Two factors complicate the task of economic forecasting today – the first I bet you know, the second I bet you don’t…

One, obviously, is the financial mess afflicting the world. Simply put, the subprime mortgage crisis, empowered by those attempting to use quasi-governmental agencies to promote homeownership, in combination with unsustainable levels of entitlement spending, have pulled so much capital out of the system that economies are stagnating. This reduces growth and creates unemployment, which adds to the demand for entitlement spending. It’s a vicious circle spinning like a tornado from California to Greece. (…)

For some reason, by the way, the British press is providing better coverage of the Yank economy than most U.S. publications. I recommend, for those who want to read more, an excellent article by the economics editor of The Telegraph. In a story about the IMF’s analysis of the U.S. economy, he points out that “under the Obama administration’s current fiscal plans, the national debt in the U.S. (on a gross basis) will climb to above 100% of GDP by 2015 — a far steeper increase than almost any other country.”

The good news, however, is that voters are learning important lessons. Most people are incapable of changing their minds — until the pain level is sufficiently high. We’ve reached that point. (…)

The second factor that makes it difficult to keep the big picture in mind is the dizzying rate of scientific progress. Things are changing so fast that most people, including policymakers, are operating using outdated assumptions. I’m not talking simply about new gadgets and medicines — we are experiencing a global demographic transformation that affects every area of life. It is taking place on an unprecedented scale, due entirely to advances in science and technology. (…)

So let me get back to the big picture and the opportunity that increasing life spans and health care costs are creating for smart investors.

I consider health care the ultimate hedge in times of economic crisis.

{ Patrick Cox | Continue reading }

Is it possible that all the bungling that took place in Microsoft’s entertainment and hardware division was actually sabotage? In World War II, Germany sent a secret “fifth column” behind enemy lines to disrupt defenses during its invasions. Corporations have engaged in similar activities, and a series of “mistakes” that were beneficial to Apple has me wondering who’s really been calling the shots in Redmond.

Last week, Apple (Nasdaq: AAPL) passed Microsoft (Nasdaq: MSFT) in market capitalization for a number of reasons. I agree with Gary Marshall, who argues in “Apple beats Microsoft? Not so fast, Fanboys” that the two companies aren’t even in the same race. I’d even add that the only reason Apple moved ahead in valuation is because we don’t count stock owned by employees, and Bill alone has around US$40 billion of that.

However, I also agree with much of what Geoffrey James says in “Top 10 Reasons Apple Beat Microsoft” — essentially, that Apple’s relative success really has more to do with decisions made at Microsoft than decisions made at Apple. Having said all of that, Microsoft is still the most profitable company in the segment, and as Jobs himself would point out, it is all about profit.

However the one saying I’ve made famous is that “perception is 100 percent of reality,” and the perception is that Apple did and continues to beat Microsoft. The executive Microsoft had positioned against Apple was Robbie Bach, who ran Microsoft’s entertainment and hardware division, a division that became a vampire division, and this got me thinking that Apple’s greatest strength may be its secret fifth column.

{ TechNewsWorld/Rob Enderle | Continue reading | via Richard }

Are you worried that we are passing our debt on to future generations? Well, you need not worry. Before this recession it appeared that absent action, the government’s long-term commitments would become a problem in a few decades. I believe the government response to the recession has created budgetary stress sufficient to bring about the crisis much sooner. Our generation — not our grandchildren’s — will have to deal with the consequences.

{ David Einhorn | Continue reading }

illustration { Autumn Whitehurst }

Dr. Raymond Mar, of On Fiction: An Online Magazine on the Psychology of Fiction, published a research bulletin the other day summarizing a psychological study whose results apparently suggest that, in the words of the blog headline, “words reveal the personality of the writers.” After presenting the background, experimental procedure, and findings, Dr. Mar concludes that “From these findings, it appears that creative writing can indeed reveal aspects of the author’s personality to readers. An encouraging result for those of us who feel we’ve come to know an author by reading his or her books.”

I was excited by the headline. Typically, I approach reading as entering into a relationship with a writer and, when it comes to reading the works of cherished writers, I often work with the fantasy that I’m getting to them better, more intimately. I even once had the experience of hallucinating an encounter with a dead author while visiting with his widow in their apartment in Paris. But as I read through Dr. Mar’s report of the study I was left with some questions and even some objections.

First, the background to the study.  According to Dr. Mar:

A fascinating study currently In Press in the Journal of Research in Personality (Kufner et al., in press), provides evidence that in some ways, we can infer what an author is like based solely on their writing. Although previous studies on inferring personality from written text have been conducted, this was the first study to look at creative writing as opposed to personal essays.

{ Yago Colás/ScientificBlogging | Continue reading | Thanks Emma }

For 40 years, Barnes & Noble has dominated bookstore retailing. In the 1970s it revolutionized publishing by championing discount hardcover best sellers. In the 1990s, it helped pioneer book superstores with selections so vast that they put many independent bookstores out of business.

Today it boasts 1,362 stores, including 719 superstores with 18.8 million square feet of retail space—the equivalent of 13 Yankee Stadiums.

But the digital revolution sweeping the media world is rewriting the rules of the book industry, upending the established players which have dominated for decades. Electronic books are still in their infancy, comprising an estimated 3% to 5% of the market today. But they are fast accelerating the decline of physical books, forcing retailers, publishers, authors and agents to reinvent their business models or be painfully crippled.

“By the end of 2012, digital books will be 20% to 25% of unit sales, and that’s on the conservative side,” predicts Mike Shatzkin, chief executive of the Idea Logical Co., publishing consultants. “Add in another 25% of units sold online, and roughly half of all unit sales will be on the Internet.”

Nowhere is the e-book tidal wave hitting harder than at bricks-and-mortar book retailers. The competitive advantage Barnes & Noble spent decades amassing—offering an enormous selection of more than 150,000 books under one roof—was already under pressure from online booksellers.

It evaporated with the recent advent of e-bookstores, where readers can access millions of titles for e-reader devices.

{ Wall Street Journal | Continue reading }

related { Book sales, frumpy readers, and mental rotation of book titles }

illustration { vb infinite swell in infinite indumentum | Imp Kerr & Associates, NYC }

The C.I.A. and F.B.I. didn’t stop 9/11, so now we have the Department of Homeland Security. Decades of government subsidies for homebuyers helped create the housing crash, so now the government is subsidizing the auto industry, the green-energy industry, the health care sector… (…)

This is the perverse logic of meritocracy. Once a system grows sufficiently complex, it doesn’t matter how badly our best and brightest foul things up. Every crisis increases their authority, because they seem to be the only ones who understand the system well enough to fix it.

But their fixes tend to make the system even more complex and centralized, and more vulnerable to the next national-security surprise, the next natural disaster, the next economic crisis. Which is why, despite all the populist backlash and all the promises from Washington, this isn’t the end of the “too big to fail” era. It’s the beginning.

{ Ross Douthat/NY Times | Continue reading }

Power-knowledge is a concept coined by the French philosopher Michel Foucault. (…)

Both power and knowledge are to be seen as de-centralised, relativistic, ubiquitous, and unstable (dynamic) systemic phenomena. Thus Foucault’s concept of power draws on micro-relations without falling into reductionism because it does not neglect, but emphasizes, the systemic (or structural) aspect of the phenomenon.

{ Wikipedia | Continue reading }

Green Buildings: Dow says many buildings are actually getting less efficient

Mike Kontranowski, Strategic Marketing Manager of Dow Building Solution’ Thermax brand of rigid insulating board, presented a sobering analysis of the direction of building efficiency during the Summit. Although buildings of all types have become more energy efficient on a per square foot basis for the past 50 years, many buildings constructed over the past decade have bucked the trend and have begun regressing on energy efficiency. This reversal comes despite newfound interest in “green building” among governments, occupants, and the building owners themselves, and despite the plethora of insulation, window, equipment, and other devices that yield far greater efficiencies. More surprisingly, many of the buildings are LEED (Leadership in Energy & Environmental Design) certified, because energy efficiency is only one of many metrics that accrue points needed for certification.

The proximate cause of the backslide in efficiency is a switch to less expensive aluminum wall studs in place of wood or block in recent years. Because aluminum is such a good conductor of heat, walls that are otherwise well-insulated – with insulation batts installed between the studs – see an overall insulating R-value of the wall drop in half, from 11 or more to 5. Thermal images of walls are particularly poignant, showing relatively small amounts of heat escaping from between the studs, while the studs themselves were lit up like Christmas trees.


{ Lux Research Analyst Blog | Continue reading | via Josh Wolfe }

The amount of stress we endure is increasing because of our focus on efficiency. Stress is caused by uncertainty, more specifically, by doubts in our ability to handle something. As machines and computers handle more things that are predictable and certain, we are pressured to deal with more things that are unpredictable and uncertain. This inevitably leads to more stress. As soon as our tasks become predictable and certain, we automate them using our technology. The result of this process of streamlining is that we are increasingly called upon to use our, what I would call, irrational abilities, such as instincts, sensibilities, creativities, and interpersonal skills. These things are, by nature, unpredictable.

Take stock trading, for instance. When there were no computers to process the trades, the number of trades you could do in a day was limited. A certain amount of your work as a trader involved processing of paperwork, communicating with others, and doing some arithmetic; tasks that are predictable and not stressful. Today, a click of a button essentially takes care of all of those predictable tasks, and you skip right ahead to another stressful decision-making.

As another example, take graphic designers. Now with computers handling everything from typesetting, layout, image processing, color management to printing, what used to be done by several specialists are now combined into one person. The number of jobs one can handle in a year increased dramatically. Now designers spend more time being creative, and less time creating the final products. This may sound good, but in terms of stress and rewards, it is not. Because creativity is irrational and unpredictable, coming up with a creative solution can be highly stressful. Designers now have to come up with significantly more creative solutions per year for the same amount of money. (…)

Despite all the stresses we deal with in our lives, we feel that we are running towards nowhere, very much like running on a treadmill. I believe this is because the whole nation, the whole economy, is on a treadmill. In analyzing our economic growth, we focus on matters that are actually irrelevant to our feelings. We falsely believe that technological advancement, increase in production, and providing greater choice would make us happier, but we have more indications to the contrary.

{ Dyske Suematsu | Continue reading }

photo { Robert Whitman }

In the realm of public policy, we live in an age of numbers. To hold teachers accountable, we examine their students’ test scores. To improve medical care, we quantify the effectiveness of different treatments. There is much to be said for such efforts, which are often backed by cutting-edge reformers. But do wehold an outsize belief in our ability to gauge complex phenomena, measure outcomes and come up with compelling numerical evidence? A well-known quotation usually attributed to Einstein is “Not everything that can be counted counts, and not everything that counts can be counted.” I’d amend it to a less eloquent, more prosaic statement: Unless we know how things are counted, we don’t know if it’s wise to count on the numbers.

The problem isn’t with statistical tests themselves but with what we do before and after we run them.

{ NY Times | Continue reading }

Above the Restoration Hardware in this Jersey Shore town, not far from the Navesink River, lurks a Wall Street giant.

Here, inside the humdrum offices of a tiny trading firm called Tradeworx, workers in their 20s and 30s in jeans and T-shirts quietly tend high-speed computers that typically buy and sell 80 million shares a day.

But on the afternoon of May 6, as the stock market began to plunge in the “flash crash,” someone here walked up to one of those computers and typed the command HF STOP: sell everything, and shutdown.

Across the country, several of Tradeworx’s counterparts did the same. In a blink, some of the most powerful players in the stock market today — high-frequency traders — went dark. The result sent chills through the financial world.

After the brief 1,000-point plunge in the stock market that day, the growing role of high-frequency traders in the nation’s financial markets is drawing new scrutiny.

{ NY Times | Continue reading }

{ Fears over Greek bailout send shares and euro tumbling. French president threatened to pull France out of the eurozone | Even by his own high standards, Nicolas Sarkozy excelled himself. | Thanks Douglas }

{ U.S. risks China’s ire with decision to fund software maker tied to Falun Gong, a Buddhist-like sect long considered Enemy No. 1 by the Chinese government. | Washington Post | full story }

During the last two decades, the American economy has suffered from a series of legal, fiscal and monetary policies that have favored speculation over production. The result has been the financialization of the economy, which has been characterized in economic terms by an unhealthy growth in debt at all levels of the economy and in cultural terms by the monetization of all values. Entities such as Fannie Mae and Freddie Mac were perfect examples of how the free market had been corrupted before the 2008 financial crisis. The crisis itself demonstrated, however, that the logic of the system required all large institutions to suffer from a similar flaw. Yet these flaws were not inevitable, even at the height of the crisis; they were deliberate political choices. While stakeholders of some institutions, such as Lehman Brothers, were wiped out, those of other firms were not and some were even made whole. The most egregious example of this was the handling of American International Group (AIG), the insurance giant that morphed itself into a giant hedge fund while enriching the officials responsible for some of the most ill-informed judgments in financial history. There was no reason for the government to handle the AIG failure in a manner that made whole foreign counterparties and Goldman Sachs; alternatives including offering a blanket credit guarantee to the insurance company that would have calmed markets and obviated the necessity of the company paying out one hundred cents on the dollar for its reckless insurance bets on synthetic mortgage obligations. While the result – avoidance of the extinction-level-event that an AIG failure would have been for the financial system – was the correct one, the means by which it was achieved furthered the agenda of socializing losses and privatizing gains and bred deep distrust in the government and the system.

Much of the crisis could have been avoided had policymakers and investors operated under realistic assumptions about how markets and economies work. Several years ago, former Federal Reserve Chairman Alan Greenspan described the failure of interest rates to react in the manner he expected as a “conundrum.” We now know that Mr. Greenspan was operating under a false set of assumptions about human nature, as well as a misguided understanding about how market participants behave. As noted in my book, had Mr. Greenspan been an acolyte of Hyman Minsky instead of Ayn Rand, he would have been less susceptible to such a fatal conceit. But beyond that, the real conundrum in modern markets is the continued reliance of investors and policymakers on two false mantras. The first is that markets are efficient; and the second is that investors are rational. Both assertions are so decidedly specious that one has to question both the sanity or the intelligence of those who cling to them.

{ Michael E. Lewitt | Continue reading }

A day after a harrowing plunge in the stock market, federal regulators were still unable on Friday to answer the one question on every investor’s mind: What caused that near panic on Wall Street? (…) The cause or causes of the market’s wild swing remained elusive, leaving what amounts to a $1 trillion question mark hanging over the world’s largest, and most celebrated, stock market. (…)

A government official who was involved in the investigation said regulators had moved away from a theory that it was a trading mistake — a so-called fat finger episode — and were examining the links between the futures and cash markets for stocks.

In particular, this official said, it appeared that as stock trading was slowed on the New York Exchange when big price moves started, orders moved automatically to other, electronic exchanges that did not have pricing restrictions.

The pressure in the less-liquid markets was amplified by the computer-driven trades, which led still other traders to pull back. Only when traders began to manually respond to the sharp drop did the market seem to turn around, said the official, who spoke on the condition of anonymity because the investigation was not complete.

On Friday evening, another government official directly involved in the investigation said that regulators had not yet been able to completely rule out any of the widely discussed possible causes of the market’s gyrations.

This official, who also spoke on the condition of anonymity, said that regulators had collected statistical and trading data from stock and futures exchanges, and had begun cross-analyzing that with trading reports from brokerage firms and large market participants. Regulators have also gathered anecdotal accounts of what happened from hedge funds and other trading firms. (…)

Over the last five years, the stock market has split into a plethora of new competing hubs and trading outlets, a legacy of deregulation earlier this decade and fast-paced technological change. On Friday, the rivalry between the two main exchanges erupted into view as each publicly pointed the finger at the other for being a main cause of the collapse on Thursday, which sent shockwaves around the globe. (…)

The absence of a unified system to halt trading in individual stocks led to bitter accusations between exchanges on Friday. Robert Greifeld, chief executive of Nasdaq OMX, appeared on CNBC to criticize the New York Stock Exchange for halting trading for up to 90 seconds in half a dozen stocks on Thursday.

“Stopping for 90 seconds in time of crisis is exactly equivalent to not picking up the phone,” Mr. Greifeld said.

A few minutes later, Duncan L. Niederauer, chief executive of NYSE Euronext, responded in an interview on CNBC, blaming Nasdaq’s computers for continuing trading while the market was in free fall.

{ NY Times | Continue reading | update: As several stocks declined sharply under heavy selling pressure, the New York Stock Exchange, one of the largest pools, stopped or slowed trading in particular stocks. | Washington Post | full story }

photo { Ron Gallela | SMASH HIS CAMERA, Opening with the artist at Clic Gallery, 424 Broome Street, NYC, June 10th | Read more }

A new scheme for making quantum money could lead to cash that cannot be counterfeited. But it may also lead to a new breed of quantum crime.

In the last couple of years, a number of quantum dignitaries have become interested in the (relatively) ancient problem of quantum money.

The challenge is to create a quantum state that can work as a form of money. Just like ordinary cash, quantum cash would be exchanged in lieu of goods. It would be sent and received over the internet without the need to involve third party parties such as banks and credit card companies. That would make transactions anonymous and difficult to trace, unlike today’s online transactions which always leave an electronic paper trail. That’s one big advantage over today’s money.

Another is that quantum states cannot be copied so quantum cash cannot be forged.

But quantum cash must have another property: anybody needs to be able to check that the money is authentic. That turns out to be hard because measurements on quantum states tend to destroy them. It’s like testing classical bills by seeing whether they burn.

{ The Physics arXiv Blog | Continue reading }

Imagine a market for highly sought-after items in which the makers and sellers work hard to ensure that the items go only to certain buyers, even if other buyers might be willing to pay more. The favored buyers are then expected not to resell the items for many years, even if the values skyrocket. Ideally, in fact, the buyers are expected to give these items away eventually, for the public good. And if the buyers don’t abide by these expectations, they risk being cut off, cast out with the other unwashed wealthy who can afford to buy but have no access.

At least according to Craig Robins, a prominent Miami art collector and real estate developer who filed a federal lawsuit on March 29 in Manhattan, this is a portrait of the workings of the primary market for contemporary art, which, despite the recession, remains immense and highly competitive.

At its heart, the $8 million suit is a fairly ordinary contract dispute about confidentiality agreements and sales promises. But the details of the disagreement have provided a rare view into a normally very private world of high-end art selling in which membership rules, responsibilities, rewards and reprisals can be so complex and changeable that even art world veterans say they sometimes struggle to decode them.

{ NYTimes | Continue reading }

Days after the sabotage, one of his best-known older pieces, a suspended, taxidermised horse titled The Ballad of Trotsky, was auctioned in New York for $2.1m (£1.15m). Cattelan claims he won’t get a penny of that money - he sold the horse in 1996 for $5,000. Still, what is it like knowing your work is worth so much? “It’s like going to sleep 14 years old and waking up 30,” he says. “Things that maybe seemed a joke before are now taken more seriously.”

{ The Guardian, 2004 | Continue reading }

related { The Strange caase of Maurizio Cattelan | The Economics }

photo { unsourced | via Willie }

A collection of paintings that have caused art aficionados to turn a deep shade of purple and have provoked upset and anger throughout the art world are to go on show.

The forged works include a fake Botticelli, which was bought for a higher price than a genuine work by the artist sold at the same time. A gallery director almost had to resign because of another one, a fake Holbein.

In an unprecedented spirit of public transparency (and perverse pride), the National Gallery in central London is dusting down its holdings of forged paintings, accidentally bought as genuine works, supposedly by Botticelli, Holbein and Durer, among others, and showing them off to the public.

Some experts within the gallery actually prefer the fakes to the real thing, they revealed yesterday. Rachel Billinge, a research associate in the gallery’s conservation department, said she sometimes looked upon the forgeries with more admiration than the works by their genuine counterparts. “Sometimes you can appreciate their techniques, and the effort they put in, more than the original that was churned out by a bored apprentice at a workshop,” she said.

The last known fake bought by the gallery was in the late 1950s, when it acquired a painting believed to be a genuine Rembrandt, An Old Man in an Armchair. Signed and dated falsely, many curators have marvelled at its extraordinary technique and artistic achievement.

{ The Independent | Continue reading }

In 1983, Edward Leamer published an article with contents that would become almost as celebrated as its title. “Let’s Take the Con Out of Econometrics” began with an analogy that remains useful. Imagine an agricultural researcher who tests the effectiveness of a new fertiliser by dividing land into strips and spreading the new fertiliser only on a randomly chosen selection of those strips. Because of the randomisation, any effect will presumably be thanks to the fertiliser.

Contrast this scrupulous scientist, continued Leamer, with two agricultural econometricians. One notices that crops grow under trees and, after taking careful measurements, announces that bird droppings increase crop yields; the other has noticed the same phenomenon and declares that it can, with confidence, be credited to the benign effects of shade.

This is the “identification problem” – trying to work out whether a statistical pattern is caused by what we think it has been caused by. It muddies any statistical analysis of data that have not been generated by a controlled experiment, and it particularly plagues econometricians, the statistical wing of the economics profession. But, complained Leamer, throughout the 1970s they too rarely cared, and much of their work was dubious at best. Leamer was not alone. David Hendry showed in 1980 that by using the standard methods of the day, he could demonstrate that rainfall caused inflation. Or was it that inflation caused rainfall?

That was then. Now Joshua Angrist of the Massachusetts Institute of Technology and Jörn-Steffen Pischke of the London School of Economics have published a new working paper arguing that econometrics has undergone a “credibility revolution”. Angrist and Pischke argue that the identification problem is now being faced head on and for many questions it is being solved. Modern econometrics works.

Given the recent financial crisis, I pause for sceptical chuckles, but academic econometrics is rarely used for forecasting. Instead, econometricians set themselves the task of figuring out past relationships. Have charter schools improved educational standards? Did abortion liberalisation reduce crime? What has been the impact of immigration on wages?

{ Financial Times | Continue reading }

Somebody needs to brief Senators before they get on TV and ask irate questions which demonstrate they have no idea what they are talking about. Expressing shock that someone was short on the trade in question shows you don’t understand the trade. Let me see if I can offer some clarity.

Normally, you think of a Collateralized Debt Obligation (CDO) as a pool of mortgages. This pool is broken into anywhere from 6 to 15 tranches. The highest-rated tranches get their money back first, and the rating agencies made them AAA. While the lowest level would be called the equity portion and be first in line to lose, in theory it paid a very high yield. It was usually not rated. But the level just above that is BBB (just barely investment-grade), and that was typically about 4% of the total deal, but paid a much higher yield than the “safe” AAA portion. 

Now, here is where it gets interesting. Investment banks would take the BBB portions of these Residential Mortgage-Backed Securities, which were not as easy to sell, and combine them in a CDO, which the rating agencies then rated using models based on data provided by the investment banks themselves. Since this combining of BBB tranches supposedly created diversification that the rating firms’ models indicated would drastically limit delinquencies and defaults, the AAA tranche of the CDO was jacked up to 75% of the total capital structure, with 12% rated AA. Only 4% was typically considered BBB. So pools of mortgages that probably should have been rated below BBB were miraculously turned into a CDO with 87% of its capital structure rated AAA and AA and only 4% rated BBB, with a chunk as equity. (I wrote about this in January of 2007, based on material from Gary Shilling and others, plus my own research, although I think I wrote about it in an earlier letter as well.)

Who would buy this stuff? Mostly institutions that were reaching for yield in what was, in 2007, a very low-yield world. Yield hogs. And institutions that trusted the rating agencies.

But the CDO in the Goldman case was not this type of CDO. It was hard to find enough BBB pieces to put together a CDO of the type described above, and the demand was high. Remember, everyone knew that housing could only go up. So, what’s an investment bank to do? They create a synthetic CDO. Follow this closely. The various investment banks - it was way more than just Goldman; rumors are it was up to 16 of them - would construct an artificial CDO fund based on the performance of BBB tranches in other deal.

{ John Mauldin, Weekly Newsletter, April 30, 2010 | Continue reading | PDF }

photo { Lauren Verby }

{ Cosmetic surgery wasn’t as popular in 2009 as it used to be, according to the American Society of Plastic Surgeons. | NY Times | full story }

{ Ron Jude, Executive Model, 1992-1995 }

related related { Why the problems of Greece may mean that the euro itself cannot survive }

{ NY Times, April, 2010 | Continue reading }

{ Imp Kerr & Associates, NYC, December, 2008 | Continue reading }