And Speaking of Crowdfunding.....

Here's an interesting juxtaposition from today's Salt Lake Tribune.  On the front page, we have an article about an alleged Ponzi scheme that lifted $170 million from investors.  On the front of the Money section, we have an article about today's crowdfunding conference at the University of Utah, which unfortunately I'm not able to attend.  (You miss out on so much by having a job...)
Here's a quote in the crowdfunding article by Berkeley Geddes, head of a professional association:

"The crowd has a powerful ability and can say, ‘I know this person’s past and I can vouch for him, or I know his past and I have some concerns,’  Geddes said. "The crowd has a unique ability to help make sure that the entrepreneurs asking for the money" are legitimate.

I presume there were people vouching for alleged Ponzi schemers, too.   Potential crowdfunders should probably worry about the incentives of the people doing the vouching, which raises the question of who's going to vouch for the people doing the vouching.   And then who's going to vouch for the people vouching for the people doing the vouching.  And so on.

Crowdfunding and Financial Intermediation

City Weekly called a couple days ago with a few questions about the recently passed JOBS Act, and specifically about the new provisions for "crowdfunding" of small startups.  The article is here.

"Financial intermediaries" are institutions --- banks, venture capitalists, private equity, angel investors --- that make money by connecting investors with good investments.  If you have a deposit account at a bank, the bank is essentially borrowing money from you (paying you a low interest rate) and then lending it to someone else (and charging them a higher rate).  The bank makes a buck on the spread.

One question to ask with any sort of intermediary is why the parties on either side of the transaction can't simply go around the intermediary.  That is, if the bank is paying you one percent but charging a borrower three percent, then why can't you just call up the borrower and offer to lend at 2%?  You earn a higher interest rate on your money, and the borrower pays a lower rate.  This would cut out the middleman, and the banks would quickly go out of business.

This observation suggests that intermediaries can survive only if they're doing something better than you could do it yourself.  In the case of financial intermediation, one of the big possibilities is that banks/VCs/angels are better at distinguishing good investments from bad.  If borrowers know better than potential lenders whether their investment opportunities are likely to pay off, then you can easily get a market for lemons, which is a subject I blogged about in long-winded, four-part fashion back in 2009.

So I think the whole crowdfunding thing is a bit more complicated than just saying "Hey, let's use the internet to allow investors to connect directly with promising startups."  Banks and VCs do things that us regular people just aren't good at --- like reading financial statements and assessing future market growth --- and the internet isn't by itself going to make us a lot better at these tricky tasks.

Financial intermediaries are really interesting to economists, probably because the very fact that intermediaries exist tells us something about when markets work well and when they don't.  I'm attending the Financial Intermediation Research Society annual meeting next week, and you probably don't need me to tell you what a good time that is....

Gold Storage

I talked to City Weekly earlier this week about an interesting company that offers gold storage right here in Salt Lake.  Here's the story.

Gold prices are up sharply since 2002, but the metal really hasn't been a great investment over the past 40 years.  Here's a link for a chart comparing gold to the Dow since 1980, and you can see that while gold has about doubled over the period, the Dow is up by something like a factor of 14.

Gold might well be a sensible hedge against economic catastrophe, but buyers should be keep in mind they're probably giving up returns in order to buy safety.