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Behaviour AND Capital as Inventory – Mechanism Design for Pandemics and wicked problems

                       | Profit with Purpose and Capital with Conscience |

a mantra of what comes next in the economy and those who do not will have to watch Jurassic Park – End of Greed, Back to the Future.

To begin with, we must talk about the virus, the corner store entrepreneur and the economy. What is common to all is the “behaviour” of people. We look at our thesis of Behavior + Capital as Inventory” and dealing with a wicked problem such as a pandemic.

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http://www.sympoetic.net/Managing_Complexity/complexity_files/1973%20Rittel%20and%20Webber%20Wicked%20Problems.pdf . Enclosed are a few slides from detailed internal research.

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From a July 2019 post on how Predator-Prey behaviours work and mathematical biology applied to understand behaviours with Lotka-Volterra equations, consider the virus challenge at the moment and try and understand what the basic underlying behaviours are? 

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To begin with, a recent study showed that over 98% of all managers across the board do not make decisions! Why? Think of the “causality” of perceived uncertainty around making the wrong decision. The issue is not losing one’s job income, but the liabilities of expenses on a monthly basis from supporting one’s family, mortgages and other expenses that deter people from making decisions. The counterfactual is if I make a decision would this outcome have actually not occurred or if I don’t have fixed liabilities would I make a decision?

 

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The bottom line is that the core of the challenge is understanding the behaviour of people, the only unknown-unknown with the causality being a known-unknown.  How do we deal with this massive SARS-COV2 challenge and the virus pandemic that is accelerating itself with one simple variable that is a constant, the behaviour of people!

Governments, social organisations, investors and the common person on the street are asking, how do we deal with this challenge (a Wicked problem that traditional statistical, AI & general math models won’t address) and where do we start.

The big question? The economy or life? The answer should not even have arisen as the very question itself. Life is the most important asset that everyone must cherish and so must every organisation and government. But therein lies the theory of “Quantum Rationality of thought” the AND of Yes AND No OR Yes Or No at the same time. We know what comes next, seems binary but it’s actually quantum.

To understand how to deal with the economics of the challenge, we can begin with the corner store entrepreneur who has competitors next door.

We look at the Relevant Liquidity of Behaviour+ Capital in the market as fundamentals to understanding the mechanism design* (part of complete work that is proprietary and internal). To think of the model visualise a trade or commerce mechanism where there are buyers and sellers of products and services to understand a term we defined as “Relevant Liquidity”.

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A Corner store entrepreneur has three competitors and has only £10,000 pounds of capital to invest which we treat as ïnventory”. The stores 1, 2 and 4 respectively invest £100,000, £1.2m and £5m respectively and have a larger start.

However, our entrepreneur 3 plans her business well and ensures that the capital principal invested £10,000 turns 120 times a year or once every 3 days which generates a larger velocity of capital creating a potential Cash Conversion Cycle of -5days and generates £1.2m in revenue and is the business that is most valuable, of 360x of capital invested.

What is the underlying principle for governments and why will most if not all mechanism designs around current market interventions for the SARSCoV2 fail in behaviour? The Stock Turn of capital deployed (grants, tax rebates, low-interest rates, et al) have a stock turn of less than 1, increasing the Cash Conversion Cycle to greater than 360 days hence borrowing from the future. This has a cascading effect on behaviour and their capital as inventory thus creating low equity and high debt with large DIO (Days Inventory Outstanding), DSO (Day Sales Outstanding) and low DPO (Days Payable Outstanding) leading to higher than 365 days of Cash Conversion Cycle. This, in turn, creates a low return on equity and thus a cycle down a path of no return.

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*goal is not to measure the exact WACC or other similar metrics but a simplified explanation for all to understand

Key to measure is how participatory behaviours drive Relevant Liquidity and then accelerate Velocity, Volume, Veracity & Value of capital with behaviours as the currency to reduce friction through mechanism design.

Look at Apple? They have 101 is in place thus far. That could change?

 

So what can governments learn and do when creating economic policy on a scale that has not been seen this century, a truly wicked problem? Creating mechanism designs that encourage behaviours of increasing Stock Turns of capital inventory, through Self-Interest (SI), Incentive Compatibility (IC) and Truthful Sharing (TS). The goal of the policy is simple in design. 

i. Capital allocated to be treated as Inventory

ii. The mechanism design for behaviours to drive participation that leads to Stock Turn of Capital to be >=1 and a Cash Conversion Cycle of <= 30days

iii. The Return on Equity must be measured as a direct return on Inventory 

iv. The principles of the mechanism must have all three variables, Self-Interest (SI), Incentive Compatibility (IC) and Truthful Sharing (TS)

If you look at the above it is no guess what is going to happen to the $Trillions being pumped into economies on one end and at the other a vast majority of leading economies pumping less than 1% – 5% of the GDP Capital Inventory.

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People are the economy – It is clear that simple back of the napkin calculations to support a minimum of 30% of the workforce to be incentivised will require vast amounts of capital deployed that will lead to stock turns >=1.1 to be productive and create equity, while maintaining a base 30 days Cash Conversion Cycle for the people in the economy to interact and be healthy, happy and safe, while creating value across the profit pool.

So in capital terms what does each country require in capital inventory? It depends on the capital that will be a factor of GDP on a monthly basis computed to get a return on principal x (1+(1 x factor of Cost of Capital + Rate of Inflation))/No. of days which would determine minimum expected Stock Turn of Capital (Inventory) to be productive in a simplified formula to understand the principle.

Every month capital or time to utilise capital lies underutilized not leading to a Stock Turn into equity, the DIO (Days Inventory Outstanding) goes up, while potential DPO (Days Payable Outstanding) remains the same and the DSO (Days Sales Oustanding) starts to increase leading to higher Cash Conversion Cycles (CCC  = DIO + DSO – DPO)

This is where the core behavior lies. If capital deployed as inventory is given to people or companies does not create stock turns >=1.x and where the CCC does not decrease say from an average of 30 days then the path is very clear. The debt goes up due to the increased DIO and inability to lower the DSO while having to maintain the DPO (ex: pay rent at the end of 30 days), the outcomes are clear. Bankruptcy.

Current stimulus packages, by and large, are designed around “tame problem” playbooks while the SARSCoV2 is a “wicked problem”. Current economic models and thinking are focussed on liquidity which is really what it is not as Liquidity is really the CCC of an individual or entity in simple understanding. What current models do is lead to <1 stock turn or capital not creating behaviours that accelerate ST while reducing the CCC of capital and multiplying the TMV of capital inventory and the equity multiplier effect on the principal deployed. The results should not be startling as the outcomes are going to have to keep spending a minimum of 80% of monthly GDP to get a 1.3x times of Stock Turn to achieve a greater than or equal to 1x (>=) of stimulus spending. 

By this model inputs will have to be for every 30days of DIO of the unproductive principal of GDP monthly spend, every country will have to invest significant amounts of capital to see the real impact. However, the current approaches in economic stimulus packages are not driving the principles of economic behaviour to drive the CCC lower and increase ST, but rather the opposite. This will then lead to constant stimulus inputs which will all yield similar results leading to CCCs that extend beyond 8%+ of the total GDP on a monthly basis being pushed forward which for every 30 days. So in the United States a 90 days lockdown or this increase in DIO will be equivalent to 25% being extended at 1.3x stock turn is around 19.2% or around $3.9T required, with one key element, Stock Turn capital deployed.

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The headlines scream governments across the world and the current approaches of the stimulus. What is unravelling equally fast is how will all this come together with current mechanisms?

 

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Screenshot 2020-04-08 at 06.07.00https://www.statista.com/statistics/1107572/covid-19-value-g20-stimulus-packages-share-gdp/

So where do policymakers and government leaders begin? The principles of 101 of mechanism design with “behaviour” as the pivot and the algorithm to increase participation between every upstream, midstream and downstream entity in the economy for every industry to creates the circular flow of behaviour and capital.

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Current approaches seem to look like stores 1,2 and most 4 above, large capital, high CCC, low Stock Turn and poor mechanism design to drive Satisficing behaviours, but rather maximizing behaviours, leading to long term to recover due to the high DIO.

So what next? How do we design mechanisms around quantum rational thinking to create value for all participants where we map the core of the challenge, the behaviour of people and create market-making mechanisms that create a participative and inclusive economy by the design of Self-Interest (SI), Incentive Compatibility (IC) and Truthful Sharing (TS), else watch every single model implode right in front of one’s eyes, Today’s challenges cannot be solved with yesterday’s ideas and we are dealing with a truly wicked problem that needs everyone to understand the principles of a wicked problem first.  

The key is decisions not predictions for time and time again we have discovered as in the case of the SARS-CoV2 that all the AI, modelling and computation couldn’t predict what would come next, as good as the store next door entrepreneur could not predict what sells next? 

 

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““…THE NARRATIVE OF THE FUTURE WILL BE ONE IN WHICH WE ARE VALUED FOR OUR ABILITY TO JUDGE AND SHAPE THE DECISION-MAKING CAPABILITIES OF MACHINES.”

“IT IS DECISIONS, NOT PREDICTIONS, THAT HAVE CONSEQUENCES.”

https://digital.hbs.edu/managing-in-the-digital-economy/a-responsibility-to-judge-carefully-in-the-era-of-prediction-strikethrough-decision-machines/

In this era, the interdisciplinary approach of behavioural and decision sciences combined with mechanism design and computing sciences will be the key battleground on which equitable growth will lead to a sustainable future for all.

As the pandemic keeps unravelling itself, the counterfactuals will be astounding as the causality is well known, decision making today is without the Cause-Behaviour-Effect but based on statistics and risk models.

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The bottom line is we are dealing with a #wickedproblem with a #tameproblem solution approach. What comes next is whole new thinking important to economics, sociology and mechanisms around what we believe is our thesis of capital + behaviour as inventory is one such approach.  A lot of theory is going to have to be rewritten along with a lot of economies, people’s lives and livelihoods and very unfortunately so.  The sinking feeling for most is when you become the statistic, you wake up with a different view of the world, till then it’s just a problem in grammar referred to that of the third person, he, she, it, they.

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