unity without diversity is bad for everyone

It's not the size, it's the lack of diversity -- the world financial markets show us the risks of unity without diversity, and the 366 point drop in the Dow Jones last friday is just a taste of it.

There is also a risk in perverting the language that is not mentioned, as the term "hedge" used to mean "to make safer with a contrary bet" whereas today it appears to mean "to make riskier by highly leveraging the same bet".

Of course, once upon a time, a "bank" was a conservative, responsible place that had long-term plans and stability, not a place with a fortune that could rise or fall, as one shocked European banker noted, with the federal funds rate changing by one point for one quarter.

Here's the highlights from an article today that touches those points.

One World Taking Risks Together
New York Times
by Nelson D. Schwartz
Oct 21, 2007

HUGE financial losses in the United States spark fears in Europe.... the Panic of 1907, which culminated exactly 100 years ago today.

But this time around, it may take much longer to repair the damage and restore confidence than it did a century ago. It’s not only that the sums are larger now...It’s also that the breadth and complexity of today’s global markets create risks so great that no group of business leaders — or even a single country — can control them.

It wasn’t supposed to work this way. Interconnected global markets should make the world economy more stable, according to traditional economic theory, with risk spread more widely and strength in one region offsetting weakness in another.

“In practice, we’re not seeing that happening,” says Richard Bookstaber, a veteran hedge fund manager and author of a new book, “A Demon of Our Own Design: Markets, Hedge Funds and the Perils of Financial Innovation.”

Although international financial links are nothing new, as the Panic of 1907 shows, what’s different now is how closely international markets are correlated with one another.

“As markets become more linked, diversification doesn’t work as well.”

As a result, Mr. Bookstaber argues that today’s global financial markets may actually be more risky than in the past. That’s because the same types of investors are taking on the risky bets and then simultaneously heading for the exits when trouble comes, even if they’re on opposite sides of the world.

Actually, there's nothing wrong with this aspect of traditional economic theory, only with how well people read the book. Statistics says that the overall risk will go down if the individual risks happen independently - which is to day, it's a truly diverse world, where knowing what's going on in place A doesn't tell you what's going on in place B. And that is true.

But if everyone uses exactly the same strategy, the power of diversity reduces to the leaf-in-the-wind behavior of one individual, just with everyone else along for the ride.

This is also why tyranny doesn't work, and cannot work as a governmental system for very long, or why we see the same risks in "Theory X" companies that may be huge but really are only slaves of a few guys at the top with a big magnifying glass.

Diversity is not what unity must overcome - it is what gives unity strength.

An ecology with a single kind of plant in it will collapse as soon as the first virus figures out where lunch is located. Any global world with a single kind of thinking is equally unstable. This is a basic law of nature and statistics and cannot be overcome by wishful thinking or by anyone who was "right in the past."

Including diverse cultures and people in the decision-making process is not "accommodation" -- it is recognizing a case where all of us are actually much wiser than some of us.

It also illustrates the need for actually educating people so that they actually understand basic concepts and don't simply try to echo mindlessly what others are doing. Without "independent investigation of the truth", the system breaks down.

Again, let me refer to the basic principles held and advocated by the Baha'i Faith, as a set of guidelines I urge everyone to investigate independently. These are the kinds of things we should be studying in school.

Whether it is "race unity" or "unity of religions" the "unity" the Baha'is advocate is not the false "unity" achieved if everyone comes around to my point of view - it is the true unity that emerges from everyone keeping their independence on all but those things we need to stop killing each other and talk like adults about common issues.

It involves submission to God, not to some different self-appointed leader, and just enough civilization to have a "learning culture" that doesn't rip itself to shreds over the fact that the world appears very different to different people and at different times.

Global domination or "conquest" by any one nation or culture or way of thinking is a recipe for disaster, as the financial markets are telling us over and over. We do not all want to be clones of any one approach. Those who dream of global conquest are chasing a phantom that only exists in dreams, because simplifying any system that much will cause it to collapse.

That's the key lesson that we need to understand. Systems require diversity for the magic to work. You can prove it with math and you can simulate it on computers. Or we can keep on watching what happens around us when we try to deny that natural law - about like trying to deny the law of gravity.

This is just critical at this stage in nation-state development, where huge countries are in the middle of preparing for a massive confrontation over who will "dominate" the world. No one can "dominate" the world without destroying it and imploding. We are gearing up on a fool's mission that cannot possibly succeed for anyone. There will be no winners of that fight.

The reason world conquest has failed in the past is not that it was incomplete, but that it tried to be too complete. It squeezed the life out of all it touched with a unity without diversity. It didn't work not because of some error in execution, but because the whole idea is fatally flawed. It's impossible. It can't ever work, regardless how brilliantly executed. We need to let go of it.

So here's the take-away lesson.

All the frequencies matter. There's no point in reading the "news" if you don't spend equal time reflecting on the "olds", or you'll end up with a false impression of what's going on, really. In fact, as the Times article begins, we should have learned more from exactly 100 years ago friday and what happened then. Most of what is around us is actually more "old" than "new".

I remember watching two experts play the board game "Go" one day. Every now and then what looked like a surprise move would take a whole army and change the board. When it was over I comment on how much the board changed from move to move. They both looked at me baffled and replied that the board hadn't changed by more than half a point in the last 100 moves. I just wasn't able to see what was really going on by looking at what was changing. I needed to stop looking at the "field" and look at the "ground" instead for a while.

In regards to world conquest? To quote the "Whopper" computer in the old movie "War Games" -- "Hmm. Curious game. The only way to win is not to play."

(photo credit: moto browniano on Flickr)

The benefits of depression - on a social scale

Individual depression may have a benefit to the herd. If so, it may be hard-wired into our genes nd our social structures that reflect our genes as a preserved trait, and that changes how to treat it.

All organisms and organizations need immune systems to detect invaders or parts of themselves that have gone astray, so they can be marked for removal and eliminated.

In the body, one troublesome situation is that some cells or pathogens may get off into a corner, or inside a bone, or up against a steel plate, where they are hard to be evaluated and attacked, so they multiply. Another may be that they no longer recognize the authority of the body, and go off on their own doing something else. But, evolution has come up with one clever solution to this problem - namely, apoptosis or "cell suicide."

If a cell is removed from active, productive, working connection with the body, it is programmed to kill itself. It doesn't need to be found by the body's police force - it finds itself. No castle or moat or steel wall or bone can protect it, because the destruct system is already built in.

It may be than that evolution has similarly built in an "auto-braking" system into human physiology, so that, when a human becomes disconnected from productive interaction with the social body, the human slows to a stop and then shuts himself down.

This results in resources flowing primarily to social members still able to act energetically and confidently. Over time, those who care about interactions with the social body end up dominating the scene. (sources of "altruism"?).

But, what's that model say about treatment of depression?

First, it says that depression is a symptom, not a cause - and so treating depression with drugs to "cure it", while immediately helpful personally, from the social body's perspective is a bad idea -- in that it means that socially discordant individuals will continue to act badly and absorb energy and resources, and, if left unchecked in large scale, eventually the social body will die from a loss of cohesion and trying to carry the burden of all this non-productive tissue.

Second, it would mean that "depression" is not, in fact, a pathology - it is a very healthy normal response of a subsystem of the social body to a disconnection event. From a social point of view, it's good. In fact, the whole terrorist "problem" and the corruption "problem" could be viewed as precisely a breakdown in such a system: people who have turned against the social body should, many people would assert, self-destruct so we don't have to go to the very hard work of trying to destroy them ourselves. That would be very efficient if they'd just get really really depressed, then suicidal. It would be way more efficient than trying to locate them in caves somewhere on earth.

But, it brings to focus a different problem. If we use that model, then why is it that we now are looking at 20 or 30% of the US population that is depressed? And, have all these people broken the connection with the social body, or did the social body break the connection with them, or both in some sort of vicious circle? It may be that the cost of health care is rising because the body of the public is, in fact, becoming unwell. And, again, this may be a symptom not a cause, and masking it with drugs would be "quackery" - treating symptoms while the disease grows worse.

Well, the work of Robert Putnam ("Bowling Alone") and the Duke study (mentioned in myprior post on depression) would seem to indicate that connections are, in fact, deteriorating and rather rapidly. That begs the question of why this is happening, or how.

One possible hypothesis would be that the culture of materialism and self-centeredness, sustained and amplified by television, is causing people one by one to abandon their concern for society and become increasingly self-oriented, which is triggering the hard-wired fatigue and depression responses. The trend towards "Me first" or "Only me, forget you, Jack" is evident and widely discussed in the media.

Another possible hypothesis is that, collectively, whole groups of people, such as the rich or middle class, have turned their backs on and abandoned the poor, the 45 million without health coverage, the jobless, etc. This could cut both ways, both by making the ones cut-off from social life become increasingly depressed or anxious, and by making those who are doing the cutting-off also depressed, because they are losing the other end of the social connection.

In other words, class-ism and racism ultimately do as much harm to the holder of the destructive bigotry as to the group on the receiving end -- it just takes longer. That would predict that even some of the very rich - say Britney Spears or Paris Hilton, would end up extraordinarily unhappy. That's not proof, but it illustrates the point. Britney lost custody of her children to get what? Another drink?

There is a long literature on the harmful effects on the rich and powerful of exploiting, or neglecting the poor and the [apparently] powerless. By this herd model, the powerless actually have their own protection built into the DNA of the powerful, where it can and will be triggered as the powerful cut ties to the powerless.

This is certainly a core lesson of many religions of the world. "Do unto others as you would have them do unto you." The model seems to say that no "enforcement by an angry God" is necessary in fact - that the downstream result of the action of discrimination and superiority culture, both individually and overall, follows automatically from the action, and returns the favor, with interest.

So, if we boost the world, it will echo with amplification, and we will be boosted, and that becomes a self-climbing loop or spiral. If we cut off the links to the world, the world cuts off its links to us, which, surprisingly, we needed to continue to exist. If we actively exploit the outside world (think sub-prime mortgages) it will come back tremendously amplified and damage those who thought they could "get away with it."

This would imply that the same feedback mechanism and pattern might be true for cells, for individuals, for companies, and for entire nations or cultures.

For a company-sized organism, though, I've discussed the need for the "horizontal loop", the living feedback that Toyota calls "pull" that connects the company to the customers. Breaking this loop, as Comcast is described to be doing by many customers in today's Washington Post, may appear in the short run to be "working" and making more money than caring what customers think, but this model says that the resentment and social response is just building up steam and ultimately will come back with amplification.

It's a fairly simple model, but it seems to explain a lot of what we see going on around us. These "scale-invariant" patterns seem important to investigate to see if they hold up under more rigorous investigation. If so, we have some public policy and public health decisions we may want to rethink.

Religion and commerce (the Toyota Way) suggest the model, and system dynamics simulations show that some feedback with delay and amplification like this may be very hard to detect coming until it is too late. As with the Georges Bank model we ran in class, as the sustainable limit is passed and use turns into abuse, the fishing just seems to get better and better and the catch keeps rising as the fishermen build more boats until one day it is exhausted and it's simply over. We've depleted it entirely. The rising exponential plummets to zero.

There are almost no blatant clues this is happening. You have to understand what is going on to "see" it and realize it.

But it's up to Science now to take that suggested model and design careful experiments to test whether this is just an interesting analogy or the handle to some basic principle like gravity that we need to pay attention to. If the NIH or Business Roundtable won't fund it, maybe the John Templeton foundation will. Maybe a business "depression" bears more than a passing resemblance to a larger version of an individual "depresison."

Actually, MIT's John Sterman in his 1000 page textbook "Business Dynamics" lays out exactly how trying to push a company to grow too fast results in an apparent speed-up of profits, followed by a drop or crash, depending on exactly how it went. That implies that the villains of the corporate growth story are the stockholders themselves, from venture capitalists who demand 37% growth per year, to e-traders who chase the smallest fraction of a percent of a rate, punishing any CEO who pauses for breath or needed consolidation.

It also is a lesson for China, one that it is increasingly realizing, that growing too fast can be as much of a problem as not growing fast enough. Living things have natural growth rates, and we don't gain by trying to push them to do unnatural acts.

There's nothing wrong with wealth and prosperity, but vastly unequal and unjust accumulation of wealth by taking it instead of earning it does seem to lead to a "correction" that undoes all of the apparent progress and then some. Short-term greed is a very expensive pleasure, for it quickly becomes the long-run, and the bills come due. Without a deep keel, a culture and a social ethic that can hold off that temptation to maximize short-term gains, we can easily be led astray.

It's time to fund that research and let the data speak for itself. A reasonable search for counter-examples and contrary evidence is required. All models are wrong but some models are useful - so maybe this has merit regardless.

Lower the nose, boys!

The US economy is showing signs of instability.

This is not surprising, given what a bad mental model we have of how things work, and given the wretched way the MBA genius crowd is trying to increase wealth production -- or at least their own wealth.

To figure out what to do about that, it would help to know what the "that" is we're looking at. Let me simply ignore economics ("the dismal science") and pick a new model.

Consider a small airplane. I happen to be a pilot, so I'm familiar with airplanes, and they are great visual examples of the conceptual problems student pilots face -- which I think may be the same conceptual problems "we" have with the economy.

First, as I believe Dave Barry pointed out, there are in fact no "red and blue arrows" holding the plane up. Why planes fly at all is indeed somewhat mysterious, even to a physics major like yours truly. The books all show diagrams where the air flows faster over the top of the wing than the bottom, which causes suction to pull the wing upwards --- it says. The only problem is illustrated by the Citabria acrobatic airplane - a nimble little plane that has a completely symmetric wing. The air flows above and below are identical. And, the plane flies as well upside-down as right-side-up. So much for theory.

What is very solid, however, is costs. You can't get around the cost of energy. If you want to go uphill, it's going to cost you energy, period. That's pretty solid. We can rely on that rule.

So, if you want a plane to climb, you have to supply energy. Period. There are no exceptions, at the scale of people.

More altitude will cost you more energy. Period. No exceptions.

So, if you are flying along happily at cruise speed, and you decide now you'd like to climb, you have two immediate choices that appear to work. Which one is best?

• a) Pull back on the control wheel, or
• b) Hit the gas and spend energy.

Clever test takers already will know that the correct answer is (b) -- hit the gas and spend more energy. And, in fact that's correct. The control to change in order to gain altitude in an airplane is the power setting. You hit the gas pedal, or in a plane, the throttle, in order to climb.

Whoa, this doesn't seem right to new pilots. Why not just pull back on the "stick" or the plane's steering wheel, pull the nose of the plane up, and climb that way?

The answer is that, in physics, there is no free lunch. Yes, if you pull the stick back, and pull the nose up, the plane will climb -- for a while. Where's the energy coming from to do that? It's coming out of your savings account - your speed. Yes, you can convert the kinetic energy of speed into the potential energy of height -- for a short time. The more you climb, the more it costs you, and the more your speed falls.

That, however, cannot go on forever, or even very long. As your speed falls, so does your "lift", that is, the mysterious thing that holds the plane in the sky in the first place.

If you persist in this foolish, newbie way of trying to climb for free, and think you have found a loophole in the laws of physics, you will be in for a rude awakening. At some point, as the speed falls, your plane will start to experience squishy controls, and seem to become unresponsive, then it will start shaking and a very loud buzzer alarm will go off telling you what is about to happen. And, if you persist past those warning signs, your "lift" will abruptly and catastrophically fail. The air flow over the wing will transition from smooth to turbulent and, you will transition from being a plane to being a rock with a pasenger. This is known in aviation as "stalling" the aircraft. (It has nothing to do with the gasoline-powered engine, but everything to do with the energy account "engine").

In other words, the plane will, basically, simply fall out of the sky. If you are very fast, you can shove the nose DOWN, point it at the ground, and reverse the process, pulling energy out of the altitude checking account and putting it back into your speed savings account -- and then, when the air flow is good again, you can pull the nose up back to level flight and recover and let your adrenaline settle down. Of course, you will have lost several thousand feet of altitude, or,
if you started too low, you are now dead. This is known as "stall recovery."

So, what are the lessons here? If you're going fast, you can cash in some of that speed and use it to pay for some altitude, but this is a very short-term solution. It's great for small corrections, or avoiding obstacles like trees. It's a loan, not a free ride.

The only way to climb and not fall out of the sky is to increase power, and pay the bills. Planes do not understand "deficit financing." You can't climb now and pay later, maybe.

Anyway, with that model in mind, look at the economy and the recent behavior of the stock market. One senses that the whiz-kid geniuses have discovered that, if you pull back the stick, you can get the market to climb! Wow! And they did that in a huge way, sucking the real energy out of the economy in an ecstatic ride upwards - possibly wondering on the way why no one else had ever thought of this clever solution before.

In point of fact, they had "discovered" that, with a credit card, they could buy all sorts of things, apparently unlimited, and not have to pay for them! Suddenly the country goes a few trillion dollars in debt, while the stock market soars, and they are just so happy that they have "created wealth."

Ahem.

Then comes the bill. Not only has all the loose capital been taken out of the market, but it's been sucked out of all the companies that need cash to operate, and sucked out of all the families that used to own houses that they now live in but, in fact, have already spent and are just waiting for the knock on the door telling them "You are now homeless. Get out."

Oopsie.

The question now, in that model, is whether the whiz kids will, as newbies always do, "pull the nose up even more", or push the nose down rapidly and pick up some speed again, at a major cost in altitude. The "climbing" it turns out wasn't really earned, it was just borrowed, from a lending agency that doesn't take "No" for an answer when the bill is due.

So, in looking at the stock market, the question is whether this model is applicable. Since 1995, have we created a huge amount of new wealth -- and PAID FOR IT by spending more energy, or have we created the appearance of wealth, the illusion of wealth, by cashing in the actual economy's health and momentum and converting it to "height" of the Dow Jones over the ground.

The one process - climbing by paying for it, can run until you "run out of gas".
The other process, climbing by cashing in health and momentum, runs out of steam and then is no more. All gone.

The recent efforts by airlines to push planes to 100% capacity, or 105% capacity, seems eerily like new student pilots desperately pulling back on the stick even more, as they notice that their speed is dropping, and even though the engine is running and the nose is pointed up, in fact the altitude is dropping.

I'm not sure about industrial health. My sense from the number of layoffs and watching the Big-3, now Big-2 auto companies fall to Toyota, is that things are not well there. I am sure about individual-level health of the US population, and that is plummeting, even before their mortgage payment jumped 40% in one month. Obesity, stress, diabetes, fatigue are all soaring.

It does have some signs that the economic whiz kids are trying to kick up the market and create wealth, and "climb", by sucking all the energy and momentum and health out of our normal operating "flying speed." It does appear that the process has reached an unstable point where there are lurches downward, like yesterday's 280 point drop in the Dow Jones average.

This is not good.

The hard part is recognizing the problem, and giving up a lot of that altitude to get back flying speed. The alternative, in that model, is crashing and giving up all the altitude and the flight.

The question is, how much of the stock market and economy's rise since 1995 is due to actual value added and new plant, equipment, training and other hard "capital", and how much is fluff due to exactly the opposite -- selling off everything of value, firing the older experienced workers, and pretending that cash flow was "income."

The GDP, Gross Domestic Product computation doesn't make the distinction between real income and pretend income. The fact that the GDP is growing tells us nothing about how sustainable that growth is, and whether a deal with the devil was made to obtain it.

Regardless, laws of physics win. If it's earned wealth, we can keep it. If it's borrowed wealth, like the nice 4000 square foot house in a nice suburb, we are going to have to let go of it, or it will let go of us.

If that model's right, that is. Like all models, the analogy gives us something to look for and think about, and doesn't "prove" anything. It's the looking and pondering that has the value.

Maybe we conclude "that model doesn't apply." Fine. Maybe we conclude "Hey, that model does apply." Either way we've learned something and have a better idea what we need to do next.

references:
Standard & Poor Price/Earning Ratio Historical Trend - 1943 to present.
http://www.lowrisk.com/sp500pe.htm


Shiller's data - just showing the P/E ratio history since 1880. (chart at the
start of this post).


Robert J. Schiller (author of "Irrational Exuberance")
http://www.econ.yale.edu/%7Eshiller/data/ie_data.htm

Bloomberg Data to 4/2006
(also at top of post)

2007 Data from bull and bear wise
S&Poor 500 chart (not P/E, just the index)
from Yahoo Finance.