The Greatest Thing Since Sliced Bread!

Posted by: Ian Angell

As a professor in a department that researches innovation, I am increasingly being asked about this hot topic. Rather than giving a bald ‘definition,’ let me talk around innovation, and that may hopefully clarify things.

Let’s get one misconception out of the way immediately: that creativity comes with the lone genius having a flash of inspiration, … the light-bulb moment! It’s a lot more complicated. Innovation isn’t a single event, rather it’s a continuous process. I’m with Thomas Edison: “genius is 1% inspiration, 99% perspiration.”

The creative process was mapped out in three stages by the nineteenth century German scientist, Herman Helmholtz as: Saturation, Incubation, and Illumination. French mathematician Poincaré added the extra notion of Verification.
Saturation: fill the mind with the problem – until the point where extra data won’t take you any further forward.
Incubation: Keep thinking - mental activity must continue, even subconsciously.
Illumination: The ‘light bulb’ comes on. This is not some single moment, but the result of a long drawn out process.
Verification: even then the idea must be checked empirically.

Numerous other authors have extended this list over the years:
First Insight ➔ Preparation ➔ Saturation ➔ Incubation ➔ Illumination ➔ Verification ➔ Evaluation ➔ Elaboration.
Here the original list of four has been topped and tailed with:
First Insight: a vague recognition
Preparation: collecting the necessary resources
Evaluation: is the result of any use/value?
Elaboration: taking it further; adjustment, expanding its utility.

Two further entries hover over the whole process:
Determination: keep going despite frustrations and set-backs.
Context & Timing: being in the right place at the right time, so that you can convince others to use your invention and that they begin to see it as “the greatest thing since sliced bread.”

And what is so great about sliced bread? The great invention shouldn’t be called sliced bread at all, but ‘pre-sliced’ bread. Whatever we choose to call it, its invention exhibits all the above features of innovation.

Otto Frederick Rohwedder, from Iowa, first filed a patent for a loaf-slicing machine in 1912 – he even sold his jewellery business to fund development. Kidney disease didn’t stop him, nor did his workshop burning down, destroying his tools and prototypes. Even so, the world’s first mechanically sliced bread didn’t go on sale until July 7, 1928 with the Kleen-Maid loaf. {For a much fuller description I recommend you read Frank Passic's essay Bread Slicer Inventor lived in Albion at www.albionmich.com/history/histor_notebook/040215.shtml}Rohwedder had met with resistance from bakers, who thought that sliced bread would quickly go stale. That argument faded when in 1928, the Continental Bakery of New York introduced Wonder Bread, an unsliced loaf with a waxed paper wrapper to conserve freshness.

But that wasn’t the whole story. The clincher turned out to be a particular electric toaster invented by Charles P. Strite, although his toaster wasn’t the first. That accolade seems to belong to a British firm: Crompton & Co in 1893. In the intervening years many more types were produced, among the most notable being the D-12 introduced by General Electric in 1909. {Toasters have an absolutely fascinating history, and I wholeheartedly recommend that anyone interested in innovation should visit http://www.toaster.org/, where they will get a dynamic and particular sense of how innovation progresses.}

During World War I, Strite worked in a factory where each day he saw toast being burnt in the cafeteria. The problem was people took their eye off the bread as it toasted. His solution was a toaster that did not require human attention: the Toastmaster! This was a spring-loaded, automatic, pop-up toaster with a variable timer. Sold to restaurants from 1919, it hit the retail shops in 1926.

Using Rohwedder's machine, pre-sliced Wonder Bread was in mass-production by 1930. Sliced bread in waxed paper wed to the Toastmaster was a marriage made in capitalist heaven. Its market penetration following the Wonder Bread advertising campaign is legendary. By 1933, 80% of all the bread sold in the United States was pre-sliced and wax wrapped.

Here we have a clear example of how no product of the creative mind comes into existence in a flash, or in a vacuum – it co-evolves with other artefacts. Every invention and creation stands on the shoulders of past giants; but it also needs the popular acceptance of other prior inventions, which together spark interest in the marketplace. However, if access to those inventions is restricted, then there will be no experimentation, no variation, no creativity.

Most innovations are applications/variations that spring from prior innovations, exactly as Herbert Kroemer, the 2000 Nobel Physics Laureate, explains in his Lemma of New Technology: “The principal applications of any sufficiently new and innovative technology always have been – and will continue to be – applications created by that technology.”

The same can be said of innovation in general. Innovations do not come from orthodox creators, but from users on the margins, who are free to experiment with radical ideas. What Kroemer is implying is that although a technological innovation occurs in a particular context, numerous people must run with that innovation to create a whole raft of derivative applications, which could not even be imagined by the original inventor. If that inventor restricts what can be done with his work, in effect banning derivative works, then he is limiting its potential, and cutting off all future revenue streams.

There is no knowing in advance what the really useful applications will be. There needs to be wide-scale experimentation – the more the merrier. Natural selection will bring the successful to the fore. According to Saul Godin, unless the idea of the innovation’s utility has captured the imagination of the market, unless the idea has spread, then there is no selection – natural or otherwise – and so nothing happens. Over-charging for, or overprotection of intellectual property will ensure that the innovation stays in the wilderness.

Suppose that Crompton & Co. had been allowed to copyright the concept of an electric toaster in 1893 – then derivatives would have been blocked; Strite would not have created the pop-up toaster; and Rohwedder’s sliced bread would not have achieved the status of being “the greatest thing!”

Photo permissions, with thanks:
Otto Rohwedder: Frank Passic; http://www.albionmich.com/
Charles Strite and Toastmaster: Eric Norcross; http://www.toaster.org/

No Pearls in this Oyster

Posted by: Ian Angell

On Saturday
 12th July, between 5.30am and 9.30am, at least 60,000 passengers who swiped their Oyster Card, Transport for London’s pre-payment system, had them corrupted. 
To avoid rush hour chaos on Monday, bus and tube commuters travelled for free if 
their cards registered an error.

So the Oyster Card system failed. Surprise! Surprise! The only property that systems have in common is that THEY ALL FAIL … eventually. It’s not a question of if, but when. And the bigger the system, the greater the opportunity of failure.

I and colleagues at the LSE tried to warn government ministers about their national ID card scheme. All we got for our trouble was slander and abuse. Such offence is typical of those who subscribe to the “pixie dust” school of technology: computation is a magic substance to be sprinkled over problems, that, hey presto, vanish.

Systems are much more like a life form: they are entropic, they degrade over time. In the case of databases, they pick up errors, and then data error compounds data error. For instance the DVLA in Swansea admitted in 2006 that a third of entries contained at least one error, and that the proportion was getting worse.

It’s caused by the complexity in the interaction between computer installations and human activity systems. We've all had encounters with computers getting it wrong. For years the banks insisted that ‘ghost transactions’ with their ATM machines were frauds by cardholders, when they were in fact system errors.

Usually the minor day-to-day problems with a system are resolved by a sensible employee, rather than by the managers who administer the system. There's a duty of care for the company to take bus passengers home when they find themselves stranded in a remote spot because their card has unexpectedly run out for whatever reason - especially given that there is no display to show how much is left on their card when they "touch in" on a reader in the middle or at the rear of a bendy bus, or on the card itself. The fact that the cash fare is exorbitantly more than the Oyster fare, bullying any regular traveller into choosing the Oyster, reinforces the need for an on-card readout.

This does raise the question of whether there are other problems with the Oyster Card, but on a much smaller scale. TFL couldn’t deny this weekend’s shambles, but can we be absolutely sure that no previous case of fare dodging was a system failure?

It's the US$ stupid! [Part 1: The Super-shear]

Posted by: Ash Khanna

The recently revealed troubles of the 'BIG DADDIES' of the US mortgage system (Freddie Mac & Fannie Mae) and the subsequent support initiated by both the US Treasury & Fed can threaten the stability of global commerce!

Don’t believe me? Then look at the evidence:

In an extra-ordinary set of actions the US Treasury & Fed worked out a mechanism, over a weekend. Further, Henry M. Paulson, Jr., announced the ‘bail-out’ package on a Sunday to try and prevent further erosion of the market-value, of these over leveraged institutions, before equity markets opened for business on Monday the 14th of July.

On the 15th of July, 2008, for the first time in US history both the Chairman of the US Federal Reserve and the US Treasury Secretary are called by the US Senate House Select Committee on Banking to explain the state of affairs under their executive charge. Further, their boss the ‘chief’ executive, the US President is, in parallel, addressing the press, to infuse confidence into the ‘system’ on their “psychological” assessment of the US economy. There is more, all the ‘global’ news channels were covering this ‘choreography’, live! This is an unprecedented event, three most powerful men in the world, desperately selling to the world - “We are doing ‘exactly what we did and has been done by our predecessors,’ so calm down, PLEASE” – in unison!

The ‘ailment’ is VERY serious!

[Action(s) plan by US Fed & Fisc]
- The US Fed opens the discount window to mitigate liquidity risk.
- The US Treasury pumps in capital ($15 billion(+) each) in exchange for equity to shore up the Capital Adequacy, of these ‘”share-holder” (!?!) owned institutions
- The Treasury lines up $300 billion(+) of ‘available’ credit to mitigate ‘solvency’ risk!
- Still further, the Treasury creates a ‘temporary’ regulatory institution to further guarantee (government protection/‘stamp’) quality of collateral – in effect any paper emerging from these institutions will be like government bonds!

[Effect]
-US M3 money supply increases, further…..
-US fiscal deficit increases, further….
-Dollar slides further...
-Oil and commodities experience the 'predicted' "super-spike", as they tactically become the value investments…..
-“Inflation” soars, further…..
(If I was an oil or commodities trader, I'd be laughing my way to the bank!)
Doesn’t all this sound familiar? US sub-prime crisis, bail-out, and effect!

BUT the real story is going to be about those investment banks that are 'lucky' enough to still have an operational mortgage trading desk:

[Effect continued…..]
-The US Treasury is going to 'stamp' the mortgages held by Freedie Mac & Fannie Mae, hence making them tradable paper, again (the ‘perception of risk’ is in effect lowered)
-Structuring / collateralizing back in - like a tidal surge [any % of $5.3 trillion is massive volumes!]
-These new avatars of CMOs will HAVE TO BE SOLD at HUGE DISCOUNTS to maintain 'cash-flow' of Freddie Mac & Fannie Mae for them to try and stay above water and their executives to still have a job and decent bonuses ;-)!
(The mortgage securities traders are in for a windfall!)

The US Mortgage market is, still, the largest capital market in the world, by far! In effect it is the largest engine of credit production for the world. So the resultant effect of the ‘bail-out’ package(s) will be to add fuel to the US$-credit engine!

Another bail-out cycle, in less than 4 months! The scary bit is that relative to Fannie Mae & Freddie Mac, Bear & Sterns seems so long ago and so insignificant in size. Further, IndyMac Bank’s collapse (the third largest financial disaster in the US) has gotten relegated to a footnote so quickly!

The frequency of these crises is increasing and the size of potential destruction is increasing exponentially – predicted as early as 2002 in the documentary “Commanding Heights” based on a book by Daniel Yergin and Joseph Stanislaw. [ http://www.pbs.org/wgbh/commandingheights/ ]

I acknowledge that the troubles of Freddie Mac & Fannie Mae are only served as ‘circumstantial evidence’ of the under-water ‘super-shear’ that the global economic system is undergoing. But it should provoke policy planners and executives to have the courage to be bold and encourage fresh thinking. They have repeated past-practice too often and for far too long.

The starting point like I have said in my previous blog-post is not purely economic; the starting point is of a political nature:

Does a value reserve system, which permits the monopolistic position of the US$, serve the needs of an increasingly globalizing and inter-dependant economic environment that we are already witnessing at the start of the 21st century?
How do we introduce competition in the value reserve system?

The biggest immediate threat to global commerce is the collapse of the US$, the only truly international value reserve currency.

Do we have a “Plan B”?

(To be continued…..)

Updating 'the New Barbarian Manifesto'?

Posted by: Ian Angell

{I find it hard to believe that the New Barbarian Manifesto was first published as far back as January 2000 at the very start of this new millennium. Yes, I do know that the millennium officially began in 2001, so I don’t want pedants writing to tell me. Time flies, and Ash has been pestering me for a while to produce a new edition, and that has got me thinking about how I came to write the book in the first place.}

The Manifesto actually took me the best part of a decade to produce, although I had been chewing over the ideas for much longer. Subconsciously, it was the reason I chose to apply for the chair in Information Systems at LSE in the first place. By coming here, I was in effect leaving the world of academic Computer Science behind. I had realized that LSE was the only seat of British Higher Education where I would be given a free hand to develop my counter-cultural stance on how Information Technology was polarizing our society. Most Computer Science in the UK is about promoting the technology, not studying it warts and all.

I had come to agree with Karl Marx on a number of issues, including his recognition that all technologies alienate. {That self-realization came as quite a shock to an unabashed anarcho-capitalist like myself. Interestingly enough, Ash too quotes Marx throughout his PhD dissertation, and if anything he is more of a capitalist that me}. Societies are all alienated from technology, and by technology. Technology creates winners and losers, and this places enormous stresses on the social institutions of the status quo.

Each society, each community, each ‘ethnos,’ is the result of compromises made over the years between members of the group, which differentiates and separates it from other groups. I wanted to get to grips with how new technology was causing the fragmentation I was observing in our society, and how it seemed to be precipitating new communities. How does new technology destroy our institutions and rituals? Will we start to form new ones? What will they look like?

I wanted to ask these and many other questions, not from the perspective of a social scientist, but as a technocrat and technophile. However, I must disabuse you of any notion that I set out to focus on computers and telecommunications. My cyberspace is no off-planet experience. It is merely the delivery mechanism for information. The high-tech medium has only changed the form and scale of that delivery. To me, information content does not exist in some mystical dimension. Information is the same as it always has been, something reserved for the planet-bound human brain, to communicate between people within human society; still very much down to earth. What really interested me was how this new form of communication was creating new forms of community.

So the New Barbarian Manifesto was about the eternal struggle between the individual and the collective. It was not a work of science fiction or cyberpunk. It was not steeped in Star Wars, Star Trek, Neuromancer, Mad Max or Blade Runner. And even though the Times, the Guardian, and the Independent all called me the ‘Angell of Doom’, the book was not written as an example millenarian doom and gloom.

The ideas underpinning the book were not post-modern, not even modern. They were not twenty first century ideas, not even twentieth century. Some will have gathered that from the title of the book The New Barbarian Manifesto, which was inspired by that much maligned German philosopher Friedrich Nietzsche, whom I claim predicted, one hundred and twenty years, ago the rise of the Information Rich Knowledge workers, and the reaction of their fellows:

“But now there are coming New Barbarians {cynics, experimenters, conquerors}, a union of spiritual superiority with well-being and an excess of strength. … Prometheus was this kind of barbarian.”

The new barbarians of the book-title are the innovators who destroy the degenerate, and start a vigorous new society. But in doing so they must face up to Old Barbarians, who insist that society must return to the false-certainties of a mis-remembered past.

Although my major philosophical influence is Nietzsche, the underlying theme of the book is as old as humanity, a mythology that was written down over two and a half thousand years ago. My archetypal New Barbarian is no Luke Skywalker, Mad Max, or Terminator, but, as Nietzsche tells us, Prometheus. Prometheus, the forethinker, the Titan master craftsman, who brought fire and civilization to humanity; the new barbarian who helped mankind survive and prosper. In Aeschylus’ play, Prometheus Bound, on the orders of Zeus, Prometheus is chained to a rock, and as a punishment for helping mankind, an eagle eats his immortal liver. Prometheus is the archetypal figure of defiance against tyrannical power.

In a world destabilised by new technology, wherever we look we see terrified masses, easy prey for re-vitalised Old Barbarians tyrannies: socialists, communists, fascists, racists, nationalists, religious fundamentalists, … democrats! What does the individualistic child of the Enlightenment do when confronted by bigots from the left, the right, and the centre? For a rabid fundamentalism has been let loose, from which there can be no indifference. Everywhere self-righteous totalitarian ‘pious commentators’ have “become virtuous from indignation” (Nietzsche) and set out to take control. To quote Herbert Marcuse: “Domination is transfigured into administration.” Everyone must be on message, or pay the price.

Homosexuals, immigrants, atheists, women are facing the not-so-subtle instruments of domination, repression, unfreedom, servitude. What must they do? The answer is as old as mythology: become New Barbarians. Hence the New Barbarian Manifesto.

The New Barbarian Manifesto is a reworking of the eternal conflict between innovative individual new barbarians (Prometheus) and the old barbarian leaders of the tyrannical collective (Zeus). I did consider calling the book Prometheus Unbound, but unfortunately the poet Shelley beat me to that title by a hundred and eighty years.

The book is badly in need of updating – the examples in it are now well over a decade old. I have proposed to my publishers that I turn the old edition into a Wiki, and make it freely available on the Web. I want to invite all and sundry to add in up-to-date examples. Naturally, correspondents would be named and credited for each new addition they make, with the final version published as a new edition. It’s a great model for book production, Many of those mentioned would buy a copy of the new version, and tell all their friends about it – creating a ready-made market. Furthermore, I don’t need to waste my time compiling an Index – the reader will already have the pdf online to download and search.

But the publishers don’t even reply to my e-mails - I am about to re-transmit my proposal to them yet again. Maybe this time they’ll reply, or are they so stuck in their old financial models that they doesn’t see the opportunities?

Money as a self-referential system

Posted by: Ian Angell
{Ash’s comments on the madness in money markets have spurred me to write on what I consider to the basic problem: the paradoxical nature of money}


We all know what money is don’t we? According to the famous economist, Professor J.K. Galbraith: “Money is nothing more or less than … what is commonly offered or received for the purchase of goods, services or other things.” Money circulates as a consensus, a statement of trust in the value that permeates such instruments of exchange. It even addresses the thorny question of what value is: money is the commodity whereby value is expressed as price. Bearers of monetary tokens believe the promise, that on demand, or even after a period of time, they may exchange amounts of that money for goods and services to the value specified, or for alternative promissory instruments to the same value.

But why do we accept these circular promises? Because money works! And why does it work? Because everybody else accepts money as having value! In fact the modern world couldn’t manage without it.

Surely money must be more than mere self-referential social convention? It is, after all, underpinned by the whole complex science of Economics. Or is that too just another social convention? For there is a sting in the tail of Galbraith’s comforting statement. The scientific/economic portrayal of money is not sufficient because of the failure of these descriptions to address that most human and private, irrational and perverse of issues, namely ‘value.’

Cynics, like my esteemed colleague Emeritus Professor Kenneth Minogue would no doubt say that money is raised by government for the sole purpose of paying for itself - a classic self-referential system. All of economics is just a side effect of this system operating. This raising of money is made possible by institutionalising ‘property.’ The commonly perceived notion of ‘personal property’ is of ‘things belonging to someone.’ However, for a long while this somewhat naïve view of property has been superseded by a far more pertinent definition: property is a government-sanctioned monopoly right over an enclosure, which is legally enforced through their courts.

Government, and government alone, claim the right to signify ownership – but at a price. They will bestow rights of ownership on those groups that generate the maximum revenue for the state – government will seize under-producing property and transfer it to those who promise productivity. Whatever the pretence, this has nothing to do with what is popularly understood to be the moral justification of property owning.

‘Ownership rights’, therefore, are rented from the state, to be paid for, which means some of these assets, or rather the government-guaranteed rights over the assets, must be made productive; namely turned into property, monetized, and subsequently rented or sold – either way, new debt is incurred somewhere in the economic system.

Government can seize these assets through the courts at any time, simply by passing laws claiming ownership for itself, before possibly transferring it to others - at a price. However, the government cannot behave arbitrarily, because excessive seizure will limit the willingness of individuals to turn their assets into property, undermining the viability of the whole system – a harsh lesson that is eventually learned by every socialist state.

When paying the required price, rendering “unto Caesar the things which are Caesar’s” (as recommended in Mathew 22:21), the normal assumption is that government money is being used, namely the notes and coins that the government prints and mints. But that would be wrong. Most of the money supply is actually created by the population itself, over and above the government float: that float being a mortgage on state-owned property and future taxation.

In England a £50 bank note states that the Bank of England promises to pay the bearer £50 on demand. When a customer goes into an English bank and demands £50, what is she given? Another note with the same promise – just a piece of paper. What an amazing alchemy, only in this case it is paper and not lead that is being transmuted into gold!

The real magic, however, lies elsewhere. The vast majority of money does not exist as the notes and coins of the government float, rather as imaginary numbers that the government-backed Fractional Reserve System allows to be written into a bank ledger. Every time a loan is taken out, the bank – which, by the way, doesn’t need to have all the money requested - simply magicks that money into existence. All it needs is the customer’s promise to repay, and it has government-backed threats to ensure that the customer does repay, and with interest. The state’s money supply depends on the total debt incurred when purchasing or renting various property rights within its jurisdiction, which is why they must guarantee that the majority of debtors repay their debts. This they achieve by intimidating debtors with the threat of legal action, and for which they rake off their cut in this extortion racket. The more assets that can be turned into property, the greater the debt, the greater the supply of money.

However, this must not be seen as some form of conspiracy between the banks and government – rather a paradox. It is a systemic consequence of the way that money operates: money is a promise to repay a debt, with money! The beauty of this self-referential system (that is both money and property) is that no one is in control; everyone involved is trapped, sleepwalking through an explosion of peculiar emergent economic and social effects. We are all stakeholders (to a greater or lesser extent) in money and property, and in this role most of us have a vested interest in keeping the system going. From this position, government may be seen as an emergent homeostatic sub-system, necessary for maintaining the continuity of the system.

The system itself is, however, in a permanent state of unstable equilibrium. If too many customers demand that their ledger entries are returned in cash, in the form of those pieces of paper, a ‘run’ on the bank will result, and the magic collapses. A bank can also collapse when too many people default on their loans. Both situations occurred in the winter of 2007/2008 when problems with US sub-prime mortgages triggered the financial woes of Northern Rock Building Society, Bear Stearns and many other institutions worldwide.

Only blind confidence (and not a little ignorance) keeps this whole self-referential anti-gravity cash machine from crashing to earth. The whole process stays aloft because of the time-lag between borrowing and repayment (in full, plus interest.) But repayment requires the creation of brand new money in that interim, in order to pay the interest over and above inflation. This must lead to an exponentially increasing demand for money, that itself needs an increased scale of indebtedness.

Unfortunately, there is a serpent in this economic Garden of Eden. The symbiosis between government, banks, and major ‘rentiers’ is not enough keep the show on the road – it needs a perpetual supply of new energy (new debt) to keep the implicit exponential growth going. The artificially closed economic system that cannot remain homeostatic indefinitely – exponential growth is unsustainable. The monetisation of real estate, raw materials, food, and labour (and its products) can only go so far. We cannot keep raising prices to generate more debt, because that debt has to be repaid. New assets have to be created within the human value system. It requires the input of new energy to avoid the decline into entropic death – hence the need both for creating new property, and re-enclosing unproductive old property, thereby reviving it.

There can never be enough old money around to fund the requisite exponential growth, even when inflation is taken into account, and so governments must always be on the lookout for discoverers, innovators and entrepreneurs that can facilitate the creation of new property (raw materials, inventions, customers etc.) in order to generate an infusion of new debt, and hence new money. If that new property is not forthcoming, then the whole self-referential system starts oscillating out of control. Does this situation sound familiar?

Information Asymmetry & Inflation: Have the inmates taken over the asylum, again!?! [Part 3: The "speculative pressure"]

Posted by: Ash Khanna

Part 3: The “speculative pressure”

On the 21st of May 2008:
Oil futures for 2016 were US$140.
Oil crossed US$132 in the spot market.

Over the last 2 to 3 years we have seen a huge increase in volatility due to moving more from a physical group of companies trading to a financial – based scenario. Further, according to Mr. Lie, a trader at Statoil – one of the largest exporters of oil: “If it’s a weak market we have to go out and sell it more actively, if it’s a strong market they come and buy it from us.” J P Morgan will begin physical trading in oil by the end of the year! From Goldman Sachs to J.P Morgan, investment banks are sharply increasing commodities and energy trading desks. In 2007, J P Morgan increased its desk by 50 and suggestions are of an equivalent increase this year. Financial Crisis?????

– Poker ;-)!!!!!

The convenience of commodity derivatives is responsible for the ongoing price rises. The ‘trader’ of these financial instruments is very distant from the physical product and hence the value chain of production – i.e. he’s a speculator. He does not want to receive (nor does he have) a tanker load of oil or a million bushels of wheat at his door-step when a derivative contract expires. Speculating involves transferring products from a point in time where the product is valued less to a point in time where it is valued more. But commodity derivatives are risk mitigating instruments - contracts.

“Value creation through the arbitrage across space and time of risk,” is a sophisticated economic concept meant for economists. It is not a market creating / sustaining communication (i.e. ‘sales-pitch’) - and will have limited (if any) market appeal. What markets need is a simple & compelling “story”.

On the other hand – “China & India will continue to grow at the current scorching rates at least for the next decade – 2.5 BILLION people are rapidly increasing their standard of living – they NEED MORE FOOD, MORE CONSTRUCTION, and MORE ENERGY.”

It is this well broadcasted (and accepted - I have to admit) story-line that is giving (the false sense of) the value to these (overpriced) commodity derivates - contracts. It’s more ‘hope’ than ‘value’ in my opinion – i.e. China & India will HAVE TO buy, eventually.

Pretty compelling stuff, but the “story” is incomplete!
What prices can they afford (are willing to buy at) in the short to medium term from this market, and how much? China & India are still regulated economies and essentials at reasonable prices for sustained growth and ‘sustenance’ are subject to government oversight & controls! [Enron’s Dhabol (India) – misadventure!]

Look at some recent (& well known) events:
China & India are aggressively pursuing bilateral trade agreements with major commodity and energy producers. India bans export of certain commodities. India bans futures trading of certain commodities. Thailand, wants to set up an OPEC like cartel for major rice exporters. Kazakhstan, a major wheat exporter, temporarily bans wheat exports.
The point I’m trying to make is that there is cognitive dissonance between the ‘sales-pitch’ and real demand.

The recent momentum in prices is because of big hedge funds and financial institutions, which makes the market move by % points rather that 30 – 40 cents like it was 3 or 4 years ago. These sudden big movements affect ‘trust’ – as traders can never be ‘off-duty’. Hence they are in high stress 24 hour jobs which makes market sentiment prone to extreme reactions. That means that minor news of fundamentals, such as the output of a single refinery, may be given too much weight.

Further, the recent humongous bail out, from the credit crisis, was not free of cost. These FIs have to not only get their books to ‘show’ healthy-profits, but pay central banks ‘interest’ for the liquidity which has been pumped into the financial system, and that to FAST! – Else they will lose the trust of their investors and confidence in the current financial system (their system) might be irrevocably damaged.

Till fall 2007 property prices were rising, globally, at unsustainable rates, now it is energy and commodity prices! The ‘activity’ has just shifted from the mortgage securities trading desks to the commodities and energy trading desks. Hence we are told Wall Street is near the end of its (recent) troubles (thanks to the recent bail-outs) but the long agony of Main Street has begun (i.e. sharp rises in energy and commodity prices). Till fall 2007 only home buyers were paying exorbitant prices now everyone has to pay a lot more for ‘essentials’. Especially the ‘unprotected’ consumer, for example: the Indian consumer is currently protected from the exorbitant rise in oil prices as compared to the US or UK. Well someone has to absorb the recent losses of the bankers and get them back to good health (i.e. billions of dollars in quarterly profits!) – Else there will be a “melt-down!”

Despite significant shrinkages in the mortgage markets (i.e. sub-prime write-offs – market correction), the infusion of liquidity by the central banks to kick-start the money markets, has (un-intentionally) managed to maintain excessive liquidity (created since the post 9/11 low interest rate era) in the financial system. Due to the lack of trust & confidence in the market (and because of fears of regulatory retaliation) most positions are being kept on the balance sheet, hence the money shows in the system. Further, due to the near freezing of the mortgage markets the liquidity available with the banks is being diverted towards the commodity and energy markets as safe value investments.

No body seems to have the answers or rather the right (responsibility) to solve the problem. The US Fed, ECB, BoE, BoJ or other central banks have the responsibility of controlling ‘aggregate’ inflation. An ‘independent’ central bank does not have the right to influence ‘asset price bubbles’. If ‘fisc’ intervenes (significantly – to affect some change) then it will be labeled as anti-market – “ANTI-BUSINESS!”

I’m sure the economists; technocrats (including some central bankers) are beginning to realize that they have been made suckers of. Hence recent out-bursts like those from: Horst Kohler, the former head of the IMF and President of Germany, comparing bankers with alchemists who were responsible for “massive destruction of assets” and that the Global financial markets have become “a monster” that “must be put back in its place”; Or the suggestion of the Jean Claude Trichet, the President of the ECB, on the 20th of May, 2008, that we are still in the ‘middle’ of the financial crisis.

To get to grips with this seemingly vicious circle of events we need to get back to basics:
· Price rise is caused by inflation not the other way around i.e. monetary inflation causes price inflation.
· The risks (limitations, abuse) associated with the monopolistic position of the US dollar as the international reserve currency. There has to be healthy competition for value reserves in this era of rapid globalization – Else the global economy will remain at the mercy of the mistakes and excesses of the few. [ I would recommend that you read Ian’s posting on the “Future of Money” http://ianangell.blogspot.com/2008/04/future-of-money.html ]

Here is the other, significant, bit of information that is not available, reliably – relevant ‘monetary inflation’ figures – and more specifically, the US M3 money supply. (http://en.wikipedia.org/wiki/Money_supply )

Some private analysts claim that the year–on–year M3 money supply is currently more than 16% (e.g. http://www.shadowstats.com/alternate_data - and some claim it is as high as 20% http://www.nowandfutures.com/key_stats.html ). [If these figures are right inflation data, globally, grossly understates actual inflation – i.e. the rate of price rise.]

The authoritative source i.e. the US Federal Reserve stopped publishing the M3 money supply figures in March 2006!

The current inflation is not the about the China & India ‘story’. It is actually about the limitations & abuses (risks) to the world economy of a single value reserve (i.e. currency – USD) in a rapidly globalizing world.

The solution is not economic to begin with; it is about ‘soft-power’ and ‘the will to power’. Do Japan (a deeper and diversified engagement, more than just carry-trade), the Euro-zone countries China, India, Brazil, Mexico, Singapore, the (currently under negotiation) Gulf Common Currency countries have the capability and capacity to compete with the United States of America and the most successful product ever created, the US$?

Part 1: http://ianangell.blogspot.com/2008/05/information-asymmetry-inflation-have.html

Part 2: http://ianangell.blogspot.com/2008/05/information-asymmetry-inflation-have_20.html

The joke of non-linear supply and demand

Posted by: Ian Angell
{Ash's latest posting has prompted me to write this piece}

“You can take a horse to water, but you can’t make it drink. The trick is not making the horse drink, but making it thirsty.”

“Business isn’t selling something you have to someone who needs it, but something you don’t have, to someone who doesn’t need it.”

The old jokes are always the best, and nowadays the joke is on anyone who enters a commodity market wanting to buy something, rather than just using it as a place to park/gamble money in futures options. And who are the suckers who actually want to buy? Everyone who needs food to eat, fuel for energy, raw materials for production. Phinaes T. Barnum put his finger right on it: “there’s one born every minute.”

With all the uncertainty in the banks worldwide, where do the ‘jokers’ place their money to take advantage of the ‘suckers’? Into the markets for commodities, which have become a Barnum and Bailey Circus.

The jokers believe they can use the demand/supply curves so beloved of economists to advantage, but they miss the point, and their jokes rebound. These jokers either demand but don’t want the commodities, or supply but don’t have the ‘goods.’ What they don’t realise is that their preconceptions of these curves actually feed back and affect the underlying data, and consequently negate the curves themselves by triggering an ‘uncertainty principle.’ In the linear world of theory, the consequences of an action stop with a reaction; in the non-linear world of practice who knows what havoc the feedback will cause?

Pointing mathematical instruments at the market complexity in the practical world of ‘non-linear supply and demand’ can only create instability, because the only certainty is uncertainty.

There’s no point in measuring something that will change the moment it is measured, and because it is being measured - like the nonsense of British healthcare targets: surgeons push dying patients out of the operating theatre into the corridor, so that ‘death in surgery’ figures are kept low.

In conditions like today’s commodity markets, the jokers are setting off a non-linear positive feedback sequence, triggering a chain of events within a system that affects their analysis, something the jokers themselves don’t appreciate. The meaning created when they interpret the supply and demand through their own personal filters, is invalidated by the very act of interpreting.

The systemic nature of this situation is often neglected due to the fact that the smug jokers are using the curves to second-guess meaning in the minds of others. When those ‘others’ also contain large numbers of jokers, all confident that they can take advantage of their superior(!) economic (and hence linear) knowledge, then the joke is on them. They are all thinking the same way, and this multiply-reinforcing subjective interpretation will always totally distort the objective world of data.

Goodhart’s Law comes into play. Charles Goodhart, a distinguished LSE Professor, famously noted: “any observed statistical regularity will tend to collapse once pressure is placed on it for control purposes”.

Thus the jokers too have become suckers. Welcome to the cosmic joke that is non-linear supply and demand.