flinthills

Stein's Business Column

Ben Stein at the NY Times had a good peice on Sunday in his "Everybody's Business" column titled, Mr. Chairman, You Can't Control China, So Relax (free subscription required for a while -- then payment required for back-dated articles). 

Here's a quote:

May I suggest a reason for the low long-term rates? It has to do with a certain circularity in world flows of capital.  American consumers and businesses buy far more from the Japanese and Chinese than the United States sells to them.  The difference is in the hundreds of billions of dollars annually.  The Asians do not respend this money in America by buying Big Macs.  Instead, they use a large chunk of it -- again, hundreds of billions -- to buy Treasury bonds.

That creates a floor under the dollar, keeps their own currencies low and makes their products very competitive.  But this voracious buying of Treasury bonds -- at varying lengths of maturity -- keeps a high floor under bond prices as well.  That, in turn, keeps the interest rate low, because interest rates move inversely to bond prices.

In other words, interest rates are supressed at very low levels by the recycling of the trade deficit into Treasure bonds.  It may just be that simple.

In turn, this keeps mortgage rates low, props up the amazing housing boom and starts to affect commercial real estate in a big way, too."

It gets better - worth the time to read.  The idea is that the attempts by the Fed to control inflation by raising rates is doomed to failure while Asians are holding LT rates down through their buying of T-bonds.

Buzz Merritt Responds

I received the following email from Buzz Merritt, author of the book Knightfall, which I commented on in the previous post.  I provide his comments below unedited:

"If I had in fact said what that Business Journal story said, you'd be justified in your label. The conversation was about why things go wrong in some businesses--Enron, etc.--and the role that greed plays in those situations. There's nothing in the book to reflect such a view, for, indeed, I don't hold that view. Be nice to see that fixed on your site so the book doesn't look silly." --Buzz Merritt

I don't understand the "Enron / Greed" comment, i.e. what position is being stated, but again, I'll have to wait for the book to come out to see what he actually wrote.  My thanks to Buzz for taking the time to respond and I look forward to seeing the book on the shelves of the local bookstores.

My thoughts below are not directed at Buzz, just the rantings of a frustrated lover of liberty and markets incensed by the misuses of the "meaning of Enron":

Enron is a story of arrogance and criminal behavior.  It is also a story of the brutal efficiency of markets -- which metaphorically shot Enron in the street at high noon once it became aware of the transgressions. 

It was markets that created the smoke that led regulators to the fire.  Greed may be applicable in a criminal, immoral sense, I suppose -- but it is so often used as an argument against self-interest, as if self-interest and "selfish" were the same thing. 

Criminal behavior exists everywhere -- in socialist regimes, monarchies, tyrannies, and capitalism.  Why do you see it more in capitalist societies?  Well, in the words of Willie Sutton, the infamous bank robber, "because that's where the money is."  We have very effective institutions to provide negative incentives for robbing, cheating, fraud, etc.  Interestingly, the very people who were complaining about the criminal behavior of Enron leaders were also the ones yelling the loudest for government to step in and save Enron from collapse -- that is, to remove the very mechanisms that promote healthy, principled behavior in society!

Capitalism -- private property, freedom to exchange, individual liberty, rule of law, etc. -- businesses freely pursuing the self-interest of their shareholders and employees -- isn't the cause of the problem.   The principled pursuit of profit is a good thing.  Period.  It drives all the right behaviors in society, and has proven over the last three hundred years to generate unimaginable wealth which allows us to afford the luxury of time to even have the education and leisure with which to criticize it.   Without it, the vast majority of us would be spending every waking hour merely subsisting, wondering where our next meal would be coming from.

Capitalism is morally superior to all other known forms of societal order.  We need to understand that before we start attacking it. 

Knightfall and Bad Economic Thinking

According to the Wichita Business Journal there is a new book coming out titled Knightfall by the former editor of the Wichita Eagle, Davis "Buzz" Merritt.  I haven't read the book, but the review says it, "documents Merritt's views of the decline of journalistic standards in the newspaper business."  Not satisfied with newspapers, Buzz decides to start cookin' with gas and generalizes his insights into a grand unified theory of ethics in the business world at large (quoting from the review):

Merritt, who lives in WIchita and teaches a media ethics class at Wichita State University, says the issues at newspapers can also be seen in the business world.

"Whenever increasing mandatory profits becomes the operating guide for your company as opposed to a good product or service, then a lot of bad things happen in a lot of businesses," he says.

I sure hope this is either a mis-quote or it is taken so far out of context as to be unprofessional of the reviewer... Again, I have not read this book, but if the quote is accurate and not out of context,  this is pure nonsense . 

How does one go about determining if a product or service is "good" or "bad" in the absence of profit?   What other guide is there for a company than making a profit?  Profit is the sole objective measure of a company's ability to add real value to the community, assuming it is conducting its affairs lawfully and with integrity -- and assuming the community isn't being coerced to buy its products and services.

Mandating profits?  Nice idea, not real practical.  I suggest an experiment for Buzz: go run a lemonade stand and attempt to mandate profit and see how many glasses you sell.  At some point I think it will become obvious that forces like demand, supply, innovation, and competition have much more influence on the price of a glass of lemonade than any "will to mandate" on the part of the owner of the lemonade stand.

Profits make it possible to stay in business, to grow the business, to employee people in the community, to pay taxes, to donate to charities, etc.  A company's corporate social responsibility to is make a profit by creating real (as opposed to illusory) long term value for its customers by the economic (as opposed to political) means, lawfully and with integrity.  That's it.

So, Buzz, here's the deal: if companies focus on the profitability of their products and services, they will, by definition, be providing good products and services to the community.  By attempting to increase their profits in a principled manner, a lot of good things happen in a lot of businesses -- and we are all better off because of it. 

The New Communism?

This in from France: Free market economics is the new communism (free registration with the UK Telegraph may be required.  Hat tip to Rod Learned for the editorial).  Only from Chirac, who seems to be contending with the likes of Mugabe, Chavez and current governor of Virginia for idiotarian of the year.  Marx and Smith must be having a good laugh over this one.

Finally a Coherent Rebuttal to my Trade Deficit Position...

I don't agree with it... but Robert Samuelson wrote what, I think, is a plausible argument for why we might be concerned about a growing trade deficit.  To quote:

At present the greatest peril may lie in huge global trade imbalances -- and the financial pressures they create. The basic dilemma is that the world needs American trade deficits as an "engine" of growth, compensating for weak growth in Europe and Japan. But the same trade deficits may now be destabilizing because they send large amounts of dollars abroad. The danger: a dollar "crash" on foreign exchange markets that spills over into the U.S. stock and bond markets, driving down those markets and triggering a global recession.

This argument is not new -- I question the premise of a world needing U.S. trade deficits -- but he goes on to explain how this mechanism happens (which in my humble opinion is unique as most don't bother -- because they can't or because they don't want to expose their underlying assumptions):

What's the problem? Foreign exporters receive dollars for what they ship to the United States. If those dollars aren't reinvested in American assets -- say, U.S. stocks, bonds or Treasury securities -- they'll be sold on foreign exchange markets for other currencies: the euro, the yen, the pound. As dollar sales drive down its value, foreigners note that their existing U.S. stocks and bonds are worth less in their own currencies. So they may sell U.S. securities to limit losses. At the end of 2003, foreigners owned $1.5 trillion in U.S. stocks; widespread sales could trigger steep market declines.

The risk is an economic implosion. A sinking stock market could damage American consumer confidence and spending. Higher currencies for Europe and Japan could weaken their export competitiveness. (A higher currency tends to make a country's exports more expensive and its imports cheaper.) Together, the United States, Europe and Japan are half the global economy. If they went into recession, other countries might follow.

This seems a long chain of if's along a very slippery slope of an argument however...  If I consider just the argument of widespread stock market panic selling due to dollar devaluation:  People invest with the expectation of a return relative to their opportunity costs.  While the devaluation of the dollar might make a stock less valuable in relative terms, the word relative invites us to ask "compared to what?"  The price of a stock in large part represents its investors' forward call on its earnings potential.  The U.S. continues to grow at a faster pace than every other country.  It's not the short term now that investors (foreign or domestic) will consider -- the devaluation and current relative price are sunk -- what matters to them on the margin is tomorrow's value compared to the alternative available investments right now. 

If you sell U.S. stocks and bonds you end up with U.S. dollars... what will you do with them?  Convert them to Euros and invest in european companies growing at a slower rate -- and after this potential disaster will have even less appealing future opportunities?  What's the point in that?   

This all seems to have less to do with a trade deficit and everything to do with trade policies, savings rates, capital investment, innovation, etc., etc.

Polanyi and Spontaneous Order

Another "Dennis Hopper Moment" this morning reading Michael Polanyi's chapter titled, "Two Kinds of Order" in his book, "The Logic of Liberty."  I've previously only read his essay, "Republic of Science," and am currently reading his famous book, "Personal Knowledge" in addition to the Logic of Liberty. 

I have definitely found a friend and mentor in M. Polanyi.   By the way - I'd forgotten until Dick Anderson pointed it out to me that "Mentor" comes from the name of Odysseus' old friend whom he places in charge of his son, Telemachus, and his palace while he is off fighting the Trojan war written about by Homer in The Odyssey.

Polanyi, well known in history and philosophy of science circles, is unfortunately not read by many in the economic, social and political sciences.  But he had a lot of deeply insightful things to say about markets, economics, and politics -- drawing many parallels with processes within the scientific community. 

This morning's journey into his discussion of Spontaneous Order was sublime.   He defines it as the order achieved by allowing people to freely interact with each other on their own initiative, subject to laws that uniformly apply to all of them.  This is as opposed to intentional order that comes from limiting freedom by assigning to specific individuals a specific position / command / etc. according to a pre-determined plan.

He refers to situations that operate according the principle of spontaneous order as "systems of free adjustment," and suggests they can achieve some things that other systems of order cannot.  He uses the developing body of Common Law and the progress of Science as examples.

A judge who is on the margin making a decision about a case relies (consciously and unconsciously) on the historical precedents of all the judges deciding similar cases before him.  His mind is in touch with all those judges as well as being aware of the present society's conventions, opinions, etc. -- and he weighs all this and other considerations in making his decision.  Once made, this decision alters the body of Common Law by becoming a precedent as well -- either reinforcing it or modifying it. 

The public adjusts to the new information and we have ordered growth of law through a sequence of adjustments, "re-applying and re-interpreting the same fundamental rules and expanding them thus to a system of increasing scope and consistency."  He refers to the system, by this process, as being the "direct embodiment of wisdom,"  in which any specific decision is an adjustment to all the decisions that went before it.

He then turns his attention to Science.  This is where it gets hugely interesting to me.  Like the judge, the scientist follows a, "process of consultation," in which he voluntarily submits to the established methods of science and reviews all the knowledge gained on his topic before him (or currently being worked on).  But there is also a competitive process in which he is always seeking the problem to which he can apply is unique talents in the hopes of being able to make a discovery for which he can publish and get credit. 

Similar to property rights being the essential pre-condition to the profit motive for a healthy functioning market, we have "credit" and "personal reputation" driving the scientific community, providing each scientist the incentive to communicate his or her progress with all other interested scientists to allow for a system of free adjustment that spurs progress.

There so much more -- I haven't come close to capturing the essence, but I absolutely love this quote:

"Law and science are only two among the many intellectual fields in society.  Though no other activities of the mind form such precise systems as those of legal and scientific thought, they all prosper similarly by the mutually adjusted efforts of individual contributors.  Thus language and writing are developed by individuals communicating through them with each other.  Literature and the various arts, pictorial as well as musical; crafts, including medicine, agriculture, manufacture and the various technical services; the whole body of religious, social and political thought -- all these and many other branches of human culture, are fostered by methods of spontaneous order similar to those described for science and law.  Each of these fields represents a common heritage accessible to all, to which creative individuals in each successive generation respond in the form of proposed innovations, which, if accepted, are assimilated to the common heritage and passed on for the guidance of generations yet to come...."

Tru dat.

Axing the Subsidies...

Imagine you're in a car being driven by your best friend.  This person's whole life has been about cars -- he loves everything about them, dreams about them, never stops talking about them.  He's not a very good driver, though - but he gets really defensive if you bring it up - if you even look like you'll bring it up.  So... presently you're both in the car and he's driving 95 mph and happens to be heading towards a cliff.  Do you encourage him to go faster?  Do you tell him what a good driver he is?  Would this be doing either of you a favor at this point?

It seems obvious that we won't make farmers more competitive by taking the pressure off of them to be competitive, by protecting them from competition. But that's what subsidies do.  We're not shocked that some farmers are throwing tantrums over the current proposal to cut some subsidies -- they're like the car nut driving us over a cliff and they're defensive as heck about their inability to compete.

My grandfather always said if someone calls you a donkey, laugh -- but if a lot of people call you a donkey, you'd best buy a saddle and sell rides.  That was his way of saying listen to the market -- it tells you what everyone values and how you stack up compared to that.  He'd say you have to work hard at the right things -- just working hard isn't enough.

The vast majority of us figure that out pretty early on in our endeavors to eek out a living.  So what gives some farmers the illusion that they have a birthright to farm?  What gives some of them the audacity to demand that the rest of us have our hard-earned dollars forcibly diverted away from our childrens' college education and other more useful and valued purposes -- just so they can take them and dump them into a black hole of uncompetitiveness? 

My family's history was built on agricultural efforts in Maine.  We don't operate dairy farms and apple orchards anymore.  Now we are bankers, artists, educators, marketers, lawyers and computer geeks.  Living in Kanasas, I have great friends whose families once made -- or continue to make -- their living from farming wheat, sorghum, corn and other ag products.   But they aren't farmers themselves. They're entrepreneurs, doctors, machine shop workers, firemen, educators, and so on...  Where would this country be if all of those bright energetic people had been forced to stay in farming? 

I care a lot about all of them.  I love my kids and my younger brothers, too.  And I have the same message for all of them:  a life worth living means connecting with reality (the world as it is, not how you want it be) and constructively dealing with it so you can apply your unique gifts and talents to add real value to your family, your community, your country, your world.  Add real value -- not the illusion of value.  Not take value away from others.  Add real value.  Value happens to be defined by all those individuals that make up your family, your community, your country, your world -- that is, value is not defined by you.

That makes for hard work in this day and age -- because the very freedom and prosperity that allows for an uncomprehensible myriad of specialization out there in the global markets makes it quite difficult for you to find your place within it.  But that's what you have to do -- just like the rest of us.  And noone else is responsible for getting it done for you.   

"There is perhaps no more poignant grief than that arising from a sense of how useful one might have been to one's fellow men and of one's gifts having been wasted.  That in a free society nobody has the duty to see that a man's talents are properly used, that nobody has claim to an opportunity to use his special gifts, and that, unless he himself finds such opportunity, they are likely to be wasted, is perhaps the gravest reproach directed against a free system and the source of the bitterest resentment.  The consciousness of possessing certain potential capacities naturally leads to the claim that it is somebody else's duty to use them.

[...] The necessity of finding a sphere of usefulness, an appropriate job, ourselves is the hardest discipline that a free society imposes on us.  It is, however, inseperable from freedom, since nobody can assure each man that his gifts will be properly used unless he has the power to coerce others to use them.

[...] It is of the essence of a free society that a man's value and remuneration depend not on capacity in the abstract but on success in turning it into concrete service which is useful to others who can reciprocate.  And the chief aim of freedom is to provide both the opportunity and the inducement to insure maximum use of knowledge that an individual can acquire.[...]" -- F.A. Hayek, The Constitution of Liberty

There have been times in history when societies have believed so passionately in an indivudual's right to be free from the coercion of others that a lot of people were willing to sacrifice their lives to achieve and maintain it for the rest of us who have benefitted greatly.  They knew that without freedom, the human race is doomed to extinction.  Freedom doesn't guarantee anything but opportunity.  But if you work hard, listen to the market, become a life-long discoverer and learner, you probably will succeed.

Let's get rid of all this subsidization, this coddling mentality we've developed that is leading us down the path of being perpetually parented into extinction.

Hayek and Progress

I am having the time of my life. This new role I am in is incredible - the people I get to work with and learn from, the ideas, the challenges... I miss trading and technology, but this new role... it seems like everyday I have a new peak experience. There's so much to learn, so many exciting ideas and opportunities to have a real impact.

At the same time I get this pit in my stomach if I think too much about what I need to accomplish -- how will I ever do it? I have 5 months to assemble a book on Market Based Management. Fortunately I have access to some of the brightest minds on the planet. But the writing part is torturous -- it's like turning blood into words. I write five pages, I end up with a couple of sentences. Even those might not be acceptable to the editorial board.

I think Soren Kierkegaard wrote that if one wished to write the truth, one had to first become the truth. That gives me pause.

But the ideas... how could I have been so ignorant of these writers and thinkers I am reading today -- Polanyi, Hayek, Mises, Maslow, Horney... one book after the other... the experience of reading them is ineffable -- every page leaps out with incredible insights. All my synpases seem to fire at once... This is what I've been trying to say -- this is how the world works - I've seen it but didn't have the words / concepts / framework to explain -- YES! YES!

Example: today I am reading The Constitution of Liberty by F.A. Hayek -- in part 2 of his chapter, "The Common Sense of Progress" he is talking about how progress in our normal sense is purposeful -- that we as individuals or groups have an goal in mind and organize our resources and plan our efforts to achieve what we see as attainable. But that isn't "social progress" -- our society doesn't advance like that. It evolves -- progress is a discovery process, searching into the unknown with unpredictable consequences. Human reason cannot predict or shape its future -- not even in science can this be done (I've seen this theme in Polanyi's Republic of Science) -- to attempt to corral scienctific discovery towards some deliberate aim is to hinder progress.

He then points out that "progress" might mean achieving what we've been striving for - but that we might not always like the results and not everyone gains from it. The result is a state, progress is a process. And here's the payload: the states don't matter -- it's the process:

"... What matters is the successful striving for what at each moment seems attainable. it is not the fruits of past success but the living in and for the future in which human intelligence proves itself. Progress is movement for movement's sake, for it is the process of learning, and in the effects of having learned something new, that man enjoy's the gift of his intelligence."

He continues to build from there to make that case that it is progress - this evolutionary discovery process that is the never ending quest for future understanding - that makes society, "most cheerful," as Adam Smith coined it -- and that it fundamentally requires maximum individual liberty to work, and that this by necessity means there will be inequality in society... but that we're all better off by it.

This stuff hits me so hard I have to be careful who I talk with in the hours after I read it... I worry sometimes that I come across like a Dennis Hopper character, "it's like... WOW man... like all this stuff is like interconnected with the great cosmic flow man do you groove on that?" -- or from Apocalypse Now when he says stuff like, "Do you know that 'if' is the middle word in 'life'?" -- Hands waving in the air, wild-eyed, hyped on caffeine and ideas.

Back to reading.

Real Social Security Starts with Freedom.

It's generally a bad idea to respond emotionally to anything.  It's even worse to put it in writing.  And you'd have to be an idiot to publish it.

Trifecta.

I wrote the following letter to the editors of our local newspaper, the Wichita Eagle, in response to this "My View" opinion piece that appeared Monday on Social Security privatization...  It was published today. 

Hopefully in the process of pairing my words down from 678 to 200 so the Eagle's submission page would accept it, I made it less agitated.  I need to send these things George before I submit them.

To the Editor:

The commentary, "Privatizing Social Security is Bad Idea," (Feb. 1 My View) made three incorrect claims.

Social Security is facing a real crisis. You and I cannot take out a $1 million loan and call ourselves millionaires, but that is how our government declares Social Security to be solvent.

Social Security did not "lift" generations out of poverty. Government can't wave a wand and --"poof!" --money for all. It was the ingenuity and hard work of individuals driving a productivity boom coupled with trade liberalization that produced the wealth on which Social Security feeds.

Finally, pitting "Wall Street" and slick snake-oil salesmen against the "workingman" is an insulting appeal to fear, not an argument.

Let's change this unfair system that doesn't allow the poorest of workers to keep what they've worked hard for but cannot save and pass on to their children. Let's be done with arrogant social "experts" who strip us of dignity in the name of "protecting" what can't be protected.

Give people the freedom and the responsibility that comes with it. Get out of their way so they can live as they see fit. Then watch the economic explosion it creates. That is social "security."

In retrospect, I wish I'd written the last two sentences differently --

Then watch the explosion of prosperity it creates.  That is social security.

Ah well... next time I'll sleep on it.

Op-Ed: Trade Deficit Political Red Herring

Following was submitted to the Wichita Eagle today for publishing as an Op-Ed piece:

There are many issues we face in the coming new year but the trade deficit is not one of them.  The trade deficit is a fantasy used to deflect attention from the real issue of a budget deficit. 

The trade deficit refers to the balance of the "current account," which is simply the difference between the total dollar amount of exports from the U.S. and imports to the U.S.  If that number is negative, it is called a "deficit," and if it is positive it is called a "surplus."  Unfortunately, the current account is only one half of the picture and terms like surplus or deficit are meaningless when applied to it. 

I recently bought a TV at our local Sam's Club -- a Sony as it happens.  Think of this transaction as Mr. Sony selling me a TV from Japan.  I got a TV that was worth more to me than the $500 I gave Mr. Sony.  Mr. Sony got $500 US Dollars that was worth more to him than his TV.  We are both better off.  Now Mr. Sony has some choices on what he can do with that $500.  He can keep it in a bank as cash (used by others as capital in bank loans), he can buy stocks, bonds, real estate or any other number of things -- including US Government debt like Savings Bonds or T-Bills.

What Mr. Sony and others like him do with that money is tracked through the "Capital Account."  This is the other half of the picture.  The Capital Account is the sum of all cash accounts, private bonds, equity, real estate and other purchases including government bonds and treasuries. 

In our example, if Mr. Sony turns around and immediately buys $500 of US products (from Mr. Microsoft, for example) that transaction ends up in the Current Account and my buying his TV and his buying a Microsoft product cancel each other out.  If he choses to hold, invest or lend that money, it ends up in the Capital Account.

By definition, the Current Account minus the Capital Account equals zero.  That's right -- a big fat zero. Always.  When people (foreigners included) buy equity, private bonds, and other items listed in the Captital Account we call it investment.  That is a good thing.  If someone shows up at your door wanting to loan you money or buy equity in your business, it means they want to invest in you, that they have faith in your long term ability to add value and contribute to economic growth. 

Whether you should take that money is quite another issue.  Individuals and businesses are generally quite sensitive to living beyond their means.  Those that aren't end up paying some direct consequences.  The same cannot be said for governments.  And that is where we get away from the red herring of trade "deficits" and to the root issue of budget deficits. 

Foreigners can't purchase debt from the US governement if it isn't for sale.  The fact that they can brings up at least two points: first, their wanting to buy the debt must mean that they feel pretty good about the long term viability of our country.  Second, why is our government selling debt?  They are borrowing to cover the costs of government programs not already covered by current and projected tax revenue. 

There are many political and economic positions regarding issues like taxes and government spending.  But consider this:  these are the real issues -- and they have nothing at all to do with the trade "deficit."  Free trade creates wealth by definition -- nobody voluntarily exchanges for anything unless they expect to be better off.  What is done with that wealth is the issue. 

Resolving a large budget deficit isn't a fun process -- it's complex and often painful because it requires hard choices.  In this sense it's no different for governments than it is for families and businesses -- just easier to ignore or avoid discussing. But grappling with budget deficits is dealing with reality.  We need to stop worrying about the fantasy of trade "deficits" and focus on the real problem.