Broken Symmetry

R.I.P. Paul Samuelson, the Isaac Newton of Economics

From Ed Glaeser:

Mathematics doesn’t substitute for genuine insight or knowledge of the real world, but it is necessary if economists are going to craft logically coherent models of complex phenomena. While many mathematical models failed to predict the current downturn, plenty of non-mathematical seers also failed. If we ever do come to understand the vicissitudes of asset markets, that understanding will come in the form of formal mathematical analysis, ultimately inspired by Samuelson.

Glaeser's eulogy also hints at how the time may be ripe for a revision to Samuelson's Foundations:

If people can rank outcomes in terms of their desirability, and if they choose one outcome over another, then people have preferences. (Who can disagree with that?) And if, as Samuelson taught us, those preferences follow a few simple rules, then human behavior can be described with a utility function. That conclusion allows economists to turn to Newton and optimization theory.

The principle of revealed preferences results in a mean-field approximation of individual preferences. The incremental step beyond mean-field theory is gauge theory, and this is why the Coase Theorem and New Institutional Economics are more relevant now than neoclassical theory. What NIE has lacked thus far is a theoretical foundation equal in rigor to the foundations Samuelson laid for neoclassical theory.

Samuelson was like Newton also in that he brought his gifts to bear on solving practical problems for his country. Newton completely redesigned the Royal Mint, caught some of the worst counterfeiters, and advised on how to end a 17th century version of the carry trade, which was draining England's royal coffers. Samuelson led the Federal Reserve through several financial crises and advised countless students in high places on economic issues that affected billions of lives.

Not everybody makes this big a dent in history.

Homophily and Mimetic Desire

From Rene Girard:

My work has often been presented as a discussion of archaic religion through comparative anthropology. Its goal is to shed light on the process of hominization: the fascinating passage from animality to humanity that occurred thousands of years ago.

In all of this, my hypothesis has concerned mimesis: Because humans imitate one another, they have had to find a means of dealing with contagious similarity, which could lead to the pure and simple disappearance of their society. The mechanism by which they have done that is sacrifice, which reintroduces difference into a situation in which everyone has come to resemble everyone else.

Seemed topical given the recent post on homophily and influence.

See also this earlier post relating mirror neuron's to Girard's theory of mimesis.

The Dark Side of Systems Theory?

From Ben Heineman at the Harvard Law corporations blog:

An important question raised by the story–and, of course, the broader, deeper trend of using mathematics and systems analysis to “understand” complex human behavior–is whether, before they have deleterious effects, emerging theories and products and ideas can be advanced with a strong measure of humility and put in the context of complex human society, where some key factors exist that cannot be quantified. Will the already potent but ever-emerging “numbers” class have the broad education and training to understand the “benefits” but also the “limits” of all this numbers crunching?

...

As is well known, McNamara was a part of a World War II “systems analysis” team at Defense, led by Tex Thornton, a “whiz kid” who rose to the top of Ford Motor and a civilian technocrat who brought a powerful systems orientation to the Pentagon in the early 60s. While this approach certainly had relevant application to an attempt to rationalize the Pentagon’s corpulent competition between the Army, Navy and Air Force, it became famous in the Vietnam War when numbers like body counts, targets hit, enemy forces captured, weapons seized, tons of bombs dropped, and hamlets protected were used to argue that the war was being prosecuted successfully. The origins of the war were not in systems theories (rather, to take one strand, a belief that monolithic Russian-Chinese Communism would overrun Southeast Asia). But those theories played an important part in convincing McNamara and President Johnson that the war could be won and, therefore, in deepening our involvement, resulting in tragedy both for the U.S. and for Vietnam.

Thirty years later, McNamara declared in his book (positions repeated later in the award winning documentary, “Fog of War“) that, although his aspirations were idealistic, “we were wrong. We were terribly wrong.” Among his “lessons” about the causes of the Vietnam mistake: “our profound ignorance of the history, culture and politics of the people…[the failure] to recognize the limitations of modern high technology military equipment.” After McNamara’s death, the historian Michael Beschloss wrote: “McNamara knew little about Southeast Asia, and made no conspicuous effort to learn more. His penchant for numbers left him ill-equipped to understand that some human motivations cannot be quantified or predicted. As a result, he drastically underestimated the Viet Cong’s determination.”

Go read the whole thing. Models are maps. Having accurate maps is always useful. But maps don't tell you where to go, why you should or shouldn't, or what to do when you get there.

Feedback Loops at Stanford

From Steve Blank's series on the Secret History of Silicon Valley:

The close tie between the two labs was a unique aspect of the Stanford Lab. Stanford had a Customer Development loop going on inside their own lab. The discoveries in tube and circuit research suggested new electronic intelligence and countermeasure techniques and systems; in turn the needs of the Applied Lab pushed tube and circuit development. With the Applied Electronics Lab Stanford was becoming something akin to a federal or corporate lab run under university contract. The university found government contracts profitable as the government reimbursed their overhead charges (their indirect costs.) This means they could fund other non-military academic programs from this overhead.

Judge Posner's Question about Hayek, the Austrian School, and Interventionism

From his response to comments:

Members of the Austrian school of economics such as Friedrich Hayek argued that depressions can arise from unsound monetary policy--a policy that forces down interest rates, creating an artificial boom. Obviously I am sympathetic to that argument. But my impression (no more than that) is that, at least in the 1930s and perhaps still, Austrian economists do not advice any interventions designed to stop a depression--they regard the depression as just punishment for the unsound policy that precipitated it. That seems to me to give too little weight to the immense costs that a depression can impose on a society. But I am no expert on the Austrian school, and invite correction.

I'm hoping Cafe Hayek or ThinkMarkets will weigh in here. Click through to see my own comment.

Do Good Fences Make Good Neighbors?

Why, yes, they do.

There's a debate among academics in patent law now over whether patents create an anticommons (or "gridlock") problem. The debate tends to assume without proving that there would not be a worse commons problem were patent rights peeled back to disable the system of exclusive rights to technology that developed in the 19th century in the United States.

But patent rights weren't the only property rights that were secured for the first time in the 19th century United States. In fact, the invention of barbed wire (itself patented) contributed to a dramatic decrease in the costs of securing real property in the 19th century. And to what effect? Richard Hornbeck reports:

This paper uses the introduction of barbed wire fencing to the American Plains in the late 19th century to estimate the effects of property rights on farmers' production decisions. Farmers were both formally and informally required to build fences to secure their land. From 1880 to 1900, the introduction and universal adoption of barbed wire reduced the cost of fencing, relative to wooden fences, most in counties with the least woodland. Over that period, counties with the least woodland experienced substantial relative increases in the improvement intensity of farmland, the value of farmland, and the productivity and production share of crops most in need of protection. This substantial increase in agricultural development appears to reject increased security of property rights due to barbed wire fencing. Some states' previous efforts to reduce the need for fencing are not found to have had similar effects, however, suggesting a difficulty protecting property rights in sparsely settled areas through legislation and the court system.

Why would state-enforced rules not work as well? See Robert C. Ellickson and Coase. (Still not transparent? See Calabresi and Melamed.) And note that patents are more like barbed wire than like state legislative efforts to shift the costs of fencing to herd owners (described in the paper).

If this seems like ancient history to you, then consider the fact that our government is going to have to learn how to be 100x more efficient with its tax revenues over the next few decades if we are to avoid insolvency.

Here's another interesting point: Ellickson found that even barbed wire was too expensive to be worthwhile in close-knit communities of ranchers and farmers like Shasta County, California.

Vintage Steve Blank

If you're not reading his blog, you are missing out. Every post is priceless. Here's a bit from his latest:

When I was at Zilog, the Z8000 peripheral chips included the new “Serial Communications Controller” (SCC). As the (very junior) product marketing manager I got a call from our local salesman that someone at Apple wanted more technical information than just the spec sheets about our new (not yet shipping) chip. I vividly remember the sales guy saying, “It’s only some kid in field service. I’m too busy so why don’t you drive over there and talk to him.” (My guess is that our salesman was busy trying to sell into the “official” projects of Apple, the Lisa and the Apple III.)

Zilog was also in Cupertino near Apple, and I remember driving to a small non-descript Apple building at the intersection of Stevens Creek and Sunnyvale/Saratoga. I had a pleasant meeting and was as convincing as a marketing type could be to a very earnest and quirky field service guy, mostly promising the moon for a versatile but then very buggy piece of silicon. We talked about some simple design rules and I remember him thanking me for coming, saying we were the only chip company who cared enough to call on him (little did he know.)

I thought nothing about the meeting until years later. Long gone from Zilog I saw the picture of the original Macintosh design team. The field service guy I had sold the chip to was Burrell Smith who had designed the Mac hardware.

The SCC had been designed into the Mac and became the hardware which drove all the serial communications as well as the AppleTalk network which allowed Macs to share printers and files.

Some sales guy who was too busy to take the meeting was probably retired in Maui on the commissions.

Capitalism and Culture

A brilliant player wants a referee, for only when the game has appropriate rules can he really show his talents. While the sports of baseball and football haven't changed much in the last century, the economy has -- and American financial regulation hasn't had an overhaul in 70 years. The challenge for the Obama administration, along with the U.S. Congress and our SROs, is to invent a new and better American version of the capitalist game.

-Akerlof and Shiller in the WSJ on April 23, 2009.

Human history has been blighted with dark ages in which our games were little different from the games played by animals in the jungle. Eat or be eaten. Might makes right. During these dark ages, drawing a short straw on health or wealth in the birth lottery meant a life sentence of hunger, ignorance, and fear. A lifetime of hard work was often not enough to guarantee a person her own welfare, much less the welfare of her children.

Civilization writ large can be understood as an effort to redefine the rules of engagement we knew in our ancestral environment. At some moment in time long ago, two competing groups of people either explicitly or implicitly agreed not to kill each other in competing for scarce resources. We will never know exactly what this first agreement looked like, but it is at least plausible that it would have substituted combat for some other form of a competition -- a competitive game. Each group could hold the other accountable to the rules of the new game by the implicit threat of mutually destructive violence should cheating be found. Cheating, and hence violence, did not and have not disappeared as a result of new games being adopted. But as Robert Axelrod demonstrated first with Tit-for-Tat, the individuals or groups that adopt a default strategy of cooperation (or in this context, playing by the rules), reserving punishment only for cheaters, over time outperform other strategies in nearly any local environment. In other words, human civilization evolved to play formal games, games with symbolic rules and procedures agreed in advance.

This shift from chaotic violence to the order of symbolic rules and procedures has had ramifications far beyond mere escape from violence. In the negative space created by the escape from violence, there was room for individuals and groups to develop the knowledge and skills useful to learning and experimenting with strategy in the formal games. Strategies for winning became overlaid on the rules and procedures, and on the commitment to play by the rules and procedures. So long as the agreements that formed the lower layers of this hierarchy of rules remained stable, there was opportunity for individuals to earn reward and recognition from their group by proposing winning strategies. Over time, reward and recognition began to flow to the individuals who were better equipped to learn, analyze, and make strategy rather than the individuals who were more likely to have won in an environment of violent chaos.

This shift in reward and recognition itself was a source of conflict within some groups. It was probably easier for groups to give rewards and recognition to the individuals who came up with winning strategies when those individuals were also the strongest warriors. But over time, as symbolic rules replaced chaotic violence, the coincidence of these traits became less necessary. One choice for the strong bodied but weak minded was to try and impose their own violent order on the group. But when that option failed, it only made it less likely to be attempted in the future. Another was to leave and found another group. This strategy was risky, but more likely to succeed over the long-term should the founding of the competing group be successful. Depending on the fecundity of the new group relative to the old, the new group might overwhelm the old with shear numbers, thereby imposing a violent disorder.

But somewhere over the course of human history, perhaps toward the end of the Dark Ages, it seems that the cooperative groups picked up enough momentum to squeeze the more violent groups into the cracks and crevices of global civilization -- into place like Papua New Guinea, for example. And once the creative power of these cooperative groups was unleashed, it began to transform the face of the earth. Not since Greece and Rome has so much art, music, architecture, law, and technology been developed so fast.

Within this new, non-violent order, the rules of the game themselves have been subject to evolution. Not only are we playing a game rather than killing one another, we are constantly looking for better games to play. Cultural evolution is evolution within evolution. Capitalism is a game that everybody can play, although like any game there will be winners and losers.

[MFM Note: I had most of this post together in April and didn't like it. I circled back around today, made a few edits and am now posting. Comments are welcome. This is a little diffuse even for me.]

Whom can you trust?

From Clay Shirky:

To describe the world before or after the spread of print was child’s play; those dates were safely distanced from upheaval. But what was happening in 1500? The hard question Eisenstein’s book asks is “How did we get from the world before the printing press to the world after it? What was the revolution itself like?”

Chaotic, as it turns out. The Bible was translated into local languages; was this an educational boon or the work of the devil? Erotic novels appeared, prompting the same set of questions. Copies of Aristotle and Galen circulated widely, but direct encounter with the relevant texts revealed that the two sources clashed, tarnishing faith in the Ancients. As novelty spread, old institutions seemed exhausted while new ones seemed untrustworthy; as a result, people almost literally didn’t know what to think. If you can’t trust Aristotle, who can you trust?

Our notion of credibility and authority is changing in fundamental ways because of the Internet.

Large-scale structure of time evolving citation networks

By E. A. Leicht, Gavin Clarkson, Kerby Shedden, and M. E. J. Newman.

As the plot shows, there is a marked trend for the average age to increase in step with the passage of time. This is precisely the behavior one would expect if the top authorities in the network are remaining the same as time goes by. Every once in a while, however, the plot shows a sudden and precipitous drop in the average age, indicating that a much younger set of vertices have, in a short space of time, taken over as the new leaders in the authority score rankings. Thus the plot indicates a repeated pattern in the evolution of the network in which a certain set of vertices—certain cases considered by the Supreme Court—remain the top authorities for substantial periods of time before being swiftly replaced by a different set. One example of such a turnover can be seen in Fig. 8 around 1900 and a smaller one around 1940, dates that, as we have seen, correspond roughly to the beginning and end of the Lochner era. Another very large dip in the curve occurs around 1970.

Available here. The authors don't say so in their analysis, but the associated graph suggests a mechanism of self-organized criticality.

How Silicon Valley Came to Be by Timothy J. Sturgeon

A chapter of this extraordinary history available here:

The animosity between RCA and Globe Wireless was quite strong. As Ralph Heintz put it: "We [Globe Wireless] were a monkey on [RCA's] back, because we had a mechanism of handling [radio] traffic across the Pacific that they seemed unable to stop. They tried to harass us by having Western Union refuse our traffic in every conceivable way" (Heintz 1982). In 1937 RCA again filed suit against Globe Wireless for patent infringement. Heintz, fed up with RCA harassment, constructed a series of "breadboard" demonstration sets to compare various vacuum tube technologies that could be used to send and receive radio signals. One set was based on the deForest patents, which RCA controlled. The other sets were based on technology that RCA did not own the patents on, including those owned by Larson (Norway), Vreeland (USA), Simpson (USA), and Goddard (USA). These patents, plus others held by Heintz, covered the technology on which Globe's system was based.

Heintz asked his friend and classmate from Stanford, Frederick Terman, to appear in court as a technical expert. Donald Lippincott provided legal advice. When the day in court came, the request to have Heintz's "breadboard" sets entered as evidence was accepted by the judge. When the six RCA patent attorneys realized that losing the case could jeopardize RCA’s entire patent position, they immediately approached the bench and asked that the suit be withdrawn (Heintz 1982).

Notice how complex the interplay of patent rights is in this story.

Happy 100th Birthday Silicon Valley! Thanks, Steve Blank.

Just in case readers of this blog have not already discovered Steve Blank, please go and read his posts on the Secret History of Silicon Valley here. These are off the charts as far as blog posts go.

I always had been curious about how Silicon Valley, a place I had lived and worked in, came to be. And throughout my career as an entrepreneur I kept asking questions of my VC investors and friends; Where did entrepreneurship come from? How did Silicon Valley start? Why here? Why now? How did this culture of “make it happen” emerge, etc. And the answer came back much as it did in my past jobs; Who cares, get back to work.

After I retired, Jerry Engel, director of the Lester Center on Entrepreneurship, at U.C. Berkeley Haas Business School was courageous enough to give me a forum teach the Customer Development Methodology. As I was researching my class text, I thought it would be simple enough to read up on a few histories of the valley and finally get my questions about the genesis of entrepreneurship answered.

Phase Invariance and Scheduling

I've been doing quite a few teleconferences with folks in the Far East lately, but have yet to develop that ability to think in terms of their time when scheduling things. In fact, I'm in that rather awkward in-between point in the learning curve in which my mind is aware of the issue, but often reacts in unpredictable ways -- for example, by scheduling one day ahead on our time rather than on theirs.

A few weeks ago I was reading a book about Venetian opera during the middle ages. It's not as random as it sounds -- the book, titled Song and season : science, culture, and theatrical time in early modern Venice, takes its time in first explaining the mechanisms for tracking time on a daily, weekly, and monthly basis before diving into its thesis about how this affected Opera. (Sorry to the author, I didn't read that part!)

Venice had and has a beautiful clock tower, the orologio, which synchronized the activities of Venice's inhabitants on a daily basis. Venetians in that period did not have the option of owning their own watch and keeping their own time -- watches hadn't been invented yet!

The geography of Venice, circumscribed as it is by the lagoon, meant that nearly everybody living there could hear the orologio when it tolled. Interestingly, in Venice the length of the hours changed with the seasons -- summer hours were longer than winter hours. In the Middle East, the day was divided into twenty-four equal length periods that began at sunset. In Venice, the night was divided into twelve equal length periods and the day twelve equal length periods. Thus, the hours were longer in Venice than in Jerusalem during this period.

Humans are diurnal animals. I wonder if the reason why timekeeping methods varied is because Venice was further from the equator than most Middle Eastern countries? A natural test of this hypothesis could be made by studying the timekeeping practices of far northern cultures in Finland or Iceland. I will have to do this at some point.

But the connection to scheduling teleconferences with the Far East is this: just as Venice's clock tower permitted for the first time for the activities of people in a decentralized area -- a city -- to be synchronized, the invention of modern computers and telecommunications have permitted for the first time for the activities of people around the world to be synchronized. I believe that this fact, as much as any Ricardian theory of comparative advantage or other economic theory of gains from trade, is part of the explanation for the explosion of growth with globalization.

Part of what makes this observation interesting is that it has instrumental value -- i.e., it suggests prescriptions for promoting growth that aren't as easily seen from the existing economic models.

For example, if we want to promote efficiency, perhaps we should think about making time more flexible to accommodate the biological needs of an organization of diurnal people. Maybe working longer hours in the summer and shorter hours in the winter is a better way to keep people working productively over many years.

As another example, perhaps it would be useful to have a tool that helped us to visualize how people were experiencing time differently from us around the world. I'm thinking of a globe with pushpins for everybody on our team and a sun and moon casting their shadows onto the globe so that we can actually -- see -- how time is evolving the same way for all of us.

It might bring us closer.

A.N. Whitehead on the Greatest Invention of the Nineteenth Century

The greatest invention of the nineteenth century was the invention of the method of invention.

From Science and the Modern World. Why was the method of invention perfected in the nineteenth century? Might it not have had something to do with the Patent Act of 1836? Or was it not reinvented in the U.S. in the nineteenth century?

Patents and Guilds

Part of the ancient history of patent law is that guildsmen who had received patents on their work in Venice helped spread the idea of patenting throughout Europe. Via Peter Klein at the Organizations and Markets blog, I found this interesting book review by patent historian Christine MacLeod of a new book on the influence of guilds on innovation in medieval Europe.

Until recently, Adam Smith’s condemnation of craft guilds as “a conspiracy against the public” has implied that the juxtaposition of “guilds” and “innovation” is an oxymoron. That this no longer so is thanks to three decades of lively revisionist scholarship, which has seen guilds rehabilitated as significant political and cultural institutions, especially by historians of pre-revolutionary France.

Because guilds are a historical antecedent to a diverse set of modern institutions (including labor unions, startups, standards-setting organizations, and R&D labs) this is a review worth reading. 

Consider this tidbit, which suggests that priority disputes were being decided in France long before the first Interference proceeding in the United States.

For, while most contributors offer examples of guilds passively accepting product innovations and even new processes provided they were labor- or skill-intensive, Pérez shows the Grande Fabrique (Lyon’s powerful silk guild) taking great pains to actively promote and disseminate them. French guilds generally were in tune with the “enlightened” state’s policy of promoting innovation through offering financial incentives. Yet, Lyon was demonstrably “the most technologically innovative city in France” (p. 242). In its quest to forestall secrecy and private appropriations of knowledge, the Grande Fabrique mobilized various local institutions to validate inventions and assess appropriate levels of reward; it instituted a public repository of models; and it paid bonuses in proportion to the number of new devices sold to Lyon weavers. Ultimately, however, such interventionism proved not merely unnecessary but possibly counter-productive: Pérez points to the bitter contests over priority and “unfair” reward that erupted.

What happened to BountyQuest?

Several news sources are running stories today about a startup called Article One, which apparently will offer prizes to third-parties who submit invalidating prior art in pending patent disputes.

Some readers may recall that a company called BountyQuest was offering a similar deal a few years back. A visit to their website suggests that BountyQuest has morphed into a prior art search firm.

Good prior art searching is not easy, requiring a reasonable familiarity with both case law and the technology claimed. I am skeptical that anybody with these skills is going to be enticed into doing work for a prize rather than a more traditional pay arrangement.

In general, there has been too much exuberance for "crowdsourcing" problems that require skills and knowledge that only a small, easily identifiable and reachable subset of the population is likely to have. Nothing times nothing is nothing. A million people with only a little understanding of how to read claims are not going to do better than a hundred who have spent twenty years doing the same.

The Snowball by Alice Schroeder

Like many folks in business, Warren Buffett is a personal hero of mine.  I love reading the annual reports of Berkshire-Hathaway, and pay close attention whenever Mr. Buffett speaks about current events. Thus, it was a pleasure to read this comprehensive, authorized account of Buffett's life, including both his career as an investor and as a father.

There are many lessons that could be learned by vicarious study of Buffett's life. I will mention only one because it ties in with an earlier book review I wrote about Carol Dweck's excellent book Mindset.

Buffett started working at a very young age, selling packs of gum door to door, and even buying stock before he was yet a teenager. And he kept at it, even as he experienced a number of serious, potentially career-limiting setbacks along the way. Carol Dweck would say that Buffett is a primo exemplar of the "growth mindset." While Buffett says that he "tap dances in to work everyday," it is not true, of course, that he does no hard work. In the aggregate, he's probably spent more hours, days, months, and years studying financial statements and meeting with people on the frontlines in a given industry than any other investor alive today. What his attitude reveals, however, is that he probably also enjoys these activities more than any other person alive today. Where most of us hit our point of diminishing marginal utility reading financial statements and stock analysis after a few hours, Buffett had them stacked up in the backseat of his car on his honeymooon.

It takes sacrifices, however, to cultivate an interest so unilaterally. And Buffett's personal life has not been a picnic at times, although he has largely succeeded in the Herculean effort to keep it all together. Would Buffett have diversified more in how he spent his time had he to do it all over again? It's a pure hypothetical, but I wonder how he feels about things now looking back.

Cooperation is the Source of Economic Growth and Intellectual Property is the Next Evolutionary Step

In a submission published on the Creative Capitalism blog, I cited Adam Smith as a source for the claim that cooperation is the source of growth from within an economy.  Strictly speaking, Adam Smith doesn't make this claim.  What he does observe is that successively finer divisions of labor are a source of growth:

And that voluntary exchanges give rise to incentives for the division of labor:

But Smith leaves mysterious the answer to the next obvious followup question (i.e., "from whence does the desire for exchange arise?"), saying only that it has something to do with "the faculties of reason and speech":

It's important to try and answer this question because what the question is really asking is why do people choose to cooperate with each other.  Anybody is qualified to speculate on this question, but if we want to do so with the aid of scientific theory, today we might turn to evolutionary biology for answers.  (Actually, even in Smith's day animal behavior was a source of inspiration to economic thinkers as Mandeville's Fable of the Bees demonstrates.)  Why do humans cooperate?

Humans are not, in fact, the only species characterized by individual cooperation.  In The Happiness Hypothesis by Jonathon Haidt, Haidt identifies hymenoptera (ants, bees, wasps, &c.), termites, and naked mole rats as other independent examples of where cooperation has evolved in the animal kingdom.  Interestingly, however, in each of these other examples the animals are cooperating only with their kin.  In each case, the reproductive mechanism ensures that only kin are part of the social circle of cooperation.  Obviously, the line of evolution that led to human cooperation isn't characterized by only kinship cooperation (although kinship bonds are obviously still an important part of that cooperation).

We probably won't ever know the answer to the question of why humans choose to cooperate, although I find some religious ideas to be compelling.  But at a social level, answering the question is less important than realizing that it is the important question -- i.e., that cooperation is ultimately the source of growth within an economy.

Recognizing cooperation as the most important metric for growth permits us to reanalyze the traditional arguments for and against various forms of government, for example.  Traditionally, the argument in favor of democracy has been that it promotes "freedom," which is implicitly understood to be constitutive of individual happiness.  Conversely, collectivist forms of government promote "equality," which is similarly understood to be constitutive of individual happiness.  Traditional arguments cannot be resolved so long as each side adheres to its view of how individual happiness is best promoted.

But consider how happiness might be measured after a conceptual ascent from individual to group happiness.  Instead of the traditional arguments over whether "freedom" or "equality" is the more important to promoting happiness, we might agree that group happiness will always be some function of the amount of cooperation within a society.

On my view, this is a very useful way to rank different forms of institutions within society, and one that does not split up along traditional democratic vs. collectivist lines.  Instead it offers a rather compelling account of how authoritarian, democratic, collectivist, and ultimately (classically) liberal forms of government are best in different social environments.  Authoritarianism and democracy work best in smaller kinship circles, collectivism works best within groups with shared and sharply contrasted ideologies.  Classical liberal government ultimately is the best form of government because it permits the most widely dispersed and diverse forms of cooperation (for example, through market mechanisms) to flourish.

Last but not least, if cooperation is the source of economic growth, and classical liberal institutional designs are the best way to foster large-scale, long-term cooperation among diverse and widely dispersed people, then strong property rights are the best means for encouraging cooperation when the costs of identifying and transacting for a resource are small compared to the gains from trade.

As I have argued several times on this blog, the advent of the Internet, search algorithms, and online databases of patents means that inventions are now in this category of resources for which strong property rights make sense as a means for encouraging cooperation.  Abraham Lincoln was only a 150 years ahead of his time when he predicted that the patent system would usher in the next major stage of human progress.  

Precursors to Public Choice Theory

Interesting piece on Arthur Fisher Bentley and his work in the New Yorker.

“The Process of Government” is a hedgehog of a book. Its point—relentlessly hammered home—can be stated quite simply: All politics and all government are the result of the activities of groups. Any other attempt to explain politics and government is doomed to failure.

Mark Sanders explains the Lincoln Conjecture

Via Dane Stangler at Growthology, I found this article connecting Kuhnian paradigm shifts with Schumpeterian creative destruction.  It's a connection with intuitive appeal.  Author Mark Sanders distinguishes "fundamental" from "instrumental" knowledge as sources of new opportunities for entrepreneurs.  "Fundamental" knowledge is knowledge of why things work (e.g., fire is a chemical reaction that requires oxygen and hydrocarbons).  "Instrumental" knowledge is knowledge of how things work (e.g., adding fuel and blowing on fire makes it burn hotter).

There are several interesting insights offered by Prof. Sanders.  But here's the one that caught my eye this morning:

[S]cience and fundamental knowledge are quickly replacing learning by doing and instrumental knowledge as the main source of opportunity for commercial innovation.

He doesn't speculate on why this is so (that's not the point of his article), but it seems easy enough to see that improvements in communication and transportation technology basically eliminated the competitive advantage of instrumental knowledge for entrepreneurs.  Trade secrets could be kept safely for decades in an era before wireless communication and cheap and easy travel.

Could this be part of the explanation for why Abraham Lincoln identified the patent system as the next major stage of human progress?  Despite the transactions costs, we need property rights to extend to intangibles in order to permit decentralized coordination of entrepreneurial activities in an era in which trade secrets no longer provide decent returns on investment.

As an aside, the comparison between Schumpeter and Kuhn is interesting when considered in conjunction with a working paper I have posted on SSRN on how certain doctrines of antitrust and IP (namely, the essential facilities, reverse doctrine of equivalents, and Feist originality doctrines) can be used to switch from property rules to liability rules when dealing with natural monopolies.  I hadn't considered it before, but the more I think about it, the more I like the idea that Schumpeter and Kuhn are both concerned with fundamental ideas that create natural monopolies for a product or idea over the time period between when that product or idea is pioneered and when the next pioneering product or idea comes along.

In general, it strikes me that Schumpeter and Arrow are really describing the same sort of competition, but with Schumpeter emphasizing its temporal aspects and Arrow its spatial.  Put the two together and you get an evolutionary model of competition, messier to model but more accurate as a description.

Martin Wolf is a Genius

I've been too busy investing time in my favorite new venture.  But for those hungry for more discussion of institutional design, go read Martin Wolf's penultimate post on the Creative Capitalism blog.

[A] company is viewed in the Anglo-American world as a bundle of contracts. But companies are also social organisms created by a highly gregarious mammalian species with a unique capacity for large-scale co-operation over time and space. Companies have cultures and histories. For many of those most closely associated with them, they also have (and offer) a certain meaning. Committed workers in successful companies do not work in order to maximize shareholder value or even to earn the largest possible living. Indeed, it is impossible to direct most companies solely by the goal of profit-maximization. (Goldman Sachs may be an exception.) They have to be aimed at the intermediate goal of producing and developing goods and services that people want to buy and are worth more in the market than they cost to produce.

Mr. Wolf's post basically maps out a new research agenda for academics interested in corporate governance and organizational theory.  Regular readers will appreciate how Broken Symmetry has been scratching at the surface on some of these issues for a while.  But Mr. Wolf deserves our kudos for tying things together in less than 1,000 words.  Only a handful of people in the world have a broad enough view of the history of culture and law to be able to make such pronouncements.

Baird on Coase on Knudsen: Revisiting the History of Ford and Venice

A few years ago I listened into a podcast of Douglas Baird sharing his paper, In Coase's Footsteps, via the Chicago Law Faculty Blog.  I was particularly interested in his discussion of how it was human capital that had given Ford its comparative advantage.  Baird traces the Coase Theorem to research that Coase did while an undergraduate on the manufacturing processes at Ford and GM.  Baird pinpoints William Knudsen as the source of know-how at both GM and Ford:

Central to bringing this about was replacing the person in charge of production in the Chevrolet division with “the best production man in the United States,” a man named William Knudsen. Knudsen was empowered to make dramatic changes at Chevrolet, and he did exactly this. Knudsen divided the production of automobiles into two largely separate operations. First there was the manufacturing of the basic components, such as the engine, the transmission, the wheels, and so forth. Second, there was the question of assembling the component parts. Knudsen was convinced that efficient production required a dramatically different approach to each. (page 6)

This history is mostly consistent with the historical discussion in Waddell & Bodek's, Rebirth of American Industry, but it leaves out some facts that may be important.  At least as Waddell & Bodek tell it:

[Knudsen] played no part in the development of the Ford manufacturing process that was exploding at Highland Park while he was at remote plants.  That he was a sound manufacturing man was certain, and he had good business acumen, but he was not an expert in the Ford manufacturing system.  At best, he was an arm's length observer.

In 1920, Knudsen left Ford on friendly enough terms and went to work for Chevrolet.  He did a good job there and eventually rose to senior management at GM, but he in no way implemented the Ford system.  Assembly lines were not the Ford system, they merely looked like Ford.  In fact, just about everyone implemented assembly lines soon enough, and they did not need former Ford people to do it.  Knudsen, Chevrolet and everyone else failed to implement the management system that drove the creation of assembly lines; and that was the system that drove almost zero defects and an intense focus on cycle time.  Assembly lines without quality control and short cycle times were not the Ford system.

Waddell & Bodek don't in this passage give a complete account of how the difference in incentives caused by a focus on both cost and cycle time were key to Ford's success.  But that is the main message of their book.

Consistent with their observations, I thought it was interesting to see that the same independent tracking of time and cost was done in Venice in the 15th and 16th centuries

Commercial ventures entangled people in projects with different time returns, so that a kind of hook-and-eye weave of them all into a common undertaking was the result.  The republic governed all this activity with rules ensuring continuity and conformity of rules.  Weights and measures, value of goods, maintenance of quality, gave deals and products a sameness over the years.  Frederic Lane notes how the extensive use of double-entry bookkeeping made people think in terms of complex equations, holding together separate investments with overlapping periods of completion.  Investment partners of different ages and status made contracts binding them together, and any one merchant normally had a web of such engagements...

Time had a special significance for the city that traded so widely through different cultures and varying customs.  The merchant of Venice had his mind on climates far off, on products being matured in countries widely scattered, on the weather favorable for war on sea or land, on the times for sending precious cargoes upriver or down the Adriatic, on the holy seasons setting calendars elsewhere.  Time was fungible.  The constraint in  this wide spectrum of juggled schedules and calendars was the time of Venice itself, marked by recurring festivals, varying day lengths, unvarying liturgies.  Precisely because Venetian time formed a continuum, ways had to be found for measuring its different aspects.  In the tapestry of Venetian time, bells daily rang the hours for devotion and business, astrological phases marked the months, allegorical figures made vivid the four seasons of the year and the three ages of man, ecclesiastical ceremony haloed special times, and saints' feast jostled each other in the dense stream of passing days.  Edward Muir notes that time itself was elastic in Venice: "Through its power to arrange ritual life, the government attempted to impose its own political concerns on the cosmos by restructuring time, which was still in the Renaissance a comparatively flexible dimension defined by the saints' feast and the office hours of the Church rather than by the inexorable mechanisms of the modern age.  The length of an hour in Renaissance Venice, for example, varied according to the season; so time was truly relative."

From Venice: Lion City, by Garry Wills.

Time is now measured with subatomic granularity.  Should not our institutions be more accountable for how they use time than were the Venetians'?

Movement of Kanbans = Periodicity and Synchronization of Cycles

A kanban is a measurement of the smallest unit of demand within a discrete cycle of production.  I've been reading on Wikipedia about kanbans and the Toyota "pull" system of production:

In contexts where supply time is lengthy and demand is difficult to forecast, the best one can do is to respond quickly to observed demand. This is exactly what a kanban system can help: it is used as a demand signal which immediately propagates through the supply chain. This can be used to ensure that intermediate stocks held in the supply chain are better managed, usually smaller.

Hmm... with the cost of energy what it is right now, might this not be a better way of organizing production?  Is it really necessary for us to push big batches within production based entirely on forecasts anymore?

But why does this work?  It works because you can tune the flow of kanban -- i.e., you can increase or reduce the number of kanban available to move from one step within the production cycle to another.  In the limit of one kanban, there is no waste of materials or labor at all (assuming that the various steps within the production cycle are perfectly synchronized).  Limiting the number of kanban within the system reveals visually where flow is blocked because of asynchronicities.

Notice that a set of financial statements that reported both the time-series and frequency spectrum of debits and credits associated with each balance sheet account would provide at a glance a visual display of how responsive a firm was to demand (both in terms of cost-efficiency and time-efficiency).

According to historical reports, the Venetians working at the Arsenal were able to build an entire navy vessel over the course of an evening dinner in a display of their manufacturing skill to a visiting dignitary.  I guess Ford's Highland Park plant used to turn out Model Ts with less than 3 hours of labor due to advances in synchronized flow.

Milton Friedman the Liberal

There has been some academic controversy over the legacy of Milton Friedman of late.  The University of Chicago has announced the opening of a new institute, and some left-leaning faculty are concerned that this will upset the ideological equipoise that the University of Chicago has sustained for so long.  It's an important thing to be worried about.  But it's too bad that these folks think of Friedman as "right-leaning" or "conservative."

Here's what Gary Becker said of his former teacher's public policy agenda shortly after his death in 2006:

I will discuss instead several ideas in his remarkable book, Capitalism and Freedom, published in 1962, that contains almost all his well-known proposals on how to improve public policy in different fields. These proposals on based on just two fundamental principles. The first is that in the vast majority of situations, individuals know their own interests and what is good for them much better than government officials and intellectuals do. The second is that competition among providers of goods and services, including among producers of ideas and seekers of political office, is the most effective way to serve the interests of individuals and families, especially of the poorer members of society.

Are these two fundamental principles conservative or liberal?  I don't think so.  The reason that Milton Friedman is perceived to be a conservative is because he lived and worked through the post-World War II era in which everybody in power believed that central planning, especially through government, was the answer to social problems.  Anybody who has actually read Milton Friedman knows that he understood that there was a legitimate role for government.  Chapter 2 of Capitalism and Freedom is entitled "The Role of Government in a Free Society."  For Milton Friedman, freedom and government were not mutually exclusive!

We live in a much different era.  Thanks to the Internet and globalization, there is no longer a debate about whether centrally planned or decentralized institutions are the better way to organize people.  Decentralized institutions are, in fact, the only way to organize people on a global scale, over a long period of time.  I believe that if Milton Friedman were alive today, he would be excited about Creative Capitalism, and interested in the idea of rethinking the way we allocate and reallocate scarce resources through property rights (like patents) and contracts (like corporate charters).  On my view, he would have been against any reductionist view of the purpose of private institutions.

In this regard then, Milton Friedman was not a conservative, but a liberal.  Here's what he himself had to say about his liberalism:

Beginning in the late nineteenth century, and especially after 1930 in the United States, the term liberalism came to be associated with a very different emphasis, particularly in economic policy. It came to be associated with a readiness to rely primarily on the state rather than on private voluntary arrangements to achieve objectives regarded as desirable. The catchwords became welfare and equality rather than freedom. The nineteenth century liberal regarded an extension of freedom as the most effective way to promote welfare and equality; the twentieth century liberal regards welfare and equality as either prerequisites of or alternatives to freedom. In the name of welfare and equality, the twentieth-century liberal has come to favor a revival of the very policies of state intervention and paternalism against which classical liberalism fought. In the very act of turning the clock back to seventeenth-century mercantilism, he is fond of castigating true liberals as reactionary!

If Creative Capitalism meant more freedom, Milton Friedman would have been for it.

Why the Venetians didn't invent a Prize system for Inventions

Over at PatentlyO, Dennis Crouch covers the news that McCain has proposed a publicly funded prize for developing a better battery for cars.  Dennis also points out how this strategy worked historically for England in solving an important navigational problem: John Harrison solved the timing problem by miniaturization.

One can only hope that this is a symbolic gesture by McCain toward the need for patent reform.  $300 million is only a drop in the bucket that has already been spent on solving this problem.  Ballard Power Systems, for example, has by itself spent at least that amount developing fuel cell technology, which many scientists believe to be a more viable alternative to the battery as a non-oil alternative power plant for cars.

I point this out not because I want the government to spend more money than McCain has earmarked for this R&D, but because I want the government to spend less money.  That money has to come from somewhere folks.  And that somewhere is taxes.  Don't bet on it coming from a higher capital gains tax if McCain were elected either.  The possibility of having another "conservative" president in office, increasing spending, decreasing taxes, and increasing money supply is terrifying to me.  Already it appears that the United States has indentured itself to the rest of the world for the foreseeable future thanks to our profligate spending and inflationary monetary policy over the past few decades.

There is a proper role for government "prizes," a role that the NSF and NIH have been performing quite well for decades.  That role is in funding the curious exploration stage of scientific discovery.  Observations of nature are often the source of inspiration for later innovations by authors and inventors.  Few businesses in the history of the world have been willing to pay for curious exploration of the natural world.  We still need government funding for that.

But we should limit government funding to that stage, and let the needs of industry drive funding for development of those natural observations into new products and services.  The distortions in the food market that resulted from government subsidies of ethanol production are Exhibit A as to why government funding of R&D is a bad idea.  Government starts with a noble plan: to reduce global warming.  But it ends with people starving in the developing world.  To avoid catastrophe, investing must be disciplined by market needs -- a discipline that government, by definition, lacks.  Private markets and firms are a cheaper way to make things than government because they don't make money unless they match (i.e., synchronize) their outflow of things to an inflow of demand for those things.  Government doesn't have to (at least not over the short-term).

The United States should follow the example of the 15th Century Venetians, who harnessed the power of market-based incentives to encourage innovation in solving the most important problems their society faced.  Read this description of how inventors worked together at the Arsenal, the 16th Century equivalent of Ford's Highland Park manufacturing plant (but for boats, not cars):

Everything concerning ship-building and armament, direction of the works, purchase of wood and iron, organisation of the workshops, discipline of the workmen, commanding of the troops, training of the seamen, storekeeping, provisioning and contracts was under the provveditori. They formed themselves into a committee for testing and examining all the new inventions submitted by their fellow-countrymen or by foreigners.

Rather than $300 million for the particular purpose of batteries, why not  $300 million for marketing and public education about the patent system?  The provveditori are like a combination of modern day venture capitalists and patent examiners.   I don't think most Americans have any idea how important the patent system is to our future.  Maybe patent law is too important to be left to the patent lawyers.

Update: I can't find a good modern analogy to the provveditori.  Their work is performed by a combination of people and computers today.  In some ways, they are like a heijunka box.  In others, they are like patent examiners, lawyers, consultants, or investors.  Their role in many companies today seems largely to be filled by goods and services obtained from various markets external to the company.  Have we made a step forward or a step back?