Latest Stories

• When is a Failure Not a Failure? When It's an Iraq Oil Auction
• QOTD: Sampling the Future
• Farmworkers: Go to New York City, Young Man
• Wells Fargo Gives California July 10 Drop-Dead Date
• Readings

 

Solving the Peter Principle? One Word: "Darts"

There is a fun new working paper out from some Italian scientists that models the Peter Principle. The principle says, of course, that people climb in an organization until they reach their level of maximum incompetence.

How would that happen? Well, the authors argue it should be expected in any organization where the following two conditions hold:

1. The best member are rewarded with promotions
2. Competence in a new position is not highly correlated with competence at a prior level

The authors simulated the preceding in a pyramidal organizational form using a mathematical agent model. Here is the outcome:

Here we show, by means of agent based simulations, that if the [above two conditions] actually hold in a given model of an organization with a hierarchical structure, then not only the "Peter principle" is unavoidable, but it yields in turn a significant reduction of the global efficiency of the organization. [Emphasis mine]

Granted, this shouldn't be surprising news, one would think, to anyone who has spent any time around large organizations. A disproportionate number of the positions always seem filled by people who elicit a WTF? reaction from reasonable-minded observers.

So, do we just live with it? After all, we can hardly get around elevating the best people, and it isn't unreasonable to think that one's experience in a former position doesn't adequately prepare for the new one.

Not necessarily, according to the authors:

...the best strategies to improve, or at least not to diminish, the efficiency of an organization, when one ignores the actual way of competence transmission, are those of promoting an agent at random or of randomly alternating the promotion of the best and the worst members. We think that these results could be useful to guide the management of large real hierarchical systems of different nature and in different fields.

Whoa, it turns out calling someone's promotion "random" is a compliment. Who knew darts could be so handy at promotion time?

Source:

The Peter Principle Revisited: A Computational Study
Authors: Alessandro Pluchino, Andrea Rapisarda, Cesare Garofalo

 

When is a Failure Not a Failure? When It's an Iraq Oil Auction

The failed Iraq oilfield auctions this week have become a litmus test for Iraq, for oil analysts and for the ever-nervous global oil market. Iraqi officials refuse to see the disappearance of most bidders and the completion of only auction (with a single bidder) as a failure. Instead, they are hawking the crowd-pleasing idea that multinational oil companies are greedy mouth-breathers that balked at the hard bargain being driven by righteous Iraqis who control so much valuable, marginal oil supply.

For their part, of course, oil companies think that the Iraqi oil auctioneers are nuts. The proffered risk/reward premium for exploration, development and production in an unsafe country with minimal infrastructure and maximal political flux was near zero. But in their zealotry to demonstrate resource nationalism to an uneasy electorate, Iraqi officials scared off most sane bidders, making the only successful buyer in this first round a bid backstopped and subsidized by the Chinese government -- and one that still required a huge price concession.

Here is a nice summary snippet from IHS on where this means the sorry process goes from here:

Without Iraq offering a better risk/reward ratio to investors it will have to undertake all investment and development itself—a process that will be slow, laborious, and under-funded, and will result in volumes nowhere near those targeted and years from their hoped-for schedule.

Iraq needs to look not only at the reward side of its offering, however; it can make significant progress on lowering the investor risks. The government needs to direct its attention to passing a national hydrocarbons law in order to lay down a clear legal framework for the deals and give them greater political legitimacy than what is just—effectively—a mere pledge of contract allegiance from the currently serving ministers. This would also lower the political risk in Iraq, as the law in itself would require some form of broader political understanding between the leading factions and thereby to some extent bind much of Iraq's political forces into taking responsibility for long-term hydrocarbon policy.

More here and here.

 

QOTD: Sampling the Future

The following innocuous sampling theory comment from Andy Gelman set me thinking in a bunch of dimensions today. The question had to with how to handle statistical analysis when your sample population is the entire population, and Andy's answer is important and instructive:

So, one way of framing the problem is to think of your "entire population" as a sample from a larger population, potentially including future cases.

Precisely right, and a point that many naive hypothesis-generators might keep in mind, whether in financial markets or elsewhere.

More here.

 

Farmworkers: Go to New York City, Young Man

I've been messing about with this tool that tries to compare supply and demand for various jobs by geography throughout the U.S. You have to be careful how you interpret it, as the following chart suggesting farmworkers (and animals (sic.)) should race to New York City and San Francisco shows, but it's still interesting.

 

Wells Fargo Gives California July 10 Drop-Dead Date

Nice to have a firm date for when California must have a budget and stop shopping IOUs. Here is Wells Fargo from a release yesterday:

Wells Fargo & Company (NYSE:WFC) said today it will accept registered warrants issued by the State of California from its retail and business customers for a limited time. It will begin accepting the registered warrants for deposit on July 2, 2009 and stop accepting them no later than July 10, 2009.

“We’re very disappointed, as are many Californians, that California has taken the unfortunate step of issuing IOUs in lieu of its payments to some businesses and individuals,” said Lisa Stevens, head of Community Banking for Wells Fargo in California. “Wells Fargo has a long history of taking extraordinary measures to help our customers and will accept registered warrants from our customers, but only for a limited time, to allow them time to make other arrangements. We are reluctant to take this step, but are doing so to help our customers who are not at fault and with the expectation that the Legislature and Governor will complete the budget within days. We join all Californians in urging our Legislature and our Governor to take the appropriate steps as soon as possible to resolve this budget crisis.”

[Emphasis mine]

It is deliriously ironic and surreal that it took California to make screwed-up and irresponsible banks look like mature adults.

 

Readings

There is some good stuff in the current issue of Foreign Policy:

• Thing again about Asia’s inevitable rise (Source)
• The end of finance is the end of macho (Source)
• The 2009 Failed States Index (Source)
• The collapse of the Baltic states (Source
• Why birth rates matter (Source)

 

Venture Capitalists are Best Kept at a Distance

There is amusing (in an admittedly academic sense) new paper out seemingly showing that venture capitalists obtain a significant portion of their performance by investing in deals outside their local area. That, of course, runs contrary to the usual VC mantra that they only invest in their local area.

A cynic (or an entrepreneur) would like say the answer is obvious. Venture capitalists are meddlesome sorts who get in the way of running a company, so startups will do best to the extent that they can keep VCs a few timezones and/or flights away.

For some reason the paper’s author don’t proffer the above explanation. Instead, they argue it is a combination of higher hurdle rate forcing VCs into making better investments, plus some geographic arbitrage. While both are possible, even if geographic arbitrage in venture is mostly a loser strategy, I’d also bet there is a reputational effect going on. In short, the “smart money” from out of town gets to do deals in the hinterlands at better valuations than does a local fund.

Source:

Buy Local?  The Geography of Successful and Unsuccessful Venture Capital Expansion
Henry Chen*, Paul Gompers**, Anna Kovner***, and Josh Lerner**

 

Happy Canada Day

On a personal note, Happy Canada Day to all my Canadian friends and family.

 

Balancing California’s Budget: The Home Game

Think you can balance California’s budget and save the nation’s largest state from issuing IOUs starting tomorrow? The L.A. Times has up an interactive graphic whereby you can try to balance California’s budget, albeit in broad-brush form. It is worth a look, as it gives a sense of both the immensity of the gap and the commensurate cuts required in the three biggest line items: education, health, and justice.

 

U.S. Carbon Emission Declines: Recessions Beat Cap-and-Trade

Given the year-over-year economy-induced decline was saw last year in U.S. carbon emissions, maybe we should gun for a longer and deeper recession/depression. It would certainly outpace anything we’re likely to get from cap-and-trade and another such expensive and complex stuff. The following is based on data from a recent Netherlands report:

 

As an aside, by my calculations U.S. carbon emissions declined last year roughly on par with the entire annual emissions of Spain. Maybe we should make that the new unit of measure: We’re going for a Spain in emission reductions.

 

Debt, Class Warfare and Entrepreneurship

There is an uneasy relationship among debt, democracy and capitalism, as a new FT column ably makes clear. Here are some excerpts, starting with why debt in the U.S. has passed the levels of the Depression:

The answer is capitalism’s dirty little secret: excessive lending was the only way to maintain the living standards of the vast bulk of the population at a time when wealth was being concentrated in the hands of an elite.

The amount by which the elite has benefited is startling, and illustrates the problem with lightly regulated free markets: the rich get much richer while the rest do not get richer at all. According to Société Générale economists, the inflation-adjusted income of the highest-paid fifth of US earners has risen by 60 per cent since 1970, while it has fallen by more than 10 per cent for the rest. As was recently pointed out in the New York Review of Books, the Walton family, of Wal-Mart fame, is wealthier than the bottom third of the US population put together – about 100m people. These are staggering statistics, confirmed by measures such as the US and UK’s ever-rising Gini coefficients, which estimate income disparity. Another way of putting this is that the share of profits in gross domestic product is at a 100-year high, or was until very recently.

The preceding is such an important point. We became indebted, in large part, because of a structural imbalance in society, one that skewed incomes, redirected wealth, and encouraged companies and individuals to lever up instead of seeking out and earning higher incomes. At the same time, our unwillingness to say no to great society programs, without raising taxes to pay for them, meant that we became beholden to the bond market for funding ongoing operations, this creating an elevated base of required income to service our rising debt.

The solution is messy, multi-part and painful, but he closes on two notes with which I agree strongly:

…we should all come to terms with the fact that these are structural issues needing structural solutions; they need to be enforced over a longer time period than any one government’s term. So we need a new political consensus, one aimed at reducing overall debt levels while reducing inequality by encouraging education, entrepreneurship and investment in innovation.

Read the whole thing here.

 

Economic Imbalances, 101

Great (wonkish) post by Brad Setser up putting U.S. economic imbalances in historical context, as well as explaining, in graphical form, the latest twists and turns. Highly worth reading.

More here.

 

Steven Chu on Energy Research: Very Nervous Times

White House Energy point man Steven Chu’s talk at MIT is worth watching. He rightly calls this “very nervous times” in the world of energy research, with innovation rabbits required, but none showing up in a timely way.

 

More Samuelson

A few more quotable quotes from that new interview with 94-year-old economist Paul Samuelson:

On Greg Mankiw and Ben Bernanke

The 1980s trained macroeconomics -- like Greg Mankiw and Ben Bernanke and so forth -- became a very complacent group, very ill adapted to meet with a completely unpredictable and new situation, such as we've had.

On Robert Lucas and his acolytes

Those guys were useless at Federal Reserve meetings.

On Alan Greenspan

But the trouble is that he had been an Ayn Rander. You can take the boy out of the cult but you can't take the cult out of the boy.

On Milton Friedman

He was a libertarian to the point of nuttiness.

Ob bubbles

And I'm not sure most of the people that get caught up in the middle of a bubble can be described as irrational. It seems pretty rational to buy a house and flip it in the next few weeks at a profit when that's been happening for along time. It works both ways.

On the dollar

I think it's almost inevitable that, with a billion people in China wide awake for the first time, and a billion people in India, there's going to be some kind of a terrible run against the dollar. And I doubt it can stay orderly, because all of our own hedge funds will be right in the vanguard of the operation.

 

Newsflash: Economic History Matters

Gosh, here is a surprise: Economist history matters. From an interview in The Atlantic with Paul Samuelson:

Q: Very last thing. What would you say to someone starting graduate study in economics? Where do you think the big developments in modern macro are going to be, or in the micro foundations of modern macro? Where does it go from here and how does the current crisis change it?

A: Well, I’d say, and this is probably a change from what I would have said when I was younger: Have a very healthy respect for the study of economic history, because that’s the raw material out of which any of your conjectures or testings will come. And I think the recent period has illustrated that.

More here.

 

The SEC Has Got Your Back, the Bernie Madoff Edition

From a June 16, 2009 SEC release:

Pursuant to Section 15(b)(6) of the Exchange Act and Section 203(f) of the Advisers Act, that Respondent Madoff be, and hereby is barred from association with any broker, dealer, or investment adviser.

Good to know that the SEC has our back. After all, that Bernie guy sounds like trouble, so best to keep him out of the securities industry.

Then again, we wouldn’t want to keep Madoff out for too long – he has to earn a living, after all:

Any reapplication for association by the Respondent will be subject to the applicable laws and regulations governing the reentry process …

Those optimists at the SEC are apparently already thinking about how to let Madoff back into the securities industry in 2159.

 

QOTD: Beware of Waggling Bankers

There is a long tradition of bankers and regulators waggling their fingers at their fallen brethren in other countries and suggesting that their own practices are much better and should have been more widely copied -- just before they find themselves stuck in an even worse quagmire.
   - Michael Pettis, China’s loan growth isn’t boosting my confidence in China’s “green shoots”

 

Malcolm Gladwell vs. Chris Anderson: Damn Technology Utopians

It’s always fun when one popular idea popularizer goes after another popular idea popularizer. This time we have Malcolm “Tipping Point” Gladwell writing critically about Chris “Free” Anderson in the current New Yorker. Read the whole thing, but let’s just summarize to say that Malcolm doesn’t really think that Chris is on to anything, in particular assuming him of “technological utopianism”. Oooooh.

Anderson begins the second part of his book by quoting Lewis Strauss, the former head of the Atomic Energy Commission, who famously predicted in the mid-nineteen-fifties that “our children will enjoy in their homes electrical energy too cheap to meter.”

“What if Strauss had been right?” Anderson wonders, and then diligently sorts through the implications: as much fresh water as you could want, no reliance on fossil fuels, no global warming, abundant agricultural production. Anderson wants to take “too cheap to meter” seriously, because he believes that we are on the cusp of our own “too cheap to meter” revolution with computer processing, storage, and bandwidth. But here is the second and broader problem with Anderson’s argument: he is asking the wrong question. It is pointless to wonder what would have happened if Strauss’s prediction had come true while rushing past the reasons that it could not have come true.

Strauss’s optimism was driven by the fuel cost of nuclear energy—which was so low compared with its fossil-fuel counterparts that he considered it (to borrow Anderson’s phrase) close enough to free to round down. Generating and distributing electricity, however, requires a vast and expensive infrastructure of transmission lines and power plants—and it is this infrastructure that accounts for most of the cost of electricity. Fuel prices are only a small part of that. As Gordon Dean, Strauss’s predecessor at the A.E.C., wrote, “Even if coal were mined and distributed free to electric generating plants today, the reduction in your monthly electricity bill would amount to but twenty per cent, so great is the cost of the plant itself and the distribution system.”

This is the kind of error that technological utopians make.

 

Exports as a Percentage of GDP, Hither and Yon

In an otherwise only semi-interesting WSJ piece about Germany's struggle in reviving its export-led economy -- exports have tumbled, German consumers don't consume, and Germany hasn't engineered anything truly new since the 1960s -- there is this useful chart. It really drives home how, at least until recently, the U.S. had one of the most precious commodities in the world: Buyers.

 

China's Dependency Ratio: As Good As It Gets

Great chart reinforcing a point I made here some time ago about the implications of China's looming senility bubble, with the population set to age faster than any country in modern memory. Check where we are in China's trending dependency ratio:

[via The Economist]

 

Things We Can Learn From Sports TV

Would anyone argue that professional sports on TV isn't generally improved by having former pro athletes as commentators? Take, for example, the case of John McEnroe, whose commentary on tennis is wonderful, or even Johnny Miller, whose golf comments, while overrated, are still much better than the usual blather.

So ... why doesn't financial television do the same thing? Sure, many current investors show up, but most of them are made suspect by their presence: I always worry that anyone who wants the attention is someone to whom you shouldn't, by definition, be paying attention.

You can argue, I suppose, that it's about not needing the money. After all, Peter Lynch doesn't need $500 now and then for a spot on TV. But it doesn't seem like a McEnroe or a Miller needs regular cash spliffs either, and yet that doesn't keep them off the big shows.

So, if it's not about the money, and we can agree it would be good to have more former successful investing pros in the media, what's keeping them out? Is it cultural? Is it that most people in the investing game, unlike in sports, just want the hell out by the time it's over?

Idle thoughts, but where is the John McEnroe of financial commentary?

 

The Trouble with U.S. Healthcare? Too Many Optimists

I've said something like the following before, but never so succinctly:

The trouble with health care in America, says Muriel Gillick, a geriatrics expert at Harvard Medical School, is that people want to believe that “there is always a fix.” She argues that the way Medicare is organised encourages too many interventions towards the end of life that may extend the patient’s lifespan only slightly, if at all, and can cause unnecessary suffering. It would often be better, she thinks, not to try so hard to eke out a few more hours or weeks but to concentrate on quality of life. [Emphasis mine]

[via The Economist]

 

The Mambo Bond Kings Play Songs of Yield

This is a funky animation of the U.S. yield curve swap spreads across various durations over the last few years. I dig the music.

[via Nick Gogerty]

 

Skidelsky on the Dollar and Fixing Global Finance

Columnist Martin Wolf's latest book on global financial markets -- Fixing Global Finance -- gets a close look from Robert Skidelsky in the current issue of the New York Review of Books. Like me, Skidelsky (the author of a magisterial Keynes biography) believes that a problem with much of the commentary about the financial crises is that it is agenda-driven, or lacks historical context, or both.

Here is Skidelsky:

This points to the main weakness of Fixing Global Finance: the lack of a historical perspective. The history of the overprivileged dollar, after all, goes all the way back to the 1960s. Its roots lie in the failure of John Maynard Keynes's plan for a Clearing Union, which he worked out during World War II. The Keynes plan was specifically designed to prevent creditor countries from hoarding reserves by trading at undervalued currencies. If they did not spend their surpluses, the surpluses would be confiscated and redistributed among debtor countries. In this way a global balance between saving and investment would be secured through a balanced trade position, which would in turn allow fixed, but adjustable, exchange rates.

...A willingness by the US government to end macroeconomic imbalances thus depends on its willingness to accept a much more plural world—one in which other centers of power in Europe, China, Japan, Latin America, and the Middle East assume responsibility for their own security, and in which the rules of the game for a world order that can preserve the peace while effectively tackling the challenges posed by terrorism, climate change, and abuse of human rights are negotiated and not imposed. Whether, even under Obama, the US is willing to accept such a political rebalancing of the world is far from obvious. It will require a huge mental realignment in the United States. The financial crash has disclosed the need for an economic realignment. But it will not happen until the US renounces its imperial mission.

Read the whole thing.

 

More Weekend Reading

A few links from my weekly Weekend Reading column:

• Goldman Sachs as global economic hazard (Rolling Stone)
• Want Deposits? It Will Cost You (IDD)
• London prepares for a bumper year of IPOs (Times Online)
• Why so many green jobs are sprouting in Colorado. (Slate Magazine)
• New Chinese bank loans said to top US$146b as regulators worry (Shanghai Daily)
• A world of Methuselahs (The Economist)
• Chinese consumers key driver of growth (The Globe and Mail)
• Should RealNetworks, an Internet Pioneer, Switch Gears? (NYTimes)
• Conspicuous consumption and race (Wharton)