Bye Bye Blospot... On to a New Location

If you're one of the two people that stumbles across my blog this week, please note that I'm now hosting and writing at a new location:

www.freemarketvoice.org

It's a WordPress-based blog now - a little more functionality and better authoring tools. Sometimes change for the sake of change is a good thing. See you over at the new blog site...

Monkeys & the Housing Bubble

Good news - monkeys would have taken option ARM and pay-as-you go mortgages too:

For more about Human Irrationality, check out Dan Ariely's blog and his book - Predictably Irrational.

Equilibrium Economics & DSGE

Many thanks to Greg Mankiw for posting the link on his blog to Robert Solow's prepared statement to the House Committee on Science and Technology Subcommittee on Investigations and Oversight - “Building a Science of Economics for the Real World."

I didn't realize it at the time, but I was introduced to the field of DSGE (Dynamic stochastic general equilibrium modeling) economics in part last year at the "Stimulus SmackDown: Can Deficit Spending Save the Economy?" hosted at the University of California - Davis where Michele Boldrin expressed his view from the vantage point of equilibrium economics, of which DSGE is a branch.

Why is does this matter?

Along with other explicit reasons to mistrust DSGE as a viable economic theory, Solow explains:

The only way that DSGE and related models can cope with unemployment is to make it somehow voluntary, a choice of current leisure or a desire to retain some kind of flexibility for the future or something like that. But this is exactly the sort of explanation that does not pass the smell test.

Much of today's political approach to economic cures focuses on reviving the Keynesian/government intervention approach. Robert Solow developed the Solow Eocnomic Growth Model (yes, that Solow...) and his economic standpoint falls on the opposite end of spectrum from Keynesians and New Keynesians.

It's reasonable to generalize about economic conditions and accept that there will be gaps and holes in describing how economic events and policies affect each individual participant. There's certainly no accounting for taste (as microeconomists often state) and how participants respond or are affected by each new macroeconomic condition may in fact change each time because of amultitude conscious and sub-conscious factors weighing decisions. While noble, the notion that modeling macroeconomic activity as a construct of measured individual decisions emits a certain arrogance that individual human behavior can be predicted and subsequently controlled through economic policy.

Solow, Friedman and scores of other free market economists have long shown the positive effects of less government intervention and empowering individuals to make their own economic decisions. While some will choose poorly and even irrationally, the aggregate optimizes their situation with any set of given constraints. Most importantly, I simply want the liberty to make such decisions. It's just not possible to predict how the individual, on an individual basis, will respond to conditions at any one point in time.

The complexities of individual choice border on infinite and have long been articulated. Nobel prize winner Hebert Simon published his paper "A Behavioral Model of Rational Choice" back in 1955 (and even used the housing market to illustrate his point...).

I'm not suggesting that DSGE economists are seeking to control behavior, but a general Keynesian approach that includes modeling nearly infinite variations for individual players just doesn't seem right.

The Social Media Monopoly

Interesting article on Wired today - 5 Thinks That Could Topple Facebook's Empire. It's fun and easy to create this lists - 5 things that..., 10 things that... - but thought-provoking nonetheless.

Terms on a patent are 20 years, but businesses of the Facebook sort are difficult to make patentable, let alone enforce any legal restrictions on design or usability. (Ask Apple how that went with Microsoft a few years back.)

This effect shrinks the window of opportunity for a company like Facebook to capitalize on their monopoly and create an infallible social network medium. But, infallibility is more of a quixotic notion that one borne in reality. Technology companies with enormous market and mind share are constantly getting nipped in the heels by direct competitors or emerging niche players in the very same industries that the Facebook-like companies helped to create - Skype with other VoIP providers or eBay with UBid, ePier, atOncer... Heck, even Facebook took over the social media space created by previous players like MySpace (remember them?).

Facebook has been around a while and still emits a feeling that it's still in start-up stage. Monopoly power is a good thing - that's what drives entrepreneurs to create new products and services because of the clear profit motive. Would be a shame if they missed their profit opportunity but waiting too long to capitalize.

Rational Optimism - Matt Ridley on TED.com

How humans' ability to conceptualize and capitalize on gains from trade leads to economic and societal progress:

http://www.ted.com/talks/lang/eng/matt_ridley_when_ideas_have_sex.html

Ridley references one of my favorite economics lessons from Uncle Milty - The Story of the Pencil - though he fails to cite Milton Friedman on the idea... Found that rather disappointing.

(Thanks to Paul Kedrosky's blog post for pointing out this video presentation.)

Recent Housing Bubble reads

Just finished reading "The Big Short" by Michael Lewis - a nice explanation of CDOs and their contribution to the housing bubble. Lewis takes a head-shaking-you-won't-believe-this-happened viewpoint than Gregory Zuckerman's "The Greatest Trade Ever." (Zuckerman takes more of the holy-crap-you-won't-believe-that-this-Paulson-guy-figured-out-the-trade! approach.) Lewis only mentions John Paulson and his hedge fund once in the entire book that I can recall.

Both are worth the time. Makes me want to draw up an org chart of the key players just to see the direct and dotted lines to the whole thing.

Mad Props to Southwest Airlines

This showed up in my inbox this afternoon.

Greetings from Southwest Airlines:

I’m sorry that we were unable to get you to the terminal promptly and off the airplane quicker after your flight arrived at Denver on April 11. Unfortunately, your gate was occupied by another LUV jet that evening that was taking a little longer than we expected—we appreciate your patience during this situation. Naturally, we’d like to provide you with better travel experiences; therefore, I am sending you a LUV Voucher that can be applied toward a future Southwest reservation. You can be sure that we are looking forward to welcoming you back again real soon.

That. Is. Awesome.

Howard Dean, Fiscal Conservative?

I was fortunate enough to attend the ASF 2010 Working Lunch, pretty good rubber chicken with a side of CNBC's Larry Kudlow moderating between Howard Dean and Newt Gingrich. Much to my surprise, Howard Dean appeared to show signs of fiscal conservatism and the willingness to speak with candor and criticisum about the Obama administration.

Couple of memorable points (paraphrased):

• "You can't have capitalism on the way up and socialism on the way down." - Newt Gingrich when about about US government invention into the financial markets.
• "I'll let Newt save his modesty - he's running." - Howard Dean answering for Gingrich when Gingrich was asked if he was gearing up for a 2012 Presidential run.
• "No way." - Howard Dean when asked by Kudlow if Hillary Clinton was preparing to oppose Obama in the 2012 Democratic primaries.
• "There's a 50/50 chance that the Republicans will pick up a majority in both the House and the Senate in the 2010 mid-term elections." - Newt Gingrich
• "About 45 Senate seats and 30-40 House seats." - Howard Dean's perspective.
• Dean & Kudlow agreed that they would not have re-appointed Ben Bernanke to the Federal Reserve. Gingrich said he would have.

Much to my own surprise, and maybe more to my initial disappointment, I found Dean to be lucid, intelligent, and seemingly likable. Gingrich has a knack for explaining complex issues with ease.

There was lots more said between the two throughout the 1:30 discussion, but the rest focused on the economy, unemployment, and health case. Nothing earth-shattering that you wouldn't expect to hear from either side.

I have a hunch that these two like and respect each other in real life. TV interviews and media outlets typically showcase the animosity between any two individuals of the two parties, but it seems that these two could sit down over a bottle of scotch for a complex, civilized, philosophical conversation about the ways to approach societal, government, and economic challenges. They don't hate each other - just mostly disagree on the basic way to approach issues. Maybe that is what I learned the most.

An Appreciation of Milton Friedman

I got into a Facebook conversation yesterday about capitalism and greed, and immediately thought about this excerpt of the Phil Donahue show, interviewing Milton Friedman back in the 1970s:

http://www.youtube.com/watch?v=RWsx1X8PV_A

And as is the beauty of YouTube, I also found this episode of the Charlie Rose show, taped just a day after Milton Friedman passed away a couple years ago. Great stuff:

http://www.youtube.com/watch?v=-pbHo_fQCFg&feature=fvw

"Inflation is a monetary phenomenon..."

The Venture Capital Market

There's a wonderful blog conversation ongoing between Paul Kedrosky and Fred Wilson on the optimal number of venture capital firms. To summarize, both advocate for a reduction in amount of capital and number of VC firms participating in the market.

Check out Kedrosky's post from this week - Fred Wilson and the Venture Capital (Non-)Cartel and Wilson's - The Venture Diet is Working.

I look at it from a market standpoint, driven by supply and demand. But like a good economic analyst, I've got more than two hands...

1. Good firms will survive and poor ones will exit. The challenge though is the slow speed of entry and exit in the VC market. Firms can take years to raise capital from investors, then need time to evaluate eventual investments, then ride them through to exit. Unsuccessful firms that enter the market take years to display their incompetence, so the market is stuck in the intermediate term with an over supply of VC firms and capital. Overall, you'd think that's a good thing for entrepreneurs - more investment money chasing fewer projects. But, VCs are not a commodity product - each have their advantages and strengths that abet entrepreneurs in their drive to successful exit. This means that entrepreneurs need to examine their options more closely - more money and more favorable terms doesn't always mean the best deal.

2. Maybe the challenge is not an over-supply of VC firms, but a dearth of investment targets. Are we out of good ideas? I'd say no way this is the case. There are always plenty of good ideas in today's global marketplace, with that number rising exponentially as countries like India and China gain increased access to technology and build a economic infrastructure that supports the development of new technologies to replace the old.

3. Market inefficiency could be an explanation - there isn't enough communication between aspiring entrepreneurs and VCs. I don't think this is the case either - VCs get hundreds of business plans submitted every week and "investable"start-ups only going to develop in markets with access to communication nodes and infrastructure that provides clear awareness and access to the existing VC firms.

4. Or maybe it's that the venture capital model is no longer relevant for a majority of emerging companies. Back in December 2008, I wrote that venture capital is moving "up the ladder." As deal size requirements get bigger and bigger, that means that the exit opportunities must be bigger and bigger. There's limited room for the mega-exits, so that means that more and more start-ups are seeking smaller investment amounts funded by angel investors, leaving the formal venture capital firms with fewer investment opportunities. Bigger exit requirements also mean smaller rewards for company founders and early-stage team members that accept venture capital. That makes the whole idea of funding with VC less attractive. Altos Research is bootstrapped, profitable, and quickly growing (gasp!). Our company founders never wanted to use VC as a vehicle for precisely this reason (and others...).