Re:Balance -- Jim Peterson

The Airbus A380 as a Risk Assessment Case: Cracked Ribs Do Not Signal Good Health

Cause for concern are reports that European air safety officials have ordered inspections of cracks in the mounting brackets that attach the wings of the Airbus A380 – already a plane with a long history of delays, design issues and cost over-runs.

And if the bland assurances being spun by the manufacturer’s publicists – that “the cracking problem … is not a safety risk in the short- to medium-term” – reflect the company’s risk assessment attitude, then a suppressed but potential catastrophe is a matter of time – a mid-air disintegration with massive casualties and the subsequent grounding of an entire discredited fleet.

I am just winding up a month-long Risk Management teaching engagement, migrating an MBA-level curriculum to a class of undergraduates.[1]

Some recalibration has been involved. At the graduate level of business and law students, our focus is on the broken models and ineffective risk processes that have characterized the worlds of finance and banking, insurance, accountancy and professional services, over the years of the credit crisis. These run through the period -- from the collapse of Bear Stearns to that of MF Global; from rogue trader Jérôme Kerviel at Société Générale to his UBS counterpart, Kweku Adoboli; from the corruption of the American subprime mortgage market to that of Japanese corporate governance at Olympus.

Younger students stay with the basics – the human behaviors by which incentives are skewed, failures are rationalized away, and incipient disasters are hidden under the mistaken illogic that safety and soundness can be inferred, only because a breakdown “hasn’t happened yet.”

The discovery of cracks in the “rib feet” of the A380s presents a long-familiar challenge: what response is proper to the emergent symptoms of a potentially devastating event?

It is all too natural to put up an optimistic face – to admire success and to wish away the language of bad news. But the consequences can be dire:

• The late Steve Jobs may well have paid with his life for his denial-based postponement in treating his pancreatic cancer.

• The Italian liner Costa Concordia would most likely be cruising in comfort, rather than lying as a hulking wreck, had the supervisors tracking its earlier near-shore wanderings acted on the ready GPS data revealing the captain’s record of reckless behavior.

• And the signs of corruption in Bernie Madoff’s Ponzi operation were well within view, both to the SEC and to his investors, had they not chosen to turn blind eyes to the readily apparent.

Historical memory is hard to hold, especially where corporate budgets and profits and bonus payments depend on the wishful avoidance of delays, repairs and caution-based slow-downs.

But for learning directly applicable to the A380 and its cracks, my students have just scrutinized the 1986 case of the space shuttle Challenger – launched to its fatal explosion, before they were born, over the engineers’ objections that cold weather would threaten the flexibility of the eroded O-ring seals on its rocket booster.

The logical flaw in the shuttle case extends: The fact that prior launches had succeeded, despite O-ring erosion, did not provide comfort for future launches under other conditions. No more, that the A380s may have flown so far without incident despite wing bracket cracks – when such potential stresses as severe weather, hard landings or simple future wear-and-tear fatigue would change the failure calculations and render invalid the assumptions underlying margins of safety. 

In other words, paraphrasing with emphasis physicist Richard Feynman on the shuttle, “the A380 rib feet were not designed to crack. Cracking was a clue that something was wrong. Cracking was not something from which safety can be inferred.”  

In the Challenger case, seven astronauts and a space vehicle were lost to the deficiencies in NASA’s risk management. As for the A380, has any learning occurred?

As soon as my final grading is done, I will be uplifting for Paris and a spring-semester teaching gig with law students there.

But not on an A380. In its wounded state, I will be happy to book on the robust aircraft of an American airline.

 

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[1] My thanks and gratitude to the congenial community of Carthage College – faculty, administration, support and especially the students in my seminar – for a welcome and an experience as warm as this unseasonable winter in Kenosha, Wisconsin.

 

The Next Home for International Financial Scandal? If You Can Find It -- It's Malta

I recently made my first visit to the tiny island nation of Malta – once the Mediterranean crossroads of crusaders, smugglers, pirates and profiteers, now better known as a way-stop on the marine route of refugees fleeing coastal North Africa for near-by Sicily and mainland Italy.

My impressions -- of a country and people with much to be modest about -- leave me uneasy, with Malta now touted as headquarters to a rapidly-expanding roster of European-based hedge funds – e.g., here and here.

This is not good news. Because if true, the fuse is lit and sparking on the next explosive weapons of financial destruction.

For all its storied history, today’s Malta is a backwater. The country’s low-wage economy survives on limited tourism for history buffs, and second-language schools serving a heavy demand for English because the native tongue with its Arabic origin and Latin orthography is unlearnably complex, marginalized, and disappearing.

In by far the smallest country in the Euro zone, with a population of 400,000 mainly unprepossessing Catholics, the focus of governance is limited to the legality of divorce. While, as I was told by the under-employed college graduate who drove our taxi from the airport, ”You’ll probably never see a policeman during your visit. There’s so little crime, they go into the parks and sleep in their cars behind the trees.”

Transport on Malta until last summer’s upgrading was dominated by fleets of clapped-out orange and yellow buses, of a vintage more worthy of pre-Castro Cuba than a full-fledged member of the European Union.

The inevitable question asked by a tourist looking over the pervasively sand-colored Italianate architecture is, “Doesn’t a country with aspirations to be taken seriously care enough to wash its cars and clean the dirt off its windows?” To which the prompt and unashamedly self-deprecating answer, “who cares?” is that the prevailing winds off the African desert make a daily layer of dust as inevitable as the sunrise itself.

After centuries of outside dominance, latterly in the form of British colonial oppression until independence in 1964 and eventual troop withdrawal in 1979, a legacy of brain drain and talent flight assures a vacuum of local vision and mediocrity of leadership.

“Maltese” evokes several things – post-Crusade centuries of knightly influence, toy-sized white dogs in the laps of ladies who lunch, and the elusive avian statue that so bedeviled Humphrey Bogart’s Sam Spade in the eponymous 1941 re-make of Dashiell Hammett’s noir novel. 

What it does not call up is a legitimate industry of well-regulated financial institutions.

So what is nascent, with the explosive growth of a Maltese hedge fund sector, is dangerous regulatory arbitrage – the potential for a rush to the bottom not seen since “regulatory capture” in Antigua and Barbuda laid the foundations for Allen Stanford’s Ponzi scheming, through his purchase of a tin-plated knighthood along with the compliant gate-keepers’ keys to that country’s thatched-cottage banking industry.

The cases are legion that even big-country regulators have been asleep on the watch – from the SEC’s failure to finger Bernie Madoff, to OFHEO’s late-arriving blinking at the sub-prime mortgage trainwrecks of Fannie Mae and Freddie Mac, to the PCAOB’s belated discovery of something rotten in reverse-merger Chinese public companies coming to America to list on its exchanges.

So the chances that the Maltese have the competence to escape a worse fate, in response to the invading hordes of hedgies in their private jets and sharply tailored suits, are precisely nil.

I have been bold in this space to make an occasional prediction about the expected times and places for outbreaks of unpleasantness – in Islamic finance, a Madoff-related suicide, or the rates of white-collar recidivism exemplified by Barry Minkow’s return to prison – with a record that is almost distressingly robust. 

Readers prepared to files these views on the likelihood of serious mischief erupting on Malta into a time capsule with a three-to-five year seal are invited to check back with me then.

In the meantime, pending the passage of time sufficient to prove me right, prudence suggests that investors seek a home for their hot and mobile Euros other than Malta.   

 

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Review -- Book of the Year: Daniel Kahneman, "Thinking, Fast and Slow"

One of my students in Risk Management at the University of Chicago beat me to a reading of Daniel Kahneman’s recently-released “Thinking, Fast and Slow” (Farrar, Straus and Giroux, 2011, 418 pp.). 

A young man of few words but crystalline insights, he brought to class this terse review of Kahneman’s reprise of four decades of ground-breaking research into the flaws and fallacies embedded in judgments and choice-making:

“Too long” – he was typically pithy. “But brilliant.”

Right, on both counts. Start with the second: 

Modern English literature would have been impossible without the works of Shakespeare, if few others. The same, going back to the 1970’s: Kahneman and his late collaborator, Amos Tversky, opened whole new fields of inquiry and perception into human behavior.

Thanks to their pioneering work, we have the means to be both entertained and informed by the lessons in “Moneyball” (both the movie and Michael Lewis’s book), such as the stubborn clinging to soon-to-obsolesce folk verities by the talent scouts gathered in Billy Beane’s baseball clubhouse in Oakland.

And we can appreciate being rightly agog at the singular slogan of the credit crisis, the feckless pronouncement of Citigroup’s Chuck Prince in the summer of 2007, that “as long as the music is playing, you’ve got to get up and dance. We’re still dancing.”   

More broadly, Kahneman and Tversky gave us the means to identify – and desirably to comprehend, although that is subject to much doubting skepticism – whole categories of sub-optimal decision-making. Consider such influences as:

• Herd behavior – and the entire population of mutual fund advisors, unable to distinguish the dubious quantity of talent in their performance from the simple effects of random luck.

• The compulsion to construct compelling if entirely unreliable stories based on tiny bodies of data – and the daily flood of the commentators’ vacuous “explanations” for insignificant price moves in the securities markets. 

• The whole industry of prediction models that are blind to their in-built exposures to rare but catastrophically destructive events – thinking, with sorrow and anger, of the graveyard population of financial structures, from Bear Stearns and Lehman Brothers to the Icelandic banks and the Irish real estate market, right on down to the “repo-to-disaster” at MF Global.

As for my student’s first words – Kahneman’s editor falls into the genre’s too-familiar pattern of over-stuffing between the covers. To be sure, the book is worth its price for its two appendices alone – Kahneman and Tversky’s landmark papers on the irresistible reliance on heuristics and biases, and the assessments of risk appetite and aversion in decision-making under conditions of uncertainty.

But it fails to distill and sharpen, for just one example, the unappreciated significance of regression to the mean in cases where hindsight attribution of causation is a cause of systemically erroneous decision analysis. 

That’s by way of quibble, for Kahneman has brought about a worthwhile trade-off: in exchange for any loss of readers deterred by an over-weight hundred pages, he has gained the achievement of a career-spanning reference work, to become dog-eared on the desks of those of us who will hope in small ways to pass his genius on to the next generation of the students of risk.  

  

This will be by way of valedictory to a difficult and challenging year -- to wish all readers a healthy and peaceful 2012 – even if the new year bids fair to be no less volatile and unpredictable than the old.

January marks this blog’s fourth birthday – celebrated in anticipation that inevitable new eruptions of corporate malfeasance, the capacities of regulators for continued mischief-making, and their continuing and frustratingly ineffective inter-actions with issuers and auditors, will all continue to provide material worth addressing. 

   

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Lessons in Risk Management: A Broken Clock is Never Right -- It's Just Broken

The national recalibration caused by this weekend's fall-back to standard time is a reminder of the cliché recently repeated by a friend, that: 

“Even a broken clock is right twice a day ….”

Or so it is supposed, for the proposition that some information is better than none at all.

I will spare my friend's identity, since this is not personal. But as studied by my students in Risk Management, it is vitally important to scrutinize both what you know and what you don’t – and not be misled into missing the difference by the invocation of familiar but unexamined verities.

I surveyed my students – who with their PC’s and iPads and smartphones are carrying around an average of 2.5 devices providing them with the hour – of which only a fraction are readable by way of little hands pointing at a circular array of twelve numbers on a dial.

It’s the same in today’s public life: the handsome golden landmark clock in Grand Central Station is an anachronism, superseded by the blinking digital screens of the airport flight announcements, the pulsing scoreboard lights of the sports arenas and the obnoxious talking panels of the typical office elevator.

Even in the classroom for my MBA course, a sleek modern rectangular digital time screen hangs above the door.

Here’s the point: when broken, the ubiquitous digital clocks simply go blank. There is no sense in which, when non-functioning, a dark and empty display can ever be “right.”

So the claim is incomprehensible to anyone raised in a world of digital time-pieces. Baby-boomers are likely the last at risk of being led astray, having grown up with (and still using) analog time-keeping machinery.

At no time in the diurnal cycle is any meaningful time guidance offered by a crashed computer or an uncharged cell phone – or, for that matter, a dead microwave or DVD player or any of the myriad of appliances now equipped with digital clocks on which generations younger than the fogies rely.

The “right twice a day” assertion also suffers a more subtle flaw: How do you know? The question of “right-ness” is only testable by reference to an outside source. Looking at the hands of a broken clocked stopped at the classic “ten-to-two,” you may suspect being late for lunch.  But you can’t know without a working alternative. Whatever its format, no informational value is added by viewing the face of a dysfunctional clock.

The inquiry really needs to go down another layer, though, to the reason for calling on the cliché in the first place.

Examples abound where a little information is actually worse than none, especially where users are lulled into a false sense of security and over-confidence.

Unmarked and narrow country roads suffer a lower rate of fatal vehicle accidents, for example, than high-speed expressways, even if the latter are fitted with lane markers and rumble strips and crash barriers, precisely because the rural lanes demand high degrees of focus and attention, prudence and speed discretion.

Equally, day traders seduced by computer-generated graphs and charts of stock price activities are lured into the misapprehension that the flood of data is a reliable measure for predictability, only to crash and fail at the rate of amateur punters in a casino.

And on a global scale since 2007, the road to financial ruin has been littered with the reputational corpses of those who mistakenly believed that the quants’ “value-at-risk” models and their off-spring sufficed to support their portfolios of exotic financial products – among them, Jimmy Cayne of Bear Stearns, Chuck Prince of Citi, Dick Fuld of Lehman Brothers and most lately, Jon Corzine at MF Global.

Which is not to say that there is nothing at all to learn from a clear-eyed acknowledgement of the limits on the knowable. But more likely than an unexamined repetition of a maxim that is both conventional and therefore probably wrong, let the inquiry seek wisdom from the more humble perspective of the counsels of caution. 

PS: An invitation: send me your suggestions for other clichés worthy of attention and deflation. Thanks.

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A Lesson from the PCAOB's Inspection Reports -- Never Wrestle with a Pig

The October 17 release by the Public Company Accounting Oversight Board of previously-undisclosed portions of its 2008 inspection report on the Deloitte firm generated predictable bursts of umbrage from the usual suspects --  e.g.,  here, here and here.

The cottage industry of the professions’ critics may be satisfied with nothing less than the collapse of the large accounting firms’ business model and the entire franchise of privately-provided assurance. But because self-interest requires a steady supply of stones on which to grind their axes, the sniff of sanctimony resembles Captain Renault’s “shock” at the discovery of gambling at Rick’s Casablanca nightclub.

From its press release, the Board:

“takes very seriously the importance of firms making sufficient progress on quality control issues identified in an inspection report in the 12 months following the report. …The Board can and does make the relevant criticisms public when a firm has failed to do so." 

Flawed, opaque and ineffectual the PCAOB’s inspection and reporting process surely is – measured by its failure to achieve public credibility as a constructive force for improved financial reporting quality, even as it adds to the lives of auditors only added stress and box-ticking.  

That said, here is a message for the large firms: there are at least two grounds on which to question the reflexive approach taken by Deloitte, to fight off the inspection process by repeating the theme that:

“Professional judgments of reasonable and highly competent people may differ as to the nature and extent of necessary auditing procedures, conclusions reached and required documentation. We believe that reasonable judgments should not be second guessed and, therefore, disagree with a number of comments as indicated below."

The first is simply that it is bad form to convey to a regulator a tone of unvaryingly stubborn antagonism – a lesson that Arthur Andersen’s death spiral should have etched in memory. Having neither competence nor authority to act on a preventive basis, the PCAOB’s only tool is deployment of its functionaries to use their hindsight after the fact. So its minions must feel the hostility of disrespect, when challenged in their very raison d’être. 

Or as my grandfather would say, back on the farm, “Don’t wrestle with a pig. You get covered with pig-sh*t, and the pig actually likes it.”

Second and more nuanced – the accounting profession’s on-going and unsuccessful struggle with the public expectation of “zero defects” performance is not aided by the futile repetition of arguments that all judgment calls should go its way.

Instead, successful improvement strategies involve the candid recognition that performance shortcomings present learning opportunities, however unpleasant. The fields of engineering, air traffic safety and hospital ER techniques are exemplary – whereas the auditing profession has never acknowledged or embraced the utility of an effective forum for “failure study.”

“Close calls,” when rationalized away, are not problems fully diagnosed or properly solved, but rather are only buried hostages to fortune, lurking and growing and waiting to erupt.

So a mindset at senior levels, that outsiders’ criticism is to be deflected as nuisance and distraction, is at least an impediment to improvement, and perhaps an invitation to disaster. Examples range from the NASA management’s over-ride and launch of the doomed shuttle Challenger in 1986, to the chain of multi-level risk assessment faults leading to the BP oil well blow-out, to the SEC’s blinkered refusal to credit the warnings around Bernie Madoff.

None of this is to single out Deloittes – not least because, frisky as he is acting these days, it’s a sure bet that PCAOB chairman Doty has a stack of other Big Four reports ready for near-term release on a slow news day, when the others will suffer in their turn.[1]   

It is rather to suggest – in terms my Risk Management classes address every week – that it is impossible to achieve improvement if you can’t really measure how good you are. 

That realization comes hard – especially when served up by a crude and intrusive regulator – but it still offers a pathway to wisdom.     

 

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[1] And worth noting -- my own dedication to the importance of professionally-provided accounting and assurance – services as old as human commerce – extends back to my first two experiences, decades ago – involving massive problems for Deloitte’s US firm, Haskins & Sells as it then was, each of which led to changes in accepted auditing standards. And sharp-eyed readers have observed the homage on this blog’s banner -- the report issued by Mr. Deloitte himself in 1850 – the first, by my research, and unarguably truly significant, by an independent auditor on a large public company.  

UBS: Roguery at the Bank Provides a Teaching Moment

Kweku Adoboli has done me a great favor.

Many others could not say the same. They include Oswald Grüber, Carsten Kengeter and Maureen Miskovic – the chief executive, head of investment banking and senior risk officer of UBS – whose balance sheet the 31-year-old trader has blown up to the tune of $ 2.3 billion, through the unimaginative if devastating use of fictitious customer trades to mask his massive wrong-way bets on the S&P 500 and other major indices.

While Adolboli will stay another month in custody in London, and Grüber’s team of gnomes in Zurich begin the extended process of damage assessment and control of this latest outbreak at the troubled bank, I have the privilege of bringing to a seminar at the University of Chicago Law School the MBA-level course in Risk Management I have taught at business schools these last three years.

Arrested on the third anniversary of the collapse of Lehman Brothers, Adoboli not only lets me throw out the opening pages of my introductory lecture notes, on the inevitable eruption of large-scale unmanaged risks in complex systems. He also replaces Société Générale’s Jérôme Kerviel as a final exam topic on the test question, “Where’s the rogue?” 

In the law school environment, we will explore the proposition freshly demonstrated at UBS, that compliance-oriented risk systems – limited in concept, execution and assurance to the narrow and unsatisfactory conclusion that “most things are working, most of the time” – are both wasteful and ineffective to detect or deter an existential threat.

It’s as true for a rogue trader as for a suicide terrorist: doing pat-downs or box-ticks of an entire population, whether grandmothers on airplanes or bank clerks writing customer orders, will not stop the dangerous deviant capable of causing a blow-up – however much those intrusive and costly procedures may serve the political goal of lulling both leaders and constituents into a false if harassed sense of security.

In context of Adoboli’s shenanigans, said to date back to 2008 when UBS itself was bailed out of the consequences of its ill-fated venture into subprime mortgage-backed derivatives, on through its climb-down before the Justice Department over the business of sheltering US taxpayers, there is painful irony in reading the bank’s self-congratulation on the subject of its risk management. Take, for example, excerpts from its 2010 annual report:

“Operational risk is the risk resulting from inadequate or failed internal processes, human error and systems failure, or from external causes (deliberate, accidental or natural). Events may be manifested as direct financial losses or indirectly in the form of revenue forgone as a result of business suspension. They may also result in damage to our reputation and to our franchise causing longer term financial consequences.

“Managing risk is a core element of our business activities, and operational risk is an inevitable consequence of being in business. Our aim is not to eliminate every source of operational risk, but to provide a framework that supports the identification and assessment of all material operational risks and their potential concentrations in order to achieve an appropriate balance between risk and return.

“… Management, in all functions, is responsible for establishing an appropriate operational risk management environment, including the establishment and maintenance of robust internal controls and a strong risk culture.” (All emphasis added.)

With that, a question could be posed to Mr. Grüber concerning the bank’s reported 2010 payment of fees to Ernst & Young of 67.4 million Swiss francs ($ 59 million at today’s exchange), of which CHF 58.5 million were classified as audit, to obtain the latest annual version of a standard auditor’s report:

“With hindsight, how badly would you have wished to re-direct some portion of that audit fee to an engagement to conduct a precise and effectively directed, root-and-branch scrutiny of the condition of the controls at the sections of your bank having potential to inflict multi-billion dollar harm?”

Because herein lies the puzzle, about the unavailability of such valuable assurance to replace today’s outmoded commodity product:

In launching its concept release on the auditors’ report, Public Company Accounting Oversight Board chairman James Doty’s June 21, 2011 statement acknowledged “generalized investor dissatisfaction with the pass-fail model, and generalized frustration with auditors who had issued unqualified opinions on the financial statements of banks that later failed.”

And yet -- the entire community of financial statement issuers, users, regulators and auditors remain committed to what one comment letter notes as “the PCAOB’s intent to retain the current (‘pass/fail’) form of the auditor’s report.” As stated, there is “overwhelming support from all stakeholder groups for retaining this long-standing approach to auditor reporting.”

Why?

Kweku Adoboli now stands as poster boy for the unrecognized urgency of replacing that model.

 

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Racing to Avoid a Crash: On the Track -- On the Street

There’s a stack of final papers in my Risk Management course – and an apero on the sunny terrace of the neighborhood café, to ease the grading process.

And a fond wish for one more class session, to dissect last weekend’s lesson in the disastrous consequences of bad risk assessment and choice-making under high-stress competitive conditions.

It happened at Sunday’s Indianapolis 500. Rookie driver JR Hildebrand had a comfortable lead going into the final lap. But instead of riding easily to victory, he attempted a high pass of a slower car on the very last corner, crashed into the wall, and slid his wreck to a second-place finish – passed by the doubtless astounded Dan Wheldon, on whom Hildebrand’s error of judgment and the fickle gods of fate bestowed a gift beyond imagination.

Aggressive, brave or foolish – the high cost of immature enthusiasm under “win or crash” analysis is not rare. Recall the Olympic gold medal that snowboarder Lindsey Jacobellis threw away on her final run at Turin in 2006, with her ill-advised showboating stunt attempt on the last bump.

My class of MBA and Finance students focuses on lessons from highly-consequential decisions, especially in failure situations – drawn from many fields into the worlds of commerce and professional services, where most will eventually work, and where senior leaders charged with risk responsibility have performed so poorly over the last four years.

From Hildebrand’s split-second choice – now part of racing lore and a life-long mark on his career record, they would take at least these two:

First, the skills and energy of the young are to be recognized and respected; a new hot-shot does command attention and can achieve greatness, whether in sport or government or a trading room. But as events at Indy showed, the converse is no less valid. Beginner’s luck is no substitute for seasoned strategy, and those surviving to accumulate the scars of experience bring wisdom that tempers rash choices.

Provided Hildebrand does learn his risk/reward lesson, in other words, he is not likely to repeat it.

Therein lies learning for business and financial disciplines, still struggling past the recent crisis. The tragically short time horizon of the designers of exotic derivatives, and the exclusion from the quants’ risk models of events beyond their recollection, created the conditions for the crushing impact of events erroneously thought to be unforeseeable.

The second lesson from Hildebrand’s choice-making looks at the structure of his decision matrix: a binary choice -- “try to pass” or “lay off” -- but with alternative and different benefits and detriments for each.

The consequences of playing safe and cautious were in his favor: there was no downside, as he was at no risk of being overtaken, and to cruise safely meant a checkered flag.

In choosing to charge the corner, on the other hand, he had negligible upside – he was already holding a dominant lead – while, as events proved, the downside of being unsuccessful was catastrophic.

(Take note, of course, that the calculation could alter dramatically – if, for one case, he was trailing and needed a last-minute pass to advance, or if he was tightly shadowed and at risk of losing his lead.)

The metaphor extends, readily enough:

Should an investment manager double down on a losing strategy, which unless reversed will bankrupt his fund? Or should the size of his positions be controlled along the way, so that no single exposure could threaten his entire firm’s survival?

Should an entrepreneur put all his capital at risk to start a new venture? To a retiree in reasonable comfort, the upside is limited, but the hazard of a failed and penurious old age is real; while to a new graduate with a long view, fortune favors seizing the greatest number of jackpot opportunities.

The under-appreciated risk-assessment obligation, all of this should suggest, lies in deliberate attention, usually overlooked, to the alternative choice: the action foregone, the rejected Plan B, the road not taken, the decision not to charge ahead.

To a rookie Indy driver with his hair on fire and his foot to the floor, this would all seem abstract, bloodless and pedantic. But it should feel otherwise to a risk officer whose strategic control over a floor of stoked-up traders is his bank’s best hope for survival through the next bubble.

Because my students are more likely, post-graduation, to steer companies and to run portfolios, than to drive turbocharged racing cars, the sorry case of JR Hildebrand’s impetuous mis-chance will keep a place in my curriculum.

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Risk Management: Where Shall Learning Be Found?

Here comes summer.

School is out - oh happy day.

     --    Jerry Keller, 1959

Classes finished last weekend for the students in my MBA-level course in Risk Management. They are even now beavering away on their final papers: assessments of the flaws and defects in risk handling among the many catastrophic business failures of the last four years.

While awaiting their efforts and the task of year-end grading, I have two summer projects – both involving the re-calibration of our syllabus, which explores the lengthy catalog of executive and governmental bias, errors, misapprehension and general group-based follies that have defined the recent era of unprecedented excess and turmoil. The differences will be interesting.  

For one, I am asked by a professor at a near-by college whether this curriculum on the diagnostics of fallibility would deploy for a classroom of capable undergraduates. My cautious “yes” rests on the continuity and commonality of the themes:

To take only one of our subjects of study --  the group-think, dissent suppression and publicity-oriented overrides of technical competence that led to the break-up and loss of the Challenger space shuttle in 1986 were replicated in the blow-out of the Deepwater Horizon oil-well in April 2010. Are we learning anything yet?

Or – it does not require a degree in finance to appreciate that the unlearned lessons of the failed financial models that took down Long Term Capital Management in 1998 recurred in the model-driven rush to disaster that spun out of the subprime mortgage derivatives sector starting with the implosion of the Bear Stearns real estate funds in 2007.

The lessons may have evaded the decision-makers at the time, but they are well within the aptitude of a collection of above-average undergraduates.

I am less confident of my second mission – a call from the leadership of a world-class professional services organization. There, job-by-job client delivery is impeccable, but the prevailing attitude toward risk is that “we’ve always done it this way, and it works” – a view that leaves the firm hostage to an inability to distinguish skill from dumb luck.

The challenge to offering advice in the commercial world – an environment be-set by the logically flawed belief that if a problem has not arisen in the past, it will not in the future – is the lack of appetite for the same kind of time and effort that my students put into the scrutiny of multi-disciplinary learning opportunities. “Manage what you measure” is an unfortunately blinkered approach, when it is precisely what you don’t know that blows up and kills you – whether it is among the dinosaurs unable to conceive or adapt to the emergence of the faster, smarter mammals, or Bernie Madoff’s investors with their addictive blindness to the reality behind monthly account statements simply too good to be true. 

It is sensitive, to find diplomatic language in which to convey risk process deficiencies to a senior executive team, where as one commentator bluntly puts it, “They’re not good, and they don’t know it.”

One alternative, in an only slightly more nuanced articulation, is put as a question: “How can you design a strategy to get better, if you lack the skills to evaluate how good you really are?”

Studying past failures is a good place to start. That’s where my students focus their attention – working toward their own personal pay-off in superior skills in analysis and application once they are launched into the workplace.

But that’s not an approach that goes down well in the business and professional world. The humility of accepted limits comes hard to a latter-day Ozymandias such as Dick Fuld or Chuck Prince or Angelo Mozilo – their reputations along with their visages now lying shattered and half-sunk. 

So even as I search for the ways to press for improved perceptions and performance among my clients, it’s a certainty that a renewed cycle of mis-behavior, failures and collapses is brewing and will continue to feed the academic appetite for new material.

Readers having good examples under any of these headings are cordially invited to contribute to the searching.

 

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Recidivism and Risk Management: Barry Minkow Goes Back to the Slammer

Son, always remember: some day, somewhere, a guy is going to come to you and show you a nice brand-new deck of cards, and this guy is going to offer to bet you that the jack of spades will jump out of this deck and squirt cider in your ears. But son, do not bet him, for as sure as you do, you are going to get an ear full of cider.

-- Damon Runyon, “The Idyll of Miss Sarah Brown” (1933)

 A question for those charged with risk management and fraud prevention:

 What’s your company policy on employing or doing business with ostensibly reformed white-collar criminals?

 And is a re-think indicated by the news that Barry Minkow, wunderkind among securities swindlers for the scam at ZZZZ Best in the 1980’s, for which he served seven years of a double-digit sentence on 57 counts, is negotiating a securities-fraud plea bargain under which he now faces fives fresh years of jail time (here).

My concern is a prosaic one – not Hollywood’s question whether his return to federal housing means that the pending Minkow bio-pic requires re-shooting of a new ending (here), or whether the February burglary of $50,000 at the Community Bible Church where he recently resigned as pastor (here) bears any of his felonious fingerprints (here).

It’s only this: Given the rate of relapse among those described by English essayist Charles Lamb as “so crooked that if they’d swallow a spike, they’d void out a corkscrew,” should a company concerned for its reputation and fiscal soundness ever yield to sentiment and invite such a fox back into its henhouse?

Experience over the years counsels against it. Examples in my own catalog include the large-company CEO convict, who finagled a reduced sentence via a convenient medical excuse, and was no sooner paroled to a halfway house than he took over its single pay-phone to peddle the rosy promises of new oil deals. Or the youthful CFO applicant who persuaded an employer of his time-served maturation, following bucket-shop charges; the naïve advice of the audit firm partner was to “keep the kid away from the cash” – unavailing to prevent a scandalous and catastrophic collapse and a portfolio of lengthy prison sentences for the entire executive team.

And it was surely foreseeable, following O.J.Simpson’s circus-trial acquittal, that his temporarily dampened symptoms of renewed personal violence would re-erupt – the only question being the period of his volcanic latency.

For a risk manager the decision-making process is a two-by-two matrix – evaluating the rewards and benefits of a yes/no choice whether to chance re-attachment to someone’s checkered past.

A successful result could yield good and honest performance – non-trivial, but likely not different from that available with many other candidates – whereas the negative – a relapse into criminality – would at minimum be seriously costly and disruptive.

On the other hand the cautious choice to forego the relationship would mean sacrificing the potential contribution of an ex-felon – again, a modest upside – although avoiding the destruction that a recidivist’s presence might cause.

The analytic process has its formulation in the 17^th-century French mathematician and philosopher Blaise Pascal’s wager on the existence of God:

Betting against the proposition, with no particular reward for being right, could – if proved wrong -- suffer the punishment of an eternally vengeful deity. Rather, the wager in favor of His existence carries no hazard if incorrect, but offers the upside of an eternity of bliss.

Minkow’s own now-former church is no doubt a repository of repentance, atonement, forgiveness and charity. Admirable qualities, all. But they should not overwhelm what is learnable from logic and experience.

Namely: the percentage of white-collar wrongdoers in the executive suites is small to begin with. But once the “contingent possibility” is established – that is, an already existing proclivity to misbehave – the risk calculus is fundamentally changed.

There is a cottage industry of ex-cons and their acolytes, working the book-and-lecture circuit and flogging scripts of penitence and redemption pitched to the credulous.

It is one thing to read their stories and even to consider the quondam relevance of their experiences. But the case is not made that they should be entrusted with access to the balance sheets of any enterprise involving other people’s money.

 

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Replace the Big Four with Audits by Government? More Heat in the Kitchen -- and Less Light

What will it take, once for all, to lay forever the ghastly fantasy that audits done by government employees could provide any value to the world’s capital markets?

Like Banquo’s ghost, the gruesome spectre keeps stalking the discourse on the troubled state of privately-provided assurance – for now, dominated for global-scale companies by the fragile and threatened Big Four.

In search for a metaphor with an edge sharp enough to the task, consider:

Does anyone choosing a restaurant ever give one second’s thought to the local health inspector’s report on the state of the kitchen?

I thought not.

Never did a restaurant owner welcome diners or execute a menu with the least consideration of the requirement to pay a nuisance fee, just in order to post on his back wall the same ticket of compliance issued to everyone else – whether the tea shop or the burger joint or the elite purveyor of haute cuisine. 

Nor does that annual documentation provide any significant comfort.

On one hand, whatever that irrelevant certificate may say, competition applies relentless quality pressure in the narrow-margin food service business. A chef has ample incentive for the sake of survival to conform to the standards generally accepted among his peer group – whether running a gyros wagon or a three-starred temple of gastronomy. With ready access to reviewers’ critiques and customers’ word-of-mouth, a clientele will quickly vote the extent of its satisfaction and loyalty with its feet.

So irrespective of the commodity language of the inspector’s report, quality and value will quickly reach equilibrium.

On the other hand, the narrow limits of an inspector’s box-tick are illuminated by the commentators with inside knowledge. The celebrity ex-chef and international foodie, Anthony Bourdain, exposes to the point of hilarity the dirty little secrets of fully-compliant professional kitchens: never order fish on Monday that was carried over the weekend – the best chance for freshness is the chef’s daily special, because of the high volume and extra attention – and for salmonella’s sake, keep distance from the salad bar, never knowing who or what has rooted around there.

Bourdain makes it clear that a restaurant inspector’s annual pass-through leaves customers un-informed about what lurks beneath the grease trap or inside the meat cooler – consigning their reliance instead to the combination of peer influence and managerial attention to reputation and survival.

Which should validate the efficacy of market dynamics over further regulatory intrusion over the audit sector: restaurants, like corporate issuers, fail for multiple reasons, but above a minimal level of legitimacy, not for lack of code compliance.

Just as a health inspector is in no position to assure the quality of a dining experience, audit by government agencies would be helpless in the search for financial statement assurance of any real value -- too little, too slow, and far too late behind the speed of creative private enterprise.

Government audits could be imposed, of course – especially in the event of Big Four disintegration. But the impulse would be expedient and superficial – primarily under politicized motivations as cover for legislators and secondarily to serve the self-interested bureaucracy that would quickly become entrenched.

And the results would be much like the other models for agency-enforced compliance. Effectiveness would be measured by easily–measured inputs rather than defects exposed – think of the numbers of grandmother pat-downs reported by airport security, or inspections conducted by the PCAOB – neither of which has a record of detection or deterrence for all the wasted effort, disruption and expense.

Other examples abound. Consider drivers’ licenses. Above a minimal threshold level, anyone can get one – only to support a large and costly administrative structure interested primarily in its own perpetual existence – while delivering a compliance certificate offering no assurance on the quality of the holder’s ability behind the wheel. 

The entirely justifiable public dissatisfaction with the institutions at the heart of the financial crisis of the last four years, reflected in the legal claims working through the court systems – Bear Stearns, Lehman Brothers, Merrill Lynch, AIG, Fannie Mae, Freddie Mac, New Century, Countrywide, Washington Mutual, as the start of the US list; plus endless examples elsewhere that would include banks in the UK and across Europe from Germany through Ireland to Iceland – rightly challenges the utility of the current financial reporting model and the performance value of privately-delivered assurance.

But great care and caution is required before speculating that the manifest deficiency of an existing model would be relieved by trashing it for another of uncertain and highly doubtful capabilities.

Or as a percipient restaurant critic might suggest – the leap from a well-seasoned but encrusted frying pan may be into an unknown and far more dangerous fire.

 

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Coincidence, Causation and Apple's Stock Price: Further Lessons from the UBS Dress Code

My MBA students in Risk Management study closely the hazards of conflating coincidence and causation – at best mis-leading, and at worst, acutely dangerous.

But sometimes it’s so delicious, we could only wish it so.

Last Monday, with a focus on the never-ending debate over international accounting standards based on general principles or detailed rules, I made sport of the 43-page employee dress code published in December by Swiss bank UBS (here), believing that professional guidance based on the former is definitely preferred.

And the very next day – mirabile dictu – UBS stood down (here), with a sheepish retreat to “what is important” – evidently still, the modest requirement to dress in the bank’s official colors of black, white and red (here).

This was not the grand capitulation to public opinion shown by The Gap, when it hastily withdrew its misbegotten new logo last October (here). But it makes the important point that normative behavior can be modified by non-coercive societal influence – rather than under the heavier hands of legislatures or law enforcement.

I dare not claim a causal relationship between my digs at UBS and its hasty retrenchment – no more, for that matter, did my criticism of PwC’s loopy new logo (here) stimulate a re-think on its part.

A far better case for the caution not to over-weigh coincidence lay in last week’s storm of activity around the stock price of Apple Inc. On consecutive days, January 17 and 18, CEO Steve Jobs announced an indeterminate medical leave, and the company released estimate-smashing results for 2010 – revenues up 71% and net income up 78%.

The pundits’ cacophony went in all directions, following Apple’s closing the prior Friday at an all-time high of 348. Monday’s US market holiday gave a whole extra day for the uncertainty-mongers to stir the pot.

As they did. The ride began with Tuesday’s early trading down at 326, driving back up to close the day at 340 – if only temporarily. Punters in options saw short-dated 320 puts that had closed Friday at 54 cents explode briefly to $ 5, while those betting on a quick recovery could “buy the dip.”

Then during the week, while the major indices were basically flat, both those positions were trashed; Apple peaked back above 348 on Wednesday, doing for any skittish bears, and then slumped to close at 326 on Friday the 21^st, doing the same to itchy-fingered optimists. 

It took the week for events to shake out. Apple’s roller coaster fell out of the technology news, supplanted by the board shake-up at HP (here) and Google co-founder Larry Page’s emergence to sole leadership out of the triumvirate with Sergey Brin and Eric Schmidt (here).

On Monday the 24^th the stock was back to 337, and as things stand on Tuesday it has cheerily closed above 341, looking again at its pre-tumult high.

From the perspective of long-term Apple investors (a group to which I belong, by the way), viewing a price chart over a year or even a month, the price moves over the week are an inconsequential hiccup. But to those caught in a flurry of zero-sum trades, there were real effects.

How would they have divined the reasons and the lessons?

Just as primitive peoples lit bonfires and beseeched the gods of the solstices to return the sun, mistakenly believing themselves both responsible and successful, athletes maintain their winning streaks through locker-room rituals and lucky amulets. Investors too invoke their models and their charts as if to be convinced that their decisions are guided by design and intelligence rather than the randomness of fortune.

Both those shorting Apple on Jobs’s health news and those who bought the company’s future in the narrow trough are congratulating themselves on their insightfulness and perspicacity. While those taking the opposite (and losing) positions – in both directions – are equally wringing their hands that some undetectable malign external forces – surely not their own fault – conspired to sabotage their investment strategies.

All of which goes to confirm yet again, that a hubristic over-confidence unable to differentiate skill from random luck is a dangerous substitute for the humility to appreciate that the market, like life itself, is too complex to be predictable.

Still, it would be nice if someone from UBS would call up and say, “thank you.”

 

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Accounting Standards: Rules or Principles? Lessons From the UBS Dress Code

Goldman Sachs has snatched from its US clients the windfall chance to front-run Facebook's IPO, by limiting access to the potential of its $1.5 billion special-purpose fund to foreigners -- while professing no influence from the fuss-budgets at the SEC (here). So it seems a good time to ask:

Should regulatory compliance and accounting standards be expressed as detailed codes of precisely-drawn rules? Or as broadly-articulated principles?

There are lessons to be taken from the 43-page dress code issued by Swiss bank UBS in December (here).

The debate needs help: endless, pointless and fruitless, it feeds the conclusion that much-touted but never progressed “convergence” between international accounting standards and country-level codes in Europe, the UK and the US is as distant, elusive and unlikely as ever.

Popular reaction is that only a Swiss mentality could perpetrate the obsession at UBS, with its meticulous prescriptions on suit fabrics, cosmetic colors, collar points and hair care both facial and cranial.

Although, a dress code did appear late in my own corporate life – no less ridiculous but also raising non-trivial dissonant issues about the boundaries and effectiveness of guidance.

I was the senior member and titular head of a team based in Paris – an expatriate American amongst colleagues from the major European countries. To a man and woman, all were immensely talented and hard-working. They were also urbane, stylish and beautifully attired.

Global headquarters in the US published its requirements for the new “business casual.” It was only six single-spaced pages, compared to the fulsome 43 pages of UBS – but who’d have expected better from the sartorially challenged Americans?

It went into gruesome detail on necklines and sleeve styles and degrees of elasticity; it proscribed denim and gym gear and athletic branding; and it forbade flip-flops and open toes and footwear of any aerobic provenance.

On a given day, probably one-third of our Paris team would have been out of compliance. But, making their own individual decisions about skirt lengths, or pantyhose in July, or whether to match an Armani T-shirt with a differently-branded suit, my young charges were always impeccably turned out and appropriate for client premises and boardrooms anywhere.

For the purpose, they were capable of proper judgments under the lightest of guidance. At our annual group party our solicitor from Edinburgh was elegant in his formal tartan kilt, dirk and sporn – but for court he was always in proper dark grey suit. On warm spring days the length of limb on display among our lanky cadre of legal assistants was a substantial percentage of their average 1.8 meters – but they all donned decorous trouser suits when the visiting firemen arrived from America.

Which has what to do with the challenge of setting international accounting standards? The answer starts with the extent of mutual trust and confidence shared by a community seeking for mutually-acceptable guidance and limits.

Our Europeans rightly expressed derision and ridicule for the US code, just as most of the world feels for the pathetic efforts of UBS, because of our expectations for what was important: discipline, dedication and execution of first-quality work. Under broad principles of professionalism and good taste, their public face was virtually one of self-regulation.

Whereas if constrained by punctilious trivialities, they would have wasted both their morale and my goodwill, along with countless hours of productive time, on manipulation of the rules in rebellious search for boundaries and exceptions.

It’s no different with financial reporting standards and regulations. History teaches that bright-line limits are pushed to excess by the creative and the aggressive: the depreciation lives of mainframe computers in the 1970’s, the elastic retained ownership requirements for special-purpose entities exploited by Enron in the 1990’s, the investor limits skirted by Facebook under the counsel of Goldman Sachs.

It is the human condition that some deviance from codes of behavior is inevitable – society decides the amount, by voting its willingness to allocate resources to law enforcement and sanctions.

The range across cultures can be vast – from the de facto legalization of recreational drugs in urban America at one end, to the use of flogging in Singapore to punish the consumption of fast food on the public streets.

At the extreme, drunken driving among teen-agers could be eliminated: raise the driving age to 25 and impose capital punishment on first offenders. No less, accounting manipulations could be wiped out – by outlawing commercial transactions in more than one currency or that fail to settle for cash within 48 hours.

But the compromises required of society would never go so far. Instead, the certainty of occasional lapses and excesses is accepted. Limits are broadly defined, and enforcement mechanisms are calibrated -- for both better andworse -- in both the capital market’s use of financial information and the fashion decisions of a business office.

Judged by my experience in the latter, a global environment is far more seemly and operates with more success without the heavy hand of excess regulation.

That will soon be learned, I wager, in the halls of UBS. Whether the new leaders of the Financial Accounting Standards Board and the International Accounting Standards Board will agree is a matter of greater doubt.

 

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Holiday Gifts in Bernie Madoff's Bankruptcy: A Widow Does Her Bit -- and the Banks Will Too

 Holiday gifts arrived early in December for the circle of players around the wreckage that was Bernie Madoff. There are several lessons.

First, the widow of Madoff’s ur-client Jeffrey Picower redefined the landscape of civil forfeitures by agreeing with Madoff trustee Irving Picard to turn over an astonishing $7.2 billion – said to be her late husband’s entire take from a 35-year relationship (here).

Second, Picard himself dumped sacks of coal and lawsuits into the stockings of the Madoff enablers – notably including Unicredit, JPMorgan Chase, UBS and HSBC – charging them with notice of Madoff’s irregularities even while profiting from their proximity as custodians, administrators and managers of the monies fed to him by investors (the FT’s December series is well summarized here).

The former is of interest at least as a matter of social behavior and norm-setting. The latter will have reverberations with effect on the relationships between banks and other intermediaries and their own gate-keepers, including their auditors.

Barbara Picower faced this dilemma: She could have spent the rest of her own life defending against Picard’s suit, fighting uphill to protest the conduct and virtue of her spouse – who, charitably accepting her own claim of innocent ignorance of Madoff’s scheming, confronted the plainly demonstrable character evidence of his propensity to cheat at golf (a favorite post with readers from March 2009 is here).

Or – presumably able to live in adequate comfort on her bequest from Jeffrey of $ 200 million, and thus dramatically re-calculating the magnitude of a “widow’s mite” – she could launder her own status with a dramatic gesture of civility and largesse.

Secular sainthood is seldom so available – and with nary a hungry day either.

The noblesse of the widow Picower has made life less pleasant for Madoff’s other A-list clients. Those like Picower, close enough to finger the tattered edges of his moral fabric, are now forced to choose. They can oppose Picard’s claims to claw back their ill-gotten returns, under the shadow of the widow’s precedential capitulation. Or they can join the settlement queue – although not cushioned by the generous inheritance she enjoys, and to be seen only as belated converts, never to enjoy the halo effect she obtained as first-mover.

Depending on his trawl through Madoff’s client list, Picard is now working on a shortfall of some $10 billion. Of that, it says here that he will extract on the order of $ 1 billion from HSBC alone – precisely on account of the roadmap to its liability provided by the due-diligence engagements performed for the bank by KPMG in 2005 and 2007 and roundly ignored. It’s a plaintiff’s dream and an evidentiary nightmare for the bank that, prediction suggests, HSBC will pay handsomely to keep far away from a trial.

There’s more here, though: The KPMG engagements are a roadmap not only to what was done for its client, but to what could have been done for the other enablers targeted by Picard. Therein will lie a tale for the courts – and another set of eight or nine-figure contributions eventually to reach Picard’s collection basket.

But now for the broader questions: What if HSBC had taken KPMG’s work to heart. Or the other banks and feeder funds had engaged credible due diligence by their advisers on accounting, auditing and controls? Madoff’s pyramid would have been toppled before it reached pedestrian levels.

Suppose by extension, while we are at it, that Lehman Brothers had asked E&Y for a critical study of the exposures lurking in its use of repo derivatives to window-dress its balance sheet? And actually acted on it?

Or that Daniel Bouton at Société Générale had re-deployed a portion of his bank’s costs of external audit to give actionable scrutiny to the corrupted back-office operation that was so expensively exploited by rogue trader Jérôme Kerviel?

Or that AIG had given credence to a state-of-thinking study of the non-correlated nature of the inter-connected structure of the global CDO market?

Instead of the risk management possibilities of available but unavailed sources of wisdom, these institutions continued to subscribe to the one-page, bog-standard commoditized reports that regulators require from auditors – to be ignored in good times, because they convey no value regarding non-problematic operations, and useless for the detection and prevention of catastrophic events in bad. 

It’s a closed and obsolete system as bankrupt as Bernie Madoff himself. In the entire cast of characters, Barbara Picower emerges so far as the best of the whole sorry lot.

 

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Merry Christmas 2010 -- And a Happy New Year to All

 From civilization’s very beginnings, tribes in the north came together on the shortest day of the year, to gather evergreens and build fires and chant petitions to their deities for the return of the sun and warmth on which their survival depended.

Their empirical observation -- that the light did return -- induced them into the spiritually understandable if logically flawed conclusion that there was a causal connection with their rituals.

Which we continue in today's no less challenged time -- this year with the extra benefit of a full lunar eclipse – although now the lights are low-energy LED, the greenery is recyclable and correctly fire-retardant, and the celebrations are as diverse as our widely scattered traditions. And, to confess, we are occasionally diverted from paths of consciousness by the relentless merchandising of redundant consumer expenditure.

This winter solstice, our own family will join at our church in the dark evening’s memorial for the homeless. We will then be at Mass on Christmas Eve, exercising in faith and joy our nation’s freedom of religious practice, and will be with relatives the next day for gifts and feasting.

However you may choose to observe the compelling promise of annual renewal, it is a time to express gratitude for good fortune, to contemplate in our abundance the condition of those whose sufferings we can do something to relieve, and to dwell in brief quiet on the potential to realize peace on earth.

With thanks for your interest and engagement through a difficult 2010, and best wishes to all for a healthy and rewarding new year.

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Book Review: Tony Judt Has a Few Last Words

Ill Fares the Land, by Tony Judt, Penguin Press, 237 pages

“Ill fares the land, to hastening ills a prey,

Where wealth accumulates, and men decay."

-- Oliver Goldsmith, The Deserted Village, 1770

Although I had devoured Tony Judt’s sweeping prize-winner, “Postwar: A History of Europe Since 1945” (2006), I had missed the April release of “Ill Fares the Land,” for which I am obliged to a regular reader.

If there is reason to celebrate Judt’s ability to bring forth his extended essay under the terrible burden of his terminal battle with ALS – and there is – it is no less lamentable that his premature death in August removed him as promoter and advocate on its behalf.

Even if some months late to the task, I am impelled by the strong suspicion, much as I would love otherwise, that this space shares few enough readers with Judt’s regular platform, “The New York Review of Books.” 

Judt paints with eloquence the debased world of “conspicuous consumption of redundant consumer goods” – enabled by the retreat from the postwar achievements of interventionist governments in areas of security, prosperity and social services. Instead are the unprecedented wealth disparities of the last thirty years, especially in the United States and the United Kingdom but throughout advanced economies globally, with all the attendant costs and consequences falling disproportionately on the increasingly disadvantaged: social alienation and depression, failed education and mental and physical dysfunction.

Judt points to the confusion sown by self-interest pursued and based only on maximized individual economic advantage, with “minimal reference to extraneous criteria such as altruism, self-denial, taste, cultural habit or collective purpose” – even while the advocates of unregulated free markets drove into the abyss of the credit crisis of the last three years under the “false precision” that because “they didn’t know everything, as a result it turns out that they didn’t really know anything.” 

As Judt sees it, the reduction in trust and cooperation on which the social cohesion of the modern state critically depends, has given way to policies driven by fear, selfishness and bigotry – manifest in communities segregated and gated-off both physically and culturally. The ominously frightening consequence, when government cannot function on trust, is that it will move to do so by intrusion and repression, and ultimately by violence.

In the way of polemicists since Jeremiah, Judt in his outcry for a new form of social discourse does stop short – or so it could be charged, by those for whom words of inspiration only come alive in action. For his rhetoric flags, both on the particulars of a process for a new form of engagement across the spectrum of political principles, and even more on the blueprint by which the headline topics of a just and caring society might be realized.

Which takes nothing away. Voices on Judt’s behalf need to be raised, post mortem. His legacy is one of those small works that emerges from time to time, well ahead of the readiness of even sympathetic audiences to grasp its ultimate impact.

To punch its weight, however, would not have meant stints on the Oprah show or Comedy Central. Even writing for an American audience, Judt has a style, exemplified by his use of both diacritical marks in the word “dèbâcle,” that must have prepared him for an underwhelming reception in the popular audiences.

Which is fine. “Ill Fares the Land” was never destined for wide readership. The population of conservatives genuinely qualified and inspired to engage a substantive conversation with its content could probably convene in a closet; other pretenders on the Right would fall among Judt’s targets as having prospered personally – he would say, selfishly – from the subsidies and support of the active operations of government through the course of “the American century.”

Meanwhile, know-nothings at both ends of the political spectrum will not appreciate a work demanding more cerebral engagement than Fox or MSNBC, nor will they stick with the task of reading to chapter two without their lips getting tired.

For myself, I happily leave to the professional ideologues the debates over the relative analytic purity of Judt’s vision for a renascent substantive form of civic engagement.

Here’s the thought: take an evening off from the cacophony of the electronic media, and invest the time and mental effort to wrestle with these messages. When a sufficiently receptive audience has done that, the process will be well begun of extending the foundations for a sustainably re-envisioned global society of both compassion and decency.

 

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