Private Equity and Creative Destruction

Private Equity and Creative Destruction
by David P. Goldman

Any investment firm operating over decades of rapid employment growth will be able to show that the companies it bought added jobs over time. That’s what the academic studies on private equity show in any event, as Jordan Weissmann reports at The Atlantic. More relevant is the alternative. We’ve been there, done that, and don’t want to do it again. Corporate America in the 1950s and 1960s coasted on the postwar monopoly enjoyed by American companies after the destruction of European and Japanese industries. Detroit in the late 1960s had African-American neighborhoods stretching for miles with well-kept single-family homes and manicured lawns; by the end of the 1970s it had turned into a moonscape. The rust belt still hasn’t recovered from the laziness of American capital a generation ago.

Perry and Gingrich need to stop attacking Mitt Romney from the left and start attacking him from the right. There’s certainly plenty of fodder for the horses there.

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Does It Work?

What’s the first question you ask about a new product after it has been described to you?

No fair cheating and looking at the title of this post.

If you’re like me and most of the people I know, we ask “OK…does that work?”

That’s question number one, as soon as we know what the thing is purported to do and how it does it.

There is a hierarchy of questions to ask before we invest in a product or service…it goes something like:

  • What is it? / What does it do?
  • How is it supposed to work? / Does it seem like a good idea?
  • Does it work in practice?
  • How much does it cost and what is the benefit? / What is the benefit worth to us?
  • Are there any other alternatives that might fill the same need and do so at less cost?
  • Can we afford the cost?

Everyone gets this concept.  Well…most of us do, at any rate.  We all interrogate infomercials in our heads, we all question the validity of claims made by salespeople, we all comparison shop and read customer reviews before we buy something or pay for a service.  Or at least we try to do it as much as possible – let the buyer beware and make good choices based on the available data.

I bring all of this up because I was outlining the recent Tea Party budget proposal to friends of mine and they had a knee-jerk reaction to it that I think is both rational (yes…it has a firm grounding in common sense as we in America now understand our world) and completely wrong.  When I mentioned that the Tea Party wanted to abolish the Departments of Housing and Urban Development, Energy, Education, and Homeland Security, as well as privatizing things like the EPA, TSA, IRS and USPS…they immediately said things like “whoa…why would you want to cut the department of education?  Don’t we need that?  Do they just not care about public education quality?”

This is an understandable reaction.  We all want good education and are willing to pay to help fund it (for the most part) – but this reaction is skipping the appropriate hierarchy of questions to be asking about a product or service before we, as a nation, buy it.

So I dared pose the question.  My friends were predictably baffled.  What does the (federal) department of education do that should pay for?  How does it foster better education in theory and does the theory actually work?  I don’t think there are more than perhaps 10,000 people in the entire country who know EXACTLY what the department of education does.  I am quite certain that some of the things that Education bureaucracy bigwigs do has a positive impact, but when was the last time the government was asked to clarify what their department actually does and make us understand why it is vital to pay for it?

Do you know why we don’t ask these questions?  Because taxes are not elective.  If we could choose how our tax dollars were spent, it would be incumbent upon us to do the research and conclude that we like the services being provided.  Instead, we are paying for all of it.  And there’s no way that most of us (myself included) can possibly do the research and know what services are out there that we would like to see continue.  The government was too big even in 1880 for us to keep up with all of that, let alone 2012.

What would happen if government departments had to compete for our funding and demonstrate well enough to convince some of us to be their sponsors that they were producing quality work that we wanted to buy?  What if our tax rates didn’t change one iota – what if we all had to pay exactly what we do now…but we got to CHOOSE what departments our money went to?  To be sure, there would be those who spent unwisely and supported things that didn’t deserve to be supported.  You’d have departments of Flower Cross-Breeding studies and departments of video game violence and other inane things…but how much money would those departments get?  Exactly how much Americans were willing to pay.  What if we let the market decide how our government operated (outside of those functions specifically appointed to the Federal Gov’t by the Constitution – defense, census, etc)?

I think several things would happen within a few years.

  • Government spending on special interest projects like the National Endowment for the Arts, Public Broadcasting, Farm Assistance, Energy Speculation, Green Energy, etc would become boutiques, not sprawling bureaucracies with minimal oversight or accountability.  The NEA would continue insomuch as passionate lovers of the arts funded it directly.
  • Certain spending types would prosper in most seasons – infrastructure (backed by union support and general public interest in good roads, power grids, airports, etc), scientific progress (yes…I think most Americans want to see us continue to lead in scientific discovery), state grants for education, medicaid and medicare…the big things that even hard-line conservatives think we need to work hard to salvage despite our debt today…those things would also have plenty of funding…in fact I bet they’d do better than they do today.
  • Interest in the major issues making the headlines would EXPLODE.  (this is where this idea is precarious – the media would have even more power to persuade us and change the shape of the country politically)
  • People would suddenly be willing to pay taxes!  Even poorer families might accept currently untenable proposals that they pay some small pittance to help the country get out of debt.  It would be hard, but most poor families aren’t heartless and do give to charity when they can.  And if you get to decide what things you’re paying for…which services you think deserve your tax dollars…well now, might not that make you more interested in having a stake in that game?
This has possible setbacks.  I mentioned one (the liberal media)…another would be the fad mentality that often grips our culture.  Especially with social media pushing memes at the speed of a T3 or a Fiber Optic cable, there is the risk that around tax collection time, huge “causes of the moment” could gain more traction than they should if a convincing (and yet deceptive) campaign is launched.  There is also the risk that some services that we do actually need might get underfunded because the government isn’t doing a good enough job explaining why we need them.  And finally…a more democratic federal budget system requires that the majority of us are at least somewhat rational in deciding what is most important in our lives.  As we’ve seen with Global Warming…er…cooling…er…warming…er…climate change, yes…climate change…that isn’t always the case.
Perhaps there are ways to give us options without opening the entire budgetary process to tax-based referendum, but I would sure like to see something like that in the future.  Let me choose not to fund planned parenthood or farm subsidies or (insert many other wastes of money) and focus my taxes on the NSF and transportation and energy initiatives and a dozen other things I actually DO want…and let progressive spend their money on the fruitiest crap they can think of…and when it’s all said and done…we’ll see how liberal we remain.

A Meteorological Example of the Superiority of the Private Sector

This isn’t going to be a long post…but I thought it worth comment that the United States is not the superior force in numerical weather prediction or in the operational forecasting process…or in the provision of archived model data…or in the administration of climatic data…or in the development of upper air measuring devices (ours used to be good…then they were “improved” and are now shit)…or…well…anything reelated to atmospheric science.

How the hell did THAT happen?  The US is supposedly an exceptional nation…we were, at one time at the height of the world in understanding the atmosphere.  We were the first nation to have a weather bureau, the first nation to send weather information by wire, the first nation to develop a numerical weather prediction model, the first nation to forecast the weather beyond day two, the first nation to launch weather satellites and monitor hurricanes that way…the nation that invented weather radar, the rawinsounde, and the blinkin’ sling sychrometer.  The first nation to understand sewvere thunderstorms and even tornadogenesis.  The first to have tornado sirens and severe thunderstorm warnings and weather radio.  The first to link the emergency broadcast system to weather information.  The first at EVERYTHING until fairly recently (about 20 years ago).

So…why aren’t we at the top anymore?  Why is the European Center for Medium Range Weather Forecasting a superior weather outlet?  Why does there model have 50% more vertical levels, twice the spatial resolution, twice the ensemble members and 10-20% more forecast skill?  Why are they the ones teaching US how to keep climate records?  Why are our upper air soundings frought with HUGE glitches in relative humidity and wind direction while they’re still producing outstanding upper air data?  Here it is in four words.  They’re a private company.

The NWS and all of the various weather-related NOAA branches aren’t doing a bad job…they are good scientists doing the best that they can.  But government is less efficient than business…and the European Center is a business.  They sell their model data to private corporations for a very large price…and people pay it!  They sell their model data to the NWS…and we pay an even HIGHER price.  They sell their data and we give it away for free and hey…here’s a shock…they can afford giant supercomputers that make our NCEP machine look like a child’s calculator.  They have better data assimilation schemes (that’s the process by which all of the observations we get are merged into our best guess at what the entire atmosphere is doing at the start of a model cycle), better model physics, and better ensembles.  All because they can buy a better computer.

Don’t let the left fool you…government-run weather services aren’t a God-given right…they’re not even a good idea.  Unlike some, I will not argue that the NWS needs to be replaced or disbanded.  I think the government DOES have a place in weather prediction…but they shouldn’t have a monopoly on the production of forecast models, or weather data, or of forecasts.  If I had my druthers, the NWS and other weather brancehs would have one job…save lives and property with timely warnings and watches and make some good, basic forecasts accessible to everyone.  Let the private sector do your innovating.  You’ll be amazed at what happens.

Occupy Wall Street: More Links

You Say You Want a Revolution
by Katherine Ernst @ City Journal

When life is exponentially easier for you than it was for most of the world throughout most of human history— right up until the mid-twentieth century—boredom creates a vacuum. To be a hero, you have to create your own dragon to slay. But fighting real oppression, the kind ayatollahs dispense daily? Too brutal, too gauche. Mastering the intricacies of credit-default swaps so as to articulate an effective reform of the broken financial system? Way too tough. Better to create a dragon that can only be slain with performance-art zombie metaphors.

Yes. ‘Tis sad that this protest has been hijacked by the idiot anti-capitalist left. Especially when its original mission actually had something of a point:

Apples and Oranges
by Nicole Gelinas (also of City Journal)

When Apple released a product that people rejected, such as the Apple III or the Lisa in the early eighties, the company suffered the consequences. Apple could not expect tens of billions of dollars from the U.S. Treasury or from the Federal Reserve to save it from its own mistakes. Apple was not too big to fail. Before the iPod, the company was struggling. Apple had to make itself too good to fail—and that’s exactly what it did.

Contrast the capitalist world in which Jobs lived with “capitalism,” as the U.S. government has applied it to the big banks against which the Zuccotti Park crowd is—imperfectly—protesting. If you’re a bank or an insurance firm, and you create a product that your investors and your regulators can’t understand in a crisis, you aren’t punished, as Apple was when it released products too complex for its customers. Instead, you get rewarded with bailout money. It’s hard to argue with the Zuccotti protesters’ manifesto on this point: “They have taken bailouts from taxpayers with impunity.”

In the past few years, surviving banks have “succeeded” not by giving people needed or wanted products, as Apple did, but through their ability to hold the entire global economy hostage… If this is capitalism, we should all be protesting it. The good news is that it’s not.

Indeed not. And that’s what we Tea Party sympathizers have been saying all along. There should be no such thing as “too big to fail.” No corporation or agribusiness should be given tax deductions, federal bailouts, or any other special favors — and that categorical rule should apply to Obama’s “green” and/or union-connected cronies as well as to the businesses that are often associated with the Republican establishment. If you don’t recognize that General Motors and Solyndra have also stolen money that could’ve been put to better use in the general American economy, then you are a rank partisan, not an intellectually honest critic of the “corporate-government complex.”

They Should Be Occupying K-Street

They Should Be Occupying K-Street
Jeff Carter @ the Business Insider

OWS protestors are highly critical of big corporations lobbying Congress and Washington DC regulatory agencies to tilt the playing field in big business favor. It sounds like they don’t appreciate the virtues of crony capitalism, otherwise known as “The Chicago Way”.

Well guess what?

Companies that are successful lobbying the Washington DC apparatus are simply playing off big government. To kill the effect of lobbying, skewer the beast and make government smaller.

Allowing companies to stay alive with government support also empowers big government. Allowing the capitalistic force of creative destruction is something the Tea Party is behind. What about Occupy Wall Street?

This!

The “Occupy Wall Street” protesters are directing their anger at the wrong target, something that I will discuss in further detail this weekend.

ETA: There’s also a good post over at Legal Insurrection regarding the OWS protesters.

The iPhone World or the Politics World: Which Do You Prefer?

A Jobs Agenda
by Kevin D. Williamson @ NRO

I was down at the Occupy Wall Street protest today, and never has the divide between the iPhone world and the politics world been so clear: I saw a bunch of people very well-served by their computers and telephones (very often Apple products) but undeniably shortchanged by our government-run cartel education system. And the tragedy for them — and for us — is that they will spend their energy trying to expand the sphere of the ineffective, hidebound, rent-seeking, unproductive political world, giving the Barney Franks and Tom DeLays an even stronger whip hand over the Steve Jobses and Henry Fords. And they — and we — will be poorer for it.

And to the kids camped out down on Wall Street: Look at the phone in your hand. Look at the rat-infested subway. Visit the Apple Store on Fifth Avenue, then visit a housing project in the South Bronx. Which world do you want to live in?

I’ll take the free market, Mr. Williamson.

Successful Businesses ALREADY Give Back

How Wilson Greatbatch “Gave Back”
by Andy Kessler @ the Wall Street Journal

Steve Jobs gets taken to task for his lack of visible charitable giving—”no hospital wing or an academic building with his name on it,” wrote the New York Times’s Andrew Ross Sorkin recently. Never mind how much more productive and wealthy we all are because of Apple. Jeez. The old “I already gave at the office” has never rung truer. And don’t get me wrong—I’m all for charity. I give, but those who collect it and spend it need to appreciate both where the money comes from in the first place and that they can never match the power of free enterprise to improve lives. Never.

Sorry, but the egg comes first. The welfare state doesn’t exist without productive businesses and workers to pay for it. Yes, we need bridge builders, park rangers and even a few postal workers, but our economic policies need to encourage wealth-creating productive industries, not crush them with the burden of an unproductive state.

Leftists believe, deep down, that the rich are all idle nobles and trust fund lay-abouts instead of astonishingly productive citizens who have made all our lives better through their hard work and ingenuity. But as Kessler notes in the article linked above, this is a ridiculous mindset that is essentially stuck in the feudal past.

Let It Burn

This post will not attain the lengthy status of some of my rants, but I thought it was a thought worth sharing for general interest as the election season heats up.

We hear a lot these days about the need for our government to mitigate the negative impacts of bad business practices on investors and consumers.  We’ve heard a great deal about cities like Detroit that would supposedly be brought to ruin if we didn’t come to the rescue of the big businesses that keep them alive.  Barely alive, though it may be.

But here’s a little story for you to ponder.

In the western United States, there are large swaths of forest in dry climates populated almost entirely by pine trees.  The forest floor is traditionally fed by debris from the trees above and consists of a number of organisms that actually fed on decaying matter from dead timber. In the mid-20th century, we began to perfect forest fire control procedures in the intermountain west (in the name of wildlife preservation, not to mention property protection). The state and national parks became manned with forest service employees whose job it was to look for fire just as it was beginning and douse it. Smoky the Bear began to tell everyone in the country that “Only You Can Prevent Forest Fires!” And fires did indeed drop substantially. And then a curious thing happened. The forests began to die.

You see, we tried very hard to prevent the death of the countless acres of forest that might be burned by the natural process of growth, drought and fire that has worked in the west for many eons and in so doing…we nearly killed the forest. Why? Natural systems that rely on the cycle of raw material require death and destruction to flourish and stay fresh. Critters eat burned out plant material after it begins to rot. It gets used to make homes for countless species. And the trees themselves can’t make new offspring until their pine cones are burst open by the heat of fire (an ingenious way of spreading pine seeds in the right proportion…too many and all the trees would choke each other out…too few and there’d be no replacements after tree death…but if new trees only grow when the old ones get torched…the forest stay in balance). We learned that sometimes, a forest has to burn. We even began doing routine controlled burns to keep everything fresh and prevent massive fires caused by the presence of too much fuel.

The economy isn’t so different. It, like the forest, is a natural cycle that depends on the constant refreshment of raw materials…from materials to products to money and waste and back again. The economy, like the forest, dies if businesses don’t get pruned or burned away…small businesses (and even large ones) live off of the decaying material of old, failing ones. Every time a big company hits chapter 11 or even chapter 7, a hole in the market canopy is made for someone else to fill that market demand and the materials on which that business flourished are still there to be used. They get sold to the highest bidder and the cycle begins again.

The reason this is less apparent now than it was 150 years ago is that government is in the way of the natural order of things. Take GM, for example. When the bailout was made in 2009, the argument was that if we let GM die, a whole region of the country would crumble and the hardship would destroy the economy and impact too many people. Beyond the tens of thousands that would lose their jobs at GM, there were the millions of people who depended on the economy boosting effects of a large multi-national corporation to survive. Detroit became wholesale dependent on General Motors to survive as a city for four reasons:

1) The company was allowed to get too big to be sustainable by constant Federal assistance (either i the form of direct bailouts or in tax breaks and subsidies – meaning too much of the economic canopy was blocked by GM.

2) Government assurances that GM was too big to fail allowed GM execs to crush competition with risky business practices that few other companies could get away with.

3) Oppressive government hyper-regulation of business (which always favors big labor and big business over small, competitive, mobile businesses) prevented new businesses from starting in Detroit.

4) National standards in corporate taxes (payroll taxes, capital gains taxes, etc) are not competitive with the global market place – GM could absorb the costs because they were too big to fail and the government had their back…but smaller businesses had to pull up and leave town for China.

With the help of government, the Detroit part of the forest became dominated by one ancient, gnarled, overgrown tree that gave nothing back to the forest floor…and all was death. The city collapsed as all of the capital in GM stayed in GM and it did nothing for the economy of Detroit. So what is a conservative to do now…GM is giant and if it dies, a bare, dry, resourceless forest floor will not produce more trees. Even if you want to make this argument, the reason it became like this was government intrusion on industry. But I think this argument fails too.

If GM collapses, its’ debters will take shares of its’ assets. Many tens of thousands of stockholders will have lost a lot of capital, no doubt, but the company’s hard assets (material goods, land, and personnel) will still exist. To recoup on some of the debt, other, more successful business owners will have the chance to bid on those hard assets. GM will receive new leadership, and, since there’s not much that can be done with a car factory but..um…make cars…there’s a good chance that the dead tree on the forest floor will become home to half a dozen saplings in the form of smaller car companies…or perhaps one smaller tree that leaves more room for competition from other trees on the perimeter of GM’s clearing. (I know I’m stretching the metaphor a tad, but bear with me).

It will hurt, in the short term, but it simply isn’t the case that the death of a large company results in the collapse of its’ entire market. History is littered with the collapses of huge companies. The market demand doesn’t go away just because the business does.

Of course, a free market doesn’t work in the international community because we are outcompeted by international markets that are neither free nor fair to their workers the way we are. Or so say leftists. I would argue that if we made our government less ambitious, the freedom to operate a successful business would be a far more powerful engine for true wealth creation than any slave labor they might get in China to cut costs. But it all begins with international tariffs and lower corporate taxes and far…FAR less government regulation and tax write-offs for powerful investors.

And then…when a business fails…we have got to let it burn. Take a tip from mother nature, granola-chewing hippy wussies…she’s trying to tell you something.

The Unbelievably Stupid Elizabeth Warren

If you can stomach it, follow this link and watch the video. This is what passes for “brilliant” progressive thought. Have your eyes rolled out of their sockets yet?

Folks, what Warren is doing here is burning a straw man. I am unaware of any strain of mainstream conservative or libertarian thought that does not acknowledge that wealth depends upon the existence of stable, taxpayer-supported social institutions. To my knowledge, no prominent right-wing public figure has ever denied, full stop, the obligation to pay taxes to fund the necessary functions of the government.

No — the basis of the disagreement between right and left centers on the definition of the word “necessary.” In my experience, a leftist defines “necessary” as “something I like.” She never considers the possibility that she can get her desired public good via the private sector. A conservative, on the other hand, recognizes that the government doesn’t have to have its hands in every damned pot.

Notice, too, the unspoken assumption beneath Warren’s claim that the rich depend upon things that “we” paid for. What, are the rich not part of that “we”? Evidently, Warren lives in a world where the sky is green and the grass is blue. As the AP established yesterday, the rich are already paying into the system — and, with only a few exceptions, they are doing so at higher rates. And by the way, not only do the rich dutifully pay their taxes like responsible citizens, but they are also very generous with their money in other ways. Hasn’t Warren ever heard of the Carnegie Foundation? Or the Ford Foundation? Look up any major charitable organization and you’ll find rich backers.

Moreover, the vast majority of the rich became rich because they figured out how to sell a product or service that other people wanted. Do you like your iPod? Your laptop? Your flat screen television? You have those things because rich people invested in their development. And while they were at it, they created millions of jobs for middle class Americans. For their monumental contribution to our society, the rich deserve to be rewarded, not punished. Yet Warren and her ilk seek to confiscate more property from the rich as if the rest of us have an equal claim to it. We don’t. We may be the rich man’s employees. We may provide the goods and services that help the rich man in his labors. But we did not take on the financial risk of starting the rich man’s company, and we were not the ones with the intellectual wherewithal to take our physical and human resources and funnel them into something useful. The rich man is rich because of his organizational genius — and yes, the fruits of that genius do belong to him.

Stupid Marxists.