Perverse Incentives Are Endemic (TM)
Posted by Marc Hodak on January 31, 2008 under Invisible trade-offs | 
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My older son sent this video clip to me as a homage, I suppose, to the philosophy of how he was raised (at least his dad’s contribution).
The advanced version of this lesson is to combine several of these things into a single activity, like model rocketry. Unfortunately, even that is threatened with being regulated into oblivion.
Posted by Marc Hodak on January 29, 2008 under Executive compensation | Comments are off for this article
The SEC asked for more information, more details about that extra information, and in plain English, in its major revamp of disclosure laws last year. Oh yea, and with civil and criminal penalties for false or misleading statements. No, this wasn’t called the Compensation Attorney’s Full Employment Act, but it could have been.
So far, the SEC is unhappy with what it’s gotten. Last year it sent out letters to 350 companies complaining that they weren’t providing what the regulators wanted.
A majority of the companies have now received second letters, according to an SEC official, and of 26 companies whose cases were closed, 21 were chided for not giving enough information about the role of individual performance in their pay decisions.
A sample of the level of detail they’re asking for:
[Boston Scientific] said it gave CEO James Tobin a 3% raise after reviewing “whether the company had met or exceeded quarterly sales and earnings targets, the performance of our Taxus stent system, our product-development initiatives and business integrations, as well as other matters.”The SEC wasn’t satisfied and asked for “substantive analysis and insight” into how the board’s compensation committee determined specific pay, according to its Sept. 26 letter.
Maybe this is closer to what they are looking for:
“The board, in deliberating Mr. Tobin’s salary increase reviewed their quarterly sales targets of $2,055 million, $2,064 million, $2,074 million, and $2,083 million, respectively. The company, in fact, achieved $2,065 million, $2,086 million, $2,070 million, and $2,047 million, respectively. Despite two quarterly shortfalls, the Board felt it needed to give Mr. Tobin a five percent increase anyway, to remain competitive. When one director questioned the retention risk associated with giving Mr. Tobin less than five percent, one of the directors replied that he bumped into Mr. Tobin at O’Hare just a few weeks earlier, where Mr. Tobin looked uncomfortable and mumbled something about visiting his widowed sister-in-law in Skokie. It was noted by this director that Mr. Tobin was wearing his Ermenegildo Zegna suit as he walked away.“Another director loudly noted, ‘That’s his closer suit,’ referring to Mr. Tobin’s sartorial preferences in prior negotiations. There was then a brief discussion around why Mr. Tobin would take a commercial flight to O’Hare at this time of year when he apparently had plenty of time left on the corporate jet. One director pointedly commented, ‘Sister-in-law, my ass. Skokie is on the way to Deerfield. I’ll bet those bastards at Baxter called him up again for a friendly chat.’
“By now, the board was agitated at the prospect of their CEO negotiating a competing offer with a peer company behind their back. This agitation was followed by a motion to rescind the proposed five percent raise, and replace it with a proposal to dock him five percent the next year. Cooler heads quickly prevailed, noting that Mr. Tobin was probably well worth keeping around, despite the current downturn. The chairman of the Compensation Committee noted that some kind of raise was likely necessary to keep Mr. Tobin from ‘looking,’ if not ‘walking.’ The Board was split among two factions on this point. One faction was in favor of at least five or six percent while another wanted to give Mr. Tobin nothing or, in the case of one director, an amount indicated by a finger gesture understood by the other members to mean less than nothing. After some more back-and-forth, they compromised on a three percent figure, considering that an anticipated 12 and 18 percent increases, respectively, in the Blazer TM and Ultra ICE TM catheter lines could justify a little extra bonus to make up for the potentially competitive shortfall in salary.
And, I wonder what the shareholders would do with all that information? Oh, yea. This has nothing to do with the shareholders.
Posted by Marc Hodak on January 26, 2008 under History | Read the First Comment
John Steele Gordon, eminent historian and popular guest speaker in my “History of Scandal” course, just wrote a terrific article in Commentary entitled Look Whose Afraid of Free Trade.
The short answer: the Democrats! Gordon writes that, historically speaking, this is a surprising turn-around. For most of its existence, the Democratic party has been the party of free trade, generally at odds with protectionist Republicans. (Yea, Smoot and Hawley were Republicans.) Well, things have clearly (or maybe not so clearly) turned around. As always, Gordon weaves a tight thread in his depiction of fascinating ideas through time. Great read.
Posted by Marc Hodak on January 24, 2008 under Invisible trade-offs | Read the First Comment
One of the great things about being super-famous is that you have access to certain consumption items not available to the rest of us. One of those cool items is an influential audience for fuzzy ideas that you’re still working through. The media will trumpet your ‘on-the-job’ learning about philosophical and policy issues as if you have something meaningful to add.
So, it turns out that Bill Gates has been engaging in DIY economics to develop an idea he’s calling “creative capitalism.” He introduced this term in a Harvard speech last June.
But at the time he had only a “fuzzy” sense of what he meant. To clarify his thinking, he decided to prepare the Davos speech.On Jan. 1, following a family vacation, Mr. Gates boarded a commercial flight in Auckland, New Zealand, and during the 21-hour, two-layover journey back to Seattle he started writing his speech.
So, a couple of weeks later, after having read some books and had “a long talk with his wife, Melinda,” he is ready to change the way we approach development economics.
Gates’s business success speaks for itself, and he has had a very public life for nearly two decades. I’m sure it’s easy for him to see all the ad hominem attacks he’s exposing himself to by trying to trumpet a BIG IDEA that has nothing to do with exploiting a monopolistic software standard. He wants to help the world’s poor by tinkering with capitalism. Gates has no doubt seen the public eye-rolling every time some celebritard spouts off on policy issues. He knows, even though he’s infinitely smarter than your average stage monkey, that he will be called hypocritical, amateur, and naive. Well, I don’t have any problem with Bill Gates thinking out loud about global poverty, even if the naive part rings particularly true. I think that any fresh thinking about the problems of the poor should be welcome in light of decades of failure by various public and private groups to help the poor.
Posted by Marc Hodak on January 21, 2008 under Revealed preference | Read the First Comment
Today was a day to reflect on the life of Dr. Martin Luther King. The idea most closely associated with Dr. King, and I think the most underrated aspect of his legacy, was the principle of non-violence. I believe Dr. King profoundly understood how non-violence would increasingly trump violence in an increasingly transparent society. I believe he “got it” that non-violence can show the bankruptcy of any social structure that relies on raw power for its survival.
Hillary got herself into some hot water last week by suggesting that Dr. King’s legacy was incomplete without the coercive backing of the Federal government. I think she was way wrong. I believe that Dr. King’s legacy was cemented by the change in attitudes brought about by his leadership of the civil rights movement. He changed those attitudes with the widely covered spectacle of peaceful people facing down hatred and guns with nothing more than their dignity. He did something that no opponent can survive in the age of television—he made the other side look bad. He made “Whites Only” signs disrespectable. He showed us the faces of hatred on the other side of the police lines, and they were ugly. The change in attitudes among the indifferent majority of whites arose from the marches and protests he led, culminating in his famous speech on the Mall. He set in motion an eventual acceptance and integration of blacks into American society in a way that even the most draconian laws could never have accomplished, and probably would have stifled.
Part of Dr. King’s genius was that he knew he was not facing a monolithic, caricatured white enemy. That very caricature offended his belief that each individual had a distinct character and dignity. His dream was one of mutual acceptance and respect. He did not envision integration as a zero-sum game.
I’m convinced that today few among Dr. King’s many vocal supporters really get the message of non-violence. Clearly, many repudiated non-violence immediately after his assassination, I believe to the detriment of his movement. Others relapsed into caricaturing their political opponents as racists worth fighting by all necessary means. Most politicians who claim to act in his name are often pushing for the use of state power to impose the kind of world they think is right, which is really just another way of using violence to achieve a particular social structure. They didn’t get the irony of forced busing, never mind its long-term economic consequences, worst of all for black communities.
I appreciate this holiday because it reminds one of the value of non-violence. I want to live in a world where violence, or the threat of violence–from every source–is minimized.
Posted by Marc Hodak on January 18, 2008 under History | Read the First Comment
This day in 1943, the Secretary of Agriculture banned sliced bread in the U.S. That may sound like a dumbass thing to do. It was, but at the time it was accepted as just one more sacrifice to be made for the war.
While most people in America had gotten used to the convenience of pre-sliced bread, nobody complained about this ban any more than the innumerable other rationing and similar inconveniences borne by “home front.” Most Americans, filled with patriotic fervor and more than a little fear–the war wasn’t going well for us at that point–felt that these hardships were minor compared to the sacrifices of the citizens of our war-torn allies, or by our sons, husbands, and brothers fighting overseas. Freedom isn’t free, as they say.
But did the ban on bread slicing really help? Could it? Collectivist reasoning in self-defense makes a lot of sense. We need to work together in a coordinated, non-market way to thwart a determined enemy. But collectivist reasoning in allocating scarce resources in a large economy is rarely sensible at any time, even in war. One might say that it would be ungracious to look at the ban on sliced bread in economic terms, but World War II was certainly an economic as well as military struggle. Our economic might contributed every bit as much as the bravery of our soldiers in the Allied victory over the Axis powers.
The point of the ban was that the metal that might otherwise go into making or repairing bread slicers was needed for the war effort. The problem was that none of the bread slicers already out in bakeries would be turned into munitions or jeeps. That wasn’t the point. The point was that no more slicers or parts would be made in order to reduce demand for metal being purchased by the government for armaments. Existing slicers would just stopped being used.
So, all of our hard-working citizens, mostly women, were now having to toil away in the fields and factories, then come home to take care of their children and keep their homes in order, including working through ration books to prepare for the next week or month, as well as contributing to the needs of neighbors undergoing particular hardships because their men were gone, as well as do whatever else was necessary in their communities…and now slice their own bread, too. It’s difficult for us today to understand what was really so great about sliced bread, but there was a reason it took off at that point in our history. It saved precious labor at a time when labor was our scarcest resource.
The government did not likely end up with an ounce more metal than it was already going to get–they were buying it all up, and all the factories that could be used to supply bread slicer parts had already been turned to the war effort. This ban would, predictably, simply idle a lot of labor-saving capital.
Even if the public was economically literate enough to understand that banning bread slicing was as silly as it sounds, they bore the ban graciously and without complaint. In fact, the ban played to the guilt of most people in America, acutely aware of the sacrifices going on beyond the home front, and not being able to do enough for the war. The government telling them that being denied sliced bread helped our boys in arms actually made many people feel better, even if the claim was bogus.
If our Secretary of Agriculture’s economic literacy matched his taste for economic command and control, he might have dictated that bread slicing continue as much as possible. The government could have said, “Sliced bread is patriotic. It gives our hardworking women in our factories who are building our Victory ships and planes a few moments of rest when they get back home.” Instead, our government chose to go beyond the necessary privations suffered at home into unnecessary ones. And, in a coup of collectivist ideology in which that wartime administration excelled, it probably even made the sufferers feel a little better about themselves.
Posted by Marc Hodak on January 15, 2008 under Economics | Comments are off for this article
That was the headline I saw from the WSJ on a story about the Supreme Court’s decision to restrict lawsuits against corporations. The actual article explains that the Supremes decided that:
investors can’t bring private lawsuits against third parties in corporate-fraud cases unless they relied on actions by those parties when making investment decisions.
In other words, if the company suppliers did not contribute to the fraud*, they can’t be sued. Which means that company suppliers can continue to supply companies in good faith without fear that they might be subject to lawsuits when they did not contribute to the fraud, even if the company they’re supplying is otherwise engaging in fraud. Which means that suppliers don’t have price that risk of these nuisance lawsuits into their services to the companies. Which means that shareholders won’t have to bear this pointless cost. Which means, when you look at it through an economic lens, that the Supremes could very well be seen as having ruled in favor of investors.
* Part of the definition of fraud is reliance on information that led to harm. The Supreme court is simply upholding this age-old common law interpretation of what constitutes fraud.
Posted by Marc Hodak on January 13, 2008 under Collectivist instinct | Read the First Comment
Boston Mayor Thomas Menino is working overtime to prevent the opening of in-store health clinics that offer affordable treatments for minor illnesses. You read that right. You can read more here. This is from a Mayor who claims that “Boston is known internationally for our innovations in healthcare…”
I guess as long as the innovations are not done by the market place, which gets us to the nub of this Mayor’s puzzling stance:
“Allowing retailers to make money off of sick people is wrong.”
You see, the city of Boston provides clinics. He simply doesn’t want the competition. How’s that for serving your people?
HT: Coyoteblog
Posted by Marc Hodak on January 11, 2008 under Patterns without intention | Comments are off for this article
Well, we’re out on my mother-in-law’s place…or what used to be. The farmhouse I visited just a couple of weeks ago is completely wrecked. It still has much of the ceiling and rooms, but the roof above the ceiling is mostly gone, the windows are blown in, and there is no real shelter from the elements at this point. All her other structures–barn, tool shed, etc.–are completely gone. About a dozen large trees are on their side. The six-foot craters below the root systems of the uprooted trunks is evidence of the violence that visited here. All the furniture, clothing, papers, and other contents were soaked in the rain of the storm.
By the time I arrived, a small army of people had already spent two days cleaning up the site. Family, friends, and neighbors sorted most of the stuff in the house into either a dumpster, a trailer, or bags and boxes, depending on a preliminary sense of what might be salvageable. Local Mennonites came unbidden with food and water, and cut down many of the damaged trees, promising to come back to finish the job.
The outpouring of help received by my mother-in-law gives meaning to the sense of community that exists in this rural area. When a pair of Salvation Army representatives dropped in, my wife cheerfully, if naively, pointed them to a pile of useful stuff that we felt were suitable for donation. The SA reps, looking a little embarrassed, said that they had come to give, not get. After asking mom a few questions about how they could help, they left a $75 check.
At the other end of the spectrum in helpfulness was the Red Cross. While their check was greater, so was the pain of the process in obtaining it. First of all, we had to go to them. (The Salvation Army representatives told us where we could find them). It then took over an hour of answering questions and completing forms. The experience reminds you that one of the biggest downsides to qualifying for institutional relief is the bureaucratic gauntlet required to obtain it.
The insurance adjuster has been busy in this tornado-stricken region, but he finally arrives today. We await his verdict on the damages.
Posted by Marc Hodak on January 8, 2008 under Economics | Be the First to Comment
“I’m optimistic, as I’ve seen this economy, you know, go through periods of uncertainty,” the president said. “I like the fundamentals, they look strong, but there are new signals that should cause concern. And one of the signals is the fact that the housing market is soft.”
This was President Bush, who appears to be talking about the economy quite a bit recently. Here’s the proper way of interpreting this statement:
I’m optimistic, as I’ve seen this economy, you know, go through periods of uncertainty.
This means nothing. A President is basically paid to be optimistic. Hillary is not optimistic, but that’s just because she’s not president. Then, there’s the fact that the economy is inherently uncertain, almost by definition. Why mention or write about “periods of uncertainty” when one would never hear about “periods of economic certainty?” Also, nice touch for the author to include the “you know.” Why did she do that? Most writers don’t include their subject’s “ums” “ahs” and “you knows,” but AP writers often do that with Bush. It makes him look like a high school kid pretending to talk about economics rather than a Harvard MBA. Bush certainly says “you know,” like many speakers, but why include that in an article about the economy, unless that’s not really what the writer is writing about?
I like the fundamentals, they look strong, but there are new signals that should cause concern.
Here is Bush repeating what he said in the first sentence, except in Wallstreetese. This phrase is not aimed at people who speak that language so much as the people who hear other people speak that language. It makes “I’m optimistic, but there’s uncertainty” sound more financial or scientific or whatever Bush thinks might comfort the typical AP reader.
And one of the signals is the fact that the housing market is soft.
At best, another subjective statement without content; at worst, a confusion of cause and effect. There are any number of reasons that the housing market is soft, none of which necessarily provide a “signal” about the economy as a whole. In fact, it’s not even clear that housing prices coming down from extraordinary peaks is a bad thing for anyone not speculating on housing prices.
Personally, I don’t think I could do it. I don’t think I could come up with creative ways to say nothing, day after day, like your typical politician can, especially when talking about the economy. This is a kind of art form. A dark, improvident, cynical art.
