Posts Tagged ‘Milton Friedman’

Swiss to vote on basic income for every adult

October 14, 2013

Switzerland will hold a national referendum on giving every Swiss adult a guaranteed income of 2,500 Swiss francs a month—equal to about $2,800, or $33,600 a year.  I don’t know whether this would be feasible, but it would be an interesting experiment.  There are two arguments in favor of a guaranteed income—one philosophical, one practical.

concentrationofwealthThe philosophical argument is that basis of our material prosperity is not our own individual efforts, but the achievements of those who came before us.  Thanks to the inventors of the printing press, the steam engine, the electrical generator and the digital computer, I enjoy a kind of life that was available only to kings and emperors in centuries past.

But I did not create these things.  So there is no reason why I have more of a right to the fruits of these achievements than anybody else.  All I have by right is the incremental value added by my own efforts.

The practical argument is that the United States and other wealthy countries already have made the decision that nobody is going to be left to starve.  But we have a patchwork welfare system that is costly, inefficient and full of perverse incentives that discourage people from supporting themselves.  The free-market economist Milton Friedman advocated a guaranteed income as a lesser evil than the current welfare system, because it would mean less bureaucracy and less distortion of the free market.

The Swiss also will vote on a referendum to limit corporate executive pay to no more than 12 times the pay of the lowest-paid employee of the firm.  Based on my (possibly very ignorant) idea of what the Swiss are like, I don’t expect either referendum to pass.

From my standpoint, that would be a pity.  I am curious as to how these ideas would work out in practice.   Would the Swiss become a more humane society, or a nation of lazy do-nothings?   Or would the referenda after all not make much difference?

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Magic formulas and failed corporate strategies

August 9, 2013
Clayton Christiansen

Clayton Christiansen

Clayton M. Christiansen of Harvard Business School is a brilliant management scholar who has written about how U.S. corporations fail when they neglect the basics of their business.  He wrote recently in Salt Lake City’s Deseret News about another reason the corporations decline when executives focus on the wrong things.

You have such concepts as Return on Net Assets (RONA), Economic Value Added (EVA), Internal Rate of Return (IRR), Earnings Per Share (EPS) and Gross Margin Percentage. They are all ratios.

By standardizing the definition of profitability, corporations lined up to optimize these profitability ratios. RONA provides a good example.  A company could improve its RONA by generating more revenue and put that in the numerator.

But the other way to improve this ratio is to reduce the denominator by a company getting rid of assets.  Reducing assets is much easier than increasing revenue.  So if a CEO is rewarded for a good RONA ratio, the incentive is to outsource aggressively. When there are no assets on a balance sheet, then this rate of return is infinite, and according to this definition, it might seems like such a company is doing better and better.

via Clayton M. Christensen

McDonnell-Douglas was an example, he wrote.  Its DC-3 transport was a powerhouse of the industry, but the company’s RONA was low.  The company started outsourcing more and more of its work, and its RONA rose to 60 percent.  But when the DC-10 had been put on the market, there was not enough cash flow to launch a DC-11.

The economist Milton Friedman said back in 1970 that corporate executives are employees of the shareholders, and that their object should be to maximize shareholder value.  Steve Denning wrote in Forbes, quoting Jack Welch of General Electric, that this was the “world’s dumbest idea,” which is not to say that Welch never believed in it.  Denning said the truth is that the executive is the employee of the corporation, and that the purpose of the corporation, in the words of management scholar Peter Drucker, to “create a customer.”

I find this discussion familiar, because I remember how, when I was reporting on Eastman Kodak Co. for the Rochester, N.Y., newspaper in the 1980s, Kodak exited or outsourced certain businesses because profit margins were not high enough, while its main competitor, Fuji Photo (now Fujifilm), simply tried to maximize its share of the market.  Like Kodak in the days of George Eastman, Fuji never gave up any basic technological or manufacturing capability.

Why are so many corporate executive beguiled by financial formulas at the expense of long-term survival?  Christiansen thinks it is because of dogmatism and Denning because of stupidity.  Probably they’re right in many cases.  But for certain categories of people, focusing on financial ratios makes perfect sense.   They include hedge fund managers, private equity fund managers who specialize in leverage buyouts and any other investor or speculator who wants to cash in and get out.

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Milton Friedman on the price of human life

August 11, 2011

The following exchange between the Nobel economist Milton Friedman and a college student (who was not named Michael Moore) has been making the rounds of the Internet.

The video shows a segment from a 1977-1978 lecture series given by Milton Friedman, in which he is questioned by a student about free market principles and the Ford Pinto.  The Ford Pinto, which was sold from 1971 to 1980, was a subcompact which, because of its design, had a gasoline tank that would explode during rear-end collisions.  Ford in an internal memo estimated that the problem could be fixed through a $13 fix, but as this would amount to spending more than $200,000 per estimated life saved, this would be too much.  About 1,000 Ford Pinto drivers were victims of rear-end explosions.

The student said this was morally wrong.  Friedman said it is not a question of morality, but of economic calculation.  No human life is of infinite value, he said; you wouldn’t spend $1 billion to save a human life, because it would soak up resources needed to preserve other human lives.  So the only question, according to Friedman, is whether Ford weighed costs and benefits correctly.  He did not express an opinion on whether it did.

Here are some problems with Friedman’s argument:

  • The contemptuous dismissal of ordinary human moral intuition.
  • The substitution of a “rational” judgment based purely on monetary factors.
  • A “rational” judgment based on an extreme example that never would occur in real life.
  • Privileging a corporate executive to make the cost-benefit evaluation over the person affected.

All these assumptions are worth bringing to light and challenging, because they are widespread in American society today—thanks in part to Friedman’s influence.

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