Magic Versus Reality “Is it time for reality to make a comeback?”

Magic Versus Reality

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“Is it time for reality to make a comeback?”

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Alan Hibben CA, CFA

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The views of the author are likely to be actively disavowed by the companies with which he is associated.

?It seems to me that the past few decades have been bad ones for reality and especially economic reality, and magic appears to have had the upper hand. However, I see glimmers of hope that reality and economic reality will start to recover, not necessarily because magic will fall out of favour but because hard lessons of physics and economics cannot be held at bay indefinitely.

Sensing the reader’s confusion, let me describe what I believe what the ascendancy of magic to have been. Over the course of the last few decades a number of theories have been turned into accepted wisdom, not because they have survived the tests of evidence, but because people devoutly wish them to be true as they seem to be able to combat the rough, raw and physically demanding reality around us. Such magic plays very well within the corridors of political power as magical theories and even chants have had the effect of taking attention away from the natural inclinations of politicians to say and do anything that they can to be re-elected (or not, as belief in magic is by no means limited to democracies).

There are hundreds of examples of magical theories in our day to day lives, but perhaps a couple of the most significant ones will make this clearer:

Modern Monetary Theory (‘nuf said)

Housing price increases are not caused by supply constraint

The 2020 election in the US was “stolen”

Inflation is not a monetary phenomenon, it’s transitory

The bond market will always support government spending because there is no alternative (TINA)

Nordstream is a sound political bet

And the biggest howler of them all “Net Zero By [insert date here]

All of the above pieces of widely accepted wisdom (magic) are now or have already crashed against the realities of physics, economics, human nature or a combination of all three. It is astonishing that the crash into reality is not changing the tide, but over time it will. Magic is easy. Reality is hard.

In my now adopted country of England, the reality of lower living standards, increasing financial poverty and the real risk of energy poverty has already awakened the markets and forced the government to start to grow up, not because it wanted to but because the reality of being a large bond issuer that is not the United States caught up to political wishful thinking. The new Chancellor has indicated that he is willing to make “embarrassingly hard” choices with respect to government fiscal policy – but he won’t. The magical theories of “tax and spend your way to growth” are too far ingrained in the public, in members of the political parties and the elected that really grasping the nettle of change will be beyond one, two or three administrations. Much pain will be experienced. In choosing between what Dr Rogoff[1] has set out as the two inevitable conclusions to excess debt and spending – default or inflation, politicians will want to choose inflation every time.

But it is not just the politician that needs to get elected who resorts to magical thinking. There are a wide range of academics, media outlets, think tanks and business-people who either develop these theories or who feel that they need to propagate them all in order to attempt to keep reality from intervening or even worse, to be seen to be following the accepted wisdom and thus not rocking the boat. Many of the examples that I have used are such obvious howlers that you must wonder what else is going on here. Where did the well-developed human capacity for critical thinking, self-criticism, honesty and transparency go?

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A good example is the farcical focus of politicians and business leaders on making pledges of “net zero by insert date here.” Even giving the most broadly defined benefit of the doubt to the honesty of such pledges, one wonders whether any of those making the pledges: first; had the vaguest idea of what might be required in terms of physics to make such a pledge rational; second, to think about how the interaction of human nature and politics might make such pledges realistic and third, to consider that the billions of people in current energy poverty might want a say. Unfortunately, the distance between the loonies gluing their hands to valuable paintings and the Prime Minister of Canada is not very far.

It might be useful to speculate on the source of the mess of magical thinking – how did we get here?

You obviously have to start with the education system. Over time it would appear that the role of educators has not been to build independent critical thinkers. While the rhetoric of “critical thinking” always plays high on the education agenda this is really just a code word for avoiding the teaching of arithmetic and the logical construction of an argument. Education seems to be caught up in more and more focus on “theories” and “ism’s.” This obviously gets exacerbated as children move to higher levels of education, where the teaching of theories is compounded by an active attempt to eliminate debate about them and the castigation of those that are outside of the new orthodoxy. The number of studies about professors and students learning to “self-censor” should give pause to anyone who is funding this system[2]. It is no secret that levels of higher education are dominated by people of political persuasion that is not representative of the public at large – but unclear whether this is a driving force.

The next place to look at is likely the media. There appears to be increasing politicization of the media, especially in the United States where there does not even seem to be a sheen of objectivity. Where objective analysis fades and the media is used as amplification of whatever politician they support, the tendency for magical thinking can be amplified. How else can the “2020 Presidential election was stolen” be explained? As social media amplifies and distorts even the traditional media, the weight in favour magical thinking can be expanded. When everyone is a pundit (ironic self-reference intentional) the ability to cut through the noise is less available.

Finally, we need to look at the business community. While the media likes to portray the business community as swash-buckling pirates doing exactly as they please, businesses and institutional investors are captives of their customer base and increasingly the whims of politicians whose idea of rational calculation does not extend past the next election cycle. If the California Public Employees Retirement System is your biggest pension client and they tell you that they would pull their money unless you invested more in fairies and less in gnomes, it's clear what you are going to do. If your customers who buy toothpaste have been convinced that toothpaste tubes full of plastic are going to kills the fishes, you will want to quickly assess alternatives. It is rarely in a business-person’s interest to try to engage in a substantive discussion about the rationality of choices that governments and consumers might make. After all, business-people are assumed to be able to only talk from their own book and thus any business argument is tainted a priori. Any academics who might want to support a rational argument on economic or human nature grounds or simple physics have either already been drummed out of academia or are castigated as in the pocket of “big business.”

Despite the above, of course all is not lost. Thousands of business-people, economists, physicists and others toil endlessly to bring the facts of the world to public view. They are courageous and incredibly valuable to the world. Even more important is the weight of often extremely uncomfortable evidence that continues to pile up in front of a wishful world and screams reality.

• ·??????The so-called energy transition will be long, expensive and complicated and if politicians want to push faster than physics and human nature, people will die of energy poverty.
• ·??????Central banks will eventually regain control of M3 and inflation will recede (or not if they don’t and continue to monetize everything that moves)
• ·??????Russia and China will not be trusted and an uneasy accommodation will persist for decades until the reverse demographic wave overcomes them both.
• ·??????Unbridled and unfinanced government deficits will eventually be seen for the obscene vote-buying that they are and bond markets will no longer be supportive.
• ·??????Trump will pass from history forgotten and alone.

While I maintain hope that the education system can be saved from continual magical thinking, I despair of what could be the solution here. Educators are mostly immune to economic forces that govern the rest of us (tenure, indexed defined benefit pensions) and are very keen to close ranks lest economic or physical reality intervene in the shape of contrary views on campus. But this generation will comfortably retire and in the absence of waves of tuition debt forgiveness, parents and students may once again embrace critical thinking and sound education as a basis for a useful life.

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[1] This Time Is Different:?Eight Centuries of Financial Folly Carmen M. Reinhart?and?Kenneth S. Rogoff 2011

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[2] Examining Student Self-Censorship on College Campuses | Bipartisan Policy Center