2008 State New Economy Index

For a more contemporary discussion of technology and innovation, see the recently released 2008 State New Economy Index. The discussion in the report is especially useful — even if it is highly IT-centric. The range of indicators is also very impressive. So, if you disagree with the authors aggregate indexes, you can easily look at the indicators you deem to be the most important.
Like many other indicator project, the faults of the report are not in the indicators chosen, but in the data that is not available. For example, we in the US continue to rely on educational attainment and patents as indicators of skill levels and innovation, respectively. This is not because we believe those are the best indicators – it is because that is what we collect information on. As the report states:

One challenge in measuring new-economy structure is that many of the factors that are appropriate to measure cannot currently be measured due to lack of available data. Going forward, the federal government can and should play a much more active role in defining the variables needed at the state level and collecting the data to better measure them.

Let me second that call.
In the meantime, the 2008 State New Economy Index is as good a picture of where we are as there is. Very useful and informative.

Importance of technology adoption

Here is an interesting report on the importance of technology adoption — specifically adoption in the past: Was the Wealth of Nations Determined in 1000 B.C.?

Executive Summary:
To the extent that history is discussed at all in economic development, it is usually either the divergence associated with the Industrial Revolution or the effects of colonial regimes. Is it possible that precolonial, preindustrial history also matters significantly for today’s national economic development? The authors find that technology adoption circa 1500 A.D., prior to the era of colonization and extensive European contacts, predicts approximately 50 percent of cross-country differences in both current per capita income and technology in a large cross-section of countries. When exploring the causes of this extreme persistence in technology, they find evidence in favor of the importance of the effect of current adoption on subsequent adoption as the main driver. This leaves a limited role to country-specific factors such as institutions, geography, or genes to explain the persistence of technology. Key concepts include:
* Precolonial, preindustrial differences have striking predictive power for the pattern of both per capita incomes and technology adoption across nations that can be observed today.
* Technology is very persistent both within countries and sectors. Adoption dynamics vis-à-vis country-specific factors such as institutions, geography, or genes appear to be the mechanism behind such persistence.

I’m not sure that I accept the findings of essentially a 500 year technology trajectory lock in. But the data of technology development set is interesting in and of itself.

Jump starting the ABS market

The Fed announced this morning a new attempt to jump start the asset-backed securities (ABS) market. FRB: Press Release–Federal Reserve announces the creation of the Term Asset-Backed Securities Loan Facility (TALF)–November 25, 2008:

The Federal Reserve Board on Tuesday announced the creation of the Term Asset-Backed Securities Loan Facility (TALF), a facility that will help market participants meet the credit needs of households and small businesses by supporting the issuance of asset-backed securities (ABS) collateralized by student loans, auto loans, credit card loans, and loans guaranteed by the Small Business Administration (SBA).
Under the TALF, the Federal Reserve Bank of New York (FRBNY) will lend up to $200 billion on a non-recourse basis to holders of certain AAA-rated ABS backed by newly and recently originated consumer and small business loans. The FRBNY will lend an amount equal to the market value of the ABS less a haircut and will be secured at all times by the ABS. The U.S. Treasury Department–under the Troubled Assets Relief Program (TARP) of the Emergency Economic Stabilization Act of 2008–will provide $20 billion of credit protection to the FRBNY in connection with the TALF. The attached terms and conditions document describes the basic terms and operational details of the facility. The terms and conditions are subject to change based on discussions with market participants in the coming weeks.
TALF Terms and conditions

It looks like the Fed and the Treasury are trying to go to the root of the issue by supporting old fashioned straight-up ABS deals. As the Fed press release noted, the ABS market came to a complete halt in October.
This is good news for intangible asset monetization. Intangible asset deal have tended to be the straight-up type. Getting the fundamental ABS market restarted opens the door to future intangible-backed deals. In addition, as the terms and conditions description points out:

The set of permissible underlying credit exposures of eligible ABS may be expanded later to include commercial mortgage-backed securities, non-Agency residential mortgage backed securities, or other asset classes.

Could “other asset classes” include intangibles? Maybe, just maybe.

More on investment

Here is an interesting quote from a very high ranking government official on the stimulus package (as quoted in today’s Financial Times): “Spending must be smart spending.” He went on to say, “We must invest in those areas that are critical to our future competitiveness – essential infrastructures, research and innovation, clean technologies to support the transition to the low-carbon economy, energy efficiency, and education and training.”
No, it was not Larry Summers. It was José Manuel Barroso, European Commission president at a conference last Friday.
The point is that other nations are going to do the same things we say we are going to do to promote long term competitiveness. If that is the case, then we need to be doubly smart. To stay ahead of the game, we will also need a strategy. Saying we want to take the lead by being green is like every city and region in the country saying they what to take the lead by becoming like Silicon Valley. A much finer tuned strategy is needed.
For that reason, now is the perfect time to create a Commission on the Future of the US Economy. It would be patterned after the 1980’s President’s Commission on the Industrial Competitiveness (the Young Commission), which proved to be a successful mechanism for confronting the issues of its time. But this new Commission would take on the current problems, which are fundamentally different compared with 20 years ago. It would craft new policies and a new long term strategy for economic prosperity. Thus it would be a great compliment to the short term strategy laid out by President-elect Obama.

That pesky intangible valuation problem

Speaking of the valuation problem, here is an interesting tidbit. Intangible valuation may have become a factor as a sideline to a brawl between the current management of the European discount airline easyJet and its founder, Sir Stelios Haji-Ioammou. In a dissenting letter at the end of the company’s Preliminary Results 2008, Sir Stelios made the following statement:

I believe the methodology by which easyJet ascribed value on its own balance sheet to the Gatwick landing slots that came for free with GB Airways is based on optimistic assumptions about future revenues, particularly in the current economic climate. Given the fact that many airlines have already ceased operating from Gatwick I believe that slots will be freely available and hence it will be more prudent not to create Gatwick slots as an “intangible asset” on our own balance sheet this year.

The preliminary financial statement had this to say about these intangibles:

Goodwill and landing rights at Gatwick have indefinite expected useful lives and are tested for impairment annually or where there is any indication of impairment. They are stated at cost less any accumulated impairment losses.
Landing rights at Gatwick are considered to have an indefinite useful life as they will remain
available for use for the foreseeable future provided minimum utilisation requirements are
observed.

So there is a clear difference in assumptions that drive the different valuations.
All of this may ultimately have nothing to do with intangibles – but a fight over other matters, such as dividends and strategy (see stories in The Guardian and The Economist). Still, it is interesting to see how assumptions as to the valuation of intangibles can become an important bone of contention.

Problems with TARP lite

In an earlier posting, I mentioned that the action with regard to toxic assets seems to have shifted from Treasury to the Fed. That shift, however, comes with its won own set of problems on how to handle the collateral and on price discovery.
A story in this morning’s Washington Post (Fed Has Giant, and Opaque, Role in Financial Crisis Aid) makes the same point on the role of the Fed:

As of last week, the Fed’s loans included $507 billion to banks, $50 billion to investment firms, $70 billion for money market mutual funds, and $266 billion to companies that use a form of short-term debt called commercial paper. It is considering a new program that would make billions more available to prop up consumer lending: auto loans, credit cards and the like.
In lending these vast sums, the Fed is essentially substituting its own unlimited ability to supply cash for that of private markets, which are not functioning normally. The central bank is even fulfilling some of the original goals of the Treasury Department’s $700 billion rescue program by allowing financial institutions to use securities that are difficult to sell as collateral for loans.
. . .
The Fed’s lending achieves some — but only some — of the goals of the Treasury Department’s original financial rescue plan. The Troubled Asset Relief Program, which is now focused on investing money in banks, was originally intended to focus on the purchase of mortgage-backed securities.
Although not purchasing such securities, the Fed has agreed to take them on as collateral. That has helped banks get access to cash. But banks are still exposed to further losses if the value of those assets continues to decline. And the lending is not jump-starting the market by serving as a buyer of last resort, which would be the goal of government purchases.
“It’s kind of like TARP light,” said Michael J. Feroli, an economist at J.P. Morgan Chase.

With virtually unlimited resources, the Fed can act as lender of last resort. The problem here, however, is two fold. First, the toxic assets are not being purchased and taken off the books. They are simply being used as collateral. Banks will still have to write off the bad assets at some point — with the corresponding hit to the bottom line. And it is unclear whether using the assets as collateral makes it easier or harder to write off the loans. Under a normal commercial transaction, the borrower can’t simply dump the collateral. It has to stay on the books to play its role. A write down of the collateral would cause the lender to call in the loan. So following normal procedures, using toxic assets as collateral would be a disincentive to take the write- down. But these are not normal times and we do not know what the terms of the Fed loans are. It could very well be that the Fed will be the one to write off assets, by taking control of the bad assets in exchange for writing off the loans. That would be an interesting mechanism of indirect purchase of the toxic assets.
This brings us to the second problem. The Fed is not required to disclose those loans or describe the collateral used for the loans. Some news organizations, notably Bloomberg, have gone to court to get that information. But others feel it is wise to keep that information confidential, to prevent a run on the borrowing institutions. Be that as it may, the problem here is one of a lack of price discovery. The lack of disclosure means that the Fed does not have to publicly value those assets. This neatly sidesteps the valuation issue — but also does not provide for any price discovery. And right now, the discovered price for these assets is quickly approaching zero — which is why the lending market is freezing up again.
We still need a forcing function to get the bad assets priced and written off the books. Maybe the indirect Fed collateral approach will work. We can only hope.