Leading the Revival of Individualism & Self Reliance

How Good Entrepreneurs Create New Value For Consumers, While Bad Entrepreneurs Act Like Managers.

/in /by

Entrepreneurship theory is at the core of Austrian economics. So what? Theories aren’t much good to actual entrepreneurs, surely? Per Bylund, Professor of Free Enterprise in the School of Entrepreneurship at Oklahoma State University, is one of the world’s leading experts on entrepreneurship, and here, he explains exactly how a better understanding of entrepreneurship theory – and specifically how to create new value and discover paths to profit based on meeting customer needs – can help real world entrepreneurs to commercial and competitive success.

_________________________________________________________________________________

Not long ago, I needed the help of a plumber to fix a leaking bury hydrant on my property. While I could probably dig the hole and then, thanks to the glorious Internet, figure out how to fix it myself, it would hardly be a valuable use of my time. I am better at researching and teaching, and then spending some of my earnings to get other things done. So, I relied on the specialization offered through the division of labor in the market.

Using a well-known referral service to separate the wheat from the chaff, and thus find a reliable and reputed plumber, I was able to get an appointment the next morning. Long story short, the plumber shows up, looks at the bury hydrant, says something about “oh, you have one of those” followed by “I didn’t bring tools for that kind of job,” and gets in his van and drives off.

Four hours later, the leak is fixed. I am presented with the bill, payable immediately (“cash or check”), for a total of four hours of work: two hours of driving, most of it for the trip back and forth for the tools this plumber didn’t bring, and two hours of digging and fixing. When I make clear that it’s not my responsibility to make sure the plumber brings the appropriate tools for the job, and that I’m therefore opposed to paying the outrageous $85 per hour for him to drive his car, the response is simply that I’m being charged for his “time.”

I ended up having to pay the ludicrous amount, half of it for nothing of value to me. But the point is not that another licensed (state-sanctioned and protected) plumber over-charged yet another customer. The point is that this plumber didn’t work for a larger business, but was self-employed—and failed completely to understand what it means to run a business.

Entrepreneurship Is About Creating Value.

This failure among entrepreneurs to understand entrepreneurship is ridiculously common, and we’re all worse off because of this fact. The problem is that even though they would have a whole lot to gain from taking just a small step in the right direction, they fail to do so. While one cannot blame them for being ignorant (entrepreneurs have “better” things to do than study entrepreneurship theory, for example), it is a sad fact that many entrepreneurs think of their businesses as their employment. That’s exactly the wrong assumption.

Entrepreneurship is not employment, and calling owner-managers of very small businesses “self-employed” is doing all of society a disservice. It only causes confusion. Employment is the assignment to carry out specific tasks (or produce a set of fairly standardized outcomes) within an existing business. When you are employed, your time and effort are introduced into a larger and tightly knit production process that is centrally coordinated (see my book, The Problem of Production: A New Theory of the Firm, on this).

This is nothing like starting your own business, which does not have a set framework and no pre-existing production process. The thing with entrepreneurship is: you can offer whatever service you like in whatever way you like. You certainly cannot do that if you are employed in an existing business. These roles are actually more different that many might realize.

To put this in economic terms, entrepreneurship is about creating new value: to do this, one must first find out what consumers value and how you, the entrepreneur, can satisfy those wants. You make money by making consumers happy—solve their problems, satisfy their wants, make their lives more comfortable, etc. Whether you are successful is completely on the consumer’s terms (and relative to what others offer).

Entrepreneurship Is Not About Cutting Costs.

Within an existing business, the value is already established. Existing businesses have already figured out some type of market position where they can make money – a niche where the value they offer to consumers is higher than the price they charge, which in turn is higher than the costs of production at the relevant production quantities. Your role as employee in a business is thus to contribute to the production process by carrying out the assigned tasks (or your part of the process) and do so as effectively and as cheaply as possible. Your role, and the role of management too, is to cut or keep down costs.

See the difference? While your role as employee (or manager, for that matter) is to keep costs down so that the business can continue to sell goods and services at a profit (at the already determined market prices), the role of the entrepreneur is to figure out how to provide value to consumers and how much to charge for it. (I elaborate on this non-cost perspective in Dr. Matthew McCaffrey’s recent anthology, The Economic Theory of Cost: Foundations and New Directions.)

An entrepreneur who focuses on cost is in effect acting as the manager and not entrepreneur of his or her business. This works if there is already a production process with a given beginning and end as well as known prices. But if you are “self-employed,” you do not have the luxury of focusing on keeping down or cutting (your) costs instead of creating value.

The aforementioned plumber, for instance, charged for “time” (his cost) rather than the value provided (stopping the leak). Leaving destructive incentives aside (“forgetting” tools is a great way of getting paid for not doing much work at all), it is very unlikely that I will use his services again. And I will certainly not recommend his business. In other words, he has destroyed the value of a potential repeat customer and a “free” inflow of customers (which could have been the result of keeping my, his customer, satisfied).

This is different in an existing, already established business, which — if properly managed — offers standardized goods or services in a standard way. No employee has the right (or is trusted) to change the business model.

But entrepreneurs do — and should. Starting your own business to do things exactly like everybody else is asking for trouble (unless, as with plumbers, licensing effectively thwarts competition). Nobody will recommend that you start a business to compete in a commodity market — unless you have an innovative approach (which, by definition, means you’re not actually competing in a commodity market). Incumbents have already tweaked and improved their production processes to keep their costs per unit of output below what you can accomplish as a startup doing the same thing.

Entrepreneurs Doing Entrepreneurship.

Entrepreneurs must create value. Note that some of the value creation can be as simple as using proper communication. Had this plumber, instead of charging per hour (and, as this one did, stating that it took him two hours to drive home to get the forgotten tools!), charged a fixed rate or even stated that he took some off the total since it was only driving time, I would have been more satisfied with the service.

Even better, had this plumber stated up front that he’d charge a certain price for this kind of job, I would have already committed to paying it. Instead, he — and, presumably, most other plumbers — treat their business as a job: they do nothing different, they charge the same, and they focus on charging the customer for their cost (and not the value provided).

In hopelessly regulated and non-innovative industries like plumbing, non-entrepreneurial entrepreneurs can make a lot of money off of customers whether or not customers value their services. And since basically none of them think as entrepreneurs, consumers suffer comparatively outrageous bills for low-value services. But all it takes to disrupt this market is one innovative plumber to implement a different business model than everybody else is using.

To do this, the innovative plumber must think differently. He or she must place the customer and their satisfaction first — and adjust costs to the value provided. Not the other way around. Focusing on costs, and then “charging” customers based on those costs incurred, means leaving loads of money on the table. This is money that would benefit both plumbers thinking as entrepreneurs and their customers. That is what entrepreneurs do: they create value.

Managers, in contrast, keep costs down in producing the already given value. Both are needed in a well-functioning economy, and to contribute to a higher standard of living. We cannot take a shortcut directly to management and expect miracles, because we’ll only get more of the same. That applies both to the individual business owner, who will at best earn normal profits, and society at large, which will at best experience marginal economic growth.

Per Bylund is assistant professor of entrepreneurship & Records-Johnston Professor of Free Enterprise in the School of Entrepreneurship at Oklahoma State University. Website: PerBylund.com. This article was first posted at mises.org.

How One Individual Saved the World from Nuclear War

/in /by

Apocalypse Almost

Stanislav Petrov was working the overnight shift on September 26, 1983 when he inadvertently saved the world from nuclear war.

As a lieutenant colonel in the Soviet Union’s Air Defense Forces, Petrov was tasked with monitoring the country’s satellites, looking for possible nuclear weapons launched by the United States. There was nothing particularly unusual about this shift until the alarms began to sound at dawn.

The alarm had indicated a warning that America had launched five nuclear intercontinental ballistic missiles. And it was Petrov’s job to sound the alarm that would initiate a retaliation before it was too late.

“The siren howled, but I just sat there for a few seconds, staring at the big, back-lit, red screen with the word ‘launch’ on it,” Petrov remembered.

Earlier that same month, the Cold War had further escalated after the USSR had shot down a Korean commercial airliner that had flown into its airspace. The incident resulted in the deaths of 269 people including a United States Congressman from Georgia, Larry McDonald.

The heightened tensions between the two global superpowers made the decision forced on Petrov even more grave.

Petrov recalled:

“There was no rule about how long we were allowed to think before we reported a strike. But we knew that every second of procrastination took away valuable time, that the Soviet Union’s military and political leadership needed to be informed without delay. All I had to do was to reach for the phone; to raise the direct line to our top commanders — but I couldn’t move. I felt like I was sitting on a hot frying pan.”

Countless Lives Saved

Petrov hesitated because he had a gut instinct that something was off. This technology was still fairly new, and he was sure it had some kinks to be worked out. In his training, he was taught that any strike from the U.S. would most likely come as a full-fledged attack. Yet, the satellite system was only showing a handful of missiles. This hardly constituted all-out warfare. What if the satellite was incorrect? Was he willing to call in his superiors and start a nuclear war over a system error?

On the other hand, if the monitors were correct, Petrov only had 20 minutes to act before the missiles struck. After a torturous internal debate, Petrov decided not to act in haste. He quickly checked to see if the satellite had malfunctioned, causing it to report a false launch.

He soon discovered that there had in fact been an error and no missiles had been launched at all.  

If Petrov had simply sounded the alarm for his superiors, as he was trained and ordered to do, there is a good chance counterstrikes would have been launched on behalf of the USSR and the world may not be as it is today.

Commenting on this historic event that almost was, arms control expert Jeffrey Lewis told NPR:

“[Petrov] just had this feeling in his gut that it wasn’t right. It was five missiles. It didn’t seem like enough. So even though by all of the protocols he had been trained to follow, he should absolutely have reported that up the chain of command and, you know, we should be talking about the great nuclear war of 1983 if any of us survived.”

Petrov serves as a great reminder that one individual can make a huge difference. Before his passing a year ago, Petrov said, “…they were lucky it was me on shift that night.” And he is absolutely right.

In The Cause of Urban Poverty, Economic Education Or Economic Activism Are The Choices.

/in /by

It was recently announced that the United Way CEO of a major Midwestern city has created a new initiative. A local news Special Report states that the objective of the United Way is to fight poverty; and the report summarized the problems related to urban poverty, the root cause of those problems, and it explained the new solution designed to eliminate both.

Defining the Five Conditions of Poverty

The main problems facing the urban poor are broken down into these five areas:

Housing – “Renter families are ‘housing insecure,’ meaning they are spending more than 50% of their income on rent and utilities.”

Families – “More than 75% of the children in poor families are not ready for kindergarten.”

Violence – “People in poverty have a higher exposure to violence.”

Subsistence Living – “Minimum wage workers struggle to cover the cost of housing, food, health care, and childcare.”

Despair – “No one wants to live like this, but they cannot afford to break free of the cycle.”

Ready, Fire, Aim

Of course the first step toward solving a problem is to admit there is a problem. The new CEO “remembers the exact moment he realized that his organization was no closer to solving the issues that give rise to poverty than it was when it opened its doors more than a century ago.” Problem acknowledged.

And successful problems solvers are adept at crafting effective solutions, recruiting a team, and implementing the plan. “The answer became clear, striking him like an epiphany: an ambitious collaboration between government, non-profit agencies, foundations, and the private sector.” Solution prescribed.

Discovering the root cause generally requires scientific testing and evidence, “And United Way’s role? Tapping into its unique power to raise money, to convene the conversation, and to condemn the racism that fuels social disparities.” Cause identified?

Which begs the question – Does this mean a century of futility could have been avoided if only for a fresh idea like government and non-profit agency collaboration, all funded by the private sector?

The Smartest Folks at the Institute

So finally, “media outlets have supported the United Way in its effort to direct investments toward finding solutions.” To guarantee the  success of this new Institute, “representatives from the county and other local governments are guaranteed seats at the table. Others will “have proven track records of collaboration, creativity, and offering wrap-around services. In addition to convening  the conversation and inspiring philanthropy, the Institute will shape public policy to disrupt systemic racism.” This is a sweeping vision.

As economist Thomas Sowell explains in his book The Quest for Cosmic Justice, “the more sweeping the vision – the more it seems to explain and the more its explanation is emotionally satisfying – the more reason there is for its devotees to safeguard it against the vagaries of facts.”

So what is this racist system? How can we disrupt it? What good would that do? How is success measured? At whose expense? What is the track record of these inspiring and creative collaborators, fundraisers, and policy shapers for issuing disruptive condemnations?

The Peculiar Institution Redux

Coincidentally, historian Kenneth Stampp used the same five problems listed in the Special Report to describe the living conditions of slaves on southern plantations. His classic book on the subject is The Peculiar Institution: Slavery in the Antebellum South. Of course living conditions for 19th century slaves were horribly worse. Systemic racism was a root cause, as it has been throughout human history; but is it also the root cause of our modern urban plantations?

The history of the modern problem can be traced back to 1964. Dr. Thomas Sowell addressed the five living conditions of urban poverty in his article –  The War on Poverty Revisited.

Housing – “Brand-new government housing projects almost immediately became new centers of crime and quickly degenerated into new slums.”

Families – “The black family, which had survived centuries of slavery and discrimination, began rapidly disintegrating in the liberal welfare state.”

Violence – “The murder rate had also been going down, for decades. Then the new 1960s policies toward curing the “root causes” of crime began.”

Subsistence Living – “The economic rise of blacks began decades earlier, before any of the legislation and policies that are credited with producing that rise.”

Despair – “In various skilled trades, the incomes of blacks relative to whites more than doubled between 1936 and 1959 — that is, before the magic 1960s decade when supposedly all progress began.”

Is the system in question really the political apparatus of the War on Poverty? Is the racism in question embedded in this system?” Will this new Institute become an unwitting agent for the status quo?

Of Political Visions and Scientific Visions

The CEO of the United Way has set in motion a political vision, and Dr. Sowell compares that with the scientific:

Visions are not inherently dogmatic. Einstein’s vision of the universe was at least as revolutionary in science as Lenin’s was in politics. Yet Einstein insisted from the outset that his theory of relativity must be checked against observable facts before it could be accepted – and so it was, by scientists around the world.

The facts observed politically in this case are limited to the racial component of existing conditions, meaning circumstantial evidence. The political root cause is nebulous at best. 

The facts observed scientifically are long-term data sets of complex systems. The scientific root cause is a specific set of government policies that were implemented just before the problem mushroomed and began to metastasize.

The United Way CEO describes the real problem eloquently: “I know it seems obvious. But a lot of big organizations think they have the secret solution to everything. And we don’t.” Yet his political solution is more and bigger. Iconic social commentator W. C. Fields had a cure for this common definition of insanity, “If at first you don’t succeed, try, try again. Then quit. There’s no point in being a damn fool about it.”

As Hunter Hastings has written, the scientific solution is a decentralized one . “Economics is the essence of civilization, the moral science. It can teach kids to deal with the circumstances of the world around them, to sustain themselves as individuals.” For proof, Sowell observes that “The poverty rate among black families fell from 87 percent in 1940 to 47 percent in 1960, during an era of no anti-poverty programs.” Now is the time to replace government monopoly activist education with economic education in the marketplace of ideas.

 

Degenerate And Delusional Elites Are Being Toppled By The Exotic And The Outliers.

/in /by

We need new leaders – a better elite, a better ruling class.

So says Patrick Deneen, a Harvard social scientist, in a discussion of his book, Why Liberalism Failed. While we would disagree with him (we don’t need any leaders, nor an elite, nor a ruling class) it is nonetheless instructive that the elite is calling for its own abolition. This can only be a good thing.

Coincidental with Deneen’s call for an assisted suicide of the ruling class, we noted two significant recent examples of the new wave of the elite questioning itself, one in politics and one in technology.

An “Exotic” Nationalist Questions Radical Centralization.

Ryszard Legutko is a university professor who represents Poland’s conservative governing party at the European Parliament. That’s about as elite as it gets in Europe.

But Professor Legutko questions the status quo, and uses some challenging language in doing so. For example, he states  that “the European Union reflects the order and the spirit of liberal democracy in its most degenerate version.” As a result, “the EU doesn’t merely have individual dissidents in its midst, but dissident states”. (Just like the USA has California.)

Poland is one such dissident state. It is currently involved in a dispute with the EU central body because Poland wants to reform its legal system (80% of the Polish people support the reforms, according to Prof Legutko) to get rid of Supreme Court judges who “faithfully and shamelessly served the communist regime”. Legutko sees the reform as surgery to remove this dead tissue from the rotten corpus of the judiciary. The EU disagrees because, Legutko says, it is liberalism incarnate. “A liberal is someone who will tell you, I will organize your life for you. The Poles refuse to have their liberty organized for them, and are therefore branded by the elite as stupid, dangerous or both”.

Legutko’s term for Poland is that it is an”exotic” country in Europe. The term is one of opprobrium, hurled at the country that is trying to throw off its communist past to enter the community of Western nations. The Western elites will not welcome the return of a prodigal if it refuses to conform precisely to the norms of the liberal establishment.

Legutko doesn’t think it’s because of what Poland does “wrong” that the country is so criticized and so ostracized. It is “because of who we refuse to be”. The feeling that there are different worlds and different cultures, unlike the one the elites live in, “is disappearing because of the homogenization of Western culture”. The elites are very intolerant, which is why Poland is searching for new leadership.

A Technology Prophet Predicts An End For The Delusional Ideas Of Silicon Valley.

We’ve been persuaded to think of Silicon Valley as a pinnacle of innovative technologies and the home of the leaders of the tech revolution. George Gilder thinks they’re delusional and will soon be replaced.

“The Google paradigm of massive data centers and artificial intelligence determinism will be transcended in the next era”, which Gilder believes is starting right now. The advances in machine learning that Google trumpets and preens about really are just advances in the speed of processing. It’s not super-intelligence, it’s just the same intelligence accelerated to terahertz speeds.

According to Gilder, we will leave behind the big tech view that there’s an inexorable Darwinian model that allows the big winners to take all. But the GAFA conglomerates will dissolve, and the clouds of concentrated computing and commerce will disperse. “We’re moving beyond digital and silicon to carbon nanotubes with hybrid chips and sensors and 5G antennas everywhere. Even money is being disaggregated and reinvented. The clouds are dispersing into the skies – sky computing rendered on your laptop and smartphone, spread across blockchains, transparent and transformative.”

There are new leaders for this new architecture. In an interview in Forbes, Gilder mentions several, starting with Vitalik Buterin who created Ethereum, “an amazing new computer platform based on a new blockchain that he…programmed with a new computer language and financed with a new currency….based on a new unit of computational value”. Gilder assesses Buterin as one of the great figures in today’s world economy, leading a global movement, raising money for an array of new inventions, new distributed systems and new architectures.

Austin Russell, founder of Luminar, appraised all the current systems for self-driving cars and realized that none of them could produce a functional vehicle that would survive amidst the myriad conditions a car actually encounters on the world’s roads. He started from scratch to build a 50-fold better system based on new frequencies and new chip technology.

Thomas Sohmers started Rex Computing as a 16-year old, and is completely changing chip architecture. All these leaders and all these advances are coming from outside the normal channels. These entrepreneurs are outliers. They are defying “the Silicon Valley centralization of leviathan companies that chiefly buy up their own rivals and buy up their own stocks with zero-interest money pumped out by central banks”.

The New Leadership Will Come From The Bottom, The Edge, The Outliers, And Wherever The Elites Don’t Expect.

These examples – the political and cultural dissidence of Poland, and the tech dissidence of Ethereum, Luminar and Rex Computing – share the common attribute of anti-elitism. They are attacks on conventional wisdom. The new world never looks like the old one, but the established elites can never realize that fact.

Patrick Deneen wants a new elite. Much more likely is the emergence of a system of no elites, and no ruling class. The change will come from the bottom, not the top. It will come via radical decentralization and radical individual innovation, not from top-down reform. It’s already in motion.

The New Deal Prolonged and Worsened the Great Depression

/in /by

I can still remember learning about the Great Depression during while studying American History during my undergrad. My professor may as well have been standing on a soapbox when she declared to our class that Franklin D. Roosevelt was this nation’s greatest president, and anyone who said anything to the contrary was wrong. There was no room for debate and certainly no room for further discussion. But that didn’t stop her from continuing this rhetoric throughout the entire Great Depression unit.

FDR’s standing as the nation’s greatest president may be up for debate, but the opinions of my professor are most certainly important because they reflect a deep flaw in our nation’s understanding of the Great Depression. There is this belief that by intervening and implementing the New Deal, FDR saved Americans from the depths of the Great Depression. But in fact, the opposite was true. FDR’s New Deal actually prolonged the Depression and made it far worse than it otherwise would have been.

As discussed previously, booms and busts occur in the market when governments meddle in the economy as they do. If left alone, the market will correct itself and the economy can be prosperous once again. But as soon as the government steps in, correction is inhibited and recessions and depressions prolonged. This is precisely what happened when the New Deal went into effect during the Great Depression.

The Agricultural Adjustment Act

Everyone has been taught that during the depression, many Americans were starving and unable to feed themselves and their families. But what most do not fully understand is that farmers actually had an abundance of crops. However, thanks to the Agricultural Adjustment Act (AAA), which was part of the new deal, farmers were actually required and even compensated to destroy both crops and livestock. If this sounds like an absurd thing to do while your nation starves, that is because it is.

As part of the AAA, a new tax on agricultural processors was levied and the funds generated from the new tax were then used to implement the destruction of crops and farm animals. Of course, the larger commercial farmers really benefited from this, as they could more easily afford to lose so much of their inventory. But for smaller farms, this destruction sealed their financial fates.

As the Cato Institute explains in Tough Questions for Defenders of the New Deal:

“FDR promoted higher food prices by paying farmers to plow under some 10 million acres of crops and slaughter and discard some six million farm animals…This policy and subsequent programs to pay farmers for not producing victimized the 100 million Americans who were consumers.”

Tax and Spend 

One of the most egregious aspects of the New Deal was the National Industrial Recovery Act which established the National Industrial Administration (NRA). The NRA essentially commandeered certain private industries and put them under the control of the NRA. But to add insult to injury, the industries that were taken over were forced to fund the NRA with revenue collected from a series of new taxes they now had to pay.

Needless to say, this did not bode well for businesses that were already struggling to stay afloat. It is even estimated that the NRA increased the cost of operating a business by 40 percent. It is a shock that any businesses were able to survive the tax burdens placed on them under New Deal policies. In addition to raising taxes on businesses, the income tax was also raised. And the money being generated was not exactly put to good use.

Under the new deal, jobs were created for the sake of creating a job and not out of actual market demand. Under public relief programs, actors were even hired to entertain librarians while they cataloged books. While this may have been appreciated by the librarians, providing entertainment is not the job of the federal government. Nor was it a job needed at the time.

In additional to useless jobs, the New Deal ushered in an era of worthless infrastructure as well. After the Public Works Administration was instituted, more than 77,000 bridges and 116,000 buildings were built. And while leftists love to use this point in particular, to prove just how beneficial the New Deal was, there was no actual need for this new infrastructure, making all this new architecture virtually useless. But since the government kept taxing the people, they had money to spend, even if that spending was only serving to prolong the Great Depression.

Freedom from the New Deal

It wasn’t until 1935 that the economy finally got some relief from FDR’s New Deal policies. In 1935, the Supreme Court ruled that the NRA was unconstitutional in the case of Schechter Poultry Corp. v. United States. In 1936, the Supreme Court also ruled that the AAA was unconstitutional in the case of United States v. Butler. Eventually, other programs started under the New Deal were also struck down and they disappeared.

It should surprise no one, then, that in the years following the Supreme Court’s decisions, the economy began to rebound. By the end of 1935, the national unemployment rates had already begun to fall. Of course, this was not the end of the government’s interference with the economy.

The fact remains that had the government taken a hands-off approach to the economy, the market would have corrected itself in a shorter amount of time. But as a result of this interference, millions of American families and businesses suffered longer than needed. Of course, even though the Supreme Court had struck down the NRA and the AAA, the federal government had still not learned its lesson. In fact, in 1937, the Wagner Act would once again cause unemployment to rise.

How Crony Capitalism Ruins Free Market Competition

/in /by

Imagine, for a moment, that you are a runner preparing for a race. You know that in order to beat the competition, you are going to have to train as hard as you possibly can in order to be the best you can be. You sacrifice your free time to hit the gym and workout, give up all unhealthy foods to be in peak physical condition, and when the day of the big race finally comes, you feel prepared and confident in your abilities.

And all this hard work makes crossing the finish line ahead of the rest feel even better than you imagined because you know you put forth your best effort. But just as you are about to be awarded your cash prize for all your hard work, the judges tell you that your win was unfair. “The other runners were not as prepared as you were,” the judges claim. “It’s unfair that you should win when others didn’t have the training that you had.”

And after talking amongst themselves, the judges decided that the only way to make this race fair for everyone is to demand that your prize money be split up among the other runners so that they may pay for gym memberships, healthier food, or whatever ever else they may need in order to “level the playing field” for future races.

This, of course, would never happen. If it did, there would be massive outrage as this type of action would negate the entire purpose of competitions altogether. No one should have to pay to strengthen their competitors and give them a leg up in the competition. And yet, in the business world, this happens all the time.

Cronyism in Massachusetts

Just a few years ago, Massachusetts became the first state to force a company to help fund its competition. Levying a five-cent-per-ride on companies like Lyft and Uber, the revenue collected from this tax goes directly towards subsidizing the traditional taxi companies that operate within Massachusetts.

Kirill Evdakov, Chief Executive of the Boston-based ridesharing service Fasten, commented on this matter, saying, “I don’t think we should be in the business of subsidizing potential competitors.” Kirill is absolutely right: forcing ridesharing services to subsidize the taxi industry, which has been trying to regulate businesses like Fasten into nonexistence, is not only unheard of, but completely ridiculous.

The law is justified by saying the revenue will go towards helping the traditional cab companies create “new technologies and advanced service, safety and operational capabilities.” In other words, this new tax will be used to help cab companies achieve what ridesharing services have been able to do without any access to subsidies.

Though only five cents per ride will be going to the traditional taxi industry, the new law will actually place a 20 cent tax on ridesharing companies overall. The remaining 15 cents will be divided, with 10 cents going to the city where the service is operating, and the other five cents going towards a “state transportation fund.”

While subsidizing the taxi industry is easily the worst aspect of these regulations, giving a portion of this tax to the cities is going to make it harder to repeal or reform these types of regulations later, after local governments become accustomed to receiving this money.

In Massachusetts, ridesharing companies are responsible for 2.5 million rides per month. Those benefiting from this new tax stand to make millions of dollars from this regulation, something Massachusetts city governments are sure to be happy about receiving.

Competition Makes Everything Better

The government should never be responsible for picking losers and winners. The taxi industry has failed to evolve and innovate over the years, which has allowed ridesharing services to fill a void in the market. Instead of being praised for their success, ridesharing services are being punished while taxi industries are being rewarded for failing to innovate.

We recognize how silly this practice would be in the realm of sports, but for some reason when it comes to business, many champion these policies. But just like athletic competition makes us better and stronger, so does market competition. The only reason we have Uber and Lyft is because someone saw the shortcomings of the taxi industry and thought, “I can make this better.” Imagine how much better ridesharing would be if the taxi industry tried to make the Uber model even better.

But instead, the losing entities use governments to inhibit and steal from their competitors. In a truly free market, consumers would vote with their dollars, thus choosing the winning entity. Only consumers should be trusted with this decision, not governments. Hopefully, Massachusetts serves as a cautionary tale.

The Slipstream of the Tour de France Peloton and the Spontaneous Order of Free Markets Pull Everyone Along.

/in /by

Every July, France hosts one of the world’s greatest sports spectacles, Le Tour de France, and it offers something for almost all sporting and social appetites. For fans of individual sports there is the points leader and the king of the mountains. For fans of team sports there is the famous yellow jersey and the overall team competition. For entrepreneurs there are races within the race, constant innovation, and rewards for superior specialists. For progressives there is the equality of the peloton, the sacrifice of the domestiques, and the meager financial rewards for all but the elites.

The Wonders of Spontaneous Order

Unlike international soccer, cycling has not gained a lot of popularity or understanding (whichever comes first) in the United States, so here is a little in the way of explanation. The peloton is the big group of cyclists that is comprised of all teams and most of the riders at any given time. What looks like a random pack with lots of colors is usually well organized, and a wonderful example of spontaneous order – no one planned it. Every rider knows their individual role, but not the designs of the other riders. And each individual’s role depends on their team’s goals for the day, the moment they are in, and breakdowns in their plan so far.

A great way to understand the peloton is from the front. There, viewers can see the teams that are setting the pace, and see their colors lined up in single file behind their leader. These are the the trains, and the team leader will never be the locomotive. He is being protected and enjoying the slipstream; conserving energy for the mountains and the overall victory in Paris. The organization of the peloton falls into disarray when winds shift, roads steepen, riders attack, or riders crash (usually in the middle or rear of the peloton, it’s safer in front). That is the uncertainty of the future, yet order always returns with a different network of collaborators at a future unplanned moment.

Of Specialization and the Division of Labor

Within each team there is the team leader, the climbers, the sprinters, the generalists, the time trialists, and the domestiques. And it is possible to switch roles on any given day depending on the team’s goals. Those are dictated by the day’s terrain – flat, mountains, or rolling hills, and injuries. The term GC rider is the team leader being protected in order to stay in contention for the for the general classification victory, meaning the overall win. To have a rider on the GC podium in Paris is a major team victory. The GC guys will never endanger themselves in sprint finishes. However they will contend for mountain stage wins as that is where precious time is won. The sprinters are never GC guys. Their thing is individual stage wins on days set up for sprinters.

Not all teams contend for the three week GC victory, but they all contend for daily stage wins. On mountain stages, the sprinters become domestiques or fall off the back. The generalists do it all, as the name implies. They are competitive sprinters, good climbers, and reliable in the peloton regardless of the terrain. Today’s premier generalist, and the overall rider that’s most fun to watch, is Peter Sagan of Slovakia. A young man with a vibrant sense of life.

Specialization and the division of labor offer great value in the sport of professional cycling in the same way they offer great value in the sport of human life on planet earth. They are the product of having a long-term vision, anticipating the future, and deferring immediate rewards. Not only does this attitude lead to success in the long and arduous competition that is the Tour de France; according to economics professor Saifedean Ammous, it also leads to cultural and artistic enrichment for entire societies.

The Allegory of the Peloton

Americans can easily relate to the idea of team leaders and specialists, but a domestique? Their role is to protect the team leader in the peloton, lead the sprinters toward the finish, and shepherd the specialists back to the peloton if they crash. The English translation is servant. But while they don’t make headlines, they don’t resemble servants either. Instead of building socialist utopias like the horses described in Animal Farm, they are more like the steel workers hired by capitalist Henry Rearden in Atlas Shrugged. They are the best at what they do, prideful of their skill and integrity, and compensated accordingly. Domestiques can also be upwardly mobile, servants to socialist utopias not so much.

If social justice activists could organize a peloton, the exploiters would be placed at the front and create the slipstream. Their victims would be pulled along so that everyone enjoys the same outcome, so long as the entire group behaves into eternity. Free market advocates would just leave it alone; it is the equivalent of a complex system working efficiently. Every participant is pursuing their own rational self-interest and they all function in harmonious rhythm. The peloton is a temporary phenomenon that serves the needs of its riders at the moment. It cannot be rigid, planned, or controlled because there will always be a break-away group of riders that symbolize new ideas and innovation. No authoritarian could ever anticipate this. A free market, like its allegorical peloton, is flexible and ever-changing.

To summarize, the peloton is a network of voluntary cooperation that can’t be improved. Its cyclists have a long-term vision that the group does not. Individually, they have traded immediate rewards for intense physical and mental training; the payoff being greater future rewards. This attitude is natural and necessary for the culture of cooperation that is the peloton, and in a larger sense, all peaceful and prosperous human endeavor. All riders have a vested interest the success of their fellow cyclists. This prevents crashes in the short run and inevitably leads to greater potential rewards for everyone in the long run. So enjoy the spectacle of Le Tour, appreciate the elegance of its various forms, and understand the bright future symbolized by its spontaneous order.

 

 

Seattle Proves That “Fight for Fifteen” Movement Will Have Negative Consequences

/in /by

The city of Seattle Washington is quickly becoming a cautionary tale when it comes to its economy. In May, the city even announced that it would begin levying a new employment tax on prosperous Seattle-based businesses. The “employment tax” as it is being called, will institute a new tax on the top 20 percent of businesses for each hour worked by each Seattle-based employee.

While this is absolutely absurd to tax job creators for creating value for Seattle, what is seemingly more absurd is the fact that the city hasn’t seemed to learn anything from its previous attempts to centrally plan its economy.

Fight for Fifteen

In many ways, Seattle is personally responsible for sparking the “fight for fifteen” movement. In 2014, it became the first municipality to vote in favor of raising the minimum wage to $15.00 an hour. At the time, the city’s minimum wage was only $9.47.

Jumping from less than ten dollars all the way to $15 was a dramatic increase. Even the city recognized the danger this posed on local businesses, who would be the ones responsible for finding the means to fund the new wage rate. So, it was decided that instead of the new minimum wage going into effect at the beginning of 2015, the city would do it incrementally.

After the first year, when the minimum wage had been increased from $9.47 to $11.00, a research team at the University of Washington began analyzing the effects it had on employment, specifically in the restaurant industry. As it turned out, the impact was minimal. For most people, the wage increase resulted in an extra 72 cents every few months. But what was most shocking to these researchers was the fact that low-wage employees, the very people who this was wage increase was supposed to help, were being negatively impacted. Low-wage employment was actually down in the year following the increase. But at the time the study was conducted, there simply wasn’t enough data to confirm how big of an impact the new wage rate was having. The city was going to have to wait a little longer before they could determine the impact.

Then, last summer, UC Berkeley joined in on the research and released their own new numbers declaring:

“Our results show that wages in food services did increase — indicating the policy achieved its goal. … Employment in food service, however, was not affected, even among the limited-service restaurants, many of them franchisees, for whom the policy was most binding.”

Of course, this gave city officials all the fuel the needed to start boasting that their initiative had been a success. However, right after then-Mayor Ed Murray has published the Berkeley findings on his own government page, bragging that wages in the fast food industry specifically had increased without negatively impacting employment rates, the University of Washington released its second installment of the study. And this one did not fit the city’s narrative.

Centrally Planned Economies Do Not Work

When the new study from University of Washington was released,  Bloomberg reported:

“The University of Washington released its second study, this one covering the increase from $11 an hour to $13. And this study found huge effects: For every 1 percent increase in their hourly wage, low-wage workers saw a 3 percent reduction in the number of hours worked. As a result, they lost about $125 in earnings a month, clawing back the entire gain from the earlier hike and more.”

As it turns out, money has to come from somewhere. And when employers are forced to pay more money to meet the wage requirements they have to cut hours or even cut positions in order to afford to do so.

Of course, the mayor couldn’t be troubled with these new inconvenient findings and stayed relatively quiet.

As new studies are about to be released, we are about to find out just how grave the numbers look after the wage has incrementally increased once again, quickly approaching $15.00 per hour.

But the data already provided does not do much to boost hope. And instead of trying to meddle in the market further like they are doing with the new employment tax, Seattle officials should seriously be considering the consequences of their actions.

While taxation and the minimum wage rate are not entirely the same, they both require the central planning of an entire economy, of which no good can come. A governing body that tries to control an entire economy will soon find they do not have enough knowledge or insight to do so. As Hayek reminds us, “The curious task of economics is to demonstrate to men how little they really know about what they imagine they can design.” And when it comes to determining employee wages, the market will always do a better job than government. 

Capital Markets Are Uncertain Complex Systems That Can’t Be Predicted But Can Be Anticipated.

/in /by

In July 2008, the giant government mortgage agencies Fannie Mae and Freddie Mac failed, the US Treasury bailed them out, and their directors were rewarded with bonuses. Earlier that year, Treasury forced JP Morgan Chase to buy Bear Stearns, and later Washington Mutual. JP Morgan was also rewarded, with billion of dollars in fines. Later in 2008, Auction Rate Securities markets froze and money market funds were in jeopardy.

While the causes for 2008’s financial meltdown are suppressed by state-run media, its effects were borne by everyone not in the good graces of government. The banking crisis that began in 2007 led to a collapse in stock prices, home values, interest rates, and crippled the retirement dreams of millions of Americans. While almost everything was losing value, corporate retirement plan managers claimed to be helpless to do anything about it.

After all, the meltdown could not have been anticipated, and its effects were not controllable, right?

As the dust cleared in late 2008, Black Swan Theory became a popular theme in investment policy meetings and newsletters. The mythical Black Swan is a metaphor for extreme outlier events that are unpredictable, have major consequences, and are rationalized after the fact. One rationale was that portfolio diversification did not work because everything dropped sharply at the same time.

But was 2008’s perfect storm impossible to anticipate? Did diversification really fail?

Black Swan Hunting

In April 2007, professor and statistician Nassim Taleb published his influential book titled The Black Swan: The Impact Of The Highly Improbable. And his message is clear: authoritarian macroeconomics experts are not experts, and they don’t know it. Their tendency is to assign simplistic explanations for outlier events. Serious analysis of the problem is what Taleb described as “stemming from the use of degenerate metaprobability.” In plain English, he explains it as “What happens, happens.”

In 1999, another statistician and investment manager built a system that anticipates the possibility of Black Swan events (it does not predict them). And it calculates their possible effects.

David Loeper’s Monte Carlo engine is based on the capital market assumptions (CMAs) of Modern Portfolio Theory, and he uses them to calculate the likelihood of extreme market events, both positive and negative. His overriding premise is that the future is uncertain. As Loeper explains about the nature of capital markets,

Being excessively conservative in assumptions will needlessly sacrifice an investor’s life. The data exists to discover this. If you have bad assumptions, the allocation will not behave as anticipated. Well reasoned assumptions should have modeled extreme ‘asymmetric correlation’ markets.

In other words, the possibility of something like 2008 should have been anticipated. Loeper did, and the personal sacrifices of individual investors could have been mitigated.

Asymmetric Correlation Ate My Homework

In plain English, what investment managers call asymmetric correlation really means, ‘Hey, at least we sound smart!’ Their diversifying asset classes such as hedge funds, real estate, emerging markets, and managed futures were expensive and unproven. Or as Loeper explains “they had insufficient data to draw valid conclusions.”

In Modern Portfolio Theory, each asset class has two potential assumption errors – median return and risk. And not only were the assumptions for the diversifiers unreliable, the addition of each one multiplies the potential for errors. This is because their correlation to each other must also be considered. What happened in 2008 was that the diversifier asset classes became positively correlated with the risk assets they were intended to hedge, meaning they all lost value at the same time. As a result, retirement plan investors were exposed to a great deal of needless sacrifice and risk.

For example, in 2008, stocks of US companies lost 37%. A portfolio consisting of just four asset classes (domestic stocks, foreign stocks, US government bonds, and cash), with 60% of that in stocks, lost about 18%. Yet many “more diversified portfolios,” also with 60% in stocks, were down more than twice as much. Besides all of these additional assumption errors, there was another big one – investment managers had an aversion to US government bonds.

Of Strategists and Optimizers

According to Loeper, “The purpose of fixed income in an asset allocation is to lower the overall risk of equity markets, particularly in shock environments.”

Only US government bonds do this well, and there is a vast historical data set behind their CMAs to prove it. Newer bond asset classes like foreign, high yield, emerging market, and TIPs have no such reliability. However, traditional investment managers do not use US government bonds to diversify risk assets because of perceived interest rate risk, or their economic forecasts.

And neither do many mathematical models known as mean variance optimizers (MVOs).

The similarity between traditional managers and optimizers is that they are predicting the future. This adds potential assumption errors. While strategists admit they couldn’t anticipate the events of 2008, MVOs are a different story. Their analysts merely adjust the data inputs of the new, diversifiying asset classes because those data sets were insufficient anyway. The problem is the optimizer might select a portfolio dominated by these new, alternative asset classes. Ask Yale University’s endowment how that worked out.

“I Don’t Want My Money to Work Hard. I Want it to Relax.”

Jerry Seinfeld is on to something here. It took a lot of work to get things so wrong, and it was expensive. Those who religiously follow government policy couldn’t foresee the disastrous consequences of government policy. Those who place their faith in unreliable data sets built on self-fulfilling prophecies were also blindsided.

Fortunately there is a proven alternative to the stress of beating the market – Moneyball. Billy Bean, GM of the Oakland A’s, showed the baseball world how to win the division while minimizing the cost per win. He replaced the unforced errors of talent scouts with reliable data. For retirement plan investors, it’s about winning the future while minimizing risk, and replacing forecasters with your own vision for the future.

Let the price mechanism of free markets do the work, anticipate the possiblility of extreme events, avoid unforced errors, and let the retirement nest egg relax. The uncertainty of complex systems like capital markets and its price information can be reckoned with. After all, “the data exists to discover this if you examine it closely.”

tuttle twins books

This Serial Entrepreneur Teaches Kids Economics And The Ideas Of Freedom.

/in /by

Connor Boyack believes the world will be a better place when kids learn and understand – and apply – the core concepts of economics.

This is not government economics, of course. The abstract aggregates and mathematical models of the mainstream economics of the academic elites are deemed to be too advanced for kids. They’re taught in universities with a view to turning anyone with an interest in economics into (a) a fully propagandized Keynesian and (b) a direct or indirect employee of the government or one of its captive think tanks or lobbyist groups.

Kids haven’t run into all these encumbrances yet. Before they do, Connor Boyack hopes to introduce them to the fundamental ideas of the real economics that are relevant to individuals and the world around them. Principles such as the allocation of resources: we always have a longer list of things we could do with our scarce resources (including the scarcest of them all, time!) than exist in the realm of possibility, so how do we decide on the most effective and efficient allocation, the highest and best use? Thinking in this direction leads to the principle of opportunity cost: if you do X, you forego Y, and it’s important to have a decision making process. It’s called economic calculation. It might be a heuristic rather than a formula, but it’s a considered decision rather than a thoughtless one.

Connor also introduces kids to the idea of time preference, which is wrapped up in savings and investment. If we save – sacrifice – today and invest our savings into a productive initiative, we’ll reap a greater reward in the future. We know that many kids have a hard time with this concept – many of us have read about the marshmallow test – yet learning about it and considering the benefits of self-control and the value of the longer term over short term indulgence can be a life-enhancing change.

Of course, kids are not going to be able to relate to terms like time preference and opportunity cost. The words aren’t right for them. And the concepts are too abstract. They need to be clearly grounded in a world that kids understand. A different creative strategy is needed.

Connor’s initial vehicle for teaching kids economics has been The Tuttle Twins series of books. These books feature fast-moving stories and are fully illustrated, so that they are engrossing page-turners for kids. They are very ambitious in making classic content simple. The Tuttle Twins Learn About The Law is a presentation of the principles expressed by Frederic Bastiat in his classic “The Law”. Learning about the law includes natural rights, the difference between right and wrong and government legislation, and the awareness that bad guys can get government jobs and what the government does is often bad, wrong and illegal. The Tuttle Twins And The Road To Surfdom (yes, that’s the right spelling) illustrates the danger of tyranny, the difference between individualism and collectivism, and the nature of the threat inherent in central planning. An afterword introduces F.A. Hayek and the term Austrian Economics.

Connor also learned that kids like to see a narrative where there is good and bad, a protagonist and an enemy, and a story of heroes overcoming villains. In the Tuttle Twins And The Creature From Jekyll Island, the enemy is The Federal Reserve , government produced money and inflation. In The Tuttle Twins And The Food Truck Fiasco, the enemy is crony capitalism and the heroes are entrepreneurs.

The most recent Tuttle Twins edition is The Tuttle Twins And Their Spectacular Show Business, which is devoted to the subject of entrepreneurship. The Tuttle Twins absorb and follow the free market theory of entrepreneurship that starts with self-awareness (Who Am I?), self-resourcing (Who Do I Know and What Do I Know?) and self-efficacy (What Can I Contribute?). Can kids learn to be entrepreneurs? Certainly, says Connor:

Just like economics is a way of thinking, I think so too is entrepreneurship, and I believe we can inspire young people to look for opportunities and solve problems and be creative in their thinking. Through practice, study, and incremental opportunities, the child, once an adult, is going to have a lot of practice in entrepreneurship.

Listen to folks like Mark Cuban. He was selling stuff as an 11 year-old and a 12 year-old and was going door to door. There are many ways that kids can be practicing entrepreneurship, learning from their mistakes, and growing and refining their abilities. When they are an adult and have a full legitimate opportunity, they can hit the ground running, That’s what I am hoping this book can help kids with.

Connor is teaching kids not only economics but also values, including the ethics of capitalism, and self-reliance and self-empowerment. As a father, he wanted his own kids to absorb and understand the ideas he believed in, and could not find any educational materials to help them do so. In the spirit of entrepreneurship, he and his wife decided to create a book. They did not have the idea of a complete series at first, just a trial to see if people were interested. The market response was tremendous and now there are 8 books in the series and more to come. Over 200,000 copies have been purchased. Not only do kids enjoy and learn from Tuttle Twins books; parents tell Connor that they enjoy reading them to and with their kids, and they, too, are introduced to new ideas and prompted to learn more.

Like any serial entrepreneur, Connor is inspired to go further. He began to realize that while the books continue to sell well, “we’ll always be playing catchup. To get ahead of the curve, we have to get into the schools”.

So he set up The Association for Teaching Kids Economics (ATKE) as a mechanism through which he could begin building curriculum resources around the Tuttle Twins books so that teachers would better be able to introduce these ideas to their students. In the past school year alone, ATKE has distributed nearly 20,000 books to students while their teachers were given material to help explain and expound on free market economic ideas in class. Connor reports: “It went great! The response was overwhelmingly positive and we’re super excited to grow ATKE and help even more students in the years ahead.”
Economics is the essence of civilization, the moral science. It can teach kids to deal with the circumstances of the world around them, to sustain themselves as individuals, and to consider carefully how they exchange with other individuals. Values and “moral sentiments” are inherent to economics. The hope that economics offers is embodied in Connor Boyack’s entrepreneurship and the adventures of The Tuttle Twins.

 

Write for CFI