Monthly Archives: October 2013

What does the healthcare.gov timeline look like?

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As we have heard,

The Obama administration announced Friday that it was putting a private firm in charge of fixing its faulty health insurance Web site and set the end of November as a target date for working out all the bugs, the first indication of how long repairs may take.

I am trying to figure out the timeline. Suppose that we work backwards:

–two weeks of beta testing takes us back to November 16

–three weeks of user testing takes us back to this week

–one week of integration testing takes us back to October 20

–one week of unit testing takes us back to October 13

–one week to code fixes takes us back to October 6

–two weeks to identify problems and specify fixes takes us back to late September

What I infer is that they have had a working version of the system, not ready for deployment but ready for testing, for a few weeks now.

Otherwise, I do not think I would want to be the guy who confidently announced that the system will be functioning smoothly by the end of November.

Comparative Banking Systems

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Charles W. Calomiris and stephen H. Haber write,

The fact that the property rights system underpinning banking systems is an outcome of political deal-making means that there are no fully private banking systems; rather, all modern banking is best thought of as a partnership between the government and a group of bankers, and that partnership is shaped by the institutions that govern the distribution of power in the political system.

Read the whole thing. Another excerpt:

In 1977, Congress passed the Community Reinvestment Act to ensure that banks were responsive to the needs of the communities they served. The CRA required banks that wanted to merge with or acquire other banks to demonstrate that responsiveness to federal regulators; the requirements were later strengthened by the Clinton administration, increasing the burden on banks to prove that they were good corporate citizens. This provided a source of leverage for urban activist organizations such as the Neighborhood Assistance Corporation of America, the Greenlining Institute, and the Association of Community Organizations for Reform Now, known as ACORN, which defined themselves as advocates for low-income, urban, and minority communities. Such groups could block or delay a merger by claiming that the banks were not in compliance with their responsibilities; they could also smooth the merger-approval process by publicly supporting the banks. Thus, banks seeking to become nationwide enterprises formed unlikely alliances with such organizations. In exchange for the activists’ support, banks committed to transfer funds to these organizations and to make loans to borrowers identified by them. From 1992 to 2007, the loans that resulted from these arrangements totaled $850 billion.

In contrast,

In Canada, the government did not use the banking system to channel subsidized credit to favored political constituencies, so it had no need to tolerate instability.

Shiller, Taleb, and Me

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Here is the 30-minute version of the 2009 New Yorker video interview with Bob Shiller and Nassim Taleb. (Tyler linked to a four-minute segment a few days ago). I want to talk about the difference between Shiller’s and Taleb’s views of inefficient markets.

When I teach regression in statistics, I show what I call the Pythagorean relationship, which describes what computer programs report as the analysis of variance. You are trying to predict a variable, Y, and the predicted values along the regression line are called Y-hat. I draw a right triangle with the standard deviation of Y-hat on one side, the standard error of the regression on another side, and the standard deviation of Y on the hypotenuse. The Pythagorean Theorem then gives you the analysis of variance.

Anyway, a lesson of this is that in an efficient prediction, the variance of your prediction will be less than the variance of the variable that you predict. Mathematically, this is because one side of a right triangle is always shorter than the hypotenuse. Intuitively, if your predictions vary by more than the variable you are trying to predict, then you can do better by toning down your predictions and moving them closer to the mean of the variable.

Shiller’s insight was to apply this idea to asset prices. In some sense, the stock price is a prediction of discounted future dividends, which I will refer to as average realized dividends. In that case, if the stock market is efficient, then the variance of stock prices should be less than the variance of average realized dividends. In fact, it is easy to see that the variance of stock prices is much higher than that of average realized dividends.

What this says, and what Fama and French later confirmed, is that you can make money by betting on mean reversion in stock prices. To do so, you assume use historical average dividends as a proxy for average realized dividends going forward. If you follow a strategy of buying when prices are low relative to historical average dividends and selling when prices are high relative to historical average dividends, then it seems that you will earn an above-normal profit.

Taleb would not bet on mean reversion. Instead, he would load up on out-of-the-money options. That way, you are betting on Black Swans.

Taleb’s point of view gets back to my criticism of Shiller’s work. From Taleb’s point of view, Shiller is like the turkey, who every day notices that the farmer is feeding him and taking care of him. The turkey does not realize that Thanksgiving is coming, and this will change the farmer’s behavior. Similarly, the markets appear to be mean-reverting, but what Shiller does not know is that a Black Swan event could come along.

For example, suppose that bond market investors have a probability p of a Black Swan, meaning that the U.S. government runs out of other options and monetizes a lot of its debt, leading to hyperinflation and making long-term bonds effectively worthless. For simplicity, suppose that this Black Swan either will or will not occur on January 1, 2020. With that simple assumption, on January 1, 2020, the true value of a long-term bond will be either 100 or 0. Whichever it turns out to be, when Shiller does his analysis in 2025, he will find that the variance of the “correct” bond price is zero. Since the price of bonds between now and 2020 is a predictor of the “correct” future bond price, to be an efficient predictor its variance can be no larger than zero.

However, between now and January 1, 2020, the bond price will vary as bond market investors’ estimate of p varies. Thus, the variance of bond prices will not be zero.

I take the view that this possibility of a Black Swan (aka, the peso problem) precludes the use of realized data to construct a “variance bound.” Only in a world where you can rule out Black Swans can you be certain that Shiller has found a market anomaly.

Although I lean toward Taleb, I consider that Shiller may be right. In any case, it is worth contemplating the tension between the two.

Can I Bet These Guys?

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Clay Johnson and Harper Reed write,

HealthCare.gov needs to be fixed. We believe that in a few days it will be.

A few days?

They suggest that the government should modernize its procurement practices and development methods. On that issue, I do not disagree. But such modernization is not a magic bullet.

Johnson and Reed have experience in using the Internet to help political candidates mobilize supporters. To me, that is not the same thing as building a complex, mission-critical system to support a business.

What I am pushing is the idea that success in building such a system is not a matter of finding a technological magic bullet. It is a matter of starting with the right kind of organization on the business side. If the government is going to operate the world’s biggest health insurance brokerage, then the government needs to set up a business organization to manage it, with clear lines of authority and communication. Yes, it doesn’t hurt to use the most effective development tools and methods. But show me an ineffective org chart in the business, and I’ll show you a systems project failure no matter what tools and methods they use.

[UPDATE].

Jeff Sients, the new Suit, is not talking in terms of days, but he still seems optimistic.

Zients said healthcare.gov will be functioning “smoothly” for the vast majority of users by the end of November

The Suits are now talking about a “punch list,” as though this is a house that you just bought and the builder has to touch up the paint in a few places. For all I know, that accurately describes the situation. The worry is that instead of a basically solid building they have another Silver Spring Transit Center.

Ezra Klein interviews Fred Trotter, a health IT specialist who steers away from government contracts. Some excerpts:

I realized I could figure out how to develop these very complex, very new software programs or I could figure out how to contract with the government…One of the jokes we have in health IT that doctors have no idea what they want and we’ve been giving it to them for years. And I think that’s a fair assessment of technology procurement. The government has no idea what it wants and contractors have been giving it to them for years…There’s a problem in government IT departments in general where you get somebody who got a job in their 20s and didn’t really have any reason to improve their skill set or change their approach over 20 years but now they’re in charge of a department. People think if you are a geek and a technologist and that’s the way it is. But if I knew what I knew four years ago today and that’s all I knew today I’d be out of a job.

Market Monetarists Jump the Shark

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Scott Sumner writes,

In America mortgage debt is commonly structured so that monthly payments stay constant over 30 years. This means that during periods of high NGDP growth, when nominal interest rates are also high, monthly payments will start very high in real terms, and then fall rapidly in real terms. But your ability to qualify for a house depends on how large the initial nominal monthly payment is, relative to your current income.

Read the whole thing. The logic is this:

1. In the 1970s, house prices started rising, but they did not rise as much as during the recent bubble.

2. In the 1970s, because mortgage rates were high, even though real interest rates were low it was hard to get mortgage credit. That is what choked off the bubble. The same thing did not happen in the recent bubble.

3. High mortgage rates reflect loose monetary policy. Hence, the difference between the 1970s and the recent bubble is that this time monetary policy was tighter.

I agree that there is a “money illusion channel” between nominal interest rates and housing. Back in the 1970s, economists proposed price-level-adjusted mortgages (PLAMs) to get around this problem. If you want more background, go to MRUniversity and watch the first half-hour or so of videos from my housing course.

But….come on. The extension of the recent bubble compared to the 1970s came from the abandonment of standards for down payments. If you think that looser monetary policy would have choked off the recent housing bubble, you’ve jumped the shark.

A DY2PVSC Post I Wish I Had Written

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From someone who prefers to blog anonymously.

Economics is a science, but it is a very politicized science. The Medicaid study, with its ambiguous results, offered justification for the policy proposals of both supporters and opponents of ACA, for example. Both sides were offering an incomplete picture of the study in this debate, but both sides were also correct the claims they made even if they strategically left out inconvenient findings.

Pointer from Tyler Cowen.

Read the whole thing. He is reacting to a column by Raj Chetty, and I had a similar reaction. While proclaiming the scientific virtues of economics, Chetty was sneaking in his own biases, through a selective presentation of results.

The more important point is that we all are tempted to do this, and we need to work hard to resist such temptation. One of the reasons for my occasional DY2PVSC posts (“Did you two people visit the same country”) is to try to pair up research that supports one side with research that supports the other.

They Change Their Minds

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Vernon Smith writes,

My mother was a socialist and her Wichita friends were Marxian socialists; she had only an eighth grade education but that did not keep her from running for Kansas State treasurer on the Socialist ticket. In 1936 when I was nine years old I helped pass out program leaflets for Norman Thomas, candidate for President against Roosevelt. He used to complain that Roosevelt got elected by stealing his program. At 18 (1945) I would have been a member of the YPSL (Young People’s Socialist league).

This is from a very interesting project to ask Nobel Laureates to describe the evolution of their ideological views. Pointer from Tyler Cowen.

Some remarks:

1. Several other Nobel laureates were socialists at one point, although none remained so at the time they responded to the survey. Those of you who are under 55 may have a hard time appreciating how central the issues of socialism, Communism, and anti-Communism were in the middle of the twentieth century. In fact, if you don’t understand the role that the socialist ideal played in American intellectual life from 1930 until at least 1960, you cannot fully understand that period.

2. As we start to see more Nobel laureates born after 1950, I expect to see a sharp drop-off in the number for whom socialism played any role at all in their intellectual development. In a way, this is too bad, because I think that it is easier to get stuck feeling comfortable as a conventional liberal than as a socialist. To be a socialist, you have to think through how socialism can work in theory and how it has worked out in practice, and sooner or later you become are likely to change, particularly if you study economics. It seems that once a former socialist becomes skeptical, he or she can wind up almost anywhere else on the ideological spectrum. In contrast, if you just think that “government can do good things,” that is a more robust point of view. You are less likely to undergo a period where you are reconsidering everything.

3. There is not a social conservative among the lot.

4. I never would have guessed that Peter Diamond was a conservative who read National Review in his younger days. In those days, I imagine a nice Jewish boy would have gotten in less trouble sneaking Playboy into the house.

5. In a summary analysis, Daniel Klein says that of the 21 Nobel Laureates he has been able to determine has having moved ideologically, 16 moved in what he calls the classical liberal direction, while 5 moved the other way.

6. I myself have migrated in the classical liberal direction from the far left (not socialist, though). You can read an essay I wrote about that if you buy Marc Guttman’s book.

The Obamacare Suits/Geeks Divide

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The New York Times reports,

One specialist said that as many as five million lines of software code may need to be rewritten before the Web site runs properly.

1. There is zero chance that rewriting five million lines of code is the answer. Either the solution is a lot simpler or there is no solution other than to start over.

My instinct from the outset was that starting over was the right answer. I am not alone.

2. The other day, President Obama said, “No one is madder about the Web site than I am, which means it’s going to get fixed.”

Or, as Michael Palin and John Cleese would put it, Wake up, Polly!

3. In response to the WaPo story, I wrote a letter to the editor, which they published (mine is the third letter on this page). This is not a technical screw-up, and it will not be fixed by technical people. It is an organizational screw-up. And until that is recognized, it probably will get worse. I write,

In my experience, communication failures between technical staff and management reflect an atmosphere of fear and lack of mutual respect.

I call this the suits-geeks divide. I saw it during the financial crisis, when it was evident that many mortgage credit-risk geeks warned of problems at their firms but management went out of the way not to listen. Merrill Lynch and Freddie Mac were particularly well-documented cases.

4. Every year, I have my high school students pair off and present proposals to start a new business. Two questions I always ask are “What are the critical management functions?” and “What would somebody experienced in this business know that you do not know?”

Suppose that President Obama and Secretary Sebelius were in the class, and they proposed starting the world’s largest health insurance brokerage. I would expect them to be able to identify as key management functions: marketing, customer education, insurance company partnership management, pricing and underwriting standards, and operations.

Somebody who had experience with creating a health insurance brokerage business would know that the systems problems are more complicated than just putting up a web site. In the background, the system needs to communicate with the systems at several government agencies and at the insurance companies. That changes it from a simple technical project to a complex, time-consuming, project involving business and technical staff.

You build a complex, mission-critical system through a process of continual negotiations among business units and technical people. You do not treat it as a procurement process. You cannot just write up a spec, put it up for bid, and parcel it out to dozens of contractors.

The development of the computer system probably would fall under operations, but you would want a project executive with a lot of authority to negotiate with all of the business units and to make project decisions. When conflicts arise, the project executive should be able to go straight to the CEO and get them resolved.

The project executive’s main focus is keeping the project’s complexity from getting out of control. The project executive must have the authority to trim features in order to meet deadlines.

You go through a lot of analysis and many painful meetings before anyone writes a line of code. The technical staff have to be able to challenge the business units, because sometimes the business unit asks for something to be done in a really complicated way, when a much simpler solution is available to solve the business problem.

One of the worst things that can happen on a systems project is to find yourself revisiting the business-technical negotiations process after writing a lot of code. If that is what is happening now, this project is in an unbelievable amount of trouble.

5. I suspect that the technical problems are mere symptoms. Probably what is fundamentally messed up in this health insurance brokerage business is the org chart.

6. In business, you need clear lines of authority and accountability. The bureaucratic tendency is to seek the opposite–to blur authority and avoid blame. This is a big challenge in the private sector. However, I think it tends to be even more difficult to overcome in government.

7. For Christmas, someone should give President Obama and Secretary Sebelius a copy of The Mythical Man-month.

[update: good PBS interview with several mythical-man-month allusions]

[update: Clay Shirky’s tweet echoes this theme.

Sentences to Ponder

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From Jason Brennan.

Certain Austrian economists, take note. You ain’t gonna win in economics by doing philosophy of economics. It’s not because the world’s unfair, but because it’s fair.

Read the whole post. I think that it is fair to offer methodological criticisms of specific papers and even of entire lines of research. But….well, what Jason Brennan said.

The Forgotten Sixties

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Frank Diebold reports,

I am sad to report that Lawrence R. Klein has passed away. He was in many respects the father of modern econometrics and empirical macroeconomics; indeed his 1980 Nobel Prize citation was “for the creation of econometric models and their application to the analysis of economic fluctuations and economic policies.”

Pointer from Tyler Cowen.

In my macro book, I talk about the 1960s as The Little Moderation, in order to stress its similarity to the Great Moderation of 1986-2007. However, another term might The Forgotten Sixties. Some of what has been forgotten is the excitement that was generated by macroeconometrics. Economists who made significant contributions in this area were awarded several of the early Nobel Prizes–Frisch and Tinbergen (1969, the first year of the Nobel in economics), Koopmans (1975), and Klein (1980). Yet I will venture to guess that one cannot find a single graduate school syllabus today that mentions the work of those laureates.

The same holds for the leading policy makers of the era. Who under the age of 50 has heard of Walter Heller or Otto Eckstein? I assume that Alan Greenspan will be long remembered and will continue to receive credit for the presiding over The Great Moderation (his culpability for the financial crisis is still being assessed). During the Little Moderation, the Federal Reserve received no credit. The Fed Chairman was William McChesney Martin, who today is remembered only for the “punch bowl” metaphor, which he evidently borrowed.* In the 1960s, everybody attributed good economic performance to fiscal policy, not to the Fed.

The macroeconometricians and the Kennedy-Johnson economists were at the top of the economics profession in the 1960s. As the Great Stagflation gathered force in the 1970s, they lost all of their prestige. Hence, the Forgotten Sixties.

*In October of 1955, he said,

The Federal Reserve, as one writer put it, is in the position of the chaperone who has ordered the punch bowl removed just as the party was warming up.

Pointer from Timothy Taylor.