← Autodidact Archive · Original Dissent · Walter Yannis
Thread ID: 14214 | Posts: 8 | Started: 2004-06-16
2004-06-16 10:27 | User Profile
This appeared in the [URL=http://www.fool.com/news/commentary/2004/commentary040604wt.htm]Motley Fool[/URL], 04 June 2004. The article links to a PDF transcript of a speech by Charlie Munger, who of course together with Warren Buffet made Berkshire Hathaway one of the great companies of the world. This is NOT a written speech, but is a transcript of Munger's off-the-cuff speech to a bunch of Economist geeks.
Since the transcript was in PDF format, I didn't know how to paste it here. But I strongly urge you all to read this speech. If somebody can figure out how to place it here, that would be swell.
A couple of highlights:
Munger states at the end of the speech that there is no pressing reason for publicly traded companies, and hints that maybe it would be best to get rid of them completely.
Munger talks about a trillion dollars stolen/slimed in the derivatives market, and that he expects in the not-too-distant future major troubles there (he even hints at a derivatives market meltdown, IMHO).
Munger's take on how to attack economic problems is right on. Use the "grab bag" approach, go down a checklist. Those of us who hope to build a CN movement should heed his advice carefully.
Munger basically argues our positon on the social costs of vice, and the tendency of corporations to focus on immediate results and not on third generation effects. His reference to Garret Hardin's "Tragedy of the Commons" is right on the money.
Anyway, here's the article on Motley Fool, and again I urge you all to follow the link to this bootleg transcript and read Munger's speech.
Walter
Charlie Munger, the famed right-hand man of Warren Buffett, gave a brilliant speech last October at the University of California, Santa Barbara. With Munger's permission, Whitney Tilson is publishing a transcript for the first time -- a Motley Fool exclusive! -- and shares the highlights in this column.
By Whitney Tilson June 4, 2004
Berkshire Hathaway's (NYSE: BRK.A)(NYSE: BRK.B) Warren Buffett and Charlie Munger are undoubtedly the greatest investment duo ever, so I think any sensible investor should try to learn as much as possible about these two men and how they achieved their success. In the case of Buffett, it's not hard -- there are many books about him, he's published lengthy annual letters for decades (you can read the last 27 of them for free on Berkshire's website), and he gives speeches and makes public appearances regularly. But Munger is more private; there are only two books about him, he is a far less prolific writer, and rarely gives speeches.
Thus, my heart skipped a beat when a friend gave me a recording of a speech Munger gave to the economics department at the University of California, Santa Barbara last Oct. 3. It's 85 minutes long and entitled, "Academic Economics: Strengths and Faults After Considering Interdisciplinary Needs."
With that kind of title, it sounds like a real snoozer, eh? But it's not. In this speech, Munger applies his famous mental models approach to critiquing how economics is taught and practiced, and I think the lessons he teaches are profound -- both for investors as well as anyone who seeks to be a better, clearer thinker.
I transcribed the speech for my own benefit, but after making such an effort (it took forever, as it's 21 single-spaced pages), I thought that others might be interested in Munger's wisdom, so I sent him a copy and asked if I could publish it. He asked me not to until he'd had a chance to review it and make some edits. He has now done so, so I'm delighted to share it with you: Click here to read it.
In this column, I will share some of the highlights of the speech.
Berkshire's success Munger started his speech by highlighting his credentials to talk about economics -- namely the extraordinary success of Berkshire Hathaway over the years he and Buffett have been running it (Buffett ran it for a few years before Munger joined him):
When Warren took over Berkshire, the market capitalization was about ten million dollars. And forty something years later, there are not many more shares outstanding now than there were then, and the market capitalization is about a hundred billion dollars, ten thousand for one. And since that has happened, year after year, in kind of a grind-ahead fashion, with very few failures, it eventually drew some attention, indicating that maybe Warren and I knew something useful in microeconomics.
Efficient market theory Buffett and Munger have always heaped scorn upon the academics who cling to the efficient market theory, unable to distinguish between an obvious truth -- that the market is mostly efficient most of the time -- and obvious nonsense -- that the market is always perfectly efficient all of the time:
Berkshire's whole record has been achieved without paying one ounce of attention to the efficient market theory in its hard form. And not one ounce of attention to the descendants of that idea, which came out of academic economics and went into corporate finance and morphed into such obscenities as the capital asset pricing model, which we also paid no attention to. I think you'd have to believe in the tooth fairy to believe that you could easily outperform the market by seven-percentage points per annum just by investing in high volatility stocks. Yetââ¬Â¦many people still believe it. But Berkshire never paid any attention to it. Multidisciplinary education and "man with a hammer syndrome" Over the years, Munger has always preached the importance of learning -- and then using -- all of the big disciplines, such as math, science, psychology, etc. To him, this just came naturally:
For some odd reason, I had an early and extreme multidisciplinary cast of mind. I couldn't stand reaching for a small idea in my own discipline when there was a big idea right over the fence in somebody else's discipline. So I just grabbed in all directions for the big ideas that would really work. Nobody taught me to do that; I was just born with that yen. If one doesn't embrace all multidisciplinary thinking, Munger argues, then one is likely to fall into the trap of:
"man with a hammer syndrome." And that's taken from the folk saying: To the man with only a hammer, every problem looks pretty much like a nail. And that works marvelously to gum up all professions, and all departments of academia, and indeed most practical life. The only antidote for being an absolute klutz due to the presence of a man with a hammer syndrome is to have a full kit of tools. You don't have just a hammer. You've got all the tools. And you've got to have one more trick. You've got to use those tools checklist-style, because you'll miss a lot if you just hope that the right tool is going to pop up unaided whenever you need it. Problems to solve During his speech, to illustrate the types of questions his ways of thinking will help answer, Munger posed a number of problems to solve:
There's an activity in America, with one-on-one contests, and a national championship. The same person won the championship on two occasions about 65 years apart. Name the activity.
You have studied supply and demand curves. You have learned that when you raise the price, ordinarily the volume you can sell goes down, and when you reduce the price, the volume you can sell goes up. Now tell me several instances when, if you want the physical volume to go up, the correct answer is to increase the price?
You own a small casino in Las Vegas. It has 50 standard slot machines. Identical in appearance, they're identical in the function. They have exactly the same payout ratios. The things that cause the payouts are exactly the same. They occur in the same percentages. But there's one machine in this group of slot machines that, no matter where you put it among the 50, in fairly short order, when you go to the machines at the end of the day, there will be 25% more winnings from this one machine than from any other machine. What is different about that heavy-winning machine? For the answers to these questions, you'll have to read the transcript.
Second- and third-order consequences and free trade Munger gave a number of examples of how often people only look at immediate consequences of certain actions and fail to consider second- and third-order consequences. For example:
Everybody in economics understands that comparative advantage is a big deal, when one considers first-order advantages in trade from the Ricardo effect. But suppose you've got a very talented ethnic group, like the Chinese, and they're very poor and backward, and you're an advanced nation, and you create free trade with China, and it goes on for a long time.
Now let's follow and second- and third-order consequences: You are more prosperous than you would have been if you hadn't traded with China in terms of average well-being in the U.S., right? Ricardo proved it. But which nation is going to be growing faster in economic terms? It's obviously China. They're absorbing all the modern technology of the world through this great facilitator in free trade and, like the Asian Tigers have proved, they will get ahead fast. Look at Hong Kong. Look at Taiwan. Look at early Japan. So, you start in a place where you've got a weak nation of backward peasants, a billion and a quarter of them, and in the end they're going to be a much bigger, stronger nation than you are, maybe even having more and better atomic bombs. Well, Ricardo did not prove that that's a wonderful outcome for the former leading nation. He didn't try to determine second-order and higher-order effects.
If you try and talk like this to an economics professor, and I've done this three times, they shrink in horror and offense because they don't like this kind of talk. It really gums up this nice discipline of theirs, which is so much simpler when you ignore second- and third-order consequences.
Open-mindedness How many people do you know who actively seek out opinions contrary to their own? Munger certainly does. For example, he said:
ââ¬Â¦take Paul Krugman and read his essays, you will be impressed by his fluency. I can't stand his politics; I'm on the other side. [Krugman constantly bashes Republicans and the Bush administration on the Op Ed page of The New York Times.] But I love this man's essays. I think Paul Krugman is one of the best essayists alive. Destroying your own best-loved ideas Munger believes that it's absolutely critical not to "cling to failed ideas." You must become good, he argues, "at destroying your own best-loved and hardest-won ideas. If you can get really good at destroying your own wrong ideas, that is a great gift."
How important this is when it comes to investing! Not long ago, I publicly recommended a stock, yet a few weeks later, based on new information, I came to the conclusion that it was no longer a good idea. A natural tendency would have been to hold on to the stock and refuse to admit to my readers that I might have been mistaken. Making it even harder to sell was the fact that the stock had declined - why not wait until it rebounded to the price at which I had bought it, right? (This is a deadly error, as I've discussed in previous columns.) Fortunately, I did sell, refusing to "cling to failed ideas."
Chutzpah I'll conclude this column with a bit of classic Munger humor: While Buffett bends over backward to appear humble, Munger's the opposite -- he jokes about his big ego. In his opening remarks, he said:
As I talk about strengths and weaknesses in academic economics, one interesting fact you are entitled to know is that I never took a course in economics. And with this striking lack of credentials, you may wonder why I have the chutzpah to be up here giving this talk. The answer is I have a black belt in chutzpah. I was born with it. Contributor Whitney Tilson is a longtime guest columnist for The Motley Fool. He owned shares of Berkshire Hathaway at press time, though positions may change at any time. Under no circumstances does this information represent a recommendation to buy, sell, or hold any security. Mr. Tilson appreciates your feedback. To read his previous columns for The Motley Fool and other writings, visit [url]www.tilsonfunds.com[/url]. The Motley Fool is investors writing for investors.
2004-06-16 19:25 | User Profile
Munger throws out a lot of extremely vague claims that he purports to illustrate with anecdotes. Most of his criticims concern the (mainstream) economics profession and failed government action. His major point about 3rd order effects is that trading with China might make China a military threat (as if this in any way contradicts Ricardo's account of non-coercvie interaction).
I particularly like his talk about 'beating the market,' as disagreeing with most other investors and succeeding means that 'the market' is having a failure. Obviously the reality is that Munger was part of the market all along. One part of the market corrected another part.
2004-06-20 17:18 | User Profile
Munger on the derivatives market:
[QUOTE]"It's so complicated I can't do it justice here - but you can't believe the trillions of dollars involved. You can't believe the complexity. You can't believe how difficult it is to do the accounting. You can't believe how big the incentives are to have wishful thinking about values, and wishful thinking about ability to clear.
Running off derivative book is agony and takes time. And you saw what happened when they tried to run off the derivative books at Enron. Its certified net worth vanished. In the derivative books of America there are a lot of reported profits that were never earned and assets that never existed. . . . . How big the pain willl be and how well it will be handled, I can't tell you. But you would be disgusted if you had a fair mind and spent a month really delving into a big derivative operation. You would think it was Lewis Carroll. You would think it was the mad Hatter's Tea Party. And the false precision of these people is just unbelievable. They make the worst economics professors look like gods.
Moreover, there is depravity augmenting folly . . . "[/QUOTE]
Munger on public companies:
[QUOTE]"There are, of course, enormous vice effects in economics. You have these bubbles with so much fraud and folly. The aftermath is frequently very unpleasant, and we've had some of that lately.
One of the first big bubbles, of course, was the huge and horrible South Sea Bubble in England. And the aftermath was interesting. Many of you propably don't remember what hapened after the South Sea Bubble, which caused an enormous financial contraction, and a lot of pain.
They banned publicly traded stock in England for decades. Parliament passed a law that said you can have a partnership with a few parnters, but you can't have publicly traded stock. And, by the way, England continued to grow without publicly traded stock. The people who are in the business of propering because there's a lot of stock being traded in casino-like frenzy wouldn't like this example if they studied it enough. It didn't ruin England to have a long period where they didn't have publicly traded shares.
Just as in real estate. We had all the shopping centers and auto dealerships, and so on, we needed for years when we didn't have publicly traded real estate shares. It's a myth that once you've got some capital makrket, economic considerations demand that it has to be as fast and efficient as a casino. It doesn't."[/QUOTE]
Munger on individual rights vis a vis society:
[QUOTE]It is not always recognized that, to function best, morality should sometimes appear unfair, like most worldly outcomes. The craving for perfect fairness causes a lot of terrible problems in system fucntion. Some systems should be made deliberately unfair to individuals because they'll be fairer on average for all of us. I freqently cite the example of having your career over, in the Navy, if your ship goes aground, even if it wasn't your fault. I say the lack of justice for the one guy that wasn't at fault is way more than made up by a greater justice for everybody when every capitain of a ship always sweats blood to make sure the ship doesn't go aground. Tolerating a little unfairness to some to get a greater fairness for all is a model I recommend to all of you. But again, I wouldn't put it in you assigned college work if you want to be graded well, particularyy in a modern law school wherein there is usually an over-love of fairness-seeking process."[/QUOTE]
Munger on the economic effects of virtue versus vice (aka "social capital"):
[QUOTE]Okay, my ninth objection: Not enough attention to virtue and vice effects in economics. It has been plain to me since early life that there are enourmous virtue effects in economics, and also enormous vice effects.
But economists get very uncomfortable when you talk about virtue and vice. It doesn't lend itself to a lot of columns with numbers. But I would argue that there are big virtue effects in economics. I would say that the spreading of double-entry bookkeeping by the Monk, Fra Luce de Pacioli, was a big virtue effect in economics. It made buisness more controllable, and it made it more honest.
Then the cash register. The cash register did nore for human morality than the Congregational Church. It was a really powerful phenomenon to make an economic system work better, just as, in reverse, a system that can be easiliy defrauded ruins a civilization. A system that's very hard to defraud, like a cash register, helped the economic performance of a civilization by reducing vice, but very few people within econoimics talk about it in those terms.
I'll go further. I say economic systems work better when there's an extreme reliability ethos. And the traditional way to get a reliability ethos, at least in past generations in America, was through religion. The religions instilled guilt. We have a charming Irish Catholic priest in our neighborhood who loves to say "Those old Jews may have invented guilt, but we perfected it." And thisguilt, derived from religion, has been a huge driver of a religability ethos, which has been very helpful to economic outcomes for man.[/QUOTE]
Munger on how economics lacks the tools deal with broad social and political effects: [QUOTE] Another example of not thinking through the "consequences of the consequences" is the standard reaction in economics to Ricardo's law of comparative advantage giving benefit on both sides of trade. Ricardo came up with a wonderful, non-obvious explanation that was so powerful that people were charmed with it, and they still are, because it's a very useful idea. Everybody in economics understands that comparative advantage is a big deal, when one considers the first order advantages in trade from the Ricardo effect.
But suppose you've got a very talented ethinc group, like the Chinese, and they're very poor and backward, and you're and advanced nation, and you create free trade with China, and it goes on for a long time.
Now let's follow the second and third order consquences. You are more properous than you would have been if you hand't traded with China in terms of average well-being in the United States, right? Ricardo proved it. But which nation is going to be growing faster in eoconomic terms? It's ovbiously China. They're absobing all the modern technology of the world through this great facilitato in free trade, and, like the Asian Tigers have proved, they will get ahead fast. Look at Hong Kong. Look at Taiwan. Look at early Japan.
So, you start in a place where you've got a weak natoion of backward peasants, a billion and a quarter of them, and in the end they're going to be a much bigger, stronger nation than you are, maybe even having more and better atomic bombs.
Well, Ricardo did not prove that that's a wonderful outcome for the former leading nation. He didn't try to determine second order and higher order effects.
If you try to talk like this to an economics professor, and I've done this three times, they shrink in horror and offense because they don't like this kind of talk. It really gums up this nice discipline of theirs, which is so much simpler when you ignore second and third order consequences.
The best answer I ever got on that subject - in three tries - was from George Shultz. He said, "Charlie, the way I figure it is if we stop trading with China, the other advanced nations will do it anyway, and we wouldn't stop the ascent of China compared to us, and we'd lose the Ricardo-diagnosed advantages of trade."
Which is oviously correct.
And I said, "Well, George, you've just invented a new form of the Tragedy of the Commons. You're locked in this system and you can't fix it. You're going to go to a tragic hell in a handbasket, if going to hell involves being once the great leader of the world and finally going to the shallows in terms of leaderhsip." And he said, "Charlie, I do not want to think about this."
I think he's wise. He's even older than I am, and maybe I should learn from him. [/QUOTE]
2004-06-20 20:48 | User Profile
[QUOTE=Walter Yannis] Everybody in economics understands that comparative advantage is a big deal, when one considers first-order advantages in trade from the Ricardo effect. But suppose you've got a very talented ethnic group, like the Chinese, and they're very poor and backward, and you're an advanced nation, and you create free trade with China, and it goes on for a long time.
Now let's follow and second- and third-order consequences: You are more prosperous than you would have been if you hadn't traded with China in terms of average well-being in the U.S., right? Ricardo proved it. But which nation is going to be growing faster in economic terms? It's obviously China. They're absorbing all the modern technology of the world through this great facilitator in free trade and, like the Asian Tigers have proved, they will get ahead fast. Look at Hong Kong. Look at Taiwan. Look at early Japan. So, you start in a place where you've got a weak nation of backward peasants, a billion and a quarter of them, and in the end they're going to be a much bigger, stronger nation than you are, maybe even having more and better atomic bombs. Well, Ricardo did not prove that that's a wonderful outcome for the former leading nation. He didn't try to determine second-order and higher-order effects.
If you try and talk like this to an economics professor, and I've done this three times, they shrink in horror and offense because they don't like this kind of talk. It really gums up this nice discipline of theirs, which is so much simpler when you ignore second- and third-order consequences. [/QUOTE]
Perfectly true. I will go farther: Take any typical current textbook on 'Macro-economics', and you will find at least 3 wrong assumptions in the first 10 pages.
On those assumptions they then build mathematical formulas and entire systems that have no reality at all.
2004-06-20 21:12 | User Profile
[QUOTE=Walter Yannis] I freqently cite the example of having your career over, in the Navy, if your ship goes aground, even if it wasn't your fault. I say the lack of justice for the one guy that wasn't at fault is way more than made up by a greater justice for everybody when every capitain of a ship always sweats blood to make sure the ship doesn't go aground. [/QUOTE]
Here I would argue for even [B]more[/B] unfairness: Treat everything on a case-by-case foundation. There may be circumstances that make it advisable to [B]not[/B] fire a captain, even if he runs several ships aground, and even if itôs very much his fault.
Okay, yôall are now thinking 'PL has gone nuts'. But I havenôt. Iôll presently give you an example. What would you think about a captain who hates water, gets easily sea-sick, and is [B]notorious[/B] for running every ship aground he gets his hands on? All of this was true for [URL=http://12.1911encyclopedia.org/M/MA/MAHAN_ALFRED_THAYER.htm]ALFRED THAYER MAHAN[/URL] , the greatest Naval Strategic thinker ever, who, quite unfairly, did not get fired from the US Navy, of course, despite his undeniable shortcomings.
It all depends on the individual case. Never do something silly, just because it appears 'fair' or even utilitarian (in a short-term sense). :smartass:
2004-06-21 05:22 | User Profile
Interesting point.
I suspect that Munger was getting at things like "gay marriage" here. He wedged this into the part of his speech on virtue and vice effects. Reading between the lines a bit (especially the reference to law schools and their insane emphasis on individual rights) I think he meant that sometimes the happiness of individuals or even entire classes of individuals can rightly be sacrificed for the good of the group.
Of course, we do that all the time by sending into harm's way the class of healthy young men, as we are currently doing in Iraq and Afghanistan. The reinstitution of the draft will make the discrimination against one class for the good of the greater group explicit.
So too it is with banning sodomy (much less instituting "gay marriage"). We've learned to focus exclusively on the first-order effects on the individuals, and can't look to the ripple effects throughout society. Banning sodomy may be unjust to a small group, but it greatly enhances the life of the larger group.
Munger is saying we need to get clear in our own minds about those sorts of things. We need to quit focusing exclusively on the individual and his rights, and think in terms of society as an whole. I would say "society as an organism" - a concept sociobiology seems to support.
Walter
2004-06-21 09:52 | User Profile
[QUOTE=Walter Yannis]Banning sodomy may be unjust to a small group,..[/QUOTE]
I donôt know if that can be called unjust. I mean itôs profoundly unnatural. Banning sex with animals, incest, or cannibalism for that matter, is not unjust either. In those cases, I wouldnôt even so much argue with good of the group, but rather decency and sanity. I mean they arenôt entitled to that kind of behaviour in the first place, insofar I wouldnôt say itôs individuals forced to sacrificing something to which they could make a reasonable claim.
2004-06-21 10:19 | User Profile
[QUOTE=Paleoleftist]I donôt know if that can be called unjust. I mean itôs profoundly unnatural. Banning sex with animals, incest, or cannibalism for that matter, is not unjust either. In those cases, I wouldnôt even so much argue with good of the group, but rather decency and sanity. I mean they arenôt entitled to that kind of behaviour in the first place, insofar I wouldnôt say itôs individuals forced to sacrificing something to which they could make a reasonable claim.[/QUOTE]
Of course, I agree with that, but then again I don't begin with the assumption now current in American law schools that only the individual exists and that the law should be designed to advance individual fulfillment.
If one starts from such an assumption, then gay marriage would tend to follow from that.
I think that's what Munger is implying.
Walter