Thursday, March 27, 2008

The great fear of what might happen in Iraq is a pitched civil war between Shiite and Sunni militias. So, let's start with the good news: that's not happening right now. What's happening right now is that the Shiite militias are fighting each other.

So, who are these militias? Well, roughly speaking, there are two sides. One is a group of militias that started out as Iranian proxies, back when Iran and Iraq were doing their damnedest to fill the Persian Gulf with the blood of each others' soldiers. These former proxies maintain close ties to the Iranian regime. The other side, while Shiite, is led by an Iraqi with strong nationalist tendencies and a lingering deep suspicion of Iran.

Given the way Dubya's crew is still trying to blame Iran for everything that goes wrong in Iraq, it's only natural that we're on the side of the Iranian puppets.

So, why are we on the side of these guys --- al-Dawa, and the Badr brigades of the former SCIRI, whose political wings are the backbone of the government we have endorsed? Matthew Yglesias suggests that we oppose the nationalist (Muqtada al-Sadr, much vilified in the American press for having backed armed attacks on civilians, which is also a favored pastime of the people we support) because he's popular enough to rule the country without our assistance, and we want puppet rulers that need us. It's not that Matt particularly likes the policy (nor do I), but he's still taking a more favorable view of the occupation than I do. Given that we're putting out stuff like this:

The Pentagon on Wednesday said an eruption of violence in southern Iraq, where US-backed government forces were battling Shiite militias, was a "by-product of the success of the surge."
I have trouble believing that they've put in that much coherent thought...

More: Yglesias now relays another explanation --- that we don't want to speak to the Sadrists because they don't speak English, and Iran's best friends, by happenstance, do. Now that's the kind of clear thought I expect from our Republican leadership...

Tuesday, March 25, 2008

The Red Sox won their season opener a few minutes ago, despite a very shaky outing from closer Jonathan Papelbon. (It was a night game --- in Japan). Watching Manny Ramirez getting interviewed through an interpreter by the Japanese press is a hoot; the game featured a classic "Manny being Manny" moment, when he blasted a ball that might have been out of the park, paused at the plate to admire it --- and then had to scoot off late when it didn't go out. He made it to second.

The TV post-game theme music is the opening synth riffs from "The Grand Illusion". Is somebody trying to tell us something?

Hillary Clinton has proposed an "emergency group" including Alan Greenspan to deal with the credit crunch that's occurring as the real estate bubble pops. Of course, if Greenspan were the sort who were inclined to do something about it, he might have done that while he was running the Fed. Instead he cheered the bubble on, actually touting risky adjustable-rate mortgages when fixed rates were stunningly low, and refusing to look into lending practices that were clearly out of line. He made the mess, Clinton seems to argue; who better to clean it up?

Well, if that doesn't sway you, Will Bunch of the Philadelphia Daily News reports that she now has another argument in favor of Greenspan:

... he has a calming influence still to this day on Wall Street -- don't ask me why because I never understand what he's saying -- but nevertheless people respond to that Delphic oracle approach. I think it would be wise to include him.
Delphic oracle. Calming. OK. Would that be this Delphic oracle?

After sacrificing 300 head of cattle to Apollo, Croesus had gold and silver melted down into 117 bricks, which he sent to Delphi along with jewels, statues, and a gold bowl weighing a quarter of a ton.

With these gifts, Croesus sent his question of whether he should attack Persia. The Pythia answered that, if he went to war, "Croesus will destroy a great empire." Encouraged by this response, he invaded Persia, only to be decisively beaten in battle. The Persians invaded and conquered Lydia and captured Croesus. Imprisoned by the Persians, Croesus bitterly denounced the Delphic oracle for having deceived him. After receiving permission from his captors, Croesus sent his iron chains to Delphi with the question, "Why did you lie to me?" The Pythia answered that her prediction had been fulfilled. Croesus had destroyed a great empire -- his own.

I feel calmer already.

And now for something completely different.

A couple of years ago, an MIT student of my acquaintance had a brief run-in with reality TV, in the form of a recruiter for "Beauty and the Geek". Faced with a remarkably persistent hollywood type with a clipboard and a questionnaire, he decided the quickest way out was through, and obligingly filled out the form, including the question (surely of immense use to the producers), "What is your greatest fear?" His response: "Being made to look like an ass on national TV by the producers of some dumb reality TV show."

What brings this to mind is Bravo's new series, "The Real Housewives of New York". Each episode begins with Alex McCord, an actress, graphic designer, and aspiring (oh, how breathlessly aspiring) socialite, intoning that "To a certain group of people in New York, status is everything." The rest of the hour is devoted to making five of them, including McCord herself, look ridiculous.

Not, mind you, that the women themselves make this terribly difficult. The one who seems most down-to-earth, oddly enough, is LuAnn de Lesseps, a countess by marriage who cheerfully flaunts the title at every opportunity. (She's got her own TV show, broadcast on UHF in the Hamptons, called "The Countess Report".) LuAnn at least knows how to enjoy being privileged. The rest are shown, in no doubt carefully selected awkward moments, carrying on like the characters from Seinfeld --- or rather, how those people might carry on if someone mixed in a burning, insatiable hunger to see their names on the society pages, and a hearty dollop of Julia Louis-Dreyfus's $580 million real-life trust fund. It seems unnecessarily cruel to actually name whose major snits at minor slights are worthy of George Costanza in couture, or whose social scheming rises to the Krameresque. Besides which, it's just unnecessary. You'll spot them soon enough.

The producers, naturally enough, aren't doing them any favors. If the pervasive air of extravagance isn't obvious enough from the shot selection, they slap price tags on just about everything in sight, to drive the point home. (Purebred puppies are expensive! Who knew?) But when thinking about this, consider how a big-screen TV and an SUV would look to someone from Kenya. We've all got our extravagances. As for what's getting left out, you could make an interesting little video intercutting the haute couture shopping sprees (thousands for a dress for opening night at the opera!) with this "Countess Report" clip of her excellency and friends genuinely gushing over the $24.99 "killer shoes" they found at the Hamptons T.J. Maxx. And think about how plausible it is that they really never talk about anything other than themselves --- which is all that makes it to the screen.

And, of course, always remember that anything really worthwhile that anyone connected with the show might be involved with has probably been edited out.

Still and all, it would be nice to see the perspective of a few more typical New York housewives. The kind who, offered tickets to opening night at the opera, would be thrilled --- who'd show up wearing their very best $300 outfits from Macy's, and leave talking about nothing other than the music.

There were a few late edits to this piece to try to put the focus a bit more on the editing that creates the screen personae here; it's more interesting than the personae themselves...

Sunday, March 23, 2008

American casualties of the war in Iraq will reach 4000 any day now, perhaps by the time you read this; as I write, the offical count stands at 3996.

I took a walk yesterday around some of the more touristy sections of downtown Boston, mainly to see how the ribbon park over the new underground highway is shaping up. Behind the Old North Church, there's an impromptu memorial: a dog tag for each fallen soldier in this misbegotten war, their numbers in the thousands, hanging from a garden trellis, jangling in the wind.

One story that's going around on Wall Street is that the financial industry landed itself, and us, in the fix we're all now in by erecting a massive structure of derivatives and interlocking claims which no one really understood, and which now has the effect that a collapse anywhere puts the whole structure at risk of toppling like a house of cards. Viz. the quote of the day:

Mr. Blinder, the former Fed vice chairman, holds a doctorate in economics from M.I.T. but says he has only a "modest understanding" of complex derivatives. "I know the basic understanding of how they work," he said, "but if you presented me with one and asked me to put a market value on it, I'd be guessing."
Which is to say, the soi-disant rocket scientists of Wall Street gave themselves a complicated job, and then did it badly.

Me, I'm not so sure. Some of the mistakes involved no math at all. And in cases where the math should have been easy, they still blew it badly.

To begin with, a lot of the structure was based on implicit trust in ratings agences which, as others have noted, were blowing the simple stuff. Consider "mortgage-backed securities," which is where the rot first set in. This is a field in which conventional wisdom had been that buyers who didn't put in a substantial down payment, relative to the cost of the property, were at elevated risk of default; financially, they'd have nothing to lose if they defaulted, and if the value of the property dropped at all, they'd even have something to gain. In the year 2000, as Conan O'Brien would say, Standard and Poor's decided to set aside decades, if not centuries, of experience, and say that arrangements with no down payment were not at elevated risk. By the time they went back on it, the collapse was already underway.

But beyond that, let's consider cases where a little math was involved: the now infamous mortgage-backed securities.

The basic idea of these is that when you've got a lot of risky loans with more or less similar properties, you can predict roughly what's going to happen to them in aggregate, and take advantage of that. So, let's say you think that there's between a 10% and 30% chance that any individual borrower will default. That means that 70% are very likely to keep making their payments, another 20% are in doubt, and the last 10% are toast --- but you don't know which 70%. So, how can you get certain returns? By creating a security that gets payments from whoever's still paying, up to 70%, no matter which loans those are. (So long as more than 70% of the borrowers are still paying, the other payments go to buyers of riskier "tranches" of the payment pool; when they stop, the buyers of those tranches are out of luck, but they knew they were buying concentrated risk going in.) Since you're assuming that no more than 30% of them will default, it's basically a sure shot that enough of them will keep paying to keep that first-dip revenue stream going, which is how you make an absolutely solid, AAA-rated security out of a whole bunch of individually bad loans.

That is, in fact, the basic argument for the AAA-ratings on a whole bunch of mortgage-backed securities. It's all entertainingly outlined in this well-circulated slideshow, or if you want more detail with musical accompaniment look here. And yet losses on these things are now bleeding major banks white.

So, could there be something wrong with the analysis? In fact, the argument contains an elementary mathematical error that bites a lot of people hard on the ass in probability 101. If you haven't seen it already, you might want to go back and see if you can spot it, because I'm going to spoil it for you in the next paragraph.

Here's the problem: The whole arrangement implicitly assumes that the failures of the individual loans are independent. That is, we're assuming that each borrower has between a 70% and 90% chance of keeping up with the payments whatever the others do. And the world might just not be like that. Let's suppose, instead, that there's some event --- let's say, just for kicks, a meteor strike on the town --- that might (with between 10% and 30% probability) make all of the borrowers default, all at once. In this situation, each individual loan still has the same chance of defaulting as it does if they're independent. But pooling this risk buys you nothing: if the meteor hits, the loans default all at once, and it doesn't matter how the payments have been divvied up, because they've all ceased.

That's a nice mathematical curiosity unless someone can point to events likelier than meteor strikes which might have this kind of mass effect. But by the time the real estate bubble was really going, there was such an event, which was almost certain to happen: a rise in interest rates. Lots of borrowers, particularly in the subprime range, were taking loans with variable interest rates which would "reset" up at some future date. If they couldn't pay after the reset, they'd have to sell the house fast. But, at the same time, it was common in the bubble to judge affordability by the monthly payment, and if rates go up, the same monthly payment buys you less house. So, in the event of a rise in rates, the borrower can't make the payments (because the rates have gone up), and they can't sell to a similar buyer for as much as they paid (because any similarly situated buyer can now afford less). In such a case, default is what's going to happen, because it's the only thing that can happen. To all of them. All at once.

By the way, did I mention that interest rates in mid-bubble were at historic lows, and had nowhere to go but up?

Were the soi-disant rocket scientists of Wall Street and the Connecticut hedge funds trying to defraud anyone with this stuff? I'd say probably not. As others have noted, placing big bets against nasty events is a great strategy for a fund manager, even if you're sure to lose big eventually, so long as you don't acknowledge what you're doing. (In the meantime, you get to pocket your fees, which can be colossal.) And the easiest way to do that is to convince yourself that you're doing something else that genuinely does "add value" --- which is a particularly easy job if the flaw is concealed within pages of ornate mathematical bafflegab. As someone once said, it is difficult to get a man to understand something if his salary depends on his not understanding it.

I'll admit I'd be slightly more credible here if I had scribbled this down a few years ago, so I could be quoting myself now. Instead, I just decided to stay the hell out of the real estate market. But I think the argument stands on its own. [Update: Then again, here's somebody else who did call it at the time. But he's got a Ph.D. In economics!]

One last note on housing questions --- my last post on the subject got a few comments blaming people who put themselves in hock up to their eyebrows, borrowing more and more against houses they already owned to pay for vacations, fancy cars and glitzy junk. And they exist. From the depths of Orange County, IrvineRenter dredges up a spectacular examples on a regular basis. But that wasn't everybody. Probably not even most of 'em, except in isolated enclaves like Irvine (where most of the buyers weren't really subprime, though many made the same mistakes, and where there's reason to believe that the real bleeding hasn't even started yet). So, I hope before posting one of those again, folks will take a good look at a story of another type. (And yes, the poor woman signed legal papers in a language she didn't understand. She speaks Spanish, and lives in the U.S. Does she have a choice?)