!DOCTYPE html PUBLIC "-//W3C//DTD XHTML 1.0 Strict//EN" "http://www.w3.org/TR/xhtml1/DTD/xhtml1-strict.dtd"> Streamline Training & Documentation: February 2010

Sunday, February 28, 2010

Measures of Employment and Unemployment

With so much attention and policy discussion nowadays understandably focused on high unemployment, it's important to have a reasonably clear idea of how overall employment and unemployment are measured.

In the US, producing the relevant data is the job of the Bureau of Labor Statistics (BLS), which conducts two surveys each month:The January 2010 issue of the Economic Letter published by the Federal Reserve Bank of Dallas reproduces a BLS chart comparing the two:

Universe surveyed
CPS: Civilian noninstitutional population age 16 and older.
CES: Nonfarm wage and salary jobs.

Type of survey
CPS: Monthly sample survey of approximately 60,000 households.
CES: Monthly sample survey of approximately 150,000 businesses and government agencies covering 390,000 establishments.

Major outputs
CPS: Measures labor force, employment and unemployment with significant demographic detail.
CES: Measures employment, hours and earnings with significant industrial and geographic detail.

Reference period
CPS: Calendar week that includes the 12th of the month.
CES: Employer pay period that includes the 12th of the month.

Employment concept
CPS: Estimates the number of employed persons.
  • Counts multiple jobholders once.

  • Includes individuals absent from work without pay.
CES: Estimates the number of nonfarm payroll jobs.
  • Counts multiple jobholders for each payroll job.

  • Includes only those receiving pay for the reference period.
Employment definition differences
CPS: Includes unincorporated self-employed persons, agriculture and related workers, private household workers, unpaid family workers (persons working without formal pay in their family’s business) and workers on leave without pay.
CES: Excludes all the groups listed above, except for the logging component of agriculture and related industries.

Benchmark adjustments
CES: No direct benchmark for employment; adjustments to underlying population base revised annually to intercensal estimates and every 10 years to the decennial census.
CES: Employment benchmarked annually to employment counts derived primarily from unemployment insurance tax records.

As the accompanying article explains,
Both surveys have their strengths and weaknesses. The CPS provides a broader picture of nonfarm employment because it includes the unincorporated self-employed, unpaid family workers, private household employees and workers absent without pay. It may even partly capture off-the-books employment not reported in the CES. However, the CPS employment classification is based on interviewees’ descriptions of their jobs and doesn’t always agree with employers’ reporting in the CES ...

Analysts often view the CES as a better gauge of cyclical movements in employment by sector because of its higher sampling ratio. However, it’s subject to double counting because it may include persons with more than one job or those who change jobs in a given payroll period.
Because the CPS and the CES often diverge to a marked degree, the BLS also publishes an adjusted CPS that brings its definition of employment into closer alignment with that of the CES. Discrepencies between the two remain,
mainly related to differences in definition, size and concept of the two surveys. These differences range from sampling errors and benchmark revisions to off-the-books employment, the birth of new firms and varying job-to-job movements.
By taking the trouble to learn the basic differences between the CPS and the CES, you equip yourself to make sense of such seemingly contradictory data as those in the opening sentence of the BLS Employment Situation News Release of February 5: "The unemployment rate fell from 10.0 to 9.7 percent in January, and nonfarm payroll employment was essentially unchanged (-20,000), the U.S. Bureau of Labor Statistics reported today."



Saturday, February 27, 2010

Alfred Sloan's Memoir X: Summing Up

In Chapter 23 of My Years with General Motors, Alfred Sloan summarizes one of his central convictions concerning management of a multi-division corporation:

It has been a thesis of this book that good management rests on a reconciliation of centralization and decentralization, or "decentralization with co-ordinated control."

Eash of the conflicting elements brought together in this concept has its unique results in the operation of a business. From decentralization we get initiative, responsibility, development of personnel, decisions close to the facts, flexibility — in short, all the qualities necessary for an organization to adapt to new conditions. From co-ordination we get efficiencies and economies. It must be apparent that co-ordinated decentralization is not an easy concept to apply. There is no hard and fast rule for sorting out the various responsibilities and the best way to assign them. The balance which is struck between corporate and divisional responsibility varies according to what is being decided, the circumstances of the time, past experience, and the temperaments and skills of the executives involved.

The concept of co-ordinated decentralization evolved gradually at General Motors as we responded to tangible problems of management. As I have shown, at the time its development began, some four decades ago, it was clearly advisable to give each division a strong management which would be primarily responsible for the conduct of its business. But our experience in 1920-21 also demonstrated the need for a greater measure of control over the divisions than we had attained. Without adequate control from the central office, the divisions got out of hand and failed to follow the policies set by corporation management, to the great detriment of the corporation. Meanwhile, the corporation management was in no position to set the best policies, since it was without appropriate and timely data from the divisions. A steady flow of operating data, for which procedures were later set up, finally made real co-ordination possible.

[. . .]

Much of my life in General Motors was devoted to the development, organization, and periodic reorganization of these governing groups [governing committees and policy groups] in central management. This was required because of the paramount importance, in an organization like General Motors, of providing the right framework for decisions. There is a natural tendency to erode that framework unless it is consciously maintained. Group decisions do not always come easily. There is a strong temptation for the leading officers to make decisions themselves without the sometimes onerous process of discussion, which involves selling your ideas to others. The group will not always make a better decision than any particular member would make; there is even the possibility of some averaging down. But in General Motors I think the record shows that we have averaged up. Essentially this means that, through our form of organizatipon, we have been able to adapt to the great changes that have taken place in the automobile market in each of the decades since 1920.

[pp. 429-430, 435, 1990 edition]


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Friday, February 26, 2010

Alfred Sloan's Memoir IX: The Technical Center

Three cheers for Alfred Sloan that he decided to hire top architectural talent — Eliel Saarinen and his son Eero — to design the General Motors Technical Center, which opened in Warren MI in 1956 (by which time Eero was the main architect, his father having died in 1950). As Sloan explains in Chapter 14 of My Years with General Motors, there was some disagreement over the "architectural and aesthetic standards" that should be set for the Technical Center.

Staircase, designed by Eero Saarinen, in the Research building of the General Motors Technical Center
(Critical Detroit)

... Harley Earl had contended from the beginning that we should engage an architect of stature, and aim for a center that would be distinctive. Several others felt that any emphasis on high aesthetic standards might be detrimental to the practical operations of the center, and so they wanted General Motors itself to design and plan the project. At about the time this argument was in progress, I happened to visit the Ethyl Corporation laboratores in Detroit, which had just been completed. These handsome facilities made an excellent impression on me, and so I inclined to Mr. Earl's point of view more than I might have otherwise.

Among those who expressed some concern about the effects of an aesthetically oriented center was Mr. Lammot du Pont. He felt, quite properly, that he would not be fulfilling his responsibilities as a director unless he was satisfied, on certain points. I wrote to him on May 8, 1945, arguing the advantages of retaining an outside architect, and on May 17 he replied that he was satisfied on the point. His letter said, in part:
The whole layout and the description of its preparation gave me the impression that the matter of esthetic treatment, or as I would style it, "dressing up the place," had been an important factor from the beginning. I questioned whether the matter of appearance was of any importance in a project of this kind, the sole object being to get technical results. It was with this thought in mind that in offering my remarks, I started out with the layout which had been made by an architectural firm, whereas according to my line of thought, it would have been more appropriate to have had the layout made by an engineering firm or General Motors engineers.

I gather from your letter that it is not the intention to allow the appearances to interfere with the technical possibilities or to add substantially to the cost of the project. With those two assurances, my only remaining question with respect to the project would be answered.
We asked Mr. Earl himself to find the right architect for the center. He visited a number of leading architectural schools and sought out the opinions of others who were knowledgeable in the field, and he found in the end that virtually everyone made the same recommendation. The selection of the Saarinens was not a difficult choice. [The landscape architect was Thomas Church.]

General Motors Technical Center
Warren, Michigan

(Michigan State Historic Preservation Office)

[The General Motors Technical Center] is located on a 900-acre site northeast of Detroit, about twelve miles from the General Motors Building. At the center of the site is a twenty-two acre artificial lake surrounded on three sides by clusters of buildings. On the north side are the Research Laboratories. To the east are the Manufacturing Staff and the Engineering Staff buildings. To the south are the Styling Staff buildings, including a distinctive domed auditorium in which fairly sizable groups can gather for showings of the staff's work.

[pp. 259, 262-263, 1990 edition]


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Thursday, February 25, 2010

Alfred Sloan's Memoir VIII: The Great Depression

The trauma of the Great Depression was intense in the auto industry. Alfred Sloan's response was to re-emphasize the importance of having a strong and agile central policy-making capability, even as policy execution remained the responsibility of the individual GM divisions.

As Sloan recalls in Chapter 10 of My Years with General Motors,

The automobile industry in the United States and Canada dropped from a production of about 5.6 million cars and trucks, worth about $5.1 billion at retail, in 1929, to about 1.4 million units, worth about $1.1 billion in 1932. That was lower than any year since the war year 1918.

Thanks to the financial and operating controls, the development of which I have described in earlier chapters, General Motors did not approach disaster as it had in the 1920-21 slump. We made an orderly step-by-step retreat in all matters, including wage and salary reductions. Sales by our United States and Canadian plants dropped to 526,000 cars and trucks in 1932 as compared with about 1.9 million in 1929, a tremendous drop (72 per cent) when you consider the many expenses that are fixed. That we fared relatively better than the industry is shown by the fact that our share of the market increased from 34 per cent in 1929 to 38 per cent in 1932, the trough year of the depression. Our profits dropped from about $248 million in 1929 to $165,000 in 1932, still in the black, thanks mainly to our financial-control procedures. In 1932 we were operating at less than 30 per cent of capacity.

[. . .]

... Inevitably when an industrial enterprise is shaken with such a force as we met at the onset of the great depression, there has to be confusion. In November 1933 I began to write again on the subject of new policies, beginning at the beginning, on the subject of policy itself. I said:
I feel that this [policy] phase of the general organization problem is of particular importance to General Motors, not because of its size particularly but on account of the nature of its business, subject as it is, to what I might term "rapid changes". In other words, I contend a unit of the automotive industry has far less "coasting ability", I might term it, than units in most any other industry that might be selected for comparison. As I analyze our picture, looking forward into the future, our success or, let me say, the maintenance of our position, absolutely depends upon the ability of our organization to lay down a strategy as will enable us to forecast the rapid changes that are taking place and will continue to take place in the various activities in which we are interested, involving all the functional divisions within such activities, and to provide for those changes with sufficient rapidity.

In making this statement I am not minimizing in any sense, the importance of effectively and economically carrying out such policies as may be adopted — I am simply trying to emphasize the point that the policy phase is of vital concern because, unless we can, with reasonable intelligence, meet this issue — no matter how able an administrative set-up [i.e., policy execution set-up] we may have, it is limited in its opportunity to function. I might add further, that looking forward I feel that we have got to more aggressively deal with that phase of our problems than we have in the past. It is going to be harder to maintain both our competitive position and our profit position. We can not afford to take the time in the future that we have in the past to make up our minds what we should do with respect to changes in trends which are having an influence on our position ...
My main purpose in the memorandum from which the above passages are taken was to reassert the purely policy-making role of the Executive Committee.

[pp. 176-178, 1990 edition]


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Wednesday, February 24, 2010

Alfred Sloan's Memoir VII: The Milford Proving Ground

Interestingly, Alfred Sloan has very little to say in My Years with General Motors about production line workers. On the other hand, he gives lots of attention to GM's managers, engineers, stylists, and dealers.

(click to enlarge)

GM's Milford MI Proving Ground

For the engineers, one of the biggest steps forward was the creation of the General Motors Proving Ground in Milford MI. As Sloan explains in Chapter 14,

The most important step we took to standardize and improve test procedures was the establishment in 1924 of the General Motors Proving Ground, the first of its kind in the automobile industry. The thought was that we would have a large area, properly protected, and entirely closed to the public. It would be provided with roads of various types representing all the various demands on the motorcar from the standpoints of high speed, hills of various grades, smooth roads, rough roads, ability of a car to move through water — which is frequently required in severe storms — and the like. There we would be able to prove out our cars under controlled conditions both before and after production and we could also make comprehensive tests on competitive cars.

... Michigan is rather flat, and at first we had difficulty locating an area of sufficient size that would give us all the various grades we needed. However, almost every foot of the United States has been measured topographically, and the record was available in Washington. We went to Washington and from the Geological Survey maps available there we determined a location that appeared to fulfill our needs. Then the general executives and engineers of the various divisions and myself spent a day at the prospective site. We walked all over the place, ate a picnic lunch under the trees, and finally came to the conclusion that that particular area of 1125 acres — now 4010 acres — at Milford, Michigan, would meet the requirements we had in mind.

[. . .]

The land was surveyed; the straightaways were laid out so that we could check the effects of different winds on speed; a track was built and banked so that it was reasonably safe to operate cars at speeds up to 100 miles an hour or more. Engineering buildings were erected, so that indoor tests could be made in correlation with outdoor tests. Headquarters and facilities were provided for the corporation's engineers. Separate engineering headquarters and garage facilities were eventually provided for the staffs of the engineering departments of the various divisions, so that they could preserve their divisional autonomy in testing. Chevrolet, for example, could do its own testing if desired, in addition to that being done by the corporation. A clubhouse was erected that provided sleeping quarters, dining facilities, and the like for those attached to the Proving Ground operations, since the Proving Ground itself was a considerable number of miles from any town where commissary facilities were available.

In those days I used to spend a day and a night, sometimes longer, at the Proving Ground every other week. I would go over the engineering of General Motors' cars and competitive cars. I would examine what was being done in the way of testing future products. The Proving Ground thus afforded my associates and myself a wonderful opportunity to find out what was going on in the automobile industry from the engineering point of view. To the original Proving Ground we have since added a special, desert proving ground at Mesa, Arizona [replaced in 2009 by a facility in Yuma], and a station to test cars in mountain driving and a garage and shop facility to service our test cars at Manitou Springs (Pike's Peak), Colorado [closed in 1999].

[pp. 253-255, 1990 edition]


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Tuesday, February 23, 2010

Alfred Sloan's Memoir VI: Getting Dealers Up to Speed

The woes of discontinued General Motors dealers have been much in the news lately. It's interesting to go back in time some eight decades to see how Alfred Sloan viewed the issue of developing a strong distribution system based on franchised dealerships. In Chapter 16 of My Years with General Motors, Sloan recalls:

Alhough in the 1920s we had made great advances in getting the facts about General Motors' economic position, we did not then have the facts regarding the economic position of our dealers, and so were handicapped in thinking through dealer problems. When a dealer's profit position was failing, we had no way of knowing whether this was due to a new-car problem, a used-car problem, a service problem, a parts problem, or some other problem. Without such facts is was impossible to put any sound distribution policy into effect.

In the Proving Ground address which I mentioned earlier [delivered to the Automobile Editors of American Newspapers on September 28, 1927 in Milford MI], I made the following observations on this subject:
... I want to outline to you what I believe to be a great weakness in the automotive industry today and what General Motors is trying to do to correct that weakness.

I have stated frankly to General Motors dealers, in almost every city in the United States, that I was deeply concerned with the fact that many of them, even those who were carrying on in a reasonably efficient manner, were not making the return on their capital that they should. Right here let me say that so far as General Motors dealers are concerned, from what facts I have — I realize there has been much improvement during the past two or three years, but interested as the management of General Motors must be in every step from the raw material to the ultimate consumer, and recognizing that this chain of circumstances is no stronger than its weakest link, I feel a great deal of uncertainty as to the operating position of our dealer organization as a whole. I hope that this feeling of uncertainty is unwarranted. I am sure that with a responsibility so great, all elements of uncertainty must be eliminated and that our dealers should know the facts about their operating position as clearly and as scientifically as I have outlined to you we feel that we know the facts about General Motors' operating position.
This brings us back to ... two words — proper accounting. Many of our dealers, and the same thing applies to dealers of other organizations, have good accounting systems. Many of them have indifferent ones and I regret to say that too large a percentage of them have practically no accounting system at all. Many of those who have accounting systems, through lack of their being properly developed, are not able to effectively use them. In other words, they are not so developed that they give the dealer the facts about his business; where the leaks are; what he should do to improve his position. As I said before, uncertainty must be eliminated. Uncertainty and efficiency are as far apart as the North Pole is from the South. If I could wave a magic wand over our dealer organization, with the result that every dealer could have a proper accounting system, could know the facts about his business and could intelligently deal with the many details incident to his business in an intelligent manner as a result thereof, I would be willing to pay for that accomplishment an enormous sum and I would be fully justified in doing so. It would be the best investment General Motors ever made.
Accordingly, in 1927 we set up an organization called Motors Accounting Company. We developed a standardized accounting system applicable to all dealers and sent a staff into the field to help install it and to establish an audit system.

[pp.286-287, 1990 edition]


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Monday, February 22, 2010

Alfred Sloan's Memoir V: Autos in the Olden Days

There are precious few people with firsthand experience of driving cars from the early years of the automobile era. In Chapter 12 of My Years with General Motors, Alfred Sloan reminds his readers of what mass-produced autos c. 1920 were like:

1920 Chevrolet 490 Touring Car

Today's driver, of course, would find the typical car of 1920 completely unsatisfactory. It had a four-cylinder engine whose crankshaft and associated connecting rods and pistons were inherently unbalanced. Ordinarily this car had two-wheel brakes with braking confined to the rear wheels; it had no independent springing of the front wheels; it had a sliding-gear transmission, and an engine of low power. It vibrated and often shimmied; it veered and sometimes skidded when the brakes were applied; it rode hard and rough; the clutch grabbed; the gears often clashed in the shifting, and, owing to the low power available, they always had to be shifted on hills of substantial gradient. But the car usually got somewhere and back; fortunately it was unable to go fast or far enough for many of its deficiencies to become serious drawbacks. It was roughly adapted to its environment — and its major parts were reasonably adapted to each other, at however low a level of integration and efficiency.

[p. 220, 1990 edition]


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Sunday, February 21, 2010

Alfred Sloan's Memoir IV: Introduction of the Pontiac

The post from day before yesterday quoted Alfred Sloan's explanation of how General Motors formalized its policy of producing "a line of cars in each price area, from the lowest price up to one for a strictly high-grade quantity-production car."

A "market segmentation price ladder" of General Motors models from 1925/26: a Cadillac sedan, a Chevrolet touring car, a first-year Pontiac coupe, a Buick touring car, and an Oldsmobile sedan.

As Sloan goes on to explain in Chapter 9 of My Years with General Motors, the corporation's management recognized in 1924 that there was too big a price gap between their $510 Chevrolet touring car and their $750 Olds touring car. GM decided to introduce a new make, the Pontiac, to fill this gap.

[The gap] was big enough to constitute a volume demand [from prospective auto buyers] and thereby to accommodate, on top of Chevrolet, a competitor against whom we then had no counter. It was therefore an important gap to fill both offensively and defensively; offensively because there was a market demand to be satisfied there, and defensively because competitive cars could come in there and come down on Chevrolet as we planned for Chevrolet to come down on Ford. On this reasoning, we made one of the most important decisions in the history of General Motors, namely to fill the gap above Chevrolet with a brand-new car with a new six-cylinder engine. We had come to believe from an engineering standpoint that the future favored sixes and eights. However, to make the strategy effective, it would be necessary to fill the gap with a car that also had some volume economies. Otherwise, because the new car would draw some volume away from Chevrolet, reducing its economies, a loss would result for both cars. We concluded, therefore, that the new car must be designed in physical co-ordination with Chevrolet so as to share Chevrolet's economies and vice versa.

[. . .]

... the Pontiac represented the first important advance in co-ordinating the physical product in manufacturing. Physical co-ordination in one form or another is, of course, the first principle of mass production, but at that time it was widely supposed, from the example of the Model T, that mass production on a grand scale required a uniform product. The Pontiac, co-ordinated in part with a car in another price class, was to demonstrate that mass production of automobiles could be reconciled with variety in product. This was again the opposite of the old Ford concept, which we persistently met and opposed at every turn. For General Motors, with its five basic price classes by car makes and several subclasses of models, the implication of the Pontiac idea was very great for the whole line. If the cars in the higher-price classes could benefit from the volume economies of the lower-price classes, the advantages of mass production could be extended to the whole car line.

[. . .]

The Pontiac went on the market on schedule for the model year 1926 with the coach priced at $825, that is, about halfway between the Chevrolet coach, priced at $645, and the Olds coach, priced at $950; and the gap in our car line was closed.

[pp. 155, 158, 160, 1990 edition]

Note that Sloan also briefly addresses the gap in 1924 between the $1295 Buick "6" touring car and the $2985 Cadillac touring car. This gap was filled by the Cadillac La Salle, which was introduced in 1927, its base model priced at $2685, or about $700 less than the Cadillac seven-person sedan.

An ad for the 1927 La Salle
(John's Old Car and Truck Ads)


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Saturday, February 20, 2010

Alfred Sloan's Memoir III: Management of Cash Flow

Until Alfred Sloan and his senior management colleagues stepped into the breach, handling of cash flow at GM was a shambles. For instance, in Chapter 8 of My Years with General Motors, Sloan reports:

The way cash was handled at that time [1920] is almost unbelievable. Each division controlled its own cash, depositing all receipts in its own accounts and paying all bills from those same acounts. Since only the divisions sold products, none of these cash receipts flowed directly to the corporation itself. We had no effective procedure for getting cash from the points where we happened to have some to the points where we happened to need some. When the corporation, as an operating company, had to pay dividends and taxes, and such items as rent, salaries and other expenses of the general staff, the usual procedure was for the treasurer to request cash from the divisions. That was not so simple as it sounds, however, for the divisions, operating independently, tried to keep their cash balances high enough to satisfy their own peak requirements. Therefore, when they had more cash than they needed at the moment, they were not eager to turn it over to the corporation.

I remember that Buick, for example, at that time was very loath to give up its cash. This profitable division was, of course, the most prolific source of cash for the corporation, and long experience had made Buick's financial staff highly adept at delaying its report of the cash they had on hand. Buick made a practice of maintaining large cash balances in its factory sales branches. The amounts of these balances were not ascertainable at headquarters until Buick had submitted its monthly financial statement for the division as a whole — and this was usually a month or two after the fact. When the corporation needed cash, the treasurer, Meyer Prentis, would try to guess how much Buick actually had and how much of it he could probably get from them. Then he would go to Flint, discuss whatever other questions might be outstanding between Buick and headquarters, and at last casually bring up the subject of cash. Buick's financial people would invariably express surprise at the size of Mr. Prentis' request and occasionally would try to resist the transfer of such a large amount. Naturally, this cat-and-mouse game did not result in the most efficient utilization of funds, especially when some divisions had more operating cash than they needed, at the same time that other divisions were short of operating cash.

In 1922 we changed all this by setting up a consolidated cash-control system. This was a new concept for a large corporation. Depository accounts were established in some one hundred banks in the United States, and all incoming receipts were deposited in these accounts to the credit of General Motors Corporation. All withdrawals from them were administered by the central Financial Staff; the divisions had no control over cash transfers from these deposit accounts.

[pp. 122-123, 1990 edition]


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Friday, February 19, 2010

Alfred Sloan's Memoir II: Competing with Ford

In the spring of 1921, General Motors' Executive Committee created a special committee to study the company's de facto product policy and make any recommendations that might seem advisable for adjusting it. As Alfred Sloan explains in Chapter 4 of My Years with General Motors,

The product policy we proposed is the one for which General Motors has now long been known. We said first that the corporation should produce a line of cars in each price area, from the lowest price up to one for a strictly high-grade quantity-production car, but we would not get into the fancy-price field with small production; second, that the price steps should not be such as to leave wide gaps in the line and yet ... great enough to keep their number within reason, so that the greatest advantage of quantity production could be secured

[. . .]

The core of the [GM] product policy lies in its concept of mass-producing a full line of cars graded upward in quality and price [with Chevrolet at the low end and Cadillac at the top]. This principle supplied the first element in differentiating the General Motors concept of the market from that of the old Ford Model T concept. Concretely, the General Motors concept provided the strategy for putting Chevrolet into competition with the Model T. Without this policy of ours, Mr. Ford would not have had any competition in his chosen field at that time.

In 1921 Ford had about 60 percent of the total car and truck market in units, and Chevrolet had about 4 per cent. With Ford in almost complete possession of the low-price field, it would have been suicidal to compete with him head on. No conceivable amount of capital short of the United States Treasury could have sustained the losses required to take volume away from him at his own game. The strategy we devised was to take a bite from the top of his position, conceived as a price class, and in this way build up Chevrolet volume on a profitable basis. In later years, as the consumer upgraded his [automobile] preference, the new General Motors policy was to become critically attuned to the course of American history.

[pp. 65, 69, 1990 edition]


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Thursday, February 18, 2010

Alfred Sloan's Memoir I: Using ROI for Investment Decisions

In 1964, when he was 88 years old, Alfred P. Sloan, Jr. published My Years with General Motors (written with John McDonald), a book renowned for its account of Sloan's role in disseminating modern management practices.

Portrait of Alfred P. Sloan, Jr. (1875-1966)
Sloan Building (E52)
MIT Sloan School of Management

(MIT Sloan Japan Club)

For instance, in Chapter 3, "Concept of the Organization," Sloan writes about his frustration in 1918, when General Motors acquired United Motors, a group of parts and accessory companies of which Sloan was president:

... I found that if I followed the prevailing practice of intercorporate relations I would no longer be able to determine the rate of return on investment for these accessory divisions individually or as a group. This would necessarily mean that I would lose some degree of managerial control over my area of operations. At that time, material within General Motors was passing from one operating division to another at cost, or at cost plus some predetermined percentage. My divisions in the United Motors Corporation had sold both to outside customers and to their allied divisions at the market price. I knew that I operated a profit-making group, and I wished to continue to be able to demonstrate this performance to the general management, rather than to have my operating results on interdivisional business swallowed up in the extra bookkeeping profits of some other division. It was a case of keeping the information clear.

It was not, however, a matter of interest to me only with respect to my divisions, since as a member of the Executive Committee, I was a kind of general executive and so had begun to think from the corporate viewpoint. The important thing was that no one knew how much was being contributed — plus or minus — by each division to the common good of the corporation. And since, therefore, no one knew, or could prove, where the efficiencies and inefficiencies lay, there was no objective basis for the allocation of new investment. This was one of the difficulties with the expansion program of that time. It was natural for the divisions to compete for investment funds, but it was irrational for the general officers of the corporation not to know where to place the money to best advantage. In the absence of objectivity it was not surprising that there was a lack of real agreement among the general officers. Furthermore, some of them had no broad outlook, and used their membership on the Executive Committee mainly to advance the interests of their respective divisions.

I had taken up the question of interdivisional relations with Mr. Durant [president of GM at the time] before I entered General Motors and my views on it were well enough known for me to be appointed chairman of a committee "to formulate rules and regulations pertaining to interdivisional business" on December 31, 1918. I completed the report by the following summer and presented it to the Executive Committee on December 6, 1919. I select here a few of its first principles which, though they are an accepted part of management doctrine today, were not so well known then. I think they are still worth attention.

I stated the basic argument as follows:
The profit resulting from any business considered abstractly, is no real measure of the merits of that particular business. An operation making $100,000.00 per year may be a very profitable business justifying expansion and the use of all the additional capital that it can profitably employ. On the other hand, a business making $10,000,000 a year may be a very unprofitable one, not only not justifying further expansion but even justifying liquidation unless more profitable returns can be obtained. It is not, therefore, a matter of the amount of profit but of the relation of that profit to the real worth of invested capital within the business. Unless that principle is fully recognized in any plan that may be adopted, illogical and unsound results and statistics are unavoidable ...
[pp. 48-49, 1990 edition]


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Wednesday, February 17, 2010

Ford's CFO Teaches about Leverage and Cash Flow

I continue to follow Ford's fortunes (see these prevous posts) in the Alan Mulally era.

Today what caught my eye was an article by Scott Leibs, the editor-in-chief of CFO, about Lewis Booth, a long-time Ford employee who became the company's CFO in November 2008. Of particular interest to me, as someone focused on training, was what Lewis told Seibs concerning his discussions with executives and other operations people about how they can assist the finance department's ongoing efforts to repair Ford's balance sheet.

As Seibs explains, Lewis has made it his business to teach Ford employees about the link between finance and operations.
Within a month of assuming the CFO post, he began to walk Ford's senior-most executives through the grim realities of the company's balance sheet [which was and is heavily burdened with debt]. A month later, he extended that tutorial to an additional 400 Ford managers. "When I was in operations, the balance sheet was really viewed as a finance problem," he says. "We've managed to make it a collective responsibility."

Booth's aim was not to make Ford more finance-centric but rather to "identify what we thought was an appropriate road map" for restructuring the balance sheet. ... "The goal was to show where we are, where we want to be in three to four years, and what contribution to that effort can come from operations" versus the treasury department.

The message, Booth says, is that "it's not about borrowing more money, it's about making more money so you can pay back some of those debts." Indeed, debt is perhaps the top challenge of Ford now. GM and Chrysler face the same hurdle but to a much smaller degree, thanks to their respective bankruptcy agreements. One analyst estimates that debt servicing adds $1,500 to the cost of every vehicle Ford sells. Booth takes issue with that particular metric, arguing that "it's not particularly helpful to frame debt in $X-per-vehicle terms. I view it more in terms of what you will pay over the period of a given product program, because that excites people and keeps us focused on why we're in debt in the first place: to invest in new products."
In sum, Lewis is giving high priority to communicating to employees the importance of producing products that generate revenue at a pace that enables the company to reduce debt to a more healthy level. He is also explaining specifics of what company employees can do to help strenghthen cash flow.

For the record, Ford's ratio of long-term debt to total capital was 1.07 as of September 30, 2009.


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Tuesday, February 16, 2010

Overpriced Underpowered Broadband in the US

One of my pet peeves is the poor deal broadband customers in the US are offered relative to what they could get if they lived in some other market-oriented democratic country, such as France or South Korea. Thus I was quite interested to learn that the Berkman Center for Internet & Society at Harvard Law School today sumitted to the US Federal Communications Commission its final report on broadband deployment and usage — both current and planned — around the world.

The Berkman Center began work in July 2009 and had a draft of its report ready for public comment in October 2009. In the report's preface (pdf), Yochai Benkler, a professor of entrepreneurial legal studies at Harvard who served as the principal investigator, summarizes the changes that were made in response to comments. The preface sheds light on some of the more controversial issues relating to analysis of the efficiency of the US market for broadband services.

The body of the report is quite lengthy. Here I'll draw on the executive summary and introduction (pdf), to provide an overview of the report's main findings, which are:
  • A multidimensional approach to benchmarking broadband availability and quality helps distinguish countries whose experience is exemplary from those whose experience indicates pitfalls to beware of.

  • The United States is a middle-of-the-pack performer on most first-generation broadband measures, and a weak performer on prices for high and next-generation speeds. (see the graphic below.)

(click to enlarge)

Comparison of broadband providers:
Best price for highest-speed offering

(Next Generation Connectivity: A Review of Broadband Internet Transitions and Policy from Around the World (pdf), p. 172)

  • Transposing the experience of open access regulation from the first broadband transition to next generation connectivity occupies a central role in other nations' plans.

  • The Berkman Center's "most surprising and significant finding": (1) Open access policies in other countries have sought to increase levels of competition by lowering entry barriers;1 (2) Other countries aim to use regulation of telecommunications inputs to improve the efficiency of competition in the consumer broadband market. (3) This emphasis on open access policies appears to be warranted by the evidence.

  • Large, long-term government investments have played a role in some of the highest performing countries.

  • In Europe, substantial effort has been devoted to delimiting when government investment, both national and municipal, is justified and will not risk crowding out private investment.

  • Several countries engaged in a range of investments to support broadband demand, including extensive skills training, both in schools and for adults.
Also of note for someone taking an abbreviated look at the report are the "Core lessons from international strategies" tabulated in Part 4 (pdf) of the report (p. 84):
  • Open access policy, in particular unbundling, played an important role in facilitating competitive entry in many of the countries observed. In many cases, where facilities-based alternatives are available [e.g., use of existing cable systems to provide broadband Internet access], open access-based entrants played an important catalytic role in the competitive market. In some cases competition introduced through open access drove investment and improvement in speeds, technological progression, reduced prices, or service innovations.

  • An engaged regulator enforcing open access policy is more important than the formal adoption of the policy.

  • Broadband providers are regulated as carriers, and their carriage function is regulated and treated separately from their retail service function.

  • Access rules are now being applied to the next generation transition, particularly to fiber.

  • The goal of achieving ubiquitous access has led regulators to accept increased vertical integration between mobile and fixed broadband providers. In some places this has also led to application of open access requirements to mobile broadband platforms.

  • In the two earliest instances where functional separation was introduced [the UK and New Zealand], it had rapid effects on competitive entry, penetration, prices, and/or speeds.

  • Functional separation is increasingly adopted or considered as a way of achieving open access into the next generation of broadband.

  • Facilities-based competition usually complements, rather than substitutes for, access-based competition.

  • Entrepreneurial competitors have tended to enter through bitstream and unbundling access.

  • Unbundled access can also be used by incumbents from neighboring countries or regions to enter adjacent markets and introduce competition; in some cases they do so by acquiring initially entrepreneurial entrants.

  • Where unbundling was formally available, but weakly implemented, competition was limited to facilities-based entrants, with weaker results.

  • The anticipated high costs of next generation transition are pushing countries and companies to seek approaches to share costs, risks, and facilities, rather than focusing primarily on creating redundant facilities to assure facilities-based competition; they aim to mitigate the loss of facilities-based competition with a range of new models of open access and shared facilities, tailored to fiber.
1 "Open access" refers to such policies as unbundling the supplying of physical infrastructure from the supplying of Internet services, allowing competitors bitstream access, co-location requirements (e.g, requiring that competitors be allowed a physical presence in telephone company substations), wholesaling and/or "functional separation," i.e., separation of the unit in an Internet company that provides data carriage from the unit that provides retail services.



Monday, February 15, 2010

What's the best way to believe in yourself?

According to Stanford psychology professor Carol Dweck, working up to one's potential requires a growth mindset, i.e., the belief that one's abilities are malleable and can improve.

This is in contrast to a fixed mindset, i.e., the belief that one's abilities are inborn and fixed and, therefore, one is basically helpless in the face of skill deficits, such as poor public speaking or written communication.

(click to enlarge)

Fixed Mindset vs. Growth Mindset
(Nigel Holmes [pdf])

Fortunately, there is good evidence that it is quite realistic to believe that one can improve one's abilities. What's needed are challenging opportunities to acquire experience in specific fields, which, over time, develops into deep expertise.

Most of Dweck's work has been directed at school students. For example, she and a colleague, Lisa Blackwell, have recently launched Brainology, a computer-based training program for middle school and high school students aimed at producing better academic outcomes by imbuing students with a growth mindset.

Dweck's research has demonstrated that students with a growth mindset have higher motivation to learn. When this heightened motivation is coupled with plenty of good instruction and practice, the students show solid increases in achievement.

A corollary of Dweck's findings concerning the importance of a growth mindset is the idea that trying to build students' belief in themselves by telling them how smart they are is not helpful. Doing this can, in fact, lead to worsened performance. Students are demotivated to undertake learning tasks at which they may initially fail because they're afraid their "native" intelligence will be called into question.

A much better approach to building students' belief in themselves is helping those with a fixed mindset to convert to a growth mindset.

The Brainology program is an example of how to achieve this conversion. It consists of an introduction and four units. In sum (pdf), the four units cover:

Unit 1— basics of brain structure and function, particularly what is required to maintain readiness to learn.

Unit 2 — brain behavior, how it functions, effect of emotions (e.,g., performance anxiety), and strategies to manage emotions (e.g., strategies for handling tests calmly).

Unit 3 — how learning changes the brain, and what sort of activities promote learning. You can exercise your brain "by exploring new information, learning new concepts, and practicing skills. [P]ractice is the key to learning."

Unit 4 — how memory works, and study strategies to apply the Brainology lessons in real life. "[I]nformation moves from working memory to long-term memory through a process called encoding. In order for encoding to happen you must pay attention, attach new information to existing information that supports it, and repeat the information. [O]ther mnemonics (memory strategies) include connecting information together by chunking, visual images and acronyms."

Organizations that want to cultivate learning-oriented behavior among their employees are well-advised to encourage a growth mindset, accompanied by opportunities to build experience. In practice, this means that a company's performance management system should give heavy weight to skill development, with lesser weight placed on grading employees in order to make compensation and retention decisions.


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Sunday, February 14, 2010

Valentine's Day 2010

(Sr. Ellie Finlay)



Saturday, February 13, 2010

Generating Business Value from IT III: A Case Study

As a way of bringing together the concepts discussed in my two previous posts on generating business value from IT, I'd suggest reading a December 2007 case study (pdf) by Jeanne Ross, director of the MIT Sloan School's Center for Information Systems Research and Cynthia Beath, a professor emerita at the McCombs School of Business of the University of Texas at Austin.

The case abstract gives this overview of the case:
Pacific Life is a diversified financial services company with a history of autonomous business units. Pacific Life had five independent divisions, including Life Insurance, Annuities and Mutual Funds, and Investments. These divisions served different customers and responded to different regulatory and market requirements. Pacific Life executives embrace decentralization as the best structure for capturing excellence in the individual businesses, so they are willing to sacrifice some potential efficiencies. But while they are usually willing to forego the benefits of a more centralized organization structure, they are not willing to assume any unnecessary risks. This case describes how the company governs shared IT services and enterprise risk management to limit its risk exposure while reaping the benefits of decentralization.
Cameron Cosgrove, the vice president for IT in the Life Insurance Division, explains how Pacific Life decides which IT services will be centralized and which will be located in the business divisions:
Where the divisions have IT requirements that are unique to their core business and they need flexibility to have that independence to just GO, we've put those services into the divisions. Where the need is common and can be shared and the consensus is it's a commodity, and competitive advantage isn't really going to be derived from there, then the focus becomes running that service like a utility with low cost and reliability being the drivers — that's what ITS [the group providing IT shared services] is supposed to do for the divisions.
A key part of the decision-making structure is a set of nine Enterprise Architecture Groups (EAGs), whose role, as spelled out in a Pacific Life internal document, is to "create economies of scale, reduce support, maintenance and training needs, improve quality while reducing complexity, and optimize reusability throughout the company." Ross and Beath explain that "EAGs prioritized and scheduled initiatives to improve, upgrade or harmonize ITS's technology assets or services ... [and] secured funding for ITS-related initiatives."

Providing overall guidance is Pacific Life's Information Technology Council (ITC), which approves "the operating budget for ITS, prioritizing any projects that ITS proposed to improve its services, along with other enterprise-wide initiatives that required ITS to make infrastructure investments or process changes." A key responsibility for the ITC is implementation of "policy decisions flowing from Information Security, BCP [Business Continuity Planning], Compliance and Audit and their respective steering committees that had implications for ITS. These policies often drove the need for strategic ITS initiatives."

In sum, "Together the ITC and EAGs generated some of the benefits of IT centralization without centralizing all of Pacific Life's IT assets."


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Friday, February 12, 2010

Lincoln's Birthday 2010

In February 1861, Abraham Lincoln traveled by train from his home in Springfield IL to Washington DC, where he was inaugurated as President on March 4. One of the stops along the way was Philadelphia.

Early in the morning of February 22, Lincoln went to Independence Hall, the site of the signing of the Declaration of Independence four score and five years earlier. Theodore L. Cuyler, president of Select Council of Philadelphia, welcomed Lincoln. In response, Lincoln offered the impromptu remarks reproduced below.

Mr. Cuyler:

I am filled with deep emotion at finding myself standing here, in this place, where were collected together the wisdom, the patriotism, the devotion to principle, from which sprang the institutions under which we live. You have kindly suggested to me that in my hands is the task of restoring peace to the present distracted condition of the country. I can say in return, Sir, that all the political sentiments I entertain have been drawn, so far as I have been able to draw them, from the sentiments which originated and were given to the world from this hall. I have never had a feeling politically that did not spring from the sentiments embodied in the Declaration of Independence. I have often pondered over the dangers which were incurred by the men who assembled here, and framed and adopted that Declaration of Independence. I have pondered over the toils that were endured by the officers and soldiers of the army who achieved that Independence. I have often inquired of myself, what great principle or idea it was that kept this Confederacy so long together. It was not the mere matter of the separation of the Colonies from the motherland; but that sentiment in the Declaration of Independence which gave liberty, not alone to the people of this country, but, I hope, to the world, for all future time. It was that which gave promise that in due time the weight would be lifted from the shoulders of all men. This is a sentiment embodied in the Declaration of Independence. Now, my friends, can this country be saved upon that basis? If it can, I will consider myself one of the happiest men in the world, if I can help to save it. If it cannot be saved upon that principle, it will be truly awful. But if this country cannot be saved without giving up that principle, I was about to say I would rather be assassinated on this spot than surrender it.

Now, in my view of the present aspect of affairs, there need be no bloodshed and war. There is no necessity for it. I am not in favor of such a course, and I may say, in advance, that there will be no bloodshed unless it be forced upon the Government, and then it will be compelled to act in self-defence.

My friends, this is wholly an unexpected speech, and I did not expect to be called upon to say a word when I came here. I supposed it was merely to do something toward raising the flag. I may, therefore, have said something indiscreet. (Cries of "No, no") I have said nothing but what I am willing to live by and, if it be the pleasure of Almighty God, die by.

(Source: Lincoln Bicentennial website)



Thursday, February 11, 2010

Generating Business Value from IT II: Risk Management

Yesterday's post discussed one aspect of optimizing a company's IT investment, namely, choosing a preferred operating model, which in turn determines IT integration and standardization requirements and, therefore, critical IT and business process capabilities.

MIT's Center for Information Systems Research (CISR), the source of the research on matching IT to a company's operating model, also pushes for careful attention to IT risk management.

In a 2009 working paper (pdf), George Westerman, a research scientist at CISR, and Richard Hunter, an analyst at Gartner, Inc., offer a straightforward framework for assessing and managing IT risk.

There are two basic components to the framework:
  • Categories of IT risk

    • Availability — keeping business processes running

    • Access — providing information to the right people, and keeping it out of the hands of people who shouldn't have it

    • Accuracy — ensuring information is accurate, timely, and complete

    • Agility — making needed business changes with acceptable cost and speed

  • Disciplines for managing risk

    • Establishing a sound foundation — The foundation is a base of infrastructure, applications and supporting personnel, which is well-structured well-managed and, most important of all, no more complex than absolutely necessary.

    • Establishing a sound risk governance process — I.e., procedures and policies that provide an enterprise-level view of all IT risks.

    • Establishing a risk-aware culture — I.e., making sure that everyone has appropriate knowledge of risk, and that non-threatenting discussions about risk are the norm.
Westerman and Hunter provide a list of questions to help managers assess their company's current risk profile. The questions are divided into executive-level and operational-level items. For executives the questions help "convert technical issues into business issues, and IT impacts into business impacts." For operational managers, the questions help in analyzing details of the dimensions and costs of particular risks. Answering the questions ensures that managers at all levels understand "the meaning, potential consequences and relative importance of IT risks."

The questions are organized aaccording to the four categories of IT risk:


Executive-level questions
  • Which of our business processes are most dependent on IT?

  • What consequences are likely if the systems are unavailable?
Operational-level questions
  • What is the cost of a particular process being down for an hour? A day?

  • What are our procedures to recover from interruption?

Executive-level questions
  • What categories of information would be most damaging if released? For example, what is the likely impact of loss or theft of customer data? Product data?

  • What categories of information are most important for our firm's daily success or failure?
Operational-level questions
  • How do we control, protect and monitor access to these types of information?

  • How can we ensure that the right people get access to this information as needed (and then lose access when done)?

Executive-level questions
  • Which processes and categories of information carry the highest consequences for inaccuracy (e.g., inventory information, financial information, etc.)? What would the firm lose if it could not maintain Sarbanes-Oxley certification, for example?

  • What constraints has inaccurate or incomplete information placed upon the organization?

  • What could the firm do if it had better information in some area? For example, how much would the company save if it had better information on global customers?
Operational-level questions
  • How can we improve the way that we gather or manage these types of information?

  • How can we create or obtain valuable new types of information?

Executive-level questions
  • How well does IT currently deliver on new projects, and what does that mean for what the firm is able to do in the future?

  • What major strategic changes (new product launches, new geographies, mergers and acquisitions, global cost-cutting, etc.) are foreseeable?

  • What opportunity costs are entailed in missing a product launch (or other strategic move) by a month due to IT issues?
Operational-level questions
  • How can managers in IT and business units improve project definition and delivery?

  • What processes, skills and supporting systems are needed to support those changes?

  • How should the IT foundation change to improve agility?
Once the current risk profile has been identified, using questions such as those above, managers can proceed to implementing the three core disciplines of effective risk management, taking steps that are in line with agreed priorities and previously analyzed tradeoffs.


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Wednesday, February 10, 2010

"Generating Business Value from IT" I: Operating Models

Last spring Jeanne Ross, director of the MIT Sloan School's Center for Information Systems Research, taught a noteworthy course on "Generating Business Value from Information Technology," for which many of the materials are available online as part of MIT's OpenCourseWare program.

A central premise of the course is that companies need to define an operating model in order to be able to optimize their IT investments. Ross explains (pdf):
An operating model is the necessary level of business process integration and standardization for delivering goods and services to customers. By identifying integration and standardization requirements an operating model defines critical IT and business process capabilities ... [and thus] guides IT investment and enhances business agility. (emphasis in original)
The graphic below lays out the four types of operating model that are determined by a company's integration and standardization choices.

(Adapted from "Forget Strategy: Focus IT on Your Operating Model" (pdf), by Prof. Jeanne Ross)

As Ross outlines in the opening session (pdf):
  • A company using the Coordination model operates unique business units with a need to know each other's transactions. Its key IT capability is providing access to shared data through standard technology interfaces. MetLife is an example.

  • A company using the Unification model operates as a single business with global process standards and global data access. Its key IT capability is providing enterprise systems that reinforce standard processes and provide global data access. UPS is an example.

  • A company using the Diversification model operates independent business units with different customers and expertise. Its key IT capability is providing economies of scale without limiting independence. Johnson & Johnson is an example.

  • A company using the Replication model operates independent but similar business units. Its key IT capability is providing standard infrastructure and application components for global efficiencies. Marriott is an example.
You can find further details concerning the characteristics of each of these models in a briefing Ross published in 2005 that serves as the assigned reading for the third session of the course.


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Tuesday, February 09, 2010

When to Consider Agent-Based Modeling

As a follow-on to yesterday's post about using agent-based simulation to model the economy, I'd like to suggest that the technically minded have a look at a paper (pdf) Charles M. Macal and Michael J. North, both at Argonne National Laboratory, presented at the 2009 Winter Simulation Conference.

The paper discusses both how to think about agent-based modeling and simulation (ABMS), and how to actually do ABMS. The latter portion of the paper includes guidance on software and toolkits specially designed for ABMS.

Even the non-technically minded can benefit from reading through Macal and North's list of criteria for considering an agent-based approach to simulating a dynamic system. The eleven criteria — any one of which is sufficient to suggest an agent-based approach — are:
  1. The problem has a natural representation as being comprised of agents

  2. There are decisions and behaviors that can be well-defined.

  3. It is important that agents have behaviors that reflect how individuals actually behave (if known).

  4. It is important that agents adapt and change their behaviors.

  5. It is important that agents learn and engage in dynamic strategic interactions.

  6. It is important that agents have a dynamic relationship with other agents, and agent relationships form, change, and decay.

  7. It is important to model the processes by which agents form organizations, and adaptation and learning are important at the organization level.

  8. It is important that agents have a spatial component to their behaviors and interactions.

  9. The past is no predictor of the future because the processes of growth and change are dynamic.

  10. Scaling-up to arbitrary levels is important in terms of the number of agents, agent interactions and agent states.

  11. Process structural change needs to be an endogenous result of the model, rather than an input to the model.
Note that items 3 and 9 are particularly relevant to the argument for agent-based macroeconomic modeling put forward by Doyne Farmer and Duncan Foley, as discussed in yesterday's post.


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Monday, February 08, 2010

How to Model the Economy

In the August 2009 issue of Nature, J. Doyne Farmer, a professor at the Sante Fe Institute, and Duncan Foley, an economist at the New School for Social Research, published an opinion piece (pdf) in which they argue that the types of economic models most commonly used to make economic predictions — predictions that businesses often use in their planning — are seriously flawed.

Farmer and Foley explain the two types of macroeconomic model that are currently available:
  • Econometric models that base predictions essentially on extrapolating from past economic data. If the economy experiences major changes from what has occurred in the past, predictions from these models go seriously off-track

  • Idealized models that assume a well-functioning economy, i.e., one that does not experience crises.
Farmer and Foley advocate development of an alternate type of model, one that incorporates realistic assumptions about how economic decision-makers, aka agents, behave. Such agent-based models are computerized simulations in which the agents — e.g., consumers, government policy makers, financiers, and business firms — interact through rules (preferably, derived from research) concerning the agents' actual decision-making processes.1

In such a model,
... at any given time, each agent acts according to its current situation, the state of the world around it and the rules governing its behaviour. An individual consumer, for example, might decide whether to save or spend based on the rate of inflation, his or her current optimism about the future, and behavioural rules deduced from psychology experiments. The computer keeps track of the many agent interactions to see what happens over time. ... Policy makers can ... simulate an artificial economy under different policy scenarios and quantitatively explore their consequences.
The article offers as an example the model Farmer and colleagues have created to explore how hedge funds' use of leverage — borrowing from banks to finance their investments — affects fluctuations of stock prices. The model "shows that the standard ways banks attempt to reduce their own risk can create more risk for the whole system." Admittedly, this model covers only a subportion of the larger economy, but its structure and use are nonetheless illustrative of the principles of agent-based modeling.

Framer and Foley acknowledge that there are technical issues that make creation of agent-based models a challenge, most importantly the difficulty
... in specifying how agents behave and, in particular, in choosing the rules they use to make decisions. In many cases this is still done by common sense and guesswork, which is only sometimes sufficient to mimic real behaviour. An attempt to model all the details of a realistic problem can rapidly lead to a complicated simulation where it is difficult to determine what causes what. To make agent-based modeling useful we must proceed systematically, avoiding arbitrary assumptions, carefully grounding and testing each piece of the model against reality and introducing additional complexity only when it is needed.
Farmer and Foley close their article by advocating investment of public funds in creating an agent-based model of the whole economy in order to have a more reliable tool than those currently available for "quantitatively exploring how the economy is likely to react under different [policy] scenarios."

1 You can read about some of the other areas besides economics in which agent-based models are used in this earlier post about US Army counterinsurgency training, in this wiki entry on use of agent-based models in biology and medicine, and in this paper (pdf) describing agent-based modeling of the airline industry.


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Sunday, February 07, 2010

Communicating the Value You Add

Back on January 6, Tessa Hood published a list of "10 Tips for Talking Yourself Up" that just about anyone could benefit from reading.

In brief, Hood's ten tips are:
  • Make it clear how what you do adds value for others — Have a compelling one-sentence explanation at the ready.

  • Make it hard to be forgotten once you've been introduced at any event, such as a networking event. — Share interesting information about yourself without going into a hard sell.

  • Practice what you preach. E.g., "If you're in finance make sure your own accounts are in order."

  • Be ready to share success stories.

  • Be proud of what you do — When talking about your job, whatever it is, sound a positive note.

  • Even when you are facing someone who doubts your ability, stay positive. You can be confident that they will be proved wrong.

  • People buy because you are offering something that will benefit them. This is fundamental to actually adding value, which is always assessed from the customer's point of view.

  • People make buying decisions emotionally, so tell your success stories in a way that brings out the challenges you faced, the intensity with which you attacked them, and the satisfaction your successful results produced.

  • Don't stint in explaining what you have to offer. There's a tendency to take one's own expertise for granted because what you do has come to feel very natural. This can lead you to understate what you bring to the table. Be sure you explain fully how necessary your expertise is for creating value in the situations you're discussing with a customer.

  • Keep building your brand — "Broadcast your personal brand in every possible way. Make it clear and consistent."
I've paraphrased Hood's tips above. They don't take long to read, so I encourage you to have a look at the original list as she wrote it.


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Saturday, February 06, 2010

Gary Klein on Decision Making

Gary Klein, a research psychologist, published his most recent book, Streetlights and Shadows: Searching for the Keys to Adaptive Decision Making, in October of last year. The book continues in the vein he has been exploring for many years, namely reporting on what his research reveals concerning the way in which experts make decisions.

The MIT Press's summary of Klein's book explains that he offers
... realistic ideas about how to make decisions in real-life settings. He provides many examples — ranging from airline pilots and weather forecasters to sports announcers and Captain Jack Aubrey in Patrick O'Brian's Master and Commander novels — to make his point. All these decision makers saw things that others didn't. They used their expertise to pick up cues and to discern patterns and trends. We can make better decisions, Klein tells us, if we are prepared for complexity and ambiguity and if we will stop expecting the data to tell us everything.
The first chapter of the book is available online. You can preview the book — on a limited basis — at Google Books.

There is an informative review at Diane Coyle's blog, and you can read an excellent overview of Klein's work, as of ten years ago, in an article Fast Company published in August 2000. Five years later, Klein was interviewed by NASA's ASK Magazine, producing another clear, compact account of his thinking on decision-making.


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Friday, February 05, 2010

Board Evaluation of Management

The Federal Reserve Bank of Kansas City has created a guide for bank boards of directors that has much of relevance to the work of those serving on nonbank boards.

As a prime example of the useful guidance in Basics for Bank Directors, I offer the set of questions on pp. 59-60 of the current edition (the fifth) which boards can use to evaluate management:

Is the bank operated in a safe and sound matter?

Is the bank operated in compliance with laws and regulations?

Does the bank compare favorably with other banks in major performance areas such as capitalization, asset quality, earnings, liquidity, and sensitivity to market risk?

Does management respond quickly to address shortcomings identified in audits and supervisory examinations?

Does management keep the board informed and provide sufficient and timely information on the bank to enable the board to judge the bank's operational and financial status?

Are decisions made by management consistent with goals, plans, and policies set out for the bank?

Is management responsive to requests, directives, and questions from the board, including complying with board-approved policies?

Does management have the knowledge and expertise to supervise the affairs of the bank effectively, instill confidence, and demonstrate an ability to lead the bank?

Is management informed about the affairs of the bank and knowledgeable about events in the community that may affect the bank?

Are management's presentations and recommendations to the board done on a timely basis, of high quality, and accurate?

Has management put in place a corporate structure that establishes lines of authority and accountability; provides for delegation of authority and monitoring of delegated responsibilities; and permits open communication and free flow of information within the bank?

Has management seen to the staffing needs of the bank: established job descriptions, hired qualified staff, offered competitive compensation, provided training, and planned for management succession?

Has management established information systems to provide timely information on the status of the bank in order to identify evolving problems quickly?

Has management put in place sufficient procedures to direct the bank's operation and instituted sufficient internal controls to protect the bank's resources?

Does management plan for the bank and develop reasonable strategies for carrying out these plans?

Does management, in conjunction with the board, develop budgets for the bank and keep the board informed of the bank's progress in meeting budget goals?

Basics for Bank Directors was written by Forest E. Myers, who served as policy economist at the Kansas City Fed for over 30 years prior to his retirement in 2008.


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Thursday, February 04, 2010

The Strength of Weak Ties

In 1973 Mark Granovetter, a sociologist now at Stanford, published a paper, "The Strength of Weak Ties" (pdf),1 in which he distinguishes between strong ties between individuals, i.e., relationships in which the individuals are friends, and weak ties, i.e., relationships in which the individuals are mere acquaintances.

Granovetter then goes on to argue, "Weak ties are more likely to link members of different small groups than are strong ones, which tend to be concentrated within particular groups." The significance of this is that weak ties can serve as bridges between social networks, and thereby give individuals in one network access to information beyond what is already known amongst their friends.

For instance, if someone is looking for a job, tapping acquaintances can provide additional leads beyond those that friends may be aware of. Or, if a community is trying to organize for collective action (Granovetter uses the example of threatened destructive urban renewal), it will have more success if weak ties facilitate the uniting of multiple closely knit networks within the community.

In a business setting, weak ties that act as bridges are valuable in any situation in which tapping expertise outside a team will help the team accomplish more, do a better job, and/or achieve results faster.

In the early '80s, Granovetter undertook a review of empirical studies testing the hypotheses in his 1973 paper. The review was published in final form in 1983, and you can read it here.2

1 Mark Granovetter, "The Strength of Weak Ties," American Journal of Sociology, Vol. 78, No. 6 (May 1973), pp. 1360-1380.

2 Mark Granovetter, "The Strength of Weak Ties: A Network Theory Revisited," Sociological Theory, Vol. 1 (1983), pp. 201-233.


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Wednesday, February 03, 2010

Impact of Quality of Management Practices on Firm Performance

As a follow-on to my last two posts, I want to call attention to a piece of experimental research (pdf) conducted by Nicholas Bloom and several colleagues that provides evidence in support of the hypothesis that the quality of management practices significantly influences firm performance.

Bloom et al. summarize their work (which is due to continue through April) as follows:
We run a field experiment on large Indian textile firms to evaluate the causal impact of management on performance. To generate changes in management we provide management consulting to a set of randomly chosen treatment plants, and compare their performance to a set of control plants. We find that improved management practices led to significantly higher efficiency and quality, and lower inventory levels, substantially increasing plants’ productivity and profitability. Firms also transferred these improved management practices from their treated plants to other plants within their group. Since firms adopted and replicated these apparently profitable management practices this raises the question of why these were not adopted previously? Our results suggest that informational barriers are important in explaining this lack of adoption, with modern management practices a type of technology that diffuses slowly between firms. These Indian firms were either unaware of many modern management practices, or did not have the know how to implement them.
The photo below, one of several included in the preliminary draft (pdf) of the authors' paper currently available on the internet, illustrates quite concretely the degree of operational slack crying out for systematic management attention.

The parts store at one of the Indian textile plants included in the sample Bloom et al. are studying
("Management Matters: Evidence from India" [pdf])

Takeaway: This research supports the proposition that it is effective to teach managers specific lean manufacturing practices that help optimize factory operations, inventory control, quality control, human resources, planning, and sales and order management.


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