Sunday 2012-07-01

When an investment isn't going as planned, you need a workable exit strategy. Since not all investments go well, what factors contribute conducively to repeated cycles of buying and selling?

Having money that everyone trusts to keep its value is a big part of a working payments system. Next is being able to cheaply a) hold it someplace safe and b) move it someplace. Together these minimize the intermediary costs of exchange, e.g. selling a farm and buying a factory = selling a farm, buying dollars, holding dollars, moving dollars, selling dollars, buying a factory.

Policies supporting payments would include:

  1. Sustaining credible deposit insurance for dollars held
  2. Reducing inter-organizational transfer costs

Repurposing assets also implies repurposing debts; when an investment is failing, creditors face uncertainty as to whether they will be repaid in full or not. In the worst case, the investment entity declares bankruptcy and a court then rules to dismantle or reorganize the investment. Large legal and time costs can entail, e.g. investment fails to pay interest on its bonds, bondholders' talks with management fail, bondholders sue for payment, management declares bankruptcy, lawyers head to court to present the lists of claims and assets, management proposes to the court either re-organization or liquidation, the judge weighs the costs / benefits, pending the judge's ruling, assets are either a) transferred to the bondholders, b) sold by a third party for a fee, or c) remain with the investment which is now owned by the bondholders.

Policies supporting asset and debt exit strategies include:

  1. Predictable rulings of judges when given the facts of the case
  2. Minimizing court costs and the round trip time between case start and resolution

Property Rights:
Asset and debt holders should be able to cheaply prove and protect their claims, while governments should be able to cheaply tax in order to recoup the costs of protection, adjudication, and seizure. Legal compliance entails its own costs through either paperwork or restrictions on the use of assets, e.g. zoning laws. Likewise, taxes can be costly, especially with non-bankruptcy seizures of assets through condemnation, eminent domain, etc.

Policies which support property investment and re-investment include:

  1. Predictable tax rates at the decade level
  2. Minimize non-bankruptcy asset seizures
  3. Minimize the costs of property registration and tax collection
  4. Minimize the restrictions on ownership and use of assets

Secondary Markets:
The more buyers and sellers are available, the more liquid the market for assets, and the easier it is to sell an unwanted position to someone who thinks they can make more of it. In markets, many of the costs are informational, e.g. when A sells a car to B, A knows the history better than B, A knows the number of interested buyers and offers, and should B claim the car is a lemon, B needs documentation of the state of the car and A's claimed state of the car.

Policies which increase market breadth and depth include:

  1. Increasing standardization of assets
  2. Minimize costs of asset classification and verification

These policies provide an imaginary yardstick by which to measure jurisdictions by investability; much work remains to make the yardstick real and metric.

[permalink] "selling a farm and buying a factory = selling a farm, buying dollars, holding dollars, moving dollars, selling dollars, buying a factory" I think this should read "selling a farm and buying a factory = trading a farm for dollars, holding dollars, moving dollars, trading dollars for a factory. There is no intermediate position between the selling a farm and buying dollars - it is an atomic transaction. ----- "Predictable tax rates at the decade level", "minimize the cost of property registration and tax collection" One of the best proposals I've heard for general taxation is: A nation should generate it's income from 2 sources: a flat corporate income tax and a real estate tax. The real estate tax works as follows: Each property owner declares the value of their property as anything they please. Anyone can force a property owner to sell his or her property for some multiple (e.g. 1.5) of the declared value. Property owners pay a flat tax on the average value of property (probably normalized by some combination of land area and building area) in the region, so as not to discourage property improvement. --Theo