Category Archives: Economics

But What If I’m Wrong?

“But what if I’m wrong?”

A novel question, don’t you think?

This seems to be a preposterous question to many experts and people of authority. Their degrees and titles are accumulated like armor to shield them from such questioning by others, and our narcissistic society of recent decades does much to program high levels of ‘self-esteem’ and ’empowerment’ to fill in any gaps in credentials. Can you picture Larry Summers or John Boehner or Larry Ellison or Marissa Mayer asking this?

As an auditor and consultant who has spent much of my time questioning the wisdom of others, I am exposed to the occupational hazard of turning those weapons of critical inquiry on one’s self. Fortunately, it is rarely suicidal, and it can sometimes have the benefit of alerting one to one’s own foolishness before it is brought to one’s attention by others, ….generally not gently.

I engage this question most often, which is generally daily, with the subjects of climate change and energy transition. A recent article on the protracted drought in the western US brought the question to the fore. At issue is whether the western US is undergoing a cyclical drought that has happened before in various cycles and various levels of severity for various extended periods of time, or whether this is the systemic effect of climate change that will not manifest as a cycle, but a trend.  If we wait for a definitive answer, the consequences could be dire for those directly affected.  If we rush to act on either assumption, we stand a risk of wasting precious resources or precious time. In the moment, one bears a significant risk of error, with consequences, one way or another.

The specific manifestation may be drought, but the contextual question of cause is by no means unique to this piece of geography or this particular natural phenomenon.  Climate skeptics and climate change adherents can each marshal arcane data to support their position, or alternatively poke holes in the credibility of the other side’s argument.  Often, neither side can prove or disprove their argument, because neither side has sufficient bullet-proof information. Much of what climate change advocates rely on for climate history is inferential evidence drawn from proxies: tree rings, ice cores, soil cores, etc.  And the more direct and current evidence is either insufficient in time span or insufficient in breadth and depth of accumulation (e.g. ocean temperatures, atmospheric readings at higher altitudes over the entire globe for completeness and uniformity) to be able to have a lock on an argument. The skeptics’ preferred route is divide an conquer: cherry-pick the data that supports the premise, and narrow in on a particular arcane facet to the exclusion of everything else that’s happening.  A recent article on divergent approaches to storm surge and sea level rise further illustrates the dilemma.

The scientific community, which we are told is 97% supportive of the premise that Climate Change is a) real, and b) subject to human influence, is somewhat schizophrenic as a group on the subject of climate change.  On the one hand, some significant chorus of the community is warning us in breathless tones of the impending point of no return in climate system dynamics that will seal our fate.  On the other hand, with each new report on ice sheets, or tornadoes or ocean acidification, or monsoonal rains, or new high temperatures, or whatever, they demure to make a direct connection to climate change because “we don’t yet have enough data to state the case conclusively”.  That may be valid from a perspective of scientific methodology, but it does not sustain the thesis that we “must do something NOW”, even though the apparent trend of events that we all can observe suggests that we probably should. And, it does not sustain the proposition of exactly what we should do now to what attainable effect.

There are four reasons why I can sustain commitment to the hypothesis of climate change in spite of science’s struggle to bring coherence to seemingly disparate facts or conundrums in modeling:

1)  Something’s going on, across a broad range of phenomena with some level of consistency and apparent escalation that it cannot be responsibly dismissed as just another day in paradise, even if we can’t explain it definitively now. (multiple data points)

2)  Even if the science remains somewhat muddled and inconclusive within the straight-jacket of its empirical methodology, the anecdotal evidence from that unruly place we call The Real World is sufficiently diverse in nature, and congruent in basic direction to give comfort that a trend of some kind is developing to which we must pay attention, because the consequences could be such that we cannot afford to ignore.  (Multiple perspectives)

3)  While the scientific community is by no means immune to herd mentality, the breadth of professional specialties and institutions and vested interests who have come to consensus defies credible belief that the consensus is merely herd mentality orchestrated by some world-dominating cabal. (Checks and balances)

4)  So many of the arguments hurled at consensus science by the outliers and their camp followers are predicated on such apparently flimsy logical and factual constructs that they beg dismissal from serious consideration. (Logical fallacy)

But still one must allow that even the minute minority may be right for the wrong reasons. Scientific progress has often been built on destruction by renegades of conventional wisdom of the moment. They cannot be summarily dismissed.

Is the sun a factor in global warming? Quite likely, although current scientific methodology has given it modest influence. Are greenhouse gases the major cause? Quite probably because we know the chemistry of burning carbon fuels beyond question, and we know the physics of their effect.  Unfortunately those physics are not the only physics to be considered in understanding climatic evolution.

So, an open mind is essential, and the question: “But what if I’m wrong”, is a vital tool of self-assessment and intellectual integrity for all players.  But too few seem to use it.

The Question (BWIIAW) becomes particularly important when one’s responsibility for decision-making impacts the well-being of others; their lives and livelihood, their health, their wealth. People who are clueless about climate change are keenly aware of their personal circumstances, and understandably distrustful of those who pronounce with obvious disregard for personal consequences. The manifestation of arrogance and indifference on both sides of  the climate debate is troubling, and explains in large measure why humankind has not progressed sufficiently on this issue.

Nor is The Question exclusive to climate change.  It might be nice for both sides of the fracking issue to try it out.  And genetic engineering. And nano-technology. And technological displacement. And Big Data Analytics. And economic policy. And foreign policy. And medical efficacy. And data privacy. And right to life. And death with dignity. And interventions of all kinds for all the best of intentions. And the list goes on. In a time when Big Data has yet to vanquish great uncertainties, and when judgments in a nanosecond can yield regrets that ‘keep on giving’, we can all afford a moment to ask ourselves ‘The Question’.

Asking The Question doesn’t necessarily give me answers, but it does inject a minimum daily requirement of humility. And as long as a voice in my head does not whisper ‘Sid, you’re probably wrong, or at least on really thin ice’, I can inch forward for another day, and ask again tomorrow.

Onward.

20131215

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Perverse Incentives

I attended a seminar last week on the Affordable Care Act (ACA), and saw the future: a single payer system.

The seminar was put on by the Connecticut Society of CPAs for its members to acquaint them with the major provisions of the Act, the implementation of which in some fashion is now imminent.  I have studiously avoided becoming too invested in this subject to date while it is still in process of fermentation.  My ‘personal cloud’ has only so much storage capacity for rapidly obsolete information.  But seeing that implementation of key provisions begins October 1, it seemed a reasonable time to wade into the inevitable.

As we pushed through the first half-dozen slides, I decided that I would not endeavor to grasp the subject at that moment; it would be enough to become merely exposed in the first sitting.  A little further in, I concluded that the Act could easily rival Sarbanes-Oxley as an Accountants’ Full Employment Act.  YES!  ‘We’re gonna need a bigger spreadsheet!

We’ve all heard of the road to Hell and good intentions.  The road ahead is certainly paved with good intentions.  Whether they will be realized or not is subject to speculation and a heavy dose of cynicism, and ultimately the judgment of history.  One of the presenters, a tax expert, took every opportunity to note the additional taxes applied to employers and plans at various points of the implementation process. It was like the ‘drip, drip, drip of acid indigestion’.

One interesting aspect of the Act is its effort to manage a transition over time. It would be impossible to effect such a massive change to such a pervasive economic ecosystem without a transitional mechanism, but in my observation it is rare that governments at any level do so.  Too often, we implement change with the flip of a switch and let the unintended consequences fall where they may.  This is not to say that ACA will not have its share of unintended consequences.  The very complexity of the process assures it.

Another interesting aspect is in the tax and benefit mechanisms themselves.  They look ugly and onerous.  But for the first time, we are seeing the inner plumbing of our health care system by design, and not by default and the interaction sub-rosa of perverse interests that have perverted and subverted the current health system and its economics into what they are today.  Too many people look at this as the evil of ACA.  All that ACA is doing is trying to rearrange the entrails of the health care Beast into a more exposed and manageable structure. What makes it so ugly is that it is a product of compromise rather than rational design, and it endeavors to retain too many elements of a bad system in order to make it palatable to the vested interests that have made the current system what it is.

The major problem with ACA as I see it is the employer mandate.  It creates a contorted logic at the employer end that forces employers to make the kind of irrational business decisions so familiar with the general tax code.  To what degree do you contort your business to avoid a tax dollar?  To what degree do you contort your labor force to avoid a health benefit dollar? This is where the ‘Accountants’ Full Employment Act’ kicks in, adding yet another cost to avoid a cost.

But what is the point of ACA to begin with?  It is to provide better health for the general population at an affordable cost to the general population.  It recognizes that in a society based, allegedly, on Judeo-Christian principles of morality, will assure the basic needs of human survival and dignity to all.  We will not cast people into the street to suffer or die for lack of means, particularly when the means are available and used for less compelling purposes.

That purpose is not primarily an employer’s obligation.  It is society’s obligation. An employer’s obligation should be to compensate his/her staff fairly so that employees are able to assume the requirements of their needs, and to make the best decisions about them in their own best interests.

To date, the existing health care arrangement in this country has pitted employers’ interests in profitability against employees’ interests in a stable health care relationship with providers they trust. It has become a perverse and dysfunctional relationship. It needs to end for the benefit of both employer and employee.

That brings us to cost of care.  ACA endeavors to bend that curve in a variety of ways. Automating the exchange of information in a data intensive ecosystem that is heavily outsourced is a ‘no-brainer’ that the brain trust of the private sector has failed to do in its own enlightened self-interest.  Efficacy-based treatment and performance based reimbursement are also tools common in the private sector, but somehow escaping the private sector based practice of contemporary medicine.

The relationships of Big Pharma and the medical profession, the cost avoidance and de-facto death panels of the insurance/’managed care’ miasma, the incestuous and self-dealing relationships of medical practitioners through their various entrepreneurial ventures have all led to a death spiral in which costs rise, coverage declines, and a labor structure that is squeezing labor progressively out of the business model leaves a declining base to cover the escalating burdens of a failing system.

None of this is news.  We’ve lived it for too long.  The comparative statistics of our nation’s health care system performance with other nations pierce the bloviation of the defenders of the status quo.

But ACA is not a destination in transition. It is the transition itself, and should be understood as such.

Because the private sector has so miserably failed to discipline itself through the exercise of free enterprise competition, it becomes incumbent upon the government to do what government is often tasked to do when all else fails: to assure an orderly provision of basic needs when no other effective mechanism can.

The private sector has already lost the initiative to reclaim its presumed role in health care through its own fault.  ACA, as about to be implemented by design or default, will make clear the impracticality and non-sustainability of the remnants of the ‘market system’. And some time down the road, when the electorate finally becomes impatient with the rogue elements that cripple the current and near future Congresses, Congress will make the next logical step to a single payer system.   Employers will be set free to run enterprises.  The general public will be empowered to make choices among sustainable alternatives of care. The medical- industrial  complex will have the opportunity to compete within the single-payer system to provide effective and affordable care within a national budget (as former GAO Controller General David Walker has vigorously advocated) that all of us are able and willing to support.  What happens to insurers and so-called ‘managed care’ companies is anybody’s guess, and the least worrisome of consequences.  They had their shot.

Nirvana?  No, but it can be better than we have.  The status quo is a pretty low hurdle.

Onward.

20130818

Peak Oil? Or Peak Economy?

There has been much debate lately about whether Peak Oil as defined by supply has been replaced by peak oil as defined by demand.  I wonder if we’re missing the real Peak…Peak Economy.

There is an unraveling of the various pet theories and accepted platforms for moving the economy.  There is gridlock in many of our institutions, and the few glimmers of ‘progress’ are in many cases thinly veiled facades covering systemic rot.  The ‘markets’ are dysfunctional when they are not outright dishonest.  We are churning the economy at best, but we are not advancing it and our collective well-being by any credible measure.

Let’s back up a minute. Peak Oil was supposedly done in by fracking, making previously unreachable resources more accessible…at a cost.  The problem is, we haven’t yet determined the full parameters of that cost, or the sustainability of aggregate performance against investment, hype and hope notwithstanding.

Whatever. The next rejoinder says that Peak Supply would be irrelevant in any case because demand has peaked due to concerted conservation measures in the US and Europe, and the ramp-up of renewables.  These too are factual statements as far as they go, but how far do they go? If energy is a global market, how much does US and European conservation and substitution get us to energy nirvana in a global market that is still energy starved? Or is it? How much of the demand depression is the result of the economic depression…in Europe, In the US, in the BRICs?

If our various economies were today where they were in 2006, what would be the demand for energy of all forms to meet those demands, all other present circumstances in politics and the oil patch being the same?  If 16 percent of the US workforce were fully employed at comparable rates, what would be our spending and driving patterns, and our resulting energy consumption?

But this isn’t 2006, and we’re a long way from getting back to there by any measure.  Even if we achieve pre-RePression employment levels by 2016, or 2018, or 2020 (depending on your preferred level of pessimism), it won’t be at the same levels of equivalent real compensation, and therefore not the same levels or patterns of consumer participation.  Our young will struggle to make up for lost opportunity.  Our older citizens will struggle to recoup part of what they lost in the past five years, and prepare for a more austere future. The corporate ‘people’ will continue to aggressively pursue technological substitution for human resource, further constraining a stagnant labor market. And the one-per-centers will likely continue to stock-pile their marbles, because the world will remain a dangerous place to play.

If the US is unlikely to re-inflate its stagnating middle class to any appreciable degree in the near to intermediate future, how likely is it really that the other aspiring middle classes in the developing world will really replace them in quality of economic activity?  Quantity, yes.  China will become bigger than the US economy at some point, but will it be close in per capita equivalency and consumer demand?

So, the counter-intuitive prospect (I haven’t done a spreadsheet so I’m on thin ice here, but apparently no thinner than some who do) suggests that our economies will grow larger quantitatively at best, but poorer qualitatively, wringing out not only our excesses in energy but in other commodities, products and services beyond those which meet basic needs, and probably even some of those.  That departs from how we have grown in the past sixty years.  It requires a reset in our assumptions and mechanisms for revived economic growth.

Reinvesting in critical productive infrastructure, physical and human, might re-start the engine.  But that demands a consensus among relevant stakeholders that currently seems beyond any political system on earth.  Not the US Congress. Not the EU, not China beneath the hood of its totalitarian capitalism and  monolithic illusion. It demands a shared, cooperative wisdom that The Markets and institutional politics have not and will not deliver so long as they are driven by competitive greed at the expense of all else

Peak oil has been deferred but not dismissed.  Peak economy is the much bigger problem if it is indeed the driving paradigm, because it is the organizing paradigm for all else. Some will dismiss this argument as a rehash of the Club of Rome/Limits of Growth meme.  ‘We’ve got plenty of resources, and we’ll conceive the technology to stretch them. We always have’…so the gospel goes. But, as with the environment and energy, there are two dimensions to this issue.  One is resource availability. The other is process: the cognitive and institutional capacity to use the resources at hand to greatest good.  The first is a given to a large degree. The second is what we choose to make of it.

On Tuesday, the Dow broke 15,000.  Feels like June, 2008 on the NYMEX.

Onward.

20130512

Clim-Ergy: Competing Trajectories Toward An Unknown Convergence…or Collision

Since I became immersed in Climate Change impacts in 2004 and energy transition in 2006, I have been waiting for the moment when both paradigms might converge in a common strategy framed in a shared context of awareness.  That destination in time, space and understanding seems as remote as ever. I am reminded of this in a convergence of articles in yesterday’s New York Times.

Joe Nocera writes of a coal gasification project in Texas that holds promise of bringing coal back into the realm of tolerable energy options by reducing its carbon footprint and other collateral damages of pollution.  He lists five benefits of a project currently under way in Texas.  My auditor’s skepticism (cynicism) senses that the actual applicability of the technology will fall considerably short of its theoretical promise, as have so many before it. But that is my assumption. Like His, it will be confirmed or refuted by experience.

Mr. Nocera engages Bill McKibben to weigh in on the proposal. Mr. McKibben responds, in essence, that a half bad solution is not a good solution from an environmental perspective.  In this exchange is embedded the crux of Clim-Ergy’s most immediate dilemma: Do we sacrifice the economy for the environment, or the environment for the economy? This should not be cast as a binary choice, but as yet we have not found the sweet spot of a compromise.

Mr. Nocera in essence argues for coal gasification on the grounds that it makes tolerable a resource that will be used in any case by economic necessity. Mr. McKibben, by contrast, in many of his pronouncements dismisses the economic implications of taking actions that will prevent an environmental catastrophy.  Unfortunately, more people understand the negative impacts of a radical economic transformation leading to contraction and dislocation far better than they understand the implications of an environmental catastrophy which will inflict its own economic consequences.  Even with the benefit of recent climatic events, most people remain in denial of the severity that could await us under Mr. McKibben’s, and the scientific community at large, projections of climatic consequences.  This is not new, and that is disturbing.  While more people are coming to accept that we are experiencing accelerating climate change, relatively few are willing to sign up for Mr. McKibben’s prescription.

Which brings us to President Obama’s proposal yesterday of a $2 billion program to explore automobile technologies to replace the use of fossil fuels.  These are to be funded by federal royalties on the extraction of more fossil fuels to power the cars we have and further support global warming in the interim. This is the essence of society’s deal with the devil.  We will commit a sin to secure a virtue. It is a contorted logic indeed, but the one we are operating under.

Mr. Obama is only half the fool his critics in both parties make him out to be. He knows the score as well as anybody.  He knows that to promote alternative auto technologies to sustain America’s competitive (job) edge tells joe and Jane six pack that he’s got their back on jobs, and their happy motoring illusion of freedom is not in jeopardy.  In truth, the technology that will transform autos and reduce environmental impact will transform many other realms of energy consumption.  Whether the personal auto will survive in a constrained economic future, by any means of propulsion, is a truth for the future to reveal. But he also knows that he must move us toward a new energy future for environmental and economic reasons, even if he will not spell out explicitly the forces that compel our transition and the destination that we must reach of necessity (‘the moral [and economic] equivalent of war’).

Finally, an article, The Facts on Fracking  is a generally well-balanced and descriptive definition of the process and of selected findings regarding its impacts.  The authors, Susan Brantley and Anna Meyendorff, bring their expertise to give some context to a subject that is too often addressed by partisans with no intention of balance. Still, much remains to be understood.

They note that:

– fracking and enhanced recovery methods have actually been around for a while;

– the new methods of enhanced recovery introduce toxic cocktails of chemical agents, often containing undisclosed ingredients;

– the drilling for gas occurs at levels well below the water tables for potable water, reducing risk of contamination;

– methane releases occur naturally for various reasons, and that such releases may not necessarily be the result of co-incident fracking per se;

– some pollution has occurred as a result of faulty installation of casings and failures of proper waste disposal practices, but is believed to be relatively infrequent.

All of this is true, as far as it goes.

But all of the preceding does not authoritatively answer a host of questions and observations:

– Regulation across the industry and across state regulatory boundaries is spotty and inconsistent at best, and state regulators, with few exceptions, are no match for the companies they are overseeing in expertise or resources or political clout to fulfill their public mandate.

– While fracking has been around for a while, the increase and intensity in recent years and the enabling new technologies introduce potentially new dynamics which are not fully understood and will not be until further history evolves.

– The industry has too often knee-capped necessary studies to get a more authoritative and objective handle on the consequences of its practices. The studies to date, and the statistics cited by the authors are informative, but not necessarily conclusive.

– While it may be true that we are not seeing measurable negative results of fracking at the moment, we are dealing with a technology that is permanently altering geological structures with unknown and unknowable consequences until it ages and reveals them, as is often the case with many technologies in many fields.  To be sanguine about its safety at this point in its evolution is a tad premature.

The most unsettling part of the article was in this passage:

“Pennsylvania has seen rapid development of the Marcellus shale, a geological formation that could contain nearly 500 trillion cubic feet of gas — enough to power all American homes for 50 years at recent rates of residential use.”

This is the seduction of assumption that the gas industry has used to achieve what borders too often on carte blanc for its practices and aggressive exploitation of a limited resource: the hope and hype that we can go on as we have been. But it cannot be a promise until proven, and there are many equally authoritative professionals who question that the projected reserves will be realized, either because they are less than believed, or they cannot ever be economically extracted at some point.  This argument has legs, because we are seeing it in the oil industry now, which is why we have an exploding gas industry (pun intended), even as it simultaneously implodes on depressed market prices.

So the question is: who do you trust?  The average citizen questions the environmental position of McKibben and James Hansen as an unknowable projection that is probably exaggerated. But the average citizen wants to believe fervently in that 50-years-of-business-and-life-as-usual energy scenario, even if he/she doesn’t think about what lies beyond, because he/she will then be in the Great Beyond where heat and air conditioning and transportation are irrelevant. Besides, the President has also touted that same 50/60 year horizon of continued bliss. It must be true, even if you don’t believe he was born in Hawaii.

But what if the average citizen is wrong? What if the President is wrong? What if McKibben and Hansen are wrong? What if the energy companies follow the same code of ethics and responsibility as the financial services industry of late?

*  *  *

I struggled to discern whether Ms. Brantley and Ms. Meyendorff were delivering a balanced, if incomplete, critique of fracking, or a subtle defense of it. But the final paragraph seemed an appropriate conclusion, regardless of intent.

“But if fracked gas merely displaces efforts to develop cleaner, non-carbon, energy sources without decreasing reliance on coal, the doom and gloom of more rapid global climate change will be realized.”

That is the risk that Mr. Nocera’s article seems to ignore. That is the risk that Mr. Obama’s $2 billion bet seems to want to hedge. That is the destiny that Mr. McKibben and Mr. Hansen fear, with consequences that can neither be proven nor dismissed at this time, any more than the availability of gas reserves.

We are all participants in a communal game of craps in which we individually and collectively throw the dice, in ways great and small, and wait for the consequences which will befall us all.

Onward.

20130318

A ‘Stern’ Warning on Climate Change, But Not Stern Enough

In 2006, Sir Nicholas Stern undertook a Herculean task to assess the probable economic impacts of Climate Change on the world.  This was the first such effort of global scope. Its very scope and complexity assured a controversial reception from the start.  But it was a necessary first step, and he was courageous in taking it and placing his professional reputation at risk.

I witnessed just how courageous he was during a fight-fest in Sprague Hall at Yale in 2007 at which Sir Nicholas presented his work for a biopsy by a panel of economists. The event had the feel of an intellectual knife-fight by a bunch of academics.  It was brutal.  Sir Nicholas’ peers took issues with various arcane aspects of his methodology, as if there might be some preferable, and more reliable approach to the one he took. The process was heatedly contested, implying but never proving the credibility of the result.

Recently in Davos, Sir Nicholas lamented that his estimate of the economic cost of Climate Change was too modest. He did not base this on a revised methodology. Rather he cited the acceleration of observed effects to date, suggesting that economic and other impacts will be greater in magnitude than originally assumed.

Yet in our exceptional country, the issue of Climate Change continues to suffer the ignorance, or ignor-ance, of top political and business leaders who believe that this can be kicked down the road as easily as the national debt, regulatory reform, gun control, national energy policy, infrastructure renewal …if they accept the validity of the issue at all.

Unfortunately, folks lower on the food chain are coming to grips of future possibilities with the aid of current realities, such as last summer’s brutal drought and heat wave, Storm Sandy, etc.  The breadth and frequency of these events are also beginning to coalesce into discernible trends. In Connecticut, we have witnessed five storms of epoch impact in three years.  I have monitored climate change locally since 2004.  From then to 2010, I saw events suggesting acceleration of the phenomenon, but in too random a pattern to achieve statistical traction.  But from 2010 forward, I believe that we are seeing a discernible escalation of events in number, magnitude and impact that are sufficient to dispel doubt among most reasonable people. That leaves the unreasonable people, to whom I highly recommend buying shore-front property, or retiring to a warm, dry locale such as Arizona or Texas.

*  *  *

The problem I had with Sir Nicholas’ effort, and by no means do I presume to assess it on its arcane statistical or econometric merits, is that it was a top-down exercise, without a bottom-up component. Top-down strategic views are beneficial for establishing context, order-of-magnitude parameters, and strategic direction of an issue.  But they are frequently wrong; often grossly wrong.

Top-down assessments almost always need to be coupled with bottom-up assessments. Bottom-up assessments lack the context that can best be achieved from the 30,000 foot perspective, but they have the granularity of ground truths that the 30,000 foot top-down perspective can rarely achieve. Bottom-up perspectives are more tactical than strategic, and are better capable of identifying how grand concepts might really play out in that freaky, fun-filled place we call ‘the real world.’

Furthermore, bottom-up analysis can achieve a greater sense of reality for the folks in the trenches who are rightfully suspicious of the grand designs of the elite, be that elite business, political or academic. The acceptance of Climate Change projections to date has largely suffered, in my opinion, from this pervasive skepticism at the level of the general public (we will temporarily ignore the wing-nuts on both sides of this issue) who feel they have too often been betrayed by false prophets for fast profits (or other less obvious forms of remuneration or non-monetary self-gratification).  When bottom-up and top-down analysis confirm each other’s perspective, we have a greater hope that the grand design will translate into reality.

We in the northeastern United States are now going through an unstructured ‘bottom-up’ analysis of Climate Change economic impacts in the aftermath of Storm Sandy, and just recently Storm Nemo.  These two storms, and Irene and Albert before them, have challenged our complacency. They have broken statistical molds, and imposed a heavy price.  They have done more to promote a grudging acceptance of the reality of Climate Change, and a focus on sea level rise than any previous event that I can recall in the past eight years.  Most importantly, these storms have forced people to ‘think forward’ with an acute awareness that this is not the end, but quite possibly just the beginning. Resilience and sustainability now have meaning at the grass-roots level that Sir Nicholas’ report could not instill beyond the halls of academia, think tanks, and national governments’ highest technocratic suites. And in that grass-roots understanding, it is now safer for ‘leaders’ to come out and address the issues by name, and experience positive engagement with their constituents.

Sir Nicholas opined that climate change, in its more extreme manifestations, might cost as much as 5% to 20% of GDP by the end of the century or sooner. In the light of subsequent events, ground truths of the past four years, in Bangkok, Queensland, Russia, Pakistan, Brazil, the droughts of the US Midwest, and the floods of the US Northeast, he just might be right.  These are only the initial glimpses of the future.

When my wife and I are driving on the highway, she often complains that I drive too fast.  I respond that I am merely keeping up with the flow of traffic. Metaphorically, we are, I believe, entering the on-ramp to the Climate Change expressway.  The destination is uncertain, but from this time and place  there appear to be no off-ramps on our planning horizon, and the speed of events is unlikely to be subject to our influence.

Sir Nicholas, thank you.

Onward.

20130224

Employee Benefits – Illusion and Betrayal – Part 2

If retirement benefits represented a slow death for the corporate bottom line, health care benefits represented a much faster route to the same destination.  Business cannot be blamed for wishing to contain this cost, as with any other cost of doing business.  However, it can be blamed for the manner in which it has gone about it.

The principal problem is that there is no alignment of interests among engaged parties: employees, employers, managed care/financial intermediaries, health care providers and various and sundry camp followers and hangers-on. Each party is pulling in a different direction.

When I began my career in accounting, a speaker at our first training session observed that accountants are entrusted with one of their clients two most closely held secrets: their money and their health.  Assuming that statement to be true at all levels of the food chain, it is ironic that the so-called ‘beneficiary’ of most corporate health plans is least informed and most vulnerable about something that is deeply important to him/her.

I suspect that many employees do not understand how much their health care benefit costs their employer, and that, while the benefit is of crucial importance to most employees, it is but another element of compensation and cost to the employer.

The employer values the benefit for its capacity to attract and retain key employees. and suffers its burden for the rest who must also be covered. But when that burden becomes too great, various stratagems come into play: cutting benefits, raising deductibles and co-pays, changing managed care companies in the chase for cost-containment nirvana, which is never achieved in the long run.  Each of these moves contains, temporarily, the onslaught of ever-rising costs in a national health care environment (I will not dignify it by calling it a system) that has no intrinsic mechanisms of cost containment, least of which is an effective competitive market. The health care market is a series of incestuous relationships masked as a deceptive delivery system.

*  *  *

When managed care evolved into the mainstream of group health care, it blurred two distinct elements of cost behavior: health maintenance (preventive medicine) and catastrophic care (major surgeries and chronic illnesses). The historic indemnity model for insurance was more geared to the latter.  It required large groups to adequately project and cost-effectively manage the risks of major claims.  So-called ‘managed care’ with its preventive medicine component was seen as a hedge against major claims by preventing them in the first place. A simple strategy, some might say; simplistic as revealed by history to date.

The introduction of prescription drug coverage offered another seduction to the appeal of managed care.  What if we could prevent disease with drugs rather than react to them with costly surgery! Wouldn’t that be lovely? Such was the thinking in some corner offices of the insurance industry.  What no one seemed to imagine in the late seventies and early eighties was that drug therapies, while relatively modest compared to the cost of related surgeries, would become pervasive among most employees for a wide arrays of conditions. Further, they would be perpetual from the time of inception, and cumulative, adding one treatment upon another over time, along with collateral diagnostic and lab services.

While I am not an actuary and not immersed in the claims statistics of the industry, the general aggregate trend  of health care costs over time suggests that the managed care platform to date has utterly failed its premise. it is about managing cost, not managing health. Failure to manage health ultimately fails to manage cost. And cost denial is not the same as cost containment. The managed care industry has in effect introduced medical triage and ‘death panels’.  The Affordable Care Act (a.k.a. Obamacare) in its worst misrepresentation by opponents, would not be breaking new ground.

*  *  *

Businesses have long contorted themselves to maximize ‘tax benefits’, often at the cost of business logic.  They have similarly contorted themselves with health care, submitting to outsourcing and internal part-time labor structures that erode the fundamental operating efficiencies and long-term human resource capital appreciation that they should more properly be working toward.  Rather than deal with the issue of cost in a forthright manner of educating employees to the cost/benefit relationship or collaborating with government on a more viable platform or getting out of the racket all together, they largely followed the benefit syndrome down its rat-hole.

Let’s face a few truths. First, employer group health insurance is an anachronism. As companies have downsized over the past three decades, and globalized, and fragmented through outsourcing, they have individually and collectively lost their bargaining power with the financial intermediaries (insurers and managed care providers) that they may have had in the seventies.

Second, the natural, intrinsic, organic platform for developing managed care of any kind on an economically viable basis is not the employer platform, but the civic platform based on county or regional governments of sufficient scale to have economic critical mass and statistical stability.  The reason for this is that health is more than pills and procedures. It is the social, economic, environmental, educational, and governmental context that shapes human behavior and  well-being.  It establishes the context for social risk management that ultimately impacts individual behaviors and individual health outcomes.  Just as businesses can institute safety measures as a part of a risk management program to reduce property and casualty hazards and losses, so too can communities introduce similar risk management programs for healthier living that cannot be as effectively achieved by individuals.

For example, how a community chooses to develop economically influences the level and kinds of environmental pollution that can directly affect individual health. Planning for walkable communities can only be done at the community level, but will have profound impact on health and longevity of individuals. Quality of the water supply, access to recreational opportunities, access to healthful foods at economical costs, education of young people in proper health practices.  All of these are the beginning of health care cost avoidance, which is better than cost containment. And civic institutions can have much greater reach and peer reinforcement that individual employers.

*   *   *

Regrettably, I was born without the gift of prophecy, and my crystal ball is in the shop for a Windows 8 upgrade.  But if I were to guess about the future of health care in the US, I would suggest that the ACA is a first step to the ultimate destination, and not the destination itself.

It will be interesting to see how many employers elect to opt out of employee coverage and pay the penalty.  If significant numbers take that route, they will likely have to adjust gross pay to offset added costs to employees for picking up their own coverage, whether subsidized or not.  Rather than dodging a bullet, employers will merely have moved the system one step closer to single payer; an unintended consequence that will grate on all stalwart capitalists, but will be a necessary rebuke to a brittle health care market that is apparently beyond reform.

The next step will be something that David Walker, former Comptroller General of the Government Accountability Office, has long advocated: put a national health care budget in place to put a lid on costs and force competitive innovation and prioritization among providers to achieve better outcomes.

The de-coupling of employees from employer directed health care programs, combined with a national cap on health care costs as part of a single payer system will create a vice within which all other health care intermediaries will have to rationalize their existence, or die. Maybe, just maybe, within that dynamic true competition of providers, restructured in some rational fashion, can achieve the benefits of ‘free enterprise’ that have long been promised, but not yet delivered.

*  *  *

The trend in health care costs in recent years, excluding collateral aberrations of the Great Repression, has been the same in both personal and public budgets: the long-term trends are unsustainable and will crowd out other essential human and civic needs.  This is not surprising as both private (insured) and public (Medicare and Medicaid) services sit on the same delivery platform. The interplay between those two platforms is like a game of Three Card Monte in which the patient/taxpayer is guaranteed to lose.

There may be no perfect health care system in the world at present that manages to balance economics and health outcomes in a sustainable manner,  but statistical trends among  economically developed nations in longevity, infant mortality, cost per individual, quality of life,… give  the US little to be proud of.

We can do better.

Onward

20130128

Employee Benefits – The Illusion and Betrayal – Part 1

Economists have acknowledged in various ways that employee compensation has been flat or in effective decline in real terms over the past thirty years.  In the asymmetric warfare between employers and employees, employers have had, and exercised, the upper hand to the detriment of their employees.  ERISA, the Employee Retirement Income Security Act of 1974, has had limited long-term benefit. And now, here we are at the edge of the demographic cliff, waiting to witness the splat below as a generation of the trusting and indifferent slowly goes over the cliff over the next twenty years.

In this post, I will address retirement plans; in the next, health care.  My comments come from my vantage point on the periphery of the issue, beginning in the mid seventies when I worked for a multi-line insurer which was a major force in group life, health and pension benefits.

The mid seventies were an inflection point in the evolution of big business, its relationship with its employees, and the fate of employee benefits. I came to realize this quite by accident.  But hindsight solidified the understanding and as years passed, I connected the dots and a clear trajectory evolved.

My understanding  began quite unexpectedly in the corporate library of a major insurer.  I was an internal auditor at the time. I had just completed a survey of the Group Pension Department; a reconnaissance, if you will, to understand the business terrain and scope out future audits.  During that endeavor, I became aware of the shift in pension plans from defined benefit to defined contribution basis.  In defined benefit, the employer assures a future benefit of some measure, and is on the hook for funding over time to generate it based on the demographic profile of its retired workforce.  If the asset base modulates in value , or life expectancy extends appreciably beyond actuarial expectations, the employer faces future cost increases of a current commitment.  By contrast, a defined contribution plan insulates the employer from future variables, and transfers that risk to the beneficiary who may not fully comprehend this dynamic quite as well.

By chance, I came across an article in an arcane actuarial journal. Regrettably, I did not copy the article or remember the name of the journal.  But the article’s point was quite direct.  The authors opined that if the nation’s Fortune 500 companies retained their current retiree health plans, they would all be bankrupt by 2000.   Now, the life actuaries I have known are for the most part a humorless bunch, and not given to hyperbole. Indeed, by comparison, they make us accountants look gregarious.  So the assertion of the article struck me as being rather sober, if beyond easy comprehension, and worth filing away in core memory for future reference.  And the journal was not one to catch the attention of the mainstream public, mainstream media or mainstream business press.  To my knowledge, it didn’t. So the authors were not intent on seeking attention of the masses.

Within two years strange things began to happen on the way to the millennium.  Corporate ‘restructurings’ became a fad. More financial restructurings than organizational or functional restructurings. I never fully grasped what this apparently cosmetic process was all about, but it seemed to have the feel of shuffling the deck chairs on the Titanic.

Next, I noticed that the term ‘associate’ began to supplant the term ’employee’ in many companies’ reference to employee related issues.  It struck me as a bit odd.  ‘Associate’ connotes a relationship somewhat more detached and ’empowered’ than ’employee’; as if the associate is more equal, though we all know better. I might not have noticed this subtle change, had it not seemed to blossom in multiple corporate venues almost simultaneously.

Next, we begin to see ‘downsizing’ and ‘right-sizing’ throughout the early eighties, in which companies seek to shed ‘overheads’ and strip down to their ‘core competencies’.  In some instances, the corporations attempt to do this humanely for some of their middle managers and professionals by granting them ‘consultant’ relationships in place of their current employment relationships.  This temporarily reduces headcount on paper, but not necessarily cost.  It does, however, cut the benefits bond. And within a year or three, it cuts the consultancy bond. In other cases, there was merely churning of staff in order to get rid of ‘dead wood’, but really to drive down the unit cost of labor.

Another stratagem of this time was to cut loose an internal function and its related staff to an outsourced service bureau on the pretense that the function is now more closely aligned with the core competencies of the outsourcing firm than with the client firm, and that economies and efficiencies will evolve.  IT and facilities maintenance functions were prime opportunities for this. The chief economy achieved in the mid eighties was that the salaries and benefits of the outsourcing firm were not as generous as the prior client firm relationship.  Over time, competencies and economies of scale did evolve for these service oriented entities as advances in information technology supported true specialization. But the primary initial motivations appeared to be reduction of headcount and associated benefit costs.

By the mid ’90s an age of business irrational exuberance topped Francis Fukuyama’s ‘End of History and the Last Man Standing’ with the notion that the business cycle had also been vanquished along with Communism. Corporate boards across the business spectrum gathered around the punch bowl to celebrate the growth of stocks, and with that, the growth of pension fund surpluses that could now be ‘redeployed’ back into the enterprise, on the assumption that the good times would continue to roll unabated,  Was this corporate herd mentality or a conspiracy of the elite? The question is largely irrelevant, though there is ample precedent to support corporate herd mentality. The end result is the same: the looting of many pension plans of critical value on an unsustainable pretext.

And then  came the ’00s.  Who could have ever imagined in their wildest nightmares that the good times wouldn’t role on forever, and the dreaded Business Cycle would swing back with a vengeance.  Downsizing proceeded with new vigor through outsourcing, off-shoring and technological displacement wherever possible. Defined benefit programs were frozen, and in some cases defaulted into insolvency and the tender hands of the Pension Benefit Guarantee Corp, in the case of the private sector plans.  In the course of this turbulent period, we discover the utter sham that is the financial services sector, fleecing not only the little guys, but the supposedly smart set that populate corporate C suites and boards of major entities outside the investment community.

And then comes the Great Repression of 2008, and its multiple aftershocks and tsunamis, most significant of which was the stripping of all pretense of viability of public pension plans. Since then, much has been made by corporations and the Republican party of the excess of unions in negotiating unsustainable pension benefits.  It doesn’t wash.  There were two parties at the negotiating table. Managements, both public and private, were in the position to know the truth about their pension obligations. Union leaderships, of varying degrees of competence, should nonetheless have been equally competent in understanding the evolving economics and trend lines of benefits. But over the thirty years, all vigorously sustained fictions bordering on fraud that were no longer sustainable.

And here we are now in the ‘teens, waiting for the Boomer retirement shoes to drop as if from the feet of a centipede over the next twenty years.  As we begin the run-up to this transition, it is fitting that the phase ends as it began.  Just as the phase began in the seventies with financial ‘restructurings’ of dubious benefit, we are now in QE3 (Quantitative Easing).  I have not understood the mechanics of this stratagem any better than restructuring.  Critics worry that it is creating a market bubble that will eventually burst.  Could be. But that doesn’t speak to why it was created.  I suspect that one reason, perhaps the main reason, is to prevent private and public pension plans from falling into technical default and triggering major shock waves, particularly in the public sector.  It serves the same function for pensions that the bail-outs did for the banks in 2008; to engineer if possible a smooth transition at best and a softer crash landing at worst.

I have no favorites in this tale.  Managements kicked the can down the road, rather than bargaining smartly with their employees through their unions.  Unions slit their own throats by piling on demands that were winnable in the moment, but not sustainable in the long run. Advisers to both remained mute as to the realities of the gradually evolving trends. But not all advisers.

Employees remained oblivious or indifferent to warnings in the press regarding the inadequacy of social security alone as a retirement income source.  They appear to have remained equally oblivious to what was happening around them in the corporate jungle as the rain forest of retirement benefits was steadily being mowed down, laying bare the land to the scorching heat of an evolving and predatory economy.

No, there are no favorites, and no innocents.  Just plenty of victims.

And the question – which way forward, and to what destination?

Next stop: health care.

Onward.

20130120