Posts filed under “Philosophy”
No one seems to remember the second part of Occam’s razor as rumored1 to be stated by Albert Einstein: “Everything should be made as simple as possible, but not simpler.”
That is an issue I am encountering quite frequently these days. We see it in discussions about markets, politics, sports, economics, indeed, just about any field where questions of an unknown future drive debate. This morning, I want to briefly discuss the issue, pointing out a few recent examples. My advice is to be wary whenever you see this approach.
First, let’s understand what Occam’s Razor actually means: When we select among competing explanations for any given unknown, we prefer that which offers the simplest explanation of any effect. This includes that which makes the fewest assumptions, and requires the least logical contortions. However, one should proceed to simpler theories until simplicity can be traded for greater explanatory power. This is especially true when it comes to explaining complex events with lots of moving parts.
Consider the following statements:
Politics: No modern president has ever won a second term when the unemployment figure was 7.3% or more.2
Markets: The average Bull Market lasts 31 months.3
Sports: The new line up of (Choose: NY Knicks Jeremy Lin/Carmelo Anthony or NY Jets Mark Sanchez/Tim Tebow) locker room disruption.
Credit Crisis: High levels of leverage existed prior to the crisis without incident.4
Apple (2004-10): Has a very high P/E.
Affordable Housing Policies: Allowed lower income people to purchase homes they could not afford.
Note that I did not include any conclusion based upon these single variable analyses. But these are the simple, recognizable memes circulating the intertubes. They lay traps for the unwary. The conclusions the authors of these draw are:
1. The incumbent will lose in November
2.Sell your stocks
3. The Knicks and Jets cannot win a playoff
4. Leverage was not a factor in the credit crisis
5. Don’t Buy Apple
6. It was all Barney Frank’s fault
These are all probability questions. When doing these analyses, we do not know what the future outcome will be. Certitude in the face of probable outcomes is discouraged, as is gross over-simplification.
I have addressed many of these over the years (I want to get to the leverage issue soon).
Some people work backwards: They start with their conclusion, than set about hunting for any data that supports it. This is the worst form of confirmation bias. The preferred method is to research all of the relevant data, and see what conclusion that leads you to.
Bottom line: When it comes to investing, the errors of single variable analyses, oversimplification and bias all can be very expensive. Recognize these flaws when you encounter them in any sort of commentary, and adjust your expectations accordingly.
Single vs. Multiple Variable Analysis in Market Forecasts (May 4th, 2005)
Hume, Causation & Science (January 14th, 2012)
1. Provenance: There is some question as to the whether Einstein actually said this, according to (Quote Investigator)
2. Unemployment rate by year (BLS)
3. This Bull Market Is Hard to Pin Down (NYT)
4. Bethany McLean: The meltdown explanation that melts away (Reuters)
“What will fill the vacuum formerly occupied by religion?” The most thoughtful, as well as the most memorable wedding gift my spouse and I received in 1993, the year of my first (and only) marriage, was neither the most expensive, nor an object. Rather it was a “Brunch” – that uniquely American invention deplored by…Read More
This post was originally published at The Financial Philosopher, by Kent Thune. “I do nothing but go about persuading you all, old and young alike, not to take thought for your persons or your properties, but and chiefly to care about the greatest improvement of the soul. I tell you that virtue is not given…Read More
Why has the economic crisis deepened America’s conservative drift? The trend towards the hard right is most pronounced in the least well off, least educated, most blue collar, most economically hard-hit states. Why? It is a fascinating glimpse into the Human (or is it American?) Psyche — and I am very curious about it: >…Read More
Max Blumenthal’s latest takes us on a shocking and at times bizarre tour of right-wing Pastor John Hagee’s annual Washington-Israel Summit, blowing the cover off the Christian Zionist movement in the process. Starring Joe Lieberman, Tom DeLay, Pastor John Hagee, Ambassador Dore Gold and a host of rapture-ready evangelicals praying for Armaggedon.
“The reason capitalism has triumphed in the West and sputtered in the rest of the world is because most of the assets in Western nations have been integrated into one formal representational system . . . By transforming people with real property interests into accountable individuals, formal property created individuals from masses. People no longer…Read More
More business regulations. That is what survey after survey around the globe shows that the world’s populations wants. Despite a relentless propaganda campaign of misinformation, fabricated data and false narratives, the public has not been fooled by the 1%. The best efforts of a well funded group of ideologues — Free Market absolutists, anti-Democracy and…Read More
Dan Alpert is a founding Managing Partner of Westwood Capital. He has more than 30 years of international merchant banking and investment banking experience, including a wide variety of work-out and bankruptcy related restructuring experience. Dan’s experience in providing financial advisory services and structured finance execution has extended Westwood’s reach beyond the U.S. domestic corporate finance market to East Asia, the Middle East and Eastern Europe. In addition to his structured finance expertise, Dan has extensive experience advising on mergers, acquisitions and private equity financings. He has additional expertise in evaluating and maximizing the recoveries from failed financing vehicles affiliated with a common borrower/issuer.
Principal Plot: Inflation Is Not Proceeding from Large Scale Money Growth as Monetarists Would Expect. Keynesians Are Not Providing a Complete Enough Explanation to Laymen as to Why That Is So. Frustration and Name-Calling Ensues.
And a Subplot: Warren Buffett Walks into a Bar . . .
Over recent months, an intense debate between two opposing schools of economics has reached a crescendo. The relationships—at least in print—among members of the so-called saltwater school of economists (those leaning towards Keynesian fiscalism, and more-managed forms of capitalism) and economists in the freshwater or Chicago school (broadly favoring less-regulated, free-market economies with an emphasis on monetary matters) has never been overly warm. But the degree of name calling and apparent unwillingness to find common ground has come to a head since the beginning of the year—especially following the U.S. economic profession’s annual conference the first weekend after the New Year’s break.
With the World Economic Forum at Davos on tap for this week, providing yet another occasion to read tea leaves and tout theories, it is a good time to consider whether polarization of opinion isn’t as much of a problem as polarization of income and wealth in the developed world. Is the almost complete absence of consensus among mainstream economists yielding drama but paralyzing decision?
To my view, the answer to the foregoing is a decisive yes. So, I have decided to tackle the issue with a bit of humor, together with my own explanation of the underlying problems and suggestions for how to go about reaching a very elusive meeting of great minds.
The debate as it proceeds each week in what I now title Real Economists of the Ivory Tower provides an often amusing diversion for its wonkish audience—but I am afraid it will never be successful mass entertainment.
Its cast—Paul, John, Robert, Brad, Simon, Scott, Tyler, and others—can fling their credentials and arguments at one another, but if you don’t know who I am referring to in this sentence, I doubt you would DVR the series. (Fortunately, we all have a guy named Mark—who happens to be a new colleague of mine in our work at The Century Foundation—to keep everyone honest, so you can always head over to his invaluable blog if you miss any episodes.)
Economist cat fights, alas, seem never to involve sex. There’s money, but no bling. And the typical insults run the gamut from “you weren’t listening during Econ 101″ to “you are so out of it that you can’t even understand what I am saying.”
That economists don’t understand what each other are saying, of course, comes as no surprise to laymen—as everyone else can’t understand them either.
So, with that in mind, and as technical as the subject matter may be (this is, actually, a serious essay), I’ll do my best to present in plain language the problem that is the source of the foregoing drama. For more advanced readers, I will provide a somewhat unconventional explanation of a possible middle ground that I will call, for now, an Exogenous Supply Incongruity (so named as to make certain no one understands me either until they read on).
The Synopsis to Date
In the major nations of the developed world—first in Japan, over a period of nearly two decades, then in the United States, beginning in 2008, and now (however reluctantly) in Europe—monetary authorities (central banks) have been massively increasing the portion of the money supply over which they have direct influence in an effort to revive their economies. In a conventional cyclical downturn, it is received knowledge that looser money encourages additional economic activity (spending, investment, employment, etc.) by making money cheaper and discouraging saving/hoarding.
Cheap and ample money would also encourage lending, and thereby would be expected to increase broad money supply—and, ultimately, to induce inflation across economic sectors.
In response to economic collapse, central banks have now gone well beyond conventional methods of expanding money supply, including purchasing investment assets (typically government issued or insured) in the open markets and pushing cash out to the sellers of those instruments, in the expectation that they will do something with that that cash to improve economic activity. This action is known as quantitative easing, which is a fancy term for what desperate central banks must resort to when they’ve already dropped short-term interest rates to essentially zero (the so-called zero lower bound, beyond which conventional monetary policy is obviously useless).
A limited amount of re-inflation itself is generally regarded as being a net positive to the recovery of an economy, especially after a debt binge such as we experienced in the 2000’s. The principle concern in this regard, however, is not to induce runaway inflation—something that is bad for a whole host of reasons that I do not need to go into here (especially because a majority of Euro-American economists and politicians appear to be preternaturally so afraid of inflation that one must assume that they all must know exactly why that is—or perhaps not, but I digress).
In any given developed nation, along with inflation, one would expect to see the value of that nation’s currency fall in relation to those of others that are not experiencing similar rates of inflation—thus furthering inflation in imported goods and making the inflating economy more competitive relative to those other countries. One would also then expect interest rates to rise in order to maintain levels of real (inflation adjusted) returns, thus getting things off the zero bound and back to normal.
The problem today is that, not only have conventional and extreme/unprecedented forms of monetary easing failed to restart brisk growth in developed economies, but massive monetary growth has not resulted in sustainable inflation, either. To be sure, there have been spikes in U.S., U.K., and European inflation (and slowing deflation in Japan—which is how you need to measure things over there), but they have arisen from expectations that quantitative easing would surely result in sustained inflation—not the actual thing itself.