Locklin on science

In which I have a laugh at economists: whistling at the abyss

Posted in econo-blasphemy, history, philosophy by Scott Locklin on July 31, 2011

I never studied economics. Don’t pretend to understand it. Don’t want to understand it any more than I want to understand Voodoo theology or radical feminism: it seems to me a pernicious form of anti-knowledge. Some of it makes a little bit of sense (maybe voodoo theology does too: dunno), but looking at it like a visitor from another planet (MFM Osborne or Joe McCauley are reasonable approximations, being from planet Physics), it doesn’t look much different from schools of medieval medicine, punctuated by occasional linear regression models. There aren’t generally falsifiable models, and when there are, people seem awfully reluctant to test them. Economic schools seem to grow up around charismatic prophet types, and the arguments for their validity seemed to be along the lines of “Rabbi X said Y, and lo, he was correct.” I think everyone on the internet has seen the Hayek vs Keynes rap, which is about as good an introduction as one could hope for to this sort of thing. I think the intellectual content of a posing rap battle is about as much as one can hope for in this sort of argument as well; ultimately, it’s just a dong wagging contest.

Hayek’s views on economics are, I think (and someone please correct me if this is a misapprehension) closer to the conventional thinking in the 1920s. Keynes views seem to be something approaching the conventional wisdom in the 21st century. Austrian views are “conservative” and Keynes is “liberal” (in the American sense anyhow). This is a broad generalization; most modern Keynesians have some Austrian ideas, and vice-versa, but ultimately, the debate between these guys boils down conflict between these two ideas:

  1. Expansion of debt is inevitably followed by economic recession (Austrian Business Cycle Theory).
  2. Economic recession is ameliorated by deficit spending (Keynesian idea).

The historical battleground they fight their idea on is the Great Depression and WW-2; the events which formed the modern world. The modern Keynesian view is that “Austrian” ideas made the great depression worse. The government, according to them, should have engaged in lots of deficit spending, and that would have magically made things all better. After all, things only got better after WW-2, when we engaged in lots of deficit spending, right? I’m certain the Keynesians have all manner of regression models with which to “prove” this idea, but ultimately, they’re only using one set of data points, and only a couple of variables. This school of thought seems to have won the modern day; we’re at WW-2 levels of deficit spending now. Of course, we’re not spending the money on the same things at all. It’s not clear to me how the Austrians account for the financial success of the United States (and Japan and Germany and the Soviet Union) in the post WW-2 era, but it seems likely to be an equally specious shaggy dog story.

I don’t know if any school of thought argues that the war itself had something to do with things, but I’m going to argue exactly that; call it the Heraclitus school of economics. Seems like an obvious thing to me. I can’t “prove” it using regression models, or by being a college professor or whatever nebulous vril economists use to “prove” their points, but it seems as ultimately convincing as anything else. My toy model does something few economic ideas since Pareto has done: it takes into account the fact that we’re talking about large groups of actual human beings, rather than utility optimizing economic robots.

To reiterate: in Krugmanistan, the prevailing idea seems to be that printing a lot more money will magically make things all better, because dropping lots of bombs on Germany and Japan seemed to be good for the American economy in WW-2. To a Keynesian economist, it was the magic of the printing press. Not the fact that the US developed new technologies, invested in vast new industrial infrastructure, mobilized its entire population, brainwashed its civilians into working double shifts for small amounts of money (and buying lots of government debt), brainwashed its military aged men into fighting a war in distant countries, displaced vast segments of the population to work in factories; hell, we even put women to work in factories. All those other countries did the same thing. Car makers and other manufacturers built giant ships, aircraft which couldn’t have been built before, new kinds of vehicles, tanks, atomic bombs, jets; radio makers made huge strides in electronics, computers and other electronic techologies: and all these companies retained the ability to produce these new technologies after the war was over. Entirely new forms of economic output were possible after the war which weren’t possible before. To name five obvious ones: Airlines, Computers, Atomic power, Highway travel, Rocketry. These new technologies and manufacturing capabilities became new industries which provided people with jobs and further economic output creating things which were figments of people’s imaginations a decade previous. The United States (and all those other countries) made a hail Mary investment in their infrastructure, and transformed their people into fanatical worker bees. The amateur businessman could look at this as an investment in the country; an investment in the employees and the infrastructure. By accident, it was a reasonably intelligent investment for future growth. And after that, the economy did a lot better. Economists want you to believe it had something to do with printing money or business cycles.

I don’t buy the arguments of economists. I think the reason things changed for the better after WW-2 is people were transformed into something they weren’t before, and the national infrastructure was transformed into something a lot more capable than it was before. I do think availability of money is important (duh), and deflation is generally worse than inflation, but if you asked me why WW-2 was followed by a period of prosperity in the US, the above is my reason: nothing to do the magical printing of money or lack therof. Single factor regression models rarely work on systems more complicated than a couple of diodes: why should I be impressed by spurious regression on ancient data?

Another thing economists don’t seem to notice much: the nature of the population. Taking only one variable: mean age seems important to me. Old people don’t work or innovate as much as young people. Old people also have more money than young people, and they do things like invest this money in hopes of making rent on it. Basically, finance is the loaning of old people money to young people, so young people can do useful things with the money, like start businesses. Populations in all industrialized countries are getting older. This means there is a surplus of old people money seeking young people to invest in. This is why interest rates are low, despite all the printing of money going on everywhere. If there were more young people, we’d be in a completely different pickle. This single fact pretty much makes rubbish of any statistical model based on historical data: we’ve reached a fundamental change point which is unprecedented in economic history. There are no historical regimes in which there were lots of old people money chasing young people to invest in. The idea of fitting an economic model to something in the 1930s and expect it to be relevant today …. I might as well trade a model based on 1930s IBM stock prices.

Me? I’m not an economist, or a prophet. I work for a living. I don’t have any answers, and I don’t have any bright ideas as to how to fix the mess we’re in. I’m pretty sure nobody else does either; certainly no politicians alive today are saying anything remotely sensible -it’s all magical thinking, and genuflections before long dead sacred idols. Since I’m of a scientific bent, I wouldn’t mind running some experiments. It seems to me the country is large enough this sort of thing is possible. Hopefully we don’t have one forced on us.

Robert L. Chapman: Mighty Market Mencken

Posted in history by Scott Locklin on August 19, 2010

For those of you who don’t remember him, Robert L. Chapman jr. was the world’s greatest flame warrior. Chapman invented and perfected the poison pen letter applied to an obscure SEC filing known as the 13D. The 13D is filed when someone buys more than 5% of a company’s stock. The company’s management rather has to read it, as it tells them who owns the company. Chapman’s game was to buy good companies with battered stock prices, beat their management into shape (in part with 13Ds), then sell for a healthy profit. Capitalism at its best: taking something good, fixing it up, and selling it. Many bad companies are simply badly managed; replace the managers with good ones, and the company can go on to further create value for shareholders, which is their only legal reason for existing in the first place.

I am no journalist, and am afraid to call him on the phone to see what’s up these days, but google tells me he worked as CEO at one of his holdings for a few months.I was rather hoping the 13D letters would come back once he was done, but they haven’t as of yet. Seeking Alpha doesn’t seem to realize this or perhaps I’m getting the story wrong. People in the comments section of the SA article claim he got wind of the coming debtocalypse and closed up shop in 2007. While I’d like to believe this, I have reason to believe that this wasn’t so. He has occasionally piped up since then, but no letters yet, damn it.

With any luck, he’s being fed grapes by dusky maidens on a beach somewhere, but whatever the reason, he’s one of my favorite living characters in the financial business. I mean, how punk rock is this?

In the spring of 1987, 20-year-old Bob Chapman had arrived in the lobby of 555 California Avenue, the downtown San Francisco headquarters of Salomon Brothers. He was a wreck. His $99 suit was ripped; there was glass in his hair. Blood was soaking into the rag bound hastily around his thumb. He had come to personally hand in his résumé for the bank’s summer associate program. Bill Frasier, the Salomon broker who had been given the task of recruiting, gasped. “What the hell happened?”
Recalls Chapman, “I said, ‘You won’t believe this. I got in an accident on the way over.’” Chapman handed the broker his résumé. The bandage on his thumb slipped off and blood gushed out. There was blood everywhere.
A horrified Frasier ushered the candidate onto the trading floor and arranged for some rudimentary first aid. Patching himself up, the Berkeley undergrad recounted how he had slammed his street-illegal dirt bike into a car on the Bay Bridge en route to the office. After flying through the air and landing in the back of a pickup, he had insisted on being taken to Salomon Brothers’ offices rather than to the hospital. …
After hearing this tale, Thompson turned to Frasier and asked, “Is this guy for real?”
“I’m afraid so,” Frasier replied.
“Then hire him.”

Beyond his fantastic curmudgeonry, he is a first rate prose stylist. I’m presently (slowly) teaching myself Old English. The Old English poetical form is alliterative. So are Chapman’s 13D’s, which often read like some glorious moustached Anglo Saxon warrior beating his war song out on his shield.

As Chairman of the Board of Directors of Sunterra, you cannot escape blame for weak oversight of a partially-expelled executive management team that dwelled far too long in the abyss of confident incompetence. It may have seemed like an expeditious exercise in denunciation to “direct that” Mr. Benson take paid administrative leave (God forbid he be forced to survive on his mere $1.3 million in 2005 compensation). On January 17, 2006, apparently to deflect yet again the Company’s top shareholder’s repeated requests for Board representation, you defended the existing Board’s competence, stating, (irrelevant)-SL However, for many months, Sunterra’s Board has acted out a series of sham indulgences of Sunterra’s former top owner group, which had communicated publicly to the Board its reasonable critique of Mr. Benson’s Oscar award winning Pollyanna performance every time the curtain rose on Sunterra Europe. Sunterra’s Board, along with its connected-at-the-hip management team, may have become insensitive to the sheer agony being felt by these owners due to the Board’s near failure to qualify as owners themselves.

And in the same filing, something rarely stated by someone in the financial business:

…modern capitalism is characterized by pervasive oligopoly and the separation of management from ownership . For a decade now, I have lamented publicly via Schedule 13D filings how fragmented equity ownership converts capital-risking “Owners” into un-concentrated, faceless, DTC-coded “shareholders.” In this conflicted world of “Agency Capitalism,” a board and its hired hands (together, the “Agents”) conveniently lose sight of the most important fact of their corporate lives: the Agents work for the Owners, and should such Agents differ in opinion from the majority of Owners regarding strategic and operational direction, it is incumbent upon those Agents to convert dissident Owners to management’s disparate views rather than simply state, “We possess more complete information and/or better judgment than the Owners who hired us.” Importantly, for the Agents’ intransigent approach to have any legitimacy, this “ complete information” must be material in its relevance to a rational investor in his making a decision to buy or sell the company’s shares. If such “information” is in fact “material” by the SEC’s definition thereof, then under Regulation FD the Company has a responsibility to make “fair disclosure” of any such information promptly via an 8-K filing (possibly accompanied by a press release), thus feeding the process of informing Owners of any material developments that the Agents feel is creating deficient Owner comprehension.

Read the whole thing here.

And, Bob, if you’re reading this: I’m looking for work. I got references.

To learn about the future, study the past

Posted in finance, history by Scott Locklin on February 11, 2010

When I’m trying to get away from internet and the telephone to get some work done, I often end up in the University library. When I need a distraction, and there are no attractive coeds to wiggle my eyebrows at, I have a look at the old journals; an activity which beats the heck out of goofing off with garbage like Wikipedia. One of my favorites is The London Times Imperial Trade and Engineering Supplement. Considering recent events, the era between 1929 and 1941 are of particular interest.

Between the advertisements for valves, the new wonder metal of aluminum, Vickers airplanes, coal mine ventilators and diesel motors there is a great deal of history and food for thought. In olden times, one could write a report in a general interest economic publication on the health of the local plywood industry, or the national fruit canneries. While this sort of thing sounds like total rot today, it’s somehow a lot more satisfying than reading about the latest facebook swindle in Business Week. Personally, I would like to know how the local plywood industry is doing. The gouty old fussbudgets who could write a detailed (and interesting) report on the state of the British paraffin wax industry in 1928 were far more perceptive and less susceptible to “deferring to the expert syndrome” than modern financial writer nincompoops. These gentlemen knew a thing or two about a thing or two. Modern financial writers tend to be journalism school types who know more about padding their CV than they do about the subjects they write about.

If you start to think men who were actually alive in the 1930s may have had better insights into what was actually going on, well, that way lies heresy and madness, because they certainly said different things than the cartoon vision of the time we’re given today. There are modern historians of the era who are reasonably honest if carefully read, but even they are misleading, and the picture the vast majority of people keep in their heads is a complete fabrication. The Orwellian phrase “If all records told the same tale — then the lie passed into history and became truth.” is in full effect when it comes to the period of time known as the Great Depression. For example; the prevailing idea in most people’s heads is that 1929 was a big surprise. Lots of people knew there was a credit bubble well before it burst. Months before black Monday, the Fed (yes, they had a Federal Reserve Banking system then, though it was a new idea) was warning about it, and they raised interest rates to help it along. Weeks before the stock market crash, it was noticed that market conditions were actually a lot weaker than justified by the stock prices. In early October 1929, it was noted, for example, that manufacturing was down and automotive inventory was building up on lots (Oct 12 1929 p 81).

The other prevailing historical idea which appears to be complete fiction is that the Hoover Administration were Laissez Faire Republicans who sat on their hands and did nothing. Au contraire: Hoover was hardly a market fundamentalist. Hoover was in fact a standard issue early 20th century technocrat -a guy who made his bones running a spectacularly successful aid program for central Europe and Soviet Russia post WW-1. The fame which made Hoover president was fame for being a proto-socialist technocrat who managed Europe’s economy for a couple of years. As such, the idea of Hoover as failed libertarian is complete historical fiction. He enacted huge government spending projects, and even wanted to implement a ban on short selling. The London Times estimated that by 1929 the expenditures of the American government totaled 30% of the national GDP (April 23, 1932 p 117). They estimated this using a system doubtless obsolete now, but which makes perfect sense: they divided the national income by the national and local government budgets. The old London Times talks in great detail about enormous public works projects funded by the Hoover administration to reduce unemployment -pretty much the same stuff Hoover did in Europe in 1919. Finally, the Republican congress of the Hoover era passed all manner of legislation tinkering with the economy. FDR, touted in the history books as a miracle worker who brought us the wisdom of Lord Keynes accompanied by angelic harp music, by contrast, took an axe to the economy: his policies were compared unfavorably with those of Stalin and Hitler. In fact, the economy only seemed to begin to recover once the Supreme Court put limits on what FDR’s gang of imbeciles could do, such that business felt confident enough in future conditions to make investments. At least that’s how the London Times saw it. Brad Delong somehow sees it a little differently (though he is a lot closer to the LT than he is to the cartoon view of the Depression, which is why I recommend you read him). Who is more right? I don’t know: everyone else seems to believe something more like the cartoon view of the Great Depression. I figure the anonymous authors of London Times Imperial Trade and Engineering Supplement, being British, had no political or historical axe to grind, and they were there. Certainly they all agree that unemployment was still nearly 18% in 1939.

The other spooky thing about reading “primary source material” is you start to notice how much the past is like the present. I won’t bore you with all the interest rate and bond buyback maneuvers that look eerily like the last year or two. People who aren’t bond traders are generally only dimly aware of such things today. The main way in which the past doesn’t much resemble the present is the technological breakthroughs of 1929 make those of 2010 look like the joke they are, which isn’t very encouraging, as these technological innovations eventually fueled a real economic boom. Try looking for advertisements in modern financial rags which compare to aluminium, the diesel engine, radio or the airplane. It is fun to read some of the contemporary predictions of immanent recovery though. These provide cheap entertainment for ironists, and are useful reminders in gauging the veracity of our “green shoots” and the various declarations of recovery and economic victory in our modern era of troubles.

Oct 26 1929 p 130 (two days before the “Black Monday” crash):
‘Recently, as has been noted there was very heavy liquidation in the New York stock market, and money rates fell. Commenting upon this in Berlin on October 8, Mr. Charles E. Mitchen, chairman of the national city bank and a director of the Federal Reserve Bank of New York is reported to have said that he was not looking for lower money rates and that the break in the stock market would not have any lasting effect.’

March 8 1930 p 584
‘The Secretary of Commerce who cited these figures in the middle of February as proof that the country was getting on its feet again, emphasized the fact that the total of new construction was in excess of what his department had estimated four weeks previously, and he predicted that expenditures for the building and maintenance of public works and public utility properties this year would total or exceed $7b. But in other quarters there was a disposition to wonder where the money was coming from which were to put through, not the public utility enterprises which are financed with private capital, but the public works.’

Nov 22, 1930 p 226
‘Recovery, in a sense, has already begun, but the pace is slow. “The buying of goods by ultimate consumers has for several months past been running at a greater rate than production by factories.” Dr. Benjamin M. Anderson, Jun. recently told the Kansas City Chamber of Commerce “The year 1930 to date stands well above the first ten months of the year 1921, and the worst of 1930 is not as bad as the worst of (the depression of) 1921.”‘

March 19 1932 p 13
‘At the beginning of March the Administration in Washington was much cheered to hear from business men and bankers calling at the White House that there had been “a distinct improvement” in business conditions throughout the country “a 10 per cent improvement” as some of them said. Unhappily, however, actual figures of business activity did nothing to bear out these blithe observations. It is true that bank failures decreased until here were only one or two a day instead of 10 to 15, and that hoarding of currency seemed to have diminished somewhat; but sales of goods in stores and by wholesalers, production and sales of motor cars and steel, loadings of freight cars on railways, electric power production, new business operations, commodity prices, and a number of other common indices of business activity showed no change what ever for the better.’

May 28, 1932 p229
‘…Therefore only the most cautious use is being made of the credit which the Reserve banks have been pumping into the market, for many weeks past at the rate of $100 million or so a week. Where the credit is being used at all, it is mainly for the paying off by member banks of their indebtedness at the Reserve banks.’

July 23, 1932 p 399
‘REVIVAL OF CONFIDENCE IN USA
business contraction less marked (headlines)’

October 15, 1932 p 90
‘Such expansion in business as has occurred since the beginning of September has been slightly less than is usual at this season. A year ago, however, there was no improvement at all in the autumn -excepting an insignificant upturn in mid-September which was followed by a precipitous decline a month later. On balance, therefore, a more cheerful feeling is justified. But unfortunately, political exigency has operated to exaggerate what improvement has occurred thus far, representing recovery as actually here, although it is still doubtful that the corner really has been turned….It has frequently been asserted that one of the difficulties in business today has been the refusal of banks to give credit freely.’

June 3 1933 p 263
‘RETURNING CONFIDENCE IN UNITED STATES
The feeling appears to be growing among business men that the belated spring recovery now is no mere “flash in the pan” but a beginning of a genuine revival. “Whatever may be thought about inflation,” as one commentator put it, “deflation is at an end.” If this is not the fact, it is at least the feeling.’

June 30 1934 p 331
‘To be sure, it has long been evident that a broad movement of recovery is in progress and that in many material ways the country has strikingly improved, and is continuing to improve, its position of a year ago.’

December 1935 p 24
the reason for the prevailing business optimism is simply that the conditions are genuinely improved for the great majority of business men’

(unemployment remained in the double digits until the Second World War)

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