Solitude and Leadership

A lecture delivered at West Point - makes some great points about thinking, books, twitter, and Joseph Conrad. The writer is clearly an intellectual - someone who is able to bring together learning from multiple disciplines.


“Your own reality—for yourself, not for others.” Thinking for yourself means finding yourself, finding your own reality. Here’s the other problem with Facebook and Twitter and even The New York Times. When you expose yourself to those things, especially in the constant way that people do now—older people as well as younger people—you are continuously bombarding yourself with a stream of other people’s thoughts. You are marinating yourself in the conventional wisdom. In other people’s reality: for others, not for yourself. You are creating a cacophony in which it is impossible to hear your own voice, whether it’s yourself you’re thinking about or anything else. That’s what Emerson meant when he said that “he who should inspire and lead his race must be defended from travelling with the souls of other men, from living, breathing, reading, and writing in the daily, time-worn yoke of their opinions.”

Shirky on social software ... (and why reddit is successful).

Shirky published this piece in 2003 - and a number of sites seem to have been, if not influenced, then affected by the described dynamic.

Key tenets that have to be accepted by social software(slight edits):
1) You cannot completely separate technical and social issues.
2) Members are different than users. A pattern will arise in which there is some group of users that cares more than average about the integrity and success of the group as a whole.
3) The core group has rights that trump individual rights in some situations.

and Four things to design for:
1) Handles the user can invest in.
2) You have to design a way for there to be members in good standing. Have to design some way in which good works get recognized.
3) You need barriers to participation.You have to have some cost to either join or participate, if not at the lowest level, then at higher levels.
4) You have to find a way to spare the group from scale.

The difference between digg and reddit is (4).

Hypomaniacs and Venture Capital - a match made in heaven

Profile of an entrepreneur in NYTimes. Choice quote: "Academics and hiring consultants say that many successful entrepreneurs have qualities and quirks that, if poured into their psyches in greater ratios, would qualify as full-on mental illness."

Lewis does Greece

And the Michael Lewis world tour of financial disaster hotspots continues - he now finds himself in Greece, a country where government existed to hand out kickbacks to citizens and active non-enforcement of tax laws. In other words, the Nepal of Europe.

How The Senate (Not) Works

George Packer of the New Yorker outlines how the great deliberative body proceeds. The image is of dysfunction - arcane rules, paucity of any meaningful cooperations, or even engagement in debate.

String Theory - (no not that one ...)

Another transcendent piece from David Foster Wallace about tennis. A nice companion piece to his famous Federer article that made me pick up tennis again.

The Mankiw Trilemma

Excellent NYT article by Greg Mankiw on the choices nations face on monetary policy. They basically have a choice of picking two out of three.

1. Make the economy open to flows of currency
2. Use monetary policy to manage the economy
3. Maintain stability in the currency exchange rate

USA chooses 1 & 2. EU - 1 & 3. China - 2 & 3. Whenever one of these guys criticizes another, they are expecting the other to change over to their own policy choices.

Dealing with complexity in the financial systems

The Dodd bill that is going through congress - all 2000 pages of it - seem like a knee jerk reaction (with emphasis on Jerk). Legislation is not necessarily bad, but overly specific laws are useless, firms will just find ways of maneuvering around it. And as time goes by they become irrelevant.

The key learning from the crisis for me was that leverage is dynamite, and it makes no sense having that lying around institutions that are required for daily functioning of the economy. I have yet to hear that the bill that was passed does anything to bring back the leverage in the financial system back to historic norms.

Naseem Nicholas Taleb - aka NNT - just published a fine article on how to deal with catastrophic risks in the financial sytem. It is so good that I have to quote it in full - like any good article, it does not take well to summarization.

This should be required reading for any lawmaker.

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After completing my book The Black Swan, I spent some time meditating on the fragility of systems with the illusion of stability. This convinced me that the banking system was the mother of all accidents waiting to happen. I explained in the book that the best teachers of wisdom are the eldest, because they may have picked up invisible tricks that are absent from our epistemic routines and which help them survive in a world more complex than the one we think we understand. So being old implies a higher degree of resistance to "Black Swans" (events with the following three attributes: they lie outside the realm of regular expectations; they carry an extreme impact; and human nature makes us concoct explanations for their occurrence after the fact).

Take Mother Nature, which is clearly a complex system, with webs of interdependence, non-linearities and a robust ecology (otherwise it would have blown up a long time ago). It is a very old person with an impeccable memory. Mother Nature does not develop Alz heimer's - and there is evidence that even humans would not easily lose brain functions with age if they took long walks, avoided sugar, bread, white rice and stock-market investments, and refrained from taking economics classes or reading the New York Times.

Let me summarise my ideas of how Mother Nature deals with the Black Swan. First, she likes redundancies. Look at the human body. We have two eyes, two lungs, two kidneys, even two brains (with the possible exception of company executives) - and each has more capacity than is needed ordinarily. So redundan cy equals insurance, and the apparent inefficiencies are associated with the costs of maintain ing these spare parts and the energy needed to keep them around in spite of their idleness.

The exact opposite of redundancy is naive optimisation. The reason I tell people to avoid attending an (orthodox) economics class and argue that economics will fail us is the following: economics is largely based on notions of naive optimisation, mathematised (poorly) by Paul Samuelson - and these mathematics have contributed massively to the construction of an error-prone society. An economist would find it inefficient to carry two lungs and two kidneys - consider the costs involved in transporting these heavy items across the savannah. Such optimisation would, eventually, kill you, after the first accident, the first "outlier". Also, consider that if we gave Mother Nature to economists, it would dispense with individual kidneys - since we do not need them all the time, it would be more "efficient" if we sold ours and used a central kidney on a time-share basis. You could also lend your eyes at night, since you do not need them to dream.

Almost every major idea in conventional economics fails under the modification of some assumption, or what is called "perturbation", where you change one parameter or take a parameter henceforth assumed to be fixed and stable by the theory, and make it random. Take the notion of comparative advantage, supposedly discovered by David Ricardo, and which has oiled the wheels of globalisation. The idea is that countries should focus on "what they do best". So one country should specialise in wine, another in clothes, even though one of them might be better at both. But consider what would happen to the country if the price of wine fluctuated. A simple perturbation around this assumption leads one to reach the opposite conclusion to Ricardo. Mother Nature does not like overspecialisation, as it limits evolution and weakens the animals.

This explains why I found the current ideas on globalisation (such as those promoted by the journalist Thomas Friedman) too naive, and too dangerous for society - unless one takes into account the side effects. Globalisation might give the appearance of efficiency, but the operating leverage and the degrees of interaction between parts will cause small cracks in one spot to percolate through the entire system.

The debt taboo
The same idea applies to debt: it makes you very fragile under perturbations. We currently learn in business schools to engage in borrowing, against all historical traditions (all Mediterranean cultures developed over time a dogma against debt). "Felix qui nihil debet", goes the Roman proverb: "Happy is he who owes nothing." Grandmothers who survived the Great Depression would have advised doing the exact opposite of getting into debt: have several years of income in cash before any personal risk-taking. Had the banks done the same, and kept high cash reserves while taking more aggressive risks with a smaller portion of their port folios, there would have been no crisis.

Documents dating back to the Babylonians show the ills of debt, and Near Eastern religions banned it. This tells me that one of the purposes of religious traditions has been to enforce prohibitions to protect people against their own epistemic arrogance. Why? Debt implies a strong statement about the future, and a high degree of reliance on forecasts. If you borrow $100 and invest in a project, you still owe $100 even if you fail in the project (but you do a lot better in case you succeed). So debt is dangerous if you are overconfident about the future and are Black Swan-blind - which we all tend to be. And forecasting is harmful since people (especially governments) borrow in response to a forecast (or use the forecast as a cognitive excuse to borrow). My "Scandal of Prediction" (bogus predictions that seem to be there to satisfy psychological needs) is compounded by the "Scandal of Debt": borrowing makes you more vulnerable to forecast error.

Just as Mother Nature likes redundancies, so she abhors anything that is too big. The largest land animal is the elephant, and there is a reason for that. If I went on a rampage and shot an elephant, I might be put in jail and get yelled at by my mother, but I would hardly disturb the ecology of Mother Nature. On the other hand, my point about banks in my book - that if you shot a large bank, I would "shiver at the consequences" and that "if one falls, they all fall" - was subsequently illustrated by events: one bank failure, Lehman Brothers, in September 2008, brought down the entire edifice.

The crisis of 2008 provides an illustration of the need for robustness. Over the past 2,500 years of recorded ideas, only fools and Platonists have believed in engineered utopias. We shouldn't think that we can correct mistakes and eliminate randomness from social and economic life. The challenge, rather, is to ensure that human mistakes and miscalculations remain confined, and to avoid them spreading through the system - just the way Mother Nature does it. Reducing randomness increases exposure to Black Swans.

My dream is to have a true "epistemocracy"; that is, a society robust against expert errors, forecasting errors and hubris, one that can be resistant to the incompetence of politicians, regulators, economists, central bankers, bank ers, policy wonks and epidemiologists.Here are ten principles for a Black Swan-robust society.

What is fragile should break early while it's still small: Nothing should ever become too big to fail. Evolution in economic life helps those with the maximum amount of hidden risks become the biggest.

No socialisation of losses and privatisation of gains: Whatever may need to be bailed out should be nationalised; whatever does not need a bailout should be free, small and risk-bearing. We got ourselves into the worst of capitalism and socialism. In France, in the 1980s, the Socialists took over the banks. In the US in the 2000s, the banks took over the government. This is surreal.

People who drove a school bus blindfolded (and crashed it) should never be given a new bus: The economics establishment lost its legitimacy with the failure of the system in 2008. Find the smart people whose hands are clean to get us out of this mess.

Don't let someone making an "incentive" bonus manage a nuclear plant - or your financial risks: Odds are he would cut every corner on safety to show "profits" from these savings while claiming to be "conservative". Bonuses don't accommodate the hidden risks of blow-ups. It is the asymmetry of the bonus system that got us here. No incentives without disincentives.

Time to definancialise
Compensate complexity with simplicity: Complexity from globalisation and highly networked economic life needs to be countered by simplicity in financial products. Complex systems survive thanks to slack and redundancy, not debt and optimisation.

Do not give children sticks of dynamite, even if they come with a warning label: Complex financial products need to be banned because nobody understands them, and few are rational enough to know it. We need to protect citizens from themselves, from bankers selling them "hedging" products, and from gullible regulators who listen to economic theorists.

Only Ponzi schemes should depend on confidence: Governments should never need to "restore confidence". Cascading rumours are a product of complex systems. Governments cannot stop the rumours. We just need to be able to shrug off rumours, to be robust to them. Do not give an addict more drugs if he has withdrawal pains: Using leverage to cure the problems of too much leverage is not homoeopathy, it's denial. The debt crisis is not a temporary problem, it's a structural one. We need rehab.

Citizens should not depend on financial assets as a repository of value and rely on fallible "expert" advice for their retirement: Economic life should be definancialised. We should learn not to use markets as warehouses of value.

Make an omelette with the broken eggs: The crisis of 2008 was not a problem to fix with makeshift repairs. We will have to remake the system before it does so itself. Let us move voluntarily into a robust economy by helping what needs to be broken break on its own, converting debt into equity, marginalising the economics and business school establishments, banning leveraged buyouts, putting bankers where they belong, clawing back the bonuses of those who got us here and teaching people to navigate a world with fewer certainties. Then we will see an economic life closer to our biological environment: smaller firms and no leverage - a world in which entrepreneurs, not bankers, take the risks, and in which companies are born and die every day without making the news.

What Drives People - Autonomy, Mastery, Purpose.

Nice video that summarizes the current thoughts on motivation theory - its not about the money (as long as it meets expectations), but rather about things higher on the Maslow's hierarchy of needs. Nothing super fresh, but well presented anyways.

This American Life on Healthcare

Many insights on the american healthcare system from the stellar NPR show, such as:

• Having more doctors raises healthcare costs (the supply drives the demand, unexpectedly - an upward sloping demand curve, egads)
  
• One third of medical spending is on procedures that do not make us any better ... (like that time when a doctor prescribed a CAT scan for me when I reported a blocked nose)
  
• Perverse incentives - doctors get paid more for prescribing more procedures, even when they might hurt more than help
  
• The Prostate Cancer PSA test - the issue with false positives. When you run a test across the entire population, you are going to identify a whole lot of people as positive who never would have developed the cancer.
  
• Patients as Plaintiffs - doctors reject guidelines and do not follow evidence based treatment, just to minimize the chance of getting sued
  
• Hospital monopolies are just as bad for consumers as insurance monopolies.
  
• Costs will keep rising until consumers make sacrifices (and they will not make sacrifices if part of the costs are not passed on to them).
  
• Patients unwittingly side with doctors when negotiating prices of procedures, even if if makes sense to side with the insurers as they are the ones representing us financially
  
• Medical facilities and insurers have similar levels of profitability. And if they are running on a fixed margin basis, there is no incentive to keep costs down.
  
• Costs are going up so fast that there is broad consensus that something has to change. Things are hopeless across the board, and that gives us hope that something will be done.
  

Not only is the earth flat, its also brutal.

Matt Taibbi takes some time out from burying Goldman Sachs to bury Tom Friedman. Hilarious, and with prose that is ... lets say, unrestrained.

Fisherman Bankers of Iceland

Michael Lewis with an ethno-analysis of Iceland crash, rather than the standard economic one. Vivid writing, and interesting conclusions. Reading it almost felt like watching a documentary. Definitely one of the best bits of journalism last year.

Link love

Just throwing reddit some link love so that they can unseat scientology for #1 rank for the query "is it possible to be happy".

Key Concept: Thought Terminating Cliche

The language of the totalist environment is characterized by the thought-terminating cliché. The most far-reaching and complex of human problems are compressed into brief, highly reductive, definitive-sounding phrases, easily memorized and easily expressed. These become the start and finish of any ideological analysis.
- Robert Lifton, M.D from book Psychology of Totalism

Goldman and AIG and Express Suicide

Hank Paulson was on Charlie Rose couple days ago claiming that Goldman Sachs did not see the housing bubble blowing - but this NYT article clearly shows that GS bet billions on the fact that the housing prices would go down.

Another strange thing in the article - AIG sold insurance that was, in part, contingent on its own financial health. That is, if it ever was in a compromising position, it would be required to pay out more. I would call it the Express Suicide clause. The consensus in this whole debacle seems like GS was able to find a trading partner who was rich and incompetent, and just big enough that it could be deemed too big to fail.

And now if the banks claim that they have returned the TARP funds, the follow up should be - has AIG? AIG is just as likely as GM to pay back anything. And those losses directly paid off GS ($12+ billion) and others like Societe General.