Gunpowder and Airport Security

Security expert Bruce Schneier links to this story by a woman who claims to have passed security at the San Francisco airport with a counterfeit boarding pass in her hand and gunpowder in her carry-on luggage.

Last Thursday, December 5, I brought five ounces (140 grams) of old-fashioned black gunpowder to San Francisco airport. I also brought along a boarding pass for United flight 720 to Denver that I had created at home, in an computer art program. TSA agents accepted the boarding pass. They also took no notice at all of the gunpowder. Accepting the boarding pass was reasonable. Boarding passes that we design and print at home look just like ones designed by the airlines that we print at home. I had thought, though, that I might elicit a short conversation about the gunpowder. Mind you, I had packed the stuff safely. It was in three separate jars: one of charcoal, one of sulphur, and one of saltpetre (potassium nitrate). Each jar was labeled: Charcoal, Sulphur, Saltpetre. I had also thoroughly wet down each powder with tap water. No ignition was possible. As a good citizen, I had packed the resulting pastes into a quart-sized “3-1-1″ plastic bag, along with my shampoo and hand cream. This bag I took out of my messenger bag and put on top of my bin of belongings, turned so that the labels were easy for the TSA inspector to read.

Is her account true? I have no idea. There is a picture on her blog of her standing in what appears to be an airport security line, holding what appear to be little jars. But this hardly constitutes proof, so a degree of skepticism is warranted. But if her account is true, it would square with other similar stories of TSA security holes (e.g., here, here, here, here).

British Pound Falls to Parity with the Euro

The AIG Debacle

The Washington Post is running a three-part series on the collapse of AIG. A few takeaways:

• AIG was long considered one of the safest companies in the world, as reflected in its AAA rating from the major credit rating agencies.
• The demise of AIG was caused by its subsidiary, AIG Financial Products. AIGFP was formed in 1987 as a joint venture between AIG and three defectors of the junk bond firm of Drexel, Burnham, Lambert (Howard Sosin, Randy Rackson, and Barry Goldman). The deal was structured such that AIG would 62% and AIGFP 38% of the profits.
• AIGFP specialized in derivatives, "financial jargon for a contract settling in the future that is based on something trading now."
• "Under the joint-venture agreement, Financial Products received its profits upfront, even if the transactions took 30 years to play out. AIG would be on the hook if something went wrong down the road, not Sosin and his team, who took their pay immediately."
• In 1993, Howard Sosin and Hank Greenberg, AIG's chairman, had a falling out, apparently precipitated by a deal that lost $100 million, and Sosin left (getting $150 million in the process), taking Rackson with him.
• AIGFP became a subsidiary of AIG, with the parent company taking 70% of the profits.
• In 1998, AIGFP got into "credit default swaps," a contract in which "the firm essentially would insure a company's corporate debt in case of default." AIGFP's computer model calculated that there was a 99.85% probability that the firm would never have to pay out on these contracts; that the "U.S. economy would have to disintegrate into a full-blown depression to trigger the succession of events that would require Financial Products to cover defaults."
• "When the housing market tanked, a statistically improbable chain of events began to unfold. Provisions in the contracts kicked in, spurring collateral calls on swaps linked to $80 billion in questionable assets, requiring the firm and AIG to come up with billions of dollars in cash. They scrambled for almost a year to stave off the calls, but there were too many deals with too many counterparties.

  In September, the Bush administration concluded that AIG's position at the nexus of the deals meant that it could not be allowed to fail, triggering the most expensive rescue of a private company in U.S. history. So far, the government has invested $152 billion in its efforts to save AIG. Federal investigators are sifting the carnage."

The Downturn: Cyclical or Structural?

Last month the National Bureau of Economic Research declared that the economy has been in recession since December 2007, officially confirming what we all knew to be true. This has prompted a new parlor game, speculation on when the economy will return to "normal." Although there seems to be consensus that the recession will be L-shaped, there is hope, if not optimism, that with proper "stimulus" we will see the tepid beginnings of recovery sometime in 2010. Even the notoriously bearish Nouriel Roubini subscribes to this view.

If our policy reaction is appropriate, by 2010 there will be some recovery of growth. The only risk is that the recovery of growth could be so weak that it feels like a recession even though we are technically out of it.

As uninspiring as Roubini's comments are, they reflect the hope and expectation that the downturn, although severe, is still merely cyclical. There is a darker view that the problem is not cyclical, but structural, and that the age of "growth" as we have known it has come to a permanent end. James Howard Kunstler elaborates on the differences in these perspectives:

There are two realities "out there" now competing for verification among those who think about national affairs and make things happen. The dominant one (let's call it the Status Quo) is that our problems of finance and economy will self-correct and allow the project of a "consumer" economy to resume in "growth" mode. This view includes the idea that technology will rescue us from our fossil fuel predicament -- through "innovation," through the discovery of new techno rescue remedy fuels, and via "drill, baby, drill" policy. This view assumes an orderly transition through the current "rough patch" into a vibrant re-energized era of "green" Happy Motoring and resumed Blue Light Special shopping.

The minority reality (let's call it The Long Emergency) says that it is necessary to make radically new arrangements for daily life and rather soon. It says that a campaign to sustain the unsustainable will amount to a tragic squandering of our dwindling resources. It says that the "consumer" era of economics is over, that suburbia will lose its value, that the automobile will be a diminishing presence in daily life, that the major systems we've come to rely on will founder, and that the transition between where we are now and where we are going is apt to be tumultuous.

Go ahead and read the rest of Kunstler's weekly post - if you have the stomach for it, as his predictions for the new year are shocking and disturbing. You might be inclined to dismiss him as a crank, so with the familiar caveat that "past results are not predictive of future performance," here's an excerpt from his 2005 book, The Long Emergency.

By the time you read this, it is very likely that the housing bubble will have come to grief. With interest rates at rock bottom into the first half of 2004, practically everyone who could have refinanced has now done so. There cannot be another round of re-fi unless interest rates go to zero, which is unlikely to happen and, of course, re-fi doesn't make much sense when interest rates rise, which is what they did in the second half of 2004. In fact, re-fi lending tapered off smartly by late 2004. Housing prices will probably remain inflated for a period of time beyond the end of the re-fi spree because of the end-cycle hangover phenemenon, the persisitence of delusional thinking on the part of wishful sellers who refuse to believe that the boom is over and they might have missed out.

In February 2004, Fed Chairman Greenspan made the bizarre suggestion in a public statement that house buyers might consider adjustable-rate mortgages, but the idea seemed insane in a financial climate in which interest rates had nowhere to be adjusted but upward, which would leave many such a house buyer in a terrible predicament of having the mortgage payment go up just when the value of the house had reached its absolute peak and was very likely to fall, as other house owners (especially those with poor credit records, those living marginal lives, those who had lost their jobs since re-fi) lost control of their finances, were forced to sell, or stumbled into default and repossession. Why Greenspan made that suggestion has never been adequately explained. The only possibility is that there was no other way to keep the economy levitated.

The economic wreckage is liable to be impressive. If large numbers of house owners cannot make their mortgage payments, Fannie Mae and Freddie Mac, and by extension the federal government, would be the big losers. The failure of the GSEs would make the S&L fiasco of the 1980s look like a bad night of poker. The failure of the GSEs would pose a far graver situation than the LTCM [Long Term Capital Management] flameout. It could easily bring on cascading failures that might jeopardize global finance.
[The Long Emergency, 2005, Grove Press, New York, pp 232-233]

The Global Economy?

The NY Times published an interesting report last week about the growing construction in Europe of "passive houses" that are heated without furnaces. According to the owner of one such house in Germany, he uses one twentieth the heating energy of a comparably sized home.

So far, the majority of the 15,000 passive houses that have been built have been concentrated in Germany and Scandinavia. Why not the U.S.? The reasons given make you scratch your head:

The first passive home was built here in 1991 by Wolfgang Feist, a local physicist, but diffusion of the idea was slowed by language. The courses and literature were mostly in German, and even now the components are mass-produced only in this part of the world.

[snip]

But the sophisticated windows and heat-exchange ventilation systems needed to make passive houses work properly are not readily available in the United States. So the construction of passive houses in the United States, at least initially, is likely to entail a higher price differential.

So the technology has not made it to the U.S. because of difficulties with translation and importation? Don't we all sing hymns to the glory of the global economy?

Barron's Early Suspicions of Madoff

Barron's reported on Bernard Madoff's unusually successful hedge fund in 2001.

But what few on the Street know is that Bernie Madoff also manages more than $6 billion for wealthy individuals. That's enough to rank Madoff's operation among the world's five largest hedge funds. What's more, these private accounts have produced compound average annual returns of 15% for more than a decade. Remarkably, some of the larger, billion-dollar Madoff-run funds have never had a down year.

Who knows what the SEC was thinking at the time, but not everyone was convinced Madoff was legit:

Still, some on Wall Street remain skeptical about how Madoff achieves such stunning double-digit returns using options alone. Three option strategists for major investment banks told Barron's they couldn't understand how Madoff churns out such numbers using this strategy. Adds a former Madoff investor: "Anybody who's a seasoned hedge-fund investor knows the split-strike conversion is not the whole story. To take it at face value is a bit naïve."

The reporter who wrote the Barron's story was interviewed on NPR on December 18. Listen here.

U.S. Oil Production

While working as a scientist at Shell Oil in 1956, M. King Hubbert predicted that oil production in the United States would reach a peak in 1970 and decline thereafter. The following graph shows that he was exactly right:*





*Hubbert did not take into account Alaska, which was not a source of production in 1956. As the line showing total production indicates, Alaskan oil was able to arrest the decline for a while, although not enough to permit the surpassing of the 1970 peak.


Hubbert later applied his methods to global oil production, predicting it would peak between 1995 and 2000. He was wrong. But was he wrong because his theory was wrong or was he wrong simply in the timing? The debate over "peak oil" rages, but the flatness of global production in recent years given overall economic growth makes one sit up and take notice. Here's a chart I posted earlier: