August 24th, 2011 Alex Jurshevski
 ”The curious task of economics is to demonstrate to men how little they really know about what they imagine they can design”
 F A von Hayek, “The Fatal Conceitâ€
 If Ronald Reagan, Milton Friedman, or even Boris Yeltsin were alive today they would be shell-shocked to witness the transformation of Western countries’ public debate and public policy in the last twenty odd years from a celebration of victory by Free Markets over Communism into an embrace of the Power of the State.
In Europe and the US, governments now own or control banks, car companies, mortgage lenders, property companies and other former private sector enterprises. On both sides of the Atlantic public policy is increasingly reflecting an interventionist, heavy handed meddling by Governments who appear mistrustful of free markets. The folks currently at the center of policy-making in Brussels and Washington also seem to believe that it is possible to legislate results, pass laws to coerce behavior and generally thwart market outcomes as it suits them.
You might think that we are living in the old Soviet Union.
Don’t like the fact that the markets are starting to question the stability of European banks? Contrive a “Stress Test to allay market fears. When that doesn’t work and bank shares continue to get hammered, outlaw short selling and talk tough like you mean it. Simple. Listen to Jean Pierre Jouvet, the head of AMF, the French Financial Markets Regulator,“They wanted to test French resistance. This is our response, as always very determined, and it will be so for all those who want to put us to the test.†We’ll see.
 
Don’t like the fact that a variety of Euro area bonds are selling off in response to justifiable market fears regarding the deterioration in sovereign creditworthiness and hence increased likelihood of sovereign default? Well, then instruct the ECB and EFSF to start buying up these credits with money that is magicked up on a keyboard. Never mind that in doing this, you (the ECB and EFSF), are asking government ciphers to match wits with the likes of Michael Sherwood and his crew at Goldman’s, Bill Gross at PIMCO and Louis Bacon at Moore Capital; and that therefore this doesn’t really stack up as a fight that the apparatchiks can ever hope to win. Never mind that in all of recorded history government schemes to manipulate traded markets have always failed. And that in their wake massive credit and trading losses have accrued to the public purse accompanid by economic upheaval.
In the United States certain politicians (Nancy Pelosi among them),  are telling voters that Unemployment Insurance actually stimulates the economy because people spend their dole checks on goods and services; and that the Food Stamp programs (Over 45,000,000 recipients being served and counting)  are similarly stimulative. In the US it is now impossible for businesses to offer free coffee and donuts to clients; Grandmas can’t make home-baked pies for church socials, and kids can’t operate a lemonade stand without risking a $500 fine, all because of new US Federal regulations and armies of regulatory brownshirts freshly hired to enforce them (employed at salaries that are roughly double what they might earn in the private sector we might add). The new rules, regulations and directives burdening US business number in the thousands.Â
The budget management and deficit reduction talks among the twelve member Super Committee will be getting underway shortly South of the Border. The fireworks that we saw connected to the debt ceiling negotiations are just a foretaste of what is to come in this set of “talksâ€. The real negotiation is over control of the 2012 Presidential and Congressional Elections. Democrats will be looking to recover ground lost by Obama in his botched handling of the debt ceiling debate while Republicans will be looking to drive the knife home and kill off Obama’s re-election chances for good. The stage is thus set for even more of the “political dysfunction†that S&P alluded to in its recent decision to downgrade the US. And the drama will play out agonizingly slowly, but loudly, over the next several months. Not a pretty backdrop either for financial markets or for Main Street.
Through all of this the markets are starting to crumble. Most commentators have raised their forecasts of the probability of a renewed slowdown to 1 in 3 or 1 in 2. Some, like David Rosenberg of Gluskin Sheff, are saying that slipping into negative growth is a certainty. It is undeniable that economic growth in both Europe and North America is slowing. European economies are all growing at 1% annualized or less. Japan just printed a negative quarterly growth number. The US is limping along with a raft of indicators pointing to a sharp slowdown. In only one dimension this puts at risk the entire EU/ECB strategy of kicking the can down the road and hoping that the PIIGS and other debt-laden Euro-zone countries can grow out of their problems.
It is in this environment that this weekend’s annual meetings of Central Bankers at Jackson Hole Wyoming is taking place. Last year in a decidedly more upbeat environment (recall that the mantra then was that the recovery had arrived) Bernanke hinted at the unveiling of QEII and the markets promptly took off.
With the ECB and Brussels going “All-In†to stem contagion in the Euro-zone, what can Bernanke pull out of his bag of tricks to help boost confidence and get the US economy growing again? The answer is: “Not Muchâ€. There is no more stomach for debt-financed stimulus in the US given the need to at least pay lip service to the objectives of the Super Committee. At the same time the Administration and Congress will continue to clamor for “action†to create jobs and re-start the economy. This means that there is huge pressure on the Fed to “do somethingâ€. And, whatever the Fed “doesâ€, the central banks of the world must fall in line or get steamrollered.
Our view is that the Fed has already recently tipped its hand by announcing the continuation of ZIRP for the next two years. Should the data continue soft as we expect it will, we foresee that Bernanke will at some point in the next few months, also implement another round of QE. Bernanke will likely strongly hint at this in any speeches and announcements coming out of Jackson Hole. No matter that the inflation indicators already exceed policy rates in both the Euro-zone and the US, Bernanke and the Fed are pre-disposed to action, can only take action in one direction, and will do so with a determination that reflects an unshakeable belief in their ability to control the economy. In our opinion they are sadly misguided in this and further, that any possible benefit can come out of the course they have already set.
So, for the period following the meeting of super-bankers,  our  short term prognosis is as follows: Government and Central Bank balance sheets will bloat further, unemployment will stay stubbornly high, economic growth will continue to crawl along at or below stall speed, the EU will continue to try and bail out failing Euro-sovereigns, the ECB and EFSF will continue to gorge on Euro-area debt that nobody wants to own; the Super Committee will serve up a dog’s breakfast; and the Fed will goose things further.
Similar to the fading days of the old Soviet Empire, the pressures for a financial collapse are building. Expect the outcome of the Jackson Hole meetings this weekend to add to, and not to subtract from, those pressures.
Posted in Bond Market, EU, Economy, Fed Policy, USA | No Comments »
August 17th, 2011 Alex Jurshevski
Between the FCPA, UK Bribery Act and the CFPOA there are many new cases in the bribery landscape. However, there is a very recent case involving a multinational insurance brokerage. This case is not categorized as a direct bribery issue, but rather a failure to prevent bribery. The Financial Services Authority (FSA) announced last week, here, that it fined Willis Limited 6.9 million pounds for “failings in its anti-bribery and corruption systems and controls†which “created an unacceptable risk that payments by Willis Limited to overseas third parties could be used for corrupt purposes.â€
This case changes the game before most people have even started to learn the rules. It is still very common for corporate leaders to respond to news of bribery enforcement by saying “everyone is doing it†and “that is just how we do business in (insert industry)(insert city).†Most internal and third party professionals will be quick to point out that such realities are not an acceptable defence to regulatory enforcement. However, those defences are still being attempted, and the result is industry based systemic risk as regulators then say “ok, where else and who else†and start flipping over rocks in other regions or at industry competitors. Therefore, don’t be surprised to see similar settlements in insurance brokerage industry.
The rules of the game are that directors and senior management need to turn their minds to controls and procedures to prevent this (recently) unacceptable behaviour. In the Willis case, it seems that the organization, unlike many other organizations, did in fact create and implement “appropriate anti-bribery and corruption systems and controlsâ€, but the FSA has suggested with this fine that the existence of controls is not enough and they are required to “ensure that those systems and controls are adequately implemented and monitoredâ€, at the grassroots level.
The time period of the payments in question was January 2005 to December 2009, which means that there is a long tail of liability involved with FSA bribery enforcement actions and therefore organizations and their governing minds had better respond quickly to create and/or increase their controls and control enforcement and monitoring.
The Willis case, and the recent Canadian CFPOA case against Niko Resources, here, might suggest that international bribery enforcement is not a game, because the value of the fines are many multiples of the alleged inappropriate payments in question (at least those values that were disclosed.) In the Niko case the payments in question were less than C$200,000, but the fine was C$9.6 million (the actual value of Niko’s business dealings in “high risk jurisdictions†were not disclosed.) In the Willis case, the total value of transactions over the five year period was 27 million pounds, with the suspicions payments totalling $227,000, and the fine being 6.895 million pounds (after a 30% discount for cooperation and early settlement.)
Here is the loss control opportunity presented by this case to directors, officers, management and employees of corporations doing business overseas :
- Identify all payments to foreign third parties (especially in “high risk jurisdictionsâ€). The Niko case involved Bangladesh, the Willis case involved Egypt and Russia),
- Establish and record the commercial rationale for all payments to foreign third parties – this needs to be done to the minute degree of demonstrating “in each case why it was necessary… to use an Overseas Third Party (OTP) to win business and what services (the company) would receive from that OTP in return for a share of its commissionâ€
- Understand that foreign official is a much broader group than you might think (other bribery cases have set the precedent that doctors and other medical staff in most countries are considered foreign officials, World Bank and IMF staff are foreign officials),
- Realize other enforcement examples are not just a learning opportunity but an obligation; the acting director of enforcement and financial crime in the Willis case specifically said this case was “particularly disappointing as we have repeatedly communicated with the industry on this issueâ€,
- Provide formal training to staff to recognize an affected payment and to record in detail (more than a brief description) the reasons and resulting services surrounding the payment. This is the only way to demonstrate adequate monitoring and effectiveness of anti-bribery systems and controls,
- Ensure adequate due diligence on OTP to assess how the OTP is connected to the organization’s client, the foreign official and any other involved third party,
- Recognize that you are responsible for indirect bribery or alleged bribery of a foreign official, not just for direct bribery. This means you are responsible for the actions of any Third Party that could be in a position of making improper payments to help your organization win or retain business from overseas clients or prospective clients,
- Ensure that this due diligence is applied to each and every time a payment is made to a Third Party, not just the inception of business with that Third Party.
There is a very strong argument that the Willis case is not a bribery case, it is a books and records case, but FSA does not seem to care about the distinction. The case has been lumped in with the recent UK Bribery Act / FCPA / CFPOA bribery enforcement actions, so it is getting media attention that it may or may not deserve.
Is this a good example of directors’ and officers’ liability? No, not directly. There was no mention of negligence by an individually named director or officer. But many bribery enforcement actions have spawned downstream criminal, civil and securities liability lawsuits, so if directors and officers do not learn and react to the public pain suffered by other entities, they have a good chance of facing personal liability.
My advice, be careful about extending your D&O insurance policy to FCPA / UK Bribery / CFPOA enforcement action if you don’t fully understand how your policy is exposed to Entity Coverage or other risk of erosion or exhaustion of its limits of liability. There is no regulation or oversight of D&O policy wordings or pricing in Canada, so your assumption of the level of “personal loss†coverage in your D&O policy might be incorrect. Without early investigation you might not find that out until it is too late.
Greg Shields is a D&O, Professional Liability and Crime insurance specialist and a Partner of Mitchell Sandham Insurance Services. He can be reached at gshields@mitchellsandham.com, 416 862-5626, or Skype at risk.first.
Posted in Canada, Crminal Activity, EU, Insurance, USA | No Comments »
August 7th, 2011 Alex Jurshevski
“Those whom the gods wish to destroy they first make mad.”  Anonymous Ancient Greek Proverb
Wow, what a crazy week. About everything that could happen did happen, except for the delivery and signing into law of a credible deficit reduction and debt control plan by the American Legislative and Executive Branches.
In the wake of that failure, investors in the US Dow Jones index rewarded President Obama on the marking of his first half century of walking on this planet by shaving 500 points or almost 5 % off of that stock market gauge. By the end of the week global bourses had shed around $2.5 Trillion of value.
The debt ceiling debacle wasn’t the only motivator behind the gloomy sentiment weighing on markets:  renewed fears that the global economy might be entering a double dip were fanned by weak purchasing reports from Germany, flattish consumption-related and employment numbers in North America, and growing doubts about the fiscal sustainability of the debt-laden laggards in Europe, now to include, most notably, Italy.
On Friday the markets looked set for another big dump following weak employment readings announced early in the day by the US Labor Department. It is unmistakable that some foreknowledge of the reduction in the S&P US long term debt rating that was announced following the market close was given to the US Government. Therefore it is our surmise that the Plunge Protection Team swung into action to prevent another swingeing setback following on the heels of the 500 point plunge the day previous. Thus,  after a wild intraday ride, the Dow closed on a dead cat bounce, up 61.
These events prompted G-7 and G-20 country governments to convene a set of emergency consultations over the course of the weekend to discuss measures to combat the malaise sweeping global markets and to contain any contagion effect from exacerbating conditions further. The price action on several markets so far today does not engender optimism for a placid trading week ahead.
With the apparent exception of the United States and a few people here in Canada (see below) a growing realization that fiscal stresses in Western economies mean that Government spending needs to be cut back, entitlements need to be cut back, and Government generally needs to right size and reconsider its role. The bottom line is that the social safety net has become too expensive and people need to be made more reliant on their own efforts rather than rely on handouts from Governments.
It is in this context that we read an article last week in the Financial Post entitled “Only More immigrants can save Canada’s Economy†. In this piece, the author, who is associated with the New Frontier Institute, contends that in order to “save†Canada’s pension system that we need to allow immigration to reach a million people per year as an urgent  matter of policy.
What claptrap.
 Nowhere in this article is it mentioned that Canada does not have the capacity to admit that many immigrants into the country. In the last five years the amount of annual jobs growth has been well below 200,000 per annum. Where and how are we going to employ these immigrants? What of the strain on our already overstressed medical, educational and public security infrastructures? No mention. Yet the author makes reference to a recent speech by the Minister of Immigration, Jason Kenney that does clearly spell out all of the constraints and considerations involved in setting immigration policy.
Arctic Circle CartoonsÂ
What of recent studies that demonstrate that Canada’s immigration policies admitting as they do a few hundred thousand folks per year actually cost the public purse significant money? This is given short shrift. Ivory Tower schemes are suggested to hand over immigration policy to the provinces, magically reduce the cost of admitting immigrants and to assume away the host of logistical and social challenges implicit in this proposal, all in the name of ensuring that Canada can “fund the Baby Boom generation’s retirement obligations.â€
And what of the political and social implications of such a policy? Namely that, if implemented, within one generation we effectively would be handing over electoral control of our entire country to a demographic that has no long term relationship to this place. In exchange for what? A pension bailout that benefits a narrow slice of the population, much of which is quite well off without Government help.
The reality is that the pension deficits are real. Most pension funds are insolvent in Canada, and therefore this is a problem that requires urgent attention. The reasons for these deficits are many. Some reasons include faulty design, poor management, venal politicians agreeing to over-rich settlements with public sector unions, bad luck or bad markets, theft, fraud, perverse incentives, or the fact that some plans ail from all or a subset of the foregoing impairments. None of this however means that they should be bailed out. This makes no sense, particularly in the context of what we already know to be the case of the retirees at Nortel, Enron and numerous other companies that failed to provide safeguards for the pension obligations they had to  their retiring employees. The reality is that in any conceivable context, the prudent, economic, legally and morally correct course of action is to write down benefits in order to meet the resources extant within each of these funds and share them out to the retirees. There can and should not be a bailout unless we intend to become the next Argentina or Venezuela.
 No doubt pension reform is a large problem and one fraught with political and economic risks. However throwing away Canada’s entire future to try and paper over mistakes made by the same â€Baby Boomers†that this writing suggests need help is pure madness.
 The New Frontier website lists a number of prominent people as being part of their Advisory Board, among them Ruth Richardson, former Minister of Finance in New Zealand;  and Sir Roger Douglas, the architect of the economic reforms in New Zealand that served as a blueprint for leading the country out of the abyss of subsidies, government interventions and meddling that caused the catastrophic meltdown there in 1984. At the same time, the website is extremely coy about where it receives its funding from, leading us to surmise that it may be acting as a shill for a set of vested interests that want to bias public policy in favor of themselves rather than proposing policies that make long-term sense for Canada as a whole.
I worked under Ruth when I was managing New Zealand’s Sovereign Asset and Liability portfolios in the mid 1990’s and I have met Sir Roger a number of times. The prospect that Ruth or Sir Roger would endorse the policy recommendations as spelled out in the New Frontier article, and in the context of the commentary we provide above and as reflected in Minister Kenney’s recent remarks, is in my opinion a very low probability outcome unless there has been a massive sea change in how they view the role of Government and the constituents of effective policy. If the New Frontier Institute believes that this is not the case, we invite rebuttal, accompanied of course by the math that supports the “million immigrant a year†proposal.
 Who knows what the future might bring? Flush with a majority Government and a five year term in office ahead of him, shamefaced clarion calls for bailouts of their entitlement programs by special interests may be setting up Stephen Harper for his very own “Scargill Momentâ€.
Posted in Bankruptcy, Canada, Crisis, EU, Fed Policy, Restructuring, Sovereign Debt, Stock Market, USA | No Comments »
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