Tuesday, February 23, 2010

Charlie Munger : Basically, Its over....

Warren Buffett has a partner who is equally brilliant - Charlie Munger. His view of where America is headed stands in stark contrast Buffett's unflaggingly optimistic view of America in the long term ("You can't bet against America and win"[Link]). In my previous post I discussed 2 outcomes for the American economy and here's Munger's desciption of one of them.

In Munger's parable, the nation's end was marked by rise of casino gambling....

"As their affluence and leisure time grew, Basicland's citizens more and more whiled away their time in the excitement of casino gambling......." - Charlie Munger.



Basically, It's Over :A parable about how one nation came to financial ruin.

By Charles MungerUpdated Sunday, Feb. 21, 2010, at 3:30 PM ET

In the early 1700s, Europeans discovered in the Pacific Ocean a large, unpopulated island with a temperate climate, rich in all nature's bounty except coal, oil, and natural gas. Reflecting its lack of civilization, they named this island "Basicland."

The Europeans rapidly repopulated Basicland, creating a new nation. They installed a system of government like that of the early United States. There was much encouragement of trade, and no internal tariff or other impediment to such trade. Property rights were greatly respected and strongly enforced. The banking system was simple. It adapted to a national ethos that sought to provide a sound currency, efficient trade, and ample loans for credit-worthy businesses while strongly discouraging loans to the incompetent or for ordinary daily purchases.
Moreover, almost no debt was used to purchase or carry securities or other investments, including real estate and tangible personal property. The one exception was the widespread presence of secured, high-down-payment, fully amortizing, fixed-rate loans on sound houses, other real estate, vehicles, and appliances, to be used by industrious persons who lived within their means. Speculation in Basicland's security and commodity markets was always rigorously discouraged and remained small. There was no trading in options on securities or in derivatives other than "plain vanilla" commodity contracts cleared through responsible exchanges under laws that greatly limited use of financial leverage.

In its first 150 years, the government of Basicland spent no more than 7 percent of its gross domestic product in providing its citizens with essential services such as fire protection, water, sewage and garbage removal, some education, defense forces, courts, and immigration control. A strong family-oriented culture emphasizing duty to relatives, plus considerable private charity, provided the only social safety net.

The tax system was also simple. In the early years, governmental revenues came almost entirely from import duties, and taxes received matched government expenditures. There was never much debt outstanding in the form of government bonds.

As Adam Smith would have expected, GDP per person grew steadily. Indeed, in the modern area it grew in real terms at 3 percent per year, decade after decade, until Basicland led the world in GDP per person. As this happened, taxes on sales, income, property, and payrolls were introduced. Eventually total taxes, matched by total government expenditures, amounted to 35 percent of GDP. The revenue from increased taxes was spent on more government-run education and a substantial government-run social safety net, including medical care and pensions.

A regular increase in such tax-financed government spending, under systems hard to "game" by the unworthy, was considered a moral imperative—a sort of egality-promoting national dividend—so long as growth of such spending was kept well below the growth rate of the country's GDP per person.

Basicland also sought to avoid trouble through a policy that kept imports and exports in near balance, with each amounting to about 25 percent of GDP. Some citizens were initially nervous because 60 percent of imports consisted of absolutely essential coal and oil. But, as the years rolled by with no terrible consequences from this dependency, such worry melted away.
Basicland was exceptionally creditworthy, with no significant deficit ever allowed. And the present value of large "off-book" promises to provide future medical care and pensions appeared unlikely to cause problems, given Basicland's steady 3 percent growth in GDP per person and restraint in making unfunded promises. Basicland seemed to have a system that would long assure its felicity and long induce other nations to follow its example—thus improving the welfare of all humanity.

But even a country as cautious, sound, and generous as Basicland could come to ruin if it failed to address the dangers that can be caused by the ordinary accidents of life. These dangers were significant by 2012, when the extreme prosperity of Basicland had created a peculiar outcome: As their affluence and leisure time grew, Basicland's citizens more and more whiled away their time in the excitement of casino gambling. Most casino revenue now came from bets on security prices under a system used in the 1920s in the United States and called "the bucket shop system."

The winnings of the casinos eventually amounted to 25 percent of Basicland's GDP, while 22 percent of all employee earnings in Basicland were paid to persons employed by the casinos (many of whom were engineers needed elsewhere). So much time was spent at casinos that it amounted to an average of five hours per day for every citizen of Basicland, including newborn babies and the comatose elderly. Many of the gamblers were highly talented engineers attracted partly by casino poker but mostly by bets available in the bucket shop systems, with the bets now called "financial derivatives."

Many people, particularly foreigners with savings to invest, regarded this situation as disgraceful. After all, they reasoned, it was just common sense for lenders to avoid gambling addicts. As a result, almost all foreigners avoided holding Basicland's currency or owning its bonds. They feared big trouble if the gambling-addicted citizens of Basicland were suddenly faced with hardship.

And then came the twin shocks. Hydrocarbon prices rose to new highs. And in Basicland's export markets there was a dramatic increase in low-cost competition from developing countries. It was soon obvious that the same exports that had formerly amounted to 25 percent of Basicland's GDP would now only amount to 10 percent. Meanwhile, hydrocarbon imports would amount to 30 percent of GDP, instead of 15 percent. Suddenly Basicland had to come up with 30 percent of its GDP every year, in foreign currency, to pay its creditors.

How was Basicland to adjust to this brutal new reality? This problem so stumped Basicland's politicians that they asked for advice from Benfranklin Leekwanyou Vokker, an old man who was considered so virtuous and wise that he was often called the "Good Father." Such consultations were rare. Politicians usually ignored the Good Father because he made no campaign contributions.

Among the suggestions of the Good Father were the following. First, he suggested that Basicland change its laws. It should strongly discourage casino gambling, partly through a complete ban on the trading in financial derivatives, and it should encourage former casino employees—and former casino patrons—to produce and sell items that foreigners were willing to buy. Second, as this change was sure to be painful, he suggested that Basicland's citizens cheerfully embrace their fate. After all, he observed, a man diagnosed with lung cancer is willing to quit smoking and undergo surgery because it is likely to prolong his life.

The views of the Good Father drew some approval, mostly from people who admired the fiscal virtue of the Romans during the Punic Wars. But others, including many of Basicland's prominent economists, had strong objections. These economists had intense faith that any outcome at all in a free market—even wild growth in casino gambling—is constructive. Indeed, these economists were so committed to their basic faith that they looked forward to the day when Basicland would expand real securities trading, as a percentage of securities outstanding, by a factor of 100, so that it could match the speculation level present in the United States just before onslaught of the Great Recession that began in 2008.
The strong faith of these Basicland economists in the beneficence of hypergambling in both securities and financial derivatives stemmed from their utter rejection of the ideas of the great and long-dead economist who had known the most about hyperspeculation, John Maynard Keynes. Keynes had famously said, "When the capital development of a country is the byproduct of the operations of a casino, the job is likely to be ill done." It was easy for these economists to dismiss such a sentence because securities had been so long associated with respectable wealth, and financial derivatives seemed so similar to securities.

Basicland's investment and commercial bankers were hostile to change. Like the objecting economists, the bankers wanted change exactly opposite to change wanted by the Good Father. Such bankers provided constructive services to Basicland. But they had only moderate earnings, which they deeply resented because Basicland's casinos—which provided no such constructive services—reported immoderate earnings from their bucket-shop systems. Moreover, foreign investment bankers had also reported immoderate earnings after building their own bucket-shop systems—and carefully obscuring this fact with ingenious twaddle, including claims that rational risk-management systems were in place, supervised by perfect regulators. Naturally, the ambitious Basicland bankers desired to prosper like the foreign bankers. And so they came to believe that the Good Father lacked any understanding of important and eternal causes of human progress that the bankers were trying to serve by creating more bucket shops in Basicland.

Of course, the most effective political opposition to change came from the gambling casinos themselves. This was not surprising, as at least one casino was located in each legislative district. The casinos resented being compared with cancer when they saw themselves as part of a long-established industry that provided harmless pleasure while improving the thinking skills of its customers.

As it worked out, the politicians ignored the Good Father one more time, and the Basicland banks were allowed to open bucket shops and to finance the purchase and carry of real securities with extreme financial leverage. A couple of economic messes followed, during which every constituency tried to avoid hardship by deflecting it to others. Much counterproductive governmental action was taken, and the country's credit was reduced to tatters. Basicland is now under new management, using a new governmental system. It also has a new nickname: Sorrowland.


Anonymous said...

I note how Charlie holds MM in high regard...

LuckySingaporean said...

He doesn't know MM well enough.
We are a small island in a faraway land.

Anonymous said...

why don't you sumarised in layman's language for the benefit of your readers so most can follow.

in a nutshell, it only sounds complex(lor sor) but stripped off the veneer, the substance may not amount to more than a sprinkle of salt from the shaker.

Anonymous said...

"When the capital development of a country is the byproduct of the operations of a casino, the job is likely to be ill done."

in short, lucky is telling us we are gambling our lives away.

is that true? :)

LuckySingaporean said...

Remember wealth management, Lehman minibonds, structured products, s-shares...and financal hub. Munger wisely tell us that making money without producing some thing of benefit to mankind should be scrutinise very careful. Otherwise you end up with a casino economy...and an illusion of creating wealth when you're just creating debt.

Anonymous said...

aiyah, lucky is one those who suck up to "elite greater mortal" type of people lah.

pot calling the black kettle to listen to the whistle of the pot. hahahaha

Anonymous said...

it means,,when you have chips on the loose, your jobs don't stick, understand? keke keke

Anonymous said...

not true...stick. very sticky if you are ministers. LOLOLOL

Anonymous said...

the casino roots already planted. even voting for opp cannot stop it. its a sin city, gambling hub and whore hub. its not a good place to raise children and thus explained the low fertility rate.

Anonymous said...

I also believe in that if things that are in demand are not valued properly, then we will be heading for real trouble.

I believed that Warren Buffett was once asked that since he had so much money, why he did not pay higher wages to workers or be involved in the bailout. (He invested in some companies that were considered to be duds and also with the recent economic situation in US) He rationaled that he believes that there is an equilibrium for everything. He could pay slightly higher wages maybe for mundane jobs like cleaning or menial tasks, however it would not solve the real problems at hand.

Basically, what I can understand from the article is that the society is rewarding excessively to people in certain trades and thus deflecting things from the 'true' value. For example, why are bankers paid so much more than somebody who is producing goods? Bankers are actually just facilitating transactions. Without the people doing the actual production and creating value, the banks would have no way of survival. Of course, things are not so simple and are inter dependent.

We are living in a world whereby good, honest and diligent living are shunned and quick, hookwink and irresponsible way of doing things are advocated by people to be the smart, intelligent and competent way of doing things.

Just to cite examples, in teaching nowadays, if you take the time to analyse the mistakes by the students as compared to doing projects to enhance the name of the schools, which one will put in better stead for your future?

If you take the trouble to do a job responsibly as compared to hanky panky ways of completing a job, what will the ultimate consequence be?

There are many situations and one might argue that they are not preventable and that people will continue to behave like that as thousands of years of history have shown.

However that is precisely the point that the role of government encompasses the social and economic aspects. We create governments to make sure the lesser people are not bullied, that people will be able to better and informed decisions to be happy. It is an idealistic state.....but of course, it can always be an aspiration. If you can achieve it, good, no, too bad....as many other bad governments have also shown.

Anonymous said...

"pot calling the black kettle to listen to the whistle of the pot. "

the front man shits and the back guy wipes the front man's arsehole but what does he do with the man's shit?

he slips the shit into his pocket, brings it home and reinvents it. hahaha

Anonymous said...


Anonymous said...

That bankers, stock brokers, traders etc are much better rewarded than manufacturers, engineers, farmers etc has been happening for a very long, long time.

Nothing new. Even if something really bad happens like the 2008 crisis, things will recover back again and fast, like the stock market boom of 2009.

So the same will happen again in the future and for a long, long time too.

Anonymous said...

this guy always appear when he is making the most money

you never see him around when everything has been leveled.

Anonymous said...

There is little doubt that speculations around the world has gone up. While I think this is unhealthy I don't think it will lead to the collapse of society. If the world don't make a concerted effort to restrain this unhealthy and unproductive growth, I have little doubt that we will see crisis growing in intensity and frequency. It is such a disaster to see some of the best minds not being applied to solve the many problems facing humanity. They are wasted in cooking up unproductive ways to enrich a few at the expense of the vast majority.

Anonymous said...

Anon @ 1349

Not true that the finance industry dominates the rest of the industries in terms of lucrativeness. In the early part of modern human history, we have the Bronze, Iron and the Steam Age. Innovation and inventions were very vibrant. One can argue it was because of the circumstances. But then again, it could also be due to the change in the mindset of human beings. Basically, to sumarise, greed is good.

Lucky wrote a piece about the Great Depression and also in the commentary page of Straits Times, there was also an article written about the regulatory measures which were taken by the US government after they learnt about the mistakes of the Great Depression. The write felt that regulatory measures were put in place because of the lessons learnt. But as times passed, people forgot all about and the lax and cavaliar attitudes of the finance people brought about the meltdown recently. He attributed the crisis to the similarites that happened which culiminated in the Great Depression. There were also more inventions and discoveries in the past than the present. Though one might argue that is because we have discovered and invented almost of everything, but then again, we would not call them innovations or inventions if we know how many things we can discover.

Whatever it is, in life, there are many schools of thoughts. In Singapore, I feel that we tend to think in such a way that there is one correct way of doing or one correct way of explanation. I believe that in life, it is important to explore alternatives and that way, we would be more informed and there would be more progession and improvement.

Anonymous said...

On the issue of casinos, personally, I am not against them.

But I think the sociologists and other related experts in other countries, must have reasons for building casinos away from the masses.

Pardon my narrow perspective, Vegas in the desert, Casino resort in Sacramento which is tucked away in the tranquil resort of Lake Toha, Casino in the hotel in Arizona, also desert. Genting up in the mountains. Laos, also tucked away in the mountains.

Only one, I can think of where casinos exist side by side people is Macau. Another casino is located to the city of the country is Sri Lanka, but that is a small casino frequented by foreigners. I think the locals rarely frequent it. I don't know the casino is Perth should be considered near residences or not.

Anybody can add where casinos are built near and accessible to the masses? You know the big and grand casinos kind, not the shady and sleazy gambling dens kind... My impression is that most casinos are localised in an area like the red light district....haha I might be wrong. But then again, Singapore is so small.

Anonymous said...

In short, it means SINKAPORE CHIA LUCK OLEDI!!!!

Anonymous said...

experts say boomz, experts say doomz(dont some people love experts like gods? lol)

common agreement between these experts?

fat pockets LOL

Onlooker said...

Why does the term Bucket shop remind me of CPF?

sgcynic said...

"Otherwise you end up with a casino economy...and an illusion of creating wealth when you're just creating debt."

Sounds just like the case for our HDB flats.

Anonymous said...

Life is a gamble; some say.

How true !

Anonymous said...

That is indeed the world we live in today.

America's brightest and richest not producing goods and services but creating debt and gambling in one form or another.

Outstanding value of derivatives is $700 trillion while the US GDP is $17 trillion..
Like they say 'when the music is playing you got to get up and dance'..Hence GIC and Temasek huge foreign investments that does not produce anything in Singapore.

Anonymous said...

We have lost touch with fundamentals. That is why the best paid jobs are gambling jobs like derivative trading and investment banking and the honest jobs like teaching, nursing, engineering are the lowest paid.

Anonymous said...

Actually jobs like teaching, nursing, engineering not many Singaporeans really like to do. Some have no better choice so they do just solely for the money.

So these jobs are mostly taken by foreign "talents" and this depress the pay further, making Singaporeans hating it even more.

Like that, what to do.

Lim Leng Hiong said...

Lucky, minister pay is going up again!

Committed to going green (Today 23 Feb 2010)
by Teo Xuanwei


"Salaries for political appointments - ministers, ministers of state and parliamentary secretaries - are estimated to be $58.28 million, or 8.8 per cent higher than last year."

Anonymous said...

Mr Lucky

Your hero POTUS "Hope you can believe in" Obama says bankers deserve their pay.

Are you getting confused?

Anonymous said...

Mr Lucky

Actually, I am sure that someone as learned as you would know that Basicland actually have huge reserves of coal, gas and oil.

Sorry, what is the point of this parable again?

Anonymous said...

What we have in SIN is a bunch of few SINNERS paying themselves SINFULLY for just telling their people to work till their asses shit no more and go to heaven.