Saturday, May 23, 2009

How Unions and Governments Destroy Businesses

In the newspapers there is much discussion of what General Motors should do. This discussion has gone on for many years. Until now, it was a conversation carried on by serious analysts and auto industry experts. They all said the same thing: GM needed to clear out its management, dump much of its expensive, "legacy" overhead, and produce better cars. Why didn't it do so?

And now, it's broke. And even politicians think they know how to run an auto company. Just read the papers. "Obama insists on changes," says one headline.

Normally, the politicos should hold their tongues...and let an industry's owners run their businesses. Alas, as of a few days ago, the politicians ARE the owners.

Here's a question:

When the government takes a majority stake in the auto business you know you are:

A) In a bad dream
B) In a bad way
C) In a bad country
D) In France

Correct answer: well, we we're not in France. But as for the rest, it could be any of them...or all of the above.

Here's an easier question. Who will the U.S. government put on the board of directors of General Motors?

A) A political hack
B) An industry hack
C) A far-sighted maverick who will shake up the business and put it on the road to growth and prosperity

If you answered "C" ― you are from another planet. There is a reason neither governments, nor workers should own businesses. In the following, roundabout way, we explain why...
 
Thirty-two banks have shut down so far this year in the United States. Little, mismanaged banks go broke. But big, mismanaged banks get federal money. With these subsidies and bailouts, the big banks get larger...and live to foul-up another day.

Poor Warren Buffett seemed a little discouraged at his annual shareholders' fest in Omaha. He must be nearing the end of his career. And consumers just aren't buying as much furniture, cola, and candy as they used to, he told the faithful. Berkshire Hathaway's profits were 10% below those of last year.

Swine flu seems to be disappearing from the front pages. Has it gone the way of Y2K and terrorism? Has another great disaster been averted? Might be too early to tell...

Oh you doomers and gloomers, cheer up! There's always some other disaster waiting for a headline. How about this? The Seattle Times looks at Las Vegas and sees what it calls "the next global crisis." After 10 years of drought, Las Vegas is running out of water.

The city fathers are thinking of all sorts of solutions ― except, of course, for the obvious and effective one. They're planning on huge pipelines...hundreds of miles long...and sucking water out of aquifers millions of years old. But, according to the paper, Las Vegas charges only about a tenth as much for its water as Atlanta does. The simple solution is to let free enterprise provide water...so that it could be priced correctly.

Colleague Chris Mayer has been following the water crisis story since the introduction of his newsletter, Mayer's Special Situations, in 2006.

"Water is not just a problem in Las Vegas. The lack of sources for fresh water is a problem facing much of the American West, though the problem is particularly acute there and in the state of Nevada generally. Nevada is the most arid state in the union," says Chris.

"The tight water supply has implications all over the West. In Arizona, you can't build a residential development unless you find a 'designated assured water supply' that can sustain that development for 100 years. I could go on and on about this kind of thing. Suffice it to say, the American West faces a water crisis."

Maybe the increase in water prices would discourage people from planting Georgia-style grass lawns in the Nevada desert. Or maybe it would discourage people from moving to Las Vegas in the first place. But that's the thing with capitalism; it doesn't take people where they want to go...it takes them where they ought to be. That's also why people hate free enterprise so much. Where they ought to be is, often, where they least want to go. In the present example, people think they have a right to water ― practically for free. They think there's a 'water clause' in the Constitution that says government is supposed to provide them as much water as they want at a price they can afford.

Most things work better when they are run by private enterprises. Too bad. Free enterprise is out of style. The days of privatizing are over. Now, everyone wants the government to take charge.

 

What a turnaround from a few years ago ― when people thought they could solve practically every problem by privatizing it. And then, the voters would buy shares in the newly privatized companies...and we'd all get rich!

"For water, the really bad stuff hasn't happened ― yet," says Chris. "As investors, it's a good place to be for a long time."

Chris' 'blue gold' plays in the Mayer's Special Situations portfolio have done well. And as he said, this is a play for the long-term investor. To learn about his water plays, and the rest of the MSS portfolio.

The proletariat began buying top stocks in the '80s. The 'shareholder nation' was a dream of Maggie Thatcher and Ronald Reagan: Everyman a Capitalist.

Of course, these new capitalists were not real capitalists. Instead, the little guys were mostly pigeons for Wall Street. Instead of really understanding and CONTROLLING the companies they owed, they bought shares in mutual funds...or owned their shares through insurance or pension funds. These collective investments left the little guys dependent on Wall Street managers ― who paid themselves enormous fees and bonuses.

Of course, as long as top stocks 2010 went up, the new capitalists didn't mind or notice that the financial industry took advantage of them. They completely misunderstood what they had gotten into. In their minds, capitalists made people rich...and Wall Street helped them get in on the deal.

When Francois Mitterand, socialist president of France during the '80s, realized how it worked, he was outraged; 'they make money in their sleep,' he remarked of capitalists. But that was just what most people wanted to do. So, they began to imitate the capitalists. "Buy top stocks," thundered Wall Street.

And so...the little guys piled in....and top stocks soared.

"Buy and Hold," the pros told them. "Top stocks for 2010," wrote professors of finance.

Of course, some people wanted to make money faster. So 'day trading' became popular in the late '90s. The newspapers were full of stories of people who quit their jobs in order to trade top stocks 2010.

In the '80s and '90s, too, people began to believe that you could motivate workers by giving them "a piece of the upside." And the workers, too, believed they might get rich if they had a stake in their employer's company. Especially in the financial sector, 'results-based compensation' caught on. Soon, almost everyone had a piece of the upside.

The trouble was, especially in the financial sector, the upside was remarkably short-sighted. In the near-term, business managers had a huge incentive to push the upside up farther than it ought to go. Take risks? Why not! If they could increase the quarterly results they would get a bigger bonus. If, over the long term, the business were weakened...well, that would be the owners problem, wouldn't it? Managers sometimes had such a big piece of the upside there was scarcely anything left for the owners.

Everybody wanted a piece of the upside. Owners ― including the new capitalists ― wanted the business to prosper so their top stocks of 2010 would go up in price. Managers wanted high quarterly profits ― so they could exercise their stock options and pay themselves big bonuses. They were all 'capitalists' ― but ersatz capitalists. None had much of an interest in the long-term health of the capitalist institution itself.

A real capitalist is eager to cut his labor costs. If hourly wages rose too high...he'd want to move to a lower-cost production center. And if the managers asked for too much ― he'd fire them and get new ones.

But neither the working stiffs nor the suits shared the owners' interest in cutting labor costs and preparing for the future. While European automakers shifted much of their production to lower-cost countries...GM continued to make cars in the United States of America. Its unionized, stock-owning, voting employees wouldn't allow it to move. And when it needed to invest in new tools and equipment in order to make autos for the 21st century ― suppressing earnings in the short term in order to make the company stronger later on ― its bonus-seeking, option-driven managers wouldn't permit it.

 

Lesson: Let the managers manage. Let the workers work. Let the capitalists grub for money. And let the politicians lie and steal. Each to his own métier.

If you're wondering what that means in today's world, you're not alone. We're wondering too.

 

I got plenty of people writing in to explain to me why the public ought to be forced to pay for the good health of strangers. Here's just a small snippet from someone with a PhD and a few other impressive letters behind his name:

The basis for national health care is a very simple one. An analogy for this can be found in parenting. A father as a parent is responsible for taking care of his children. He provides the food and shelter for his children when his children are too young to do so. And so it is with a national government. A government acts in "loco parentis" or as a father of its citizens.

This reader ― I can't in good conscience refer to him as a Whiskey Shooter ― believes that the government should play the part of benevolent parent to a nation of adults.

Perhaps papa and mama government want to forbid me to drink alcohol, too. Maybe monitor my phone calls? Why not just put a chip in me to monitor my health, make sure I don't ingest things they've forbidden and know where I am at all times?

Sheesh.

I'll busy myself with downing this shot and let this Shooter do the talking…

Hi Gary,
 
Well done! It is nice to see somebody talking sense about these things for a change.
 
I live in the UK and our National Health Service is costly and provides very poor service.
 
The reason is that the system detaches the people who pay from the people who get paid.
 
Every accident and emergency ward is packed nightly with the drunken underclass, demanding their "RIGHT" to have their self-inflicted injuries treated immediately, with the latest medical technology, while hurling abuse at the doctors and nurses who try to treat them. People call out doctors in the middle of the night because they have a headache.
 
You don't need a PhD in economics to realise that if something is free the demand for it is going to be very high and the value people place on the providers of the service will be very low.
 
From the patient's side things are no better. The doctors and hospitals get paid by the state regardless of the quality of the service they provide to "their" patients. As a result they treat the patients as an annoying inconvenience to their preferred daily activities. They don't see the patient as the one who funds their lavish lifestyle; they see them as the annoying people who take up their time!
 
Of course there is also the age-old problem of effective resource allocation in a communist system. The market through the pricing mechanism does an unmatched job in allocating resources to where people want them. Politicians allocate resources based on what gets the best PR, what the tabloid press is currently attacking them for and what they think will hoodwink the most voters into voting for them.
 
When the state has spent more than it can afford, it starts telling people how to live their lives to reduce its costs! Headlines in the press like these: "Smoking costs the NHS X Billion a year", "Obese people cost the NHS Y Billion a year" I even heard that apparently women wearing high heels costs the NHS over £20 Million a year"
 
The patients are such an inconvenience that the state wants to run their lives for them to reduce the cost of healthcare!!!
 
I am thankful that at least somewhere in the world, the ideals of liberty and freedom survive. Here in the UK we slip relentlessly towards a socialist nightmare.
 
Keep up the good work.

Couldn't have said it better. Thank you very much for writing.

Here's a quote from the venerable Atlas Shrugged as sent in by a diligent Shooter:

"I quit when medicine was placed under State control, some years ago," said Dr. Hendricks. "Do you know what it takes to perform a brain operation? Do you know the kind of skill it demands, and the years of passionate, merciless, excruciating devotion that go to acquire that skill? That was what I would not place at the disposal of men whose sole qualification to rule me was their capacity to spout the fraudulent generalities that got them elected to the privilege of enforcing their wishes at the point of a gun. I would not let them dictate the purpose for which my years of study had been spent, or the conditions of my work, or my choice of patients, or the amount of my reward.

"I observed that in all the discussions that preceded the enslavement of medicine, men discussed everything ― except the desires of the doctors. Men considered only the 'welfare' of the patients, with no thought for those who were to provide it. That a doctor should have any right, desire or choice in the matter, was regarded as irrelevant selfishness; his is not to choose, they said, only 'to serve.' That a man who's willing to work under compulsion is too dangerous a brute to entrust with a job in the stockyards ― never occurred to those who proposed to help the sick by making life impossible for the healthy. I have often wondered at the smugness with which people assert their right to enslave me, to control my work, to force my will, to violate my conscience, to stifle my mind ― yet what is it that they expe ct to depend on, when they lie on an operating table under my hands?

"Their moral code has taught them to believe that it is safe to rely on the virtue of their victims. Well, that is the virtue I have withdrawn. Let them discover the kind of doctors that their system will now produce. Let them discover, in their operating rooms and hospital wards, that it is not safe to place their lives in the hands of a man whose life they have throttled. It is not safe, if he is the sort of man who resents it ― and still less safe, if he is the sort who doesn't."

Amen, Ayn. Requiescat in pace.

There were dozens more wonderful letters that I just didn't have room to run, but which deserve a wide audience.

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