Three Sigma Systems

I was strolling the sidewalks of downtown Santa Cruz one evening this weekend. To all appearances, life along Pacific Avenue, our “main street”, was as pleasant as ever. Then I noticed something interesting. As is the case in many American towns, quite a few commercial buildings are unoccupied, but rather than leave dark gaping holes behind the plate-glass storefronts, owners or some other business savvy people, had placed attractive objects to mask the depressing emptiness. As I peered behind these little white lies, a sense of foreboding welled up in me. As I thought about it, it was not the unoccupied buildings that disturbed me. It was the lies that were being used to deceive me into complacency.

I was reminded of Dr. Washington Dodge’s account of the Titanic’s sinking just a few short days after the tragedy:

“We had retired to our stateroom, and the noise of the collision was not at all alarming. We had just fallen asleep. My wife awakened me and said that something had happened to the ship. We went on deck and everything seemed quiet and orderly. The orchestra was playing a lively tune.

(The crew explained that) “[A]s a matter of extra precaution the women and children should be placed in the lifeboats.”

“They started to lower the lifeboats after a lapse of some minutes. There was little excitement. As the lifeboats were being launched, many of the first-cabin passengers expressed their preference of staying on the ship. The passengers were constantly being assured that there was no danger…” Read more…

Adapted from a comment I submitted to a recent post by Simon Johnson on his Baseline Scenario blog.

Too often, we fall into the trap of the cyclical model asserted by the quasi-scientific, nee apologetic, of economic theory, that attempts to define social interaction as if transaction reflects some sort of discrete closed system that abides by external and “natural” mathematical principles and behavioral laws.

The only abiding principle of relevance is that human beings are inherently social and in their sociality, they seek to devise methods for organizing their behavior into predictable patterns of collaborative action. (The invention of money as a medium of value exchange is one example.) When the material interests of one group become irreconcilably divergent from another’s, there is war, fought using the means at hand. Read more…

I hate being scammed, no matter who is doing it, and the Toyota bashing frenzy of the past week reeks of a scam designed to undermine Toyota’s success and buoy up American car makers who are both unwilling and unable to compete on matters of substance.

Yesterday, the Wall Street Journal reported that U.S. Transportation Secretary Ray LaHood, when testifying before the House appropriations committee, was asked what advice he would give to owners of Toyotas subject to the recall, he replied,

“My advice is, if anybody owns one of these vehicles, stop driving it, take it to the Toyota dealer because they believe they have the fix for it,”

Soon after, LaHood amended his statement to the press by removing the phrase “stop driving it”, but not soon enough to prevent shares in Toyota stock from plummeting.

When it comes to defective engineering and manufacturing, nobody can hold a candle to U.S. auto manufacturers. If you don’t believe me, look up the Chevy Corvair (made Ralph Nader famous) and the Ford Pinto, both of which earned their reputations as death machines. But those headline making events were just the tip of the iceberg. In years passed, whenever I bought a new car manufactured in the U.S., I knew I was in for it. The first few months of ownership always involved battling with the dealership to get things fixed. Do you remember the “Lemon Laws“. It came into being for one reason only. U. S. manufacturers built a lot of lemons and if you could get your car classified as a lemon, the manufacturer would be required to buy it back from you. Of course getting a car classified as a lemon could get your killed.

Ford Pinto Crash Test

US Auto Recalls

Read more…

Warning: The following allegorical play contains language, imagery, and ideas that may be offensive to some readers. Proceed at your own risk.

The Dawn of Corporate Capitalism

A play in one act, by Marc Hersch

Scene:

Village with decrepit buildings that appear to have been wrecked by demolition teams. Two villagers sit around a campfire in BarcaLoungers. A large, flat screen TV flickers next to them. They are eating an unappealing gruel from soup bowls. In the background, several enormous creatures are grazing in and around the wrecked village and a decimated forest landscape, seemingly indifferent to the conversation between the two villagers.

Villager 1: (motioning over his shoulder) I think it’s going pretty well. Look at the size of those guys!

Villager 2: I don’t know about that. I thought the idea was to breed them big for their meat. Now even our strongest hunters wouldn’t dare raise a spear to those beasts!

Villager 1: Yeah, well I suppose those dumb creatures did grow bigger than we expected, but you gotta look at the bright side. Read more…

The idea that healthcare services should be delivered on the basis of the free market profit motive is just plain crazy. Even my “friend” David Axelrod at the White House, minces too many words in the memo he sent me today , “Something worth forwarding”.

This should be most obvious those who believe most deeply in the profit motive. The profit motive says that people, including healthcare providers of all sorts, will market their services in order to obtain the highest possible return on their investment by charging whatever the market will bear (and it will bear a great deal to those who are sick). Read more…

The conventional wisdom of free marketism is that the stock market is a “leading indicator” and employment is a “lagging indicator”. The message you are supposed to read from this is that, even though more and more people are being thrown out of work every day, when the stock market starts going up you should believe that happy days are just around the corner and that it’s time to get back into the game again by investing and spending whatever wealth you  still have or might have someday, or your children might have in the future.

Maybe you should step back for a moment and consider what stock the market numbers really mean and compare that meaning with with meaning of employment numbers.

Leading Indicators top center

• As even the free market crowd admit, the stock market is driven by traders seeking to produce nothing more than profits. The creation of real wealth is irrelevant to the players. It is the psychology of the market that drives the CONFIDENCE (i.e. con) GAME. If major players can lead you to believe that the stock market is in fact, a reliable predictor of the future of the economy, you will put money into the game. As the amount of money on the table increases, the price of stocks go up. If you catch the rise (the bubble) you might realize a bit on the return. The big players will, of course, realize a big return on profit taking, transaction fees, and eventually on renewed lending.¹

• The lagging indicator of employment has nothing to do with psychology. Employment numbers do not reflect what people THINK might happen, they reflect what IS ACTUALLY HAPPENING. Employers don’t hire people because they think they might need more people to produce real product and service. They hire people when they actually have real work producing real value that needs doing.²

Imagine this . . .

There’s this gambling casino owned by a cartel of very wealthy financial wheelers and dealers. About a year ago the owners were on a binge. So many people were playing that they figured there was no limit to the amount of money people would wager. They pulled out the stops and reinvested their money in more gaming tables, betting that the number and size of people’s wagers would continue upward forever. Then one day the players at the table just ran out of money and credit and walked away. The casino owners were left holding the bag.

Being no dummies, the incredibly wealthy casino owners took the huge amounts of money they had accumulated and buried under their mattresses. Their money stopped flowing to the borrowers who gambled at their tables, and the “free-market” economy came to a grinding halt. Scared stiff, the government stepped in and gave the casino owners a big infusion of taxpayer dollars to protect them against future losses and to “stimulate” them to open the tables again.

Now flush with taxpayer cash, the casino owners have reopened for business. Their first task is to LEAD the players out there to believe that the game is on again and everyone can be a winner! One way to do this is to manipulate the odds a bit to get the suckers in the door. Once in the door, they get the media pundits (i.e. shills) to start ringing the slot machine pay-off bells: “Hooray, everybody is winning!”

The stock market is not a “leading indicator” because it predicts a recovering economy in which the production of honestly valuable products and service is on the rise. It is a “leading indicator” because it leads people back to the gambling table of conspicuous consumption, blind speculation, and leveraged risk.

Here’s the big secret. It’s a  ”CON”fidence game. Bubble, bubble, toil and trouble. Why is it so hard for people to understand this?³

PS – As the confidence game suckers rush back to the gambling tables the real investments that would secure or national security and our children’s futures  —- healthcare, education, production of value, and wealth that benefits all — are deferred… again.⁴

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Today I received a White House email from David Axelrod regarding the legislative battle to enact  healthcare reform. It had the most excellent subject heading, “This isn’t a game”. These guys in the Obama administration really do get it. (Click “Read More” at the bottom of this post to see the text of Axelrod’s email.)

As I mentioned in my previous post, healthcare and profiteering are inherently incompatible. Those who aim to profit from other’s illness and injury are bound to serve profits before people. To assert otherwise is so blatantly untenable, that those with vested interest in such profiteering must do so by evasion. A favorite method is to cast the debate in terms of a game by which the public’s attention is diverted from the real issues of their own survival and toward an entertaining contest of wills. The media have been most complicitous in fostering the game mentality.

I would like to offer some compelling argument that would sway people to actively support that which moves our nation toward universal healthcare, but what could I possibly say that is not already patently obvious? Our healthcare system today is no system at all. It is a disorganized jumble of resources being exploited, monopolized, and allocated by people who are scheming to extract the greatest return on the use of those resources. That’s Capitalism for you, but in this case, your life and my life depend on access to those resources.

It’s as simple as saying to a man treading water at the deep end of the pool, “Sooner or later you’re going to lose the ability to keep treading. Before that happens, swim this way to the shallow water”. To which he replies, “No thanks, I’ll just keep treading water out here with the rest of these fools until I’m too weak to swim anywhere.”

Read more…

This post from James Kwak at the “Baseline Scenario” blog…

The Missed Opportunity

For a snapshot of what’s wrong with our banking policy, look at the front page of the business section of today’s New York Times. On the left side: “U.S. in Standoff with Banks over Chrysler.” On the right side: “Banks Show Clout on Legislation to Help Consumers.”

…got me to thinking that the seemingly complex events leading to our current economic debacle weren’t really just a simple con.

Okay James Kwak, let me see if I’ve got this right.

•  We, the people, got taken by greedy Wall Street cons who seduced us with a dreamy story-line in which greed is good and markets always go up. They got us playing high-stakes for quick riches using highly leveraged purchases funded by tricky loans and credit card teasers rates. 

• As demand by we, the people, turned into gold-rush like madness, equity markets and housing prices bubbled-up in a scam fueled by “buy-now-pay-later” leveraging shilled by realtors, loan brokers, financial advisors, and media pundits.

• After pocketing the lending transactions fees we, the people, shelled out, Wall Street repackaged our shaky loans, sold them off in bundles labeled AAA by smarmy rating agencies, and pocketed more transaction fees.

• Then Wall Street repackaged the repackages, sold them again, then burned the candle from both ends by selling insurance on repackaged-repackages, and pocketed more transactions fees. 

• As with all Ponzi scams, the gig was up when the ability of we, the people, to keep playing the game came to an abrupt and inevitable end.

• Wall Street’s loans went south with tumbling real estate prices and they couldn’t cover the insurance payouts for the bad loans they sold, so they cried alligator tears to we, the people, and announced that should they fail, they would take we, the people, down with them into a Great Depression II. 

• With a some gentle nudging from insiders, we, the people, choked on their story and bailed out Wall Street to the tune of trillions of our dollars, thus driving ourselves into unimaginable debt and undercutting our children’s’ future, our standing in the world, and our nation’s security.

• Wall Street, still rich but on the hook for lots of bad paper, started hiding their money so credit dried up, businesses bellied up, and millions of we, the people, lost our jobs.

• Scared, confused, and addled as to the reason for the financial crisis (namely Wall Street’s con artistry), we, the people, lowered our Fed interest rates and printed more money in order to “free up credit” and “stimulate” lending by the hoarding financiers on Wall Street. 

• Now Wall Street is beginning to reap renewed profits based on transaction fees from we, the people, who are buying bargain-basement real estate whose value has collapsed and “We the People” who are re-mortgaging our lives to take advantage of the lower rates on loans that “We the People”are guaranteeing..

• Flush with bailout money and renewed transaction fees, Wall Street is now claiming that they are once again solvent and “We the People” need take no further action to prevent the Great Depression II. The storm has passed, says Wall Street, and they’re ready to get back to business as usual. 

• We, the people, are finally figuring out what happened and we are trying to re-regulate Wall Street in order to prevent being taken hostage by Wall Street yet again in another future but Wall Street is having none of it. In an orgy of “free market” rhetoric, cooking the books, market manipulation, and political arm twisting, Wall Street is gearing up to forestall any attempts to change their usual business practices. 

•  The net outcome of Wall Street’s gaming is that they grow richer still while we, the people, become yet poorer and face a future of crushing indebtedness

• BUT, says Wall Street, don’t worry, because we, the people, are invited to join their game again with whatever money we have left. And if we, the people, are out of money, for a small transaction fee we can always borrow some more at remarkably low interest rates guaranteed by…you guessed it…we, the people,.

Just remember that since we, the people, were unable to change the game, the rule remains “caveat emptor”, which is Latin for “Heads they win, tails you lose. That’s a “catch 22″.

Hurricane Katrina

The mainstream media are revving up with echoed  statistics generated by the titans of finance about how our nation’s economy is finally turning the corner. Their message is that we are on way our back to business as usual. They want you to think of recent events as a kind of natural disaster, like Hurricane Katrina. Sure a lot of lives were ruined and it’s going to take a while for things to get back to normal, but the storm is now dissipated and time will heal the wounds. As with all natural disasters, some people get hurt more than others. So it goes. Now get out there and start playing again!

Of course, what really happened had nothing in common with a natural disaster. It was a disaster wrought by human greed, fueled by an ideology of free market forces in which some people gain advantage over others and press their advantage until the losers can no longer afford to ante up. Each collapse produced by such greed is more cataclysmic than the one that went before it. 

it seems to me that Obama was not elected to set the game in motion again. He was elected to change the game, but it’s looking more and more like he is caving in to the casino owners. Bill Moyers has done a series of interviews with some credible commentators on Obama’s current trajectory. These people make sense and I urge you to listen to what they have to say. 

Moyers Interviews

Simon Johnson 
Former chief economist of the International Monetary Fund (IMF), MIT Sloan School of Management professor and senior fellow at the Peterson Institute for International Economics, Simon Johnson examines President Obama’s plan for economic recovery.

William Greider
For years best-selling author William Greider sounded the alarm about Washington’s unholy alliance with Wall Street and the failure of the Federal Reserve and other regulators to take preventive measures to avoid disaster. Now, he offers some suggestions to the question everyone is asking: “What do we do now?”

Robert Johnson
Bill Moyers talks with economist Robert Johnson, who decodes this week’s news on the bank bailout, with a hard look at the international ramifications of the plan and a discussion of why nationalization has become a flash point.

Oligarchy = People with disproportionate power and influence

At last someone, namely Simon Johnson, former chief economist of the International Monetary Fund (IMF), has unmasked the power behind the throne that has plunged you, me, and the rest of the world into economic chaos. In his article in the May issue of Atlantic magazine, “The Quiet Coup“, Johnson draws upon his substantial experience with the IMF to lay bare the causes and consequences of the current economic debacle.

Johnson is no ideologue with an anti-capitalist axe to grind. His knowledge and experience are as practical as it gets. Since 1944, the IMF has been the world’s rescuer of last resort for developing countries teetering on the brink of economic collapse. The IMF is a quintessential ”tough love” agency in which the medicine it offers in the form of huge bailout loans are always accompanied by short-term conditions that are agonizingly painful for the nations being rescued.

In the matter-of-fact tone of a true professional, he tells us that it is now the global economy that is teetering the brink of economic collapse. The causes are the same as for developing countries, but the consequences are infinitely greater. 

“The conventional wisdom among the elite is still that the current slump ‘cannot be as bad as the Great Depression.’ This view is wrong. What we face now could, in fact, be worse than the Great Depression-because the world is now so much more interconnected and because the banking sector is now so big.”

Johnson’s article provides both examples and explanations for our situation and I suggest reading it several times to get the full impact of what he is telling us. Most importantly he attributes our current situation to the actions of real people, just like me and you.

Here’s the short version.

1.  In the ebb and flow of social interaction, some people inevitably gain economic and political advantage. The reasons and means by which such advantage occurs vary, but the luck of the draw—being in the right place at the right time—always has something to do with it.

2. People who gain economic and political advantage will act to sustain and enhance that advantage through the exercise of disproportionate power and influence. These people become an elite—an “Oligarchy“.

3. In the past, oligarchies maintained their status through the use of raw power but in our current age, they have pursued their disproportionate advantage by using information age methods and political influence to engineer a system of belief in which their advantage comes to be perceived by the rank and file population as both natural and good. The “greed is good” ethic becomes a social norm. (See my blog entry “Warrior Meritocracy“)

4. As oligarchies use their power and influence to shape public policy in ways that favor their interests, their single-minded avarice ALWAYS leads to excesses in the which the imbalances they seek to maintain precipitate systemic collapse. They kill the goose that laid their golden eggs and everyone suffers.

(W. E. Deming explained that maximizing any single aspect of the system will always sub-optimize the system as whole. Maximization is a system destroyer.)

5. To correct the imbalances that an oligarchy has created, the oligarchy must be broken up, but the members of the oligarchy will not accept that. They will use all means at their disposal to preserve their advantage and previlidge. If necessary, they will cut off their noses to spite their faces. Everyone loses!

Johnson says that because oligarchies tend to emerge in every society, people must have the political wisdom and will to regulate their system in ways the prevent oligarchies from growing too powerful and their enterprises “too big to fail”. We must manage our system with the aim to optimize the whole of our social, economic, and political relations. If we use our brains, optimization is possible.

Today, Johnson tells us, we are in the midst of a collapse. The people who constitute our current oligarchy are using every tool in their kit  to maintain their advantage by obfuscating causes and solutions. If they prevail, the current collapse will become a disaster of unprecedented proportions.

The solution? Break up the oligarchy now. Nationalize the banks. Break them into smaller units. Regulate risk taking in finance. Use progressive taxation to mitigate the accumulation of undue power and influence. 

In his words…

“A whole generation of policy makers has been mesmerized by Wall Street, always and utterly convinced that whatever the banks said was true.”

“Wall Street’s seductive power extended even (or especially) to finance and economics professors, historically confined to the cramped offices of universities and the pursuit of Nobel Prizes.”

“As more and more of the rich made their money in finance, the cult of finance seeped into the culture at large.”

“Our future could be one in which continued tumult feeds the looting of the financial system, and we talk more and more about exactly how our oligarchs became bandits and how the economy just can’t seem to get into gear.”

(OR).

“Under this kind of pressure, and faced with the prospect of a national and global collapse, minds may become more concentrated.”

It’s as simple as that.

(I have added Mr. Johnson’s blog site to my links section in the sidebar of this blog.)

For more of my thoughts on this subject, read my posts: “Economists have Led us Down the Wrong Path“, “Three Sigma Bubble? Nonsense!”, “Business Cycles – The Greatest Con Never Told“, “That’s Entertainment“, “Idiots Guide to Economic Stimulus“, “Greenspan’s Tooth Fairy”  and  ”Financial Crisis not a Mystery – Churning your Money“, 

Sketch from my journal - Herat

In 1972 I traveled overland from Europe to Afghanistan. I was on my way to India to get enlightened. I took the Orient Express to Istanbul, crossed the Bosporus straits by boat, and boarded another very slow train across Turkey and Iran. The tracks ended in Mashhad, Iran and from that point forward, I was relegated to jitney min-vans and vintage school buses painted blue and festooned with roof-racks and hand-holds for those passengers forced to ride on the outside.

While in Afghanistan, I was waylaid for six months, first by illness, then by curiosity.

During my convalescence in Herat, I was taken in by an Afghan family. They befriended me, nursed me back to health, and guided me. Their religion required that they do this, but I sensed no coercion in their acts of kindness, only joy. We played music and sang. I drew pictures of my home in California. They laughed with incredulity at my sketches of cities, freeways, and amusement parks. This was before satellite TV and the Internet had bridged the divide with the West.

Once I was able, I continued my travels, first across a vast and harsh desert to Kandahar, then upward toward Kabul, and finally into the mountains of the north. My twenty year old mind was unable to grasp the immensity of the land, but an impression of the people seeped into me. They were unlike any I had known.

In Kabul, and to a lesser extent in Kandahar and Herat, it appeared that the people lived in accordance with the familiar rhythms of commerce—open markets, roll-doored shops, hagglers and money changers. But, as one Afghan told me, the capital city of Kabul is the capital of Kabul. Nothing more. A true city-state. The commerciality of  Afghan cities was a thin veneer that merely overlaid the profoundly nomadic culture that was very evident outside the narrow boundaries of Afghan cities.

Outside those tiny and tenuous islets of commercial chaos I saw a timeless culture-scape of nomadism.  The vastness of the land was crisscrossed with worn tracks of caravans moving, always moving, for thousands of years across thousands of miles. Occasionally distant black tents, rippling in the heat, marked temporary encampments, but when morning came, I always saw the long lines of tribal people, camels, horses, and flocks of angora sheep, marching slowly and steadily—a timeless trekking—always moving. Along their nomadic paths, I saw many ancient cities and forts made of mud—their ghostly shapes melting back into the desert sands—empires once dreamt, now going, going, gone.

I saw that these people possessed only those things that could travel with them—a few implements of domestic life and weapons, weapons, weapons. Knives and guns were much coveted and admired. My leather encased Buck knife was always a conversation starter.

A curious man offered his muzzle-loaded gun to me and indicated an interest in my Buck knife. We exchanged weapons. The man and his companions gathered to inspect and admire the Buck’s stainless steel blade and folding mechanism. I feigned interest in the man’s ancient gun. Once the ritual was over, everyone relaxed. We enjoyed our bowls of rice and dates, shared smiles, drew pictures on the dirt floor, and exchanged a few simple words.

It’s hard to explain in words, but I developed a deep appreciation for these people. As a vagabond—a fellow nomad—my encounters with them were framed in their well practiced rituals of respect, deference, and mutual admiration. There was something noble about it. I sensed that I was granted status as a matter of course. To lose it would require some disgraceful act on my part. As long as I showed respect and behaved with honor, they would consider me a friend to be supported, protected, and defended. But if I were to become an enemy by behaving dishonorably and disrespectfully, they would slit my throat without a second thought.

President Obama is in a precarious position. Without a political center, tribal Afghanistan is a land in which the practical matters governing day to day life reign supreme. To the Afghan people, the hardships of nomadic life are trivial when compared with the hardships wrought by greed, duplicity, and betrayal between men. In Afghanistan, it’s always personal.

Obama has not yet squandered the respect granted as a matter of course by the tribal people of Afghanistan. Should he do so, he will not be able to regain his status as an honorable man. Obama should adopt a policy of respectful engagement and relations of honor as a best strategy. I suggest that he will do best if he elects to proceed slowly, slowly, like a fellow nomadic traveler. With patience, he and his emissaries can leverage the rituals of friendship, loyalty, and honor that are a way of life in that vast tribal culture-scape.