risk management exemption, but the dramatic increase in the size of these limits may well greatly reduce any impact. A dealer hedging a swap with payments based on final settlement prices of say NYMEX crude or natural gas could be impacted by the elimination of the exemption, but the spot month limits may be large enough to cushion the impact here as well.

The most interesting feature of the proposal is its rather tortured attempt to address the “necessity” issue that derailed previous proposals in court.

The most important aspect of this is that it appears that the Commission has essentially conceded that a necessity finding is, well, necessary. That raises the issue of the criteria for establishing necessity.

One criterion could be that a limit is necessary only if the risk of speculation causing unwarranted price fluctuations is sufficiently great.

An alternative criterion is that a limit is necessary as long as the risk of unwarranted price fluctuations exists at all, if the contract is important enough.

The Commission took the latter approach, and limited its limits to commodities it deemed were sufficiently important (measured by volume and open interest) so that any unwarranted price fluctuation could lead to impairment of price discovery and risk transfer on a large scale. The closest that the Commission came to taking likelihood of disruption into account is its restriction of the limits to physical delivery contracts that could be cornered or squeezed. This is a logical problem (cash-settled contracts give rise to manipulation too) but this is of secondary importance. But it could be read to limit the Commission’s interpretation as to the source of unwarranted fluctuations to market power manipulation, which would be a good limitation indeed.

A sufficient statistic to infer that the Commission conceded much in its necessity finding is Dan Berkovitz’s freak out on the issue in his dissent.

As a manipulation-related aside, I will note that the spot month limits are justified by the notion that a position in excess of deliverable supply is necessary to execute a market power manipulation (i.e., a corner or squeeze). I have some recent research (which I’ll post and write about soon) showing that this may be a sufficient condition, but not a necessary one. Meaning that the limits will not be sufficient to eliminate market power manipulation.

The recent proposal, assuming it is finally approved as a rule in something resembling its current form, represents the end of a saga that has had a major influence on my life. I began writing about the speculation issue when it became a source of renewed political controversy in 2006. I wrote my first major post in response to a Senate Permanent Subcommittee Report (large authored by Dan Berkovitz) on oil speculation in August 2006.

As oil prices spiraled upwards in 2007 and 2008, I wrote more about the issue, and gained more notoriety. This resulted in my testifying before the House Ag Committee in July 2008 (a day or two before oil prices reached their all time high) and led to a WSJ oped.

Then the Financial Crisis happened, and I focused more on clearing issues, with periodic forays into the speculation debate. But Frankendodd included a provision on speculative position limits in commodities, and the CFTC rolled out a proposal in 2011.

I wrote a comment letter on the proposal. That letter (and others I wrote subsequently) were sufficiently important that in the final rulemaking and in later proposals it or other things I’ve written were cited dozens of times (my name gets 50 hits in the 2016 proposal).

But the impact of the letter on my life went beyond that. Gene Scalia–son of Justice Antonin Scalia, and now Secretary of Labor–retained me to write a declaration criticizing the inadequate cost-benefit analysis in the proposal (it being something required under the law.)

Perhaps most importantly, Blythe Masters at J. P. Morgan liked it, and called to tell me so. She then proposed that I write an analysis of the systemic risk of commodity trading firms for SIFMA. I did–and came up with the wrong answer. So SIFMA spiked the report. But word leaked out, which prompted Trafigura to retain me to write a study (with a subsequent follow-on study) of the economics of commodity trading firms.

I don’t think I’m exaggerating to say that this study proved to be very influential, perhaps because of the lack of competition: writing on the sector was, and remains, very sparse. I have traveled, lectured, and taught around the world based on people wanting to hear what I wrote about in that piece.

The study was also the hook for the New York Times hit piece on me in December, 2013. See! I took money from evil speculators while writing in opposition to limits on speculation! Never mind that I had been consistently opposed to limits years before, and never mind that Trafigura (and other oil traders) are not speculators and use the futures markets mainly for hedging.

(As an aside, I am convinced, but cannot prove, that Gary Gensler was the moving force behind the piece. After all, why else would the NYT devote front page space to an obscure academic? And under the theory of there-are-no-coincidences-comrade, comments on the 2013 revised proposal were due in January, 2014. So December 2013 was the perfect time to kneecap a gadfly. By the way, Gary, how’s that gig as Treasury Secretary working out. Oh. Right. Well maybe you can chair Hillary’s legal defense fund.)

Asides aside, other than frightening my aged parents this article actually was all for the good. It validated me as an influential voice. It also got many very reputable people to rush to my defense, including Thomas Sowell, one of my long-time heroes.

The article raised its head a few years later when I was serving on EEMAC, and was asked to write the (Frankendodd-mandated) report on the committee’s deliberations. I was the dutiful scribe, and honestly recorded the committee’s adamant opposition to the then-outstanding proposal (which included all the bad features jettisoned in the new proposal).

This caused Elizabeth Warren to lose her [insert vulgar metaphor of your choosing here]. This article in particular cracked me up (and still cracks me up): Why Elizabeth Warren Is On the Warpath This Week.

Well, why was she on “the warpath”? Well–me, now that you ask:

The committee, which was established by Dodd-Frank, has nine members. Though it is supposed to express a “wide diversity of opinion” and “a broad spectrum of interests,” eight of the nine members represent companies or industries with a financial interest in killing the position limits rule, or have a personal financial interest themselves. 

. . . .

The recent inclusion of Craig Pirrong on the committee is perhaps the most flagrant example. Pirrong, who co-wrote the first draft of the report with James Allison, is a professor of finance at the University of Houston, who has been paid by several industry participants and trade groups for his research into commodity speculation. He was also a paid research consultant for the International Swaps and Derivatives Association, the very group that got the initial rule overturned by the courts.

The CFTC report relies mostly on Pirrong’s research and a presentation he made to the committee last year, which did not include the opinion of anyone who believes in the dangers of excessive commodity speculation. In fact, 10 of the 13 witnesses at EEMAC meetings came from industry, two were representatives of CFTC, and the other was Pirrong. The meetings never mentioned that there would even be a final report. [Er, it’s in the law, you knobs.]

As Public Citizen’s Tyson Slocum, the only non-industry committee member and the only one to dissent from the recommendation, points out, Pirrong was not on the committee until after he co-authored the report. Pirrong “is so new to the EEMAC,” Slocum wrote in a minority dissent, “that I only learned he was a member when he was listed as a co-author.” 

This kerfuffle warranted another mention in the NYT, and I’ve been told that Warren used it (and me) in a fundraising pitch.

I’m so proud. One’s enemies are the best comment on one’s character.

What cracks me up is that it wasn’t a right-wing snarkmeister like me that included “Warpath” in the title of an article about Liz Warren. It was the (by then) far-left New Republic. Freudian slip? Whatever, it’s hilarious.

Alas, understandably but not commendably, Commissioner and EEMAC chair Christopher Giancarlo buckled under the political pressure and withdrew the report. But this was almost certainly a non-event: the proposal was dead in the water, and was only salvaged by saving major pieces overboard. And I’ve sailed on.

What a long strange trip it’s been. The speculation debate has had a first-order impact on the arc of my life for more than a decade. Although the Commission proposal will likely put an end to one chapter of that debate, as I wrote in my first piece in 2006, speculation controversy is a hardy perennial, and will no doubt recur the next time some major commodity price spikes or craters. And maybe I’ll be around to draw more fire–and deliver some–when that happens. And until then, I’ll keep Truckin’ on whatever fits my fancy.

Nota bene: I’m not a Dead Head by any means. But if the song fits . . . Well, not the drugs part!

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