Philadelphia Reflections

The musings of a physician who has served the community for over six decades


American banking was invented in Philadelphia. The banking center of America has moved away and changed in extraordinary ways but the foundations remain.

New volume 2012-07-04 13:46:41 description

Second Edition, Greater Savings.
The book, Health Savings Account: Planning for Prosperity is here revised, making N-HSA a completed intermediate step. Whether to go faster to Retired Life is left undecided until it becomes clearer what reception earlier steps receive. There is a difficult transition ahead of any of these proposals. On the other hand, transition must be accomplished, so Congress may prefer more speculation about destination.

A New Era in Politics: Clinton, Obama, and Trump
New forms of communication made the party system largely obsolete.

Financial Planning for a Long Retirement

How should individual investors ensure they have enough money for retirement?

Such a person is often a professional or entrepreneur who has worked to accumulate the wealth. Legions of "advisors"line up to take this money and manage it or else to sell "products" that promise to solve some problem or other. Without this background, extra savings will be needed, to buy advice. And advice is not invariably reliable.

A person who has created his/her career and its wealth from scratch, can likely manage investments themselves, or at least supervise the process from a position of strength from observation. Reliable advice is not always cheap.

This collection of articles explains to the individual investor how to take control of their wealth. They may eventually decide to look for help from an advisor but they will retain control of their assets and they will know what to do.

Financial Planning videos on YouTube

Retirement Planning

Retirement is a modern concept. As recently as 1900 there was no such thing as retirement. Average life expectancy was around 47 and people essentially worked until they died.

{Life expectancy at birth}
Life expectancy at birth

Life expectancy today is nearly double that and spending 20 or 30 years out of the workforce in retirement is quite common.

{Life expectancy at age 65}
Life expectancy at age 65

As recently as 1934 when Social Security was established and the retirement age was set at 65, the expectation was that very few people would live to collect and that those who did would collect only for a few years. Two generations later, American politics is facing the crisis that nearly everyone is expecting to retire and to collect retirement benefits for almost 20 years on average with an outstanding health care system pushing up life expectancy by 2 years per decade; the system is projected to run out of money in our lifetime if no changes are made.

So it's not surprising that society as a whole doesn't know how to handle retirement: it's never really been done before.

At the same time, corporate pensions are rapidly becoming a thing of the past. Even the largest and most stable companies like IBM are doing away with their pension plans, and plenty of other companies never had a pension plan to start with. The corporate pension system is being replaced by a system in which individuals must take of themselves.

{personal savings rate}
personal savings rate

Taking care of yourself isn't a bad thing; it's what America is supposed to be all about. But most people are not prepared to do it because it sort of snuck up on us.

America as a whole is saving less than nothing. This is a pretty amazing statistic given the country's obvious affluence … and the truth is that the statistic isn't well understood even by the Bureau of Economic Analysis who publishes it; but the debt-to-income ratio has been growing for a long time and many people have simply not been saving for the future.

By now, pretty much everyone knows that they should not count on either government help or corporate programs to support them in retirement and the question is what to do about it. The answer, in a word, is PLAN. In a few more words, SAVE and INVEST. We're not concerned with society as a whole here, this is not politics; we're concerned about helping specific individuals. Namely, you.

Everyone's situation is different and needs careful, detailed analysis. This is particularly true because of the complexity of all the rules governing Qualified Plans and tax-deferred accounts, to say nothing of trusts and closely held businesses and so on. However, it is quite possible to get a very good idea of how much money you need to support yourself in retirement. There is an online spreadsheet you can fill in to do this. It won't be exact, but it will be close; and for many people, it will also be a shock.

If you click the link the online retirement savings spreadsheet will open in another tab or window:

Online Retirement Savings Calculator

{retirement planning parameters}

The first things to enter are

{expected income requirement}

Then enter what you expect to need from your investments every year once you retire. Use today's dollars, the spreadsheet will adjust for inflation.

{minimum investment portfolio size}

Given that input, the minimum portfolio size can be calculated. This is the amount of money you need in the bank on the day you retire.

There are four ways of looking at the amount of money you need.

  1. First, you can plan to spend all of your money and have none left over when you die. Philosophically, there's nothing wrong with approach but if any of your assumptions are just a little bit optimistic, you'll find yourself with no money before you die, which is not a good plan.
  2. Option number 2 is to plan to have the same dollar amount in your portfolio at the end of your retirement as when you start. This is a safer bet than Option 1, but inflation will take a toll.
  3. So, Option 3 is the amount that you need in order to end up with the same amount adjusted for inflation.

    The problem with the first three options is that they just rely on the math of Future Value calculations, and they rely on your assumptions working out perfectly. Which isn't the way life is, particularly over 30 or 50 years.
  4. Option 4 says, "How big must my portfolio be to allow me to withdraw 4% every year, adjusted for inflation, and not eat into it?"

    This is the highest hurdle but it is the one you should be shooting for. This is the punch line... (See Withdrawal Limits From A Fixed Portfolio )

    The link cites a study which looks at what happens to an investment portfolio when nothing is going in and an annual withdrawal is being made.
    If we assume that a good part of the investments are in the stock market, since that's the only way to beat inflation, then there will be times when the portfolio actually shrinks.

    When the markets go down, the amount of money gets smaller. And at the same time, you have to withdraw money to live.
    Put all of that into a simulator and the answer is that if you have a life expectancy of 30 years, then you really should not plan to withdraw more than 4% a year.

Math Favors The Early Saver

The earlier you start saving, and the more consistently you save, the easier it will be to retire comfortably.

Consider these scenarios in which three people save $15,500 a year tax free (the current limit to employee contributions to a 401(k)). All three people earn 10% per year on their investments.

{the power of consistent, eraly saving}

How does Person 2, the one who stopped saving at age 35 to raise a family or something, do better than Person 3 who started 10 years later but saved for 3 times as long? It's the power of compound interest ... by age 35, Person 2 had built up $287,233 and that amount, compounded, was too much of a lead for Person 3 to catch.

The lesson is obvious: start saving as early as possible, save every year and put away as much as possible. For Person 3 to retire with as much as Person 1, they will have to work another 10 years or else increase the amount they're saving.

The trend in America has been to start work later and to retire earlier than our parents. To do this and to retire comfortably requires greater savings. If a person wants to become a doctor, say, which will require them to stay in school, etc. until age 30 and they want to retire at age 60 with as much money as Person 1, they will have to save $41,561 every year, at 10% tax free.

The maximum employer_plus_employee contribution to a 401(k) plan in 2008 is $46,000 so it is theoretically possible to achieve this, but not easy. For one thing, you have to forego spending this much money every year for your whole working life and for another, you have to invest at 10%; if you invest the maximum, the lowest interest rate that will allow you to achieve your objective is 9.49%.

If you're tempted to withdraw more than 4% a year from your portfolio in retirement, please read: Withdrawal Limits From A Fixed Portfolio

These sorts of considerations lead all too many people to "reach for yield" or otherwise invest foolishly; risky investments are just that, however, and one bad year can wipe out a lot of exceptional ones. Achieving returns that are better than the return on the 10-year Treasury bond require being willing to take some risk, to diversify and to invest for the long term; a suggestion on how to set up an investment portfolio to support yourself in retirement can be found here: Asset Allocation and Portfolio Rebalancing

{retirement involves entirely redefining yourself}

That's the math. Math is important and we can't ignore it; but life is a whole lot more than math.

And retirement is a huge transition for everyone.

Very often people put aside financial planning because of the emotional stress caused by the difficult life transition that is retirement. Just thinking about the subject gives a lot of people agita, no matter how old they are. This is natural.; the fact is that everyone responds this way because being young and in the workforce with plans for the future is what everyone plans for and expects. It is why we go to school for 20 or more years of our childhood, to prepare to be a member of the workforce. Work and family are what define most people at a very deep emotional level. Retirement disrupts everything; and many people compound the stress by moving away from their home on top of it.

What happens to us when our role in the workforce is diminished or eliminated? This is a tremendously hard question that goes to the heart of ...

Preparing for retirement is an act of complete self redefinition during a period in our lives when our physical capabilities are beginning to decline, no matter how hard we work to prevent this. Everything is new and everything is hard. And there's really no one to show the way because ours is the first generation to do this on a large scale. It's no wonder that financial planning takes a back seat. However, having one's finances in good order and well understood reduces fear and stress by replacing an amorphous unknown with a concrete known.

Aristotle said that Well Started Is Half Done and Woody Allen observed that 80% of life is showing up. If you get your financial house in order, you will have a much easier time of dealing with everything else that may be going on in your life; and the earlier the better.

For any individual, there is a lot more analysis required to make sure we get everything right. Furthermore, there's a lot more to Financial Planning than just Retirement Planning. But this should have given you an appreciation of the magnitude of the issues that you face and have given you an idea of what needs to be done to ensure that you are on the road to financial independence. Because ultimately, that's what we're trying to do here.

A detailed look at the investment process can be found here:

Asset Allocation and Portfolio Rebalancing

This is the text version of a narrated presentation that can be found here: Retirement Planning Overview

The link for this page is

Financial utility functions:


Please see the Disclaimers


Insurance is a good-news/bad-news story. On the one hand, "pure" insurance is very important and a very useful part of a person's financial plan. On the other hand, the insurance industry in the United States is a bit of a throwback to the days when financial services and utilities were heavily regulated.

The situation in the insurance industry today is somewhat like AT&T before telecommunications deregulation: AT&T was a regulated monopoly which prohibited competition, limited innovation and set uncompetitive prices. Had AT&T not been deregulated and broken up, it is very unlikely that we would have cell phones or the Internet.

The insurance industry for individuals and small businesses in the United States is actually 50 mini industries (plus a few more for territories like Puerto Rico). The National Association of Insurance Commissioners provides standardization, but the type of coverage you can buy and its cost is determined state by state. In each state the legislators, the regulators and the insurance companies decide among themselves what to allow and what to charge.

{Insurance is important and affordable}

Nonetheless, insurance is very important and it is usually possible to buy insurance that suits the needs of your situation at an affordable price. It's just made difficult by the fact that insurance planning differs so much from state to state and by the fact that information about fees and the operation of the policies is very difficult to get or to understand once you do get it.

What I mean by "Insurance, per se" is insurance that insures you against a risk and does not attempt to serve another purpose as well, such as investment or tax avoidance.

{types of insurance}

A typical person's insurance opportunities fall into five categories: "pure" insurance, health insurance, social security and the investment & estate planning aspects of life insurance. Annuities are also part of the insurance industry.

{definition of insurance}

The fundamental idea behind insurance is that if a group of people who face a similar risk get together and pay a small amount into a pool, those few of them who face a loss can be covered from the pool.

If you don't have a loss, you get nothing for your premium but you are willing to pay it because you know that you can collect if you ever do have a loss which might otherwise bankrupt you.

Over the past century or so in the United States, the Insurance Industry has worked with Congress and the Courts to create tax advantages for itself which have been used to create so-called "variable products" that are sold as investments similar to IRAs and other tax-advantaged savings accounts.

I talk about these products in another presentation. Here, I want to discuss just insurance that helps people to protect themselves from risks. We might call this "old fashioned" insurance. But whether old fashioned or not, this sort of pure insurance is a very important part of everyone's financial planning.

{pure insurance}

Pure insurance for individuals consists of the following:

  1. Term life insurance
  2. Homeowners insurance
  3. Auto insurance
  4. Liability ("umbrella") insurance
  5. Disability income insurance

In each case, you hope the loss (early death, fire, car crash, lawsuit, disabling accident) doesn't happen but because the cost of the loss is so high you are willing to pay something every year to cover yourself in case it does happen.

Sometimes a minimum level of insurance is required by a lender for a mortgage or the like, but that is for the lender's benefit, not yours, so I don't include it here.

{insurance: high deductible, behave yourself, review}

In general, the best advice is

  1. Get a policy with a high deductible and an inflation rider, to keep the premium low and to ensure that the coverage keeps up with inflation
  2. Behave in ways that reduce your risk, like seatbelts and keeping paint cans out of the house; and don't make claims for every little thing
  3. Review the policy every few years.

Most people are inadequately covered:  either too much or too little.

This is an area that is easy to forget once you've made the initial step because most people don't face losses very often, but it is wise to review the details carefully to ensure that you are adequately covered at the lowest cost.

The losses covered by pure insurance can be catastrophic and it is important to be sure that you are protected.

{Group insurance}

Group insurance, provided by an employer, is well worth considering because the qualification process is often easier than for individual insurance and the premiums may be lower. Group Life is frequently offered and many employers offer group health and disability insurance.

On the other hand, group insurance coverage may not be sufficient, which may drive you to consider supplementing it with individual insurance; plus you need to consider the value of independence: being tied to an employer because of insurance coverage or being unable to qualify later in life when you leave an employer are serious considerations.

Sometimes group insurance has a conversion option allowing you to retain the insurance after you leave an employer. This is often not the most cost-effective way to get continuing life insurance, but individual health insurance may not be available any other way and you should look into the requirements for continuing your group health insurance even if you are not expecting to leave because having health insurance is so important.

Group life insurance has two features you should be aware of: first, any premiums paid by the employer for death benefits above $50,000 are treated as income to the employee; second, death benefits paid to the employee's beneficiary become part of the employee's Gross Estate. Furthermore, if the employer's plan is not portable and you want coverage after you leave for any reason, you are likely to pay higher premiums because you are older and you may have to take a medical exam to qualify.

It is well worth taking the trouble to understand the rules of your employer's group policies and to investigate the options available to you as an individual. Call a local insurance agent and ask for advice.

{should you buy insurance on the internet}

The best way to approach pure insurance is to sit down and list all the areas in your life that are at risk, to methodically work through all of your needs and then to investigate your options with the help of a reputable insurance agent, of whom - in these areas - there are quite a few.

This may seem a boring nuisance, but it is always well worth the time and most financial planners will start here when helping their clients because the effect of a loss which could well be catastrophic is often so easily protected against with a little planning.

Increasingly, the Internet is facilitating the creation of discount pure insurance companies in competition to the insurance companies who have commissioned agents.

While the cost of agent-sold insurance is higher because of the commissions, you need to consider the fact that major losses have a significant emotional component and doing business over a number of years with a person in your neighborhood whom you know and who will offer to help is more than just a sales pitch. For pure insurance, choosing a good agent can be as important as choosing a good policy.

{term life insurance}

Term Life Insurance is insurance that provides a lump sum amount to your beneficiary if you die. The word "Term" in term life insurance means that the insurance policy terminates. The policy only covers you for a year or a few years.

This is the way all so-called "pure" insurance works: your auto insurance usually has a term of a year; there is permanent homeowners insurance in Pennsylvania where it was invested by Ben Franklin, but it is quite rare elsewhere.

If you still want life insurance coverage after the policy terminates or expires, you have to buy a new policy, and almost always at a higher price because as you age your chance of dying increases.

{many people should not have life insurance}

The purpose of life insurance is to protect your dependents from financial catastrophe in case you die.

In general, for people without special needs, the need for "pure" life insurance is a short-term need during the period in which they have dependent children.

Low-cost term life insurance that is not renewed once the children are gone is usually the best option. The purpose is to provide an amount of money in the event of your death so that your family can maintain their lifestyle and attain financial goals such as financing a college education. If you are diligent about saving, you will build up an investment portfolio over time. The need for life insurance is likely to decline as your portfolio grows to a size that can support your family; as you approach this point, you will be better off investing the insurance premiums rather than buying insurance with them.

Term insurance, like all pure insurance, only lasts for the policy term and then lapses if it is not renewed. The cost of term insurance goes up every time you renew even if you keep in good health because the number of deaths goes up as the people in the pool get older and their mortality rate goes up.

{permanent insurance}

There is a such a thing as "permanent" life insurance that does not require renewal, but really the only meaningful difference between permanent and renewable-term life insurance is the fact that permanent life insurance policies provide for a level premium that is too high initially for the insurance cost and the difference is put into a fund (called the "cash value account") that is used to offset the higher premiums in later years.

There are two variants of permanent life insurance, whole life and universal life. The twist offered by universal life is a higher interest rate on the cash value which may allow for lower premiums later on, plus an option to have the death benefit increased by any excess cash value in the account at death (which is called "Option B").

The level premiums and the cash value of permanent life insurance may seem an attractive alternative to term life insurance, but you can do better financially if you have the discipline to buy a renewable term life insurance policy plus an index or even a money market fund with the premium difference in the early years.

And, anyway, most people shouldn't get permanent life insurance at all. The need isn't permanent.

{term insurance is not an investment}

The point to remember, the point to stress, is that most people have no reason to own life insurance after their children have become independent. Life insurance is not something that most people should own for life. The need for it goes away at around the time the premium starts to really ramp up.

Of all the pure insurance types, term life insurance is often the least well understood. Not because term life insurance per se is particularly difficult to understand, but because it's "Life Insurance".

For centuries there was only term life insurance. That's all there was. Then in the mid 1970s, largely because of favorable tax treatment, the product began an explosive transformation that continues to this day ... creating a myriad of heavily marketed investment products in which the insurance component is largely incidental.

Let me say that again: life insurance that is sold as an investment actually tries to minimize the insurance part, the insurance is incidental. The advantage of these products is their tax advantage, which is a legislative issue, created by insurance industry lobbyists and has nothing to do with insurance.

But the pure insurance of term life remains a valuable tool for personal financial planning, and the price of term life insurance has been driven down dramatically through the pressure of information & competition brought on by the Internet, primarily, and to a lesser extent because of increased longevity.

{1-year term life rates: 1}

This graph shows how term life insurance rates have fallen as a result of the Internet and also as a result of the fact that people are living longer (3 years longer for every decade since the Second World War in America). The amounts represent the cost per $1,000 of coverage at different ages.

The data is drawn from the IRS which uses it to impute income to people who receive life insurance from their employers.

The top dashed blue line was valid from 1955 to 2001. Essentially, life insurance rates didn't change for 46 years.

By 2001, however, rates had been driven down dramatically, as you can see by the lower red line, in some cases by over 75%.

{1-year term life rates: 2}

This chart simply carries the data out from age 51 to 100. What is most telling about this chart is that in 1955 rates were not quoted beyond age 81, whereas by 2001 the chart was carried out to 100.

These charts should not be used to estimate your own actual policy cost; you can go online to a hundred sites to do that and life insurance agents will be happy to talk to you if you are young and healthy. Or old and rich.

But the charts are representative and they do illustrate (a) the fact that the cost of life insurance rises as you get older, (b) prices have fallen dramatically and (c) they show the populations' increasing longevity.

From the standpoint of the opportunity cost of the insurance policy premiums, the best deal for term life insurance is a single-premium policy with a term equal to the period of need (in other words, one 20-year term policy if you expect to need life insurance for 20 years, rather than two 10-year term policies). Single-premium term policies are unusual and the next-lowest opportunity-cost option is a level-premium policy.

What this means first of all, is buy a policy that covers the entire period that you will need it.

And, second, pay the premium all up front if you can find such a policy; if not, then the next best is a policy for which the premium charged is the same every year for the entire term. This second choice is called level premium.

It should be mentioned that life insurance can play a very large role in estate planning. There are two aspects worth mentioning here:

  1. If you own a policy on your own life, the full amount of the death benefit will be included in your estate. Either your spouse or a trust can own the policy to ensure that it doesn't bulk up the value of your estate (on which taxes will, eventually, be due above a certain - ever-changing - exclusion amount).
  2. The second thing to know is that, because of its special tax treatment, life insurance can sometimes be used to provide the money to pay estate taxes.

Both of these statements gloss over a great deal of complexity ... estate planning requires specialized advice. But you should at least know that the issues exist.

{property, liability, auto, disability insurance}

Pure Insurance, which is insurance that protects against catastrophic loss, includes Term Life Insurance and

Health and Long Term Care insurance are covered separately because they are so different from the other forms of pure insurance. Health Insurance in America is available almost exclusively from large employers, which causes a number of problems; and Long Term Care insurance is quite new.

Variable Life Insurance and Annuities, while sold by Insurance companies, are not really insurance at all and are therefore also covered separately.

{property/homeowners insurance}

The primary consideration with homeowners insurance is to make sure the property is covered at full replacement cost, with a deductible high enough to defray the premium cost, and that the coverage amount increases at least at the rate of inflation.

The alternative to full replacement cost is actual cash value, which is the depreciated value of the house. Do not insure your house for Actual Cash Value; anything less than full replacement cost is tantamount to no insurance at all if you ever have a major loss.

Older homes constructed with materials and techniques no longer in common use are best covered at "functional" replacement cost, which would use asphalt for slate on the roof, plastic rather than copper pipes, and so forth. Unless you live in a historic monument that must be restored exactly and you can afford the premium cost of doing so, functional replacement cost is perfectly adequate.

Expensive personal property is not adequately covered by a standard homeowners policy, and as you get older you accumulate more and more valuable property. If not "scheduled" and explicitly covered for their correct value you will lose nearly the whole amount of any possessions lost or damaged. It's worth a quick glance at the standard schedule for personal property to convince yourself that the standard coverage is almost nil.

Finally, most homeowners policies provide a small amount of liability coverage. It is a good idea to increase it to the maximum as sort of a "deductible" for your umbrella policy because it is not at all expensive and it's hard to have too much liability coverage in our litigious society. In fact, many umbrella policies require higher homeowners liability coverage.

Some people treat their homeowners insurance policies like an ATM to cover relatively minor expenses. In the long run, you're better off paying for smallish items out of pocket to keep the premium at a level that won't motivate you to insure for less than 100% replacement cost with an inflation rider.

It's always important to bear in mind that insurance is intended to cover the infrequent major loss and nothing else.

{auto insurance}

Auto insurance rules vary greatly from state to state, as does the cost.

The generalization that applies everywhere, however, is that the fundamental purpose of automobile insurance is to protect you from liability, not to cover the cost of repairs.

Many states require you to carry some minimal level of uninsured motorist coverage in case you are involved in an accident with someone without insurance; very often underinsured motorist coverage is not required, but it is a very good idea to get a rider for this purpose.

Some states are "no fault" which means that if you are involved in an accident, you are reimbursed by your own insurance company directly. Then, behind the scenes, the two insurance companies settle up between themselves and the driver judged to be at fault will be penalized by higher premiums.

A common but very unattractive alternative in other states is the tort system that requires you to hire a lawyer and sue the other driver yourself to recover damages.

You are well advised to have much more than the minimum level of liability coverage in any jurisdiction. Liability insurance is your only protection against an aggressively litigious system. All too many people, lawyers and plaintiffs, live off of liability suits; protect yourself from this with liability insurance.

{rental car insurance coverage}

Most people know to refuse coverage by rental car companies because their own auto insurance will cover them and this is usually good advice but a few items are worth keeping in mind:

1.  Your collision coverage may not cover the extent of the damage and the rental car company retains exclusive control over the repairs

2.  You policy will pay the depreciated value of the car if it is totaled, but many rental car contracts specify that you must replace their car with a new one.

3.  During the period until the rental car is back on the road, the rental car company will charge you (via the credit card you gave them) an amount that they feel reimburses them for lost revenue. You can be sure your policy does not cover this and you can also be sure that you have a lower estimate of their lost revenue than they do.

{umbrella personal liability insurance}

Your homeowners and auto policies will provide a minimal amount of liability insurance, but not nearly enough. You should carry the maximum liability coverage offered in those other policies, and also get an umbrella personal liability policy for many millions of dollars.

A common rule of thumb is to get an umbrella policy for an amount equal to your net worth. There's no particular rationale for this and ordinary umbrella policies max out well below a high net worth individual's requirement by this rule; my rule of thumb is to get as much as the insurance company will give you. If you feel you are likely to be a target for any reason, you should consider special liability coverage.

Liability awards are made by a court system that is capricious and wholly unpredictable.

An umbrella policy will cost, roughly, one hundred dollars per million per year and it is money well spent, not only for the coverage in the event that you are sued for any reason (other than intentional harm) but also because it covers all legal expenses which often rival the awards themselves.

Umbrella policies often also provide auto coverage outside of America, which is usually excluded from regular auto policies; rules governing foreigners involved in accidents abroad are often very harsh, so this is a handy thing to have. (Better yet, hire a local chauffeur).

{disability insurance}

Disability insurance is often offered by employers as an employee benefit but it is worth looking into the coverage on your own if the coverage is not sufficient. Also, employer disability insurance is sometimes paid for with pre-tax dollars, in which case the benefits are taxable; if paid with after-tax dollars, the benefits can be tax free.

Fewer people buy disability income insurance than life insurance, sometimes expecting to rely upon worker's comp, social security or a successful lawsuit. Disability income insurance is also not as aggressively marketed as life insurance, to which a disability rider may sometimes be added, but disability is more likely than premature death and because of ongoing medical and rehabilitation expenses, disability can be a much greater financial burden.

The deductible of a disability policy is called the "elimination period", which is the period of time that must elapse after you have been medically certified as disabled before benefit payments begin. The length of the elimination period, the length of the coverage period (whether for a set number of years or until retirement age) and the percent of income that is replaced are all options to be investigated.

Investment & Estate Planning With Life Insurance

The attraction of life insurance as either an investment or an estate-planning tool arises from favorable tax treatment:

1.  Life insurance death benefits are income-tax exempt

2.  If the insured is not the policy owner, the death benefits are estate-tax exempt

3.  Cash value (investment) accumulation is income-tax deferred

4.  Tax-free return-of-premium withdrawals from cash value are allowed after 10 years

5.  Essentially-permanent tax-free loans of accumulated cash value are allowed under certain circumstances

 Variable Universal Life Insurance

A Variable Universal Life (VUL) insurance policy is basically a term life insurance policy with an IRA attached. That's a bit glib but it conveys the concept. The reason Variable Universal Life insurance policies are sold is because they are tax shelters. If they weren't tax shelters, there would be no reason whatever to buy them.

For a VUL policy to be a pure tax shelter, the entire premium would go into the tax-deferred investments. The IRS frowns on this, however, and has established very complicated rules to the following effect:

1.  The cash value (investment) cannot exceed a certain % of the death benefit

2.  The premium also cannot exceed a certain % of the death benefit

 Furthermore, since the ratio of cash value to death benefit is a function of market performance, you may find yourself facing a huge assessment in order to avoid negative tax consequences or a lapsed policy simply because of a decline in the stock market.

A VUL that fails the IRS's tests becomes a "Modified Endowment Policy" (MEC) which will always reduce its attractiveness below the threshold used to justify the policy in the first place. Ordinary income taxes will be due on all gains, all at once.

In other words, a VUL policy must be more life insurance than tax shelter and the cost of the life insurance coverage is effectively an additional fee since it is the tax shelter that is of interest, not the insurance (if all you want is life insurance, buy a term policy: " it's much cheaper). Somebody has to keep track of these things, so one of the first questions to answer when looking into purchasing a VUL is who that person will be, how much this special service will cost and how vigilantly it is performed.

Life insurance is a contract, not a security. This means that once you enter into it, you're stuck with it. Aside from the nether world of viatical agreements (in which terminally ill people can sell their death benefits) and 1035 tax-free exchanges (complicated and expensive) once you start paying into a life insurance policy you have to play by their rules to ever get any value out of your investment. VUL is viewed as an investment but you need to keep in mind that the money isn't "yours" except under narrowly prescribed rules.

The safety of your investment depends entirely upon the strength of the insurance company, many of which have gone out of business over the years " at a rate of roughly 50 "- 100 per year. Some states maintain guaranty funds, but you shouldn't count on their protection. A. M. Best rates the credit worthiness of insurance companies and should be consulted. "There are no guarantees, only guarantors" is a clever way of saying that a guarantee is no good if the person making the guarantee goes broke.

Finally, these policies always have very high fees, which are not always fully disclosed, and the investment choices offered for the cash value account (mutual funds called "separate accounts") are controlled by the insurance company and always perform poorly compared to equivalent high-quality index funds.

For some people under some circumstances, the special tax treatment may more than offset these deficiencies and make a VUL policy a viable portfolio choice.  Like municipal bonds, they become more attractive when income tax rates are high. But if ever there was a need for "caveat emptor" it is here. Ditto annuities, discussed below, that are essentially life insurance policies turned inside out, paying until you die rather than when you die.

The basic pitch for why a Variable Universal Life insurance policy is a good lifetime investment is the following:

1.  A young single person in their first job needs no life insurance but they should certainly start investing as soon as they can. To start this process they can take out a small amount of insurance coverage in a VUL policy and pay as much more than the minimum premium as they can, investing the excess in the tax-deferred equity funds of the "separate account".

2.  After marriage, they can add a rider for the new spouse or otherwise convert to joint (1st to die) coverage. Continue funding the equity investment accounts to the maximum extent feasible.

3.  After the first child, increase the amount of insurance coverage and convert the equity investment account to a money market. If the funding and tax-deferred growth in prior years was sufficient, the tax-free investment returns will fund the minimum premium required to keep the insurance policy in force, thereby reducing the family's expenses while providing insurance coverage when it is most needed.

Had the family not funded a VUL in the years prior to this, they would have to pay for term life insurance to protect themselves in their most vulnerable years.

4.  After the last child is out of the home, reduce the amount of insurance coverage, convert the investments back into equities and resume funding the investment accounts.

5.  At retirement, take a series of tax-free policy loans to supplement retirement income, being careful that the policy neither lapses nor converts to a MEC (which requires constant vigilance on the part of the insurance company since an individual can't possibly know when they're at risk). The conversion to income can also be accomplished by converting to an annuity but that would eliminate the last step, plus annuity payments are taxable.

6.  If converted to 2nd to die and transferred to an irrevocable life insurance trust (at least 3 years before the 1st to die), the policy can pass to the family's heirs free of gift, estate and income taxes either providing a legacy directly or else providing the money to pay the taxes on the rest of the estate (bearing in mind that the cost of insurance becomes very high as you move into your 70s and beyond: see the charts in the section on term life insurance).

This is a fairly attractive story, one that has appealed to many people. The first VUL was introduced in 1985, however, so it's too soon to have actual experience with the full lifecycle in practice.

A fundamental issue to bear in mind about life insurance is that its cost goes up very steeply as you age: a $1,000,000 5-year term policy would cost a 25 year old in the neighborhood of $400 per year but might cost a 70 year old $15,000 per year " 38 times more " and an 80 year old could expect to pay upwards of $60,000 per year. This rapid escalation of cost must be borne, from whatever the source, if the policy is not to lapse and become worthless.

The whole story hinges on the net after-tax value produced by the investment account. The key word is "net" because:

1.  Your premium payment is reduced by state premium taxes and any front end loads the insurance company charges

2.  The cost of the insurance, which rises with age, reduces the amount of the remaining premium payment that can actually be invested. The cost per $1,000 of the life insurance in a VUL is higher than in a term life insurance policy because fewer such policies lapse.

3.  Many policies also have back end loads, known as surrender charges

4.  A VUL policy itself has administrative and other expenses

5.  The expense ratios of the separate accounts are higher than other mutual funds

6.  The tax advantage is a function of both

a.   The individual's marginal tax rate, which tends to vary considerably throughout life as the amount of taxable income changes

b.  The general level of taxes in the economy, which at the time of this writing is quite favorable making tax-advantaged investments in general less attractive

The math to determine whether the net benefit is positive is complex and must be done separately on every policy considered since every policy is different, which tends to discourage comparison shopping. Since so many variables are at play over the entire period of a family's lifetime, even the most sophisticated analysis is at best an estimate. Ben Baldwin's excellent book, The New Life Insurance Investment Advisor, devotes a separate chapter to the problem of figuring out if a VUL is a good investment, and it ends inconclusively. The fact that computer programs perform these analyses quickly does not improve their accuracy.

Very often, a buyer's motivation is the insurance policy's characteristic of "forced saving". Many people know they should save but they also know about themselves that the desire to consume for today always wins out over the need to save for tomorrow. This rationale actually shows a level of maturity but if at all possible, alternative tax-advantaged opportunities should be taken fully before considering a VUL:

a.   401(k) or other employer provided (and matched) savings plans

b.  IRA

c.   HSA

d.  529

Given the current tax environment, a taxable discount brokerage account which supplements the other tax-deferred accounts with low-cost index funds will often provide a much better long-term return than a VUL. However, it does seem likely that the US government debt is going to rise significantly to fund Social Security, Medicare and the general increase in the role of government in American society. Therefore, the likelihood of increased taxes in the future seems high, which will make all tax sheltered opportunities more attractive than they might be today; it will also make them more expensive, so the best time to consider them is when tax rates are low.


While there are many options available, annuities, like life insurance, essentially have a "pure" form and a tax-sheltered investment form.

The pure form of an annuity is a Single-Payment Immediate Annuity, possibly with an inflation rider, which will pay a fixed stream of taxable income for life in return in return for a lump-sum payment. The return on investment of such an annuity is not as good as the long-term return of a diversified investment portfolio, but it is guaranteed for life. It is very comforting to many people to have their basic expenses covered in this way and it is often well worth giving up some theoretical return for peace of mind.

The issue is getting such an annuity at the least cost: no-load annuities from Berkshire Hathaway and USAA are worth looking into if the security of a life pension is something you're interested in.

A hybrid option is an Inter Vivos Charitable Remainder Trust, a sort-of a do-it-yourself annuity which gives whatever money is left at your death to a designated charity (rather than to an insurance company as in the case of an annuity). Broadly speaking, an Inter Vivos Charitable Remainder Trust operates like this:

1.  You give a lump sum gift to the trust, designating a charity to be the recipient of the funds at your death. You get an immediate one-time charitable tax deduction.

2.  You retain the right to invest the funds inside the trust, and the investment activities of the trust are tax exempt.

3.  The trust is required to distribute an amount not less than 5% but not more than 50% of the value of the trust to you (or other beneficiaries) every year. These distributions are taxable.

This description glosses over quite a few details that must be well understood before establishing such a trust, but is should give a feel for why such structures are very attractive to many people.

A Variable Deferred Annuity (VDA) is the tax-deferred investment vehicle.

To invest in a VDA, you pay premiums that go into one or more of the mutual funds offered by the annuity company. There are two phases: accumulation, during which you put money into tax-deferred investments, and liquidation, during which time you receive taxable annuity payments. "Annuitization" is the conversion from accumulation to liquidation.

In fact, a majority of existing VDAs have never annuitized, apparently because people are content to allow the principal to grow tax free. However, VDAs are not efficient vehicles for transferring wealth to non-spousal beneficiaries because they must arrange for a taxable payout of the value within the VDA within one year of the annuitant's death.

As with VUL, the only appeal of a VDA is as a tax shelter. Variable annuities are notorious for their fees, which in most cases more than eliminate whatever benefit the tax deferral provides. Vanguard and Fidelity offer no load VDAs, however, if a VDA seems to be of interest.

{social security}

There is a huge debate about Social Security funding brought on by the fact that there are more retirees than the system anticipated and they are living much longer than expected.

Social Security is called the Third Rail of American politics because it is so sensitive. Let's ignore the politics and just talk about the facts.

{social security is a success and is going broke}

First of all, Social Security has been a huge success. It was intended to supplement the income of retirees, disabled people and their families to keep them out of poverty. It has done this quite well and therefore is a much beloved program.

Second of all, if demographics and taxes remain as they currently are, Social Security will start paying out more than it takes in around the year 2040, technically it will be bankrupt.

{social security will not fail, everyone covered will receive benefits}

Those are facts and I don't believe they are worth arguing about. Furthermore, I think there is an obvious conclusion we can draw from these facts, namely that the system will not fail. The Baby Boom generation simply will not allow their elected officials to do anything but support the system. Period.

Lots of people say that they don't expect to receive any Social Security benefits because the system is in trouble. Well, that's just nonsense. Every person in America who has contributed to the system (via the so-called FICA taxes) will collect Social Security benefits.

They will; they just will.

{social security must take in more money or pay out less money}

Obviously, some changes must be made to prevent the system from going bankrupt and the only useful changes are to either increase the money going in or to decrease the money going out. Or both. Both of these choices are taxes and both are already happening.

Since the Greenspan Commission in the early 1980s took a look at this problem, the taxes on wages have been increased and the age of eligibility has been pushed out.

The tax on wages is a direct tax on workers and the increase in the age of eligibility is an indirect tax on retirees. In both cases, people have had to give up some money to the government, and that's called paying taxes.

The Greenspan Commission pushed off the day of reckoning to 2040 and some new commission will push it out even further. This new commission will do it the same way the Greenspan Commission did, by raising taxes.

This is a fact. Everything else is politics.

So, as a current or future Social Security recipient, relax: you will get paid and, in fact, you will get more than the generations who preceded you. You will just have to pay a little more up front and have to wait a little longer at retirement.

The one caveat I would add to this is that the populist pendulum swings back and forth in Washington and the burden of the inescapable tax increases may be skewed toward higher net worth individuals.  But even so, I stand by my prediction that everyone who has paid into the system will receive benefits at retirement.

{the components of social security}

When most people think of Social Security, they think of retirement benefits. In fact, the Social Security Administration oversees six broad benefit plans.

First is retirement for which people initially become eligible at age 62 with reduced benefits which increase about 8% per year if retirement is delayed up to age 70.

Disability Benefits covers people of any age who have paid into the system who have a severe physical or mental ailment.

Family benefits provide support to certain members of the families of either retirees or disabled persons.

Survivor benefits go to the families of eligible workers who are deceased.

Medicare provides hospital and medical insurance coverage to retirees or to people who have received disability benefits for two years or more. I cover Medicare in another presentation.

Supplemental benefits are available to retired or disabled persons who also qualify for Medicaid and food stamps.

{fica components}

Except for the Supplemental Benefits, the money for Social Security comes out of taxes on wages, the non-deductible, non-refundable taxes that appear on a W2 form, below the Federal income tax withholding line.

The so-called FICA taxes are a total of 15.3% of a person's wages, with 12.4% of the first $97,500 going to Old Age, Survivor and Disability Insurance - OASDI is the acronym - and 2.9% of total wages going to Medicare.

The employer pays half and the employee pays half. This applies to W2 income employees as well as self-employed persons.

{social security eligibility}

So, who's eligible? Currently, you are probably eligible.

Anyone who paid FICA taxes for ten years on $4,000 per year adjusted for inflation is eligible and is "fully insured". Adjusted for inflation means that the amount was smaller in previous years; each year the amount you must earn in each quarter is adjusted upwards for inflation.

This probably means that anyone listening to this presentation is eligible as a "fully-insured" participant. The only broad class of people who might not be eligible are certain government employees with an equivalent pension.

{social security statement}

The rules are complicated and guaranteed to change, so here's what you do:

go to or else call 1-800-772-1213

and request a copy of your benefits statement. The Social Security Administration is supposed to mail a copy to every eligible person every year around the time of their birthday but if you've misplaced your most recent copy, just get another one.

If you haven't looked at your statement recently, look at it now and make sure all the information is correct. If it isn't, start raising a fuss until whatever is wrong is fixed.

{social security full retirement}

The next thing to do is to decide when to start receiving retirement benefits. This depends entirely on how long you expect to live.

If your family has a short life expectancy and/or you are not in such great shape yourself, take it early. You can start receiving a reduced benefit at age 62. You will receive less per year than if you wait, but you may receive more in total if you are not in good health.

The age at which you can receive full retirement benefits is called the "full retirement" age. The Greenspan Commission recommended making this age later than 65 for younger people and this table shows the ages of eligibility; it's actually broken down by moth, so as you get close you will want to look up your specific case on your statement.

Broadly speaking, if you live more than 12 years beyond full retirement age, you will receive more money by waiting until then.

In fact, your benefit will increase 8% per year more than that if you wait until age 70; less, if you were born before 1943, the idea being to provide people with an incentive to delay.

{average social security retirement benefits payments}

How much will you get? Well, here again, the calculation is so complex that the only way to really get a handle on this question is to look at your Social Security statement.

However, for talking purposes, for people reaching their full retirement age in 2007, in other words for those people born in 1941 choosing to wait until they are 65 years, 10 months old to receive retirement benefits, the national average is a bit under $17 thousand dollars per year and the maximum is just under $26 thousand dollars.

The amount is indexed for inflation every year to keep up with the rising cost of living.

You won't get rich on this amount of money and as the politicians struggle with fixing the system the numbers may change; nonetheless, this is a very comfortable amount of money you can add to your retirement income calculation.

When you think that during the Depression, elderly people were literally starving to death, this is a very generous safety net that America provides to its elderly citizens.

This is why the system is so much beloved and that is why politicians suggest changes to it at their peril.

All of which adds up to why I don't think it's going away. This is a democracy, and when tens of millions of the Baby Boom generation, who protested the Vietnam War and changed so much of our society are looking forward to receiving Social Security benefits,  well, what they want, they will get because that's how the system works.

{taxes on social security benefits}

Finally, there's the question of whether you can work and receive Social Security retirement benefits.

If you decide to receive benefits prior to full retirement age and you earn outside income, your benefits may be reduced. The earnings limitation for people who choose to retire early was $12,960 in 2007. Earn more than that and your retirement benefits will be reduced $1 for every $2 earned above that amount.

Following full retirement age your benefits are not reduced by any other income you receive.

However, if your Modified AGI, the bottom line on the front of your 1040 tax form with a few additions, plus 50% of your retirement benefits exceeds certain levels, then between 50% and 85% of your benefits will be subject to tax.

{medicare and medigap}

Medicare is a Federal insurance program that covers health care costs for people aged 65 and up. Some people with disabilities, others with renal disease are eligible earlier than 65 and for low income beneficiaries dependents can sometimes be covered, but for the most part, this is health care coverage for Seniors; for people 65 and older.

Medicare is partly funded through a 2.9% tax that is levied on wages as part of FICA along with the rest of Social Security. But Medicare also has deductibles, co-pays and premiums for some of its coverage, so Medicare is not free coverage.

In general, eligibility rules are the same as for Social Security in that you must be fully insured, meaning - essentially - that you must have paid into the system for at least 10 years during your working life. Most people qualify and so are eligible.

{contact social security and medicare}

Medicare is part of the Social Security program. The Social Security Administration sends out a pamphlet to every person covered by the system every year at around the time of their birthday which contains information about your eligibility and benefits.

If you don't have a current copy, go to


And request a new one.

Medicare has two useful websites of its own run by the Center for Medicare and Medicaid Services which is part of the US Department of Health and Human Services, and often goes by the initials, CMS.


Contains a lot of very useful information about the program in general, and

MyMedicare DOT GOV will allow you to look up specifics of your own participation.

{medicare eligibility}

By and large, eligibility for Medicare begins at age 65, whether you are still working or retired.

It is a good idea to have your plan for what type of Medicare and other insurance you will want complete well before your 65th birthday because it is complicated and you really have only six months after your 65th birthday to apply without penalty.

So plan ahead.

{medicare benefit periods}

Medicare's deductibles and co-pays are based on a concept of Benefit Period, rather than on a calendar year as is common with individual health insurance policies.

A Benefit Period begins when you enter a hospital or nursing home and ends after you have been discharged for 60 consecutive days. There is no limit to the number of Benefit Periods and each one is distinct.

The chart shows the charges as of 2007 for coverage under Part A, which we'll get into more later. If you enter a hospital, there is a $992 dollar deductible but none for a nursing home.

After 20 days in a nursing home, you have a co-pay of $124 dollars per day up to day 100 when the benefit runs out. Medicare does not cover long-term care. It is often a very good idea to have your own individual Long Term Care policy because if you need to remain in a nursing facility for more than 100 days, Medicare pays nothing. Medicare was not intended to provide long term care and all-too often people run through all their assets paying for long-term nursing care and then must rely on Medicaid, the health insurance program intended for very low-income people.

In a hospital, a $248 dollar-per-day co-pay kicks in at day 61 and lasts until day 90.

For hospital care, there is a lifetime allotment of 60 "reserve days" that can be drawn upon only once with a co-pay of $496 dollars per day.

Thereafter, you must rely on other forms of insurance, although 150 days, which is roughly 5 months, is a very long time to spend in a hospital and the chances are good if you are in the hospital that long, you will have to be discharged into a nursing facility.

{medicare options}

You have two choices when considering Medicare: the original program which consists of Parts A, B and D; and the Medicare Advantage program, called Part C, which acts rather like an HMO or PPO.

Part C, Medicare Advantage is somewhat more restrictive than the Original Medicare in choosing which doctors to vast and so forth, but it is often less expensive and may have more options.

{original medicare}

In the original Medicare, part A is the basic coverage provided as part of Medicare; the other parts are optional, extra cost choices.

Part A covers inpatient hospital, skilled nursing care services, home health care and hospices.

For a fully-insured person, there is no premium for Part A, although there are deductibles and co-pays.

Part A limits hospital stays to 90 days per spell of illness with a lifetime reserve of an extra 60 days. Nursing home coverage is limited to 100 days per spell of illness.

Spells of illness or benefit periods must be separated by 60 consecutive days not in a facility. The deductibles and co-pays are indexed for inflation and were shown in the previous section for 2007.

Part B covers physicians, outpatient services, equipment and rehabilitation.

Part B is optional and in 2007 requires a payment of $93.50 per month premiums which are deducted directly from Social Security retirement benefits, if any. The premium is higher for people with incomes over $80,000 on a sliding scale up to $161.40 per month, in 2007.

There is also a $131 deductible and a 20% co-pay. If you don't signup for Part B within six months of becoming eligible for Medicare at age 65, the cost goes up 10% if you subsequently decide to join Part B.

Part D is Prescription Drug coverage. To be eligible for Part D, you must have signed up for Part B, also. However, enrollment is restricted to November 15 to December 31, so careful planning is required.

Part D has a $32 dollar per month premium, a $265 dollar deductible and a 25% co-pay up to $2400 dollars.

You are responsible for 100% of the costs between $2401 dollars and $5451.25, after which there is a co-pay of 5%. The part for which you are responsible for 100% is often called the donut hole.


Finally, Medigap Insurance is offered by private insurance companies to pay for donut holes and other areas that are not covered by Medicare and sometimes also to pay for the deductibles and co-pays.

It is usually a good idea for most people to get some form of Medigap insurance but careful research is required because there are many choices as well as unscrupulous operators.

Medigap policies are standardized to the extent of coverage but not as to cost, so first you must decide which of the standardized coverages you want and then you must shop around for the best cost.

Medigap policies usually require you to be enrolled in Part B and Medigap does not cover prescription drugs, so you need to consider whether you will also enroll in Part D.

A legitimate Medigap policy must state that it is a Medicare Supplement Policy. Except for the three states of Massachusetts, Minnesota and Wisconsin, all Medigap policies must offer 12 standardized coverage options called Plans A thru L. They do not need to offer all of them, however.

The MEDICARE DOT GOV website has a booklet on choosing a Medigap policy and it is well worth your time to read it, perhaps more than once.

The best time to buy a Medigap policy is in the Open Enrollment period which is during the six months after your 65th birthday and after you have enrolled in Part B. You really don't have much time, so you are well advised to know exactly what you want to do before your birthday so that you can be as efficient as possible.

During this open enrollment period you are guaranteed Medigap coverage and you are guaranteed to get the standard rates. If you wait beyond this period you may be denied coverage or charged considerably more than the standard rates for pre-existing conditions.

{medicare advantage plan}

Finally, Part C is like an HMO or a PPO and is the alternative you have to the original Medicare plan of Parts A and B.

Medigap insurance is not an option under Part C, so you must assure yourself that you are comfortable with all that is provided by the program itself.

{medicare: enroll within 6 months of your 65th birthday}

In summary, I would advise you to begin researching your numerous options long before your 65th birthday;

First of all because they are complicated

and second of all because you really only have the six months following your 65th birthday to enroll in all of the health care plans that will cover you for the rest of your life.

MEDICARE DOT GOV has publications that provide a good place to start and the Social Security Administration has lots of people to help if you avail yourself of the opportunities.

Will Medicare change between now and when many people reach 65? Yes, very likely, but the better informed you are, the better you can adapt to any changes that come along.

Is Medicare running out of money? Yes, technically it is; and at a rate that makes the Social Security problem look quite small in comparison.

But that does not mean you won't be covered; you will be. There will inevitably be changes to the system but it simply will not fail.

Once you reach 65, or perhaps a little older for younger folks, your health coverage will largely be in the hands of the US Department of Health and Human Services, and it well behooves you to prepare yourself in advance for this.

This series of topics is drawn from narrated presentations that can be found here: Risk Management

This page is

Financial planning utility functions:


Please see the Disclaimers

The Cause of the Subprime Crisis

Retirement Planning Video

World Finance, Columbus Day 2008

{Prime Minister Gordon Brown}
Prime Minister Gordon Brown

WITH voters watching three weeks before the 2008 American presidential election day, finance ministers and their political masters met to decide a basic question: dare they risk disaster to save the existing system, or play it safe by sacrificing small banks to rescue big ones? That is, guess if the situation is so bad only strong rowers can be allowed in the lifeboat, or whether things are really manageable enough to try to save everybody but at the risk of worse consequences for failure. For example the credit default swap mystery; there are $60 trillion notional value insurance policies in existence to cover $20 trillion of bonds. Is that massive double-counting, or an actual disaster so severe it makes every other consideration trivial? Answer quick, please, the ship looks like it might sink. At first it seemed strange a Labor government in England would propose saving only the strong, until you realize that Prime Minister Brown is protected from his Left, while the Democrats in America want to use a fairness argument to win their election. A Republican lame-duck president must do the deciding, a man who has been shown to be both a tough politician and a fearless gambler; playing things safe is not his style. The Dow Jones average soared a thousand points in a day's trading on the prayer that things were finally under control. But take a look around.

Little Iceland and Switzerland are proud to house some enormous banks. But if those banks approach failure, their homeland treasuries are far too small to bail them out.

On the other hand, little Hungary has a negligible banking system, so Hungarians commonly borrow money from foreign banks. The national currency devalued by half in this crisis, so most Hungarian mortgages doubled in price. Reserve systems based on national governments suddenly look obsolete.

Try another approach. Little Ireland went ahead and guaranteed all deposits in its financial institutions. Money from England and the rest of Europe immediately poured in to enjoy that guarantee, forcing other grumpy nations to match the unwise Irish offer. There's a sense that nations are losing control of their affairs.

Europe consists of 27 nations, of which fifteen are in the Euro zone. There's a common currency and a constrained central bank, but can this gaggle of geese possibly agree on concerted action in this crisis? America was once in this situation under the Articles of Confederation, but even after almost losing the Revolutionary War, George Washington was nearly unable to get the colonies to form a union. Even after this experience, the Southern Confederate States later adopted the same system of a central currency without a central government and really did lose their war.

Are we to infer from Prime Minister Brown's attitude toward banks that he might soon suggest ditching little nations in order to save bigger ones?

Financial Institutions of the Future

Things which normally dominate newspaper front pages, like presidential elections and World Series baseball, are now found back among the brassiere ads -- displaced by the stock market, credit market, banking and investment crisis of 2008. However, like the wake of a ship at sea, the past could be pointing to the future. Contemplate all the mighty financial institutions which have simply vanished.

It may even be trivial to say that Lehman Brothers and Bear, Stearns have disappeared. The fact is every investment bank has disappeared.

Lehman Brothers

And that's not all by a long shot. Savings and Loans have disappeared. Small commercial banks, and even most of the pretty big ones have disappeared. We may soon be left with half a dozen major banks, and no lesser ones. Commission-based stock brokerage is now a rarity. Insurance? Well, the longevity increase of thirty years over the past century gave life insurance an enormous unearned windfall; when that flattens out, will such institutions still prosper? Individual corporate stocks are quickly vanishing into the homogenized soup of index funds, just as securitized debt was digesting home mortgages before the current uproar. The ranks of stock analysts are thinning out; it no longer matters as much if they have a conflict of interest with nonexistent investment banks and stock brokers. All of this disappearance of institutions is in the recent past, and it mostly isn't coming back. Perhaps hedge funds and private equity companies will take over, but it is really too soon to say if they will survive, either.

Credit Cards

Credit cards have been over used and abused; that can be corrected. But the credit card system is supported by exorbitant fees charged to participating merchants; the card industry could easily disappear if the merchants devise a way to escape this private taxation; merchants universally wish to do so. The currency version of money is trying to disappear as fast as practical ways can be devised to measure value and transactions electronically. The remorseless pressure behind reducing all transactions to electronic form is created by the greatly reduced cost of it. And that pressure is magnified by electronically speeding up transactions; the faster money turns over, the more its virtual size increases. The converse of course is that a slow-down reduces its size. Like a giant tuna, the money supply dies of lack of oxygen if it slows down.

It can be seen in retrospect that banks are dying because everybody else stole their products by providing cheaper alternatives, mostly with computers. In the process, the national economy gets more uniform, less dependent on local agencies. Something of value has been lost, of course, particularly the local assessment of the capabilities and requirements of local customers; somehow, that seems to be expendable. But one thing, perhaps two, cannot be dispensed with.

Warren Buffett

For fifty years, we have grown accustomed to the idea that the electronic records of our institutions are accurate. That's definitely not so. Even a reliable firm makes a myriad of errors in its many transactions, catches them with redundancy and cross-checks, and presents the cleaned-up product once a month or maybe even once a day. But even though the illusion of flawlessness is maintained for the customer as much as humanly possible, it is not inherently flawless. Systemic breakdowns will always expose uncorrected flaws caught in process, while disincentives are created by this one-sided system to spend money perfecting and refining its quality control. It's better than the old manual systems, of course, but its flaws are constantly exposed by the remorseless external pressure to do things faster, in bigger volume, in greater complexity. We approach the point where every individual needs to maintain a duplicate computer system to verify his accounts. Individual telephone bills, for example, require the aid of a computer to explain what another computer produced, brokerage transactions need computerized counterparty challenge to expose hidden fees and costs. We all know how lack of transparency brought securitized mortgages to their knees. We will soon learn that the meaning of credit default swaps defies even expert comprehension. The mysteries of university tuition discounts, hospital insurance and even supermarket discounts cry out for safeguards to generate transparency. It may be true that even billionaires like Warren Buffett do not bother to check the accuracy of all accounts presented to them, trusting the fairness of the counterparty. But that does not contradict the need for balance. Institutions of independent public accounting are surely going to make an appearance in the future, telling people what they have and what they are paying for.

The other component which seems to be missing in our transaction system is a well-developed and widely available profession of financial advisors, equipped with electronic tools to provide their badly needed services affordably and accurately. Not only do agents and advisers need some tools, they need the political power to force high-handed vendor systems to permit universal customer verifications; the hooks and portals to their private systems need to be developed to make this system workable, and that will not be willingly forthcoming. But they must be provided, because any independent advisor/auditors need to be subject to constant reverse-confirmation if we are to escape creating a gigantic imperfect-agency problem. But it always remains that a vendor is not an agent of the customer; his ultimate duty is only to provide an arms-length transaction with transparency. It is the customer's duty to secure his own verification system. When that occurs, it will become part of the third party duty to consent to safeguards against his own imperfect agency. But that's for later. At the moment, independent auditors of the sort needed, scarcely exist.

Much can be gained by searching to correct the flaws of the past whose significance is suddenly apparent. With a stroke of genius, the 2008 reforms of the Bush administration offered a government guarantee of safety for bank accounts which pay no interest. The light finally dawned that businesses use banks for settling up accounts and are more or less indifferent to the interest paid on deposits. When there is a bank panic or a run on a bank, deposits are shifted from bank accounts to Treasury bills in order to find safety; that's now unnecessary. If a bank account pays no less interest than a Treasury bill and is just as safe, why move it? Under the traditional system, deposits seeking safety depleted the loan capacity of the bank and erected a barrier to recovery from the slump that often caused the problem. Why didn't we think of this before?

One of the sources of panic in 2008 was the enormous size of credit default swaps, several times larger than the entire American stock market, many times larger than the national debt. How could we allow such a vast over-insurance to occur? But as some appreciation of the large amount of credit swapping with foreign nations began to grow, things calmed down. If that should unravel the mystery, it is certainly far easier to determine the proportion of international swapping than to set up detailed accounting reports for $60 trillion of default insurance, particularly when the record-keeping intermediaries suddenly go bankrupt.

{Alan Greenspan}
Alan Greenspan

As soon as the calamity of mortgage-backed securities made its appearance, hands were wrung that originating banks were not required to retain a piece of the mortgage. It seems sensible to impose this requirement on the only party in the chain with the opportunity to evaluate and screen the risks, face to face. So, we can probably expect legislation with the effect of requiring originating institutions to retain "a piece of the action". The principle may need to be extended into other areas, as well. Investment banks until fairly recently were partnerships, not corporations. The capital of an investment bank was supplied from the personal resources of the partners, who usually retired at quite an early age rather than retain big risks without actively coping with the constant pressures of hands-on oversight. Investment banks found they could not raise enough capital from rich partners who were constantly tempted to cash out, so they incorporated and sold stock to the general public. The consequence was the managers were placed in the position of taking big risks with other people's money, and able to pay themselves huge salaries without the constant snooping of rich partners at the next desk. For the time being, investment banking has been totally absorbed into other institutions, but the culture shock of mixing risk takers with risk avoiders will surely lead to something else. Like originating banks with mortgages, the originators of IPOs need to acquire some personal risk of their own, because their essential innovations will always race ahead of the imagination of underpaid plodding regulators. Instead of making a game of outwitting the regulators, investment banking must place much more reliance on the examples within their midst, of rich young kids turning themselves into paupers by assuming the wrong risks.

While we are wallowing in the idea of reconfiguring world finance to avoid the mistakes of the past, some thought should be given to goals. Alan Greenspan was able to win every argument with his reputation of guiding the economy through eighteen years without a major recession. Now that we have resigned ourselves to a return of the business cycle, maybe we should ask whether it is wise to go eighteen years, or even five years, without a correction. Some of this has to do with election cycles, so it isn't easy. But perhaps we have learned that perpetual prosperity is a mirage, small frequent readjustments are better.

Forbidden SNL Clip

NBC pulled the original of this Saturday Night Live video from their Web site and replaced it with this edited version.

NBC deleted the section in which Herbert and Marion Sandler described swindling their clients and ultimately Wachovia. The original video had a caption that described the couple as "People who should be shot." Furthermore, the actor portraying Herbert Sandler said "And thank you Congressman Frank as well as many Republicans for helping block Congressional oversight of our corrupt activity."

Herbert and Marion Sandler sold Golden West Financial Corp to Wachovia in 2006 for $24 billion, precipitating Wachovia's failure and eventual sale to Wells Fargo.

Philadelphia City Controller

{Alan Butkovitz}
Alan Butkovitz

The Right Angle club was pleased to hear the City Controller, Alan Butkovitz, give us an insider's view of the municipal finances, but was a little startled to hear how badly the national banking crisis has affected our city. While of course the city does a lot of things, its present finances can be summarized as mainly consisting of two things: the pension system and the management of police/fire/corrections.

Mayors of this city for several decades have been following the national pattern of government to transfer its deficits to the pension funds of the employees. That has the effect of shifting the cost of present operations into the far future, and avoiding present confrontations by promising even more generous pension benefits in the future. Over time, the future gets closer and closer; to a large degree it is right now. Pension funds are largely independent organizations, supposedly receiving current contributions to be invested for future distribution. That requires an assumption about how much investment growth will be achieved in the meantime, now set by the Philadelphia Board of Pensions at 9%. That's not impossible to achieve in some medium-term intervals. But it's optimistic, even inconceivable, for long-haul investing; over periods of thirty or more years, most experts say that 4% is about all anyone gets. More to the point, 9% is particularly unachievable right now, in the present crash of national financial markets. That's bad enough, but repeated shortfalls in contributions to the fund have left it funded at 53% of the calculated requirement to pay the pensions of the future, even using the unrealistic 9% return assumption. A few years ago, Mayor Rendell worried about the underfunding and brought it up to 70% with a billion-dollar bond issue. Unfortunately, the crash in the markets has brought it right back down to 53% again. So, it's fair to say the pension fund is a couple of billion dollars short, even if you accept a 9% income accumulation -- which you probably can't, but at least it brings the pension fund to 70% funding in forty years. Call it four billion dollars short, just to be conservative, since it is presently admitted to be two billion. That isn't Mayor Nutter's fault, but it's sure his problem; and if it gets worse, it will be seen as his fault.

The other expense item of note includes 42% of the budget in the police, fire and prisons systems (education is handled separately through the school board). If you fired all those people, or they quit, we wouldn't have a city, we would have a jungle. But the Controller describes all three as terribly mismanaged, with the local police stations in a deplorable state of disrepair and degradation, bathrooms you wouldn't think of using, and so on. The fire department has only a minor number of fires to fight, perhaps four or five hundred a year, but it includes the emergency rescue services which respond to a couple hundred thousand calls a year. The rescue people report to the firemen, and there is social friction between the two, working to the disadvantage of rescue. It costs about $500 to respond to a call, and it isn't entirely satisfactory to send a fire truck to help someone with a heart attack. The Controller had a number of horror stories about administrative mismanagement in this area. As far as prisons go, everybody knows prisons are bad places, and ours are no exception. Confrontation with the unions is definitely in the future for the Mayor, and the city is going to be in pretty bad shape if he doesn't win some arguments.

That's the expense side of the municipal budget; the revenue side is equally gloomy. The offhand comment was that real estate taxes could double without bringing the pension system under control for twenty years. If our taxes are significantly higher than neighboring cities, or even just the same as in cities with superior uniformed services, it will be hard to attract and hold business taxpayers, causing municipal finance to spiral downward. Along the course of this patter-song it isn't exactly reassuring to learn that it now takes the City 21 days to process a check, and that absenteeism in some departments runs to 20%. We've heard a lot of denunciation of Mayors Giuliani and Bloomberg in New York, but their absenteeism runs 3% because investigators are sent to the house of an absentee, who is subject to court martial if he isn't home.

Somewhere in this nightmare lurks the hidden migration of the unionized workers. Starting with Mayor Rizzo or even earlier, the uniformed services were the main political support of the Democrat political machine. Quietly, they have moved out to the suburbs where the schools are better and the taxes are lower, and it is now said that 70% of union workers live (and vote) outside the city limits. The unions talk tough, bluffing through the uncertainty when their membership can no longer provide the votes to be so fearsome. To some degree, their weakening political power is augmented by using their pension funds to provide construction loans for new commercial real estate. Some of that political clout is used up by the need to get zoning variances and tax abatements for the projects. A lot of these power shifts are hard to assess from the outside, but a trend is clear.

The controller didn't mention it, but the city is not only a pension investor in bonds, but also an issuer. Interest rates are about as low as they can get while the Federal funds rate is nearly zero, so there is only one direction they can go in the future -- sooner or later they will go up. By the iron law of bond financing, the value of the underlying principle will then go down. That could provide an opportunity to buy them back at lower prices, or it could break the city's financial back financing higher interest payments. However, for the pension fund side of things, exactly the opposite is true. Maybe Hizzoner can tap-dance around these dangers and opportunities, but most mayors would have trouble pronouncing the words.

It's part of the job description for the controller to be a pessimist. But the most you can make of this mournful dirge is to hope he is completely wrong.

Special Education, Special Problems

School Bus

President John Kennedy's sister was mentally retarded; he is given credit for immense transformation of American attitudes about the topic. Until his presidency, mental retardation was viewed as a shame to be hidden, kept in the closet. Institutions to house them were underfunded and located in far remote corners of a state. Out of mind. And while it goes too far to say there is no shame and no underfunding today, we have gone a long way, with new laws forcing states to treat these citizens with more official respect, and new social attitudes to treat them with more actual respect. We may not have reached perfection, but we have gone as fast as any nation could be reasonably expected to go.

However, any social revolution has unintended consequences; this one has big ones, surfacing unexpectedly in the public school system. For example, the king-hating founding fathers were very resistant to top-down government, so federal powers were strongly limited. So, although John Kennedy can be admired for leadership, the federal government which he controlled only contributes about 6% of the cost of what it has ordered the schools to do, and the rest of the cost is divided roughly equally between state and municipal governments. As the cost steadily grows, special education has become a poster child for "unfunded mandates", increasingly annoying to the governments who did not participate in the original decision. We seem to be waking up to this dilemma just at a time when the federal government is encountering strong resistance to further spending of any sort. The states and municipal governments have always been forced to live within their annual budgets, unable to print money, hence unable to borrow without limit. As Robert Rubin said to Bill Clinton when he proposed some massive spending, "The bond market won't let you."

The cost of bringing mentally handicapped individuals back into the community is steadily growing, in the face of a dawning recognition that we are talking about 8% of the population. Take a random twelve school children, and one of them will be mentally handicapped to the point where future employability is in question; that's what 8% means. Since they are handicapped, they consume 13% of the average school budget, and growing. The degree of impairment varies, with the worst cases really representing medical problems rather than educational ones. Small wonder there is friction between the Departments of Education and the Medicaid Programs, multiplying by two the frictions between federal, state and municipal governments into six little civil wars, times fifty. An occasional case is so severe that its extreme costs are able to upset a small school budget entirely by itself, tending to convert the poor subject into a political hot potato, regularly described by everybody as someone else's responsibility. There are 9 million of these individuals in public schools, 90,000 in private schools. They consume as much as 20% of some public school district budgets.

All taxes, especially new ones, are bitterly resisted in a recession. Unfortunately, the school budgets are put under pressure everywhere by a growing recognition that our economic survival in a globalized economy depends on getting nearly everybody into college. Nearly everybody wants more education money to be devoted to the college-bound children at a time when there is less of it; devoting 13% of that strained budget to children with limited prospects of even supporting themselves, comes as a shock. Recognizing these facts, the parents of such handicapped children redouble their frenzy to do for them what they can, while the parents are still alive to do it. It's a tough situation, because simultaneous focus on specialized treatment for both the gifted and the handicapped is irreconcilably in conflict with the goal of integrating the two into a diverse and harmonious school community, with equal justice to all.

As school budgets thus get increasingly close scrutiny by anxious taxpayers, handicapped children come under pressure from a different direction. It seems to be a national fact that slightly more than half of the employees of almost any school system are non-teaching staff. Without any further detail, most parents anxious about college preparation are tempted to conclude that teaching is the only thing schools are meant to do. And a few parents who are trained in management will voice the adage that "when you cut, the first place to cut is ADMIN." Since educating mentally handicapped children requires more staff who are not exactly academic teachers, this is one place the two competing parent aspirations come to the surface.

Unfortunately, the larger problem is worse than that. When the valedictorian graduates, the hometown municipal government is rid of his costs. But when a handicapped person gets as far in the school system as abilities will permit, there is still a potential of state dependence for the rest of a very long life. The child inevitably outlives the parents, the full costs finally emerge. We have dismantled the state homes for the handicapped, integrating the handicapped into the community. But when the parents are gone, we see how little help the community is really prepared or able, to give.

ZNOTE: Financial Planning for a Long Retirement


Disappearing Stock Power

The Right Angle Club of Philadelphia recently heard two presentations on newer investment strategies, one by our member on hedge funds and private equity, and a week later by his guest from Black Rock, on ETF funds. For the purpose of this review, both presentations ultimately got around to the same issue.

In the case of private equity, the investor purchases a share of aggregated profits from a company in the business of buying substantial or controllling interest in corporations, usually underpriced or underperforming ones. And then, the private equity fund attempts either to fix up the company and sell it, or fix it up and hold it indefinitely. Whether or not he achieves a profit, the individual investor in the fund loses the opportunity to vote the shares, or has it offered in such an awkward way the opportunity is meaningless.

Hedge Fund

A hedge fund similarly buys and sells stock on its own account, employing the money of investors, and generally adding huge amounts of borrowed debt. In this case, the stock is often held for such short times that voting rights are lost in the registration requirements. Taken as a whole, however, the issue is substantial, since it is reported that 70% of recent transactions have been conducted by unattended computers operating by pre-arranged contingency instructions, often responding in fractions of a second. While the resulting immobilization of voting rights is substantial, the main problem with hedge funds has been the way very small profits have been magnified by staggering amounts of borrowing, potentially causing very large losses if the transaction system is slowed for whatever reason. While hedge funds did perform well during the 2007-2009 crash, it will be 2012 before the incredible volume of transactions can be analyzed to see how close we were to disaster. There is definitely a risk in doing nothing, but probably less than the risk of ill-informed legislation making matters worse in some way.

In the case of ETF, the operator or "manufacturer" of the fund attempts to buy blocks of stock in all or representative samples of the companies listed on some index, weighted in proportion to their weight in the index. The intent is never to sell that stock, merely evaluating the fund price and its dividends as a mathematical exercise, and repurchasing or reselling the calculated bundle to other investors, but never disturbing the contents of the bundle unless the index changes its composition.

In all third-party investing cases except hedge funds, the advantage is that reduced tax and transaction activity saves costs, and avoiding internal selling of stock means essentially no taxes are payable until the investor ultimately sells the fund. The managers of funds maintain that these tax and overhead savings completely compensate for losing whatever opportunities for profit would come along and be exploited by expensive "active" managing of the funds. (Some investment funds employ more PhD's than any American University does.) Even if the performance turns out to be somewhat lower, there is a safety factor of exactly matching the averages, and thus agreeing to surrender the opportunity to join half of the universe of investors in beating the average, in order to avoid joining the other half of investors in doing worse. Furthermore, distributing the investment over a large group of corporations confers diversification, and thus surrendering the chance of a windfall profit in return for avoiding the occasional disastrous loss. In a sense, the fund investor no longer hopes for a company to do well, he hopes for the whole nation to do well. Summarizing the details, these funds provide safety of diversification and reduction of turnover costs, in return for assured but marginal above-average performance. Since this outcome is so greatly superior to the actual experience of non-professional investors overall, it is highly attractive to many investors, and should be attractive to more of them.

In addition to these common features, the hedge funds and private equity expose the investor to the risks and rewards of choosing a skillful manager, who may or may not choose the portfolio wisely, and who may or may not use leverage wisely. The choice of portfolio companies, on average, justify a greater degree of borrowing as their quality improves, and all investment borrowing involves a risk that interest rates may go up for reasons unrelated to the investment. In the recent debacle, hedge funds did comparatively well, but nevertheless there are times when it is unwise to borrow against even the safest securities. And finally, because of the risk of stock market raids by outsiders, hedge funds are quite secretive about their portfolio contents, and force the investor to "lock in" his illiquid investment for several years at a time.

There remains one characteristic of both funds, and for that matter mutual funds, annuities, life insurance and all other forms of aggregated investing through a third party. The third party retains the right to vote the shares, admittedly with some little-used and generally unworkable opportunities for investors to request their own proxies. Such third parties almost always vote the shares in their custody in favor of management. There are occasional exceptions, as when union-managed funds will vote their shares in a political manner, or as when some mutual funds attempt to obtain pension fund business in return for cooperation on selected proxies, or in one legendary story the custodian was instructed "Always vote AGAINST any management proposal." But these are presently exceptional situations. In the vast majority of cases, the proxy votes effectively disappear, and control of the companies in the portfolio gradually gravitates into the hands of those few stockholders who retain direct ownership, and take the trouble to vote it. In fact, it is increasingly the case that the most effective way to frustrate a management proposal is not to vote against it, but to abstain entirely, in the hope that a quorum cannot be assembled.

Another popular movement augments this unfortunate situation. Increasingly, it is urged that top management be paid substantial parts of its reimbursement by stock in the company or options on it. The argument is that it is important to align the motives of top management with the rest of the stock holders. Reflecting concern about some recent events, such stock is or should be forced to bear the covenant that it may not be voted in a stock take-over by an outside raider, to frustrate the commonly used inducement to the manager to sell out his stockholders in a merger. Even when this particular contingency has been foreseen and prevented, the effect of increasing the shares in the hand of management and decreasing the voting shares in the hand of the outside public by freezing them in third-party funds -- soon puts the idea in the heads of managers that they own the company. The recent public indignation about inordinately high salaries for top management, can in large part be traced to the plain fact that voting control of the companies is visibly shifting into the hands of the people who receive those salaries.

Competitive Institutions: Paying for Assisted Living

Around the turn of the 20th Century, it was the fashion to build specialty hospitals, devoted to a single disease like tuberculosis or polio, or one specialty like obstetrics or bones and joints. Eventually, it was realized that almost any disease is handled better if a full range of services is readily available to it. Around 1925, some inspired philanthropists made it possible to combine specialties within a medical center, and it is now generally agreed this is a better way, when population density permits it. On the other hand, it is likely a source of price escalation. Time marches on, and the problems of excessive bigness are also beginning to predominate. The idea immediately occurs, to winnow out the routine cases which do not need so much technology, so that we can concentrate and devote high technology (and costs) to patients who will really benefit. And, immediately the perplexing outcry is heard that such rationalization is "cherry picking", which will soon bankrupt the finest institutions we can devise. The validity of such assertions needs to be examined impartially.

At the same time, the horse and buggy era has been left behind, causing new separations along class lines, the flight to the suburbs, and the migration of philanthropy toward the exurban sprawl, as well as into urban centers. In all this commotion it was overlooked for a long time that medical care was not merely following the patients to new locations, it was becoming more of an outpatient occupation. Inpatient care was shrinking, and somehow expensive hospitals were swallowing their smaller (and less expensive) competitors. It wasn't a necessary development; Switzerland still favors small luxury "clinics" of ten or twenty beds, usually containing wealthy patients of a celebrity doctor. Local customs like this, will change slowly. What America appears to need is more hospital competition and more ambulance competition; the two may actually be somewhat connected issues. For amusement, I once studied the patients in the Pennsylvania Hospital on July 4, 1776, when historical notables were congregating three blocks away. The diseases were remarkably similar to what is seen in hospitals today; problems with the legs, mental incapacity, major injuries, and terminal care. People are treated in hospitals because they can't care for themselves at home.


This is a complicated issue, and may take several years, or even several studies to sort out. What is useful for urban settings may be inappropriate in exurban ones; local preferences must be separated from special pleading, and that is not always easy. However, the continuing care center seems to be a permanent direction which is growing in popularity, as is also true of rehabilitation centers and retirement communities. Many of these institutions might incorporate doctors offices for their surrounding community, using the same parking facilities and many of the same medical specialties for both the neighborhood and the core facility. There seems no reason to oppose either rentals or private condominium-style ownership, nor any reason to resist group clinics. Exclusive arrangements, however, are more questionable. All of these arrangements should be studied, and unexpected problems flushed out. No doubt the preliminary studies would lead to pilot and demonstration programs. And some practices which initially seem harmless, should in fact be prohibited. We have a lot to learn before we start overturning the existing order. But nevertheless, some arrangements will prove to be superior to others, almost all of them are regulated in some fashion, and the regulations should be examined, too. It should accelerate needed changes to know in advance which ones are ready to be tested, and tested before they are demanded.



Everyone knows Americans are living thirty years longer because of improvements in health care, and some grumpy people are waiting with glee to see if Obamacare will put a stop to that sort of thing. It must be left to actuaries to tell us whether the nation saves money or not by delaying the inevitable costs of terminal illness. But one consequence has already made its appearance: people are entering retirement villages in their eighties rather than their seventies. Presumably, people in their seventies are feeling too well to consider a CCRC, although other explanations are possible.

Accordingly, a great many CCRCs are seen to be building new wings dedicated to "assisted living". A cynic might surmise there must be some hidden insurance reimbursement advantages to doing so, but the CCRCs are surely responding to some kind of increased demand when they make multi-million dollar capital expenditures. Assisted living is a polite term for people with strokes or Alzheimers Disease, or some other condition making it hard to walk, or, as the grisly saying goes, perform the activities of daily living. One really elegant place in Delaware has suites with servants quarters, but for most people the only affordable option is to be in a room designed around the idea of assisting an invalid. It's generally smaller and more austere, but fitted out with railings and bars and special knobs. Meals generally have to be supplied by room service.

Not everyone is destined to have a protracted period of decline, but it's fairly frequent and universally feared, so it's a comfort to know your present residence is attached to a wing which provides for it. The question is how to pay for it. There are two main approaches currently in use, adapted to the limited financial resources of the aged and the particularities of CCRC arrangements.
Obama Care

In the first arrangement, there is no increased charge for moving to assisted living, which helps overcome resistance to going there. However, the monthly maintenance charge for others who remain behind in "ambulatory living" is increased, usually about 20%, to provide funding for those who eventually need special assistance. That's a financial pooling arrangement, sort of an insurance plan, and like all insurance it has a tendency to increase usage unnecessarily. It also increases the cost to those who enter the CCRC at an earlier age, because they make more monthly payments before they use them. Although the monthly premium probably goes up as the costs rise with inflation, there may be some savings hidden in applying an earlier payment stream at a lower rate. That's called "present value" accounting, but like just about all accounting, its unspoken advantages and disadvantages contain a gamble on unknown future inflation.

In the other common financial arrangement, you pay as you go, when and only if you actually use the assisted living quarters. Because of the likely limit to resources, there is usually an attached agreement to garnishee the initial entrance deposit if available funds prove insufficient. The one thing which won't happen is being thrown out in the snow for non-payment; there's a law prohibiting that. Bigger apartments with large initial returnable deposits are of course better off paying list prices. Those with smaller apartments may have smaller deposits, and favor payment by a percent withdrawal. Some places haven't thought this through and offer no choice. In that case, more attention should be paid to those list prices and the percentage markup from audited cost. Better still is to have a free choice of both options, with cost transparency.

The remaining choice is between two CCRCs with differing options, made at the time you enter. The Obamacare fuss has made a lot of people acquainted with "adverse risk selection", which is largely based on the idea that an individual has a better idea of his health future than an institution does, since that includes family history as well as earlier health experiences. But in general, a young healthy person is going to live longer without needing assisted living than an old geezer who going to need it pretty soon. A hidden adverse incentive is created for younger healthier people to set the choice aside, and come back in ten years, providing they remain alert to the underlying reason the monthly fee is then somewhat higher than in some competitive CCRC. At the far end of the age spectrum, an incentive is created to go into assisted living quarters a little earlier in life, generally regarded as an undesirable choice.

All this financial balancing act can seem pretty overwhelming to an elderly person who isn't entirely comfortable with the CCRC idea in the first place. Rest assured that everything has to be paid for somehow, and after you die you won't care what choice has been made. If you trust the institution to have your best interests in mind, the only consideration of real importance is whether your money will last you out. The institution cares about that even more than you do, so while they aren't likely to offer unrealistically bargain choices, they may offer a few which are too costly.

America has had a ninety-year romance with insurance, because it is so comforting to be secure and oblivious to finances. This is just another example of the struggle between the search for security, and the struggle to devise ways to pay for it. While no one can be positive about it, we're all in this together.

Unique Investment Requirements

{special investment situations}
Special Investment Situations

Let's announce the purpose of this preamble about special investment situations, right now. In the great majority of cases, the mission of investment management is simply stated: make as much money as possible, and then retire on it. But two extreme situations lead to conclusions about investment policy which differ so radically from each other, it might pay to ask at the beginning whether they somewhat apply to our own cases. One would be that mythical individual who is so rich he can realistically be indifferent to investment outcomes. At the opposite extreme is the non-profit institution which is totally dependent on a steady stream of endowment income, theoretically into perpetuity, but in any event without interruption. The non-profit's contribution to society is limited by the amount of investment income it can generate, while by contrast the tycoon is so well off that for him life will go on, about the same, whether he invests well or poorly, or indeed at all.

Our society recognizes that unique dependence of non-profit institutions on their investment income, and confers an exemption from taxes to philanthropies. So the investment income of nonprofit companies has two unique features: it needs to be steady, and it has no concern about taxes. Taken together, these two conflicting features grow out of tensions between the rich and comfortable who support the philanthropy, and the sense of entitlement of the artists, writers and performers, who as a group are usually paid lower wages. But not invariably. Entertainers are sometimes able to exploit their celebrity to the point where they can be the most highly paid people in the whole work force. This paradox sometimes creates social dissonance within philanthropies, between the rich trustees of an opera company seated in the boxes let's say, and the equally rich soloists standing on the stage. The stagehands, moderately overpaid because of unions, reflect the class warfare sentiments of a century earlier; the only stakeholders actually pinched by economics are the general audience, seated in the back rows of the auditorium unless they stay home during a recession. Such organizations are uniquely well advised to have a steady income from bonds at all times, to keep the place running during recessions. Otherwise, bonds are often a poor investment.
Tax-exempt bonds

The hostilities and discontents of various components of the opera family are not the usual source of main difficulty for the investment manager of such a philanthropy. His grief arises from the need to "meet his payroll", week after week. The stock market may rise and fall, the popularity of the performances may ebb and flow, the stagehands may go on strike. But the business manager must meet the payroll in good times and bad. Consequently, the business manager has an incentive to invest in bonds because of the steady income they generally provide. The opera company does generate ticket income; many other philanthropies have no income at all except for investment income, much exaggerating the need for steadiness from that source.

{Berkshire Hathaway}
Berkshire Hathaway

At the other end of the spectrum, some extremely wealthy persons have essentially no need for income at all, at least income derived from major sections of their assets. For such persons, the question arises, why pay income taxes if you don't need income? If the assets are large, the management burden may become large as well, and there may be very little point to this administrative effort except that the government says it must be done. Persons in this happy situation often invest in assets like Canadian forests whose income is only foreseen in the far distant future, or in Berkshire Hathaway for example which deliberately generates no income or income taxes. In the case of Maharajahs or other obscenely wealthy people there may even be no point in accumulating extra assets, or income, or the investment managers needed to select it. Even a modestly wealthy person gets into this situation when he becomes extremely elderly or extremely sick; he can't spend any of it, so why have it?

But not so fast. A comparatively young person, well educated and earning a comfortable income, may have no need for investment income for years to come, but he will certainly need it sometime. When he can afford to retire, he eventually does so, and at that moment his investment portfolio abruptly switches from a vague nuisance into his main source of his income. His investment outlook therefore should switch from that of a Maharajah to that of a single-client investor with a payroll to meet. Too many advisors ignore this fairly common situation, and advise a standard average portfolio design from age 20 to age 70, from the days when the client is a clerk to the day he becomes chairman of the board, some day even to being an invalid fed with a spoon. But it's hard to see the logic of investment rigidity throughout these life changes. To modify the revenue approach is not to "play the market" or to engage in market-timing. It is to adapt your behavior to your position in life.

This flexibility particularly applies to one's tax situation, which can vary from one extreme to the other throughout life. There is no sense in paying taxes on investment income, unless the money is then spent. If there is no current need for spending money, there is no sense in paying taxes on investment income. Let the investment income accumulate untaxed unless there is no other income to spend. The consequence of this simple rule is that there are significant disadvantages to buying high-dividend stocks, at the same time that certain investment advisors are recommending nothing else. It is claimed that high-dividend stocks out-perform the market, which may sometimes be true. But it is always true that if the dividends are not spent in the same tax year they are distributed, the tax on the earnings they represent would accumulate untaxed if you had bought non-dividend stock. Eventually, such accumulations are taxed when the stock is sold, but ordinarily at a significantly lower tax rate. The present apparent advantage of high dividend stock performance is mainly a result of abnormally low interest rates, which presumably will not last indefinitely. While this situation continues, it creates relatively little new taxes for the retiree spending up his investment income; it is the young person in his earning years who should be wary of unnecessary taxes of this sort.

Poor Richard's Wealth

{Benjamin Franklin}
Benjamin Franklin

I RISE to offer yet another toast to Benjamin Franklin. Like our two leading candidates for the Presidency of the United States, he leaves us uncertain whether he was a rich man pretending to be poor, or a poor man pretending to be rich. To clarify this mystery, I have mainly examined the circumstances of his retirement, and the contents of his last will and testament.

Although he reports that on arrival in Philadelphia at the age of seventeen, he spent his last pennies on a loaf of bread, he was able to retire from the printing business at the age of forty-two, planning to spend the rest of his life as a gentleman at ease. He was able to do so because he had assembled over fifty partners in the printing trade, scattered from Boston to Georgia; today, we would say he had sold franchises to his business. When he came to retire, he arranged to be paid off in eighteen installments, which ought to have lasted him to the age of sixty. That was well past the usual life expectancy at the time, but we can now see it would apparently have run out while he was still in London, acting as our ambassador to Parliament, leaving him without support for the last twenty-four years of his life. Apparently this was the reason for his seeking postmasterships, and acting in some overseas business capacity for Robert Morris, then one of the richest merchants in America.

Assuming he may have run out of money when he was sixty, we look to his final estate to see how he made out in his second career, whatever it was. His assets were in three general categories: land, bonds, and hard money. He bequeathed eleven houses, mostly in Philadelphia, to various relatives. He assigned ownership in thousands of acres of land in Nova Scotia, Georgia, and Ohio. Just what a bond was in Eighteenth century America is not exactly clear, but bonds of at least ten thousand pounds sterling were distributed, as well as ten thousand pounds of hard assets. And he forgave a large and undefined number of unpaid debts.
Poor Richard's

He gave George Washington his gold-handled cane, which had been given to him by the Duchess Du Pont, for unknown reasons. His modesty was famous, but can be questioned when he gave one of his portraits to be hung in the Council Room of the government of Pennsylvania. He gave his sister a portrait of a French King, with four hundred and eight diamonds set in its frame. He instructed her not to make the diamonds into jewelry, because that would be ostentatious. And he instructed that his funeral be plain and simple, although it turned out to be one of the most elaborate parades and ceremonies of the age.

After a few months, Franklin reconsidered his will and wrote a famous codicil. Revoking the gifts to his grandchildren, he ordered that a thousand pounds be set aside for each of the cities of Boston and Philadelphia. His proposal was that this money be loaned to graduating apprentices in order to help them start their businesses, and after a hundred years he envisioned it would amount to hundreds of thousands of pounds; after two hundred years, it would be worth millions and could be used for public improvements. These funds were indeed established and the loaning did begin. Unfortunately after hardly fifty years had elapsed, so many apprentices had failed to repay their loans the experiment was discontinued. What had seemingly been lacking was sufficient will of the trustees to collect the loans with vigor.

Poor Richard may have been born poor at more than one time. But he certainly didn't stay poor, very long. A toast to Ben Franklin, on his birthday, in his club.

Breaking the Buck

{Walt Bettinger}
Walt Bettinger

WHEN mysteriously crashing financial markets caused transactions to freeze in terror in 2008, no one was brave enough to explain what had happened, because no one was sure. It had happened before and in many nations, but no comprehensive theory was acknowledged to exist for all such crises, and certainly no coherent explanation existed for this one. That is an assessment some people might dispute, of course. But during the worst of the crisis, chairmen of major financial houses, professors of economics, and assorted other notables were asked by the newsmedia to explain the situation, and most of them confessed they really didn't know. As the crisis continued, tentative partial explanations were offered, and eventually political partisans or competitors were emboldened to assign blame to indignant participants in various financial trades, apparently using the logic that if no one really knew the answer, then everybody was permitted to offer one. Gradually however, some serious theories have been announced, along with reasonably credible evidence, but no more than that. After the dust had settled somewhat in November 2012, Walt Bettinger published an article in the Opinion pages of the Wall Street Journal which plausibly helps explain a piece of it.

Mr. Bettinger is the CEO of Charles Schwab Corp., which owns several large money market funds, and he credibly offers a theory about the money market part of it. Briefly, it is that large institutions with both sizeable investments in money market funds, as well as strong computer and mathematical resources, were in a position to withdraw their investments during the days of chaos, whereas smaller public investors have to wait until the end of the trading day to learn that a fund had abruptly developed too few assets to justify paying out a dollar for every dollar's worth of obligation. That is, in a "mark to market" situation there weren't enough reserves to cover the liabilities. If the public became aware of this situation, it might suddenly withdraw its deposits and throw the fund into bankruptcy; that is, it might start a run on the bank. In the past, this sort of thing has happened to money market funds from time to time, and the institution which owns or sponsors the money market fund has -- so far -- supplied its own money to prevent potential disaster from a bank run. However, in a serious crash with uncertain causes, some day that might not be their choice, or their assets might not be sufficient to stop the run. The consequences are uncertain, but the dangerous potential is clear.

{Chuck Schwab}
Chuck Schwab

The remedies for this situation might well be numerous, but the simplest one would be to isolate large investors from small ones by setting a top limit for large accounts, perhaps even automatically transferring large accounts to a large-account fund at the instant the account exceeds some limit. Apparently, similar proposals have been made privately, and there is opposition whose validity must be addressed. However, in the confines of an Op-ed article, a fully exhaustive discussion of a technical proposal is not possible. Ideally, this sort of proposal could be adopted privately, using the advance consent of the two involved parties, the bank and the big customer. No doubt there is some legitimate concern that widespread publicity might trigger unfortunate legislative over-reaction. After all, most members of the public are unaware that "breaking the buck" is even a possibility. If the possibility of a run can be eliminated by skipping the alarming discussion of whether it potentially exists, or how serious it might or might not become, it would be a mercy. It only seems to be required that the parties agree it is a risk worth avoiding.

Stretching Out Your Retirement Savings

{Benjamin Franklin}
Benjamin Franklin

Benjamin Franklin was able to retire from the printing business at the age of 42. His partners bought him out in eighteen yearly installments. In the Eighteenth century it was unusual to live past the age of 60, so Ben felt pretty well fixed. Unfortunately for this planning, he lived to be 82, so when he did reach the age of 60 he was forced to look around for postmasterships and other ways to survive, for what proved to be 22 more years.

This is the other side of a coin; on one side is written, "Protect your family in case you die young". On the opposite side is written, "Be careful not to outlive your savings", relying on the old Quaker maxim that the best way to have enough--is to have a little too much. For centuries, life insurance was sold to people who mainly feared the first, commonest, possibility, but never completely addressed the opposite contingency, which was growing steadily commoner. Annuity insurance ordinarily is sold for a fixed number of years, so insurance commissioners ordinarily require what is most probable. Unfortunately, this response shifts the risk of guessing wrong onto the subscribers' shoulders. Since science has unexpectedly lengthened average life expectancy (by thirty years since 1900, or by five years in the last ten), experience rather like Ben Franklin's has become commonplace, but rather poor business judgment. The business remains solvent only as long as the decision to drop the policy is later than the life expectancy.

Retirement Saving Debt

There may exist insurance policies to address this issue, but few companies offer it. We will briefly describe this sort of policy, in case it becomes more widely available, but it is primarily described here to illustrate the issues to consider. If you can get it for a reasonable price, or if you can get it at all, the outline of the policy would be to set a premium and promise to pay 6% for the rest of your life. Underneath the promise is the reality of paying 6% for eighteen years as a non-taxable return of principal. Following that, you don't need to get a postmastership, you are paid a taxable 6% until you die. Presumably, the insurance company has actuaries to help with the math, so the company makes money if you live less than your life expectancy, and loses money if you live longer. If life expectancy suddenly extends much longer (let's imagine a cure for cancer appears), the insurance company is going to go broke. That's why insurance commissioners are uncomfortable with the concept, even though it is obvious how desirable it might be. So that's why annuity insurance typically states a fixed number of guaranteed years, and expects the subscriber to shoulder outlier risk.

Any insurance has an administrative cost, so everyone must consider some non-insurance solution to whole problem. Therefore, we propose you re-examine the old saw about "never dip into principal". If you don't have enough money, you can't do very much except depend on the government, your family, or your fairy godmother to help you out, although it must be obvious that all Americans would be wise to consider retiring five or ten years later than they hoped. Very likely, the government is going to have a difficult time sustaining even the present tax exemption of retirement funds, medical insurance and social security. Those are called entitlements, but if the government eventually can't afford them, it won't matter what you call them. If entitlements keep getting extended, we can expect our nation to resemble the ancient Chinese and Indian nations -- able to build palaces in their golden era, but eventually crumbling into a gigantic slum in centuries afterward. So please, if you are able to do it, try to keep gainfully employed for a few extra years. If you do it (and some people can't) you may be able to realize the American Dream.

{Inheritance Tax}
Inheritance Tax

The traditional American dream was to accumulate enough money to live off the income from it indefinitely, never touching principal, and then exposing the principal to destructive estate taxes after you finally die. Unless you are unusually wealthy, there isn't much left for the next generation after estate and inheritance taxes and expenses. It's a little inefficient to accumulate more than you actually need, but the government gravitates toward the least painful methods of collecting taxes. By confiscating this safety surplus, however, it declares that "Every ship (generation) must sail on its own bottom." And therefore it must acknowledge responsibility for what inheritances ordinarily pay for, like charity and good works. But there remains a quirk to this.

If Ben Franklin's partners had arranged to invest the money until he needed it, they could at least have afforded to finance two or three extra years. After inflation and expenses have eaten away at your retirement income, your principal may not generate enough income to last forever, but it is still big enough to pay for several years of retirement, which may in fact be longer than you are destined to live. Remember two things: 1) a principal sum, big enough to support you indefinitely, must be roughly eighteen times your yearly expenses. If it is only big enough to support you for fifteen years, it will seem too small until you realize you are probably actually going to live, say, five years. And 2) as far as leaving an inheritance to your children is concerned, there is a realistic probability that the government will consume most of the estate before it ever gets to the kids. These fundamental truths are presently obscured by the Federal Reserve artificially forcing interest rates to less than 1%. But if you can just hold out for a few years, it seems entirely likely that interest rates will return to 6% (meaning your principal will once again produce eighteen equal installments). But such a return of interest rates to normal levels will force government to pay a comparable amount as interest on its bond debts (meaning it will get hungrier to escalate your estate taxes.) This isn't nearly as satisfactory a solution to the life expectancy quandary as retiring five years later than you once expected to, but you can't say we didn't warn you.

And as for what happened to Ben Franklin, you can read his will. He died a very rich man as a result of shrewd investments, later in his life. Ben left eight or nine houses, several thousand acres in several states, a gold-handled cane, and a portrait of the King of France surrounded by hundreds of diamonds. But it would not seem wise for the rest of us to count on accumulating that much new wealth, after attaining the age of sixty. The way things are going, once you attain your life expectancy, everyone should have some non-insurance plan for supporting himself for two or three extra years.

Bretton Woods

{The Bretton Woods conference in 1944}
The Bretton Woods conference in 1944

Stripped of its mystery and irrelevant details, the Bretton Woods conference agreed that all nations would make their currency convertible into U.S. dollars, and the U.S. would make its currency convertible into gold. Since World War II had left the United States with the only major working economy, it sold goods to the rest of the world and the rest of the world sent us their money to be converted into dollars; we had a "favorable balance of trade." Somewhere in the 1960s the rest of the world got on its feet, and we began to have an unfavorable balance of trade. After a while, foreigners started converting their dollars (the "reserve" currency) into gold. By 1971, the depletion of gold from Fort Knox became alarming, and the United States stopped converting its currency into gold. From that point onward, all currencies became effectively computer notations, whose value as a medium of exchange was what their government said it was.

Paradoxically, it is hard to see how this system would work without a government in charge of it, although private substitutes would probably soon appear if governments relaxed their monopoly on currency. Since a great many people dislike their governments for one reason or another, they chafe at a system which forces them to keep their governments in order to prevent commercial chaos. For those who do not adequately understand this, governments all stand ready to maintain themselves with force, and many other people dislike that feature even more. Since it took place at the same time, the Vietnam protest movement may have had some relation to this major change in the nation, misunderstood perhaps, but viscerally perceived. In view of President Nixon's central role in all of this, one is even tempted to speculate that his electoral promise of a secret means to end the Vietnam conflict, coupled with the subsequent peaceful surge of China and the financial recycling of Chinese money through Treasury bond purchases, may all have been subjects discussed during his historic trip to China.
Irrational Exuberance

However that may be, it is a fact that the Vietnam War ended, the Chinese economy flourished with American help, and the deposit of Chinese money in our economy helped fuel a massive economic bubble, and the weakest links in the chain -- mortgage backed securities -- were the place the bubble burst. Not much of this could have occurred with a gold standard, and in many circles this was regarded as proof that gold was a barbarous relic. In retrospect, few would deny we had been leveraging our economy to dangerous heights, for nearly fifty years. In 1996, Alan Greenspan denounced our "irrational exuberance", and yet the bubble did not burst for another twelve years. If we succeed in deleveraging our economy until it reaches 1996 levels, it will be regarded as a remarkable success. But the Chairman of the Federal Reserve at that time described it as a dangerous level. And looking back over the centuries, an indescribable number of kings were dethroned or beheaded because they evaded the rather irrational restraints of a scarce, hence precious, barbarous relic. Balanced against that, a billion Asiatics have been raised out of poverty, and the economy of the world overall would seem opulent to our grandfathers. Somehow, we must find the wit and the self restraint to solve this problem.


The Battle of Bretton Woods: John Maynard Keynes, Harry Dexter White, and the Making of a New World Order:z Benn Steil: ISBN-13: 978-0691149097 Amazon

Cyprus Tests the Limits of Paper Money

{Cyprus Map}
Cyprus Map

Tourists like to banter about their favorite place in the whole world; until recently, mine was Cyprus. It's an eastern Mediterranean island, where it was possible to swim from beaches in the morning, ski in the afternoon, and luxuriate in an inexpensive but posh hotel in the evening. The locals had their ethnic rivalries, but what would a tourist care. Since I was last there, apparently Russian and other billionaires discovered the place, and now three local banks are bigger than the GNP of the nation. Like Ireland, Hungary, Iceland and several other small European nations, this dystrophic growth made it impossible for the government to guarantee the assets of the banks, as the familiar "lender of last resort" because the banks were bigger than the government. Accordingly, the local government was forced to declare a protracted bank holiday, to forestall what was certainly going to turn into a run on the banks as depositors all tried to get out the door at the same time. International stock markets immediately dropped a noticeable number of points, as the whole world suddenly discovered Cyprus wasn't such a nice place to put your money after all. The Russians might possibly be nasty people, but in this matter of bank deposits, people all link arms internationally like brothers.

There have been lots of other bank panics in small nations without much agitation, so what seems to have bothered the markets was the decision of the Central European Bank to tax the depositors 10% to support the system. Christine Lagarde, the head of the International Monetary Fund, said she thought it was a good idea to tax depositors, and that really upset a lot more people. Ms. Lagarde is French, but the IMF which she heads is located a few blocks from the U.S. White House, so the suspicion grew that Mr. Obama might approve of placing a tax on bank deposits, too. As things started to get out of hand, everyone hastily dropped the whole idea, and even the Cypriote Parliament voted against it. There was no time for even the large organizations devoted to managing the news to manage this one. World opinion was instantaneously mobilized, and thunderous in voicing its low opinion of taxing bank deposits, by anyone, anywhere. What was accidentlally aroused was the realization that since the World went off the gold standard in 1971, the world's money is backed by nothing at all except a computer notation. Irrevocably taxing it in bank accounts could be done in an hour.

In 1944 the international conference held at Bretton Woods, New Hampshire, agreed that other nations could exchange their currency for American dollars, but only the U.S. dollar could be converted into gold. As long as the U.S. ran a trade surplus, the gold remained undisturbed in Fort Knox. But when other nations began to export their goods in the 1960's, their dollars began to be changed into gold. Gresham's Law took over quickly, since when two currencies of unequal value circulate together, the more valuable one will quickly disappear; the shifting balance of trade had made gold more valuable than dollar bills. When President Nixon began to see that Fort Knox was soon going to be emptied, he put a stop to the exchange. He "closed the gold window". At that point, we were all off the gold standard, but nothing much happened. It remained possible to continue to speak of gold as a "barbarous relic", and by implication any standard like silver or oil or land, was also a barbarous relic. But the experience of Cyprus taught the world that everyone did want the value of currency to be independent of the whims of government, and like the Emperor's suit of clothes, was just waiting for someone to point it out. A system of monetary exchanges, or exchanges of goods and services, really can be run without backing by anything except the word of government. But inflation targeting does need a government to run it, and thus governments have acquired a power over currencies which centuries of experience had taught people not to trust for a moment. North and South American hemispheric trade had been comfortably run without governments for centuries, as long as there were Spanish pieces of eight in actual circulation. But the modern Cyprus government could not run for a week without the trust of depositors, and neither can any other government. Conversely, it is impossible to run an economy without a government to guarantee the international value of money. People don't like that situation, and the threat of chaos in the streets is not much different in any place in the world which does not run a brutal military system. When you reach a point where even the soldiers refuse to be paid with paper money, you are about at the point General George Washington found himself after the Revolution. Robert Morris convinced him it would be possible to base a currency on the credit of the nation, and General Alexander Hamilton had been taught how to run such a thing. The rest of the country didn't understand what that meant, but they did understand that it seemed to work. But it would only work if the people trusted their Constitution, and the government it designed. But then, our government never tried to put a tax on bank deposits. In fact, it took another hundred years before the American public was completely certain you could trust banks even to exist. The good ol' mattress, that's where to keep your money. If it's in gold coins, that is. Paper money might just as well be in a bank, because its value is only symbolic of a government promise.


The Battle of Bretton Woods: John Maynard Keynes, Harry Dexter White, and the Making of a New World Order: Benn Steil: ISBN-13: 978-0691149097 Amazon
Robert Morris: Financier of the American Revolution: Charles Rappleye: ISBN-10: 1416570926 Amazon
Bitter Lemons: Lawrence Durrell: ISBN-13: 978-1604190045 Amazon

Force Justifying the Use of Force

Once a group of people reach agreement about governance (or, become convinced that certain specified varieties of force will put an end to unspecified force), the stage is set to impose conformity upon those who prefer persuasion. The justification is almost always the same: force is offered to justify making the use of force unnecessary. Except for the indoctrination of children, the prior use of force is just about the only justification for forcible responses. There's a Quaker sound to that, because it introduces an unproven suggestion that all force might begin with the training of children.

Even an approximation of that suggestion seems to fit the facts of fierce tribes like the Vikings and the Romans permanently switching to notoriously pacifist ones, and goes on to include others like the Tibetans and the Japanese, and Germans. Unfortunately, it must also mention the early Quakers themselves, who have a history of cavalry troops in the English Civil War, Confederate sympathies in the American Civil War, and conflicted allegiances in the "good War", World War II. The history may not be an undiluted one, but contains numerous threads of many switches in nature from revulsion against violence, or reversion to it, nevertheless too rapid to seem plausible as either mutations (on one hand) or pure switches of reasoning, on the other. Conversion by childhood observation and rebellion, at least, seem more plausible mass-change agents.

Basic Lifetime Health Care?

Lifetimes are divided into sequential episodes for various practical reasons, and in the past fifty years a brand-new episode known as retirement has even been added to the end of the sequence. We started with two thirty-year periods, childhood, and adulthood. For its own purposes, the medical payment system stretched to three segments within a 90-year lifetime, and then for practical purposes, a five-segment one: childbirth, childhood, education, employment, and retirement. The employer community pioneered this American hybrid, but almost all other national systems are government-dominated, so the American system segmented slightly to accommodate the reality that two employers (the parents and the child's) must be recognized. The new retirement era tends to unite retirement with government as becoming the organization which pays the bills tending to dominate the choice of payment. It probably does not overstate matters to say that recent immigrants favor a unified lifetime government system, while employers are reluctant to give up control for fear government control will spread out through the opening. The fact that medical revenue at any age originates in the employment interval lends plausibility to this attitude. Comparison of the quality of the two existing approaches does not seem to disqualify either employer-based or single-payer (lifetime national governmental), although the Constitution seems to favor individual 50-state hybrids.

What is gradually shifting during the past century is the inclusiveness of the sponsor groups, retirees enlarging at the expense of the employed. These groups see themselves becoming potential beneficiaries, but changing at different rates and with different costs. Shifting costs are a befuddlement, but it seems safe to predict that costs will ultimately fall to slightly more than the first year of life and the last year of life. Before that point is reached, we will probably experience a rising period of development costs in the middle. Actuaries calculate an average present lifetime cost of $300,000, net of inflation, around which actual costs will fluctuate. Taking a wild guess that first and last year will eventually settle down to $100,000 per average lifetime, or perhaps $150,000 including terminal care, the elements of first-and-last year of life insurance should be calculable, and the premium approximated and re-adjusted annually on a current-cost basis. In the meantime, healthcare costs can be monitored by big-data methods. No one would expect such data to be precise at first, but a ten-year probationary period should suffice to arrive at commercially workable net costs for all citizens for the two universal costs for everyone -- birth and death. There will be universal outcries that other costs will be neglected, underestimated or misjudged, but a workable and basic universal system can nevertheless be established, and the intervening other medical costs managed in the conventional political way.


Innate Longevity

Someone must have made a study of longevity, because the externals give every sign of genetic control. Pets and domestic animals vary widely in their typical lifespans from a few hours to more than a century, but each species seems to have a characteristic longevity, roughly in proportion to its typical overall size. Within a certain limit, each species of pet seems to live about the same longth of time, suggestiing some variety of genetic control. The human species is of most concern to longevity in the life insurance industry, and it is commonly noticed that very few people live beyond the age of 110, except in Biblical accounts of doubtful accuracy. Until recently, the average human longevity was what it was, but if we are to base insurance on this topic, it will soon enough be important to know how difficult it would be to lengthen it artificially. Right now, it appears to be next to impossible, but the same question got a different answer a century ago, and the answer has approximately doubled.

Bear in mind that the purpose of tinkering with longevity is to affect the cost of the insurance, and there are two natural forces at work == inflation and compound interest. They work in opposite directions; inflation reduces the available funds over time, while compounding increases it. Since inflation is under human control whereas compounding is purely mathematics, only inflation is likely to be changed, while compounding is likely to increase the size of the principal. There are limits, but at a duration of 90 or 100 years, the net of inflation and compounding is apt to improve the size of the reserves. In any event, only inflation needs to be monitored in order to make adjustments, and after fifty or so years, it would have required pretty drastic changes to put similar life insurance started by President Hoover at mathematical risk today.

Since there is thus no need to worry about the finances of this system back to some Roman Emperor, approximately half of the permanent healthcare cost can be predicted (one-off forever) and some clever actuary could thus calculate what it would amount to, per year.


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