....and Econ Lesson of the Day

....and Econ Lesson of the Day

Published in Daily Reckoning in 2007 -

Imagine a man who makes his living digging ditches. He may hire himself out at a daily rate of, say, $25. The old capitalists would have paid no attention to him he is just one of millions of small entrepreneurs getting by in life.

But todays financial hustlers will spot the opportunity. Lets take him public, they will say. Well raise his daily rate to $30pay him his $25and the rest will be our “profit.” Well sell shares to the public at a P/E of 20lets see, 20 x $5 x 250 days per year = $25,000. All of a sudden, the ditch digger has a capital value of $25,000.

Then, they borrow $20,000 from a hedge fundand pay it to themselves for structuring the deal. Now, the hustler has $20,000 in his pocket; the hedge fund has a high-yield bond worth $20,000; the shareholders have $25,000 worth of stock; and the poor man is still digging his ditches.

Then, an even more ambitious wheeler-dealer will come along and decide to “roll up” the whole industry bringing the ditch diggers together into a multi- national consortium. Now they can all do cross-border transactionsincluding derivatives.

And now ditch-digging is a major business, suitable for large investorswith more investment coverage and a higher P/E ratio. Soon all the worlds banks, pension funds, insurance companies, and hedge funds have some of the ditch digging paper debt or equity and billions in fees and commissions have been squeezed out of ditches by the financial industry.

That, patient reader, is the way (the world-over) that industries and assets are now being bought, sold, refinanced, leveraged, re-jigged and resold. In the old days, companies went to investors or to banks for capital and cultivated a relationship with them that was long and fruitful.

Now, its all wham-bam-thank-you-maam capitalism. Inquiring capitalists now only want to know one thing how fast can we do this deal? How many points can we get out of it and how much leverage can we get? And whom can we dump it on, when were done?

Written by M. //