Unavoidable Consequences of Regulation

Among the many interesting points that John Allison made in his excellent book, The Financial Crisis and the Free Market Cure, is that the regulators consistently favored the banks with risky behavior and failed approaches over the successful ones. The deposit “insurance,” the bailout, and the “cures” all reward the failures and punish the successes. This point is even clearer when Mr. Allison discusses the events after the crisis. BB&T was forced to lower, that’s right, lower its capital reserves by the regulators. It was forced by the regulators to change its decision making structure to conform to that in the failed banks and give up a process that had been a significant strength in the bank. The regulators were not interested in success. They were (are) interested in the politically required, currently popular priorities of the non-elected, politically appointed heads of their agency. The regulators were attuned to what the leaders in Congress wanted, not what the market demanded or what was good for the success of the bank or the service of the bank’s customers. This process of political fads is called having a social conscious.

But this is the way it has to be. For a regulator on site to see that a bank is functioning well and is controlling risk he would have to be able to think clearly, independently, and have a good knowledge of banking. None of those characteristics make good regulators. At the very least, the regulator is a bureaucrat who applies regulations. He knows those in detail and by name. His frame of reference is his superior and the head of the agency, not profits or efficiency of the business he regulates. He can’t care about what happens to the business and continue to be a regulator. He doesn’t consider cause and effect except in regard to his agency. He does not know if the regulations will work or not, or care. He doesn’t care about the success of the bank he regulates, only that it not fail worse than the other banks. He doesn’t want to stick out.

All of this is clear from Mr. Allison’s book. It is clear to me from my experiences in the securities business. Talk to your friends in regulated industries. Talk to anyone who has tried to start a new business, or put up a commercial structure.

The Fate of U.S. Banks Is Our Fate

One wonders what politicians and current government-oriented economists think banks are. Ask them to define the concept, banks, and what could come out? Ask them what function they perform in the economy, the private economy, and what would they say? Then, there could be a difference between what they said and what they thought to themselves.

I expect that politicians and the Fed sees them as big piles of money, you know, something like bank robbers view them. Piles of money to loot or to use as influence for their political gain. They don’t view banks as having a particular identity that is necessary for the economy because they believe that they can force the banks into any shape they want and nothing particularly important will happen. Banks are toys, to be played with. Or, banks are whipping boys and every stroke makes the politician look good to the electorate, you know, the mob. The mob hates banks, and has for centuries.

It is my understanding that for a while, primarily in the 19C, some bankers in the U.S. were respected by many people. The name that comes to mind is J.P. Morgan, and his family. Today there is only an echo of that respect left. A PBS program I saw recently ascribed to Morgan a through going desire for power (undefined). That is bad for a banker apparently (but good for Obama).

Before the residential real estate mortgage crisis, banks were very heavily regulated and influenced. Now, the level of government control has gone up dramatically in the Western World. The worst step is Dodds-Frank. Even there I think that few of us, including myself, have but a superficial understanding of how destructive that law will be. It is probably the equivalent of what ObamaCare is for medicine.

But banks are vital for our economy, for an advanced, industrial, integrated economy. Finance, credit, routing of capital, are vital functions in our economy and banks are the number one tool used in those markets. There are a few others, e.g., venture capital funds, hedge funds perhaps, but they are small potatoes compared to the size and range of activities that are banks. To cripple our banks is to cripple our economy.

For the purpose of saving our economy and avoiding disaster, healthy banking is far more important than the size of government spending.

Again, as we have learned from Ayn Rand, and as I have said before on this blog, our first priority for our survival as individuals is freedom, which is the removal of controls and regulations.

Overspending, i.e., the creation of government debt, can kill us, yes. But the only way we win out and survive as men is through freedom. Learn about what is happening. Attack regulation.

Economic Predictions in News Media

Have you noticed the headlines and articles about economic data, things like the unemployment figures and growth rates, that often include references to predictions by a group of economists? The headline will say, “New jobs exceed expectations!” “Growth rate falls below predictions.” What predictions? So what?

I have seen no complete explanation of where these predictions come from. In a couple articles I have read, the author has offered a one or two sentence note to give some credence to the prediction, but nowhere I have I seen any statement about why the expectation has any meaning or what that meaning could be.

From what I can tell, the set up is something like this: A news company has contracted or at least asked several economists, presumably people with the appropriate background, who will periodically provide their expectation as to what the figures in soon to be published reports will be. This practice is used in at least a few different countries.

Which economists are used isn’t mentioned or if they are academic, government, or private economists. Nor has any mention been made about what methods of prediction are being used by any individual predictors.

One reporter mentioned that the news company did drop extreme predictions, i.e., ones that were considerable different from the majority of responses from the predictors. Otherwise, the process seems to be that when the responses are in, the news company averages the numbers, and that becomes the standard for evaluating the real number when it is announced.

One wonders if the predictors are evaluated in any way. For example, if one economists consistently offers numbers that are way off or always in the wrong direction, would he be stricken from the list? Should there be any weight given to the predictor is usually closest to the real number? One wonders if there is any consistency between the methods used by the various economists offering predictions. If one, for example, uses the Mystery 8 Ball, another uses a computer model based upon the proportional orbits of the planets, and a third uses a model based upon Keynesian precepts, what could it mean to average the predictions? That is an extreme example (who in their right mind would use Keynes?), but if everyone’s methods were inconsistent, what would an average mean? What would any comparison of answers mean?

But the real thing is that the meaning of the prediction is the opposite from what the news organization suggests. What should be happening is an evaluation of the method and underlying reasoning for the prediction in comparison to the real numbers, i.e., reality (assuming that the “real numbers” are themselves generated by a rational method). If the predictions by a particular method and theoretical framework consistently provide a figure reasonably close to the reality then the validity and truthfulness of the theory is supported. Possibly, if the theory is consistently correct in its predictions, then that particular approach could be used in the future for predictions for some reason. But that still wouldn’t support the present news organization approach. You certainly wouldn’t take a poll.

But the relation of the real number to the prediction means nothing. The relation of the two provides no knowledge about the consequences or importance of the real number.

No one should care. (Well, except the economist who truly wants to understand the economy.)

An Implication of The DIM Theory for Activism

One important element of the philosophy of Objectivism is that it has a purpose: that of living as a human in this world. Each insight of Objectivism has implications about what a man should do to achieve happiness and prosperity.

The DIM Theory is an excellent application of philosophy, and, in the breath of its reach, it is fundamental in understanding how philosophy underlies a culture. I think that it has implications for us.

I want to expand the response I have seen to Dr. Peikoff’s book. From what I have seen, the idea is that LP has given us a prediction and we now sit and watch to see if it proves out. LP makes clear in the book’s closing pages that he isn’t suggesting giving up and that his prediction isn’t a mathematical certainty, but other than clarifying who our ultimate enemy is, people have acted as if there is nothing more to say.

I disagree. I think that the book, in its identifications of fundamental movers of cultural change, has given us a greater understanding of what we should be doing. Our actions to mold our culture should be amended by what we learned from LP. Our activism needs to include a specific purpose to be more effective.

By activism I mean action (meaning attempts to persuade) taken to change the culture, which I think should include actions taken to keep things together long enough for cultural change to occur.

Dr. Leonard Peikoff’s (LP) theory is that the fundamental fact of a culture is its attitude towards integration, i.e., concept formation and the structure of knowledge. Consequently, to change a culture, one has to change its mode of integration.

The approach to integration is in turn based upon the culture’s intellectual leaders position on two philosophic issues: the nature of reality and how man acquires knowledge. If one understands correctly these two issues, one will be lead to a rational, i.e., reality based, method of integration.

It follows then that the direct approach to changing a culture is to address these issues: integration, existence, and reason.

The proof for this conclusion is in The DIM Hypothesis and the writings of Ayn Rand and LP. I do not look at my reasoning as deductive despite appearances.

To apply the implication of LP’s insight requires much thought. I regard what I have to say as a small beginning.

In most cases, addressing the fundamental questions isn’t beneficial. In other words, don’t preach. It is often enough to push rational integration, LP’s I mode, by example, i.e., by referring to reality, facts, and at least implying that thought, a process is necessary to understand an issue. It won’t help to be too subtle. The implication has to be clear.

One way to do this that comes to my mind is to always concritize. Refer to facts connected with an abstraction, and point out that one without the other is meaningless.

My thought is that one should include some aspect of the fundamental issues in every written or spoken statement. You need not always refer to integration. Including the independence and absoluteness of physical reality or the requirement of a rational thought process would also be valuable.

I do not mean to say that addressing issues of rights, morality, government activities, and irrationality in general aren’t worthwhile. I am saying that the more the issues affecting cultural change are included in your arguments, the more impact our efforts will have.

Misallocation Leads to Training for the Wrong Jobs

I will be pointing at various excellent observation made by John Allison in his recent book, The Financial Crisis and the Free Market Cure. There are many. Several provide expanded insights into the effects of government intrusion into the economy. A favorite of mine is that one of the elements of the misallocation of investment in a welfare state is the training of people for the wrong jobs. The example in the crisis discussed in Allison’s book is the people trained in house construction. Way too many houses were constructed, meaning we had way too many people employed in that sector. They should have been employed and trained in some other occupation. Instead, we have lots of carpenters, bricklayer, etc., who then found themselves unemployed. When they looked for work, they tried to find a job doing what they were trained to do, but few if any employers needed those skills. To find a new job they need new skills, new training, somehow. Possibly many of these people are the ones who have given up in finding work and are no longer counted as part of the labor force.

The worker who choose to become a construction worker because of the plentiful work (at the time) choose to do so because government policy and manipulation of the economy gave him false information. You can’t expect someone in this country to see through all of the mess and realize that being in construction was a bad idea. Further, seeing that it was a bad idea and looking at things in the correct light does not provide the information necessary to decide what a good course of action would be. (This would be the context of someone who has not yet decided on a personal goal and career. Even then, the amount of earnings one’s goal could achieve is a rational consideration, and the welfare state economy does not provide good information.)

As Ayn Rand said, the government is the cause of unemployment, and one of the ways the result occurs is by the misallocation of investment.

The DIM Hypothesis is an Example of Philosophy as Science

Ayn Rand often called philosophy a science. We know that when she did not use allegory in her writing about fundamental ideas. When she said science she meant science, not “science,” or science like. She called physics and biology “special” sciences. They studies selected, well-defined aspects of reality. Philosophy studies reality and man in the broadest respect, but with the same cognitive framework, tools, and criteria of proof as any science. Philosophy is knowledge, and is acquired like all knowledge is: by a specific process called induction, i.e., using reason on the material provided by our senses.

Dr. Peikoff’s methodology is explicitly as rigorous as any, rational scientist. When one takes into account the context within which he is working, he is as exact as one could be.

His aim in the book is to demonstrate that there is evidence for his hypothesis and that his conclusion is warranted, i.e., is proven, as much as existing evidence allows.

He then states that his theory could be disproved if the results resulting from the theory do not occur. If a prediction fails to occur, the error is in the theory or the proof, not reality. (There are potential events in the real world that could prevent the prediction of an M2 dictatorship, but they would be consistent with the theory and its recognition of man’s free will.)

The DIM Hypothesis is a scientific book. To think about it any other way is to miss the point and not understand the power of its conclusions. Being scientific, being objective, using reason is a process of acquiring knowledge. Specific applications that use more precise tools applicable for the subject matter aren’t more scientific or have conclusions with any more significance or intellectual power than other branches of knowledge. They are merely a different context and allow greater precision.

Philosophy sets the standards for all branches of knowledge, including applied philosophy. There are few books or arguments recognizing or using philosophy as a science. It is a sign of man’s failure to grow and his willingness to accept nonsense.

Objectivity and Knowledge: So Vital

Nothing like stating the blindingly obvious, right? It is to me, and, hopefully, to my readers. Of course, it also depends if you understand objectivity as a connection to reality and knowledge as the integration of what is provided by that connection, which is known by very few today.

I am reminded of the importance of objectivity and knowledge in considering the relative virtues of three of my favorite books on the 2007 financial crisis. I recommend all three. Each has its own virtue and benefits to the reader. But, one book is in a different class because of the objectivity and knowledge of the author. He is an accomplished businessman and a serious student of Ayn Rand’s philosophy, Objectivism.

The difference between the books written by economists and journalists and a banker can be huge. The difference is especially large when neither the economist or the journalist actually understands what it means to understand and know a subject, i.e., to know it objectively – tied to reality. This is the difference, in today’s culture, between a person whose method of thinking is objective, subjective, or intrinsic (the corresponding order would be a banker who understands their subject, the journalist who thinks anything goes and there is no actual truth, and the economist who thinks that laws themselves are part of reality and thus his ideas float). Obviously, only one of these three has a sound grasp of the morality of the individuals they write about.

The book by the journalists, Reckless Endangerment: How Outsized Ambition, Greed, and Corruption led to Economic Armageddon by Gretchen Morgenson and Joshua Rosner, does offer a well-researched account of some parts of the crisis, which is to say that they are trying to be objective. But they have no clue about several issues: how banking functions, how regulators function, how a functioning economy works and why, and what is morality. Consequently, at times they make wildly impossible accusations, misrepresent events, and hold the innocent accountable (they do point at some truly guilty people, too, which is one reason the book is worth reading). If you don’t have a better understanding than they do, the book may lead to some poor conclusions. (You could recommend this book if it was read after the other two books.) In that the book offers a lot of information that wasn’t published before, you do learn important details.

Then there is Meltdown by Thomas Woods, who is an economist with a foundation in modern Austrian economics (post-Hayek, libertarian). He also makes many very good points. His understanding is better than that of the journalist, and although he has some obvious intrinsicist leanings, he makes no real bloopers. He is known to be religious and believes in self-sacrifice, which results in a rather flat support for the capitalist economy that he sees as better than the command economy. His justification is the benefit of the consumer. He tends to ignore the businessman. It is also worth reading because of the details he offers of the crisis and his decent understanding of the economics. But when compared with someone with an objective understanding of the crisis, it is obviously deficient.

So, the place to begin, and the one to read whether you have or have not read any other book on the crisis, is John A. Allison’s The Financial Crisis and the Free Market Cure. Mr. Allison has done the work to understand what objectivity means, i.e., connecting one’s ideas to physical reality. He also has years in the banking industry. Thus, he offers a fact based, conceptual analysis of what happened, why, what the consequences are, what the supposed cures are that Congress and the regulators imposed, and what we should actually do about it. This is what real explanation and analysis should look like.

Allison concretizes important points: the impact of regulation; the attitude and style of regulators; the destruction of independent action by the banker; the elevation of political pull over the blindingly obvious; etc. Ayn Rand and her followers have been asserting the destructive nature of government controls for decades. In this book are some specifics.

In future posts I will mention some of John Allison’s observations.