Episode #26 - Interview with Adam Davidson

On Friday, January 9, 2015, Ron and Ed interviewed Adam Davidson, a journalist focusing on business and economics issues for National Public Radio. He is currently one of the co-hosts of the Planet Money podcast. Previously he has covered globalization issues, the Asian tsunami, and the war in Iraq, for which he won the Daniel Schorr Journalism Prize. His work has won several major awards including the Peabody, DuPont-Columbia, and the George Polk Award. Adam came to our direct attention when he mentioned the VeraSage Institute in his New York Times Magazine article, Welcome to the Failure Age!We discussed that article along with another one he wrote for The Atlantic, Making It in America, which profiles Standard Motor Products.

He did an interview with economist Russ Roberts on this article as well.

Learn more about Adam at his Wikipedia page.

We had an interesting discussion on innovation, manufacturing jobs, the history of accounting, failure, business models, creative destruction, and the Stan Shih Smile Curve.

smile-curve

Adam also discussed a book he's working on, and hopefully he'll return when it's published.

Thank you, Adam, for a fascinating discussion!

Here is Adam's TEDtalk on What we learned from teetering on the fiscal cliff.

Episode #25 - Interview with Dr. Thomas Sowell

Ed and I were absolutely honored to interview Dr. Thomas Sowell, certainly one of the world's greatest living economists, on The Soul of Enterprise: Business in the Knowledge Economy. Dr. Sowell is currently Senior Fellow at the Hoover Institution, Stanford University. Sowell was born in North Carolina, but grew up in Harlem, New York. He dropped out of high school and served in the United States Marine Corps during the Korean War. He received a Bachelor's degree, graduating magna cum laude from Harvard University in 1958 and a Master's degree from Columbia University in 1959. In 1968, he earned his Doctorate in Economics from the University of Chicago.

Dr. Sowell has served on the faculties of several universities, including Cornell University and University of California, Los Angeles. He has also worked for think tanks such as the Urban Institute. Since 1980, he has worked at the Hoover Institution at Stanford University. He writes from a conservative and classical liberal perspective, advocating free market economics and has written more than thirty books. He is a National Humanities Medal winner.

The new edition of his international best seller on economics, Basic Economics – 5th Edition (Basic Books, December 2015), was the focal point of our discussion.

Basic Economics is the best single volume primer on economics ever written. There are no graphs or equations, and the writing is clear, uncomplicated, eye-opening, and cogent. Ron has recommended this book to hundreds of people, most have thanked him profusely.

We discussed Dr. Sowell's early years as a Marxist, his definition of an economy and economics, early baseball tryout, the notion of a "fair" price, the illogic of the "trade deficit," his views on immigration, Thomas Pikkety's book and income inequality, and why there are only "non-economic values."

We also asked Dr. Sowell during the break what he thought of President Obama's recent policy on easing restrictions on Cuba. He was adamantly against it, and hopefully he will be writing on this topic for his syndicated column.

It's difficult to suggest one of Thomas Sowell's books over another. Be sure to read Basic Economics, 5th Edition, but if you want to venture beyond that (and you will), we've listed Dr. Sowell's books below, though not all of them. He's written two on late-talking children as well, which I hear are excellent.

Ron's favorites are: Knowledge and Decisions; A Conflict of Visions; and Intellectuals and Race.

Other Resources

Dr. Sowell's Wikipedia page.

Fred Barnes interview with Dr. Sowell.

Article by Jay Nordlinger, of National Review, on Thomas Sowell.

Follow Dr. Sowell's syndicated newspaper column on Twitter @sowellcolumn

Books by Thomas Sowell (partial list)

Say’s Law: An Historical Analysis, 1972

Classical Economics Reconsidered, 1974

Knowledge and Decisions, 1980

Markets and Minorities, 1981

Ethnic America: A History, 1981

The Economics and Politics of Race, 1983

Civil Rights: Rhetoric or Reality, 1984

Marxism: Philosophy and Economics, 1985

Education: Assumptions Versus History, 1986

A Conflict of Visions: Ideological Origins of Political Struggles, 1987 

Compassion Versus Guilt and Other Essays, 1987

Preferential Policies: An International Perspective, 1990

Inside American Education: The Decline, the Deception, the Dogmas, 1993

Race and Culture: A World View (Part I of a trilogy), 1994

The Vision of the Anointed: Self-Congratulation as a Basis for Social Policy, 1995

Knowledge and Decisions, 1996 (1980 original)

Migrations and Cultures: A World View (Part II of a trilogy), 1996

Conquests and Cultures: An International History (Part III of a trilogy), 1998

The Quest for Cosmic Justice, 1999

A Personal Odyssey, 2000

Basic Economics: A Citizen’s Guide to the Economy, 2004

Applied Economics: Thinking Beyond Stage One, 2004

Black Rednecks and White Liberals, 2005

Every Wonder Why (collection of columns), 2006

A Conflict of Visions: Ideological Origins of Political Struggles, revised and expanded 2007

A Man of Letters, 2007

The Housing Boom and Bust, 2009

Intellectuals and Society, 2009

Applied Economics: Thinking Beyond Stage One, Revised and Enlarged Edition, 2009

Dismantling America (collection of columns), 2010

The Thomas Sowell Reader (collection of columns, essays, etc.), 2011

“Trickle Down” Theory and “Tax Cuts for the Rich,” (essay), 2012

Intellectuals and Race, 2013

Basic Economics: A Citizens Guide to the Economy, 5th Edition, 2015

Episode #24 - Interview with Jody Thompson, Co-Founder of CultureRx

We had the pleasure of interviewing Jody Thompson, the Co-Founder of CultureRx® and Co-Creator of the Results-Only Work Environment™ (ROWE™), along with Cali Ressler. CultureRx® is the sole global authority on ROWE™ and the sole executor of organizational and individual certification. Listen here to the interview with Jody Thompson

Thompson provides domestic and international keynote presentations on the 21st century workplace and has been featured on the covers of BusinessWeek, Workforce Management Magazine, HR Magazine, and HR Executive Magazine, as well as in the New York Times, TIME Magazine, USA Today, and on Good Morning America, CNBC, MSNBC and CNN. She has co-authored two best-sellling books on revolutionizing the workplace and the practice of management, Why Work Sucks and How to Fix It and Why Managing Sucks and How to Fix It.

Some Nuggets of Wisdom from Why Work Sucks

ROWE defined: Each person is free to do whatever they want, whenever they want, as long as the work gets done.

Sounds like college! It's Tivo @ work.

Work is something you do, not a place you go.

The solution is not flextime. Flexible schedule is an oxymoron.

Work-life balance: balance impossible under current system (employee defined, not employer defined).

Time management – like finding freedom in a prison.

ROWE as the Antidote to the Labor Theory of Value

Employees are paid for chunk of work, not chunk of time.

If I build a cot under my desk but I’m not performing, does that make me a good worker?

If an employee is not performing, more hours won’t matter.

Myth: Time + Physical presence = Results 

Strangely, we only do this at work: “Don’t look at a pile of laundry and think, I’d better make sure I’m putting enough hours into this.”

Presenteeism: Your body is in the building, but your mind is somewhere else.

Ask: “Is there anything you need?” This knocks out Presenteeism.

Sludge: Negative commentary that occurs naturally in a workplace and is based on outdated beliefs about time and work.

Common “How” questions (Appendix II: “Yeah, Buts”)

How are the results going to happen?

How do we know we’re achieving our goals?

How will we know that everyone is pulling their weight?

Answer: “How do you know now?”

True slackers don’t last in a ROWE.

Involuntary turnover (fired) goes up, voluntary turnover goes down.

Final thoughts

Ed and I believe that ROWE is the next wave for true knowledge organizations, as it is centered around results, a high level of trust, and providing autonomy to knowledge workers enabling them to thrive.

Keep up the great work Jody and Cali!

Episode #23 - Interview with Tim Williams

Ed and I were honored to be able to interview Tim Williams, Founder, Ignition Consulting Group, and VeraSage InstituteSenior Fellow. Tim is the author of two excellent books, Take a Stand for Your Brand: Building a Great Agency Brand from the Inside Out, and Positioning for Professionals: How Professional Knowledge Firms Can Differentiate Their Way to Success.

Tim was the CEO of R&R Partners, the ad agency that did the “What happens in Las Vegas stays in Las Vegas” campaign.

Tim's book1

Take a Stand for Your Brand

Agencies need to do for themselves what they do for customers: build a strong, distinctive, memorable brand.

Standing for everything is just another way of standing for nothing.

You can measure our agency by the clients we don’t have.

Specialist vs. Generalist—traditional dept stores died, Home Depot, PetsMart, etc. The goal is to exclusive, not inclusive.

The essence of positioning/strategy is tradeoffs, and being clear about what you won’t do. Steve Jobs said he was most proud of what Apple didn’t do!

Tim's book2

Positioning for Professionals: How Professional Knowledge Firms Can Differentiate Their Way to Success, 2010

In business, imitation is not the most sincere form of flattery—it’s just lazy.

Positioning is the foundation of branding because it identifies what the brand stands for.

A brand can’t stand for two things at once.

Specialist vs. Generalist (we’d all fly to the Mayo clinic for a specialist, but not generalist). Of the two, which has:

1. The greatest earning power?

2. The largest geographical market area?

3. The fewest competitors

4. The greatest degree of respect from customer?

5. The most sophisticated customers?

Instead of being afraid of focus, you should be afraid of mediocrity!

Check out the humorous our late colleague, Paul O'Byrne shot in Australia on the difference between the generalist and specialist.

Service is a commodity. Smart thinking is not.

Size is not a strategy!

Nobody buys a product or service because it can do everything, but rather because it can do something. Diversity Tax: Coke vs. Pepsi

Stop focusing on reclaiming old territory and instead discover new territory: Columbus, not Napoleon

Successful brands able to position on spectrum: Love and Hate. Either side desirable; middle is death

Tim quotes Rush Limbaugh: “Moderates by definition have no principles.” Ron adds: There’s not big in the library, Great Moderates in History.

“The aim of marketing is to make selling superfluous”—Peter Drucker.

Defining Your Brand Boundaries

Calling

Customers

Competencies

Culture—The formal and informal standards by which your firm makes decisions about serving its customers

Knowledge Workers Are Volunteers

Psychologist Howard Gardner:

If you are not prepared to resign or be fired for what you believe in, you are not a worker, let alone a professional. You are a slave.

Be sure to subscribe to Tim’s Propulsion Blog. We recommend you read as much as you can of Tim, a brilliant thinker and marketing strategist.

Episode #20 - Interview with Rabbi Daniel Lapin

Ed and I were honored to interview Rabbi Daniel Lapin. Ron’s been a big fan of the Rabbi, listening to his radio show, and reading his books, for years. We only had the Rabbi on for about 30 minutes, but he has graciously agreed to return at some point. We then discussed his four books, listed below.

Biography

Rabbi Daniel Lapin, known world-wide as America's Rabbi, is a noted rabbinic scholar, best-selling author and host of the Rabbi Daniel Lapin Show on San Francisco’s KSFO. He is one of America’s most eloquent speakers and his ability to extract life principles from the Bible and transmit them in an entertaining manner has brought countless numbers of Jews and Christians closer to their respective faiths.   In 2007 Newsweek magazine included him in its list of America’s fifty most influential rabbis.

Before immigrating to the United States in 1973, Rabbi Daniel Lapin studied Torah, physics, economics and mathematics in Johannesburg, London and Jerusalem.  This seemingly unlikely combination forms the bedrock of his conviction that no conflict exists between the physical and spiritual, virtue and strength, or faith and wealth.  He quickly became persuaded that God continues to smile on the United States of America and he became a naturalized citizen on what he describes as the proudest day of his life.

Rabbi Daniel Lapin was the founding rabbi of Pacific Jewish Center, a now legendary Orthodox synagogue in Venice, California.  He implanted the community’s mission of demonstrating the relevance of traditional Faith to modern life.

Books

America’s Real War: An Orthodox Rabbi Insists that Judeo-Christian Values are Vital for Our Nation’s Survival (1999)

Buried Treasure: Secrets for Living from the Lord’s Language (2001)

Thou Shall Prosper: Ten Commandments for Making Money (2002)

Business Secrets from the Bible: Spiritual Success Strategies for Financial Abundance (2014)

Other Resources and Readings

 Ron’s review of Thou Shall Prosper

Rabbi Lapin’s website: www.youneedarabbi.com. Be sure to sign-up for Thought Tools, a free weekly email teaching, offering practical tips and insights to enhance your Family, Faith, and Financial life.

Rabbi Lapin on the Radio: Sundays from 7am-8am Pacific Standard Time, (10am-11am Eastern Standard Time) on the Internet. Go to http://www.W4CY.COM  The Call-In telephone number will be (561) 623-9429. You will also be able to join in by Skype and Chatroom

Episode #19 - How vs. What Matters

Ed and I discussed Peter Block’s seminal book, The Answer to How is Yes: Acting on What Matters. In my first discussion in May 2004 with Ed, he informed me he read two books in the prior year that changed his life: my first book [out of print], Professional’s Guide to Value Pricing, and Peter Block’s The Answer to How is Yes.

It is an absolutely profound work. I told Ed it’s the book I’ve always wanted to write.

SCA_Slides_pptx

The following are some snippets from the book, along with the six most common “how” questions, which questions Block says should be asked instead, and then how Ed’s tweaked two of Block’s questions based on his experience in change programs.

Book Snippets

• Epigraph: “Transformation comes more from pursuing profound questions than seeking practical answers.”

• We often avoid the question of whether something is worth doing by going to the question of “How do we do it?

• Give up saying “how” for six months!—give priority to aim over speed.

• Value what matters, not just what works.

• How implies we just lack the right tool, it becomes utilitarian and pragmatic.

• How questions deflect us from considering our deeper values.

• Also assumes we don’t know, a defense against taking action—we become the blind man looking in a dark room for a black cat that is not there.

Here are the six questions that postpone the future and keep us encased in our present way of thinking:

1. How do you do it? (Skips “Is this worth doing?”)

2. How long will it take? (Oversimplifies the world)

3. How much does it cost? (Ignores what price are we willing to pay?)

4. How do you get those people to change? (Ignores the fact that you can’t get others to change!)

5. How do we measure it? (If you can’t measure it, it does not exist. Things that matter most defy measurement [love, art, poetry, music, life]. Our obsession with measurement is really an expression of our doubt—we’ve lost faith in something. So much for imagination and creativity [how do we measure something new?])

6. How have other people done it successfully? (We want to be leaders without risk of invention and innovation)

The alternative to asking “How” is saying “Yes,” a stance towards the possibility of more meaningful change

Here are Peter Block’s alternative questions:

1. How do you do it? To What refusal have I been postponing?

2. How long will it take? To What commitment am I willing to make?

3. How much does it cost? To What is the price I am willing to pay?

4. How do you get those people to change? To What is my contribution to the problem I am concerned with?

5. How do we measure it? To What is the crossroad at which I find myself at this point in my life/work?

6. How are other people doing it successfully? To What do we want to create together?

Ed has changed two of Block’s questions: #3 to “What is the value of it to me?”

And also #5 to “What is the judgment I need to make?”

Some Final Thoughts from Peter Block

When we follow fashion and ask for steps, recipes, and certainty, we deny our freedom, for we are trapped by the very act of asking the question. Freedom asks us to invent our own steps. “to be the author of your own experience.”

Asking how is an escape from freedom/accountability. We wish to go to heaven and not die.

Knowing how to do something may give us confidence, but it does not give us our freedom. Freedom comes from commitment, not accomplishment.

The pursuit of certainty and predictability is our caution speaking. Freedom is the prize, safety is the prize, what is required is faith more than fact and will more than skill.

There is little discussion of faith in organizations, but it is only with faith that significant changes can begin.

Idealist is “one who follows their ideals, even to the point of impracticality.” The willingness to pursue our desires past the point of practicality (the heart wants what the heart wants).

Who decides what is possible and what is practical?

Idealism dissolves in a world of measurement and instant results.

Institutions are based on consistency and predictability, while intimacy relies on variation and surprise (people aren’t resources/assets).

Without willingness to go deeper, little chance for any authentic change. We prefer actions and answers.

What is absent in a world dominated by the engineer and economist is the artist. The artist needs to enter our institutional experience in order to create a space for idealism, intimacy, and depth.

One of the beauties of volunteer organizations is that they know how to take advantage of people’s gifts, whereas what he calls “systems” are more concerned with people’s limitations.

Demanding a solution, or an action plan for everything, is also arrogant. It’s a wish for perfection. It’s our wish to be God.

We keep going from fashion to fashion, consultant to consultant, looking for an answer that’s not there—like looking for the fountain of youth.

Not “scientific management.” Organizations never in control, the unpredictability and mystery of life.

We do walk by faith, not sight. Peter Block’s philosophical book reminds me of how George Gilder ended his classic book, Wealth and Poverty, by Quoting Reinhold Niebuhr:

Nothing worth doing is completed in one lifetime.

Therefore, we must be saved by hope.

Nothing true or beautiful makes complete sense in any context of history.

Therefore we must be saved by faith.

Nothing we do, no matter how virtuous, can be accomplished alone.

Therefore we are saved by love.

Other Resources

The text of the speech can be found here, including Q&A.

Episode #18 - Interview with Pricing Expert and Mentor, Dr. Reed K. Holden

Ed and I were honored to interview Dr. Reed K. Holden. Reed is a legend in the pricing profession, and has been a mentor to Ron ever since they first met at a Professional Pricing Society conference, back in 2000. Our discussion with Reed covered a variety of topics: Who were his mentors in pricing (Tom Nagle and Dan Nimer, author of Visionary Pricing); Fair vs. Just price; the market share myth; his mantra: innovate for growth, price for profit; how the Stan Shih Smile Curve impacts strategic pricing, will pricing become profession (Reed says it already is), and is he working on any new books. We also discussed his most recent books, Pricing with Confidence and Negotiating with Backbone.

Holden Advisors publishes a monthly newsletter, which you can subscribe to for free here. We highly recommend it for all business owners.

smile-curve

 About Reed Holden

ReedHolden_mgmt

Reed Holden, D.B.A., Founder & Coach  
Dr. Reed K. Holden (Concord, MA), Founder of Holden Advisors, is a world-class pricing expert who helps clients build go-to-market strategies to drive price leadership, selling backbone and profitable growth. Dr. Holden specializes in helping sales organizations avoid the Procurement Buzz SawSM by implementing value strategies to recognize and counter margin-reducing buying tactics. He is an enthusiastic and persuasive advocate for demonstrating customer value and price leadership with companies that need to adapt in highly competitive markets.

A dynamic and engaging presenter with over 20 years of experience, Dr. Holden is a regular speaker and keynote for executive and sales events for Fortune 1000 companies. He is engaged to facilitate negotiation, pricing and customer value workshops and coaches sales people and senior executives in companies that strive for price leadership.

 Additional resources

• Ed’s Review: Pricing with Confidence

• Ron’s Review: Pricing with Confidence

• How to disagree with your mentor.

• Reason TV's video on Fairness

Episode #17 - What Are You Worth?

When Larry Page and Sergey Brin were students at Stanford they developed technology that was designed to search Stanford University’s Web pages, which immediately became popular among the students and faculty. This was 1996, and everyone thought that Yahoo! was the dominant search engine, and there could never be another one. Larry and Sergey did not think their technological innovation was the basis for the company they wanted to start, so they put it on the market—at a price of approximately $1 million.

Fortunately for the rest of us, there were no takers. Had they found a buyer, Google probably never would have been born. It is an excellent example of how overpricing can have salutary effects.

Unfortunately, most professionals under price their intellectual capital. They justify this with a variety of excuses:

• We do not have enough quality customers.

• Customers view what we do as a commodity.

• Customers do not understand the value we provide.

• Our people do not understand their worth.

• When customers engage in hardball negotiation tactics, we capitulate.

• Our profession has too much capacity, which drives prices down.

Most of these are nothing but excuses to explain away a lack of purpose, strategy, marketing effectiveness, and poor customer selection. But I believe there is a deeper reason, which I truly did not understand until I began teaching value pricing to my colleagues.

Many participants of my courses have commented that they would “feel guilty” about charging a substantial multiple of their hourly rate. The epiphany for me was that this was not a strategic, or even a pricing competency issue, but rather a low self-esteem issue.

Low self-esteem (or self-respect) does go right to the heart of why professionals question the value of the service they provide. Do you truly believe the benchmark of your value is the hours you spend? What about the years of experience that stand behind that $1 million marketing idea that took 15-minutes to create? Is the value really one-quarter your hourly rate?

You Are Your First Sale

The lesson is vital, and it is this: Before you can charge a premium price, you first have to believe, internally, that you are worth it. If you do not think you are worth multiples of your hourly rate, your customers never will believe it either.

Have you ever dealt with a professional, such as a doctor or a consultant, who came highly recommended? When you learned of the price, did you try to negotiate it downward?

Most highly recommended professionals will not budge on their pricing, because they know they deserve it and are worth it. They are secure and confident in their worth, and they price above the market as a result. Obviously, not everyone can do this. But the ones who do all possess a common characteristic: high self-esteem.

Psychologist Nathaniel Branden has done extensive work on self-esteem. His treatise on the subject is The Six Pillars of Self-Esteem, wherein he defines it as:

1. Confidence in our ability to think, confidence in our ability to cope with the basic challenges of life; and

2. Confidence in our right to be successful and happy, the feeling of being worthy, deserving, entitled to assert our needs and wants, achieve our values, and enjoy the fruits of our efforts.

In his book Self-Esteem at Work, Branden discusses the critical role self-esteem has in the success of enterprise:

A simple example is the fact that analyses of business failure tell us that a common cause is executives’ fear of making decisions. What is fear of making decisions but lack of confidence in one’s mind and judgment? In other words, a problem of self-esteem."

Branden says “Self-esteem is the reputation we acquire with ourselves.” That is profound. Professionals are deeply concerned, and rightfully so, with their reputations: They care what their customers think of them, of their firm, of their integrity. But what about their reputation with themselves? Most professionals were never taught even to ask the question. According to Branden:

If low self-esteem correlates with resistance to change and clinging to the known and familiar then never in the history of the world has low self-esteem been as economically disadvantageous as it is today. If high self-esteem correlates with comfort in managing change and in letting go of yesterday’s attachments, then high self-esteem confers a competitive edge."

There is no Standard Price for Intellectual Capital

In today’s world, intellectual capital is the chief source of all wealth. Shelly Lazarus, former chairman and CEO, Ogilvy & Mather Worldwide, explained what advertising agencies are really selling:

Advertising is an idea business: That’s all we are. And ideas don’t come from the air, they come from human beings.”

According to the New York Times, Merv Griffin (and his estate) has made between to $70-80 million in royalties from the “Jeopardy!” theme song, which he wrote in less than one minute.

In 1935, Edgar Kaufman, the German-American businessman and philanthropist who owned Kaufmann’s department store, asked Frank Lloyd Wright to design a small summer home for him near Mill Run (75 miles southeast of Pittsburgh).

Wright surveyed the site but procrastinated on the design. When Kaufman telephoned him one day saying he was nearby and would like to stop by to see the design, Wright replied, “Come on Edgar, we’re ready.”

Two of Wright’s draftsmen who heard the call could not believe it, since no one had drawn a single line. Draftsmen Edgar Tafel explains what happened next in his book about Wright:

Wright hung up the phone, walked to the drafting room and started to draw, talking in a calm voice. ‘They will have tea on the balcony…they’ll cross the bridge to walk into the woods,’ Wright said. Pencils were used up as fast as we could sharpen them. He erased, overdrew, modified, flipping sheets back and forth. Then he titled it across the bottom: Fallingwater.

Two hours later, when Kaufmann arrived, Wright greeted him and showed him the front elevation. ‘We’ve been waiting for you,’ Wright said.

They went to lunch, and we drew up the other two elevations. When they came back, Wright showed Kaufmann the added elevations.

This is why intellectual capital, expertise, wisdom, judgment, ability to synthesize information, along with all the other characteristics of knowledge work, cannot be denominated in hours, efforts and costs to produce.

Napoleon Hill wrote in Think and Grow Rich:

There is no standard price on ideas. The creator of ideas makes his own price, and, if he is smart, gets it.

Do not feel guilty or ashamed of your success, and do not let low self-esteem interfere with being paid what your worth.

Other references:

Paul Potts Video

Emotional Intelligence by Daniel Goleman

Working with Emotional Intelligence by Daniel Goleman

Simon Sinek - Start with Why

Episode #16 - Interview with Father Robert Sirico

“We have no right to judge the rich. For our part, what we desire is not a class struggle but a class encounter, in which the rich save the poor and the poor save the rich.” -Mother Teresa

Father Robert Sirico is the president and co-founder of the Acton Institute and the pastor of Sacred Heart of Jesus Parish, both in Grand Rapids, MI.

During the first 15 minutes, Father did more to help articulate why Ron and I named our show The Soul of Enterprise than any of our previous attempts. For that, we are in his debt.

As promised here are some links to his work:

First, his terrific book Defending the Free Market: A moral case for a free economy.

Second, a more detailed version of the story he opened the show with.

Third, a link to one of the articles about Cardinal Rodriquez for which Father provided some insight (and Ed some therapy).

Fourth, links to the two papal encyclicals we discussed Rerum Novarumand Centesimal Annus, and the apostolic exhortation Evangelii Gaudium. All three are well worth reading no matter what your religious background.

Fifth, as mentioned Father's brother is Tony Sirico who starred as Paulie "Walnuts" in the Sopranos, but in my and the good priest's opinion, our favorite work of his is the Bensonhurst Spelling Bee.

Sixth, a link to the outstanding documentary from the Acton Institute, The Call of the Entrepreneur, the movie that introduced both Ron and myself to Father Sirico.

Seventh, a recent interview with Jimmy Lai about the pro democracy student protests in Hong Kong. As Father mentions, keep him and all of these folks in your thoughts and prayers.

Eighth, the trailer to the new Acton Institute documentary, Poverty Inc.

Ninth, a link to Ed's confession. Just kidding!

Episode #14 - Top Ten Business Myths - Part 2

♒ Read Full Transcript

On Friday the October 3, 2014 Show

Top Ten Business Myths, Part 2 (Myths 5-1). This episode is dedicated to the possibility that many myths exist about business and it would be better to rid ourselves of these ideas. Thinking about these myths is difficult because it requires us to examine some of our most deeply held beliefs and either dismiss them or at least think differently about them. If you are interested in challenging the conventional wisdom about these business myths, you are invited to listen to this episode of The Soul of Enterprise: Business in the Knowledge Economy, hosted by Ed Kless and Ron Baker.

Learn More »

Missed the Live Shows?Past Episodes are available On Demand and Podcast Ready.

Episode #13 - Top Ten Business Myths - Part 1

♒ Read Full Transcript

On Friday the September 26, 2014 Show

Top Ten Business Myths, Part 1 (Myths 10-6). This episode is dedicated to the possibility that many myths exist about business and it would be better to rid ourselves of these ideas. Thinking about these myths is difficult because it requires us to examine some of our most deeply held beliefs and either dismiss them or at least think differently about them. If you are interested in challenging the conventional wisdom about these business myths, you are invited to listen to this episode of The Soul of Enterprise: Business in the Knowledge Economy, hosted by Ed Kless and Ron Baker.

Learn More »

Missed the Live Shows?Past Episodes are available On Demand and Podcast Ready.

Episode #12: The Moral Hazards of Measurements

As long as measurements are abused as a tool of control, measuring will remain the weakest area in a manager’s performance. —Peter Drucker

The illusion of certainty in our measurements creates—to borrow an important concept from the insurance industry—a moral hazard.

Simply defined, people have an incentive to take more risks or act carelessly when they are insured. Fire insurance causes arson; unemployment insurance allows people to not be as diligent in finding a job; life insurance causes suicide, or worse, murder; auto insurance can cause reckless, etc.

Our current cult of calculation, perpetuated by the infamous McKinsey maxim—what you can measure you can manage—creates the same type of risk, offering today’s business executives the illusion of control and mastery of knowledge.

It allows them to substitute statistics for thinking. It gives them a false sense of security where there should exist more doubt.

If we want to peer into the unknown future, our measures need to be linked to a theory, otherwise we are simply predicting the past—since history is the only dimension for which numbers can provide precision. With theory, we can also avoid the moral hazards of measurements so prevalent in today’s society.

Seven Moral Hazards of Measurements

In the Handbook of International Trade and Development Statistics, 1988, per capita output in 1988 in East Germany—one year before the Berlin Wall was pushed over—was placed at roughly seven-eighths of the West German level.

But as any Berlin taxi driver crossing through Checkpoint Charlie after the fall of the Wall could have told you, the economy of East Germany was manifestly inferior to that of West Germany, yet somehow—due to the moral hazard of measurement—those in the know got it precisely wrong rather than approximately right.

Taking into account the following seven moral hazards of measures may assist executives in avoiding these types of errors.

Moral Hazard 1: We Can Count Consumers, But Not Individuals

Singer Joan Baez used to say it was easier for her to have a relationship with 100,000 people than with one person. Stalin’s famous remark that “one death is a tragedy, whereas a million is a statistic” illustrates the danger of lumping individuals into aggregate, amorphous lumps as if they did not have a soul.

Stanley Marcus, the son of one of the founders of Neiman-Marcus, led the store through the difficult Great Depression, and one point he was especially fond of making was there was no such thing as a market, only customers.

In 2003, General Motors sold 8.59 million vehicles, yet each was sold one at a time. The micro level, where the customer interacts with the seller, is inherently a flesh-and-blood transaction. As economist Herbert Stein always used to say, “There is nobody here but us people.”

In the final analysis, markets and consumers are statistical abstractions, whereas customers are human beings who want to be treated specially and individually.

Moral Hazard 2: You Change What You Measure

Scientists call it Heisenberg’s Uncertainty Principle, which applies to all measures: that the observer in a scientific experiment affects the result. Central bankers call it Goodhart’s law: Any target that is set quickly loses its meaning as it comes to be manipulated. People will always find ways to make their numerical targets, even if it leads them to ineffective or, sometimes, unethical behavior.

A further hazard lies in the fact that in order to count something it must stand still, which is why the first statisticians were called “statists.” But people don’t stand still; they are constantly moving, changing, growing.

Moral Hazard 3: Measures Crowd Out Intuition and Insight

Once a measure becomes entrenched as part of the conventional wisdom, it is usually impenetrable to logic, intuition, critical thinking, or better ways to do something. Poverty statistics are a perfect example, as everyone accepts them as a precise measure of those citizens living below what we consider an acceptable standard of living. But how was this measure developed? Where did it come from?

The poverty rate measures the income of the poor, not their consumption, which is a false talisman of someone’s standard of living. It is not what you earn, it is what you are capable of spending; thus consumption should be measured, which would take into account nonreported earnings, noncash subsidies, and other services provided.

It is also a national statistic, and does not take into account regional differences in the cost of living. Further complicating the error, during the Johnson administration’s war on poverty, it was decided the “poverty rate” would be set at an arbitrary three times the cost of the U.S. Department of Agriculture’s economy food plan, as explained by Nicholas Eberstadt in his book The Tyranny of Numbers: Mismeasurement and Misrule.

Using a consumption-based, rather than an income-based, poverty measure, Eberstadt has concluded elsewhere the rate drops from approximately 13 percent to between 2 and 3 percent. Quite a difference, and illustrative of how far off even old measurements can be and how firmly entrenched they remain despite being precisely wrong.

If you have ever been bribed off an oversold airplane—with a free flight voucher, upgrade, or airline money equivalent—you have economist Julian Simon (1932–1998) to thank. Until 1978, and before the airlines were deregulated, travelers were bumped off overbooked planes rather capriciously (the airlines preferred to bump old people and military personnel on the theory they would be least likely to complain) and this caused enormous amounts of customer complaints and ill will.

Worse yet, the problem fed upon itself, because passengers began to expect being bumped and so would book several flights under various names to ensure a seat on at least one. This caused the airlines to increase bookings even more to ensure decent load factors, which of course were measured very precisely.

Had the airlines changed the process and tested Simon’s idea sooner, the airlines and its customers both would have been better off. Simon did not analyze countless numbers and statistics, but used his intuition, grounded by the economist’s theory of human behavior being rational, to solve a quite vexing problem.

Daniel Boorstin, librarian of Congress, wrote: “The greatest obstacle to discovery is not ignorance—it is the illusion of knowledge.”

Moral Hazard 4: Measures Are Unreliable

A country’s per capita gross domestic product increases when a sheep is born but decreases when a child is; or how divorce actually increases the GDP since almost two of every commodity must now be purchased rather than just one.

Picasso once said, “Art is a lie that tells the truth.” It seems in some instances, measurements are truths that tell lies.

Another example of the unreliability of measures is illustrated by the consulting firm Bain & Company’s Web site, where it proudly proclaims: “Our clients outperform the market 4 to 1,” shown over a graph from 1980 to 2012 depicting the S&P 500 Index and Bain clients.

This is the equivalent of the rooster taking credit for the sunrise because he crows every morning. One expects this type of unscientific hyperbole from politicians, not management consultants. I would be willing to bet that Bain’s clients perform better than the S&P 500, thus have more money to spend on consultants.

Moral Hazard 5: The More We Measure the Less We Can Compare

Engage in this gedanken: You (or a loved one) need(s) heart surgery. You talk to nurses, friends, and other people you trust and respect, and two surgeons are consistently recommended to you. You go online to do some research on these two practitioners and discover their mortality rates (i.e., the risk of dying from surgery: surgeon A = 65 percent; surgeon B = 25 percent. Which surgeon would you choose?

I have conducted this gedanken in seminars attended by various educated professionals—who certainly have taken a statistic class or two—and, astonishingly, the overwhelming majority select surgeon B. When I ask why, they say because of the lower probability of death.

Perhaps they think they need to choose between the two without gathering other information. But that is not how I set up the thought experiment: I left it open as to whether they could ask further questions. Not many do.

But wouldn’t you want to know what type of patients the two doctors serve? What if surgeon A takes a disproportionate share of hard cases and thus has a higher failure rate? He or she just may be the better surgeon.

The point is, we simply do not know without gathering more information, both quantitative and qualitative, and making further judgments based on our own risk profile. Seeing the two numbers side by side seems, though, to give people a false sense of precision and, in this case, could lead to a deadly decision.

Moral Hazard 6: The More Intellectual the Capital, the Less You Can Measure It

Ideas only come from sentient beings, not inanimate objects or pets. Since 80 percent of any country’s wealth-creating capacity resides in its human capital, how could it be otherwise?

To complicate matters, a lot of that knowledge is tacit, which is hard to capture in spreadsheets and pie charts. We may be able to count the physical assets of a Google or a Microsoft, but traditional accounting pays no attention to its human capital, what has been labeled the “invisible balance sheet.”

Traditional book value accounting—assets minus liabilities equals equity—can only explain about one-fourth of the value of the market capitalization on the nation’s stock markets. Accountants call the difference between market value and book value goodwill; but that is just a label for their ignorance. In an intellectual capital economy, debits don’t equal credits, because value is subjective and flows from free minds, not tangible commodities.

Data, reason, and calculation can only produce conclusions; they do not inspire action. Good numbers are not the result of managing numbers. As David Boyle wrote in The Sum of Our Discontent (Cloth): Why Numbers Make Us Irrational: “Decisions by numbers are a bit like painting by numbers. They don’t make for great art.”

Moral Hazard 7: Measures Are Lagging

Imagine driving your car with your dashboard gauges informing you of last month’s speed, fuel level, temperature, oil pressure, RPMs, and the rest. This is precisely the status of accounting information: it is like walking into the future backward.

It is a lagging indicator—or at best coincident, assuming real-time accounting takes place. This type of information can only tell us where we have been, never where we are going. Auditors come in after the battle and bayonet the wounded; they are historians with lousy memories.

Summary

The Danish philosopher Søren Kierkegaard wrote: “Life is lived forward but understood backward.” Certainly measures help us reflect on past events and aid us in improving our theories. But they can never take the place of dreams, imagination, passion, and the soul of enterprise where entrepreneurs toil and struggle to create our future.

No measure is capable of capturing the richness of free minds operating in free markets dreaming of better ways to improve our future, and it is folly to believe otherwise. It may even lead us into moral hazards, or a world where we are so preoccupied about measuring past performance we do not take the time to dream about the future.

Other books and resources mentioned

Uncharitable (Civil Society: Historical and Contemporary Perspectives), by Dan Pallotta

The Sum of Our Discontent (Cloth): Why Numbers Make Us Irrational, David Boyle

Minding the Store, Stanley Marcus

Episode #11 - Interview with Howard Hansen and Steven Geske

Healing Leadership - A Survival Guide for the Enlightened Leader

By Howard Hansen, Steven Geske

Buy on Amazon

Ed and Ron interview Howard Hansen and Steven Geske, coauthors of the groundbreaking book Healing Leadership - A Survival Guide for the Enlightened Leader. Here is how they explain the thesis of their groundbreaking book, in a summary titled “Healing Leaders Manifesto”:

What is “Healing” Leadership?

We see leadership as primarily an emotional process, rather than a strategic one. It is about courage and being oneself, rather than strategies and techniques to change someone. It is being the one who says what he or she sees ("The emperor has no clothes.") and letting people make their own choices accordingly. We call “bullshit” on traditional models of leadership and advocate for a rational approach to leadership that will not hinder meaningful change.

Quite simply, the “Command and Conquer” style of leadership does not work, long term. What’s more, it ultimately proves to be toxic. Therefore, Healing Leadership is about giving up the irrational hope of trying to change others, and instead focusing on one's own courage, growth, maturity and functioning. This is a rational decision to move from what does not work to what does work; from Command and Conquer to Cooperate and Nurture.

How is Healing Leadership Nurtured and Maintained?

We have developed a model, called the “Energy Management Model” that provides a kind of "Leadership GPS" to help leaders as they navigate the emotional process of leading. It has 4 dimensions that are based on 4 "big questions" every person must wrestle with in his or her life:

Self-Care – Who am I? (Focus on health, the courage to be ourselves and the ability to build personal energy)

Self-Dare – Where am I going? (Focus on personal values, mission and the courage to follow one's heart. This is how we invest our energy)

Self-Aware – Who will go with me? (Focus on how we get caught in futile or abusive relationships and learning to protect our energy, rather than waste it)

Self-Share – How am I connected to all things? (Focus on the Source of our energy and the energy of everything. A spirituality, if you will)

We believe this is a process and a life long one at that. We don't teach these in "4 easy steps." Instead we offer the Energy Management Model as a kind of "Leadership GPS" that allows leaders to organize and monitor their own functioning as leaders. It gives reliable information from our environment without giving up internal authority. As such, it is a tool for building courage and maturity as a leader.

We have been hearing from people that this book has changed their lives and their way of looking at everything. We know this works. The best favor you can do for a struggling leader is to point them in this direction.

We are glad to offer it to support people who dare to step forward as leaders in their relationships, their families, their organizations and the world.

Ron was honored to write the Foreword to this book, and here is part of what he wrote:

They say any writer should be able to sum up the purpose of their book on the back of a business card. I can do that for this book by using another author’s book:

"The colossal misunderstanding of our time is the assumption that insight will work with people who are unmotivated to change. If you want your child, spouse, client, or boss to shape up, stay connected while changing yourself rather than trying to fix them."

As with most ideas and relationships, it is no coincidence that the above was written by Edwin H. Friedman, in his masterful book A Failure of Nerve: Leadership in the Age of the Quick Fix. I read Friedman’s book back in the summer of 2007 because my good friend and colleague, Ed Kless, highly recommended that I do so.

Healing Leadership takes a totally different approach, and one that is not very comfortable for those of us used to reading business books. How many books on leadership have you read where the central message is you can’t succeed at affecting change in the people you lead? That you need to get out of the business of needing others to change? The authors even admit they won’t get rich by dispensing this type of advice.

Rather than assaulting the reader with endless platitudes and checklists of “do this and don’t do that,” this book advocates a “way of being,” recognizing that leadership is an emotional process, not a mechanistic science that treats humans like machines.

You are about to explore some very profound, powerful, and simple concepts. But please don’t confuse simple with simplistic. Virtuoso bass player, accomplished pianist, bandleader, and composer Charles Mingus said: “Making the simple complicated is commonplace; making the complicated simple, awesomely simple, that’s creativity.”

Three creative concepts from Healing Leadership have permanently altered not only my worldview, but my behavior. The authors present the “Energy Management Model,” which teaches how we could have greater success in achieving our goals if we tried not so much to control time—an impossibility, as it is outside us—and instead tried to control energy—eminently possible, as it is within us. Commitment is best measured not by the time one is willing to give up, but more accurately, by the energy one wants to put in, by how present one is.

You’ll learn the difference between episodic and chronic anxiety, along with the 10 tell-tale signs of someone who is chronically anxious, and what to do about it.

Finally, the concept of Emotional Triangles—what the authors call “the weather of human relationships.” This framework ties everything in the book together, while offering an enormously effective way to lower your anxiety. After reading about Emotional Triangles you’ll wish you had understood them in elementary school.

But don’t confuse simple with easy. These frameworks are very counterintuitive, and they will no doubt cause some confusion. Don’t despair. That’s a leading indicator that your understanding is deepening. You simply must wrestle with the concepts in this book if you want to achieve real change—transformations that will truly make a difference in your life. Indeed, the struggle and bewilderment might be the most important part of this journey.

One of my favorite definitions of the role of leaders comes from business consultant Peter Block: “The real task of leadership is to confront people with their freedom.” In Healing Leadership, Steven and Howard do exactly this. It’s not comfortable, it’s vexing, and it goes against everything you were taught in business school. The difference is: it works.

Friedman's Theory of Differentiated Leadership Made Simple

Episode #10 - Corporate Social Responsibility: Progress or PR?

Lenny Bruce

Capitalism is the best. It’s free enterprise. Barter. Gimbels, if I get really rank with the clerk, ‘Well I don’t like this,’ how can I resolve it? If it really gets ridiculous, I go, “Frig it, man, I walk.’ What can this guy do at Gimbels, even if he was the president of Gimbels? He can always reject me from that store, but I can always go to Macy’s. He can’t really hurt me. Communism is like one big phone company. Government control, man. And if I get too rank with that phone company, where can I go? I’ll end up like a schmuck with a dixie cup on a thread.

–Lenny Bruce

Capitalism is a counter-intuitive system since human action is coordinated by a pricing system that results in a hidden order that is not determined by a central plan. After all, it sounds far more rational if some central bureau were to organize what, how much, when and where to produce, and who should get a fraction of the result. But history has proven that centrally planned economies are abject failures, and the market is fare more just and efficient at allocating a society’s scarce resources.

Yet, for all the eloquence of Adam Smith and other free-market advocates, capitalism still lacks a moral theory. Even its most ardent defenders have nothing but contempt for businesspeople and entrepreneurs.

An often-heard remark is: The problem with capitalism is capitalists. It appears capitalism suffers from a unique paradox––it is better in practice than it sounds in theory. There is a certain “inarticulate wisdom” about the free market, and in this show Ed and Ron discussed the social responsibility of business.

Profits and Social Responsibility

Businesses are often praised for what they do worst (e.g., social work, fighting inflation, reducing welfare rolls) and denounced for what they do best (e.g., create jobs, wealth, goods and services people desire).

Milton Friedman’s famous 1970 article The Social Responsibility of Business is to Increase Its Profits essentially argues that businesses should pursue profits justly and within the bounds of the law and norms of society.

Friedman makes this argument because management personnel are acting as agents for the principals––that is, the stockholders of the company. For the agents to spend money and resources for “social” purposes denies the profits to the shareholders, who would then be free to donate and spend the proceeds as they see fit.

Another argument, often ignored by Friedman’s critics, is that a business doesn’t have particular expertise––or a comparative advantage––in performing social work, but does have expertise and knowledge about producing, say, automobiles or copiers.

In the famous Michigan Supreme Court case Dodge v. Ford Motor (1919), Ford was sued by a shareholder (Dodge) for lowering prices on cars and raising wages of employees (Ford thought the company had made enough profits), and the court ruled Ford had to increase dividends to shareholders.

Friedman’s argument is easier to understand if you imagine an employee of a sole proprietorship dictating to the owner how she should spend her profits.

Profits and social responsibility are not mutually exclusive goals. In fact, given the realities of free-market exchanges––where both parties are better off after the exchange––profits are actually an indicator of social value created.

Those who believe that earning a profit is morally neutral rather than a morally good way for a corporation to discharge its responsibility should be asked if they believe deliberately running losses is ethical––particularly if it’s with someone else’s money?

The economic and ethical responsibility of a business is to serve others, and increase the wealth of its customers. The business world instills, and requires, the practice of a number of virtues: diligence, industriousness, prudence in risk taking, reliability, kindness to strangers (customers), and fidelity in personal relationships.

Are not these the same virtues parents try to teach their children? As Michael Novak explains in Business as a Calling:

My general position on these three questions has two parts. First, business is a morally serious enterprise, in which it is possible to act either immorally or morally. Second, by its own internal logic and inherent moral drive, business requires moral conduct; and, not always, but with high probability, violations of this logic lead to personal and business disgrace. Immoral acts do occur in business. But to behave immorally is neither necessary to nor conducive to business success.

These men [industrial barons] did more than make money; calling them “money-makers” trivializes what they accomplished. Nor does the word greed capture their state of soul. “Greed” does not explain why Andrew Carnegie gave virtually all his money away. Instead, he poured [profits] back into his firm as an investment in its future. In other words, he put it at risk. “Greed” is for the impoverished socialist imagination a term of art; its purpose is neither descriptive nor analytical. Its purpose is moral denunciation, for ideological reasons.

The aim is not acquisition but increase. The clutching fist is not the capitalist style.

Honesty and ethical standards do not always pay off. They often have costs. For moral reasons alone, these costs are worth paying. Also for business reasons, too, since reputation is a priceless asset, and loss of that reputation is the single biggest risk a company faces.

JnJ-Our-Credo-700

Consider the Johnson and Johnson Credo that the company turned to during the two Tylenol poisonings in 1982 and 1986, which had a cumulative effect of $140 million in write-offs. Founder R.W. Johnson wrote this Credo in 1943 and it has often been cited as precedent for ethical decisions made since then, and is carved in stone at the company’s New Brunswick, New Jersey, headquarters:

Our Credo

We believe that our first responsibility is to the doctors, nurses, hospitals, mothers, and all others who use our products. Our products must always be of the highest quality. We must constantly strive to reduce the cost of these products. Our orders must be promptly and accurately filled. Our dealers must make a fair profit.

Our second responsibility is to those who work with us––the men and women in our plants and offices. They must have a sense of security in their jobs. Wages must be fair and adequate, management just, hours reasonable, and working conditions clean and orderly. Employees should have an organized system for suggestions and complaints. Supervisors and department heads must be qualified and fair-minded. There must be opportunity for advancement for those qualified and each person must be considered an individual standing on his own dignity and merit.

Our third responsibility is to our management. Our executives must be persons of talent, education, experience, and ability. They must be persons of common sense and full understanding.

Our fourth responsibility is to the communities in which we live. We must be a good citizen––support good works and charity, and bear our fair share of taxes. We must maintain in good order the property we are privileged to use.

We must participate in promotion of civic improvement, health, education, and good government, and acquaint the community with our activities.

Our fifth and last responsibility is to our stockholders. Business must make a sound profit. Reserves must be created, research must be carried on, adventurous programs developed, and mistakes paid for. Adverse times must be provided for, adequate taxes paid, new machines purchased, new plants built, new products launched, and new sales plans developed. We must experiment with new ideas. When these things have been done the stockholder should receive a fair return. We are determined with the help of God’s grace to fulfill these obligations to the best of our ability.

Summary and Conclusions

Dr. Samuel Johnson wrote “There are few ways in which man can be more innocently employed than in getting money,” and John Maynard Keynes agreed, stating, “It is better that a man should tyrannize over his bank balance than over his fellow citizens.”

No doubt businesses act in a social context, as do all individuals, and should be held accountable for doing the right thing for the right reasons. None of this is inconsistent with the pursuit of profit and meeting human needs and wants. Parents do not raise their children to become rugged individualists, and no company was built by the efforts of a single human being.

Ethical conduct, integrity, trust, and honesty are not just moral principles, they are also major economic factors, and one all businesses and professionals should be judged against and held accountable for.

Other books and resources mentioned

Creative Capitalism: A Conversation with Bill Gates, Warren Buffett and other Economic Leaders, edited by Michael Kinsley

“The criminalization of American business,” The Economist, August 30, 2014

“A mammoth guilt trip,” The Economist, August 30, 2014

“Seven time lucky,” The Economist, August 30, 2014

“A new green wave,” The Economist, August 30, 2014

Episode #9 - Interview with Rory Sutherland

Rory-Sutherland

We knew our interview with Rory Sutherland, Vice-Chairman, Ogilvy Group, UK, would be an exciting and exhilarating exchange of ideas. It’s safer to say it was an idea explosion, which will be difficult to summarize.

Because he mentioned so many useful ideas, as well as books, here are the major themes and highlights of our discussion.

Rory’s Career and Brief Biography

Pre Ogilvy (1988)

Did you meet David Ogilvy? Did you ever get to stay at his castle?

Rory’s book, The Wiki Man, which we quoted from throughout the interview.

Economics

While sick in bed, Rory read Steven Landsburg’s book, The Armchair Economist, one of Ed and Ron’s favorite economists. Rory also mentioned other economics books he’s read:

• Robert H. Frank, The Economic Naturalist

• John Kay, Obliquity

• Tim Harford, The Undercover Economist; The Undercover Economist Strikes Back; and The Logic of Life

• Richard Thaler and Cass Sunstein, Nudge

• Adam Smith, The Theory of Moral Sentiments (1759); and The Wealth of Nations (1776)

• Matt Ridley, Ideas Having Sex; and The Rational Optimist

• Steven Levitt and Stephen J. Dubner, Think Like a Freak

Rory discussed how Ludwig von Mises became one of his heroes. His book, Human Action, describes his theory of Praxeology, the study of human behavior, and prior science before economics, which is preoccupied with human psychology.

Ed then asked Rory: You wrote in The Wiki Man:

I think the pace of technological innovation is going to slow down. This is not a majority view, but I just think the fundamental innovations we can make just are not that huge.

But what about the driverless car, graphene, 3D printing, space travel, Bitcoin––are they disruptive or sustaining?

Ron challenged Rory on what he wrote:

I’m perfectly happy giving ideas away because an idea is worthless unless it’s executed.

Really? Thomas Sowell’s work, especially in Basic Economics, has convinced me that ideas are, always and everywhere, more valuable than their mere execution.

Try to execute a crappy idea: socialism, communism. As a creative, doesn’t the concept that “good ideas are everywhere” bother you? Good ideas aren’t everywhere, otherwise we wouldn’t get so many crappy movie remakes and TV shows.

Even you cited Henry Ford example in The Wiki Man:

Henry Ford’s reaction to a consultant who questioned why he paid $50,000 a year to someone who spent most of his time with his feet on his desk. 'Because a few years ago that man came up with something that saved me $2,000,000,' he replied. 'And when he had that idea his feet were exactly where they are now.'

For more on the idea that ideas are more valuable than execution, see Ron’s blog post here.

Marketing, Branding and Advertising

Ron asked Rory about Peter Drucker’s statement:

 Because its purpose is to create a customer, the business enterprise has two––and only these two––basic functions: marketing and innovation. Marketing and innovation produce results; all the rest are costs.

Rory wrote:

The purpose of marketing is to turn human understanding into business or social advantage.

On brands, you wrote:

I suggest it is by far the more valuable economic role that brands play: not to be a promise of ultimate superiority but a cast iron assurance of pretty dependable non-shitness.

And you said that you can’t understand brands without understanding “satisficing,” the Northumbrian term that means to choose the first option that is satisfactory; “good enough” (combination of Satisfy + Suffice).

Herbert Simon in his book, Models of My Life, describes “satisficing” and “bounded rationality.” Ron also mentioned Peter Drucker’s autobiography: Adventures of a Bystander.

‘Effing Debate: Efficiency vs. Effectiveness

Humans don’t like pure efficiency. Rory talks about Arithmocarcy and why the most dangerous technology is the spreadsheet.

Math requires calculate solution, then enact it. Hueristics allows us to do both in parallel—i.e., catching a ball.

In The Wiki Man he wrote:

…how, in their endless, dogged pursuit of a false efficiency, organisations can be rendered slightly useless. And stupid.

Remember that the word “dogged” is derived from the word “dog” meaning “energetic and stupid.

…belief in false efficiency is very simple; it comes from the belief that improvement comes from the elimination of apparent waste.

Rory also quoted Jules Goddard, professor at the London Business School and author of Uncommon Sense, Common Nonsense:

Strategy is the art of staying one step ahead of the need to be efficient. (Ed's note: This was the take away quote of the interview!)

Hourly Billing and Timesheets

Ed asks Rory about David Ogilvy taking responsibility for introducing the billable hour to ad agencies, in his book, Ogilvy on Advertising. Probably his biggest mistake.

Rory explains why he did it, and how entrenched hourly billing has become in ad agencies.

Last question for Rory: What’s he Reading now? Some fiction, and Super Cooperators by Martin Nowak. He also highly recommends The Origins of Wealthby Eric D. Beinhocker.

Two of Rory’s Presentations You Need to Watch

TEDtalk

Google Zeitgeist

Episode #8 - Mr. Spock and Homer Simpson: The Two Sides of Human Economic Behavior

Ed and Ron discussed the two sides of human action: rationality and irrationality on the August 22nd show, and why economists (such as Steven Landsburg, David Friedman, Steven Levitt, and many others) cling to this assumption even though it’s been challenged by behavioral economists such as Dan Ariely, Richard Thaler, and others. The assumption of rationality has come under attack in recent decades, mostly from within the economics profession itself. The idea that “Economic Man”––Homoeconomicus––has unbounded rationality, self-interest, free-will, is selfish, self-maximizing, and entirely efficient in his decisions and choices, has sometimes been proven false by a new school of economics: Behavioral Economics.

Rather than man being a completely rational calculator, similar to Mr. Spock of StarTrek fame, it seems in many areas of life we act more like Homer Simpson of TheSimpsons. It’s doubtful a Mr. Spock would need Alcoholics or Gambling Anonymous, or the idea of a self-control credit card that in advance voluntarily limits one’s spending in various categories automatically.

Mr. Spock: The Assumption of Rationality

Most of economics can be summarized in four words: “People respond to incentives.” The rest is commentary

–Steven Landsburg, The Armchair Economist: Economics & Everyday Life

Critics charge that the assumption of rationality turns the average person into a cold, calculating individual whose only interest is to maximize their wealth (or utility, or power, or whatever). Yet simple observations of human behavior reveal all sorts of activities that would not be deemed rational. We can all think of “irrational” acts that most people commit daily:

•  We pay higher prices for goods and services endorsed by celebrities;

• We routinely vote in elections even when we know our one vote won’t decide the outcome;

• We leave tips in restaurants to strangers, in locations we will never visit again.

Given these realities, it appears as if the assumption of rationality is false, and this doesn’t seem to concern professional economists. But here is how Steven Landsburg explains this assumption in his textbook, Price Theory and Applications:

But the fact of the matter is that all assumptions made in all sciences are clearly false. Physicists, the most successful of scientists, routinely assume that the table is frictionless when called upon to model the motions of billiard balls. All scientists make simplifying assumptions about the world, because the world itself is too complicated to study.

To a large extent, the assumption of rationality is nothing more than a commitment to inquire sympathetically into people’s motives. [When we observe what at first appears to be irrational behavior] we have a choice. Either we can remark––wistfully or cynically, according to our temperament––on the inadequacy of human nature, or we can ask, “How might such behavior be serving someone’s purposes?” The first option offers the satisfaction of exempting oneself from the great mass of human folly. The second offers an opportunity to learn something.

David Friedman, in Hidden Order: The Economics of Everyday Life, explains the assumption of rationality this way:

…the assumption describes our actions, not our thoughts. If you had to understand something intellectually in order to do it, none of us would be able to walk.

Economics is based on the assumption that people have reasonably simple objectives and choose the correct means to achieve them. Both assumptions are false––but useful.

Suppose someone is rational only half the time. Since there is generally one right way of doing things and many wrong ways, the rational behavior can be predicted but the irrational cannot. If we assume he is rational, we predict his behavior correctly about half the time––far from perfect, but a lot better than nothing. If I could do that well at the racetrack I would be a very rich man.

…rationality is an assumption I make about other people. I know myself well enough to allow for the consequences of my own irrationality. But for the vast mass of my fellow humans, about whom I know very little, rationality is the best predictive assumption available.

Examples of Rationality Ed and Ron Discussed

• Why do we have .99 cent pricing?

• Why are Coke vending machines far more elaborate, and costly, than newspaper racks, where it’s quite easy to take more than one paper?

• The four ways we can spend money.

Homer Simpson: Irrational?

Nobel Economist Herbert Simon believed that man did not maximize utility, but rather attempted to “satisfice”––that is, do good enough. He believed man had a “bounded rationality,” and often used shortcuts––hueristics––to make decisions that although not perfectly optimal were good enough.

The recent work of Behavioral Economists is fascinating, often challenging and falsifying the traditional economists’ assumption of rationality. Books such as Predictably Irrational, Revised and Expanded Edition: The Hidden Forces That Shape Our Decisions and The Upside of Irrationality: The Unexpected Benefits of Defying Logic at Work and at Home, by Dan Ariely; Nudge: Improving Decisions About Health, Wealth, and Happiness, by Richard Thaler and Cass Sunstein; The Mind of the Market: Compassionate Apes, Competitive Humans, and Other Tales from Evolutionary Economics, by Michael Shermer, among many others, are fascinating looks at human behavior that conclude that man certainly has the capacity in some functions to be a Mr. Spock, but that a lot of the time we are more like Homer Simpson, a Homer Economicus, if you will.

Here are just some of the anomalies that argue in favor of man’s irrationality:

• Loss-Aversion Effect. We are more adverse to loss than gain of size. It takes $2 of gain to offset $1 of loss, psychologically.

• Endowment Effect. We value something much more as soon as it’s ours, which is why a lot of manufacturers (and pet stores) will grant a 30-day return policy.

• Confirmation Bias. Once we form a belief, or vision of the world, we pay no attention to evidence that disproves it.

• Anchoring Effect. We give undue weight to anchors from the past, even if they are no longer relevant. Depression babies remember .05¢ candy bars, we recall $1.50 per gallon gas, we sometimes spend $100 for an omelet after being shown one for $1,000. Campbell’s soup sold twice as many cans when a sign on the shelf read “Limit of 12 per Person,” then when the sign read “No Limit per Person.”

• Better-Than-Average Bias. We’re all above-average drivers, more rational voters than our neighbors, etc. Also known as the Lake Woebegone Effect.

• Relative vs. Absolute Thinking. We tend to think in relative, not absolute terms. If you’re purchasing a $25 pen and someone in the store tells you it’s on sale for $18 at another 10 minutes away most people would leave for the other store. However, if you were buying a $455 suit and could save $448 at another store 10 minutes away, most wouldn’t bother. But it’s a $7 savings no matter what.

• Zero Price Irrationality. Nothing is as exciting as “FREE!” even if we don’t need it, which is why we load up with useless knick-knacks at conventions, and spend more at Amazon.com than we otherwise planned to get the FREE shipping.

• Framing Effect. How information is presented can evoke different emotions and comparisons. “The odds of survival one month after surgery are 90%” is more reassuring than the equivalent statement that “mortality within one month of surgery is 10%. Cold-cuts described as “90% fat-free” are more attractive than when they are described as “10% fat.”

Critiques of Behavioral Economics

Not all economists are convinced by the research that man is not rational, let alone willing to forego the assumption of rationality (the endowment effect and confirmation bias in action?).

Ludwig von Mises refused to call bad decision making “irrational.” He stated:

Error, inefficiency, and failure must not be confused with irrationality. He who shoots wants, as a rule, to hit the mark. If he misses, he is not ‘irrational,’ he is a poor marksman.

This is why Richard Thaler and Cass Sunstein, in their book Nudge: Improving Decisions About Health, Wealth, and Happiness, are arguing that people need to be nudged to make the correct decisions, especially when decisions are complex and have long-term consequences, such as retirement planning.

They’ve experimented with 401(k) plans being automatically opt-in, so that employees have to fill out paperwork to opt-out. Participation rates quadrupled. They did the same with having employees pledge to increase their participation percentage as they receive future raises, which most did, compared to increasing contributions after receiving the pay raise. Since it’s easier to forgo future raises that you don’t have yet.

But as Tim Harford points out in his book, The Logic of Life: The Rational Economics of an Irrational World, since a lot of behavioral economic theories are based on laboratory experiments––albeit very cleverly designed and executed––we can’t extrapolate from them “unless we are confident that the conditions of the experiment––which are necessarily contrived––resemble the kind of situations we face in real life.

That is far from certain, as an economics professor named John List has been discovering. On several occasions, List has taken a deeper look at the laboratory discoveries of irrationality and found that rational behavior isn’t far beneath the surface after all.”

Let the debate and research continue, since science and understanding progresses by dissent, not consensus.

Other books and resources mentioned

"That's a problem for future Homer"

Miton and Rose Friedman’s book, Free to Choose: A Personal Statement

The television series Free to Choose with Milton Friedman, with both the 1980 original series and the 1990 updated version at http://www.freetochoose.tv/

Steven Levitt’s books, Freakonomics Rev Ed: (and Other Riddles of Modern Life) and Think Like a Freak: The Authors of Freakonomics Offer to Retrain Your Brain

Rory Sutherland’s Zeitgeist talk, wherein he shows the $300 million effect by changing a web etailers button from “sign-in” to “continue.”

Herbert A. Simon's book, Models of My Life, where he discusses the concepts "bounded rationality" and "satisficing."

Episode #7 - Everyday Ethics: Doing Well and Doing Good

It’s not easy to be a good citizen in a bad society.

–Aristotle

Ed and Ron start out by discussing the classic trolley thought experiment, a branch of ethics now known as Trolleyology.

Spike

Fat man push

Fat man trap door

An excellent book by David Edmonds, Would You Kill the Fat Man?: The Trolley Problem and What Your Answer Tells Us about Right and Wrong, along with a two-part video series on YouTube: Part I and Part II.

Fat Man Book

Why Study Ethics?

Ethics––originating from the Greek word ethos, meaning habit––is the study of morality. Morality is concerned with social practices defining right and wrong. It exists prior to the acceptance by any one individual.

In other words, morality is not a personal choice but a social construct. Ethical theory is a reflection on right actions.

After all, you would not need to study morality or ethics if you were stranded on an island, since there would be no one to be “just” or “unjust” to.

The Josephson Institute of Ethics defines ethics:

Ethics is about how we meet the challenge of doing the right thing when that will cost more than we want to pay. There are two aspects to ethics: The first involves the ability to discern right from wrong, good from evil, and propriety from impropriety. The second involves the commitment to do what is right, good and proper. Ethics entails action; it is not just a topic to mull or debate.

Normative Ethical Theory

There are many normative ethical theories. Theory is important because it enables us to control, predict or explain human behavior. Some of the most common normative ethical theories will be discussed below.

Utilitarianism

To do as one would be done by, and to love one’s neighbor as one’s self, constitute the ideal perfection of utilitarian morality.

–J.S. Mill, Utilitarianism (Illustrated), II, 1863

Utilitarianism is one of the leading consequentialist ethical theories––that is, the morality of an act should be judged only based on its consequences.

At Glasgow University, Adam Smith’s inspiring teacher Francis Hutcheson (1694-1746) coined the phrase “The greatest happiness of the greatest number.” Jeremy Bentham (1748-1832) in particular made this the cornerstone of his utilitarian philosophy as outlined in his Introduction to the Principles of Morals and Legislation, published in 1789.

According to Bentham, the battle in life is not between good and evil, or between reason and passion, but between pleasure and pain: “Nature has placed mankind under the governance of two sovereign masters, pain and pleasure. He proposed we weigh up the net pleasure against the net pain (what he termed “felicific calculus”).

The goal of society should be the “greatest happiness principle”––that is, “the greatest happiness of the greatest number.” The concept of utility (utils), cost-benefit analysis, and the progressive income tax (e.g., an extra dollar to Bill Gates is worth less than to a homeless person), has its origins in this theory.

Some refer to utilitarians as hedonistic since they believe that any act that maximizes pleasure or happiness is right.

Kantian Ethics

Always recognize that human individuals are ends, and do not use them as means to your end.

–Immanuel Kant

Rather than analyzing the consequences of actions, another philosophical theory holds that one should do what is right. This is known as deontology, a Greek term meaning duty.

Deontologists believe in universal principles (thou shall not steal, etc.) and consequences should not be the only criteria used to judge moral behavior. The leading deontologist is the German Philosopher Immanuel Kant (1724-1804).

In other words, one should do what is right, for the right reasons. If one is honest only because they believe honesty pays, it’s not as moral as those who are honest because it is the right thing to do.

Virtue Ethics

Virtue is its own reward.

–Cicero, De finibus, III, c. 50 B.C.

Greek philosophers spoke of good habits and bad habits. The good habits were called “virtues” and the bad habits “vices.” Every person develops a unique combination of both habits, known as character. This formulation allows us to predict human behavior, as is done, for instance, when we say someone acted “out of character.”

The Greeks thought that character was destiny.

Rights Theories

Rights theorists hold that human rights are independent of citizenship in a state or any other social organization, unlike legal rights that may vary from place to place. As formulated by John Locke, David Hume, and Edmund Burke––among others––natural rights consist of rights to be free from state interference.

Of course, with these rights come certain obligations, or duties, not to interfere with the rights of others. These are known as negative obligations, meaning one does not interfere with the liberty of others. Positive obligations, on the other hand, require some persons (or institutions) to provide for others (medical care, or welfare, for example).

True rights exist simultaneously among people. The exercise of a right by one person does not diminish those held by another and imposes no obligations on others.

For example, my right to free speech does not inhibit yours, nor does it oblige you to listen to my views. Furthermore, natural rights theorists believe that without freedom there is no virtue, since a coerced virtue is no virtue at all.

Other Ethical Considerations

Morality and Law

I have spent my whole life under a Communist regime, and I will tell you that a society without any objective legal scale is a terrible one indeed. But a society with no other scale than the legal one is not quite worthy of man, either.

– Alexander Solzhenitsyn, commencement address, Harvard University, 1978

The University of Pennsylvania’s motto is: Leges sine moribus vanae, “Laws apart from moral habits are empty.”

Just because a particular law is voted on by a majority does not make it moral. Apartheid, Nazism, and the Fugitive Slave Act of 1850 were all supported by a majority. Legal remedies can sometimes preclude ethical remedies. For example, how would you be able to tell what is the right thing to do without a legal precedent?

What About “Business Ethics”?

It is common today to speak of “medical ethics,” “bio ethics,” “accounting ethics,” and so forth.

In his 1981 article in The Public Interest, “What is Business Ethics”?, management thinker Peter Drucker challenges the concept of a separate ethics for business:

What difference does it make if a certain act or behavior takes place in a “business,” in a “non-profit organization,” or outside any organization at all? The answer is clear: None at all.

 …”business ethics” may be good for politics and good electioneering. But that is all. For ethics deals with the right actions of individuals.

Altogether, “business ethics” might well be called “ethical chic” rather than ethics––and indeed might be considered more a media event than philosophy or morals.

Summary and Conclusions

Character is ethics in action, it is what and who you are. Reputation is what people say you are.

Abraham Lincoln likened character to a tree and reputation to its shadow.

The Josephson Institute of Ethics lists Six Pillars of Character:

1. Trustworthiness

2. Respect

3. Responsibility

4. Fairness

5. Caring

6. Citizenship

Other books and resources mentioned

Arthur Andersen’s Website. Oscar Wilde warned: “No man is rich enough to buy back his past.”

The Rule of Nobody, the book mentioned by Ron. It’s an excellent read!

Also highly recommended in Michael Novak’s <Business as a Calling. Novak compellingly assets that business is a moral serious enterprise, and we believe he’s right.

Charles Murray’s book, Human Accomplishment, names ethics as one of the fourteen meta-inventions.

Capitalism: The Unknown Ideal, Ayn Rand explains and defends natural rights.

Episode #6 - Interview with Distinguished Professor of Economics, Deirdre McCloskey

We were honored to have as our first guest the Distinguished Professor of Economics, History, English, and Communication at the University of Illinois at Chicago, Deirdre McCloskey. A well-known economist and historian and rhetorician, she has written sixteen books and around 400 scholarly pieces on topics ranging from technical economics and statistics to transgender advocacy and the ethics of the bourgeois virtues. She is known as a "conservative" economist, University-of-Chicago style (she taught for 12 years there), but protests that "I'm a literary, quantitative, postmodern, free-market, progressive Episcopalian, Midwestern woman from Boston who was once a man. Not 'conservative'! I'm a Christian libertarian." Her latest book, Bourgeois Dignity: Why Economics Can't Explain the Modern World, which argues that an ideological change rather than saving or exploitation is what made us rich, is the second in a series of four on The Bourgeois Era. The first was The Bourgeois Virtues: Ethics for an Age of Commerce(2006), asking if a participant in a capitalist economy can have an ethical life (briefly, yes).

"We fans of innovation and markets have done enough preaching to the choir," she says. "We need to speak to our beloved critics on the left and right who do not think that the Age of Innovation was the best thing to happen since the invention of language."

What caused the Industrial Revolution?

Economist Deirdre McCloskey, in Bourgeois Dignity, has looked at the possible causes from every conceivable angle. This is the second book in a series (the first was Bourgeois Virtues, which sets out to answer this question:

What caused the spectacular growth in the economy from the late 18 century to the present day, going from an income of approximately $3 per day to $137 today?

It’s even larger than that if you take into account the quality of goods and services available today versus then. One simple example is antibiotics. Simple infections that once killed incredibly wealthy people can now be cured with five dollars and a trip to the drugstore. Estimates put the growth in the quality of goods and services at a factor of 40 to 190—I believe even that is an understatement.

In 1875, the average family spent 74% of its income on food, clothing and shelter. In 1995 they spent 13%. This is one reason why Ed Kless says he’d rather be poor anywhere in the world today than in 1800.

This is an incredible accomplishment, and historians, economists, sociologists, poets, along with many others, have offered a plethora of explanations to explain it. McCloskey explores them all, but she reaches a totally different conclusion than most economists. In fact, the subtitle of the book is “Why economics can’t explain the modern world.”

All Transformation is Linguistic

McCloskey believes that economic change depends on what people believe—their talk, their ethics, and their ideas, especially as related to dignity and innovation. It’s what Alexis de Tocqueville called “habits of the mind.”

Yet “ideas about ideas are unscientific” and ignored by economists who naturally gravitate towards materialist explanations for growth and dynamism. McCloskey writes:

To be able to detect the dark matter we will need a new, more idea-oriented economics, which would admit for example that language shapes an economy.

One of my favorite lines discovered recently is Werner Erhard’s “All transformation is linguistic. If we want to change our culture, we need to change our conversation.”

McCloskey’s argument is this statement on steroids. In other words, our conversations about dignity and liberty changed, launching the Industrial Revolution. Here’s how McCloskey expresses this phenomena:

A big change in the common opinion about markets and innovation, I claim, caused the Industrial Revolution, and then the modern world. The change occurred during the seventeenth and eighteenth centuries in north-western Europe. More or less suddenly the Dutch and British and then the Americans and the French began talking about the middle class, high or low—the “bourgeoisie”—as though it were dignified and free. The result was modern economic growth.

That is, ideas, or “rhetoric,” enriched us. The cause, in other words, was language, that most human of our accomplishments.

McCloskey here is using the word rhetoric in its ancient sense, “the means of [unforced] persuasion,” which includes logic and metaphor, fact and story. She’s written many books on this topic, criticizing economists for not telling better stories, two of which I thoroughly enjoyed: The Rhetoric of Economics (Rhetoric of the Human Sciences), and If You're So Smart: The Narrative of Economic Expertise.

In the spirit of words being crucial, she’s attempting to rid the world of the dreaded “Capitalism,” preferring “Innovation” instead to explain the wonders of a free market.

Rhetoric Over Matter

Most causes of the Industrial Revolution rely on a materialist explanation, from natural resources and climate to geography, transportation and foreign trade. Yet in chapter after chapter, McCloskey definitively falsifies the following list of reasons often cited as the cause of the Industrial Revolution:

• The Weber Thesis—The Protestant (particularly Calvinism) ethic

• Michael Porter’s thesis of competitive strategy of nations (this is deftly ripped apart by McCloskey, and R.I.P. as far as I’m concerned)

• Rise of rationality

• The exchange of ideas. Ideas having sex, in Matt Ridley’s phrase from The Rational Optimist P.S. - It helps, but it’s simply not large enough to have caused the Industrial Revolution

• Education. In fact, too much education can impair growth. An interesting discussion is provided by McCloskey, and in Thomas Sowell’s work as well.

• Thrift (savings accumulation)

• Investment (capital accumulation)

• Economies of scale

• Division of labor

• Greed

• Expropriation or imperialism

• Human capital. Not that this is unimportant, but McCloskey would argue that social capital—specifically, our conversations and beliefs—are more important

• Transportation

• Foreign trade. This simply reshuffles goods and services, it doesn’t discover or lead to innovation

• Geography. Jared Diamond’s thesis is thoroughly shot down

• Natural resources. McCloskey believes there’s no such thing as a natural resource, except the imagination of man

• Unions

• Eugenics

• Institutions. No doubt important, but no way did they cause the spectacular growth, and mostly were formed afterwards

• Property rights. Again, they are important, but they existed in all sorts of places prior to Great Britain (China, e.g.)

• Science. This is more a result, not a cause

Thankfully, she also takes down the happiness literature that’s beginning to sprout up in economics, which is just so much hokum.

One discussion that runs through the narrative is the “California School”—why so many scholars (who tend to be disproportionately located in California universities) believe that numerous discoveries were originally from China, giving error to the idea of European exceptionalism. McCloskey is more and more convinced of the findings of this school of thought, and so will you after reading about it.

In the final chapter, she summarizes the “Bourgeois Deal”:

Give a woman some rice, and you save her for a day. Give a man some seed and you save him for a year. That’s the plan of investment in capital, tried for decades in foreign aid, without much success. But give a man and a woman the liberty to innovate, and persuade them to admire enterprise and to cultivate the bourgeois virtues, and you save them both for a long life of wide scope, and for successively wider lives for their children and their grandchildren, too. That’s the Bourgeois Deal, which paid off in the Age of Innovation.

We find McCloskey’s work compelling, and it certainly has changed our worldview on the causes of the Industrial Revolution. It truly gives weight to the saying “all transformation is linguistic.”

Conclusion

Professor, thank you again for appearing today and sharing your wisdom.

Author and educator William Arthur Ward wrote:

The mediocre teacher tells. The good teacher explains. The superior teacher demonstrates. The great teacher inspires.

You have certainly inspired Ed and me, and for that we will be eternally grateful.

Other books and resources mentioned

Ron’s LinkedIn blog post that reviews Bourgeois Dignity: Why Economics Can’t Explain the Modern World. Be sure to read some of the comments.

Cato Unbound, a discussion on Professor McCloskey’s book Bourgeois Dignity: Why Economics Can’t Explain the Modern World.

Bourgeois Equality: How Betterment Became Ethical, 1600-1848, and Then Suspect, the final book in the series, to be published later this year.

Episode #5 - Replacing the Annual Appraisal Agony

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Appraisal is not the system that drives pay, careers, and status; it is an incidental effect of those dynamic systems. Appraisal is primarily the paper-shuffling that sanctifies decisions already made. –Tom Coens and Mary Jenkins, Abolishing Performance Appraisals

Human capital determines the performance capacity of any organization. Today’s knowledge workers, unlike the factory workers of the Industrial Revolution, own the means of production. Ultimately, knowledge workers are volunteers, since whether they return to work is completely based on their volition.

Consequently, it is difficult to understand the continued reliance on the “annual agony" —the performance-appraisal apparatus. According to Tom Coens and Mary Jenkins, in their seminal book Abolishing Performance Appraisals: Why They Backfire and What to Do Instead, over 50 years of academic studies reveal scant empirical evidence of the effectiveness of performance appraisals at actually improving performance.

Despite these facts, organizations cling to it in an uninformed belief that there is no suitable replacement. Where did this ritual come from?

The Origins of Performance Appraisals

The modern antecedent of the appraisal process was explained by Peter Drucker in his book, The Effective Executive:

Appraisals, as they are now being used in the great majority of organizations, were designed by the clinical and abnormal psychologists for their own purposes. He is legitimately concerned with what is wrong, rather than with what is right with the patient. The clinical psychologist or the abnormal psychologist, therefore, very properly looks upon appraisals as a process of diagnosing the weaknesses of a man.

The appraisal tends to focus on weaknesses, not strengths—what psychologists call the “presenting problem.” But good leaders—like good coaches—design performance processes and tasks around a person’s strengths, and ignore—or make irrelevant—their weaknesses.

What about the Law?

Two primary defenses for maintaining performance appraisals are that they are required by law, and that they are required documentation to terminate an employee. Both assertions are false. Most workers in the United States are employees at will; they can be fired for any reason, or no reason at all, with or without warning. There are exceptions to this doctrine, and they have grown over the years, yet there is no explicit legal reason to perform performance appraisals.

Tom Coens, coauthor of the definitive book, Abolishing Performance Appraisals, is a labor and employment lawyer with thirty years of experience. He dispels the myths surrounding the effectiveness of performance appraisals from a legal perspective.

Jay Shepherd is another unapologetic management-side lawyer who practiced for 17 years. In his indispensable book, Firing at Will: A Manager's Guide, Jay explains why he, too, is a critic of performance appraisals, labeling them “the dumbest managerial tool,” and explains how they can actually hurt your chances in court.

Deleterious Effects of Performance Appraisals

Performance appraisals have become, to borrow a term from the medical profession, an iatrogenic illness—that is, a disease caused by the doctor. An estimated ten percent of all hospital patients suffer from this type of disease. We need to apply the Hippocratic principle of primum non nocere (“first, do no harm”) to the performance appraisal process.

The following are some of the more serious negative effects of the performance appraisal (PA):

• PAs are counterproductive to “driving out fear,” the one emotion that Dr. Edwards Deming believed needed to be eliminated to improve human performance;

• PAs focus on the weaknesses of the worker rather than his or her strengths;

• Learning is overshadowed by the evaluation and judgment inherent in the PA;

• Even if PAs convey both strengths and weaknesses, it is human nature for negative feedback to drown out positive feedback;

• Effective feedback should occur as needed, not on an arbitrary date on a calendar;

• PAs are a symbol of a paternalistic boss-subordinate relationship based on command and control rather than the knowledge worker being responsible for his or her own development;

• PAs impose a one-size-fits-all approach that impedes relevant, authentic feedback to different individuals;

• Too much “noise” surrounds the PA process: discipline or termination, pay raises, bonuses, promotions, and the like, lessening the focus on performance improvement;

• Ranking people against each other does not help them do a better job. Ranking people, also, by definition, creates “bottom performers,” regardless of the absolute value of their work;

• PAs devote far too much scarce leadership attention to underperforming employees rather than top performers;

• PAs are extremely costly to administer relative to their meager benefits;

• PAs provide no effective method for holding people accountable for future results, since they focus on the past;

• Any self-acknowledged weakness by a team member can be used against them, deterring learning and self-development;

• PAs confuse delivering effective feedback with filling out bureaucratic forms and check-the-box administrative activities that have no connection to strategic purpose or value creation;

• PAs reinforce a requirement for human-resources departments to keep KGB-like dossiers on team members;

• PAs create a false impression that a scientific and objective process is being applied to measure individual performance. Yet all PAs, in the final analysis, are subjective and based on judgment;

• PAs obscure the fact that a firm is an interdependent system, and what matters is the performance of the whole, which is not merely the sum of its components;

• PAs provide the illusion of protection from lawsuits and allegations of wrongful termination, when in fact they rarely offer that protection—and often backfire in litigation.

• According to author Daniel Pink in “Think Tank: Fix the workplace, not the workers” (November 6, 2010), “Performance reviews are rarely authentic conversations. More often, they are the West’s form of kabuki theatre—highly stylized rituals in which people recite predictable lines in a formulaic way and hope the experience ends very quickly.”

Replacing the Performance Appraisal

It is time to move to a model where courage is valued over caution, and command and control is replaced with connect and cultivate. Ultimately, it is the intensity of interactions with intelligent people, along with great ideas, that attracts and develops talent—not the efficiency of a firm’s administrative processes.

Three strategic resources replace the performance appraisal system:

1. Key Predictive Indicators for Knowledge Workers

2. The Manager’s Letter

3. After-Action Reviews

Key Predictive Indicators for Knowledge Workers

A critical distinction is being made between a key performance indicator and a key predictive indicator. The former is merely a measurement—such as the number of patents filed, or new clients—but lacks a falsifiable theory. The latter, by contrast, is a measurement, or judgment, guided by a theory, which can be tested and refined, in order to explain, prescribe, or predict. It is the search for cause and effect.

Knowledge work is not defined by quantity, but quality; not by its costs, but results. The traditional tools of measurement need to be replaced by judgment. And there is a difference between a measurement and a judgment: a measurement requires only a scale; a judgment requires wisdom.

So many firm leaders worry that if they get rid of objective measures, they will introduce subjective bias into the decision-making process. So what? To get rid of bias we would have to give up emotions and discernment, which is too high a price to pay. Neurologist Antonio Damasio has studied brain-damaged patients, demonstrating that without emotion it is impossible to make decisions.

Admittedly, the following KPIs raise rather than answer questions, but at least they raise the right questions. Better to be approximately relevant rather than precisely irrelevant. Enlightened organizations allow their team members to decide which of the following KPIs are most important to track and develop.

• Client Feedback - What are the customers saying—good and bad—about the team member? Would you trade some efficiency for a team member who was absolutely loved by your customers? How does the firm solicit feedback from its customers on team-member performance?

• Effective Listening and Communication Skills - It is easier to teach reading and writing, which are solitary undertakings, than to teach listening and speaking, which always involve human interactions. But how do you measure listening and communication skills?

• Risk Taking, Innovation, and Creativity - How often do employees take risks or innovate new ways of doing things for customers or the company? Do they engage in creative thinking in approaching their work?

• Knowledge Elicitation - Aristotle said, “Teaching is the highest form of understanding.” Knowledge elicitation is the process of assisting others to generate their own knowledge. Note that this encompasses more than simply learning new things; it involves educating others so that they are able to generate their own knowledge. One of the most effective techniques for knowledge workers to learn any subject—especially at a very deep level—is to teach it. How often do the team members facilitate a “lunch and learn” about an article or book they have read or seminar they have attended? How good are they at educating their customers and colleagues?

• Continuous Learning - What do team members know this year that they did not know last year that makes them more valuable? This is more than simply logging hours in educational courses; it would actually require an attempt to judge what they learned. How many books have they read this year? More important, what did they learn from them? One of the objections we hear to investing more in people’s education is “they will leave, and possibly become an even stronger competitor.” This is no doubt true, although a company faces the risk of their leaving anyway. But what if you do not invest in their education and they stay?

• Effective Delegator - Peter Drucker believed that up to one-quarter of the demands on an executive’s time could be consigned to the wastebasket without anyone noticing. Does your organization encourage its knowledge workers to become effective delegators?

• Pride, Passion, Attitude, and Commitment - If you thought some of these other KPIs were hard to measure, how would you measure pride? Although not a substitute for actual talent, pride in one’s work, customers, colleagues, employer, and values are critical to operate with passion and commitment.

• High-Satisfaction Day - I am indebted to John Heymann, CEO, and his Team at NewLevel Group, a consulting firm located in Napa, California, for this KPI. An HSD is one of those days that convinces you, beyond doubt, why you do what you do. It could mean landing a new customer, achieving a breakthrough on an existing project, or receiving a heartfelt thank-you from a customer. Sound touchy-feely? John admits that it is. But he also says that the number of HSDs logged into the firm’s calendar is a leading indicator—and a barometer—of his firm’s morale, culture, and profitability.

We can’t measure a doctor’s beside manner—it has to be experienced. Efficiency metrics cannot count all the energy, enthusiasm, and commitment that employees decide not to contribute.

The Manager’s Letter

Another practical suggestion to hold people accountable for their future contribution is what Peter Drucker called the manager’s letter, as explained in John Flaherty’s book, Peter Drucker: Shaping the Managerial Mind:

[Setting objectives] is so important that some of the most effective managers I know go one step further. They have each of their subordinates write a “manager’s letter” twice a year. In this letter to his superior, each manager first defines the objectives of his superior’s job and of his own job as he sees them. He then sets down the performance standards that he believes are being applied to him. Next, he lists the things he must do himself to attain these goals––and the things within his own unit he considers the major obstacles. He lists the things his superior and the company do that help him and the things that hamper him. Finally, he outlines what he proposes to do during the next year to reach his goals. If his superior accepts this statement, the “manager’s letter” becomes the charter under which the manager operates.

Procter & Gamble utilizes what it calls the Work and Development Plan, in lieu of performance appraisals, which lays out the work to be achieved in the upcoming year, how it links to the business plan, the measures and timing for success, and expected results.

What makes the manager’s letter so valuable is its focus on opportunities, results, output, and value, rather than problems, inputs, costs, and activities. Performance appraisals can only report on the past, revealing problems, never opportunities.

After-Action Reviews (AARs)

The U.S. Army’s use of AARs began in 1973, not as a knowledge-management tool but as a method to restore the values, integrity, and accountability that had diminished during the Vietnam War.

Reflection without action is passive, but action without reflection is thoughtlessness. Combine experience with reflection, and learning that lasts is the result. What percent of your firm’s time is devoted to improving the work, not just doing the work?

The objective is not just to correct things, but to correct thinking, as the Army has learned that flawed assumptions are the largest factor in flawed execution.

But perfectionist cultures, however, resist this type of candid introspection, as they tend to be intolerant of errors, and they associate mistakes with career risk, not continuous learning. The medical world has an appropriate axiom for mistakes made: forgive and remember. AARs should not be used for promotions, salary increases, or performance appraisals.

For more information on AARs, the book Hope is Not a Methodby Gordon R. Sullivan and Michael V. Harper, is an excellent resource.

Confronting People with Their Freedom

You can’t keep on doing things the old way and still get the benefits of the new way.

––Thomas Sowell

Because knowledge workers are volunteers, we could learn a lot from the not-for-profit sector. They know how to leverage people’s gifts, whereas performance appraisals are more concerned with people’s weaknesses.

Management thinker Charles Handy has spent his career arguing that organizations are living communities of individuals, not machines. He offers a splendid metaphor in his autobiography, Myself and Other More Important Matters, which I believe is applicable to knowledge workers and the performance appraisal process: the theater.

“There’s no talk of “human resources,” everyone is listed on the playbill, and managers are for things (stage, lighting, etc.), not people. The talent is directed, not managed, by someone who departs after the project commences. The audience feedback is immediate, not one year after the performance.”

Author and consultant Peter Block says, “The real task of leadership is to confront people with their freedom.” Performance appraisals inhibit autonomy and responsibility; they are the buggy whip of the knowledge era—an example of yesterday holding tomorrow hostage. Do we have the courage to replace such an ineffective process?

Performance appraisals are, after all, an iatrogenic illness, which means: physician, heal thyself.

Other books and resources mentioned

Ron's LinkedIn blog post, Appraising the Performance of Performance Appraisals. Be sure to read some of the 170 comments.

Ron's LinkedIn blog post, Replacing the Performance Appraisal. See some of the 488 comments.

A two-part interview Ron gave on Replacing Performance Appraisals for LocalJobNetwork.com, from LinkedIn.