WHEN GOOD IDEAS TURN BAD

The big bonuses paid at Barclays and Lloyds pose a question: do some once-good ideas outlive their usefulness?

What I mean is that years ago, there was a good reason why merchant banks and stockbrokers paid bonuses. It was because revenues were volatile, as they depended upon stock market conditions and merger activity. Bonuses were a way of ensuring that costs were flexible enough to respond to this volatility. Nobody seriously thought they were a means of incentivizing staff; this was accomplished by the fact that ordinary staff worked a few feet away from well-informed business owners - partners - and so were subject to good oversight.

These days, though, bonuses no longer play that useful stabilizing role. Quite the opposite. Insofar as they incentivize risk-seeking, they can be a source of instability*.

Bonuses, though, aren't the only example of good ideas gone bad. Here are some other contenders:

 - Union bashing might have made sense when we were in a profit-led regime, when bosses needed higher profit margins to induce them to invest. But it is counter-productive in wage-led regimes, when a shift from profits to wages would raise aggregate demand and hence profit rates.

 - The protestant work ethic is a good idea in times of full employment, when output is constrained by labour shortages. But it's a source of misery and frustration at times such as now when jobs are scarce.

 - German hostility to inflation and printing money was useful in the 60s, 70s and 80s, as anti-inflationary credibility and low inflation expectations might have helped improve the unemployment-inflation trade-off. But it is now a menace (pdf), to the extent that it is an obstacle to lasting solutions to the euro crisis.

 - Hierarchical workplace organization makes sense when information is costly and when workers are mere drones. But it might be less (pdf)appropriate when information is freer and when the firm needs creative employees.

 - Taxing income and profits is reasonable in a pre-globalization era when capital and labour can't move. But if they are footloose, it makes more sense to tax immobile things, such as land.

Ideas such as these are not the same as John Quiggin's "zombie ideas". He meant bad ideas that stayed alive despite being killed by reason, whereas I'm thinking of good(ish) ideas that turn bad because they outlive the  institutional frameworks which made them good.

It is, of course, understandable that such persistence should occur. Beliefs are path-dependent partly for bad reasons - Bayesian conservatism - but also for good; Burke wasn't wholly wrong when he said that there is wisdom in the ages which we should be loath to reject. This, though, means there can be a mismatch between beliefs and the facts which would justify them.

* Cynics please note: I am not so old that I'm saying that bonuses were good when I got them but are bad now others are getting them.

via:http://stumblingandmumbling.typepad.com/stumbling_and_mumbling/2014/02/when-good-ideas-turn-bad.html