Monday, August 15, 2011

Yves Smith: Why "business needs certainty" is destructive

Why "business needs certainty" is destructive
By Yves Smith

If you read the business and even the political press, you've doubtless encountered the claim that the economy is a mess because the threat to reregulate in the wake of a global-economy-wrecking financial crisis is creating "uncertainty." That is touted as the reason why corporations are sitting on their hands and not doing much in the way of hiring and investing.

This is propaganda that needs to be laughed out of the room.

I approach this issue as as a business practitioner. I have spent decades advising major financial institutions, private equity and hedge funds, and very wealthy individuals (Forbes 400 level) on enterprises they own. I've run a profit center in a major financial firm and have have also operated a consulting business for over 20 years. So I've had extensive exposure to the dysfunction I am about to describe.

Commerce is all about making decisions and committing resources with the hope of earning profit when the managers cannot know the future. "Uncertainty" is used casually by the media, but when trying to confront the vagaries of what might happen, analysts distinguish risk from "uncertainty", which for them has a very specific meaning. "Risk" is what Donald Rumsfeld characterized as a known unknown. You can still estimate the range of likely outcomes and make a good stab at estimating probabilities within that range. For instance, if you open an ice cream store in a resort area, you can make a very good estimate of what the fixed costs and the margins on sales will be. It is much harder to predict how much ice cream you will actually sell. That is turn depends largely on foot traffic which in turn is largely a function of the weather (and you can look at past weather patterns to get a rough idea) and how many people visit that town (which is likely a function of the economy and how that particular resort area does in a weak economy).

Uncertainty, by contrast, is unknown unknowns. It is the sort of risk you can't estimate in advance. So businesses also have to be good at adapting when Shit Happens. Sometimes that Shit Happening can be favorable, but they still need to be able to exploit opportunities (like an exceptionally hot summer producing off the charts demand for ice cream) or disaster (like the Fukushima meltdown disrupting global supply chains). That implies having some slack or extra resources at your disposal, or being able to get ready access to them at not too catastrophic a cost.

So why aren't businesses investing or hiring? "Uncertainty" as far as regulations are concerned is not a major driver. Surveys show that the "uncertainty" bandied about in the press really translates into "the economy stinks, I'm not in a business that benefits from a bad economy, and I'm not going to take a chance when I have no idea when things might turn around."

The "certainty" they are looking for is concrete evidence that prevailing conditions have really turned. But with so many people unemployed, growth flagging in advanced economies, China and other emerging economies putting on the brake as their inflation rates become too high, and a very real risk of another financial crisis kicking off in the Eurozone, there isn't any reason to hope for things to magically get better on their own any time soon. In fact, if you look at the discussion above, we actually have a very high degree of certainty, just of the wrong sort, namely that growth will low to negative for easily the next two years, and quite possibly for a Japan-style extended period.

So why this finger pointing at intrusive regulations, particularly since they are mysteriously absent? For instance, Dodd Frank is being water down in the process of detailed rulemaking, and the famed Obamacare actually enriches Big Pharma and the health insurers.

To Read the Rest of the Essay

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