Archive | June, 2013

Why the West had it so good

22 Jun

People in the West, be it general public or politicians, have huge expectations from future economic development. Our living standards in the West have hugely increased over the past five decades due to unprecedented economic growth. People think this trend will continue – they take on more and more debt and have expectations of ever increasing living standards. Stephen King, HSBC’s group chief economist, gave a talk at the LSE about his new book this week – When the Money Runs Out: The End of Western Affluence. This blog post is about why we had it so good over the last 50 years and why the future might be different to what we think.

Stephen pointed out at the beginning that growth in the West is slowing. In each of the previous five decades, the UK grew at approximately 30%, 13% (this was the 70’s oil crisis), 27%, over 30% and only 4% respectively, 4% being the growth in the last decade from 2003 to 2013. Yes there was the 2008 financial crisis, but for example the 70’s had their fair share of crises as well. Chinese and Indian economy grew at 130% and 80% respectively over the same last decade.

He identifies three main drivers of why the West grew so much from the 1960’s to 2000’s and why the growth is slowing now. One thing to note about the drivers is that they are unlikely to happen again.

The first one was opening of world trade driven by OECD agreements. This was trade mainly between western countries and also Japan. Growth in trade has slowed down considerably in the last decade and any further global growth comes mainly from South-South trade between emerging countries. The only European country which was able to capitalise on the growth of China in a meaningful way is Germany, the others did not really see any major increases in exports. There do not seem to any similar markets about to open up as we saw 50 years ago.

The second one was integration of woman into the workforce. Huge new pool of educated workers became suddenly available and was a big impulse for the economy. Quite obviously, there is no third gender to integrate.

The third reason was the growth in consumer credit. It allowed many families in the West to smooth their consumption patterns over time by getting access to credit to buy fridges, washing machines, TVs or homes. The household are unlikely to be able to take on much more debt.

Some might say that growth is not so important. Stephen argued that it is important indeed, because if new wealth is not created but destroyed, our economy becomes in fact a zero sum game. One has to lose out if other is to gain. With the rise of technology and globalization, it is ever easier for smart people to engage with the economy and to benefit from trading in it while the need to employ unskilled workforce in the process is lower and lower. It is therefore the very people who tend to disagree with the need to grow the most that should be its most vocal supporters.

This was just a brief introduction to the book which covers a lot more. I bought it so I will write another post once I have read it. The main takeaway at this point is that the West should realise how fortunate it was in the 50 years preceding this millennium when living standards of 99% of people dramatically increased. This is however not something everybody should take for granted moving forward. People and governments alike should understand that some of them are living beyond their means by relying on debt too much. They need to readjust their expectations from the future and became more realistic in terms of how much their living standards are likely to increase and how much debt they will be able to service. Another interesting point is that most of the developing countries still have the three dividends mentioned above ahead of them.

Exploring the future

18 Jun

Some people tell me I plan too much and others that I plan too little. I think this is either because people have differing attitudes towards planning or because they understand meaning of the word differently. The fact is however, we all think about the future sometimes. This blog post is about how I like to think about it.

Why we do not like to plan

A lot of people do not like to plan. Some are afraid that they will make great plans which the reality might not live up to and that they will be disappointed afterwards. So in order to avoid this disappointment, a negative gap between their expectations and the reality, they choose not to make any plans in the first place. Others are afraid that once they make a plan, they will be restricted by it and will feel obliged to execute it at all costs. So in order to not lose this perceived flexibility, they do not make any plans as well. There are also some people who simply do not care about their future even though I would like to believe this is just a minority.

The first two reasons why people do not like to plan make sense and are very close to human nature. None of us want to regret, be disappointed or feel restricted. And all these feelings are indeed bound to occur if we understand planning as a prescriptive activity and plans as a clear statement of what has to happen in the future. Plans then became a form of commitment we have either internally with ourselves or, if we share our plans publicly, with others. There are certainly benefits to making commitments in this way – our increased motivation to work hard or extra predictability for others. But there are also two crucial limitations which make prescriptive planning a lot less attractive proposition at least when it comes to our personal lives.

The first limitation is that for the reasons mentioned above, people often end up not making any plans at all. They then get trapped in their status quo even though they could have improved their situation had they acted with a bit of foresight. The second limitation is that most of the issues we are faced with are complex and unpredictable ones. It is therefore not the best idea to make a fixed plan of what has to happen over the next year or so using only our past knowledge. The circumstances are likely to change, we are likely to learn new things and figure out better ways of getting to where we want to be or realize that we actually want to do something else all together. I therefore like to think about planning only as of a guide to action and a platform to explore what can happen in the future.

Planning as a road trip

A good metaphor would be a road trip. Let’s say we want to explore the Europe by car over the next three weeks. One can approach planning such trip in three ways. A prescriptive planner would do a precise itinerary of where we should go each day, how long we can stay there for and what we should do there. If we get to like some place a lot and would like to stay there couple extra days, it is not possible because it would mess up the whole plan. If one road would be closed down and we would have to take a long detour, we might not get to see our final destination because we will simply run out of time.

People who do not plan at all would just start driving, see places along the way and decide every morning where they want to go. While this sounds attractive, they might miss out on most of the sites they wanted to see because they will not know how to get there. Once their holiday is over and they have to fly back home, they might realise they spent the whole time driving around one country as opposed to seeing Europe as they originally wanted to do. They might not even go for the trip at all as they might be afraid they would get lost and will therefore stay at home. I have seen both of these approaches to planning before and they unfortunately leave people disappointed at the end of the day usually.

This is why I propose a third approach. Sticking with the road trip example, we explore what all there is to do in Europe and compile a basic list of things we would like to see and do. We accept the fact that this list is incomplete because we can learn about Europe only so much before we actually get there. We know we will come across some extra place as we go along. We also look at driving distances between the places and for how long we would like to stay at each place so we get an idea of how much we can realistically manage to see.

The objectives of planning are not to make a fixed plan. They are rather to give us comfort that we know what we can do, should we decide to do it and to inform our future decision making. If we get to like one place and want to stay there longer, we will know that we can do so but that we will not be able to see another place in that case – it allows us to make educated trade-offs.

The very fact that we make a plan, gives us a level of comfort and self confidence that we can manage the trip and allows to set into action (e.g. book the plane tickets). This is very important as a lot of people never get to make the first step towards achieving something. Once we land, we can start executing the plan but we also know we can change it any time should we find a shorter way of getting to where we want to go or should decide to go somewhere else.

Planning in this sense is therefore not a prescriptive exercise but rather an exploration of what all can happen in the future. Since the future is uncertain, we can also make various scenarios (e.g. what to do on a sunny day or on a rainy day). At Shell, where scenario planning was pioneered nearly half a decade ago, they view scenarios as ‘tools which help leaders prepare for futures that might happen, rather than the future they would like to create’ (Living in the Futures, HBR, May 2013).

Once we start thinking this way, we often realise that in order to achieve something in the future, we need to do something today or within the next couple of weeks (e.g. to apply for visa on time before our departure date so that we can board the plane). A lot of people have to compromise on their dreams because they realise only too late that they missed out on something. By setting ourselves into action today, we also get better prepared to capitalise on opportunities we might come across in the future. Our plan is often unlikely to work out as intended but because we had a goal and we were working towards it before, that work might pay off now to achieve something even better that what was our original goal.

The point of this blog post was to change people’s perceptions towards planning and to understand it not as a restrictive but a liberating activity. Planning as an exploration gives us the confidence to get moving, makes us appreciate what needs to be done to get where we want to go and allows us to change our plans for the better as we go along because we are able to evaluate consequences of our decisions and therefore make good trade-offs.

How much freedom are your choices giving you?

11 Jun

One my friend asked me couple weeks ago how free I think I am. In the discussion that followed, I realised that there are many ways of understanding freedom and that I was not able to give a simple answer. She thinks that I sometimes constrain myself too much in what I do and that I should plan a bit less. I think that it is important to view freedom not only in terms of what I can do today but also in terms of what I will be able to do in the future. This blog post is about how our actions today determine what we can do tomorrow and how we should make robust decisions to maximise our freedom. The next post will be on planning.

I mentioned in one of my previous posts the importance of planning and deferred consumption. The post was in the context of why some societies are more developed that others. One of my points was that people living in cold climates were forced to learn to plan (I have to build a house and collect wood in the summer otherwise I will freeze to death during the winter) and to get used to the concept of deferred consumption (I cannot eat all my grain during the winter even though I am really hungry because otherwise I will have nothing to sow in the spring). Having applied these concepts also to other parts of life was an element that allowed some societies to develop faster than others. I think we should apply these concepts to our thinking about freedom as well.

Let me give you a simple example. All young people essentially face a choice of (at least sometimes) studying hard for school or spending most of their time just hanging out with friends and enjoying themselves. The latter is what some would call freedom. The problem is however, that without good education, their options of what they can do in the future will be severely limited. A lawyer can go work as a waiter but a waiter cannot work as a lawyer. A decision to work hard at school gives us more freedom of choice in the future than exercising our freedom not to work hard when young. This is an example of deferred consumption applied to freedom and we can call such decision a robust one.

Keeping your options open

Robustness is a very interesting concept. Most of our decisions are consequential. This means we do not have to decide our whole life at one time but rather more slowly step by step. But the decisions we make now will determine what we can do in the future. Assuming we can decide between options A, B, C and D robustness is an expression of what percentage of total possible desirable future options (desirable future options resulting from A, B, C and D combined, not counting the undesirable options which will inevitably also emerge) will decision X give us. The higher the percentage the better, the more robust the decision.

I did not really know what exactly I want to do when I was 18. I therefore decided to pass my A-levels from mathematics in addition to literature which would give me the option of doing quantitative as well as qualitative degrees at the university. Still undecided but already a bit more focused, I afterwards applied to BSc. Management at one of the best universities in the UK which has really allowed me to do almost anything afterwards. This was a robust decision I am glad I made. Had I decided not to go to university at all or to study something like medieval history, my options would be much more restricted now.

There are two main takeaways from this post. The first one that is it a good idea to occasionally restrict our immediate freedom for the benefit of our future freedom. The second one is that when making decisions, we should choose an alternative which would give us the highest number of favourable future options as opposed to picking just the easiest one. This might sound obvious, but I never stop being surprised at how often people prefer immediate satisfaction to future freedom.

An important point to keep in mind here is of course that we should not go to the other extreme as well. That is to give up on all our immediate freedom for future benefit. Sticking with the example of storing grain, one cannot store all the grain otherwise we would die of hunger; one has to eat well to be strong to be able to sow the field that much better when the spring comes. The same applies to just taking it easy and having fun sometimes.