Chess Boxing

The insurance bailout

The whole debacle with the US housing market, and, in particular, the bailout of Freddie and Fannie, raises some very important questions as to what the role of government should be in supporting the economy. Proponents of the bailout argue that Freddie and Fannie are so central to the operation of the US mortgage market that their collapse would spell an economic catastrophe. However, my fear is that the alternative – a bailout – while attractive in the short term, could be far more catastrophic in the long term. Specifically, a bailout skews the risk analysis by companies, since they come to assume that if they run into trouble the government will bail them out. This in turn encourages irresponsible risk taking behaviour, which, in the long term, will lead to the same problem of over exposure to risk arising again and again. So as a rule of thumb I tend to oppose bailouts, no matter how dire the situation may appear in the short term. One of the most pivotal aspects of a market system is that market participants need to take responsibility for the risks they take. This in turn encourages responsible risk taking. Bailouts (or any other form of government backing) completely destroy this important feedback mechanism.

On crashes

Whenever a stock market crash, or conversely a rally, occurs in world financial markets, the newspapers are immediately filled with analyses by ‘experts’ on why the crash occurred and what should be done in future to prevent such crashes. People point to bad business decisions on the part of companies, bad monetary policy, bad regulations, or any number of other reasons. I’m of the view that most of the time these analyses are fundamentally misguided and ignore the real reason for market crashes. The real reason for market crashes can manifest itself at any time, even when all the fundamentals of the economy are in good shape. What is the real reason? Markets are complex systems, and most complex systems are characterized by chaos and instabilities. This is an inherent trait of complex systems and has nothing to do with whether businesses are making good or bad decisions, or whether monetary policy is enlightened or misguided. Additionally, global financial markets have many inherent positive feedback loops. That is, when a trend emerges it has the ability to reinforce itself. Consider for example when the stock market begins to take a dive. People see the dive, assume that it will continue, and try to protect themselves against losses by taking a short position (e.g. by selling stock or buying appropriate derivatives). This behaviour reinforces the trend by driving prices further down. Conversely, an up-trend could equally well reinforce itself when people try to take advantage of the trend by taking a long position (e.g. by buying the stock). Importantly, the ability for these patterns to materialize is inherent, and has little to do with the underlying strength or structure of the economy.

As an example, to this day there is little consensus on what caused the Asian financial meltdown of 1997. It was completely unexpected and occurred without any obvious reason. Various commentators will attempt to retrospectively explain it away by pointing to various economic indicators or the behaviour of various financial institutions. But I don’t believe there will ever be consensus, because the reasons for the crash probably cannot be attributed to any specific action or policy. Rather, the dive was most likely a collective phenomenon, associated with the fundamental instability of a complex system.

So the question is, what can be done to avoid crashes? The answer is, short of massive regulation of the financial system (which is both unviable and probably counterproductive), probably not much, since large markets are inherently comprised of a large number of individual market participants, which will inevitably lead to a complex system with chaotic and sometimes highly unstable dynamics.

Islamic banking

I recently heard about Islamic banking, a form of banking that is consistent with Islamic Sharia law, and started learning a bit about it. Unlike conventional western banking, Sharia law explicitly forbids usury, the collection of interest on loans. Obviously Islamic banks need some kind of profit model, so when a business takes out a loan with an Islamic bank, rather than paying interest on the loan, the entrepreneur engages in a profit-sharing partnership with the bank. That is, the bank becomes a partner in the business and takes an agreed upon percentage of the profits. This type of agreement is consistent with the no-usury requirement in Islamic law.

Apparently Islamic banking is one of the fastest growing sectors of the international economy, catering for the world’s enormous Muslim population who wish to bank in accordance with Islamic law. Interestingly, during the Asian financial meltdown, Malaysia’s prime-minister Mahathir Mohamad refused IMF assistance, a move which shocked world markets, and instead invited the Islamic Development Bank to provide the necessary investment to revive Malaysia’s economy. As it turns out Malaysia’s economy recovered very quickly, unlike some of the other Asian economies which faltered despite IMF assistance.

In my mind, this model of banking offers some key advantages compared to conventional Western banking. Namely, risk is spread between the investor and the debtor – Islamic banks assume a share of the risk in the businesses in which they invest. This is unlike conventional banking where bankers have a cut-and-run approach – the banker’s income is fixed and they are effectively insured against risk via collateral offered by the entrepreneur. This difference clearly changes the dynamics of business loans since the bank has a strong vested interest in ensuring the success of the business and is therefore likely to offer advisory support and other assistance to businesses along the way.

I’m interested to see how Islamic banking develops and whether it becomes more widespread. I’m particularly interested to see whether, influenced by this banking model, conventional banks might start to offer business loans under a profit-sharing model rather than an interest based model (perhaps some banks already do this, unbeknown to me). Islam aside, I’m sure there would be significant demand for this kind of banking model as it spreads risk rather than concentrating it all onto the entrepreneur.

Jesus Camp

I recently watched a chilling documentary called ‘Jesus Camp’, about a Christian youth camp run in the States, where young children are effectively brainwashed into becoming little GOP crusaders. The extent of the indoctrination was absolutely astonishing. There were scenes of masses of children crying their hearts out while being ‘touched by the Lord’ during mass prayers, scenes of children lying on the floor in convulsions after being taken over by the Holy Spirit, children being told of the evils of homosexuality and abortion, and, most chilling of all, large groups of children praying to a life-size model of George Bush. When interviewed, the leader of the camp cited the fact that the Muslim world was out-fanatisizing the US, so the US needs to catch up. You can watch the documentary here (part 1 ,part 2, part 3, part 4
part 5, part 6, part 7, part 8, part 9).

Home sweet home

I made it back to Australia in one piece and have just spent a relaxing week on the Gold Coast (picture below). Now I’m in Brisbane to catch up with my friends and attend my PhD graduation (although it’s been over a year since I submitted my PhD). I seem to have perfected the art of overcoming jet-lag, as I had virtually no down-time this time around, which I was very pleased with. I’m also particularly pleased that I saved $400 on my new MacBook by buying it duty free at Changi Airport in Singapore. After my graduation I’m heading back to my home town of Armidale, in northern New South Wales, to contemplate the next step.

San Francisco to vote on whether to rename sewage plant after Bush

From The Times Online:

San Francisco is to hold a vote on whether to rename one of its largest sewage treatment facilities after George W. Bush, in what supporters describe as “a fitting monument to the President’s work”.

Farewell physics

Starting next week I’m making a departure from physics, and academia as a whole. There are several reasons for my decision to depart, which I want to share, as I think the problems I have with the academic system don’t just pertain to me, but are very generic problems that affect many people in the academic community.

The academic system has some serious problems. Most notably in my opinion, there is very limited scope for promotion. For every permanent position there are countless postdocs competing for that position. It simply isn’t possible for all of us post-docs to progress right up through the ladder. Many of us will be stuck as postdocs for the indefinite future. Realistically, I could expect to spend the next 5 or even 10 years as a post-doc before a permanent position would come along, and even then I would have very little control over where I would end up. I’ve seen many outstanding colleagues in exactly this position. This is unlike the private sector, where in virtually any industry there is a well-defined roadmap for promotion, which can be achieved if you’re good enough.

There is a huge salary discrepancy between academia and the private sector. With the same qualifications one can earn twice as much in the private sector than as a post-doc.

So from a financial and career progression point of view, academia is not especially competitive. Of course, academia has lots of fantastic advantages, which is why so many people choose it, despite its shortcomings. Most notably, in the private sector you will almost never have the degree of intellectual independence that academia offers.

In recognition of these problems, I realize that academia probably doesn’t represent a sustainable long-term career path for me. So the question is when rather than if I will change career. If I am going to change career then it’s far better to attempt to do this while I’m young, rather than wait another 5 or 10 years, after which it would be much more difficult to switch into a new career.

What are people’s thoughts? How can the academic system be improved? How can these problems be remedied? Can academia be made more attractive to people in the early stages of their careers?

DJ Rohde album: The Road to Nowhere

I’ve just made available my first electronic music album, The Road to Nowhere, available on the free online music distributor Jamendo. You can get the album here. Enjoy.

Oil production

Today Kevin Rudd, Australia’s Prime Minister, called for the G8 nations to “apply a blowtorch to OPEC” to increase oil production. While I agree that we should apply diplomatic pressure to OPEC to up supply, I find this to be a bit of a contradiction, given that Rudd recently signed the Kyoto Protocol on Australia’s behalf and tries to present himself as someone who’s serious about reducing greenhouse gas emissions. You can’t have it both ways – if oil production increases, so too must greenhouse gas emissions.