By incompetence I don't simply mean bad decisions -- we've all made those. I mean bad decisions that would have been avoided by any reasonably intelligent person armed with the generally agreed conventional wisdom in the area.
One cannot demand entrepreneurial or political genius. Not all businessmen are Warren Buffett or Bill Gates, not all presidents are Franklin D. Roosevelt or Reagan. But with competence, one can expect mistakes will be those a reasonable person would have made, and that gratuitous disasters will be avoided. Too often, this is not true.
Enron, first, made several mistakes, some of which might have been made by competent management. Two that shouldn't have been, however, were their international over-diversification and their excessive product line extension, both of which violated the "core competencies" principle. Even more egregious was Enron management's establishment of separate companies that engaged in hedging transactions with Enron itself. Whatever the motivation for this, which may well be explored further in future legal proceedings, it violated one of the most basic business principles -- avoiding management conflicts of interest.
Unlike Enron, DaimlerChrysler is still with us, and is likely to survive even a fairly prolonged recession, no thanks to top management.
Daimler-Benz and DaimlerChrysler stockholders have been blessed with the finest franchise in the automotive field, Mercedes-Benz. But for almost 20 years, they have not been allowed to reap the rewards.
First the company's 1980s management diversified unsuccessfully into aircraft manufacturing, an entirely market-share driven business where Daimler-Benz was a never more than a small player. Then, having finally got rid of the aircraft operations at a huge loss, Schrempp not once but twice diluted the Mercedes franchise by buying into shaky second-tier automotive manufacturers, Chrysler and Mitsubishi.
Apart from the actual upfront costs and ongoing losses involved, these diversifications bring a serious risk of the Mercedes franchise being weakened, by association with weaker partners, either in manufacturing or in the dealer network. British readers can remember the fiasco that was British Leyland in the 1960s and 1970s and shudder.
Both these diversifications could have been avoided by ordinarily competent, cautious management, the sort that is supposed to be common in Germany. That Schrempp is still in charge, let alone lecturing the United States on world economic development, is a sad commentary on the failings of German corporate governance.
Incompetence is -- of course -- also rife in the political field. In Britain, for example, the entire political class knew in 1832 that a severe alteration in the centuries-old system of parliamentary representation would destroy Britain's constitution and weaken her irreparably. Lord John Russell ignored this, pushed through a Reform Act designed for short-term Whig political gain, and thereby ended Britain's brief period of world hegemony.
Later, all British foreign policy thinkers in 1900 were agreed that the country should avoid continental entanglements, relying instead on the "balance of power" to protect British interests. Lansdowne and Grey ignored this, entering into an alliance with France and Russia that played on the fears of the paranoid German Kaiser -- the result was World War I.
In the United States, it was a universally agreed truth in 1991 that one should not prosecute a war half-heartedly: "In war, there is no substitute for victory," Gen. Douglas Macarthur said. George H.W. Bush and Colin Powell, stopping the ground operation in the Gulf War after only four days, ignored this truth and thereby, it appears, laid the groundwork for the al Qaeda terrorist network.
But not all disasters, political or economic, can be laid down to sheer incompetence. The U.S. Civil War may or may not have been inevitable, but there is no obvious way in which mere competence could have avoided it. Likewise, World War II: If Chamberlain had done something different in 1938, war would have come anyway, but trying to stop Hitler earlier, in 1936 or before, would have required exceptional prescience.
In business, strict adherence to first principles would have prevented many of the losses from the dot-com bubble, but it is hard to expect such adherence when the economy and the stock market are rising inexorably year after year.
In current U.S. politics, the last three months, with their new dangers and circumstances, have brought a number of examples of incompetence that may indeed prove costly. The September airline bailout brought little long-term benefit to the airlines, which were in trouble anyway, but greatly increased the return on employing lobbyists -- rightly felt to be a political no-no. Similarly, the Republican House's provision in the stimulus package that abolishes the corporate minimum tax, retroactive 15 years, is nothing but a lobbyist-driven handout to big business, that will have no useful stimulative effect (because it does not depend on future actions) and is hence extremely bad policy.
On the Democrat side, the most potentially costly example of incompetence is Senate Majority leader Tom Daschle's recent discovery of agriculture subsidies. Not only do they impose costs on the poor to reward primarily large agribusiness, but if enacted, they are also likely to derail the very fragile Doha, Qatar, round of trade talks, thus increasing the probability of a Smoot-Hawley type protectionist spiral and a prolonged world depression. Daschle, if he persists, has the chance in a late run to take the title from Lay and Schrempp of "Most expensive incompetence of 2001."
Even if Daschle wins 2001's title, however, it is likely that the true winner in the costly incompetence stakes, for not one but two egregious avoidable errors, will remain in our lifetime Federal Reserve Chairman Alan Greenspan.
In December 1996, when the Dow Jones Industrial Index was at 6,400, Greenspan, displaying not exceptional prescience but simply an experienced trader's sound feeling for long-term price relationships, decried in a speech the market's "irrational exuberance."
An ordinarily competent Fed Chairman then would have tightened money supply sufficiently to check the market's exuberance and prevent a speculative bubble from growing. After all, it was previous Fed Chairman William McChesney Martin who said the job of a Fed chairman was to "take away the punchbowl just as the party gets going." Here, surely, was a party that was getting too boisterous, here then was a moment at which the Fed should have made the partygoers switch to lemonade.
Greenspan did not do this. The result was a stock market boom in which $97.4 billion was raised in Initial Public Offerings in 2000, almost all of which are now at heavy discounts if they trade at all and in which, 20 months after the peak and (by the Wilshire Index) 30 percent off it, the S&P 500 is still trading on 27 times current earnings, with earnings expected to decline in the next two quarters. The "wealth effect" of the stock market bubble led to hundreds of billions of dollars of misallocated capital, and trillions of dollars of unwise consumption, for all of which we will be paying for several years yet as the stock market staggers downward toward equilibrium levels.
Compounding his mistake, in 1998 Greenspan arranged the bail-out of Long Term Capital Management, an arrogant but marginal "hedge fund" that had run up $3.5 billion in losses through unwise trading. Again, an ordinarily competent Fed chairman would have seen that LTCM was a fly-by-night operation with no possible importance to the financial system except for its size. Its death might have been a loss for the major New York houses, but it would have provided a lesson against over-aggressive lending and reliance on "value-at-risk" models. If any of the New York banks got into difficulties, then what better time than the boom of 1998 to find a rescue buyer to bail them out?
Instead, Greenspan bailed out LTCM, and compounded his error by dropping short-term interest rates by 75 basis points (0.75 percent) at a time of rising inflation and galloping money supply. The result was the last, record-setting extravagances of the 1999-2000 dot-com bubble, almost all of it wasted money, all of which could have been avoided by a more sober policy.
I have postulated in past columns that when he became close to his current wife, liberal journalist Andrea Mitchell, Greenspan ceased to be the cautious, conservative steward of the nation's money supply, and has instead become a media-mad, bubble-friendly expansionist. Certainly in 2001, he has cut the Federal Funds rate 10 times, and seems likely to cut it an 11th, all without any useful effect in fighting the recession we are entering, beyond pushing up asset prices and delaying the much-needed onset of reality in both stock and housing markets. Style has, admittedly been omnipresent in the Greenspan Fed chairmanship but competence, in the last decade, hasn't.
It's difficult to see how the employment of incompetents at the top can be avoided. The main linking factor between the incompetents discussed would appear to be an outsize ego -- but then an inflated ego is also the hallmark of some of our greatest leaders (think Churchill, or indeed Gates.) It would, however make sense to ensure that the penalties for incompetence are increased to a level which might deter it -- the California attorney general's prescription for Enron Chairman Kenneth Lay during the state's energy crisis of "a night in the cells with a man called Spike" seems much more appropriate now than it did six months ago, when the comment was made.
Again, however, we must avoid penalizing simple, honest errors. Those could happen to anyone.
(The Bear's Lair is a weekly column which is intended to appear each Monday, an appropriately gloomy day of the week. Its rationale is that, in the last 10 years, the proportion of "sell" recommendations put out by Wall Street houses has declined from 9 percent of all research reports to 1 percent. Accordingly, investors have an excess of positive information and very little negative information. The column thus takes the ursine view of life and the market, in the hope that it may be usefully different from what investors see elsewhere.)
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