Background and basics of a buzz word: ‘Plutonomy,’ Part One

August 31st, 2010 by Mike Hinshaw

People considering, already in, or emerging from bankruptcy protection should have the best information possible in order to plan for their financial futures.

Economy, foreclosures, lending, medical costs

Accordingly, as closely as we can, we monitor stories and studies about bankruptcy itself, of course–but also these core subjects: economy and unemployment; foreclosures and housing starts; lending (mortgages and credit-card); and the health-care system (including medical bankruptcies).

Our latest three posts are as follows:

Origins of ‘Plutonomy’

Today we’ll look at a relatively new term: plutonomy,apparently first used by Citigroup analyst Ajay Kapur in a 2005 paper for clients. An October paper, also crediting two other Citigroup analysts, refers to a September paper but then expounds on the term, although somewhat scattered in and among pitches to potential clients. Some of the paper reads like working notes, but following are selected, crucial excerpts, with some of our own reformatting for clarity’s sake :

  • The World is dividing into two blocs–the Plutonomy and the rest. The U.S., U.K. and Canada are the key Plutonomies–economies powered by the wealthy. Continental Europe (ex-Italy) and Japan are in the egalitarian bloc.
  • In plutonomies the rich absorb a disproportionate chunk of the economy and have a massive impact on reported aggregate numbers like savings rates, current account deficits, consumption levels, etc.
  • [T]he world is dividing into two blocs–the plutonomies, where economic growth is powered by and largely consumed by the wealthy few, and the rest. Plutonomies have occurred before in sixteenth century Spain, in seventeenth century Holland, the Gilded Age and the Roaring Twenties in the U.S.
  • What are the common drivers of Plutonomy?
    1. Disruptive technology-driven productivity gains,
    2. creative financial innovation,
    3. capitalist-friendly cooperative governments,
    4. an international dimension of immigrants and overseas conquests invigorating wealth creation,
    5. the rule of law,
    6. and patenting inventions.
  • Often these wealth waves involve great complexity, exploited best by the rich and educated of the time.

How to participate

The idea for the analyst team, of course, was to sell a method by which their clients could prosper–in other words, trading strategies to exploit the wealth-gap economy.  One way, they wrote, was to buy equities in general. But better yet, buy stocks of companies that cater to the really wealthy–hence, the “Plutonomy basket”: a mix of equities issued by companies that cater to the very rich. In the pre-recession era the team was writing, they offered a basket of “luxury stocks” that had returned an enviable “an annualized return of 17.8%, handsomely outperforming indices such as the S&P500.”

And why not? After all, the team reasons, “Perhaps one reason that societies allow plutonomy, is because enough of the electorate believe they have a chance of becoming a Pluto-participant. Why kill it off, if you can join it?”

In short, a plutonomy seems merely an embodiment of the old adage, “The rich get richer, and the poor get poorer.” To a certain, the adage holds true.

Of and by the wealthy

But the rich/richer, poor/poorer framework aphoristically glosses over the middle class. In that sense, plutonomy is a portmanteau, blending economy with plutocracy: an economy driven by the wealthy, of and by the wealthy.

It is in that sense that a Wall Street Journal blogger admonishes us in an Aug.5 “Wealth Report” to face the “surprising” recognition of “just how much or our consumer economy is now dependent on the rich, and how that share has increased as the U.S. emerges from recession.”

Blogger Robert Frank notes that, “According to new research from Moody’s Analytics, the top 5% of Americans by income account for 37% of all consumer outlays . . . .

“By contrast, the bottom 80% by income account for 39.5% of all consumer outlays.

“It is no surprise, of course, that the rich spend so much, since they earn a disproportionate share of income. According to economists Emmanuel Saez and Thomas Piketty, the top 10% of earners captured about half of all income as of 2007.”

A question of stability

To his credit, Frank also recognizes the inherent problem:

“The data may be a further sign that the U.S. is becoming a Plutonomy–an economy dependent on the spending and investing of the wealthy. And Plutonomies are far less stable than economies built on more evenly distributed income and mass consumption. ‘I don’t think it’s healthy for the economy to be so dependent on the top 2% of the income distribution, [Moody's chief economist Mark] Zandi said. He added that, ‘In the near term it highlights the fragility of the recovery.’ ”

However, Frank stops short on two fronts, the evolving recognition that:

  1. the economy already has become a Plutonomy, and
  2. some experts believe the parameters “of and by” have been transcended, such that what we have now is an economy “of, by, and for” the wealthy.

[EDITOR'S NOTE--Continued in Part Two.]

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The bankruptcy reform act of 2005 increased the complexity of the law, but if you are overwhelmed by debt, filing for bankruptcy protection may be your most pragmatic alternative. If you are facing foreclosure of your home (sometimes referred to as your “primary residence,” as opposed to a second home, or “vacation home”), bankruptcy protection may be your best route to saving the home. If you are struggling with medical bills, you may be in a special category for setting debt aside, and if you have problems with credit-card debt, you should be aware that some of those laws have changed recently, too. Whatever you do, before making major, life-changing financial decisions, consider consulting a trained, experience attorney. For bankruptcy basics, please see:

Principles of bankruptcy

Basics of bankruptcy

Introduction to Chapter 7

Introduction to Chapter 13

Jumping the gap from Wall Street bonuses to cornbread mix

August 17th, 2010 by Mike Hinshaw

That recovery we keep hearing so much about?

Seems to be going be well–if you work in the neighborhood where the Great Recession was engineered.

According to an Aug. 13 article in MarketWatch, “Bonuses in the financial services industry will increase slightly this year as the sector outpaces the recovery of the broader economy, according to a forecast published by Johnson Associates Inc. Thursday.”

Supposedly, it’s a big deal among legislators, too. Apparently some of them see problems with bonuses for those in the sector that caused the problems that nearly drove the economy off the cliff.

“The increase in bonuses would come at a time when rising compensation in the sector has become a hot issue for lawmakers in the wake of the financial crisis.”

Of course, bonuses were off the charts during the boom leading up to the crisis. Trouble is, nothing changed during

Cuomo’s report

“But when the financial crisis hit in 2008, compensation stayed at these levels even as bank earnings plummeted. According to an investigation by Attorney General Andrew Cuomo’s office, at Bank of America net income fell to $4 billion from $14 billion, but total payouts still remained at $18 billion. Citigroup and Merrill Lynch, now owned by Bank of America, lost $54 billion in 2008, but still paid out about $9 billion in bonuses. Read more about Cuomo’s [2009] report here. [" According to the 2009 article, "Attorney General Andrew Cuomo's office analyzed 2008 bonuses and earnings at the nine financial institutions that were the first to receive government money from the Troubled Asset Relief Program, or TARP."

Another bailout beneficiary, GM is doing pretty well, although fellow bailee Chrysler is still struggling. Ford, not a bailee, is doing OK, too. Other big corps are reeling in the dough, like say, Disney (riding blockbusters Toy Story 2; Alice in Wonderland; and Iron Man 2).

The 'new abnormal'

And people aren't just buying downsized cars and going to the movies. Describing a "bifurcated market," this July 29 BusinessWeek article says bewildered-and-bewildering consumers are scrimping on soap and other basics in order to blow money on luxuries.

"The new abnormal has given rise to a nation of schizophrenic consumers. They splurge on high-end discretionary items and cut back on brand-name toothpaste and shampoo. Companies such as Cupertino, California-based Apple, whose net income jumped 94 percent in its last quarter, and Starbucks Corp., which saw a 61 percent increase in operating income over the same time frame, are thriving.

"Mercedes-Benz is having a record sales year; deliveries of new vehicles in the U.S. rose 25 percent in the first six months of 2010. Lexus and BMW were also up. Though luxury-goods manufacturers such as Hermes International SCA and Burberry Group Plc are looking primarily to Asia for growth, their recent earnings reports suggest stabilization and even modest improvement in the U.S."

Well, who can blame the American consumer for being at least a little crazy?

As the Aug. 17 Detroit Free-Press says, "The U.S. lost nearly 3 million jobs in the second half of 2008.

A 'deep hole'

"The hole was so deep that even with the 620,000 private-sector jobs that the Economic Policy Institute reports were added over the last seven months, it doesn't feel like a recovery to many.

"Charles Ballard, a Michigan State University economist, agrees that the recovery is very slow, but not ending.

" 'We're coming out of the worst economic downturn in our lifetimes,' Ballard said. 'Given that a sledge hammer was taken to the economy when Lehman Brothers failed, we're lucky the damage hasn't been worse.' "

Earlier in the year, some encouraging reports were noted, hinting that unemployment, foreclosures and bankruptcies had bottomed out. More recent reports say no.

Foreclosures still raging

From an Aug. 13 ABC News report: "In July, banks repossessed the second highest monthly number of homes ever, according to the California-based foreclosure listing firm RealtyTrac, Inc. There were 92,858 properties taken over by banks in July, an increase of nine percent in the month and six percent for the year.

"A sagging job market is the likely culprit. The silver lining: Overall foreclosure activity in July did drop about 10 percent from a year ago. But it was the 17th straight month of foreclosure actions on more than 300,000 properties, according to RealtyTrac."

Apple cakes and cornbread

That report also describes a consumer pushback of sorts, as people sick and tired of waiting for help are increasingly taking matters into their own hands--even if their plans are, let's say, fanciful. Efforts range from representing themselves in court--as more judges are  getting savvy to lender tricks--to having large-scale "bake sales."

One woman who lost her house after losing her job has been inspired by "Teaneck, N.J., homeowner Angela Logan [who] sold enough of her $40 apple cakes to qualify for a loan modification that allowed her to save her home. She dubbed her venture Mortgage Apple Cakes.”

Fueled by visions of Logan’s success, Beverly Davis decided to sell her grandmother’s cornbread recipe (10 bucks for the dry mix or the mix plus a cast-iron skillet for $40; see cornbreadmillionaire.com)–in hopes of raising  80 grand in order to buy her house back. On August 13, the ABC report said she had 21 days left. A quick check at her site shows an Aug. 4 post indicating that the bank told her the house will not be auctioned but instead will go on the market with a “firm price”–but (of course!) they can’t reveal to her any advance info…

No, that would make too much sense–to give out information to the most motivated buyer for the house, somebody who already thinks of it as home.

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The bankruptcy reform act of 2005 increased the complexity of the law, but if you are overwhelmed by debt, filing for bankruptcy protection may be your most pragmatic alternative. If you are facing foreclosure of your home (sometimes referred to as your “primary residence,” as opposed to a second home, or “vacation home”), bankruptcy protection may be your best route to saving the home. If you are struggling with medical bills, you may be in a special category for setting debt aside, and if you have problems with credit-card debt, you should be aware that some of those laws have changed recently, too. Whatever you do, before making major, life-changing financial decisions, consider consulting a trained, experience attorney. For bankruptcy basics, please see:

Principles of bankruptcy

Basics of bankruptcy

Introduction to Chapter 7

Introduction to Chapter 13

Week that was: Vulnerability of the consumer highlighted as rarely before — debt, mortage, credit, housing issues collide

August 25th, 2009 by Mike Hinshaw

[Editor's note: This is the follow-up to a "week that was" review of several consumer-debt issues that  were in the news from August 15 to August 21, 2009.]

In the preceding post, we looked at a “debt-relief” company that is getting sued by the Texas Attorney General, in an attempt to get back more than $4 million for more than 2,500 customers who got hung out on the line when the company shut down and filed for bankruptcy. What really stinks about that can be found in the AG’s petition, describing the “aggressive practices” of the so-called debt-relief industry in general: “Consumers interested in debt settlement likely are also considering options such as traditional credit counseling, debt management plans, debt consolidation loans, and possibly bankruptcy.”

Imagine that: bankruptcy was absolutely not a good idea for its customers but was a nifty-good idea for itself.

The petition goes on to spell out the dangers of dealing with companies like Debt Relief USA. Repeating that such companies “may also disparage” other, better methods, the petition continues: “In reality, the debt settlement company has no interest or ability to advise consumers on the best option for them, rather they are selling their program.” Then it lists “inherent risks” with the practice, risks “that can have catastrophic effects to the consumer.”

Here’s an amended list of some of those risks:

  • additional interest, late fees, over-limit charges and assorted, hard-to-predict other fees;
  • stuck with a much higher balance than before, consumers can “end up in a far worse financial situation than when they entered the program”;
  • ramped-up, harrasing collection efforts;
  • creditors may file lawsuits, which most “debt-settlement” companies can not help with, perhaps resulting in numerous judgments;
  • the consumer’s credit report will likely take severe hickies, making it tough to get a car, a house–or even a job;
  • if the company is actually able to secure a settlement, by the time all the fees are aggregated, it’s likely that any realized will be far less than promised;
  • finally, if a settlement is reached, whatever debt forgiveness that does occur will be treated as taxable income.

Also last week, the first of Team Obama’s credit card reforms kicked in, on August 20, when millions across the U.S. were to begin seeing “a host of improvements on their accounts,” according to Daily Finance. Unfortunately, the account continues, “many have already begun to see higher interest rates. Anticipating the changes, many credit card companies have spent the last few months rushing to raise raise rates before the first changes take effect.

“In the past few months, credit card companies have been racing to raise interest rates on millions of credit card holders. People with cards from American Express (AXP), JP Morgan Chase (JPM), Citigroup (C), Discover (DFS), Capital One (COF) and others have been reporting increases even if they’ve never made a late payment and have excellent credit scores. At this point, it looks like all cardholders who carry balances from month to month will see their credit card costs increase.”

According to Jane J. Kim of  The Wall Street Journal, the new rules are “the first of a series of federal actions that constrain card issuers from changing terms on customers.”

Kim summarizes this set of changes by saying that “banks must comply with parts of the recently passed Credit Card Act of 2009 by mailing bills at least 21 days before their due dates and providing at least 45 days’ notice before making a significant change to their rates or fees. Currently, banks are generally required to mail billing statements at least 14 days in advance and provide a 15-day notice of altered fees or rates. The new rules also will bar banks from increasing fees and rates without warning when a consumer misses a payment or exceeds a credit limit.

“Consumers also will be allowed to avoid future interest-rate increases and pay off any outstanding balance over time under the original rate terms. Currently, if a consumer gets hit with a penalty rate, for example, they aren’t given the option to reject the rates.”

“In the past,” writes Lita Epstein at Daily Finance, “by the time cardholders learned of a rate increase, there often wasn’t much time to protest. Even if they chose to do so, they only had two options: paying off the account or locking in the current rate by agreeing to close the account. For many struggling to meet bills after a job loss or other emergency, neither of these options were viable.”

But is anybody surprised that the big banks have already found loopholes? For example, writes Epstein, “Many credit card issuers are getting rid of fixed rate cards completely and instead offering variable rate cards set to an index. That way they don’t have to send notices at all. As the index rate goes up, so does the credit card rate. This method enables them to avoid the protections in the new law.”

Giving the credit card industry so much lead time to plan for the law’s phased in approach is already hurting consumers. Again from Epstein, “Unsurprisingly, these credit card changes have accelerated cardholder default rates,” and “For people who have lost their jobs, rapid interest rate increases and minimum payment changes put even more strain on their budget and will push them even faster toward bankruptcy.”

Indeed, concludes Epstein, although the new legislation may be good for “some consumers, it would have been far more useful if its provisions were enforced immediately upon passage. When it gave the credit card companies so much lead time, Congress also gave them the opportunity to figure out ways around the changes before the bill took effect. Ultimately, with higher fees and interest rates pushing more customers in default, everyone loses — including the credit companies.”

That’s not a bad take. On the other hand, given what we know about “perverse incentives” for the mortgage industry to deny help for hard-pressed homeowners, it kinda sorta makes one wonder whether credit card companies have found a way to securitize credit-card debt in such a way that they come out ahead if consumers default and declare bankruptcy.

Next in “The week that was, Part 3″: housing sales versus housing starts and auctions; obsolete regulation of credit derivatives.

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Related resources for personal bankruptcy:

Overview of the bankruptcy process, with links to Chapters 7 and 13.