Posts Tagged ‘creative destruction’

Small Businesses, the Engine of Economic Growth

Monday, August 15th, 2016

Dear Friends,

It seems to me, the barriers to starting a small business have never been higher, as evidenced by the dearth of small businesses that are starting up. This is critical because the economic potential of any economy is a factor of the number and quality of small businesses that start in a given time period. That is because small businesses are the engine of economic growth, both by being the font of innovation, which begins the Schumpeterian cycle of economic growth and as the biggest job creator there is. If the economic cycle is stopped real economic growth stops too. Economies cannot grow organically without innovation, big businesses are not innovative nor is government. Universities can help by advancing science, but if those advances cannot be implemented, the economy cannot get a boost from even the most amazing scientific advance. Without robust job growth wages stagnate and decline, lowering economic overall demand and demand for innovative products, as well as our standard of living. The trend bodes ill for our children’s economic well being.

The economic cycle as explained by Schumpeter is a three phase system… creation, implementation and destruction, Schumpeter’s creative destruction. First an entrepreneur comes up with an innovation, for a new product, an new way of organizing business or a new way of manufacturing. This innovation starts the upswing of the cycle. The new idea is implemented creating demand for labor, plant and capital to exploit it. As the idea is implemented the economy grows dramatically. Once the idea has been fully utilized, the old products and ways of organizing business become obsolete… and so go bankrupt. As they go bankrupt the economy goes into recession, lowering the cost of capital, plant and labor opening the way for a new entrepreneur to innovate starting the cycle again.

Small businesses create all new jobs. Clearly, those who innovate and those who work for innovators, by definition, have no experience. After all it is new. So, people who have little experience get pulled in to work at those new businesses, creating opportunities for new workers and laid off workers. The extra demand for labor drives up the cost of wages via the supply demand equation. Wages for everyone goes up driving up demand for everything… especially the new product, (if that is the source of the innovative part of the cycle). If older companies want to retain their best workers those older firms must provide competing wages. Ford famously said he wanted to pay his workers enough to buy one of his cars. To him, paying more in labor was a small price to pay when that investment paid such huge dividends, by driving up demand for his product. In other words he made less per unit but made more in the end because he sold many more units.

When the economic cycle of innovation, expansion and destruction is tripped up, an economy cannot expand organically and in fact shrinks in real terms. This stagnation can be covered up by money printing, government spending and Enron accounting but sooner or later the chickens must come home to roost. The largest and most destructive recessions and depressions have been a result of this in action. The Great Depression started as a recession, but morphed into a depression by Hoover and FDR’s policies, that short circuited small business creation. The Great Depression would have never ended if not for the death of FDR and his policies crushing small businesses in favor of corporations. Obama’s policies have all but stopped small business creation, resulting in the present depression, one that only in the history books to be written, will be named and recognized.

Think about it, with all the legal and bureaucratic red tape today throughout the West, would you start a small business? The legal cost alone, simply to get permission from the government to start a lemonade stand, is nearly insurmountable. Today the cost of capital is at an all time low even as the availability of capital to start a small business is dried up. Cheap money via the Federal Reserve’s printing press only goes to government and corporations. Government spends that money to artificially gin economic growth and corporations are using it to buy back stock, thereby enriching upper management at cost to shareholders, employees and customers. None of the “cheap” money is going to innovators. Meanwhile, plant and equipment is getting more expensive every day, raising the bar for starting a small business.

While stopping small business creation damages the interests of the people… it advances the interests of the elite. CEOs can pad their plentiful income by artificially boosting their stock price in the short term, by borrowing money and spending it to buy back their stock, corporations face less competition from innovators making the job of the new class much cushier, government cronies get huge political contributions to keep the gravy train running, and corporations get to lower their labor costs because of the drop in demand for labor. This lack of demand for labor or is exemplified by the dismal percentage of people still in the labor force. Crushing small business start ups is a win win for the elite and a loose loose for the rest of us. Of course, it is the elite that make policy and we that must live the effects of those policies, for better or worse. Now you know the whole story… the economic truth the elite will don’t want you hear.

Sincerely,

John Pepin

Billion Dollar Business Idea

Thursday, May 28th, 2015

Dear Friends,

It seems to me, a smart business idea that could net someone millions, and perhaps billions, is a website that reads and posts a simple to read synopsis of every shareholder’s report, briefly describing any changes the board wants to make, the likely consequences to the company and profits short and long term of those changes, an easy to read and understand report on any election to the board of trustees regarding their background, philosophy of corporate governance and work history, those synopsis and reports would be written for every firm with over one hundred million in gross revenue, and for a nominal fee that synopsis could be read by any shareholder of those companies. Companies that are ethical would offer to pay for the service for their shareholders. To get that done, such a company needs to become well known, create simple to read, correct and understandable reports and synopsis, as well as the intellectual capital to make it work. The potential earnings of such a company are staggering.

If there was such a company it could be a paradigm shift in the principle agent relationship. Today the agents have all the power. They send shareholders a several hundred page document that we are supposed to read and understand, that is in arcane language, redundant and actually says nothing of any import pertaining to the question they want us to vote on. That paradigm has created a lop sided power relationship between the principles and agents. That lop sided power in the relationship has allowed many companies to be run against the shareholder’s interests and have enabled senior management to get an out sized portion of the profits. I mean really, what employee is worth tens of millions of dollars, while running a company into the ground?

Empowering the principles to over see the agents can only lead to protecting the principle’s interest and limit the power of the agents to abuse their position. The power differential in the principle agent relationship has been used for over a century to enrich the senior management at cost to the shareholders and customers. Examples abound where shareholder profits and wealth have been undermined by management. One famous case was when J D Rockefeller bought an iron company, converted it into a publicly traded company, sold the shares for double what he paid, and remained as the CEO, reaping even more profit at the expense of the shareholder chumps.

Such a rebalancing of the principle agent relationship would create better run companies that would have a better relationship with their customers. Everyone is self interested, which is to say we all seek to maximize our returns on our investments. Economists call human beings rational maximizers. Clearly, since we are all self interested, if given actionable knowledge, we would seek to increase the longevity of our assets, seek long term profits instead of short term gain, provide excellent quality service and products to our customers while ensuring the company’s business model is consistent with the times. In short, instead of our agents working under pernicious incentives, we could return the entrepreneurial ethos to businesses.

If the principle’s interests are protected and the companies themselves are better run, the macro economy will improve, by potentially starting a new wave of Schumptarian economic expansion. Schumpeter coined the term, “Creative Destruction,” to explain the macro business cycle. In it, he posited… a new idea that improves efficiency in management, production or product, starts the business cycle. In the creative part of the cycle, as the new idea is implemented, the macro economy grows at a rapid pace. Once the idea is mostly implemented and the gains have been mined out, the old firms that have become outdated go belly up, ushering in the destruction portion of the business cycle, (recession). The recession destroys inefficient firms, freeing up capital, space and equipment for the next entrepreneur to begin the cycle again.

When a new firm is started, the more disruption it creates the more profit there is to be had, especially in the financial services sphere, where the sector is awash with other people’s money. As in any innovative idea that is disruptive, starting a business that reads and produces synopsis of every firm’s shareholder reports, board of trustee elections and board of trustee requests, would be a sea change in the way shareholders get information about the firms they own, by leveling the information landscape. In and of itself such a firm would start the creative cycle. Such a firm would need a great deal of startup capital to hire the necessary lawyers, MBAs and knowledge base to make such reports, and do it inside the regulatory framework that has been set up by the agents to protect their interests, or to change the regulatory environment if needed. The initial cost would be high, but the profit over the long term, the benefit to shareholders and the economy at large, would be tremendous.

Sincerely,

John Pepin

The War on… Small Businesses

Wednesday, April 1st, 2015

Dear Friends,

It seems to me… small businesses are under attack in the US like never before. The first step to starting a small business is higher than ever, the red tape to running a small business is stickier, anyone owning a small business can be required by force of law to violate their religious principles, minimum wage laws limit the utility of new employees, Obama care constrains the size of a small business as well as increases the cost of compliance, and not one of these hindrances to small business is getting better, in fact, they are getting worse. Since small businesses are the font of innovation in any economy, provide the bulk of jobs, create elasticity in the labor market and are the single biggest source of societal wealth, you would think government would try to improve the environment for small businesses, instead of making it all but impossible to start and run one, but government seems intent on wiping small businesses from the economic landscape.

Starting and running a small business is a gamble in the best of times. Even when there was little regulation and low to no taxes starting a small business required a lot of investment in money and time. Sweat equity was one of the ways people could start a small business in the past. Today, with regulations digging a wide moat around the start up process, that calculation becomes ever more risky, and sweat equity becomes impossible. Gamblers will take risks but no sane person will jump into a loose loose scenario.

Small businesses are where innovation starts in an economy. Monopolies may be able to produce a product at a lower price point than a small business, but monopolies never innovate. It is not in the interests of those that run a monopoly to innovate. Change is painful in a giant corporation. Innovation is always done by small businesses… and innovation is the primary driver of economic growth! The Schumpetarian model of economic growth, the creative destruction cycle, is all about innovation. Stop innovation and economic growth stops. Perhaps that is why central banks inflate so many bubbles today, to give the illusion of economic growth, to hide the fact that government policies have ground our actual economic growth to a halt.

Small businesses employ most of the labor force. Chances are you work or have worked for a small business but not so likely you have worked for a giant corporation. Most people work for a small business. One of the reasons is simply because, there are so many small businesses, another is that huge corporations reach a resonant employee equilibrium. A firm grows organically as it’s market share goes up, demand for it’s product rises or both. Once it has reached it’s potential, it stops hiring more people, the unit labor cost per unit becomes less and less, which is the source of efficiency of a large corporation. That is why they can make products cheaper than small businesses.

Under conditions where starting a business is easy, when someone gets laid off or looses their job, they have the option of starting a business to replace it. In doing so, they pull more people into the labor force, to do labor the owner cannot or doesn’t have time to do. This has the effect in an economy of driving up demand for labor. When the system of small business creation is undermined, for whatever reason, the demand for labor goes down and wages follow it. One sure sign of this paradigm at work, is comparing wages across decades and correcting for inflation, real inflation, not the fiction that we are sold about deflation. If real wages are falling, it is a certain sign small businesses are suffering.

To run a small business in the US today you have to give up your religion. More and more the new class elite are forcing small business owners to violate their deeply held religious faiths. Not just small business owners but all business owners. This is the implementation of the newly established State religion of atheism. We all know dozens of examples of this in action. A person of faith has two choices, running a business in violation of your faith, or giving it up and working for someone else. Look at the firestorm over legislation giving people of faith standing in court, to protect their First Amendment Rights against intrusions by government, in Indiana.

The proof is in the pudding so to speak. Small business start ups in the US are negative for the first time in US history. That means more small businesses are going belly up than are being created! As I have been pointing out in this article, small businesses are the source of innovation and thus growth in an economy, they employ most of the labor force, they create elasticity in the labor market by providing an outlet for people if they are laid off, etc… The destruction of small businesses can only lead to lower wages, negative economic growth and a diminishing standard of living. The answer is to eliminate as much regulations as possible, lower taxes, eliminate minimum wage laws and allow small business owners their right of conscience, but the elite would never allow that to happen… so it is what it is.

Sincerely,

John Pepin

What Could Have Been… But Wasn’t.

Monday, February 2nd, 2015

Dear Friends,

It seems to me, the state of humanity would be much better had Richard Nixon had continued the space program, and his successors had followed. Instead of fighting a war on terror we would be racing against each other for the stars. The Moon would have people living on it, Mars would be being colonized as this is written and humanity would be mining the asteroids. The economic might such a environment would create, would demand tens of millions of well educated, well paid people, in every field of human endeavor. The trickle down effect of those well paid people buying the production of everyone else would have enriched people in every industry. For the amount of money we pay for Obama’s vacations, we could be doing all these things, had we been investing that money from the 1970’s. Instead, our government has used exponentially more money to send our children to die and be wounded in the desert, spent trillions bailing out the too big to fail banking system, inflated bubble after bubble to create the appearance of growth, and have installed a surveillance state.

The only government spending that has ever paid a real dividend is the space program. Our world today is largely the result of technological spin offs resulting from it. Everything from the digital revolution and cell phones, to the Temperpedic mattress, are directly the result of the space program. So much of what we take for granted, we have, because of that spending way back in the 1960s. Since then the amount of money spent on the space program has shrunk, while the vision has become more and more myopic, until today Obama has set NASA’s priority… to make Muslims feel good about their contributions to space exploration.

In the 1960’s the US had ambitious plans to build a Moon base and go to Mars. That would have led to countless spin off technologies. Spin offs that, as shown by history, would have created destabilizing businesses. Those would in turn kick off cycle after cycle of creative destruction, (the only real source of economic growth in an economy). Those cycles of creative destruction would have put countless people to work, around the world in ever higher paying, stable jobs, supporting that endeavor. There would have been opportunities for adventurous people to man those missions and take those chances. Opportunities would abound for scientifically minded people to build the hardware and mathematically logic oriented people to write the software.

Had the US continued the space race, the USSR would have been bankrupted much earlier… or they would have competed. Either way… the single minded absorption of our leaders how to most effectively end life on the planet, would have been turned to expanding humanity’s sphere of influence in the solar system. Each advancement would lead to the next. Driving humanity from the Moon, to Mars, then the Main belt of the asteroids for needed resources. The result would be that the likelihood of humanity becoming extinct would have largely been eliminated.

There would be no need for the war on terror, because the huge gobs of money that have gone to those regimes that inculcate the most violent interpretation of Islam, would have had to turn their attention to catching up with the US and Russia, (or USSR), in the colonization of space. Instead of cutting off the heads of infidels and Jews, those who seek Islamic global domination would have to hire them, so they could get off planet too, else risk being left behind. They would have spent all that money on building the infrastructure and technology, or buying it, to get off planet. There would be none left for expensive war.

The boon to humanity would not have stopped there. In addition to creating tens of thousands, perhaps millions of high paying good jobs, an elevation of the standard of living the world over, protecting the human race from extinction for any number of reasons, and undercutting the reason for the war on terror… had we continued on the path Kennedy put us on, young people would have a grand vision to look forward to. Instead of the fatalism, driven by their lack of feeling they have a stake in it all, our young people would have something to strive for… rather than doing drugs, creating fatherless children, traveling across the planet to engage in Jihad and becoming dependents of the state.

Sadly, Nixon hated Kennedy and the space program as well. Nixon had no vision, other than his naked political interests, and those didn’t include advancing Kennedy’s legacy. He instead used the money he had “saved” from the space program to create the EPA. A total catastrophe for the American economy. A catastrophe that resulted in a diminished standard of living, lower expectations, a fatalistic attitude for our children, and the rise of the bubble economy to hide the fact. The last 40 years could have been years of progress, excitement and technological advancement, like the human race has never seen before. But in their infinite wisdom, our leaders thought a better use of that money, was to create generational poverty through welfare state capitalism, enrich Wall street bankers at the cost to the rest of the economy, build nuclear weapons, fight needless wars, usurp unconstitutional authority, prop up dictators, set up a surveillance state, etc… And now, for our leaders to take hundred million dollar vacations. Yup, the world would have been a much better place had our leaders spent all that money on the productive use of space. But hindsight is 20-20, and our leaders are who they are… too bad we all suffer for it.

Sincerely,

John Pepin

Creative Destruction, Say’s Law and the Pseudo Science of Economics

Monday, October 20th, 2014

Dear Friends,

It seems to me, supply really does drive demand in the creative phase of the creative destruction cycle, and arguments to the contrary are most often based on observation bias. The theory that supply drives demand is Say’s law, but I am changing it a bit. Keynesian economic theory is that demand drives supply which is the opposite of Say’s law. These two theories have been at odds since John Maynard Keynes developed his theory. Keynes theory falls short of the mark, as does Say’s law, but if we combine Schumpeter’s theory with that of Say, the amalgam provides us with a better snapshot of the workings of a healthy economy. This is because an economy is a complex system, and complex systems are by their nature messy, making it impossible to quantify and measure the inputs to any real degree of reliability, therefore economics are a pseudo science or in other words, an art. This is important because our lives are better when we live in an expanding economy with a rising standard of living.

Economics is not a real science in the strictest of terms. The theories cannot be independently verified because the fundamentals cannot be effectively measured. Moreover economics, like any of the humanist “sciences,” are subject to the personal bigotries of the “scientist.” These pseudo sciences have built in traps for those who would promote their theories over those of another. One of those traps is observation bias. In the hard sciences like physics the parameters can be set, measured and quantified. The bias of the observer is irrelevant, a stone dropped accelerates at nine point eight meters per second squared, no matter who is observing it, but since humanistic sciences, economics and climate “science” are not hard sciences based on directly observable phenomenon, but are instead complex systems that have far too many inputs and interactions, so observing and measuring any number of inputs and interactions, many of which are not directly observable at all let alone measurable, gives very little insight into the emergent phenomenon that is different in kind than the sum of the inputs… a key distinction of a complex system.

Since economics is the science/art of a complex system, theories cannot be measured by looking at any of the inputs, but instead must be measured from the emergent phenomenon that rises from the complex system itself. In other words, we cannot reason from the bottom up, like the hard sciences, we have to reason from the top down, and even then, we find observation bias creeping in. In the aggregate demand aggregate supply model, the assumption is that if there is no demand for products and services, any supply is over supply, and therefore demand drives supply. In Say’s law, that supply drives demand, the foundation is that if there is a supply of something there will be demand, even if the demand is at a price point that is lower than the manufacturing cost. In Schumpeter’s theory of creative destruction, the theory rests on the concept that new ideas draw in the means of production until the idea is fully implemented, then the outmoded ideas are destroyed.

All those theories start at some sub function of the complex system, demand, supply, new ideas, etc… then reason from the sub function or input, to the emergent phenomenon. As I have explained this is not an efficient way to reason about complex systems. If we instead look at the desired results, the emergent phenomenon we seek in an economic system, IE. a “healthy economy,” and then reason down, we are more likely to find workable theories that are less subject to observation bias… as long as the term “Healthy economy” is agreed to at the outset. Let’s set the parameters for a “healthy economy,” to be full employment, an expanding economy and a rising standard of living. Notice I didn’t make one of the parameters no recessions. This is because recession’s are clearly a facet of a healthy economy as we have described. We can deduce this by the fact that all complex systems grow in fits and starts, animals and plants grow rapidly, slow, then grow rapidly again, until they have reached maturity. Weather patterns change constantly from rain to clear and back to rain, all complex systems wax and wane and therefore reasoning from the top down, we can reasonably conclude recession is a function of a healthy economy, just as sleep is a function of a healthy body.

The emergent phenomenon of a healthy economy, requires a high utilization of workers, increasing demand for products and services, innovations that improve the standard of living and rising wages relative to the cost of living. From this we can see that driving demand by whatever means has no effect on innovation, it has no direct correlation to wages and only a tangential correlation to demand for labor. Creative destruction correlates well with innovation and tangentially with demand for labor but falls short of the mark when it comes to wages and demand. Say’s law that supply drives demand also falls short. If we combine them however we can get closer to describing conditions required for the emergent phenomenon we are calling a healthy economy.

Justus Moser lamented the fact that the market system invents new products then creates a demand for them. Before there were home computers there was no demand for them, in fact many of the economic brianiacs of the day argued there would never be a need for a home computer, because who needs all that number crunching power? Once the PC came out however, many new uses, from word processing and spreadsheets to computer games followed, giving the home computer uses that exceeded anyone’s initial concept of what a home computer would do. These innovations drove demand for the products they created and for their ancillary products as well. The same holds true for new innovations that have not even been thought of yet.

Aggregate supply aggregate demand, being easy to quantify is therefore scientific appearing, it is an oversimplification however that leads to many negative policies that hinder an economy from being healthy. Moreover it is especially subject to observation bias. This model is easy to understand. The most pernicious effect of this theory is that it’s inherent observation bias gives rise to bad policies. Policies that encourage politicians to deficit spend and redistribute other people’s money. It argues all demand is equal. If that was so then full aggregate demand of anything would give rise to a healthy economy. This is reasoning from the bottom up however. For example, if the only demand in an economy was for cocaine and all the productive resources was put to that end, would that lead to a healthy economy? Of course not, a truly sick economy would arise from such demand, even though aggregate demand exceeds aggregate supply, proving the weakness of the aggregate demand aggregate supply model.

If however, we combine Say’s law with Schumpeter’s creative destruction, reasoning from the top down, we find we have a better description of what is needed to have a healthy economy, ergo… sufficient demand for supply, innovation that betters people’s lives, increasing demand for labor and a rise in real wages driven by the demand for more complex labor. Put simply the theory simply works. Reasoning further down, we can observe the conditions that give rise to creation and the supply produced driving demand. The lower we descend however the more observation bias is likely to come into play. Creation requires as a prerequisite, ease of starting a business, else there can be no creation. This presupposes access to the capital necessary to start a business along with the tax and regulatory environment conducive of it. If these conditions are not met, lacking the supply that creation provides, demand falls short, and an economy fails to meet our definition of healthy. That is why I say, creative destruction must be wedded with Say’s law, to better explain the factors that give rise to the emergent phenomenon of a healthy or sick economy, which then points us to policy directives that will result in a healthy economy.

Sincerely,

John Pepin

Tesla, Crony Capitalism and Creative Destruction

Thursday, July 31st, 2014

 

Dear Friends,

 

It seems to me, an excellent illustration of political favor at work, the type of political favor that is destroying our economy… is the scuffle between Tesla Motor Cars and the Dealerships in New Jersey. Everyone agrees it is about politics and we also tacitly agree the question will come down to which side has the most political favor. Free market consideration is not made at all. This small set to, between the dealerships and Tesla over whether Tesla can sell it’s cars directly to consumers, is all about stopping the free market from innovating and to protect the profits of politically connected dealerships. The best interests of the consumer is not even at question! No one in the media cares if the consumer is hurt or helped by direct sales, only which side has sufficient political favor to push their argument through the New Jersey legislature, because that is all that really counts. This is very damaging to our economy, because the interest of the people is not even a factor, simply the will of the political elite. This shows how far from free market principles we have strayed. Your job, wages, benefits and standard of living are in the balance, but bear no weight on how it turns out.

 

Tesla wants to sell it’s cars directly to the consumer, bypassing the traditional dealership network. The dealerships have asked a court to force Tesla to sell their cars through dealerships and as a result Tesla doesn’t sell cars in New Jersey. Tesla has gone to the New Jersey legislature to get a law passed allowing them to sell their cars direct to consumers. Of course, politics came into it as soon as the smell of money wafted around, and justified by the fact Tesla wanted to do something different then is traditionally done. Because, as Milton Friedman said… when a firm faces competition that sells it’s products at a lower price and better quality, the firm can increase it’s quality and lower prices, or it can go to the government to force the competition closed. That is exactly what the car dealerships have done, they went to government to force Tesla to use them, to protect their profits.

 

The problem is that this strategy always results in stifling innovation, which has a profoundly negative effect on present, and especially future GDP growth, due to the compounding effect of past growth, or lack of it. Schumpeter coined the term, “Creative Destruction” to explain the cycle of growth under the capitalist mode of production. He explained that, as a new idea is implemented, units of production are drawn into realizing that new idea. This results in GDP growth, as more labor, productive facilities and ingenuity are utilized. As the innovation matures, the old systems that are rendered redundant go bust. They go out of business and the recession part of the cycle comes in. As the cost of the units of production become cheaper due to the recessionary pressures, a new idea becomes possible to implement, starting the virtuous cycle again… unless it is short circuited by well meaning but pernicious government programs to protect older more established firms from competition, (like is done in Japan…).

 

The best way would be to let the free market sort it all out. If Tesla’s plan results in angry customers then Tesla will retreat to the traditional strategy of using dealerships to sell it’s cars. Considering the recalls recently on Tesla cars, this might have proven the dealerships argument, without having gone to court and enriching lawyers for nothing. We’ll have to wait and see how the consumer reaction is to how the recalls are handled. If Tesla’s plan does work however, it will have staked out new ground undermining the market reason for dealerships to exist, which would incentivize other companies to stop using dealerships. Either way the market will show the efficiency of the present system or the potential innovative efficiency that could result in creative destruction. With the oceans of paperwork, regulations and political favor that is needed to cross before an innovation can be implemented, the innovative part of the business cycle is drowned.

 

As government policies smother innovation creative destruction is stymied. Lower present GDP growth can be expected, and will be magnified over time due to the effect of compounded growth. That damage to the innovation process by government derails the creative part of the creative destruction by protecting the firms that would face destruction, and so to keep the old inefficient crony capitalism going government destroys the very mechanism of growth of the capitalist system, and by doing that, they lower everyone’s standard of living… but the political Elite get a ton of money and power by doing it.

 

 

Sincerely,

 

John Pepin

 

Today’s Federal Reserve Meeting

Thursday, June 19th, 2014

 

Dear Friends,

 

It seems to me, economists have been predicting three plus percent GDP growth since Obama came into office, and all their predictions have been wrong. The US GDP has stagnated for over five years despite the huge recession we were in when Obama came into office. Today, the Federal Reserve danced around the obvious, and all the economists Bloomberg radio interviewed, provided the dance partners. Yellen claimed the economy will achieve liftoff once we get by this latest slow patch and will exceed long term economic output… next year. This, despite all the previous predictions that have said the same thing, and have been wrong. I guess if they predict it enough, eventually it will come true, like if I predict a solid gold meteor will land on my property making me rich… long enough, it will happen. At some point however, this ceases to be a prediction, and becomes instead wishful thinking.

 

Typically, immediately after a recession economic activity rebounds strongly for a year or two, but the recovery from the 2008 recession didn’t. The reason economies typically rebound strongly after a recession is due to the fact that the units of production become cheap. Labor rates go down, interests rates plummet along with the cost of plant and equipment. The destruction of outmoded firms drives down the costs. Lower costs of the means of production give those with new ideas, the ability to implement those ideas, resulting in the virtuous cycle of economic growth. This is the creation part of creative destruction.

 

This last recession had it’s share of what, at he time, were called “Vee shapers.” They were largely those economists in Obama’s political camp, who eschew the Schumpeter model of the economic cycle, creative destruction, and instead favor the Keynesian, aggregate supply aggregate demand model. They thought that since interest rates had been so suppressed by the Federal reserve, government was spending such tremendous amounts of money, in the form of stimulus, and their man was in, demand would go up and the economy would rebound very strongly, resulting in a V shaped recovery. We found that they were wrong… it was more of an L shaped recovery.

 

The economy dropped like a cow chip. Instead of rebounding it stagnated despite the record amount of stimulus. Trillions of dollars were spent by the government, what is called fiscal tailwinds, spending that drove up aggregate demand, but did nothing for the average man and woman. Interest rates have been extraordinary low for half a decade now with essentially no real GDP growth to show for it. Inflation has been alarmingly low as well despite the record monetizing of government debt that the Federal Reserve has done. Pimco has named the recovery, or lack of one, the “New Normal,” now the term has become the “New Neutral,” but by any name a skunk is a skunk. The labor participation rate has fallen off the table, GDP growth hasn’t even reached normal levels, let alone takeoff velocity, and the Federal Reserve along with most of the central banks of the developed countries have followed along and monetized their debt… to no avail.

 

The one exception is Britain who instead embarked on a policy of fiscal austerity. Economists the world over warned that Britain would suffer economic Armageddon as a result. They were wrong. Today Britain and Germany are the only developed countries that are experiencing real economic growth at all. Since their economies are too small to be the engine of the world’s economy, the world is left with America as the little engine, that couldn’t. The developing countries have stalled as well due to the lack of an engine pulling the train.

 

What everyone in the economic community are dancing around, and trying their best to ignore, is the tsunami of regulation that washed over the US economy in 2008-2009. That tidal wave of regulation continues flowing in to this day. Obama care was a thousand page law, one that has fluffed up to tens of thousands of pages of arcane regulation, hindering economic growth in a myriad of ways. It has driven up the cost of labor dramatically, without a penny of it going to workers. That increase in the cost of labor is still rising even today from Obama care! The incentives of that single piece of legislation has directly resulted in lower wages, terrific job losses and a cost of labor that is unpredictable. Dodd Frank was meant to eliminate the problem of too big to fail but has made that problem even more intractable than ever. It is driving small banks out of business, and pushing large banks to get larger, exacerbating too big to fail. In short Dodd Frank has failed. Environmental regulation has skyrocketed under this administration. But these are only the top waves of the tsunami.

 

These problems that regulation has created cannot be worked through with low interest rates, we have had a low interest rate policy for 5 years, and it has failed. No amount of new regulation can solve the problem of too much regulation, it’s like trying to heal a burn, by burning yourself more. The long term unemployed will not be solved by importing millions of low skilled labor, sopping up the few jobs that are still available, and raising the minimum wage will only drive down the demand for those low skilled jobs in the first place. Dancing is all well and good, but when the elite dance around the problems they created, simply to protect a President and theory they are in love with, all of us suffer. Any alcoholic can tell you, the only way to solve a problem is to recognize it, then roll up your sleeves and actually fix it. Unfortunately, that is not on the Federal Reserve’s dance card.

 

 

Sincerely,

 

John Pepin

 

Economic Circadian Rhythms

Thursday, February 21st, 2013

Dear Friends,

It seems to me, the boom bust cycles of all market economies, are like the sleep wake cycle of human beings, and all higher life forms. We must have times of rest, else we become less efficient, and an economy needs a rest period after a time of rapid expansion. Most people would agree that human beings need sleep but those same people are unaware that economies, being complex systems like us, need rest cycles as well. To ignore this fact, insures that our economy will under perform eternally, to our personal economic misfortune.

People can be forced to stay awake for days at a time. There are many ways to do this, drugs, cold water and electric shocks are but a few. As we are kept awake for longer and longer periods of time our performance diminishes. This is a scientifically proven fact. Methamphetamine is very good at keeping people awake, and it even boosts performance for a while, but the lack of a rest period eventually catches up, and we experience a crash. Human physiology is unbending in this… ask any doctor.

Many means have been devised to do away with the boom bust cycle of market economies. The federal Reserve was implemented under Woodrow Wilson to end recessions for all time. It has not only failed… it has failed miserably! The recessions under the federal reserve mechanism have been harsher and longer then they were before the federal reserve system was set up. But, as with all government programs, the more they fail the more permanent they become. Failure ensures longevity for bureaucracy.

Another means to stop recessions was proposed by Karl Marx. He claimed that socialism would end the boom bust cycle of the capitalist mode of production. This has had some success. Socialism has stopped the boom bust cycles in all countries that have fully implemented it. The drawback to this scheme, is that it eliminates the boom… and permanently enshrines the bust. Perpetual bust is not very effective at raising the standard of living of the average man and woman. It is far more effective at lowering the lot of the people and elevating the lot of those in power.

Once a market economy has seen a period of rapid growth, the new means of production, organization and products that come about in a period of expansion, need to be matured. These new ways of doing business drive the old ways into bankruptcy. Recession is a chance for the old ways to be destroyed and the new means entrenched. Schumpeter coined the term, “Creative Destruction” to describe this paradigm. In this concept, new more efficient ways of doing business have to be paid for, and the old ways have to be dismantled, for the next cycle to begin.

If there is not a time of rest for an economy, the old less efficient ways cannot be plowed under, in favor of newer more efficient means. In fact, the implementation of newer more efficient ways are hampered by those very programs, that seek to eliminate recession. It is usually during recession that new ideas are invented. New ideas that generate the next economic expansion.

History shows that whenever government is the most involved in the market outcomes are the most impaired. We can experimentally examine many people to prove that the sleep cycle must not be disturbed. Over time, examining many people, this has been empirically proven. However, there is only one economy in a country, and the fortunes of those people, who live in that country are tied to it, so experiments are less likely to yield clear results. Couple this with the pernicious interference of politics, politicians, bias and egoistic self interest by the elite… and unbiased empirical results are almost impossible to reach.

Our fortunes and the fortunes of our posterity are put at risk by the modern alchemy of eliminating economic cycles. No doctor would argue that the sleep cycle can be overcome, but economists, who are the doctors of economies, argue with a straight face that economies need not rest. The ways that have been tried to eliminate the need for economies to rest, like national banks and socialism, have yielded poor results, and in some cases, have led to human suffering on a scale that boggles the mind. Through creative destruction, economies grow, efficiency expands and the lives of people are improved. All the increases in efficiency, that have resulted from the evolution of economic systems, have resulted in magnificent improvements in the lot of Mankind. Since economies cannot be empirically tested, because of personal bias and political interference, it is nearly impossible to quantify the need for a recession after a period of growth. Understanding this leads us to the conclusion, to stop economic cycles of boom and bust, is as foolish as keeping a worker awake for months with drugs… and expecting his work not to be impaired. Foolishness is foolishness no matter who does it.

Sincerely,

John Pepin

Evolution of Organizations

Sunday, April 15th, 2012

Dear Friends,

It seems to me, the worst thing that can happen to an organization, is success. Because success means the irrelevance of that organization. To an organization irrelevance is the death knell. No one, who has spent time and energy putting together a group of people, who ultimately succeed, wants to see it disintegrate. This is a fundamental fact of organizations. This is why we see so many that exist as ghosts, they still have a small cadre of devoted followers, but the reason the group was started, has long been rendered moot. However, some are not as much ghosts… as lichs, vicious and evil, trying desperately to reignite the societal problems that begot them, thus making them relevant again.

Most organizations start as a noble enterprise, one devoted to righting some societal or cultural wrong. They work often in the name of God to see that the lot of Mankind is raised. In their birth they understand that, it is only when all are served… are all served. Groups that arise from this type of virtuous founding are often successful.

Success breeds political power. Political power is a magnet to the sociopath who seeks to lord over his or her fellow man. As the organization evolves and matures, the less virtuous attributes of the founders get passed on, instead of the more virtuous ones, because the next to come on are those who are attracted to the power instead of the cause.

As power takes the place of the cause in an organization, it becomes more dedicated to it’s own longevity, than the reason it was founded. If society outruns this group’s reason to exist, it will point to nonexistent injustices, as a reason for it’s continued political relevance. Some, who have really strayed outside the ranch so to speak, will actually try to recreate the conditions, usually of violence, that begot them in the first place.

This is truly a sad state of affairs because it sullies the honorable names of the founders of those organizations. The crass Elite that take over every group of human beings, are immune to the cries of the suffering, in fact, they play the weeping like an instrument of politics.

The misery is only the resonating strings, society’s heart, the resonator. We, with our short memories, are prone to remember the latest leaders, not the virtuous founders. The Elite play their instrument for their audience and it brings tears to to eyes of the beholders. The founders my be spinning in his or her graves… but the new Elite, mesmerize the multitude with suffering, they instigated.

It is unfortunate, it is not in the fundamental nature of groups and organizations, to recognize when they have become redundant… and announce their happy end. Society would be better served and our culture would be less cluttered, with various dated grievances. Stumbling on the arguments of the past, and not moving forward, hinders our ability to grapple with the problems of today, and predict the issues of tomorrow. It would be a great benefit to society if people in charge of organizations acted in this enlightened way.

If those groups that are redundant let go of their members, those members would have the time and energy to join new groups, that are dedicated to tackling today’s problems, or tomorrows troubles. This is how the market system works through the creative destruction of firms. This dynamic, that comes into play in the capitalist system, is not active in the charitable, religious or justice oriented spheres. This is one reason the market system is so much more efficient, at meeting human needs and why the Elite in those other spheres of human operations, hate the market. We all hate when our failures are highlighted by success.

Sincerely,

John Pepin