Intellectual Ore

Jerry Corrigan, Managing Director at Goldman Sachs and former president of the New York Federal Reserve, recently delivered his opinion on the difficult macroeconomic conditions facing the global markets. The speech is eminently readable and exhibits a firsthand perspective on the difficulties of predicting the future, making it an excellent read.

As many in this audience know, I have long maintained that our collective capacity to anticipate the specific timing and triggers of systemic financial shocks is virtually nil. Unfortunately, the experience of the last 6 to 8 months provides further evidence in support of that reality. While financial disturbances (as distinct from financial shocks) occur with some frequency, financial shocks with systemic knock-on effects are relatively rare.

For what it’s worth, Mr. Corrigan and I agree that oversupply of liquidity (see the first “proximate cause” from the speech) was an important cause of today’s credit turbulence.

Sometimes, I see conversations where two people are both talking, but neither is listening. By viewing the exchange in the third person, one can watch how the two parties react to each other; this sort of detachment simply isn’t possible in situ. The two can talk, and talk, but never reach any agreement about the issues.

There are plenty of conversations where it’s just communication; if there would be more listening and less talking, maybe some progress could be made toward agreement. However, sometimes agreement isn’t possible. In these cases, it’s not communication at all; it’s real, substantial clash in the way two people feel about an issue. These kinds of disagreements (the “real” kind) can spawn all sorts of other mini side-battles, and I’m often amused at how often the “side arguments” are mistaken for the real issues. I’m reminded of a passage from Robert Pirsig’s Zen and the Art of Motorcycle Maintenance:

It’s not a personality clash between them; it’s something else, for which neither is to blame, but for which neither has any solution, and for which I’m not sure I have any solution either, just ideas.

The ideas began with what seemed to be a minor difference of opinion between John and me on a matter of small importance: how much one should maintain one’s own motorcycle. It seems natural and normal to me to make use of the small tool kits and instruction booklets supplied with each machine, and keep it tuned and adjusted myself. John demurs. He prefers to let a competent mechanic take care of these things so that they are done right. Neither viewpoint is unusual, and this minor difference would never have become magnified if we didn’t spend so much time riding together and sitting in country roadhouses drinking beer and talking about whatever comes to mind. What comes to mind, usually, is whatever we’ve been thinking about in the half hour or forty-five minutes since we last talked to each other. When it’s roads or weather or people or old memories or what’s in the newspapers, the conversation just naturally builds pleasantly. But whenever the performance of the machine has been on my mind and gets into the conversation, the building stops. The conversation no longer moves forward. There is a silence and a break in the continuity. It is as though two old friends, a Catholic and Protestant, were sitting drinking beer, enjoying life, and the subject of birth control somehow came up. Big freeze-out.

And, of course, when you discover something like that it’s like discovering a tooth with a missing filling. You can never leave it alone. You have to probe it, work around it, push on it, think about it, not because it’s enjoyable but because it’s on your mind and it won’t get off your mind. And the more I probe and push on this subject of cycle maintenance the more irritated he gets, and of course that makes me want to probe and push all the more. Not deliberately to irritate him but because the irritation seems symptomatic of something deeper, something under the surface that isn’t immediately apparent.

When you’re talking birth control, what blocks it and freezes it out is that it’s not a matter of more or fewer babies being argued. That’s just on the surface. What’s underneath is a conflict of faith, of faith in empirical social planning versus faith in the authority of God as revealed by the teachings of the Catholic Church. You can prove the practicality of planned parenthood till you get tired of listening to yourself and it’s going to go nowhere because your antagonist isn’t buying the assumption that anything socially practical is good per se. Goodness for him has other sources which he values as much as or more than social practicality.

So it is with John. I could preach the practical value and worth of motorcycle maintenance till I’m hoarse and it would make not a dent in him. After two sentences on the subject his eyes go completely glassy and he changes the conversation or just looks away. He doesn’t want to hear about it.

Earlier this week, I came upon The New York Times’s attempt to elucidate the financial differences between renting and owning a home. The site assumes two scenarios: (1) a homeowner, who saves a down payment and uses a mortgage to purchases a home, versus (2) a renter, who saves the same “down payment” as the buyer, and uses it to purchase a portfolio of financial assets. The site’s model is highly tunable (one can change investment returns, tax bracket, etc.), and aside from the lack of discounting (it uses constant-value dollars), it provides a nice visualization of the cost of renting vs. owning.

An important point gleaned from the model is thus the longer one’s intended stay, the better it is to own. Interest constitutes the bulk of an amortized mortgage’s early payments, making mortgage debt extremely expensive in the short run. Longer-term, the use of leverage to multiply capital gains overwhelms the early interest expense, yielding big returns for the homeowner. (Everything here assumes rising home prices, an assumption which, as we’ve seen recently, might not be that great.) The break-even point for renting vs. owning depends on the housing market, interest rates, etc., but is around 10 years under reasonable assumptions.

A discussion of renting vs. owning wouldn’t be complete without noting how much the United States federal government incents homeownership.

1. Mortgage tax deducability. All interest paid on a homeowner’s mortgage is deductible from income, reducing his tax burden several thousand dollars per annum.
2. Tax-free imputed income. Owning income-producing assets (debt, shares, rental property) nearly always produces taxable income; because no market transaction takes place between the homeowner and himself, the implied rent generated from asset ownership (the house) is not subject to income tax.

Homeownership has social benefits. Homeowners put greater stock in their communities, if only because of inertia; renters can leave anytime and have little incentive to keep a property they don’t own in good repair. However, I question whether encouraging homeownership continues to be socially optimal, given (1) peoples’ rapid movement between jobs, and (2) the environmental benefits of living in higher-density housing. As energy prices continue to climb, a policy which encourages low-density suburban sprawl demands rework. Doing so will reduce energy spent to heat and cool living spaces, an average household’s second-biggest use of energy (behind transportation).

Taxes, health care, and unemployment benefits are defining issues in the coming presidential election. Predictably, the “social safety netters” on the left favor increased government programs, taxes, and collective action, while the “let them eat cakers” on the right favor private programs, individual thrift, and personal responsibility. Both Hillary Clinton and Barack Obama favor some form of government health care; John McCain has proactively pledged not to raise taxes, reiterating his belief that private sector programs are best. Ron Paul says we should leave it to the states - if nothing else, you can’t fault him for inconstancy.

Both sides have their merits, but I tend to think individuals do best when left to their own devices. People do make mistakes (this story about Bear Stearns stock is a great example), but on balance, the Libertarians have it right. I’m the best person to make decisions about my life, and when I feel I’m not qualified, I can seek advice or contract out management of various slices of my life to private companies.

However we get it, we need a social safety net to cushion us from the vagarities of life. The following passage is from “Financing the American Dream”, a book about, among other things, consumer debt and attitudes toward money and giving:

“Historians disagree about when the culture of consumption first became meaningful for large groups of people. But whether this happened at the turn of the twentieth century or in the eighteenth century or even for some groups as far back as the sixteenth century, whether the culture of consumption first appeared it was restrained by older, established cultures. In the United States these restraints were moderated by the early twentieth century when consumer culture surpassed republicanism, Victorian producerism, and Portestant Christianity as the foremost cultural authority for American society. Its momentum was fueled by a dynamic form of capitalism whose influence overwhelmed that of church, family, and state, the nonmarket social institutions Adam Smith had counted on to be antidotes to the market’s veneration of desire. By the 1950s, the culture brought forth by capitalism had become a power plant within capitalism, supplying it with a surprising and, to some, confounding vitality. Today, the culture of consumption is largely responsible for legitimizing capitalism in the eyes of the world.” (Lendol Calder, Financing the American Dream, p. 9. Emphasis mine.)

A core Libertarian principle holds that state-compelled charity is akin to robbery. However, despite being critical to ensure a basic level of social security, Adam Smith’s “nonmarket social institutions” are on the decline in the United States. Many progressives I meet claim genuinely to care about the plight of the less fortunate, when they’d just as soon “outsource” the problem by hiring the government to “deal with it”, a classic case of “not in my backyard”. They agree that problems exist, but they won’t take things up themselves.

In their defense, however, the “Lexus Liberals” do realize that somebody has to do something. What’s far worse is when Libertarians propose that the government stay out of private life, without providing any alternative to government action. We need a social safety net. Simply ignoring the problem is morally repugnant, even worse than being forced to donate at gunpoint, in my opinion.

Hence, the title of this post: “giving”. We Americans, especially Libertarians, must recognize the important role of private charity in our social safety net. We must commit ourselves to the maintenance of these important social institutions, to help mitigate the devastation of losing a job, or falling on bad health. I’ve started to volunteer at my church, and I also regularly donate a portion of my income to charitable causes. I can’t solve world hunger myself, but I’m doing what I can.

The struggle for self-improvement is lifelong. However, after five years of college, I can say I’ve learned a few things:

1. How to stay healthy.
   • Healthy eating helps a lot. During my undergrad years, I worked at several Greek houses around campus, and one private certified house close to Evans Scholars. The food was delicious, and the experience was great: I actually sort of liked doing dishes, and I met Terrance Washington, among others. However, the unlimited supply of food took its toll, and I gained a lot of weight. When I started to cook for myself, I became much more attentive of how many calories I was eating — I simply read the labels before preparing a dish.
   • Sleeping reasonably. Many college students have absurd sleep schedules. For my first two years of college, I routinely went to bed past 2AM — which limits one’s options to (a) wasting an entire morning sleeping, or (b) being tired all day, and repeating the cycle. I’ve started to follow “standard working hours”, and I’m almost always out of bed by 7AM these days. The key thing is to get to bed on time; after this, all else follows.
   • Regular exercise: want to improve muscle tone, lose weight, and feel generally better? Make going to the gym a regular habit. Doing so in the morning is even better — I actually look forward to getting out of bed, because I know I’ll feel great all day.
2. How to manage money: I started using Microsoft Money about a year ago, but I switched to GNUCash once I got sick Vista and switched to 100% Linux. There’s no question that full double-entry accounting is overkill for most peoples’ personal financial situations, but the level of control and organization a double-entry system offers is unparalleled. There’s a saying in programming: “Every programming language continues to evolve toward a broken, half-working implementation of LISP”. The same is true for personal finance software: given enough time, they all evolve toward broken, half-working implementations of double-entry. Regardless of the tool I’ve used, it’s been very interesting to gather hard data about where my money is actually going (as opposed to where I thought it was going). The vast amount of credit available today makes it incredibly easy to decouple income from expenses; and while there’s nothing inherently wrong with shifting consumption using credit, it’s very easy to spend too much too quickly without proper diligence.
3. How to manage time: use a calendar. It doesn’t matter if it’s a book, a PDA, Google Calendar, Microsoft Outlook, or whatever else (I’ve used all these things), using a calendar forces one to make concious decisions about how time will be spent.
4. How to plan: Everything I’ve written above can be reduced to one thing: better planning. I owe my new tendency to plan principally to two people: Steve Lumetta, for making me realize that I need to do better in school, and Stephanie Slowinski, my girlfriend of two years, for not putting up with me when I do a shoddy job of planning things. More than money, time, or health, the most important thing planning has done is reduced my stress level day-to-day. Technology and affluence today allow even greater amounts of non-planning to work, but why life such a stressful, on-demand, ad-hoc lifestyle?

Life by design…

We’ve all heard the history: first came the agrarian age, with its plows, small-town agriculture, and general stores. The industrial revolution followed, with stories of company towns, trusts, and robber-barons. After that, we entered the “post-industrial” economy, the hallmark of which is the personal computer’s growing importance in the workplace.

My friend Sebastian and I were talking a while ago, and we came upon the importance of analytical skills in the workplace. “That stuff can all be outsourced,” he claimed. “All the value in modern organizations is created by right-brain, lateral thinking.”

Before reading the book, I was inclined to agree with Sebastian. As computers penetrate deeper into the fabric of everyday life, they’re being used to do things far beyond their creators’ wildest dreams: computers provide customer service, trade stock, and control robots. They are everywhere yet nowhere, as the line between “personal computer” and “home appliance” continues to blur. The computing power of today’s microwave oven would give a purpose-built mainframe of 20 years ago a run for its money, performance-wise.

Yet try as they might, computer people still can’t program creativity. In 17 chapters, Florida details the renewed emphasis on creativity, in “work, leisure, community, and everyday life”. Some of the topics taken up include:

• Is it true that “the world is flat”, that “location is dead”?
• Why is it that a city’s “gay index” is so strongly correlated to its “creativity index”?
• What do cities like Seattle, San Francisco, Washington DC, Austin, and Boston have in common? What about these cities allows them to attract so many talented people, and offer such high quality of life?
• When did wearing jeans to work become acceptable?
• Why, in a recent survey, did respondents say they’d prefer to work as a low-paid hair stylist, over a highly-paid machinist?

Needless to say, I think this is a fantastic book; my only gripe is the amount of data presented inline with the text - it really deters from the exposition at times. Otherwise, if you’ve got the patience and want some real, intelligent reading, The Rise of the Creative Class is for you. I would highly recommend it.

Last Saturday, I attended the National Collegiate Inventors and Innovators Alliance (NAICS) Invention to Venture. The conference featured food, networking, and six presentations on technology commercialization. Whereas many conferences talks are of the form “I’m from x, it’s y thousand miles away, and we did z”, I2V’s message was strongly local: “My name is Joel, I work at First State Bank on Neil St., and I originated a loan to help CU Aerospace ramp up production yesterday.” Even after living CU for five years (albeit with interruptions), I was pleasantly surprised by the robustness and depth of the area’s business community. We’ve got a flourishing community of high-tech startups, many sources of capital, and a deep pool of research talent at the University of Illinois. Just today, I got a cup of coffee at Cafe Kopi on Walnut; while walking the alley by Coyboy Monkey, I was surprised by how many people were outside behind Aroma and Pekara, enjoying the day. (I’ll return to the topic of urban development in CU soon).

Some thoughts from I2V:

1. Invention != Venture (Jeff Holden, Pellago). Many great ideas are not great business ideas. As an engineer/grad student, I’m often stereotyped as “someone who doesn’t understand business development”. Despite my conscious attempts to defy the stereotype, I do sometimes fall into the trap of seeing the world through the eyes of a “builder”, as opposed to a “buyer”. (Incidentally, I think this dichotomy elegantly summarizes the differences in the way engineers and businesspeople are inclined to approach problems, and that understanding the difference is key to effective communication between the two camps.) Oh, and I wouldn’t do Jeff’s great talk justice without mentioning his BBQ Test: “When thinking about whether you could start a business with someone, ask yourself: ‘Is this person someone I’d like to talk to, if we were at a barbecue together?’”
2. Benefits, not features (Curley Lee). Which has more appeal to a customer: “This car has remote keyless entry”, or “Imagine yourself in a rainstorm, with an umbrella. You want to open the door. Would you rather fuss with your keys, rain pouring on your head, or just press the button?” The key difference is personalization; features are mere properties of the product (and they get people thinking about price), while benefits communicate the features in a way that is specific and relevant to the customer.
3. Land Grab vs. Ben and Jerry’s. This particular distinction belongs to Joel Spolsky, but it manifested itself at I2V as the difference between a “lifestyle business” and a “high-growth business”. VC’s don’t really want to talk to you unless you drink the high-growth Kool Aid; unfortunately, I’m not sure that I do. (That Jeff Holden used to work at D.E. Shaw with Bezos probably gave the conference more of a land-grab feel, as Amazon is basically the archetype of that model).
4. Tech push vs. market pull. You can start a business by observing that something is “missing” from the market, or take an existing product and figure out how to leverage it to solve a new problem. Both ways are valid, and each has strengths and weaknesses.
5. This is kind of antagonistic, but I’m going to say it anyway. Curley Lee was a car salesman, and he was damn good at what he did, but do we need salesmen if we sell good products? I think the fact that domestic cars have historically had terrible quality contributes toward the “used-car salesman” stereotype as someone that’s trying to peddle stuff you don’t want/need. Do the best products (think iPod) need salesmen, or do they sell themselves?
6. Do we need other people’s money? These guys can explain this one much better than I can; I’m interested in the role of capital in the 21st century. Does entrepreneurship necessitate huge piles of capital anymore, assuming it ever did? If my friend Mike’s experience is any indication, the answer is a definite no, but maybe I’m looking through “lifestyle-business”-colored lenses. No matter what my biases, I still think “getting big and then getting profitable” is really stupid - organic growth (profit from the very first sale on) seems to make a lot more sense.