Friday, July 10, 2009

Modified Behavior =
Intervention vs. Newton

Recently, The Wall Street Journal surveyed 51 economists as to the need for a second stimulus. In the same survey they asked these learned people about the Obama administration’s plan to overhaul financial regulation. Of the survey respondents, 44% thought that the proposal was acceptable under the current political conditions and 15% believed that proposals will make the financial system safer. Either at least the 15% of those surveyed, and possibly most of the 44%, have absolutely perfect children or they have not taken a course in Physics.

As they say, it takes two to tango. Almost none of the evils were pre-meditated. The problems that have befallen people would not have been possible without both sides agreeing on something. Purchases of homes, cars, securities, and the inherent acceptance of debt (or as we prefer to label it, leverage) would not have been possible without a signature. In almost all instances, the signature was accompanied by a difficult-to-comprehend legal document. In many cases, the obtuse legalese was in documents that were never opened, even to examine their length. What motivated these buyers, some of whom were companies and, in many cases large, publicly-traded corporations, was the desire to own something they could not afford. These loans were packaged in a number of different wrappings and sold to both individual and institutional buyers. Despite the weighty legal documents, the attraction to buyers was a perceived, essentially, riskless, above-average yield (or performance). Many of those who lost their assets in various frauds and Ponzi schemes suffered from the same desire for unrealistic returns.

The very human desire to prevent such tragedies in the future is understandable and even commendable. However, it starts with a fallacy that “they” did it to the unsuspecting public. In the current political environment, “they” is usually a financial intermediary. There is little or no recognition of the culpability of the tango partner, or the sweet music played by the government. I believe that until there is some self-recognition of the initial source of the problem, there will be few solutions achieved.

One of the frightening elements of the Journal’s survey and reporting is that government intervention would make the economy and/or the market “safer.” First of all, it is not the function of government to make all human relations safe. At best a very clever government, continuously monitoring all communications between people, could possibly make disclosure fairer, but that would go up against the legal protections that one or both parties want.

In general there is a lack of appreciation on the part of governments, particularly this one, as to the nature of intervention. Initially, the authors of intervention attempt (almost in a biblical sense) to divide the good from the bad with one quick stoke of His staff. There are lots of problems with this glorious picture. First, the intervener has to gather up all the good people on one side. (Are they always, in every respect going to be the good people?) All the bad guys (no matter how bad), will need to be forced to the other side of this bipolar world. Second, since the beginning of wars and conflicts, some of the participants on each side have traded with the enemy. In turn these trading relationships have blossomed into friendships and even marriages of some type. Third, almost no single intervention, by itself can stand the test of time. Even that most precious of all interventions in the English language, The Declaration of Independence, could not stand alone by itself for long. After much wrangling, the U.S. Constitution, the operating document for our enterprise, was created. Despite that effort, amendments soon became necessary, the first ten resulting in the Bill of Rights. Further, our founding Fathers recognized that the language of the Constitution may not be perfectly understood, and the various states (the political powers of the day), could interpret the document differently. Thus, to bring these concepts into line with their original intent, they created the Supreme Court. The purpose of this very brief history lesson is to show that no single intervention can be, in and of itself, a solution. In biblical terms it could be said the first intervention begat the second intervention which begat the third, etc.

I have two warnings for those who plea for an intervention: First, they will get more than they intended. The second warning is that it will not work as completely intended, no matter who designs it. Why? Get out your Physics book. Sir Isaac Newton’s third Law of Motion states that each action is met with an equal and opposite reaction. With diligence equal to that of the government, clever people will succeed at finding ways around any regulation.

There is even a more important reason why pure intervention won’t work. How many of you, as parents, successfully intervened with your children by just taking away some privilege, which they thought was their absolute right. Did it work? In most cases this pure punishment did not work. What usually worked was to forge some form of behavior modification, so that the child first understood the consequences of an action, and second (and much more importantly), modified their behavior. The solution to preventing future problems is behavior modification, not reliance on intervention.

One of the challenges in working with families of wealth is the desire of the senior member to posthumously intervene in their children’s, grandchildren’s or favorite charity’s lives. There are all sorts of provisos written into wills and trusts that are an attempt to allow the dead to control from the grave. A number of these stipulations withhold funds unless certain things are done, e.g. going to the Alma Mater, getting married, having children, completing a certain task, teaching a particular view, playing only a certain kind of music, etc. There was even one family that we worked with that tied the physical weight loss of the contingent beneficiary with the provision to receive an inheritance. Some of the more difficult situations occur when there is a family business involved, with some members of varying skills working within the business while others are non-working members. In each case, the senior member is desperately trying to make up for failures of the past. My job as the adviser to the senior member is try to get him or her to recognize, like the government, that benefits of intervention may not last, and we need to focus on current behavior modification.

The bottom line is that people eventually win over the dictates of past interventions.

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