Why America is in Trouble

Simple answer: too many sharks in the water.

Complicated answer: financial "engineering" and manipulation and Wall Street deals are destroying the true value-creating enterprises in favour of fast-buck financial deals. Here's a bit from an excellent article in the NY Times by Julie Creswell that looks at how the mattress maker, Simmons, has been destroyed by the "private equity" sharks:

In many ways, what private equity firms did at Simmons, and scores of other companies like it, mimicked the subprime mortgage boom. Fueled by easy money, not only from banks but also endowments and pension funds, buyout kings like THL upended the old order on Wall Street. It was, they said, the Golden Age of private equity — nothing less than a new era of capitalism.

These private investors were able to buy companies like Simmons with borrowed money and put down relatively little of their own cash. Then, not long after, they often borrowed even more money, using the company’s assets as collateral — just like home buyers who took out home equity loans on top of their first mortgages. For the financiers, the rewards were enormous.

Twice after buying Simmons, THL borrowed more. It used $375 million of that money to pay itself a dividend, thus recouping all of the cash it put down, and then some.

A result: THL was guaranteed a profit regardless of how Simmons performed. It did not matter that the company was left owing far more than it was worth, just as many people profited from the mortgage business while many homeowners found themselves underwater.

...

But in the mid-1980s, Simmons caught the attention of a new type of investor. The businesses that stormed corporate America in recent years under the banner of private equity were not always called private equity firms. In the 1980s, they were known as leveraged buyout shops. Their strategy is essentially unchanged, however: they try to buy undervalued companies, using mostly borrowed money, fix them up and sell them for a fast profit.

Because they pile debt onto the companies they buy, the firms free up their own cash, allowing them to make additional investments and increase their potential profits.

Simmons’s first trip through the revolving door of private equity came in 1986. Like the latest trip, it was not a pleasant one for employees, but the buyers did just fine.

...

The deal was a fiasco for the employees. As part of the buyout, Simmons stopped contributing to its pension plan, since the stock ownership plan shares were meant to pay for the employees’ retirements. But then the bottom fell out of the housing market and Simmons, with its large debt, stumbled. Its pensions crumbled as the value of the stock plan shares plunged.

...

For now, the Golden Age of private equity is over, the financiers say. In a speech to an industry gathering last spring. Mr. Schoen said that bankers and bondholders were reluctant to lend more money to the buyout kings.

“We’re in a brave new world,” he said. “We can’t go back to where we were, at least not in this investment cycle, and probably not in my career.”

...

Simmons and its remaining employees face an uncertain future. Some in the industry predict Ares will eventually merge at least part of Simmons with Serta, jeopardizing more jobs.

“Simmons has been a cash cow. It’s made a lot of people a lot of money,” said David Perry, executive editor of Furniture/Today. “But there’s a growing question in the industry of how many more times can this be repeated. How much more juice can be squeezed out of the orange?”

This reminds me of the stories of the manipulations of the go-go 1980s when junk bonds and leveraged buyouts were all the rage. Some would argue that this machinations of the 1980s set up the growth of the 1990s. But it sure seems to me that whatever "growth" there was in the 1990s was bubble-driven and the bigger story is the on-going gutting of American business by financial wheelers and dealers.

If you read the whole article you find that reality is more nuanced and complicated. The villains are less clear-cut. That's the problem with story telling. We love to cut to the "essentials" but that leaves out the complexity. Life is complex. The bad guys don't wear black hats.

I would guess the real problem is that in a complex large scale economy, it is hard to get real innovation. So there aren't a lot of new companies (or established companies with really innovative R&D) that creates new growth. Instead, the economy is like a climax forest, a lot of death and decay and stasis. Carrying the analogy further, the private equity companies are the fungi of the ecology.