#14: Expectations move slower than reality; Reality is moving faster than ever; Variance dampening and the Internet; Margins are slim at the top
Nov 8 - Dec 24, 2021
Expectations move slower than reality
Morgan Housel summarized the evolution of American socio-economic history since WWII as distinct epochs:
The Great Depression forced America into a more innovative, scrappy culture.
WW2 followed, which left a majority of Europe’s manufacturing capacity, labor force and economic strength in tatters. This created a massive open window for America which had a large, suddenly-free, labor force who needed employment.
The US government kept interest rates low, and encouraged borrowing and consumption; a manufacturing/industrial boom ensued driven by both domestic [debt-fueled] consumption and exports. Household debt grew 5-fold from 1947 to 1957 to finance this consumption, but income growth was also strong, so household debt-to-income stayed below 60%.
The 1950s and 1960s were a period of great prosperity, growth, and optimism, and created the post-war expectation of equality: Not necessarily equality of income, but equality in lifestyle and consumption expectations i.e. the idea that someone earning a 50th percentile income shouldn’t live a life dramatically different than someone in the 80th or 90th percentile.
Expectations always move slower than facts. And the economic facts of the 1970s through early 2000s were that growth continued, but became more uneven [skewed to the rich], yet people’s expectations of how their lifestyle should compare to their peers did not change.
It was a new economy. The biggest difference between the economy of the 1945-1973 period and that of the 1982-2000 period was that the same amount of growth found its way into totally different pockets. Between 1993 and 2012, the top 1 percent saw their incomes grow 86.1 percent, while the bottom 99 percent saw just 6.6 percent growth. It was nearly the opposite of the flattening that occurred after that war.
Why this happened remains hotly debated without consensus; what does matter is that sharp inequality became a force over the last 35 years, and it happened during a period where, culturally, Americans held onto two ideas rooted in the post-WW2 economy: That you should live a lifestyle similar to most other Americans, and that taking on debt to finance that lifestyle is acceptable.
Keeping up with the rich became harder, but was more ingrained into the culture, so people kept borrowing more. Household DTI increased from ~60% in 1970s to ~100% by 2000 and ~140% by 2007.
A lot of debt was shed after 2008. And then interest rates plunged. QE and Fed backstops kept the value of homes and investments high, disproportionately benefiting the rich and increasing inequality further.
Housel opines: Part of the reason these expectations have stuck around for 35 years after they shifted away from reality is because they felt so good for so many people when they were valid. Something that good – or at least the impression that it was that good – isn’t easy to let go of.
The Tea Party, Occupy Wall Street, Brexit and the rise of Donald Trump each represents a group shouting, “Stop the ride, I want off.”The central theme of this story is that expectations move slower than reality. That was true when people clung to 1950s expectations as the economy changed over the next 35 years. And even if a middle-class boom began today, expectations that the odds are stacked against everyone but those at the top may stick around.
So the era of “This isn’t working” may stick around.
And the era of “We need something radically new, right now, whatever it is” may stick around.
Which, in a way, is part of what starts events that led to things like World War II, where this story began.
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This was a fascinating article, with a very Maslow-ian lens to look at the insanity of the last 5 years (crypto, Gamestop, Trump, anti-vaxxers). I don’t subscribe (and I don’t think that Housel proposes either) that this is a standalone, self-sufficient explanation, but it definitely merits consideration as one of multiple factors driving the world.
And if late Millennials and GenZ-ers have a nihilistic/pessimistic view about the world and its institutions, then some of those expectations will stay for a while. The Internet will continue to improve at connecting and enabling interest-based or mission-driven communities at a global level. And technology that is gatekeeper-unfriendly will continue to have broad appeal (which will not lose its sheen even when multiple of them get exposed as frauds/scams, since the socio-personal rage against the institutions will keep drawing people to them).
Variance dampening, and the Internet
Matt Clifford on the Infinite Loops podcast (ep. 77) (heavily paraphrased):
One way to think about modernity is that the last 250ish years have been about the triumph of non-weirdness; there has been continuous motion towards the reduction of variance in our lives. And you can see this across every domain of human activity - the economy, health and wellbeing.
We did this by collectively creating variance dampening institutions to rescue our species from a [Hobbsian] life that was nasty, brutish, violent and short.
Liberal democracy is an incredible reducer of variance. No longer do you hand over power via war or assassination, you just have an election. Monetary economics is a way to tame the business cycle over long periods of time. We developed all these institutions, the rule of law, constitutional rights…to make life more predictable.
And then in the midst of these fantastic variance dampening institutions, we accidentally unleashed the mother of all variance amplifying institutions -
the Internet. The Internet selects the weird and amplifies it. And we suddenly introduced this variance amplifying institution right into the middle of our somewhat peaceful variance dampened lives, and chaos has ensued.
Two Worlds
A hard thing to wrap your head around in economics is the idea that two opposite things can be true at once.
Consumers are in the best shape they’ve been in, ever.
A huge portion of consumers think that’s bogus because they’re in the worst shape they’ve been in, ever.
Both are true.
The impact of technology and globalization, fast-forwarded by the pandemic, has created bipolar outcomes.
A business can either operate in a pandemic or it can’t.
You’re essential or you’re not.
You can work from home or you can’t.
Inequality had already been rising pre-pandemic, but the pace accelerated sharply. Tensions are rising.
“Margins are slimmer than what people think”
Roger Federer (paraphrased):
I think margins are much slimmer than people think they are. If you win 53% or 55% of the points, you are winning the match, and actually dominating if you win 55% of 60% of the points played. If I win 6-4 or 6-3, you’d think that I must have won 70% of the points, but it’s much lesser than that.
I think what you want to try to create as a player is that you’re not playing at the limit of things….that your base is so high that you can always rely on it, but you also have several strengths in your game….so if one goes away, you can can still absorb that. I think what separates the absolute great from the other players is that we can rely on several things to keep us alive in a match. (source)
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This is similar to what I have learned from poker too. As the skill level of players converge, the game becomes more about luck.
Or as Phil Hellmuth puts it, “If there weren't luck involved, I would win every time.”
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I can’t find the source anymore, but I remember reading a tweet that roughly went:
If you can narrow down the top 10% of candidates, any selection/interview criteria after that basically boils down to randomness/luck.