

Why Are Taxpayers Subsidizing Facebook, and the Next Bubble? - donohoe
http://economix.blogs.nytimes.com/2011/01/06/why-are-taxpayers-subsidizing-facebook-and-the-next-bubble/?src=tptw

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bwanab
All posters, except thrill, seem to have fundamentally misread the article. It
isn't about Facebook or GS for that matter. Its concern is that several banks
including GS have a "too big to fail" subsidy. That subsidy is an implied
insurance against failure. Let's say you are GS management and you have two
possible investment choices: 1) A safe boring sure thing financed with little
leverage that will bring in somewhere between 5% and 10% yearly return, or 2)
A speculative leveraged investment that would bankrupt the company if it
failed, but would make 50% a year if it succeeds. Which would you do? If 2
fails, the taxpayers pick up the bill and you can try again, if it succeeds
you get substantially richer. This isn't capitalism in the sense that you
learned in school. It's crony capitalism of the sort that the US has always
rightly criticized in "other" countries. It doesn't make it right when it's
practiced in the US.

~~~
mayank
I would argue that the consolidation of (fiscal) power into a few large
centralized institutions can be a natural outcome of capitalism, since an
increase in the size of an institution (either through growth or acquisition)
can offer more profit opportunities. Now if you view a corporation through the
traditional lens of being sociopathically focused on profits, then it is
natural for it to seek a position where its failure would catastrophically
affect too many people for responsible governments to allow, as a sort of
insurance. It's not "crony capitalism", it's _unbridled_ capitalism. On the
other hand, placing oligopoly restrictions to prevent the growth of
corporations beyond a certain size and impact isn't (in a very strict sense)
"capitalism". We already think that monopolies are bad, but where do you draw
the line with oligopolies? 3 large banks? 5? 20? GS subsidizing FB, and the
taxpayer subsidizing GS seem to be very natural outcomes of an unrestricted
business environment and a mandate to generate profits.

NOTE: not trying to take a left or right stance here, just viewing matters
through the fun lens of mathematical optimization.

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shawnee_
There are two things that make this particular case so interesting.

(1) Facebook is still technically a < 500 shareholder company, subject to a
"special case" set of rules for reporting. _In 1964, regulators started
requiring companies with more than 499 shareholders to publicly report their
financial results._ (source:
[http://dealbook.nytimes.com/2011/01/05/the-500-investor-
thre...](http://dealbook.nytimes.com/2011/01/05/the-500-investor-threshold-
debated-for-its-47-year-history/) ) Facebook isn't there, but if EVER there
were a case where this old-fashioned rule should not apply, it would be here.
Goldman-Sachs IS (indirectly) benefiting from a "free" pool of money that
comes from taxpayers. It's no longer a private-company issue.

(2) _employee-owned shares typically do not count toward the 500-investor
limit. But once those shares are sold on a private exchange — often after
employees leave the company — they are no longer exempt._ This is interesting
because Facebook has "1700+" employees, which is _far_ more than the kind of
small "we need protection" private companies that the 1964 rule set out to
protect.

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spinlock
I think a better title would be: why are we pumping up the next bubble with
debt rather than equity?

I don't really worry about Goldman Sachs or Facebook. They are both best of
breed and they handle themselves very well. The real danger here is that we
are entering an era where risk capital is being financed through the debt,
rather than the equity, markets. This is entirely inappropriate as most risk
capital is lost and the 10% or so that does return is supposed to make up for
the other 90%. Can you imagine how bad the current financial crisis would be
if 90% of real estate was not just underwater but completely worthless?

~~~
hessenwolf
Most risk capital is lost? We hold risk capital for a 7bp event (99.93% chance
the situation will be better than this). Then we have prudent margins. Why the
fuck would we burn through 90% of our risk capital most of the time?

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lefstathiou
Couldnt we apply this argument to ANY company goldman invests in? So what is
the call to action here? Goldman should not play bank and thus not lend money?

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jonnathanson
This editorial is a not-entirely-successful attempt to conflate two different
topics of discussion: FB's valuation (and Goldman's market-making involvement
therein), and the dangers of leverage in the financial sector.

It's quite likely that Goldman would have made this play with FB regardless of
its current special access to federal dollars, thus making the two topics
incidentally and not fundamentally related.

~~~
spinlock
I would say that it is very likely Goldman would have made this play
regardless of it's federal guarantees. The difference - and the author's point
- is that there is less systemic risk in this scenario because Goldman would
get the $450M through the equity markets rather than through the debt markets.

The author's point is that we have created a system where risk capital is
being financed through debt rather than equity.

~~~
chopsueyar
...or more specifically, risk capital is being financed through taxpayer
dollars.

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kragen
Even if Facebook's valuation isn't a bubble valuation (as I've argued
previously) it is certainly the case that money lent at excessively low
interest rates will create bubble valuations.

What can you do about it? You could stop accepting dollars, I suppose.

~~~
ximeng
Buy gold:

<http://www.kitco.com/charts/popup/au1825nyb.html>

~~~
kragen
If you can buy gold with dollars lent to you at excessively low interest rates
while the taxpayers shoulder the risk that gold prices might crash, that would
be a viable way to take advantage of the situation.

But I was asking how to _improve_ the situation. Does buying gold improve the
situation in some way that is not obvious to me?

~~~
ximeng
As gold supply is relatively fixed, it's harder to manipulate than valuations
of internet companies. Spending dollars on gold rather than stocks will reduce
the stock bubble risk and reduce price for dollars (measured in gold / $), so
reducing your vulnerability to dollar bubbles caused by government policies.

It's not perfect but it's a form of insurance. Based on recent gold prices, it
looks like many people are taking that insurance.

Essentially I'm agreeing with you - stop accepting dollars, use gold instead.

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3pt14159
Short version: Anything Goldman invests in is being subsidized, so Facebook is
being subsidized. _Yawn_

~~~
spinlock
Accurate version: Goldman finances its operations through debt rather than
equity because of it's explicit federal backing. The risk capital it is
investing in Facebook is therefor debt rather than equity. Facebook is so hot
right now that it is probably overvalued. This leads to a debt bubble - rather
than an equity bubble - which is much more painful for the economy.

~~~
3pt14159
By definition any investment that is subsidized is overvaluing the base asset.

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iuytgyuikoiuy
There have been a whole run of nytimes stories that have the same second half
of the text about "the obama administration" and goldman sachs getting access
to cheap government money.

With a different - what they have done this time - first paragraph. It seems
like somebody at the NYT doesn't like either GS or the Obama adminsitration.

In this case GS are doing something naughty - but they aren't borrowing
government money to do it, and since they aren't even investing their own
money it's hard to see why they would need to

~~~
thrill
GS (and other favored companies) doesn't need to actually borrow - they gain
advantage by having access as needed to 'government money', better defined as
coercively (you know - prison if you don't give it) acquired taxpayer money.
Merely having that access is the advantage - they can take greater risks - and
reap greater rewards - than others because of it.

~~~
grav1tas
Laissez-faire capitalism at work! No really, can somebody explain why
institutions like this are allowed to have such advantages over their
competition? This seems like it would be an easy political target FROM ALL
SIDES of the aisle. "Big government" messes with the "free market" and the
"rich get richer".

::EDIT::

Since I can't respond to my sub comments at this point, the first sentence,
is, in fact, sarcasm.

~~~
yummyfajitas
_Laissez-faire capitalism at work!_

No. Please use wikipedia to look up unfamiliar terms before using them in a
sentence.

<http://en.wikipedia.org/wiki/Laissez-faire>

[edit: my apologies. Didn't detect the sarcasm.]

~~~
grav1tas
My first sentence was sarcasm. I indeed did look it up to verify its meaning
and to determine that it was what I wanted to say, even though the term was
not unfamiliar to me.

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clp16
Subsidizing the social networking bubble? Email was totally monetized by
companies like RIM and now large hardware firms that sell the email server
stuff. However social network is being monetized in the direction of at the
very least advertising, putting real money behind the valuations of these
companies like Facebook. Sure advertising is a fickle beast, but the majority
of companies(i.e. everyone but Twitter) have more than vaporware making up
their business models.

~~~
dotcoma
whereas Twitter has... ??

