The Capital Note

The Capital Note: Forward Guidance & the Fate of Cities

The Manhattan skyline from the Empire State Building in midtown Manhattan, N.Y., June 24, 2020. (Mike Segar/Reuters)

Welcome to the Capital Note, a newsletter about business, finance and economics. On the menu today: the Fed’s forward guidance, the fate of cities, and the use of collateral in emerging markets.

Forward Guidance
On Wednesday Jay Powell announced that the Fed planned to keep interest rates near zero for at least the next three years. The accommodative forward guidance is in keeping with the central bank’s new approach to inflation targeting, by which it will target an “average” inflation rate of 2 percent rather than attempt to hit 2 percent each year. After a deflationary recession such as the one we’re experiencing, this new approach calls for overshooting 2 percent in order to make up for lost output.

Specifically, Powell said that rates would remain low “until labor market conditions have reached levels consistent with the Committee’s assessments of maximum employment and inflation has risen to 2 percent and is on track to moderately exceed 2 percent for some time.” As some observers noted, the statement suggests less of a shift than initially anticipated. The Fed has always targeted maximum employment, and a “moderate” overshoot of 2 percent is open to interpretation. It’s not hard to imagine the new monetary policy framework amounting to more of the same.

On the other hand, recent FOMC statements do seem to indicate a genuine change in priorities. Until recently, the Fed worried far more about excessive inflation than it did about insufficient inflation. The stagflation of the 1970s, overcome only after Paul Volcker’s massive rate hike in the 1980s, instilled a culture of caution among monetary policymakers. But in the past decade or so, prices have consistently been below the Fed’s target despite record-low interest rates. Theories abound as to why: Some cite the effects of Chinese capital in holding down U.S. rates, others point to the dollar’s centrality in global trade and capital markets, while others still point to the deflationary effects of technology.

Whatever the cause, the Fed seems finally to have come to terms with the new reality of persistently low inflation. By holding interest rates down even as prices increases, central bankers hope to spur economic activity and escape the liquidity traps seen in other countries. Insofar as inflation has been too low, a more accommodative approach is welcome.

— D.T.

Cities
So, are people moving out of cities or not?

Marie Patino, writing for Bloomberg:

So far, there is little support for the dramatic claims that people are fleeing cities writ large. In fact, available data indicates that overall, fewer people moved at all since the beginning of stay-at-home orders and through June — even with interest in moving on the rise again.

Among those who have moved, it’s unclear how many of those moves will be only temporary. But that doesn’t mean there aren’t interesting migration takeaways worth following. A select few cities including New York City and San Francisco do seem to be seeing more out-migration than most. But guess where many of those people are going? Other very large metropolitan areas, like Seattle and Los Angeles.

Seattle has not been a beacon of stability of late, making this data even more striking.

Also of note (my emphasis added):

Several surveys have found that the great majority of people who did move during the first months of the pandemic did so for reasons unrelated to the coronavirus. In one such survey of 1,300 individuals conducted by Hire A Helper, just 15% said they had relocated because of Covid-19. Out of these pandemic-induced migrations, 37% of respondents said they moved because they could not afford current housing due to a Covid-related income loss. Thirty-three percent of the respondents said that they moved to shelter in place with friends or family, and 24% that they didn’t feel safe where they were.

To return to an argument that I have made before, mankind has a long experience of living alongside infectious, dangerous diseases and of being able to cope with it. That is no reason for complacency in the face of COVID-19, or for rejecting a sensible, proportionate response to the coronavirus, but the concept of proportionality seems to be missing from the thinking of many non-Swedish governments worldwide.

Patino:

[I]f history is any indication, predictions of a mass urban exodus are unlikely to come true. As many scholars have noted, cities have recovered and thrived after past disease outbreaks. The 1918 Spanish flu episode in New York City had a death rate of 452 per 100,000 New Yorkers. Yet as urban scholar Richard Florida has noted in CityLab, “In the decades that bracketed that pandemic, spanning 1910 and 1930, greater New York’s population surged from 4.8 to 6.9 million.” In 1849, over 10,000 Londoners died of cholera within three months. A year later, a fire decimated the city. But “that city’s role as the world’s leading financial center of the time actually expanded in the wake of its deadly cholera epidemics,” writes Florida.

That is not to deny that New York and San Francisco have…challenges.

According to Hire a Helper’s data on its own clients, 80% more people sought help to move out of a home in San Francisco and New York City than to move in between mid-March and the end of June. United Van Lines also found more moves out of these two cities than last year. According to its data, between May and August 2020, move requests out of New York City to any destination were up 45%, and in San Francisco, up 23%, compared to the same time last year.

But what’s just as interesting about these datasets is where the people who left were going: Among those requesting long-distance moves through United Van Lines, the company found that the top destinations for people leaving these cities were other large metropolitan areas.

That suggests that cost may matter more than coronavirus, which will be cold comfort for those running both cities.

In this connection, it’s worth reading this report by the Manhattan Institute’s Michael Hendrix in full. Nevertheless, here’s an extract:

We found that 44% of high-income New Yorkers say that they have considered relocating outside the city in the past four months, with cost of living cited as the biggest reason. More than half of high-income New Yorkers are working entirely from home, and nearly two-thirds believe that this will be the new normal for the city. Of those considering leaving New York City, 30% say that the possibility of working remotely makes it more likely that they will move.

“Considered” can mean a lot or it can mean a little, and my guess continues to be that (as discussed yesterday) working from home will be less widespread than is currently imagined, even despite comments such as those from BlackRock’s Larry Fink, quoted today as saying that he didn’t “believe BlackRock will be ever 100% back in office”: “I actually believe maybe 60% or 70%, and maybe that’s a rotation of people. But I don’t believe we’ll ever have a full, you know, cadre of people in office…”

Nevertheless, whether it is remarks such as Fink’s or the existence of those legions of affluent ‘considerers’, those in charge of New York City should—if they are willing to leave any room for economic reality within their heads—be anxious.

Hendrix:

Residents who earn $100,000 or more make up 80% of New York City’s income-tax revenue, making the city government vulnerable to tax-base erosion. That personal income tax, in turn, accounts for 22% of the city’s overall tax revenues.

— A.S.

Around the Web
The unraveling of a Wall Street titan:

In 2016, Kamensky founded his own distressed-debt hedge fund firm, Marble Ridge Capital, and grew assets from $17 million on day one to $1 billion at the peak. His wedding made The New York Times, and he lived a life of suburban comfort on Long Island with his wife and daughter. In the hard-knuckle world of bankruptcy and restructurings, he minted a reputation as a talented, aggressive negotiator who sometimes rubbed people the wrong way but was ultimately fair.

That changed at 6:00 a.m. on September 3, when federal agents stormed into his Roslyn home and arrested Kamensky on four counts of criminal fraud: securities fraud, wire fraud, extortion and bribery, and obstruction of justice. The U.S. Department of Justice accused him of abusing his fiduciary duty as a member of the unsecured creditors’ committee serving in the bankruptcy proceedings of upscale department store chain Neiman Marcus.

Kamensky, the government alleged in its complaint, tried to use his position as a member of that committee and as a client of Wall Street investment bank Jefferies to keep the bank from making a rival offer for shares of a Neiman Marcus entity that Marble Ridge — which held Neiman Marcus bonds and term loans — wanted to buy. Then, the government alleges, he attempted to cover up what he’d done.

Economic models as benchmarks:

The value of the competitive model is its use as a benchmark. A proper discussion of the competitive model provides a rich understanding of how prices coordinate the behavior of buyers and sellers to get resources where they are valued most, despite the fact that both buyers and sellers are only concerned with their own objectives and constraints. The model also illustrates what economists mean by “gains from trade” and facilitates a corresponding discussion of efficiency.

With this model as a benchmark, one can then contrast this benchmark with a world of externalities, taxes, price controls, a monopoly, and countless other examples. However, these effects are all relative to the competitive model. It is also useful to note that this competitive model benchmark provides a lot of insights even when its assumptions are not technically satisfied.

Convertible arbitrage is back:

Convertible arbitrage, the strategy on which billionaire traders such as Ken Griffin and Michael Hintze cut their teeth, is delivering healthy returns for managers once more. Hedge funds attribute the revival to a surge in market volatility since the coronavirus crisis began, and a flood of new bond issuance from embattled companies such as Carnival and Southwest Airlines.

Convertible bonds allow their owners to convert their holdings into a pre-determined number of the company’s shares — effectively a call option on, or the right to buy, the shares. While some traditional investors just buy and hold the bonds, hedge funds buy the bonds and then hedge their position by shorting the shares, or betting they will go down. They aim to profit from the stock’s volatility, which increases the value of the option embedded in the bond.

It has become this year’s best-performing hedge fund strategy, gaining 6.9 per cent on average to August, according to data group eVestment. This compares with 2.2 per cent across the broader hedge fund sector.

Random Walk
The Economist:

Twenty years ago a Peruvian economist made a startling observation. People in poor countries are not as poor as they seem. They have assets—lots of them. But they cannot prove that they own them, so they cannot use them as collateral. Hernando de Soto estimated that the total value of informally owned land, homes and other fixed assets was a whopping $9.3trn in 2000 ($13.5trn in today’s money). That was more than 20 times the total of foreign direct investment into developing countries over the preceding decade. If small farmers and shantytown-dwellers had clear, legal title to their property, they could borrow money more easily to buy better seeds or start a business. They could invest in their land—by irrigating it or erecting a shop—without fear that someone might one day grab it. Property rights would make the poor richer, he argued.

Since his book, “The Mystery of Capital”, was published, its ideas have spread. Indonesia, Thailand and Vietnam have pursued vast titling projects, mapping and registering millions of land parcels. India wants to use drones to map its villages. Ethiopia has registered millions of tracts. Rwanda has mapped and titled all its territory for $7 per parcel, thanks to cheap aerial photography. Studies suggest that titling has boosted agricultural productivity, especially in Asia and Latin America. The World Bank wants 70% of people to have secure property rights by 2030.

Capital matters.

— A.S.

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