`Junk bond' king talks economics

Given his legal difficulties, it is unlikely that Michael Milken will be nominated by either presidential candidate as the next chairman of the Council of Economic Advisers. What makes Mr. Milken's views interesting, however, is that he has already revolutionized the financial world by making a form of long-term debt, sometimes known as ``junk bonds,'' available to small and medium-sized companies. These high-yield bonds have also been used in corporate takeover battles.

In investigations relating to some of these mergers, Milken and his employer, Drexel Burnham Lambert, have become the targets of a probe by the Securities and Exchange Commission (SEC). The commission is expected to file civil charges relating to insider trading cases and stock manipulation.

Milken is also the subject of a related criminal investigation that is being conducted by Rudolph Giuliani, the US Attorney for the Southern District of New York.

Although he has refused to answer Congress's questions relating to his business practices, Drexel's finance whiz, in a rare interview, talks about the economy, recessions, and third-world debt. He also discusses his ideas on providing new funds for the thrift and commercial banking industries.

Developing economic perspective

According to Milken, any analysis of the economy has to consider an accurate perspective on changes in financial markets. Today the United States financial markets are a much smaller percentage of the world's financial assets than they have been in the past.

``So what happens in the rest of the world, in terms of their investment capital, whether they are optimistic, pessimistic, how they feel about the United States, investment opportunity, stability, and what is going on in their own country has much more effect on the US than it might have,'' he says.

It is also important for the US to establish a strong education base for the economy ``to prepare the worker for the jobs that will be available in the year 2000,'' he says. ``We need to refocus on the method we use to teach our children information.'' With better education, he adds, ``You have not only good productive workers, but good consumers as well.''

``I think this is going to be one of the major themes of whoever is elected president,'' he says.

Understanding a recession

Unlike many traditional economists, Milken does not believe an upcoming general recession is inevitable.

To support this view, he says a more accurate look at the economy might be gained by looking at the economy industry by industry. The communications sector, for example, has thrived while other areas, such as oil services, have been ``more in a depression than a recession.'' He expects such rolling recessions to continue.

Important to note, he says, is that ``management itself has the ability to make major changes within an industry.''

``We've seen retail firms which at the end of the season had a whole bunch of mini-dresses when it was going out of style, and we've seen retail firms that no longer have any slow-moving items.''

Restructuring third-world debt

Known for managing higher-risk loans at low default rates, Milken is widely respected for his ability to examine credit risk.

To solve the problem of third-world debt, he believes that foreign nationals must be enticed to repatriate the money they took out of their countries. ``If it all came back, they could buy up their own debt,'' he says.

At the same time, he says the US must realize ``we may never get paid back dollar for dollar.'' Instead, US lenders may have to convert their debt holdings into equity participation in Latin countries.

Since the borrowing governments often represent a significant portion of the economy, he says the governments need to sell some of their assets to provide additional funds to pay off their debts. This is, in fact, already taking place.

To help banking institutions deal with the debts of the third-world countries, Milken and Drexel have devised a new way to recapitalize large banks.

Last week, Mellon Bank in Pittsburgh announced it would form a new bank called the Grant Street National Bank in which the assets would be composed solely of questionable loans. In effect, Grant Street investors could make a profit if the loans were paid back, and Mellon would be insulated from any further deterioration of the questionable loans. Other commercial banks are expected to look at this arrangement.

Milken has made suggestions to bank regulators before.

``A number of years ago, quite naively, I visited a number of regulators and suggested the possibility of a five-year moratorium on new charters,'' he recalls. His reasoning: ``There is not enough talent'' to staff the thousands of banking institutions already in the market place.

Milken also suggested that the regulators increase the amount of equity capital that banks are required to hold. ``If banks couldn't raise the capital, then maybe they shouldn't be making loans, either, if there is not enough confidence in the business.'' By increasing capital requirements, insurance funds, such as the Federal Deposit Insurance Corporation, would be protected.

At that time, he also suggested that banks be required to have a minimum net-worth requirement on an absolute dollar basis, not on a percentage of assets, to help ensure ``that you had some expertise and at least some money that was at risk.''

As it turned out, he says, ``For political and other reasons, this type of program is impossible to implement.''

Instead, Milken says, many ailing financial institutions are now recapitalizing by turning to the same types of financing that made him famous - high-yield bonds.