Stumbling and Mumbling

Do we need bosses? A test

Do we need managers? Simon Blackburn kicked off a debate about the theory. But Channel Five has come up with something better - an empirical test. It's going to be without a hands-on chief executive for the next 12 months. It's fortune will therefore be (albeit only) one datapoint of evidence.
Here's my hypothesis. The headline in the FT's story is wholly wrong. Channel Five will not be without direction for the next 12 months. It'll head in whatever direction it was heading in before Jane Lighting left. If it was heading for trouble, it'll hit trouble. And if it wasn't, it'll do OK.
The main contribution chief executives make is to change corporate direction through big decisions (such as poaching Carol Vorderman from Channel 4), restructuring or refinancing the company. Otherwise, firms run themselves through force of habit - people don't need leadership to carry on doing what they're doing. Indeed, the lack of a chief executive might be a positive help, as people spend more time doing their jobs rather than sucking up to the boss.
And herein lies the problem with assessing how Channel Five will cope without a boss. If it does run into trouble, this could be evidence that Ms Lighting had set a bad direction, and the firm would have done badly had she remained CEO.
So I fear the debate about the value of managers will remain largely theoretical.

Terminal 5: a Coasean problem

The shambles at Terminal 5 shows what happens when bosses are ignorant of economics. Here's the Times:

BAA claimed that the baggage system was working properly but had become clogged with bags because BA had too few staff to unload them from conveyor belts. BA said that BAA had provided too few security staff to process its baggage handlers as they arrived for work.

And the Telegraph:

British Airways said the system was provided by the airport, while BAA said it was the airline which was responsible for getting bags from the aircraft to the belts.

Now, this is cretinous. Baggage handlers are obviously complements to a baggage handling system - one's useless without the other. And it's a basic principle of economics that complementary assets should be run by the same boss, to ensure that they work together. And yet BAA and BA have contrived to ignore this; BAA runs the system whilst BA provides the staff.
This is not a sophisticated principle. It's grasped perfectly well by the Archers, for example.
Which, I guess, shows just how low management has fallen. Rather than apply basic organizational principles, BA managers prefer to live in a purely imaginary world of visions. As I say, management is not a technical function aimed at making things work, but an ideological process used to justify bosses' status and salaries.

Complements in production

A colleague of mine is doing jury service; the case has dragged on for ages, because a jury member has fallen ill. The west coast main line will be closed over Easter because of engineering works in Rugby. The sale of my flat is taking forever, because my solicitor is so slow.  And despite the Bank of England's efforts, interbank markets are illiquid.
These four things are related.  They all show the troubles that happen when inputs into a production process are complements rather than substitutes. If a jury member falls ill or idle, you can't easily replace him halfway through a case; the 12 jury members are complements. If the line in Rugby is closed, trains can't easily be diverted through Coventry, and the track around Rugby is a complement to the track through to Manchester. I can't now substitute to a quicker solicitor. And the production of market liquidity is a complementary process. It's no use one bank being healthy and able to lend if others aren't perceived to be creditworthy. Market liquidity is like making a dream so real - it takes two baby.
In cases like these, single failures can badly hold up production - a chain is only as good as its weakest link - and substitution away from that link is difficult. We have Leontief production functions.
Now, Charles Jones has showed in this fantastic paper (pdf)  that such  complements in production processes help explain why poor countries stay poor.  But my examples suggest that they matter in richer countries too.
Could it be that  sectors have low productivity partly because they are riddled with complementarities in production, and so suffer from weakest link problems; think of transport, construction and the law, where Jarndyce vs Jarndyce is still an accurate description?
One of the tricks of good management is to try and overcome problems like these; remember, the assumption of conventional economics, that the production function is given, is false; such functions have to be discovered. A good manager asks: how can I avoid being dependent upon a weak link? Sometimes, the answer to this is to bring the complements under the same ownership. Other times, it's to increase potential to substitute between inputs, for example by replacing highly paid stars with cheap formats or by offshoring.
But what happens if managers lack incentives to find such substitution possibilities? Could it be that one reason for inefficiencies in the public sector - and even perhaps for  the collapse of the Soviet Union - is that managers lack incentives to minimize costs and hold-ups by finding technologies that permit substitution?

The secret of stock market success

During the last nine years, Reckitt Benckiser has been one of the UK market's best-performing stocks. It's returned 17.6% a year in this time, compared to just 3.7% for the All-share.
What's the secret of this success?:

A drug company is facing accusations of ripping off the NHS with a secret plan to maintain a monopoly in the supply of Gaviscon, the lucrative heartburn medicine.
Internal documents show Reckitt Benckiser executives plotted under the codename 'project Eric' to create obstacles to block rival manufacturers from selling cheap generic copies of the indigestion treatment.

Sure,  profits from Gaviscon alone don't explain much of Reckitt's performance. But what this shows is that Reckitt's management have a clear sight of what causes corporate success.
The key to long-term success isn't innovation, because profits from this are bid away by competition. Nor does it come from keeping consumers happy - if they've nowhere else to go, it doesn't matter how happy they are. And nor does it come from employing good people, as these can walk.
Instead, corporate success requires monopoly power, the ability to exclude rivals. Reckitt's bosses understand this well. Good for them.
Could it be though, that investors have in the past understood it less well? This would explain why firms with monopoly power - such as tobacco firms with their strong brands and addictive products or mining companies with their access to valuable resources - have been among the few FTSE 100 stocks to do even better than Reckitt.
As I said, a healthy stock market isn't necessarily a sign of a healthy economy - though see some caveats here.

The John Lewis question

Workers at John Lewis have just received big bonuses after a successful year. Which raises the question: why has John Lewis done so well at a time when stock market listed retailers have been struggling?
It could, of course, be just luck.
But could there be something else? Might it be that John Lewis's partnership model makes it a better retailer? Maybe the financial incentives and atmospheric benefits it confers upon shopfloor staff help make John Lewis more attractive to customers than other retailers.
Or turn the question around. What benefit is there for a retailer in having lots of small dispersed outside shareholders? Why is this ownership model better than concentrated private ownership which can discipline management better, or worker-ownership where workers are better motivated? The question is not, of course, confined to retailing.
If you think only loony lefties like me ask this, you're wrong. The market is asking it too. In my day job, I've pointed out that the market is pricing retail stocks at just one penny for every pound of non-food sales - which suggests markets have grave doubts about the merits of listing for retailers.

Against ambition

In his speech to the Labour conference yesterday, Gordon Brown urged us to "embrace this new age of ambition" where "what counts is not how high up you start, but how high you can reach."
Include me out. I'm with John Stuart Mill:

I am not charmed with the ideal of life held out by those who think that the normal state of human beings is that of struggling to get on; that the trampling, crushing, elbowing, and treading on each other's heels, which form the existing type of social life, are the most desirable lot of human kind, or anything but the disagreeable symptoms of one of the phases of industrial progress.

My problem isn't just that elbowing people aside in a scramble for illusory power over others is morally and aethestically repellent. Ambition is counter-productive for those who possess it, and for the economy generally.
It's counter-productive because you'll never find happiness or fulfilment in reaching higher up a corporate ladder. Ambition condemns you to the hedonic treadmill. Promotion to deputy assistant manager (sales) will not satisfy you, nor will promotion to assistant manager, nor manager, and so on. You'll always think that the next step will give you what you want, and you'll always be disappointed. A common reaction of people who, after years of striving, become partners in law or accountancy firms is: "is this it?"
Instead, happiness consists in freedom. And this means finding ways to unshackle yourself from the chains that tie you to hierarchy. Which means renouncing ambition.
For me, this has meant finding a job that will allow me to work from home. On learning of my plan to do this, a colleague this week said: "if you're never in the office, you'll have no chance of getting promoted." Which is precisely the point.
I have two bits of advice to any young person with ambition. First, go and work in the City. This'll satisfy your ambition for money. Second, learn a musical instrument instead. This''ll channel your desire for steady incremental improvement into a more satisfying direction.
Ambition doesn't just warp individuals, though. It's economically dangerous.
One reason for this is that it leads to an over-supply of general skills and an under-supply of specific technical ones even if hierarchy is efficient, as this paper shows.
Imagine you're a young ambitious worker at the bottom of the hierarchy. You were hired for your specific technical skills. How do you progress? In many cases, it'll be by letting those skills decay, in favour of developing more general ones. There are three reasons for this:
1. The justification for hierarchy is that we need bosses to coordinate assets. This requires general skills - the ability to bang heads together - rather than (just) narrow technical ones.
2. The managers who'll promote you are better at recognising skills they are familiar with, and people over-rate the qualities of folk who are like them. So your chances of promotion are greater, the more your skills resemble your bosses. Which requires you to invest in general management skills, not specific technical ones.
3. The better you are at your job, the greater the loss if you're promoted. Managers might figure: "If we promote him, we'll lose a great programmer. We might as well promote the duffer instead. It's cheaper than sacking him, and he'll not rock the boat."
The upshot is that ambition can kill off important skills. I'll bet the people in your firm who are best at their jobs are those who have abandoned ambition. That's no accident.
The costs of ambition don't stop there, though. Ambitious people will be suspicious of colleagues - fearing they are as ambitious as themselves - which undermines teamwork and collaboration. And they suck up to bosses, thus reinforcing their overconfidence.
And ambition underpins support for hierarchies when these are inefficient. The ambitious regard hierarchy not as a barrier to business efficiency, but as an opportunity for them to "progress."
All this raises a question. Might Brown's endorsement of ambition and the inefficiency of his administration be more closely connected than generally thought?
A clarification: I've nothing against ambition in the sense of wanting to be the best possible engineer/writer/musician or whatever. There's much to be said for wanting to master a genuine skill. But Brown's talk of "how high you can reach" suggests he's thinking of ambition in the sense of wanting to climb a hierarchy, which is where I have a problem.

Entrepreneurship: a clarification

Several people have criticized my claim that access to capital is a key determinant of entrepreneurial success by pointing out that many people who inherit businesses make a pig's ear of them. For example, The Entrepreneur says:

Access to capital does not correlate very highly with entrepreneurial outcomes. That is, more money at start-up does not predict more entrepreneurial success.

I fear we're talking at cross-purposes here. We can both be right. To see how, let's build a Bayesian box; the numbers here are purely to illustrate this  - no more.  Take 100 people. Say 50 have access to capital and 50 not. And let's say 10 of the 100 become successful entrepreneurs; the other 90 either never start businesses or fail. And let's say that 8 of these 10 had access to capital and two others didn't. We then have this box.
Now, the way I've built the table, my claim stands. Having access to capital greatly increases your chances of becoming a successful entrepreneur; 8 in 50 vs 2 in 50. But the Entrepreneur is also right. Even with access to capital, only a small fraction of people - 8 in 50 - become successful entrepreneurs.
Now, people who look for personality-based explanations of what makes an entrepreneur look only at the first row. My concern, though, is about the bottom left box. How many potentially good entrepreneurs  are there among this 48 who were deprived of their chance to succeed by lack of access to capital?
If you want to assuage my concern, you should argue that access to capital is no longer a problem - that the numbers in the box are wrong. This could be either because businesses have become less capital-intensive, or because capital is plentiful; Luigi Zingales discusses these possibilities here and here (pdf), for example. Pointing to people who inherited money and falied won't do.

Rent-seeking as asset-stripping

What does this tell us?

Senior manages at Northern Rock have been paid secret bonuses, doubling their salaries at a time when the stricken bank is being propped up with the help of billions of taxpayers' money, it emerged last night.
The bank has sanctioned millions of pounds in confidential "retention bonuses" to managers and management board directors deemed "essential to [its] continuing excellent operational performance",

Does this show that vulgar libertarians are wrong to claim that market forces and the threat of bankruptcy can constrain rent-seeking by private sector bosses?  Might it be instead that the imminence of going bust can actually accelerate bosses' rapacity, as they leech as much as they can out of the firm before it  enters administration?
Or could it be that Northern Rock's bosses are anticipating the company's nationalization, and are already starting to behave like "public servants"?

It's not the economy, stupid

Is the credit crunch hitting consumer spending? DSG, owners of Currys and PC World, reckon it is. It's blamed its profit warning today on "generally weaker consumer environments across many of our markets".
This is bull. You should never infer anything about the macroeconomy from individual company experiences. After all, Allders, Courts and Powerhouse went bust a couple of years ago during a great retailing boom. And as the late Paul Geroski showed, even deep recessions affect only a minority of firms.
DSG's problems are of its own making, not the result of the macroeconomic environment. In bleating about the macreconomy it is merely repeating the tired old bosses' ruse of blaming the economy for what is really its own incompetence.
DSG says its like-for-like sales fell 1% in the year to the 11 weeks ending on December 29. We don't yet have official figures on how shops generally fared in December. But we do for November (pdf), the first half of those 11 weeks. And they show that overall  retail sales rose 4.4% in volume terms and 3% in value, year-on-year. That's pretty healthy.
So, why did DSG do worse? Here are four possibilities:
1. DSG has a new CEO. And new CEOs like to get as much bad news out of the way as soon as possible, so their predecessors can get the blame.
2. DSG, like many retailers, has over-expanded. The BRC reports that although its measure of overall sales rose 3.1% in the year to November, like-for-like sales were up a mere 1.2%. The difference reflects the fact that new stores have opened, spreading sales over more shops. DSG has been part of this. In many towns, Curry's and PC World take sales from each other. It's no wonder then that DSG is planning to shut some stores.
3. The "retail experience." How often have you come out of a Currys thinking "That was nice. The staff were friendly and efficient and I got just what I want."?
4. Inventory policy. What were the must-have gifts this Christmas? Wiis and DSs. Could you find them in Currys? Me neither. Funnily enough, though, one of DSG's competitors - Game Group - has made big money through the cunning trick of occasionally having in stock the stuff customers want to buy. 

Co-ops: a reply to Matthew

The country's best Toryblogger challenges me on the desirability of an economy based upon co-ops. I've a few problems with some of his claims.

I'm quite open to forms of corporate ownership other than the public limited company. However, that is still the way most sizeable firms are organised (small companies often are owned by their workers - the corner shop is a classic example). Firms like John Lewis are very much the exception.

It is true that big firms are typically publically quoted. But this is because they have huge capital requirements which can only be met by external shareholders. But these are only a minority of all firms. There are vastly more worker-owned firms than there are firms listed on the stock market; think of all those law and accountancy firms. In this sense, co-ops (partnerships) are the norm and external shareholder ones the exception.

To own the company they work for exposes [workers] to greater risk.

True. But this doesn't distinguish a co-op-based economy from a capitalist one. If a worker has lots of job-specific human capital but no financial assets, he's exposed to lots of firm-specific risk in a capitalist economy.
The problem here is a lack of markets in occupational or industry risks. This is separate from the capitalist vs co-op question.

If workers owned the firms they work in they would not reallocate their capital if an opportunity for greater profit arose. New industries could be neglected as they are unable to build a critical mass of workers invested in them.

I  don't see this at all. One effective way for new firms to attract workers is precisely to offer them ownership stakes: ask Bonnie Brown. The problem with co-ops is not so much that new ones won't start, but that existing ones don't like to expand, as workers don't like seeing their control diluted; Waitrose competes on quality, not price.

Having external shareholders drives the need for a hierarchy. Shareholders need to be able to appoint someone who will manage their company for them. They then need to be able to hold that person accountable for delivering results. That really needs to be one person.

External shareholders are not the key issue here. Instead, the case for hierarchy is that there has to be someone to coordinate (pdf) different assets within a firm and resolve disputes. In principle, internal shareholders - co-op members - can appoint this person.
What's more, coordination needn't be a strongly hierarchical function. It can be done partly by market-based management rather than by using leadership and "judgment." And often, if a firm has lots of different assets, it might be better off selling some than managing them.
I should stress that I'm not saying that all privately-owned firms should become co-ops over night. It could be that a more co-op-based economy might emerge "naturally" over time if physical capital-intensive firms shrink in importance relative to human capital-intensive ones. Indeed, market forces suggest there is strong demand for coops. It's amazing how how many people with money prefer to work as partners rather than employees, shop at Waitrose and Peter Jones, and invest in hedge funds (typically partnerships) rather than conventional funds (typically hierarchically owned).   
And what Matthew hasn't done is successfully controvert the idea that public services - schools and hospitals - should become some type of co-operative organizations.