The Underlying Economic Crisis

It's no mystery that we're in the midst of an economic crisis.

What lead us into this economic crisis is a topic that is rather frequently addressed... although rarely competently. But digging down a good bit deeper, we see indications that one of the key root-causes to the economic crisis is our entirely insufficient understanding of economics. And I'm not talking about the economic literacy of the layman (that's also frightfully bad, particularly so because we have a democratic form of government). Even the ones at the highest levels of our ivory towers can claim only a feeble understanding of how our incredibly complex global economy actually functions. The Dahlem report released in early 2009 by a group of (admittedly not well known) economists from both the US and Europe takes the whole economics academia to task for this costly failure.

As a society, we look to our economics academia to provide us the foundational economic theories and models that we need in order to make critical economics decisions. Just looking at the daily news, especially given the upcoming elections, and we see that most of the critical issues we face as a society is deeply rooted in economics. From taxation to health care reform to funding for wars to pension reform to economic stimulus to foreign trade and currency policy, each of these issues both drive and are driven by our economy.

Given all the talk about what we should do concerning these issues, you'd think that we already possess the macroeconomic understanding to make the right decisions. Instead, we find a big gaping hole where our understanding should be. To fill this hole of "missing understanding", politicians, pundits, and even lay-people, throw around economic arguments that they clearly do not understand and cannot back up with solid macro-economic thinking. In short, our economic academia has left us bare-naked in a snowstorm.

The Dahlem report gets within a couple yards of the goal line, but still fails to identify the root-cause of our catastrophic deficiency in economics understanding. True, we have trusted our academia to tackle this tough problem and what they have delivered is painfully inadequate. However, it is not enough to just pin the blame on the ivory tower. To get at the deepest underlying problem, we need to ask the question of why our economists have failed to deliver.

Is the problem too hard? Or have they been distracted with other pursuits?

Given the severe costs to the society from mishandling our economic issues, I would think that developing a more solid understanding of macroeconomics would be at the forefront of our scientific pursuit. The real, and actionable, question for us is what we need to do, as a society, to direct (and incentivize) our foremost economic thinkers to drop whatever sideline research they are currently pursuing and address this deficiency of economics understanding. This really should be today's "race to the moon/Mars". Without it, we will be so cash-strapped as a society that tomorrow's actual "race to the moon/Mars" will only be a cruel joke.

Even the mighty...

In case you've missed it, news is going around that the SEC is investigating Buffett's Berkshire Hathaway for irregularities in loss accounting. Here's a link to the news on Reuters.

What's particularly troubling about this news is not that financial firms are still trying to "engineer" their way to greater paper profits, but that a firm like BH, long respected for taking a conservative, cut-no-corners approach to finance would get caught so far on the other side of the line. I don't claim to have a particularly strong command of FASB regulations, but what is at issue is not the fine print. Part of the cultural decay leading to the present financial crisis is the focus on the letter, rather than the spirit, of the law.

For something like mark-to-market accounting for marketable securities, the spirit of the law is rather clear, even to the non-lawyers. Financial institutions have every incentive to manipulate their earnings (e.g. cookie jars, big baths, etc) and it is to the investor's benefit to minimize the leeway with which these firms can choose to interpret their results. For marketable securities, the mark-to-market rules increase transparency as to the underlying financial condition of a financial firm.

For BH, a firm that others look to as a gold standard for fiscally conservative financial management, to hide losses in their portfolio is shocking. For them to come out and defend their handling of this matter by saying, "Berkshire determined both companies had enough earnings potential that their share prices would eventually exceed the original cost of the stock. It also has the ability and intent to hold the shares until they recovered", is just plan sad. This logic is obviously flawed and if other financial firms were to follow BH's lead, it will do away with any of the protections to investors that mark-to-market regulations were supposed to provide.

If leaders want to lead, it's only fair that they're held to a higher bar. Buffett & Co. have claimed for years that honest, old-fashion astute investing is the surest way to build wealth. Along the way, they stood as vanguards to the image that the financial profession is a respectable one. For their sake, and the sake of the rest of the industry, they need to stand up, take their lumps, and steer the company back over to the conservative side of the line.

What does Google 20% really mean?

I was just glancing through the TC headlines and the article about Twitter folks taking next week off to work on "side projects" caught my eye. What does it mean when two of the most innovative companies in the technology industry feel that they need to forfeit a significant percentage of their teams' productivity in order to avoid "missing the next big thing"?

If it's the innovator's dilemma they are trying to solve, they might need to reread Christensen's book. The problem is not only that good ideas don't surface in a large (typically successful) organization, but that they can't attract the levels of resources needed to nurture good ideas from inception to scale. Giving your development team time to explore ideas they come across during the rest of the week might give your people a sense of self fulfillment, but are these efforts really backed up by the commitment and processes needed to fully vet ideas and see them through to launch? For small scale efforts, low commitment and ad-hoc processes might suffice, but for ideas that might truly transform a company, that seems far fetched.

There are a number of companies, including BrightIdeas and Spigot, who are trying to provide a technological solution to the problem of innovation management (apparently, the challenge already has its own name). But technology is only one piece of the puzzle and it seems doubtful that a pure technology solution will be viable. Entire mindsets need to change in order for companies to be able to leverage the aggregate knowledge and creativity of its people... even for companies like Google and Twitter.

Another point that someone in the comments section of the TC article pointed out is that the Google 20% policy might only apply to engineers. If the problem space that the 20% program is meant to target is restricted to the problems that engineers see and appreciate, then that might make sense. If Google is trying to make "information" more accessible to the rest of us, then it seems strange that they haven't spread their net a little wider in search for problems that are really begging a solution.