By Karl Arnold Belser
23 November 2013

I read Shane Parrish’s article on Mental Models on his Farnam Street BLOG that made me realize that I think metaphorically.  Hence, I might want to become more conscious of my thinking process in my effort to eliminate Thinking Errors.

I especially liked Shane’s referenced lecture by Charles Munger (Berkshire Hathaway) about Elementary World Wisdom. It gives some insight on how Munger and Buffett became so wealthy. However, times change and models must change accordingly. I note that Berkshire Hathaway has experienced very large losses in IBM shares among others, whose purchase seems to violate Buffett’s imperative of investing only in companies he understands. So it might be wise to question Mungers wisdom today.

I am just starting to think about models. So I want to discuss the models that might be influencing the current world economic situation. I found that the 
Create Advantage page that discusses Mental Models useful in getting perspective about  the advantages and risks inherent in models.

What are the mental models that are being used in the current world economic crisis?

Europe is putting its people through austerity, mainly led by the Germans, who are the most productive and disciplined people in Europe. The United States is using Keynesian stimulus to mitigate a full blown economic depression until the society can adapt to a new set of economic circumstances.

The German mental model appears to be that of a person that is spending more than he makes. Hence, this person just has to spend less and this lower spending is austerity. The Mediterranean countries of Europe are en a significant depression due to austerity that has caused the GDP of Europe to decline with many people suffering because of lack of employment. The hope is that given enough time the people will figure out how to survive. This is what I would call tough love.

On the other hand the United States mental model appears to be that of caring for a sick person until this person recovers. The person has to borrow money, but once he is well the person will be able to pay back his debts. The Federal Reserve is buying the debt of
the United States through quantitative easing  so that the US can give this money to its citizens as transfer payments in the hopes that the US economy will improve enough to pay back this debt in the future.

It is not clear if the economy of the United States is really recovering. The corporations are definitely doing well, but the unemployment rate is still high and the employment participation rate is at 50-year lows.  If employment does not recover, then there may not be sufficient income to pay back the money borrowed by the government. In other words, the debt-money that was distributed to the population through transfer payments would be consumption brought forward that would result in less consumption later. Hence, there would be no real recovery.

The United States had another model option, a culpability model in which the financial institutions that caused the problems  would be allowed to go bankrupt. The banks would be nationalized so that the economy could continue to operate. This is what Sweden successfully did in the 1990s and the incompetent or criminal finance people or politicians got fired or prosecuted. For some reason, probably political, the United States did not hold the many bankers and financial participants accountable. You cannot expect the government to discipline itself if it makes a huge mistake. This is the moral hazard of central control.

The jury decision, to my mind, is still out about which, if any, of these mental models will work well. It should be observed that adhering to a flawed model could cause great economic damage as the Create Advantage page points out.
The outcome will greatly influence what happens in the Uncertain Future, especially if flawed mental models are forced on civilization. 

Last updated November 23, 2013
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