Book Review: An Illustrated Book of Bad Arguments by Ali Almossawi

An Illustrated Book of Bad Arguments
An Illustrated Book of Bad Arguments

We are inundated all day by opinions of friends, family members, frenemies, colleagues, bosses, television commentators, newspaper columnists, radio hosts, political leaders, and ex-banker bloggers all making more or less ridiculous arguments in favor of their worldview.

We may frequently sense that they’re wrong, but we can’t quite put our finger on the flaw in their argument.

What a delight to discover a book to help categorize all the ways in which we all get it wrong, in the online-only An Illustrated Book of Bad Arguments, by Ali Almossawi.

I gather from his Preface to the book and his website that he’s a computer programmer, and that he works for the folks who make the Firefox internet browser.

The brilliant trick Almossawi accomplishes – via clever illustrations and a pithy style – is to invite the unsuspecting and easily-distracted into reading a pretty serious critique of illogical thinking.  As he writes in the Preface, a good way to improve is to look at bad examples of the thing you’re trying to do.  In his review of bad arguments, we can see more clearly mistakes we and others make.

Take an hour to read it.  You may find yourself taking notes and vowing to think and reason a little more clearly.

An Illustrated Book of Bad Arguments, by Ali Almossawi

For the really easily distracted, here’s an even pithier list of Almossawi’s bad arguments, for which he provides good examples and clever pictures:

Argument from Consequences – appealing to wishes or fears, without due consideration of the logic of the argument

Straw Man – Exaggerating someone else’s claim in order to ridicule or dismiss

Appeal to Irrelevant Authority – Trusting the wrong source of authority

Equivocation – Changing the meaning of a word in the middle of an argument

False Dilemma – Creating only two possibilities to choose from, when in fact there are more than two choices

Not a Cause for a Cause – Connecting non-causally related events

Appeal to Fear – Similar to Slippery Slope, and possibly False Dilemma

Hasty Generalization – Too little data or sample size to make conclusions

Appeal to ignorance – No evidence for opposite view, therefore positive view of argument, ignoring burden of proof problem

No True Scotsman – General but unproved/unprovable claim about a category of things

Genetic Fallacy – Argument devalued or defended because of its history or origins

Guilt by Association – Linking argument to some unappealing association, or sharing an attribute with another group that is to be avoided

Affirming the Consequent – Using the false logic of “If A then C.  Observing C, then A.”  In other words, the wrong direction of causality

Appeal to Hypocracy – Countering a charge with a charge that is not logically connected

Slippery Slope – Saying acceptance will lead to a sequence of events.  Related to Appeal to Fear, False Dilemma, Argument from Consequences

Appeal to Bandwagon – “All the cool kids” are doing something

Ad Hominem – Attack the person’s character

Circular Reasoning – Assume the conclusion in one or more premises

Composition & Division – Composition – the argument that a whole must have attributes because its parts have that attribute; and Division – the smaller part will take on the characteristics of the whole

 

Please also see related post: All Bankers Anonymous Book Reviews in one place!

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Daughter’s First Stock Market Investment

As a father of two daughters, I know I’ll never forget certain special times: their birth, Day 1 of Kindergarten, baby’s first piano recital, menacing the punk who is picking her up to go to the prom, and the police report I’ll file when she quits college to run off with the lead singer of that Norse Death Metal Band.[1]

Moments you never forget, like a first stock market investment
Moments you never forget, like a first stock market investment

As an ex-banker with a daughter, however, other unforgettable milestones also stand out.  Like, for example, when the eldest first beats me at Monopoly, when she makes her first stock market investment, and when she learns how to program Excel to calculate discounted cash-flows.[2]

Dear readers, that stock market investment moment has arrived, so I thought I would bring you along with us on this beautiful father-daughter bonding journey.  Grab your spreadsheets, and your handkerchiefs.

My daughter’s life savings

First, a confession:  I am clearly a mean Daddy. 

Until last week, my oldest had $370 in her bank account, the sum total of eight years of hoarding cash gifts from Aunts, Uncles, Grandparents, Santa Claus and the Tooth Fairy.  In addition to the savings account, she also boasted $31 in cash that she scored at my Sunday evening poker game with the neighborhood dads.[3]

A few months ago I realized – here’s the mean Daddy part – that if she had a total of $500, I could take her hoard and buy some public shares in a custodial account.  In that way I could simultaneously:

1.      Remove her liquidity/temptation to buy Bratz Dolls (or something equally horrible)

2.      Teach her valuable lessons in long-term investing, delayed gratification, and math.

Now, buying shares in public companies ranks #748 in the priority list for what eight year-old girls want to do with their life savings, but again, I am a mean Daddy and that’s the kind of cruelty I subject my daughters to.  I’m an ex-banker, what did you expect?

The manipulation begins

I started in on the project a few weeks back.

“Do you know you have about $400 saved up?  And do you know what would be fun to do with your money?”

Silence.

“We could pick a stock to buy and then track it in the newspaper, or even online!” I said cheerfully.  Perhaps a bit too brightly.

“Okay…” she looks at me, with a healthy dose of mistrust.  (I’m so proud of her.)

“So do you want to do that?” Picture me, with a hopeful face.

Silence.

A few weeks later

I had an awful idea.  A wonderful, awful idea.
I had an awful idea. A wonderful, awful idea.

I have an awful idea.  A wonderful, awful idea. 

On a Friday afternoon, after school.

“Do you remember that plan I had for investing in a stock with your savings?”

“Kinda.”

“Let’s work on that today.”

I explain to her my plan, which is to walk around the kitchen, living room, and her bedroom, picking all the things that are made by big companies.  And then from there I’ll have her pick which one would be the coolest company to invest in. 

And also, I mumble to her in that fast voice explaining terms and conditions in the final 5 seconds of every car commercial or Levitra advertisement, we’ll need to pick a stock that we can invest in directly through the company, with an automatic dividend reinvestment plan, without having to go through a brokerage company.

Extra incentive

Then I told her if we did my stock investing plan with her $401 in life savings, I would kick in an extra $100, so she could have $500 total to invest in a company.  She’s no Warren Buffett (yet) but I think she quickly understand the good deal I was offering. 

And I knew that she needed at least $500 to invest in a company the way I preferred, which again was to pick a stock that we can invest directly in through the company, with an automatic dividend reinvestment plan, without having to go through a brokerage company

What we did

That afternoon, we spent 30 minutes with a pen and notebook, walking around the kitchen, living room, and her bedroom.  We picked up objects and looked for the names of the companies that produced them.

Here’s what we wrote down:

*Johnson & Johnson – Lotion

*Macys – Couch

*Campbell’s Soup – Can of soup

*Colgate Palmolive – Soap

*Kellogg’s – Cereal

Maytag – Stove

Lakeshore – Wooden toys

*Sony – Stereo

Kenmore – Microwave

Viewsonic – Computer monitor

*Black & Decker – Coffee maker

*Apple – Computer

Bic – Lighter

Bayer – Vitamins

*Hewlett Packard – Printer

*Hasbro – toys

*CVS – Medicine

Morton’s – Salt

Kitchen Aid – Stove

Emerson – Clock radio

Sunbeam Products – Coffee grinder

Lands End – Lunchbox

*Target – Bag

Penguin Publishing – Cookbook

Biersdorf – Aquaphor

Milton-Bradley – Games

*Kimberly Clark – Kleenex

Pampers – Diapers

*Starbucks – Daddy’s coffee

Next, we opened up the Wall Street Journal[4] to the 1,000 largest stocks page, and whittled our list of companies to only those which appeared on this list – a smaller group – which I have identified above with an asterisk before the name.

Old-school stock picking - printed page and magic marker
Old-school stock picking – printed page and magic marker

I prefer her first stock investment to be made with a large, widely-followed company.

Finally, I asked her to choose among the large, public companies which five she felt most kindly toward, or which she thought made great products.

Her List

Her list was as follows:

Kellogg’s (Rice Krispies are loud loud loud!)

Apple (Mommy has an iPad and she is nice!)

Target (Fun shopping trips with Mommy!)

Starbucks (Daddy is an addict and clearly has a problem!)

Campbell’s Soup (Big Warhol fan!)

The final choice – DRIPs

The final choice of which company would get my daughter’s $500 came down to the very particular criteria imposed by Dad.

I wanted to teach my daughter a few key pieces of information about stock investing that I did not learn until relatively late in life.  Namely:

1.      You don’t have to invest through a brokerage company, but instead you can invest directly with many public companies, bypassing a layer of investment costs.  If you are a buy-and-hold investor, this can save you money in fees over time without any inconvenience when it comes to trading – since you won’t be trading much.

2.     You can set up a plan with companies to have any dividends directly reinvested in their stock.  Traditionally these plans are known as DRIPs (Dividend Reinvestment Plans), and they allow investors to automatically purchase more shares – including fractional shares – with dividends.  This is ideal for a kid with a 10-year (at least) investment time horizon, and who will not need to use dividends to cover her cost of living.  DRIPs reduce reinvestment risk,[5] and they remove the temptation to spend investment income.  In sum, they are awesome for my purposes with my 8 year-old daughter, and they are probably awesome for many adult buy-and-hold investors as well

So, I took the list of 5 preferred companies and looked up on line to see which ones offered DRIPs.

Our search among the 5 preferred companies

It turns out Apple is the least DRIPpy, as their investor relations page says it’s not possible to buy shares directly from the company.  That’s fine, and seems like a perfectly reasonable position for the most valuable stock in the world. 

Starbucks, Target, and Campbell’s Soup all offer a version of direct purchases from the company plus dividend reinvestment – in fact all via the same company – called Computer Share, which manages DRIPs programs for a number of companies. 

I didn’t love the user interface for Computer Share, and each company specifies different terms: different minimum amounts, different costs to purchase, different costs to sell, and different reinvestment programs. 

In my search for simplicity for my daughter, this wasn’t it, although I’m sure it’s a fine solution for many folks.

That left Kellogg’s, which helpfully does have a simple direct investment program with reinvestment of dividends. 

The Nitty Gritty Details

My daughter, admittedly, lost a bit of interest as I surfed the Interwebs reading about different programs for direct stock purchases.  After looking over my shoulder for about 3 minutes, she disappeared for the next 30 minutes.  She was either playing with her American Girl doll or playing Norse Death Metal Groupie.  I’m not sure which.  Daddy was busy.

“Aha!  I found it!  Kellogg’s allows us to invest directly and have automatic reinvestment of dividends, and they have a $500 minimum.  So we’re good.  So is Kellogg’s ok?”

“Um, ok Daddy, if you say so.”

“See?  Isn’t this exciting?  I’m excited.”

With her blessing I then took ten minutes online to open up the Custodian Account for a Minor, which involved my social security number, and inputting the bank account from which $500 would be drawn.

With that task completed, I returned to telling her a few things about investing in Kellogg’s stock.

First lessons in stock ownership

We looked briefly at the Google Finance page for the company, and I showed her how the price changes over time. 

I showed her on that page also that every quarter owners of the stock receive money in the form of dividends.  Her dividends would buy more shares over time. 

I told her that the total investment value of a company is the number of shares multiplied by the price of shares.  I showed her in a spreadsheet how $500 would buy about 8 shares, with the stock price around $60/share.

I told her that her $500 could lose value, but that more often than not, in the long run, it will increase in value.

What I’m not trying to do with this investment

I’m excited about this project – admittedly about 8 times more excited than my daughter – but still this was a wonderful, awful, idea of mine. 

But I know that my idea does not teach everything my daughter should know about stock investments.

We had nearly zero discussion about the relative money-making prospects of her first stock purchase.  We barely talked about the attractiveness of Kellogg versus other companies – other than the fact that Rice Krispies are a very loud cereal (a big plus in the 8-year-old world) and other companies do not make Rice Krispies.  Ultimately, greed can be an important motivator for stock investing, but I decided to downplay that for now.

I’ve told my daughter nothing about value investing vs. growth investing. 

I’ve told her nothing about modeling future cash flows to identify the value underpinning her business ownership. 

We know nothing about the management of Kellogg’s – for all I know Dennis Rodman is the new Chairman of the Board. 

Dennis Rodman and new BFF Kim Jong Un
Dennis Rodman and new BFF Kim Jong Un

We didn’t read the latest annual report (although I downloaded it). 

I have not exhaustively read the business news on Kellogg’s to help identify with her the known risks and opportunities of the company. 

I’ve told my daughter nothing about properly diversifying a stock portfolio.  I realize we’ve concentrated 100% of her equity portfolio in a single company, something I would never advocate for an adult.[6] 

I’ve shown her, but de-emphasized, the importance of the historical price chart for the company, because it’s frankly not as useful as it appears. 

I have not reviewed with her the freaky Black Swan events that can take a perfectly healthy-seeming company with a long history and destroy it quickly, in the process dis-Apparating[7] her $500.

What I am trying to do with this investment

Despite not covering everything, I feel good about four lessons which I have started to teach my daughter.

1. Our relationship to big business and the economy – We buy and use things, every day, made by big public companies.  Those companies aren’t monsters.  And they’re not the boss of us.  If we have savings, we can be the boss of them.[8]

2. Math helps in the real world – Multiplication (a key 8 year-old skill to master) has a practical use in the real world, as do spreadsheets.  The total market value of her investment at any time can be calculated by multiplying the share price by the number of shares she owns.

3. Investing money over time is possible, and important.

We can pick which investments to make from a wide variety of choices.  It’s possible – although of course not guaranteed – that we can grow money through stock ownership, both when the companies pay dividends as well as when the share price goes up.  In the long run, a variety of stock investments could make her money grow.  In the short run, and in plenty of cases, she could lose money. 

4. When possible, try for as little startup cost as possible

She can start investing her savings in public shares for as little as $500.

She does not need a brokerage company in order to invest in companies, but rather can invest in the companies directly, for about $15 in total cost.

She can set up a system to have regular dividends reinvested in those companies.

For now, that’s enough. 

By the time she decides to sell – maybe that will be age 18 when she goes to college and needs spending money, or maybe age 19 when we enroll her in the convent to avoid the Norse Death Metal Singer – I expect we will have covered a few more investment lessons.

Disclosure statement: Other than the $500 Kellogg’s investment described here I have no direct investments in any of these companies mentioned, nor in any death metal bands, Norse or otherwise.

Please see related posts:

Daddy I need an Allowance because you took all my money and invested it in stocks and that’s no fun

The Allowance Experiment Gets Even Better

Stay away from my daughter
Hey Norse Metal dudes: Stay away from my daughter

 


[1] Note: These last two are still in the distant future.  My oldest daughter is only eight, thank the Good Lord.

[2] Note: That hasn’t happened yet either, because again, she’s eight.  But I get weepy just thinking about what joy that milestone will bring to our family.

[3] Long story, short: She had a few premium hole cards early and a couple of good flops.  Admittedly, also there was a little bit of crying when the pressure mounted.

[4] Yes, Daddy is a super-duper dinosaur.  I read the Wall Street Journal, print version, every day.  In this case though, I think the print version helped because we could physically hunt the page with our magic marker for the names of companies we’d found around the house.  So, if your investment strategy involves a magic marker, I recommend a long-standing commitment to print journalism.

[5] Traditionally a bigger risk for bonds – the idea that you can’t invest your investment income at the same expected return as your initial investment – but still an issue for dividend stocks.

[6] If she were an adult, and she had $5,000 for example, I would insist she buy some low-cost diversified mutual fund, because that’s all most people ever need to do to get wealthy.

[7] She’s a Harry Potter fan, so she could relate to this description of her money.

[8] But listen, kid, don’t get any ideas about being the boss of Daddy, because only Daddy is the boss of Daddy.  Doubts about this point are already a looming problem in the household.

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Last Words on the London Whale

This is a shark, not a whale.  But cool picture, no?
This is a shark, not a whale. But cool picture, no?

The last thing this world needs is another comment on the London Whale, but I’ve been silent on the topic for over a year, and today’s announcement that JP Morgan will pay $920 million in penalties, plus offer an apology, inspired a few quick thoughts.

The settlement is meaningless, as punishment

All along, the London Whale narrative of the past 1.5 years has been a scarcely concealed proxy fight over the so-called Volcker Rule, namely the idea that investment banks may, or may not, have to get out of the proprietary trading business, as a result of Dodd-Frank.

To the extent the London Whale position started out as a risk-reducing hedge, later became a profitable proprietary position, and then still later an unprofitable proprietary trade, it serves as a nice specific example for critics of proprietary trading to embarrass the pro-proprietary trading side of the argument.

Prop trading losses are self-correcting

What should not require explanation, but I think does, is that fact that proprietary trading losses already offer efficient argument against bad risk management in proprietary trading.  When a bank loses money in prop trading, you really don’t need to fine the bank for losing its own money.

Proprietary trading losses are a self-correcting thing.

JP Morgan reportedly took a $6.2 Billion write-down against the position.  The traders were fired, the risk managers were fired.[1]

As the SEC, you really don’t need to pile on an extra $920 million in fines to rub JP Morgan’s little doggy nose in the mess it made.  They got the message already, a year ago.[2]

All that happens when Wall Street folks see this kind of gratuitous SEC enforcement action is that they roll their eyes and think to themselves, “the regulators don’t get it.”

“But JP Morgan admitted wrongdoing, so there must have been bad behavior, right?”

Wrong.   JP Morgan admitted to an “SEC violation.”

In a new precedent set within the past year, banks now have to admit wrongdoing when they settle something like this, because that’s the new SEC mode.  But the admission itself is silly as an SEC violation.

Their admission was that senior management didn’t tell members of the audit committee of the board of JP Morgan about the extent of losses from the trade in a timely fashion.  Seriously, that’s the admission.[3]

So let’s think about that SEC violation.  That’s also a self-correcting mechanism.  If the board is bent out of shape about senior management’s ‘failure to timely inform them,’ its pretty easy to correct that problem.  They can just fire the CEO.  That’s the board’s job and the board’s right, and they haven’t exercised that right at this time.  Which means they are fine with management, and Jamie Dimon in particular.

Protecting not widows and orphans, but JP Morgan’s audit committee of the board

The SEC’s role in protecting the board audit committee is really a silly kind of ‘SEC violation’ that isn’t necessary.  The SEC was not talking about protecting widows and orphans from bad banks.  The SEC was talking about protecting JP Morgan’s board members from the bank’s senior management.[4]

The senior management, incidentally, serves at the board’s pleasure.  So in essence the SEC was protecting the bosses (the audit committee of the board) from their employees (Dimon and his team).

“But ‘banks = bad,’ so I like it whenever the government sticks it to The Bad Man”

Grrr.

Banks need to be regulated of course, but banks need to be regulated in ways that aren’t gratuitous or done for excessively symbolic reasons.

This SEC enforcement action is nothing but a big, unnecessary proxy action for the Volcker Rule fight.

Wall Street knows this, JP Morgan knows this, and they’re willing to lose this battle in order to win the larger war regarding proprietary trading.

Ultimately it’s about respect for the rule of law

In the long run, symbolic and gratuitous enforcement actions[5] weaken respect for the rule of law.

As in: We (the government) pretend to have found something wrong and you (the bank) pretend to be contrite for doing something that you do in the ordinary course of business.  With each of these pretend enforcement actions, over time you whittle away at any respect the bank may have had for its regulators.

With each of these pretend enforcement actions the question in bank management’s mind is less “How can we be better stewards of our industry?” and more “Ok, just tell me how much this is going to cost me, to make this regulator temporarily go away?”

At some level regulators know this, and they know they can make a big high-dollar score against the finance industry.  Elected officials certainly know this, and can work the delicate game of being useful, in the right circumstances and with the right industry support, at key moments.  All of this is not a move in the right direction.

The London Whale penalty, in the long run, is a victory for nobody.



[1] Jamie Dimon of course was not fired, because he’s Jamie Freaking Dimon.

[2] And incidentally, while the headlines losses are nominally big, they are immaterial to the operation of JP Morgan overall.  At no point has anyone even remotely believed that the London Whale losses matter existentially to JP Morgan.  The bank is fine.

[3] And frankly there’s a good-to-overwhelming probability that senior management themselves had no way of knowing the extent of the losses at the time.  The position was still on, and markets move, and losses may get bigger or smaller.  You don’t know until you completely unwind the position.

[4] Just for fun, who exactly is the SEC protecting, on the audit committee of the board?  James Bell, former Boeing executive, and board member also of Dow Chemical; Crandall Bowles, Chairman and former CEO of Spring Industries and member of the board of the Brookings Institution, The Wilderness Society, and the Packard Center for ALS Research at Johns Hopkins; and Laban Jackson, the Chairman of Clear Creek Properties, Inc., director of Markey Cancer Foundation, director of the Federal Reserve Bank of Cleveland, and former director of The Home Depot.   I think these people can defend themselves.

[5] something Eliot Spitzer made a career of and rode all the way to the NY Governor’s office

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What’s In My Wallet? Hope.

Capital One Kitty
The Kitty called me back

I recently complained about my business bank’s proposed unilateral change in checking account terms because they moved from simple to complicated in their cost structure.

Not only that, but earlier this Spring I had written that they really rubbed my rash when I tried to close a line of credit with a 2 cent balance (!) and treated me to the full Skynet-Kafkaesque-Brazil-dehumanizing-bureaucracy[1] that probably extended my personal therapy sessions to deal with bank rage issues[2] for yet another year.

I’m surprised and delighted to report an update this week:

Capital One reached out to me to apologize for the confusion, answer my questions, ask my advice as a customer, and to listen.

This is huge.

A woman named Allie sent me an email, offering to track down the background to the specific information I reported in my post.

Next, on the following day, she set up a conference call with Rich, from the small business banking network, and Carrie, from small business development.

We all spoke for about twenty minutes.

Rather than be defensive about my pointed criticism, they thanked me for being blunt and said they wanted to improve.  Rather than try to justify the institutional changes they were making to business accounts, they said they wanted to use my feedback to serve customers better.

These three were good communicators, and good listeners.  When I got on my self-righteous soapbox about how mistrustful customers are of their banks – and with good reason – they encouraged me to offer suggestions.

“How can we do better?” they asked numerous times, in different ways.  This is a great start.

I’m as cynical as they come on the issue of bank customer service, so they took a risk in setting up a conference call with me.  I would have had no problem turning yet another unfortunate interaction into red meat for an angry anti-bank blog screed.

I have to admit, however, these folks did well.  Somebody at Capital One has figured out how to make the customer feel good.  So the challenge will be to take that approach and expand it to the rest of the bank.

Seth Grodin periodically writes about the profitable opportunity – in a horrible customer-service world – to distinguish your business through customer delight.

Here’s hoping Capital One gets there in time.

Please see related posts: Why you hate your bank


[1] We really need a short hand version of this idea in English, rather than an extended and unwieldy hyphenated reference to two movies, and an author.  This kind of idea lends itself to one big long German word, but I unfortunately don’t speak German.  Surely the Germans have a word for this already, no?  Would somebody please help me?

[2] Is ‘Bank Rage Issues’ in the Diagnostic and Statistical Manual of Mental Disorders yet?  Apparently the American Bankers Association has been lobbying hard for its inclusion.

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Excel Cheat Sheet – And Not Just For Beginners

I’ve been spending my days lately putting together lessons on Excel for beginners.

A reader sent a link to this printable info-graphic – a great way for folks new to Excel, as well as experienced Excel users, to dig into the power of the program.

The first two pages are very basic, and then the info-graphic really digs into more advanced stuff.

http://graduatedegreeprogram.net/excel-cheats/

An infographic by the team at Graduate Degree Programs

 

Excel Hero

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Book Review: Cities And The Wealth Of Nations by Jane Jacobs

Jane Jacobs begins her Cities And The Wealth Of Nations with a fundamental critique of mainstream economics.  Cities – and not nations – she argues, are the fundamental wealth producers, and therefore cities – and not nations – should be the basic unit of analysis for economics and finance.

From this critique flow original ideas on rural development, currency regimes, and the decline of economic empires.

As in her better known classic The Death and Life of Great American Cities, Jacobs radically ignores, or leaves aside, the starting principles of her intellectual predecessors.

Jacobs isn’t held back by the fact that Adam Smith – and almost all subsequent macroeconomists – consider national economies the appropriate way to measure economic growth.

Nearly 30 years after this book was published, I am impressed at just how useful her analysis is for understanding current economic problems.  Want to understand why China’s experiment in the 60s didn’t work but what is working today?  Want to understand why the European Common Currency may really never work?  Wan to understand what types of transfer payments may undermine our economy in the long run (and it’s not the ones you were thinking about).

Jacobs offers much in this book to help us understand these and other big questions.

 

Cities are the key units of measure, not nations

In economics we typically quote Gross National Product when measuring growth, but that measurement, Jacobs would argue, obscures the preponderance of economic activity which flows not from a nation as a whole but rather from its cities.  It makes more sense, therefore to think of the economies of New York and LA as the keys to understanding development.

She points to the historical example of Italian city-states, and the modern examples of Singapore and Hong Kong, to illustrate the mechanism by which cities, not nations, drive trade, innovation, labor markets, and capital formation.  The regions surrounding cities become ‘city-regions’ shaped entirely by the urban center.  Regions outside of cities, including rural and less populated areas, either conform to the proximate city economy, or get left developmentally backward.

 

Rural Development

If cities, not nations, drive wealth creation, then our definition and perspective on economic under-development changes.  Jacobs argues that less-developed economies typically suffer from a lack of successful cities, or an over-reliance on a single city.

“Show me a poor, underdeveloped country,” Jacobs seems to say, “and I will show you a country with very few or no successful cities.”

Among my do-gooder peers, “rural development” seems like one of those universally admired ideas, like Motherhood, Cross-Fit, and pro-biotic yoghurt.[1]  A number of close friends have dedicated significant years of their impressive lives toward this admirable goal.

But viewed through a Jane Jacobs filter, rural development becomes an oxymoron.  If innovation, technology adoption, specialization, job creation and capital formation all happen in cities, then attempts to drive rural development work against the natural order of economic life.  To the extent rural and agricultural areas become shaped by and therefore satellites to vibrant cities, rural folks may make a living, for some time, albeit generally at a reduced standard of living compared to urban areas.  For significant parts of a less developed country to embrace investing in rural development, however, Jacobs would call it madness.[2]

Currency Regimes

Jacobs goes to significant pains to illustrate the different pace of economic growth in urban and rural areas, and to explain how this difference interacts with national currencies.

Currencies, she reminds us, interact with economic growth as part of a natural economic feedback loop, and – when freely tradable -currencies act as a pressure valve for equalizing values through international trade.

Successful cities spur trade, foster technological changes, create jobs, and create capital, all of which benefit from – and indeed require – an expansive monetary policy to accommodate faster growth.  Rural areas, by contrast, typically plod along at a slower pace of change, for which an entirely different – and more restrictive monetary policy – may be appropriate.

The problem with many national currencies, she argues, is that different rates of growth within a single nation between the city and the countryside receive inappropriate signals from the currency.

People in rural areas tied to a monetary policy driven by the needs of high-growth cities will suddenly find everything in a city inordinately expensive, as inflation in some areas outpaces it in others.  Urban-dwellers, by contrast, will find their economic life stunted if monetary policy makers favor the needs of rural producers, in essence holding back the faster city-driven growth.

Currency Regimes – the city-state advantage

Jacobs points to successfully developed city-states, such as Singapore, Taiwan, and Hong Kong – that thrived with their own currency – as evidence of her view.  Far from representing a disadvantage – due to the costs of currency exchange – a unique tradable currency helps these small countries match economic growth to appropriate monetary policy.

Monetary policy closely matches the high-growth trajectory of the city states, unencumbered by rural areas.

Jacobs offers a memorable metaphor for why unique currencies can enhance growth, whereas national currencies frequently hinder growth:

 

“National currencies, then, are potent feedback but impotent at triggering appropriate corrections.  To picture how such a thing can be, imagine a group of people who are all properly equipped with diaphragms and lungs, but who share only one single brainstem breathing center.  In this goofy arrangement, the breathing center would receive consolidated feedback on the carbon-dioxide level of the whole group without discriminating among the individuals producing it.  Everybody’s diaphragm would thus be triggered to contract at the same time.  But suppose some of those people were sleeping, while others were playing tennis.  Suppose some were reading about feedback controls, while others were chopping wood.  Some would have to halt what they were doing and subside into a lower common denominator of activity.  Worse yet, suppose some were swimming and diving, and for some reason, such as the breaking of the surf, had no control over the timing of their submersions.  Imagine what would happen to them.  In such an arrangement, feedback control would be working perfectly on its own terms but the results would be devastating because of a flaw designed right into the system.

I have had to propose a preposterous situation because systems as structurally flawed as this don’t exist in nature; they wouldn’t last.  Nor do they exist in the machines we deliberately design to incorporate mechanical, chemical or electronic feedback controls; machines this badly conceived wouldn’t work.  Nations, from this point of view, don’t work either, yet do exist.”

Currency Regimes – anticipating the EU problem

Jacobs published Cities And The Wealth Of Nations in 1985, prior to the launch of the European common currency, but it’s easy to anticipate how she would describe the European Union crisis of the past few years.  Observing the culture and economic activity of Germany, shackled together with the culture and economic activity of Greece, we can imagine her horror.

A single monetary regime for the European Union may or may not ultimately survive the ongoing crisis that began in 2008, but the pain imposed by inflexible currencies could not be any clearer.

Countries like Spain and Greece right now – with high structural unemployment – receive disturbing monetary feedback from the restrictive German control on the European Central Bank.  Even if smart Greek observers like this one claim that union remains essential, it comes at great cost.   He says it’s worth it, but Jane Jacobs would say it’s not.

Seeds of Decline

Jacobs ends Cities And The Wealth of Nations on a downbeat note, arguing that the vast economic differences between urban and rural areas leads inevitably to the creation of vast, inefficient, subsidies from the former to the latter areas, made in the interest of national stability.

These subsidies come in a variety of forms[3], but Jacobs claims they contain within them the seeds of inevitable national economic decline.

Given the current political divides in the US, her commentary on the inefficiency of subsidies seems particularly ironic and notable.

Jacobs laments the inevitable and vast transfers of wealth from cities to rural areas, since this saps economic strength from wealth-producing cities and shifts it to lower-growth, under-developed rural areas.

I’m struck by the idea that the conventional wisdom of current political dialogue in the US assumes, unlike Jacobs, that our urban underclass receives an unfair share of government largesse, sapping the vitality produced by a theoretical US “heartland.”

And yet, our national legislative system – guaranteeing an over-representation of people in under-populated states via the Senate – practically guarantees that subsidies will flow from urban to rural areas, not the other way around, as is commonly supposed.

Predictions are hard, but it doesn’t pay to underestimate Jane Jacobs.

Jacobs claims, somewhat dramatically, that the seeds of inevitable national economic decline stem from these unproductive flows of capital from urban to rural areas.[4]

In the hundred-year view, she argues, the United States began its decline in 1933 with the implementation of large scale rural subsidies, while Japan’s decline will date from their similar decision in 1977.

The last twenty-five years have been kind to her ideas in this book, just as her ideas from The Death and Life of Great American Cities seem as relevant as ever, fifty years on.

We ignore her ideas at our own great peril.

This completes my trilogy of Jane Jacobs book reviews.

Please also see my review of Jane Jacobs’ The Death and Life of Great American Cities

And my review of Jacobs’ Systems of Survival – A Dialogue on the Moral Foundations of Commerce and Politics.

Please also see related post: All Bankers Anonymous Book Reviews in one place!

cities and the wealth of nations


[1] Universally un-admired ideas, for example, include chemical weapons, Humvees, and Alex Rodriguez.

[2] Interestingly, although Jacobs does not focus on this example – probably because she published her book in 1985 – China’s last fifty years is almost a perfect illustration of Jacobs’ idea.  The catastrophe of China’s 1960s rural development, which set back an entire generation, has been replaced with furious urban development, and the greatest, fastest, boom in human wealth creation the world has ever seen.  By a long shot.

[3] In the US, Jacobs points to the 1930s as the beginning of the era of decline in the US.  Rural Farms bills in the US, we can infer, would be the kind of thing Jacobs deplores.  In Japan, Jacobs points to 1977 as the year that subsidies to less productive rural areas began in earnest.

[4] Along with unproductive and excessive military spending.

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