Economics

Make something and sell it

Posted on by John

I’ve run across a couple podcasts this week promoting the radical idea that you should sell what you make.

The latest Entrepreneurial Thought Leaders podcast features David Heineimeier Hansson’s talk Unlearn Your MBA which he gave to a room full of MBA students.

The latest Tech Nation podcast from IT Conversations is an interview with Jaron Lanier. Lanier is a virtual reality pioneer and the author of You Are Not A Gadget.

Both Hansson and Lanier have contributed to the “free” culture but both are also critical of it. Hansson says he has benefited greatly from open source software and make his Ruby on Rails framework open source as a way to contribute back to the open source community. But he is also scathingly critical of businesses that think they can make money by giving everything away.

Lanier was an early critic of intellectual property rights but has reversed his original position. He says he’s an empiricist and that data have convinced him he was dead wrong. He now says that the idea of giving away intellectual property as advertising bait is unsustainable and will have dire consequences.

Giving away content to make money indirectly works for some businesses. But it’s alarming that so many people believe that is the only rational or moral way to make money if you create intellectual property. Many people are saying things such as the following.

  • Musicians should give away their music and make money off concerts and T-shirts.
  • Authors should give away their books and make money on the lecture circuit.
  • Programmers should give away their software and make money from consulting.

There’s an anti-intellectual thread running through these arguments. It’s a materialistic way of thinking, valuing only tangible artifacts and not ideas. It’s OK for a potter to sell pots, but a musician should not sell music. It’s OK for teachers to make money by the hour for teaching, but they should not make money from writing books. It’s OK for programmers to sell their time as consultants, and maybe even to sell their time as a programmers, but they should not sell the products of their labor. It’s OK to sell physical objects or to sell time, but not to sell intellectual property.

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Why programmers are not paid in proportion to their productivity

Posted on by John

The most productive programmers are orders of magnitude more productive than average programmers. But salaries usually fall within a fairly small range in any company. Even across the entire profession, salaries don’t vary that much. If some programmers are 10x more productive than others, why aren’t they paid 10x as much?

Joel Spolsky gave a couple answers to this question in his most recent podcast. First, programmer productivity varies tremendously across the profession, but it may not vary so much within a given company. Someone who is 10x more productive than his colleagues is likely to leave, either to work with other very talented programmers or to start his own business. Second, extreme productivity may not be obvious. This post elaborates on this second reason.

How can someone be 10x more productive than his peers without being noticed? In some professions such a difference would be obvious. A salesman who sells 10x as much as his peers will be noticed, and compensated accordingly. Sales are easy to measure, and some salesmen make orders of magnitude more money than others. If a bricklayer were 10x more productive than his peers this would be obvious too, but it doesn’t happen: the best bricklayers cannot lay 10x as much brick as average bricklayers. Software output cannot be measured as easily as dollars or bricks. The best programmers do not necessarily write 10x as many lines of code and they certainly do not work 10x longer hours.

Programmers are most effective when they avoid writing code. They may realize the problem they’re being asked to solve doesn’t need to be solved, that the client doesn’t actually want what they’re asking for. They may know where to find reusable or re-editable code that solves their problem. They may cheat. But just when they are being their most productive, nobody says “Wow! You were just 100x more productive than if you’d done this the hard way. You deserve a raise.” At best they say “Good idea!” and go on.  It may take a while to realize that someone routinely comes up with such time-saving insights. Or to put it negatively, it may take a long time to realize that others are programming with sound and fury but producing nothing.

The romantic image of an über-programmer is someone who fires up Emacs, types like a machine gun, and delivers a flawless final product from scratch. A more accurate image would be someone who stares quietly into space for a few minutes and then says “Hmm. I think I’ve seen something like this before.”

More programming posts

It doesn’t pay to be the computer guy

Posted on by John

This weekend I ran across a post by Shaun Boyd called Ten reasons it doesn’t pay to be the computer guy [link has gone away]. He begins with the observation that if you’re “the computer guy,” most of your accomplishments are invisible. Nobody consciously notices things working smoothly. In fact, if you do a great job of preventing problems, people will assume you’re not needed. After discussing being unappreciated, Boyd goes on to complain about unreasonably high expectations people have of “the computer guy.”

These are valid complaints. However, they somewhat offset each other. Yes, much computer support work is invisible, but the firefighting aspects of the job are very visible and often appreciated. Other computer careers are less visible than desktop support and do not have the same potential for positive client interaction. Security may be the worst. Nobody ever notices the lack of security problems. The only potential visibility is negative.

I think the problem is not so much a lack of visibility but a natural incentive to concentrate on the more visible aspects of the job. It’s natural to do more of what is rewarded and less of what is ignored. Troubleshooting is often immediately rewarded by the gratitude of clients. (“My computer was all messed up and you saved me. Thank you, computer guy!”) Preventative maintenance and infrastructure improvements are appreciated only in the long term, if ever.

These challenges are not unique to computer careers; cure is usually more appreciated than prevention. The other problems Boyd lists are not unique to computer careers either. For example, he mentions the lack of appreciation for specialization.

There is no common understanding that there are smaller divisions within the computer industry, and that the computer guy cannot be an expert in all areas.

Every industry has its specializations, though specializations within the computer industry may be less widely known. Maybe specializations are harder to appreciate in newer industries; not long ago the computer guy could be an expert in more areas. Another difficulty is that computers are mysterious to most people. They find it easier to imagine why there are different kinds of doctors for eyes and ears than why there are different kinds of computer guys for desktops and servers.

Boyd makes one point that is almost unique to the computer industry: rapid change devalues skills. Every industry experiences change, but few change at the same rate as the computer industry.

Thanks to the constantly declining price of new computers, the computer guy cannot charge labor sums without a dispute. … desktop computers are always getting smaller, faster, and cheaper. It’s possible to purchase a new desktop computer for under $400. If the computer guy spends five hours fixing a computer and wants $100/hour for his time, his customer will be outraged, exclaiming “I didn’t even spend this much to BUY the computer, why should I pay this much just to FIX it?”

When people in other professions complain about how their jobs are changing, they’re usually complaining directly or indirectly about the impact of computer technology. But the rate of change for those who use a technology is usually less than the rate of change for those who produce and support it.

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Tragedy of the anti-commons

Posted on by John

The tragedy of the commons is the name economists use to describe the abuse of common property. For example, overfishing in international waters. Someone who owns a lake will not over fish his own lake because he knows he will benefit in the future from restraining his fishing now. But in international waters, no individual has an incentive to restrain fishing. Mankind as a whole certainly benefits from restraint, but single fishermen do not.

Michael Heller discusses an opposite effect, the tragedy of the anti-commons, on the EconTalk podcast. The tragedy of the commons describes the over-use of a resource nobody owns. The tragedy of the anti-commons describes the under-use of resources with many owners. For example, suppose an acre of land belongs to 43,560 individuals who each own one square foot. The land will never be used for anything as long as thousands of people have to agree on what to do.

The example of land being divided into tiny plots is a artificial. A more realistic example is the ownership of patents. Building a DVD player requires using hundreds of patented inventions. No company could ever build a DVD player if it had to negotiate with all patent holders and obtain their unanimous consent. These patents would be worthless due to gridlock. Fortunately, the owners of the patents used in building DVD players have formed a single entity authorized to negotiate on their behalf. But if you’re creating something new that does not have an organized group of patent holders, there are real problems.

According to Michael Heller, it is simply impossible to create a high-tech product these days without infringing on patents. A new drug or a new electronic device may use thousands of patents. It may not be practical even to discover all the possible patents involved, and it is certainly not possible to negotiate with thousands of patent holders individually.

Small companies can get away with patent violations because the companies may not be worth suing. But companies with deep pockets such as Microsoft are worth suing. These companies develop their own arsenal of patents so they can threaten counter suits against potential attackers. This keeps the big companies from suing each other, but it doesn’t prevent lawsuits from tiny companies that may only have one product.

Listen to the EconTalk interview for some ideas of how to get around the tragedy of the anti-commons, particularly in regard to patents.

Transaction costs

Posted on by John

“If you make $30 per hour, you should outsource everything you do that you could hire someone else to do for less than $30.” Rubbish. I don’t know how many times I’ve heard this advice. It sounds good, for about two seconds. But it doesn’t work because it ignores transaction costs.

Suppose you’re an accountant making $60,000 per year, an hourly rate of $30. If someone is standing in front of you and says “Hey, I’ll do your yard work for the next hour for $20. Why don’t you go inside and do an hour of accounting?” In that case, it makes sense to take the yard worker up on his offer (unless you want to work outside for non-monetary reasons). But reality is seldom so simple. First of all, if you are a salaried employee, you probably don’t have the option of putting in an extra hour’s work for an extra hour’s pay. But even if you do freelance accounting, you may not be able to find an hour’s work when you want it.

Say you have some freelance accounting to do, and you’d like to get out of your yard work. You’ve got to find someone to do the work unless there happens to be landscaper standing outside your door. You might ask friends for recommendations, search the web, make a few phone calls, etc. Finding a landscaper is easier than finding accounting work, but it still takes effort.

The effort necessary to find work or to find workers is called a transaction cost. So is negotiating compensation, drawing up contracts, etc. If you have a steady stream of accounting work, you might think “I’m going to need to free up some time to do this extra work. I’ll outsource some of my chores, like my yard work.” And that makes sense. But unless you have enough work at hand, it’s worthwhile to do many things for yourself that in theory you could pay someone else to do.

Transaction costs are not all bad. They give life stability and variety. Salaried jobs exist because transaction costs make it expensive to put every task out for bid. And we develop a variety of skills because it is impractical to ask someone else to do everything for us outside of our narrow professional specialization.

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Feed the stars, milk the cows, and shoot the dogs

Posted on by John

The blog Confessions of a Community College Dean had a post on Monday entitled Cash Cows that talks candidly about the financial operations of a community college.

It’s a commonplace of for-profit management that units can be characterized in one of three ways: rising stars, cash cows, and dogs. The savvy manager is supposed to feed the stars, milk the cows, and shoot the dogs. … We milk the cows precisely so we don’t have to shoot the dogs.

The “cows” are the profitable courses and the “dogs” are the unprofitable courses. Popular belief has it that English classes are cash cows because they require fewer resources than, say, chemistry classes. However, this blog says that English classes only break even because they also have smaller classes. The real cash cows are the social sciences. The biggest dog is nursing. The profit from teaching history, for example, makes it possible to train nurses.

Illnesses of the U.S. economy

Posted on by John

“For the last decade, the U.S. economy has suffered from a combination of hypochondria and iatrogenic illnesses. The hypochondria stems from spurious statistics and deceptive anecdotes and erroneous theories of American decline. It results in a period of fear and anxiety, propagated by the media, measured in public opinion polls, and enhanced by alarmist demagoguery. Iatrogenic illnesses are diseases caused by the doctor — in this instance by hundreds of economic Ph.D.s, government planners, and politicians who have responded to the pangs of hypochondria by inflicting thousands of real cuts on the entrepreneurs who make the economy go, as if, like the physicians of the Middle Ages, the experts believe in bleeding the patient as a way of restoring him to productive health.”

From The Spirit of Enterprise by George Gilder, written 25 years ago (1984).

Related post: Starting a business is not as risky as people say

Parkinson’s law

Posted on by John

Yesterday I found a copy of Parkinson’s Law for $1 at a library book sale. This book is best known for it’s opening line: Work expands so as to fill the time available for its completion.

Dust jacket of the book Parkinsons Law and Other Studies in Administration

The name “Parkinson’s law” can mean at least four different things:

  1. The 1957 book by C. Northcote Parkinson
  2. The first chapter of Parkinson’s book
  3. The principle expressed in the book’s opening line, as understood by Parkinson
  4. The principle in the opening line as understood today.

I’d heard of the general principle of Parkinson’s law a few years ago. I only found out about the book more recently. I didn’t know until last night that Parkinson intended his principle to be applied more narrowly than it is applied now.

The full title of the first chapter of the book is “Parkinson’s Law, or The Rising Pyramid.” This chapter explains how work expands to fill the available resources within a bureaucracy and why bureaucracies grow exponentially at a compounding rate of around 5% per year. The subtitle addresses the mechanism for this growth, bureaucrats creating a pyramid of subordinates. Parkinson derives his law from “two almost axiomatic statements”:

  1. An official wants to multiply subordinates, not rivals.
  2. Officials make work for each other.

Nowadays Parkinson’s law is usually condensed to saying work expands to the time allowed. It is applied to individuals as well as a burgeoning bureaucracies. Parkinson discusses this interpretation in his opening paragraph but then limits his attention to organizations.

The total effort that would occupy a busy man for three minutes all told may in this fashion leave another person prostrate after a day of doubt, anxiety, and toil.

Chapter 3 of Parkinson’s law is “High Finance, or The Point of Vanishing Interest.” This chapter is the source of the phrase bike shed arguments. In this chapter Parkinson states what he calls the Law of Triviality:

… the time spent on any item of the agenda will be in inverse proportion to the sum involved.

The idea is that people are more likely to contribute to the discussion of things they understand. A nuclear reactor will sail through the finance committee, but a bicycle shed will cause endless debate because everyone can understand it and everyone has an opinion.

I picked up a copy of Mrs. Parkinson’s Law at the same book sale, also for $1. I’d never heard of it before, but I imagine it will be entertaining.

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Mortgages, banks, and Jensen’s inequality

Posted on by John

Sam Savage’s new book Flaw of Averages has a brilliantly simple explanation of why volatility in the housing market caused such problems for banks recently. When housing prices drop, more people default on their mortgages and obviously that hurts banks. But banks are also in trouble when the housing market is volatile, even if on average house prices are good.

Suppose there’s no change in the housing market on average. Prices go up in some areas and down in other areas. As long as the ups and downs average out, there should be no change in bank profits, right? Wrong!

When the housing market goes up a little bit, mortgage defaults drop a little bit and bank profits go up a little bit. But when the market goes down a little bit, defaults go up more than just a little bit, and bank profits go down more than a little bit. There is much more down-side potential than up-side potential. Say 95% of homeowners pay their mortgages. Then a good housing market can only improve repayments by 5%. But a bad housing market could decrease repayments by much more.

In mathematical terminology, the bank profits are a concave function of house prices. Jensen’s inequality says that if f() is a concave function (say bank profits) and X is a random variable (say, house prices) then the average of f(X) is less than f(average of X). Average profit is less than the profit from the average.

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Can you predict the "20" in 80/20?

Posted on by John

A simplest form of the 80/20 rule says that 80% of results come from only 20% of efforts. For example, maybe the top two people on a team of 10 are responsible for 80% of the team’s output. Maybe the most popular 20% of items on the menu account for 80% of a restaurant’s sales. Maybe you read 10 books on a subject but most of what you learned comes from the best two (or the first two).

The exact numbers 80 and 20 are not special. For example, one study showed that 75% of Twitter traffic comes from the most active 5% of users. That’s still an example of the 80/20 rule. The point is that a small portion of inputs are responsible for a large portion of outputs.

One criticism of the 80/20 rule is that you can only know which 20% was most effective in hindsight. A salesman could call on 100 prospects in a week and only make sales to 20. At the end of the week he could ask “Why didn’t I just call on those 20?” Of course he had to call on all 100 before he could know who the 20 were going to be. Or maybe the best 20% of your stock portfolio accounted for 80% of your growth. Why didn’t you just invest in those stocks? If you could have predicted which ones they were going to be, you would have done just that.

It’s easy to be cynical about the 80/20 rule. There are too many hucksters selling books and consulting services that boil down to saying “concentrate on what’s most productive.” Thanks. Never would have thought of that. Let me write you a check.

At one extreme is the belief that everything is equally important, or at least equally likely to be important. At the other extreme is the belief that 80/20 principles are everywhere an that it is possible to predict the “20” part. Reality lies somewhere between these extremes, but I believe it is often closer to the latter than we think. In many circumstances, acting as if everything were equally important is either idiocy or sloth.

You can improve your chances of correctly guessing which activities are going to be most productive. Nobody is going to write a book that tells you how to do this in your particular circumstances. It takes experience and hard work. But you can get better at it over time.

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