The movie was ‘Erin Brockovich’ [from 2000]. It’s based on a true story. The story of a legal assistant who, with her lawyer boss, successfully pursues a case against a California power company that has poisoned the water in a small California town with hexavalent chromium, a dangerous, genotoxic carcinogen. They win $333 million for the town’s residents in the largest direct-action lawsuit in US history.

For some reason while I was watching it I started thinking about the fundamental role of government. How big a role should governments play in society and the economy? How much can the state infringe on the rights of some to preserve the rights of others? Where should the line be drawn?

With the fallout from last year’s Arab Spring in Egypt and Tunisia, the disorder in Libya, the civil war in Syria and the street protests in Greece and Spain, there has been a lot of talk about ‘freedom’ and ‘democracy’, both of which clearly mean different things to different people.

Lately the United States seems obsessed with discussing freedom; whether it’s about health care, guns, marriage or other issues, someone usually puts a ‘freedom spin’ on the subject. No doubt many experts have written wise and erudite things about freedom. But I have a rather simple view.

In my mind there are two kinds of freedom: ‘the freedom to’ and ‘the freedom from’.

What do I mean by the freedom to and the freedom from? Well, here are a few examples that come to mind:

Should someone be able to operate a power facility more efficiently if the cost is to cause harm and death to people? My answer would be “no”, there should be rules about that [called laws and regulations when enacted by a government].

But it depends where you live both philosophically and geographically. Some would say yes. Some would say no. The answer is different in different places around the world – it is even different between so-called ‘free’ countries.

In the USA most of the focus, most of the time (but not always) is on ‘the freedom to’. So in many people’s minds in order to preserve consumers’ freedom of choice in health care [a fallacious argument], it’s ok to let 30 million people go without.

In contrast, in many parts of Europe the tradition has been to focus more on providing people with ‘the freedoms from’. So in places like France and Spain in order to preserve some people’s right to jobs, businesses are reluctant to start new businesses and hire people, thereby preventing lots of other people from finding any work at all. Now the very people whose jobs are most protected are vulnerable because their work is becoming uncompetitive, which makes their position unsustainable.

In both the USA and the countries of Europe a balance has been struck; different balances in different countries, but balances of a sort. Whether they have the right balance or not depends on your point of view.

There is always a natural tension between these two freedoms because often they are opposites of each other. In many cases, protecting the ‘freedom from’ infringes the ‘freedom to’ and vice versa. So getting the balance right is highly dependent on the quality of the debaters and the debate, neither of which has been very stellar anywhere lately.

The problem is that most people are just focused on achieving/preserving one of the types of freedom without regard to the other, rather than on figuring out how to establish the right balance. Establishing the right balance requires weighing the freedom to and the freedom from and finding the best way to preserve one while infringing the least on the other. Instead, there are two solitudes yelling at each other and not much listening going on.

Typically, at least at the extremes, the ‘freedom to’ people are free market advocates who believe that any government interference whatsoever gets in the way of economic activity, growth and prosperity. They want to minimize the role of government. It’s everyone for him- or herself. Caveat emptor.

The ‘freedom from’ people, on the other hand, want to protect themselves and others from every risk imaginable even at the expense of limiting freedoms like freedom of expression, freedom of religion, the right of association, etc., and inhibiting business from functioning, the engine that drives economic growth and human progress. Some people refer to this as a ‘nanny state’.

I thought Erin Brockovich was a good story and a bit of an uplifting movie. But by the end of it, I was positively depressed. From now on when it comes to old movies I’m sticking to Neil Simon comedies.

As western societies have become more polarized, two things are missing: none of the leaders seem to be telling the public the truth about the big issues and hard choices. As a result the extremes on the right and the left are trying to set the agenda and nothing is getting done.

Where are the leaders who are finding the practical middle ground that enables as much as possible those ‘freedoms to’ while preserving as much as possible those ‘freedoms from’?

If the political leadership won’t do it who will? What can each of us do?

FTTs aren’t new. They have been around in various guises in several places for a long time. So what’s the big idea behind implementing an FTT now? George Bollenbacher, an industry consultant, summed it up succinctly last week in a post on the Tabb Forum, an industry website: FTTs “…are generally imposed for one or both of two reasons: to generate revenue and discourage certain practices.” But he went on to say that in the past legislators have abandoned them when they are “difficult to collect, easy to avoid, and counterproductive”. He goes on to outline the key and confusing features of the proposed FTT. You can read his short article here:

http://tabbforum.com/opinions/financial-transaction-taxes-for-fun-and-profit

It’s difficult to know what the precise motivation is behind this latest effort to put through an FTT. But I surmise that is to both raise revenue and to “discourage certain practices” like high frequency trading, if not just to whack the financial industry. It’s no secret that a lot of EU governments can use all the money they can get, so a new source of revenue would be a good thing. It’s also no secret that in continental Europe the financial industry is tolerated but hardly looked upon with affection the way it is by the UK government, so another opportunity to punish the industry would go down well with a lot of continental politicians.

Do FTTs work? Well that depends on those three key factors that Bollenbacher mentioned. If it is difficult to collect, easy to avoid and counterproductive it probably won’t. Let’s look at each:

Where FTTs have been especially effective at raising revenue is where they are easy to collect and difficult to avoid. Money and other financial assets are mobile (What’s a Euro-dollar anyway?). Real estate is much less so. It’s really difficult to move your ten acre hobby farm and five bedroom, six bathroom house with tennis court and lap pool to Singapore. So FTTs work really well on real estate transactions because they are easy to collect, hard to avoid and since they are only levied when a real property is bought and sold, not counterproductive. They are easy to collect and hard to avoid because in most developed countries there is a procedure for land registration that is necessary to prove ownership. All transactions need to pass through the venturi of title registration, which is also necessary to obtain a mortgage.

Both Ireland and my home province of British Columbia have levied essentially an FTT for years on real estate transactions. In Ireland it is 1% on the first €1 million and 2% for anything over that. In BC, it’s 1% for up to $200,000 and 2% for the portion of a transaction over that. In both cases the tax is just a money grab. Neither tax discourages any practices.

It’s not counterproductive either, because individuals buy or sell property only occasionally. The small number of people in the midst of a transaction at any given time may get really ticked off, but as time goes by the memory fades and for people who have yet to enter the real estate market it’s only hypothetical until they do. For businesses, like real estate developers, it’s a slight increase in costs that gets passed along. So in summary nobody gets angry enough at the politicians to threaten their re-election and it hardly stifles the real estate market. In that respect it’s a no-brainer for politicians.

But will this FTT work? So far, the evidence is mixed, but color me skeptical. In a recent blog Steve Grob of Fidessa wrote that after France imposed its own FTT in August of last year, volumes on the CAC 40 continued to parallel other major European markets. But according the Economist, when Sweden imposed an FTT in the 1980’s 60% of the volume of trades in the most actively traded shares moved to London.

When taxes are imposed people try to find legitimate ways to avoid them. I have the great good fortune to live in Canada, a fifteen minute drive from the USA. That means I have the choice of buying gasoline here at home for $1.45 a liter and supporting our generous social programs or stopping at a gas station in the USA and paying $1.00. Each year millions of Canadians line up at the border to do their shopping in the States. The Costco store in Bellingham, a Washington border town, sells more milk than any other store in the state. The buyers are mainly Canadians who don’t want to pay more than twice as much in Canada due to the Canadian supply management system. The same phenomenon has turned Newry, a small town in Northern Ireland, into a shopping mecca for Dubliners because booze and just about everything else is cheaper than in the Republic.

In a continuation of the disturbing trend towards imposing extra-territorial rules that Dodd-Frank started in the US, the brilliant minds who thought up the EU’s new FTT think they have found a way to prevent transactions from moving away from their taxing ability. They are charging tax transactions on the basis of the residence of the issuer. So if a Canadian investor buys some shares of a German company from an American investor the transaction will supposedly attract the tax. Good luck with that. Apparently the European commission has never heard of Euro-dollars, how they came into being and why they exist. Listing salesmen from the NYSE and NASDAQ are probably already licking their lips.

So in summary, look for the UK and the US to ignore the EU’s new FTT; look for the European repo market to disappear and, therefore dealer capital to become even more scarce; look for investors to become less interested in European equities and debt; look for exchange listings to move to the US; look for derivatives transactions to move somewhere else, maybe Singapore; and ultimately look for the EU’s FTT to end up on the scrap heap. The question is when, before or after the damage is done.

Cypriot politicians rejected it because it called for what was euphemistically named a ‘tax’ on bank accounts, but what essentially amounts to the confiscation of private property. The EU told Cyprus that in order to get €10 billion in bailout funds, the government would need to collect €5.8 billion from bank depositors by confiscating 6.75% of the bank balances of depositors with less than €100,000 (which are supposedly insured) and 9.9% of accounts over €100,000.

What a contrast to the terms forced on Ireland in the midst of the 2008 financial crisis, when the Irish weren’t allowed to force even a modest haircut on the holders of bonds issued by the failing Irish banks, let alone on depositors. The Irish taxpayers were on the hook for the whole mess. But as we now know the ‘rules’ are fluid. Every deal is different.

This deal is different enough to scare every bank depositor in the EU. The thinking goes, “if it could happen in Cyprus, it could happen here”. How much cash would you keep in the bank if you thought there was a chance the government would snap up 6.75% or 9.9% of it? By rejecting the deal, the Cypriots may have prevented an immediate bank run across Italy, Spain and elsewhere.

Of course the Cypriots aren’t a sympathetic bunch. Apparently, they learned their banking skills from the Icelanders, whose banks ultimately grew so large that that small country couldn’t hope to save them. Now we are seeing Iceland part deux. But when the Icelandic banks went bust, the Iceland government (not a member of the EU) made the locals whole but let the foreigners, mainly British and Dutch investors, who had been looking for higher interest rates than their domestic banks were paying, go begging.

At the end of January Cypriot banks held assets of €126.4-billion, up over 60% from 2007 and about seven times the size of its tiny €18 billion economy, which is just a tenth as big as Greece, itself only representing 2% of the EU economy. As foreign money poured into Cypriot banks over the last several years, the banks bought (what else?) Greek bonds. So when Greece tanked, those banks were clobbered. The three main Cypriot banks lost over €6 billion last year.

For years the Eurozone bureaucrats have been ticked off at how welcoming Cyprus has been to the Russians. They think that Cyprus has become a money-laundering center. They also don’t like the way the Russian presence and influence has grown in Cyprus. (It seems Russian oligarchs like warm sun and beaches, tax havens and weak regulation. Who knew?) The Russians have about €19 billion in supposedly dodgy funds deposited in Cypriot banks. Russian banks have loaned another €35 billion to Russian-owned Cypriot companies and last year, Russia loaned the government of Cyprus $2.3 billion.

So imposing a ‘tax’ on bank deposits looked like an easy win for the EU and Germany. First, it would punish those damn Cypriots; and second, it would carve a few billion out of the Russians (let them pay instead of the Germans); while third, it would probably cause the Russians to enthusiastically lose interest in anything to do with Cyprus and decamp to friendlier climes, say, somewhere like Montenegro – a smaller economy and a cheaper country to buy; and fourth, it would destroy any chance of Cyprus continuing to build an offshore financial center that is angering Germany and France. So, win, win, win, win. Right?

Unfortunately the world isn’t as simple as that. As part of bailouts for Greece, Portugal, Ireland and Spain and help for Italy, their politicians accepted austerity measures that forced their people to make sacrifices, effectively through reductions in government program spending and in higher taxes. But the concept of confiscating depositors’ money was never put on the table. So this Cypriot experiment is a dangerous precedent that every EU investor and citizen will take note of in future decisions about what to do with their money.

It’s hard to imagine the EU managing this situation in a worse way. In one fell swoop, they have managed to get every European to question their confidence in the already shaky European banks. They forced Cyprus to appeal to the Russians for help, exactly the opposite of what they wanted. What in the world were they thinking? My father had a particularly pithy expression for describing someone’s ineptitude: “They couldn’t organize a piss-up in a brewery.”

I can only see three possible outcomes in this mess, in the following order of probability at the time of writing:

1. Russia comes to the rescue. After all, the Russians are already into the place for about €57 billion and Mr. Putin will want to protect his buddies. But the cost to Cyprus would be steep. Say… significant Russian ownership in the rich, newly discovered Cypriot off-shore natural gas fields and maybe a nice naval base. After all, they will be losing their Syrian base soon. Russia ends up with a significant economic base and a way to project their influence in the middle of the Mediterranean. Something nobody in the EU wants. I’m sure the Americans would also be thrilled at how well the EU has played this. No, thank you.
2. Cyprus goes bankrupt causing who knows what further contagion across the EU and perhaps around the world. This would be unfortunate because the actual impact is approximately the same as if Detroit goes bankrupt. I say “who cares?”, but a lot of people would be spooked. It could cause a bank run and broad financial dislocation similar to 2008. Again, no, thank you.
3. The EU comes to its senses and puts together a sustainable aid package that includes a lot of money injected directly into the Cypriot banks and kept off the government’s books. Loaning enough funds to the Cypriot government to cover the losses would be a recipe for a Greek situation on steroids. Probably this alternative is too much to hope for.

It’s déjà vu all over again, over and over again

First Ireland, then Greece, and Greece again, then Spain and Portugal, now Cyprus. The list keeps getting longer. The recipe for these ad hoc rescues, aside from the current attempt at confiscating private property, remains broadly the same: load up governments with debt so that they can bail out their banks. As a result of this band-aid approach of doing as little as is absolutely necessary, history is bound to repeat itself, perhaps on a much larger scale – think Italy. Banking crises keep ricocheting into sovereign debt crises and vice versa. The problem is that, so far, there is no consensus and above all, no will on the part of the European union countries, especially the German paymaster, to take the hard steps necessary to solve these problems once and for all.

In order to break the cycle, the Europeans need to take the steps that they have been talking about for four years – namely a bank regulatory union and perhaps some mutualized sovereign debt. Last year they agreed that bank rescue funds should go directly to recapitalizing banks, rather than making them sovereign obligations. That would break the bank/sovereign crisis cycle and could be the first step towards a banking union.

Until they take the steps that they know are necessary to prevent more of these situations, more of these situations are likely to happen. But the next time it might not be a puny little island in the Eastern Mediterranean.

Meanwhile Mario Monti, the technocrat prime minister that pulled Italy back from the abyss last year attracted only 10%. According to the Economist 25% of the eligible voters didn’t even bother to vote.

This is yet another instance of an electorate choosing fantasy over reality. It really casts doubt on democracy as an effective form of government… again.

In elementary school when I was going to school, every kid in Canada learned about democracy and Exhibit A in favor of democracy being the best form of government was a quote from Winston Churchill:

“It has been said that democracy is the worst form of government except all the others that have been tried.”

I think the assumption by most people, including the teachers, was that this was some sort of ringing endorsement of democracy. I doubt it. It’s funny they didn’t share another of Churchill’s more memorable quotes:

“The best argument against democracy is a five minute conversation with the average voter.”

The center-left group led by Pier Luigi Bersani garnered the most votes but not enough to form a government without coalition partners. Under Italy’s dysfunctional proportional representation system politicians seem to spend more time trying to form coalitions than they actually spend governing. To endure in power, coalitions generally need to gain the support of one or more of the extreme parties, which results in the watering down of any actions into tepid measures. Even then the average life of a government in Italy is a little over a year. In the 67 years since 1946 Italy has had 61 governments. You can imagine how much they didn’t get done.

Mario Monti became prime minister after Berlusconi was hounded from office precisely to enact the austerity and structural reform measures that the politicians didn’t have the guts to do themselves. He made some progress but not nearly enough.

Déjà vu All Over Again

Now this election result, accurately characterized by the Economist as a “disaster for Italy and for Europe”, could lead to another sovereign debt crisis, only this time not by a pipsqueak like Greece, but by the third largest economy in Europe with $1 trillion in debt. This could lead to another banking crisis because European banks hold lots of Italian debt, which in turn could spread the sovereign debt crisis to the home countries of those banks if they are called upon to back their banks the way the Irish and Spaniards backed theirs.

The problem is that the balance of power is in the hands of either Berlusconi or Grillo. Everyone knows what Berlusconi’s crackpot policies would do and nobody knows what Grillo would do; so both are scary prospects.

What a great time to have an Italian running the European Central Bank. Mario Draghi. I’m sure someone will be calling him on his commitment to do “whatever it takes” to save the Eurozone. But can he do enough?

Another week and another list of reminders of how despicably cruel people can be; I’ve come to the conclusion that it’s impossible to underestimate how badly people can behave towards other people.

It’s depressing.

But once in a while a story comes along that reaffirms our faith in the human race, whether as simple as the pay-it-forward chain of kindness that got going at a Tim Horton’s restaurant in Winnipeg last month and lasted for more than 3 hours and 228 orders. Or this story of a young basketball player, Jonathon Montanez, who showed wisdom and compassion beyond his years.

Have a look for yourself:

http://www.cbsnews.com/8301-18563_162-57570865/act-of-sportsmanship-gives-texas-high-schooler-shot-at-glory/

You’re welcome! Now have a good day!

In looking for reasons for the dire consequences of the financial crisis, and in an attempt to prevent it from happening again, Ireland is pursuing every avenue.

Now, there’s no doubt that in allowing a massive real estate bubble to over-power its economy the Central Bank of Ireland was the most irresponsible central bank in the developed world since Rudolph Havenstein. The president of the Reichsbank in the 1920’s German Weimar Republic boasted of how many Marks his bank had printed each day…until it took a wheelbarrow of high denomination notes to buy a loaf of bread.

Oh, wait a minute… what about El Banco de España, Spain’s central bank? Didn’t they have their own real estate bubble, too? Hmm… and maybe we should put Alan Greenspan’s Federal Reserve on this list, too. Ok, ok, Ireland isn’t alone.

There was no shortage of economists in America, but they still had the sub-prime crisis. And remember, economists are the ones who have said things like, “this is the end of business cycles” and other inane pronouncements like that over the years.

It’s easy to target economists. But would they have made a difference? Would more of them have prevented Ireland from succumbing to a massive real estate bubble? I don’t know.

So I’m not sure that having more economists is the answer.

Maybe they just should have taken advice from a bricklayer with some common sense.

Or maybe they could hire Bernadette Gallagher the chairperson of the Doyle Collection, an Irish owned hotel chain. While everyone in Ireland was partying, particularly the real estate developers, who were busy buying more Maybachs and helicopters (at the top of the market in 2007 Ireland was the top market in the world for helicopters), she was busy selling a collection of hotels for €1.17 billion. To paraphrase the Oracle of Omaha, “sell when everyone is buying”.

So I don’t know if central banks need more economists, but they could sure use some Bernadette Gallaghers.

In response to questions in the Irish Dail (Parliament) the government said that the department of finance had paid out €17 million up to the end of 2012 while the National Asset Management Agency had spent €39.4 million up to the end of June 2012 and the National Treasury Management Agency paid €9.5 million for advice on restructuring of the banking industry over 2 years and the National Pensions Reserve Fund wrote cheques for €2.5 million for advice on stabilizing the sickly Irish banks. No doubt some of the money went to advising on the negotiations with the EU and the IMF as well.

The National Asset Management Agency (NAMA in colloquial Irish) is the ‘bad bank’ set up by the government to take over about €74 billion of bad assets, including loans to about 850 developers mainly related to land and real estate development, from five Irish banks.

The National Treasury Management Agency provides a range of asset and liability management services to the government. These services include borrowing on behalf of the Irish government. That’s something they have done a lot of since the crisis, including covering the €40 billion needed to bail out a shady outfit that used to be called Anglo Irish Bank and going into hand to hand combat with the ECB and the IMF for better terms.

The National Pensions Reserve Fund was established to deal with “the costs of Ireland’s social welfare and public service pensions from 2025 onwards, when these costs are projected to increase dramatically due to the ageing of the population.” In the aftermath of the financial crisis the fund was directed by the government to invest some of the pensioners’ funds in the brain-dead Irish banks. I hope for the sake of those pensioners there is an astounding real estate recovery in Ireland.

All the legal work didn’t take place in Ireland. They employed lawyers in places like the Czech Republic, Portugal, Malta, France, Germany, Belgium, Isle of Man, Spain, BVI, Poland and Jersey. It’s amazing how supposedly smart Irish real estate tycoons (actually until late 2008 they all thought they were geniuses – listen to them in 2007 – “I  trained as a bricklayer but I found I had a real calling for high finance, I better buy another helicopter”) could diversify their assets into the worst projects almost everywhere.

These figures may have elicited some gasps from the average Irish citizen. But I think they got a lot for their money – relatively. They got the legal work to create NAMA, get loans from the EU and IMF, they nationalized a few financial institutions, they took over €74 billion in assets and, according to reports, the lawyers’ due diligence efforts saved them €477 million on the assets purchased from the brain-dead banks and €3.6 million from borrowers. (By the way if you have a hankering to own an Irish luxury hotel-resort in the middle of nowhere, perhaps to turn it into a retirement home, call NAMA, I’m sure they have lots.)

In contrast, also last week, the Toronto Star reported that lawyers’ fees related to the bankruptcy of Nortel, the failed Canadian former hi-tech angel have topped $838 million so far, all paid by the Nortel estate. The fight is between the creditors of Nortel, including the pensioners; some of whom have worked for the company for over 40 years, some of whom are disabled and who have had their pensions and benefits slashed by more than 40%; and the bondholders, mainly hedge funds who bought the debt at cents on the dollar. The fight is over the $9 billion in cash that’s left; chump change compared to Ireland. A recent attempt at mediation failed. This means there will be years of litigation that will eat away more of the money, a lot more.

There is a lot to say about this situation. But the bottom line is that some morality should prevail. The hedge funds should take a nice return, not full face value plus interest, and they should make an effort to enable these thousands of people to live in relative financial security rather than penury. It would be a great way for them to get up every morning, look at themselves in the mirror and say “I did the right thing for my investors and for society”. Settle this.

Innovation in the capital markets has produced many improvements that serve those users. Just to name a handful that relate to exchanges:

• The change to negotiated commissions at the end of the 1970’s reduced the absurdly high fees set in a ‘cartel-like’ way by exchange members on exchange traded equities significantly (think of this as “friction” in the equity markets);
• The reduction in bid-ask spreads from 1/8^th of a dollar on exchange equity trades and the reduction in option trades from 1/16^th of a dollar ( a “steenth”) on option trades (also ‘friction’);
• The invention of listed options to hedge equity, foreign exchange and commodity levels and T-Bond futures to hedge some interest rate risk and to speculate as well;

There have been many, many beneficial innovations. But many innovations also produced opportunities for others to make money without providing any benefit except to themselves; let’s call them “rent seekers”.

The 1980’s and 1990’s were good for financial innovation. That’s not to say there weren’t unintended consequences. In fact, FINCAD’s first marketing piece was a simple one pager entitled “Derivatives Fiascos” that listed a bunch of mistakes that so-called prudent companies had made, next to their huge losses.

But somewhere around the late 1990’s the societal benefit curve started to head downwards with more and more innovation not being in the interests of the greater good.

Up until then, for example, the members owned the exchanges. Exchange members were the brokers who used the exchanges to execute their customers’ trades. There was a sort of alignment between the exchanges and their primary customers, nothing like the blatant misalignment that exists today.

Today exchanges are publicly listed, profit seeking enterprises. That’s why everybody and his brother (ironically, mainly the former owner/members of those exchanges) is trying to come up alternatives to the exchanges. This has resulted in a fragmentation of the markets. But the biggest cost has been in the emergence of high frequency or ‘algo’ traders (HFTs).

The orders of HFTs, through convoluted rules, often get preferential treatment. What’s more, they get paid by the exchanges for their trades. The excuse for this is that they are providing “liquidity”. Except that they have no obligation to provide liquidity when it’s really needed. On the NYSE, traditionally, market makers provided liquidity and got certain advantages for doing so. But they were obligated to continue to post bids and offers when they were really needed.

When I call my broker and place an order, I don’t get paid for “providing liquidity” and my order is likely put behind ones from the HFTs.

The whole concept of liquidity providers and liquidity takers is crap; except if those providers are obligated to provide it in extreme circumstances. Normally either one wants to buy or sell. You can’t do either without someone on the other side of the trade. Anyone who wants to trade is both providing and taking liquidity. So the entire justification for exchanges a) enabling certain HFTs to push their order in front of yours; and b) paying them for doing a transaction; is flawed. So why do they do it?

Simple; exchanges get paid for doing transactions. So they want more transactions. If you are buying or selling one of a few hundred highly traded stocks [that don’t even need the liquidity provided by HFTs], chances are the other side of the trade is an HFT. Part of the money you pay to do the trade goes to the HFT.

This insane situation results from two stupid actions. One by the very investment banks and brokers who were the member/owners of the exchanges; they saw a quick buck in selling their ownership interests in the exchanges; and one by the regulators who thought competition between exchanges was a good idea. Bah!

The real competition is between buyers and other buyers and between sellers and other sellers. Every effort should be made to bring all sellers of one asset together with all buyers of that asset. That’s the way to minimize bid-ask spreads.

This is a great example of how innovation has hurt the market. However, now that the HFTs are big profit machines, they employ lobbyists. All this has done is create a new class of renter seekers, the HFTs, who get paid for adding no value and, in fact, probably inject more ‘friction’ into the system than they eliminate; and it has fragmented the market because the investment banks and brokers have been on a frantic quest to set up alternative trading venues like ‘black pools’ to try and avoid the exchange fees that they no longer get a piece of.

So there is no alignment between the exchanges and those who use them.

Exchanges should be run as non-profit utilities with boards of directors composed of their users. Oh, isn’t that what exchanges were like before they were de-mutualized in the 1990’s through ‘innovative’ thinking? Who knew?

Is it just me or do you notice that we have a real political leadership vacuum today? I’m reminded of Europe in the 1930’s when nobody had the guts to stand up to Hilterite aggression and kept trying to pass the buck through appeasement. What is missing today is real political leadership, whether discussing the Eurozone issues, the US deficit or any of the many other problems that are confronting the world today. I’m not sure why it’s missing, but we sure need it today. This has made me think, well, what is real political leadership? Google “leadership” and you get about 475,000,000 results. It’s not like nothing has been written about it. But here is what I think political leaders need today:

1. The Courage to lead and to tell the truth.

It seems to me that modern political leaders in the Western world lack the desire to actually lead (they want a ribbon for just showing up); or the courage to tell the truth; or else they are prisoners of their political handlers who are always focused on coming up with messages that the electorate will accept or support, instead of what is true and important.

A couple of years ago my wife and I were in Barcelona during a general strike. One morning we were in a Starbucks and my wife asked a couple of young women who worked on the strike-bound local bus service what the issue was that was causing the strike. They said it was “austerity” and that austerity wasn’t necessary because “the politicians have lots of money, they don’t need to take money from us.” Clearly they didn’t understand that Spain had serious problems in its banks and, with the end of its real estate bubble, the economy was grinding to a halt and the government would need to deal with the hangover. Why didn’t they know this? I don’t speak Spanish, so I don’t know what political leaders were saying, but, based on what Canadian and American politicians tell the people here, I’m sure nobody was telling them the truth.

For example, the US just went through a presidential election. Clearly one of the biggest issues, if not the biggest, that should have been addressed in the campaign because it will affect every American through increased taxes and/or decreased entitlements, was (and is) how to realistically deal with the fiscal deficit. Yet, throughout the campaign and particularly during the presidential debates, little attention was placed on it.

Perhaps it takes a more dire situation to get leaders to address the truth as Winston Churchill did when the very survival of Great Britain was at stake. He told the truth and his people rose to the challenge. Another leader of the 20^th century, Franklin Delano Roosevelt, was also able to motivate his electorate and make significant changes in the US. Where are the Churchill’s and FDR’s today?

http://www.youtube.com/watch?v=BzgPpdjx-Kw

http://www.youtube.com/watch?v=z9CBpbuV3ok

2. The Vision to know what needs to be done.

Leaders have to know what needs to be done. This isn’t just determining how to avoid the issue, as in “kicking the problem down the road”, a phrase that has already become cliché, and is what the Eurozone ‘leaders’ have been consumed with and what the US congress has been doing for years.

A vision can be simple or complex. But simple ones are easier to get support for. However, true leaders know that even simple ideas must take into account complex circumstances. Churchill’s idea of defending freedom was a simple and understandable idea. But conducting a multi-front world war wasn’t.

Ronald Reagan’s simple idea of outspending the Soviet Union on defense with the aim of bankrupting them was a simple idea. But it was grounded in understanding a complex situation. It worked. ‘Star Wars’ wasn’t the sole cause of the Soviet Union’s downfall but it was one of the factors that provoked Mikhail Gorbachev to say ‘uncle’.

In contrast the ‘no new taxes’ simple idea that Grover Nordquist and the ‘Americans for Tax Reform’ have handcuffed to most Republican members of congress and senators is a simple idea that doesn’t consider all the complexities of running a country. If Nordquist had been the influential power he is today back at the end of the 1930’s, America could not have gone to war and could not have been the deciding factor in defeating the Nazi’s and the Japanese. It couldn’t afford it without deficits and new taxes. What would have resulted? Well… Sprechen sie Deutsch? Thankfully, with the deal to fix the fiscal cliff, perhaps Nordquist’s fifteen minutes of fame are up.

3. The gift of Persuasion

A key element of leadership is persuasion. If a leader can’t persuade others to willingly follow him or her, he or she gets nowhere. Leadership requires both articulateness and authenticity. People do what they want to do. A true leader can influence people to want to do the right thing, even at their own cost.

Ronald Reagan, the ‘Great Communicator’, was able to get people to follow him. Consistently throughout his two-term presidency when asked, a majority of Americans disagreed with his policies but agreed with what he wanted to do. Go figure.

Barack Obama connects with the American people when he speaks from the heart, as he did following the Newtown massacre. He runs into trouble when he moves away from subjects that engage the average person. The secret is to link complex issues to everyday subjects the way that Reagan and FDR did.

One of FDR’s most successful efforts involved explaining the lease of hundreds of US destroyers to Great Britain before the US entered the Second World War. He said, to paraphrase, if a neighbor’s house is on fire, wouldn’t it be right to loan them your garden hose? In spite of the isolationist forces and the Nazi sympathizers in the US at that time, he prevailed and provided vital aid to Britain at a critical time. Most Americans probably didn’t understand the intricacies of providing weapons of war to a combatant when you are a neutral country, but they understood the analogy.

There are no losers at elementary school sports days anymore. This annual event takes place at thousands of schools in North America every spring. Back when I was in elementary school about 50 years ago (walking up hill for three miles – both ways – to and from school in three feet of snow in bare feet , ya, ya…) sports day was called “the track and field meet”. Prize ribbons went to the first, second and third place finishers in each event and they went on to compete in the city-wide meets to possibly become city champions. Everyone else got nothing but the ‘thrill’ of competing. Today everyone is a ‘winner’. Everyone gets a ribbon for what? For just showing up.

There has been much gnashing of teeth about this in some quarters because some people are concerned that kids coming out of school are arriving with a sense of entitlement and they aren’t being “prepared for the real world”. But I’m beginning to wonder. Maybe they are being prepared for the world as it is today. Because it’s clear that one of the things that has disappeared along with “the track and field meet” is accountability.

It’s hard to think of a time in the developed world, without a war in its midst, when so many people who have done so much harm to others have gone unpunished or at least not been held accountable. Just off the top of my head here’s a random list of examples where nobody has been appropriately held accountable (this is just a sample from a very long list I am sure).:

• The Republicans under George W. Bush cut taxes, started two very expensive wars and ran massive deficits, all without making the slightest effort to pay for them. Remember, those big deficits started when the economy was strong and tax receipts were good. Their policies contributed to the financial crisis. And yet the Republicans weren’t punished. In fact they ran in the mid-term elections in 2010 using the argument that the Democratic administration hadn’t done a good enough job of cleaning up their mess. And they got away with it. This is like sinking your ship by driving it into an iceberg and then saying forget we ran into an iceberg, let’s talk about how the lifeboats are being managed.
• The Bush administration intercedes using the federal prerogative to prevent the five state governments in the most affected states from stopping abusive and, as it turns out, financially fatal sub-prime lending, then after the crisis the Republicans fight to prevent the creation of an effective consumer protection authority. Nobody points out who created the mess in the first place and why the new agency is needed.
• Millions of people’s lives are ruined by the sub-prime mortgage mess. Brokers manufacture fraudulent applications; banks securitize the mortgages (and it is beyond belief that people in those banks didn’t know what was happening) and sell them to Fannie Mae and Freddie Mac and others. It costs US taxpayers billions and others lots, too. Nobody goes to jail.
• The banks pump out CDOs and some are accused of creating CDOs that they know are junk, and then selling them to their clients and then betting against them. Nobody goes to jail. Sure, some banks’ shareholders take a haircut but the perpetrators get off relatively scott free and can live off the oversized bonuses they earned by doing it, for the rest of their lives. Nobody goes to jail.
• Millions of people lose their homes in foreclosures. Some banks and big mortgage servicing organizations are caught faking documents (faking – dictionary definition: forging, counterfeiting, etc.) and breaking multiple laws, forcing people out of their homes, typically people who have few resources and are at the end of their ropes.  Employees actually admit they forged signatures because they were told to by their bosses. Now there is a rumor that the banks will settle with the OCC for $10 billion. That seems like a lot of money, but compared to the damage done it’s a drop in the bucket and nobody goes to jail. What if an individual cheated someone out of his home through fraud? There would be a trial and chances are, under the American justice system, he would go to jail for a long time. This, this is like saying, “I know I ruined your life, I’m really sorry (really?). Here’s $5.00.” Nobody goes to jail.
• Silvio Berlusconi says he will run for the Italian premiership again. The man, whose scandal plagued regime presided over Italian politics for more than a decade and who did nothing, nothing at all, to stem a once great country’s decline, amidst a youth unemployment rate in double digits before the financial crisis (now over 25%), threatens to run for office again and some people actually take him seriously. Really? One of the most visceral scenes of 2011 for me was watching his cavalcade drive to the Italian presidential palace in November 2011 to resign, amidst cries from bystanders of “buffoon”.  It wasn’t the cries of buffoon that made it visceral, it was the fact that in the land of Ferrari, Lamborghini, Alfa Romeo, and, yes, Fiat, he and all his buddies showed up in… wait for it… Audi’s. What better example of the destruction he has caused in Italy than the Italian premier and associates showing up driving a parade of German cars. If Berlusconi is still a credible candidate for political office then who isn’t? What do you need to do to be ruled out?
• Anglo-Irish Bank was the center of the plague that destroyed the finances of Ireland. Ireland is an example of a country of 4.5 million industrious, hardworking and well-educated people who were cheated by literally less than 1,000 people, incompetent (and some dishonest) bankers, lying developers, inept central bankers and regulators and oblivious politicians.  Think of it, the CEO of the bank borrowed €80 million from his employer. Then he hid it at financial reporting dates by offloading the loans for a few hours to another company before bringing them back on to the bank’s balance sheet. If it was only €80 million, no problem, but Anglo’s bad loans cost the people of Ireland over €40 billion. Consequences: government pay cuts, benefit and pension reductions, layoffs and, in general, sacrifices by a whole nation of people who didn’t directly cause the problems. Jail count, so far: zero.
• Hugo Chavez, president of Venezuela, need I say more?

It’s time these individuals (and others that I haven’t mentioned) were held accountable for their far-reaching actions. How can we expect better of the next generation if we don’t set a good example?