The Outside Context Problem

Originally published in the Informanté newspaper on Thursday, 12 January, 2017.
Lo and behold – it is 2017! What a wild year 2016 was! When we started 2016, who could have predicted that the United Kingdom would vote to leave the European Union? Who’d have thought an outsider like Donald Trump would snatch away the election from an established Hillary Clinton? And with Namibia’s growth on a high, who would have thought we’d enter the next year under the cloud of a technical recession?

We’ve lived through a year full of what economists term ‘black swan events.’  In 16th century London, it was common knowledge that all swans were white – after all, no black swans had ever been seen. Thus, claiming something was a ‘black swan’ was to say it did not exist. But then, in 1697, Willem de Vlamingh saw black swans in Western Australia, and the term ‘black swan’ became known as something that seemed impossible, only to later be shown otherwise.

It is thus an unknown unknown – something we don’t know, that we also don’t realise we don’t have knowledge of. I myself prefer calling it an Outside Context Problem, as referred to by writer Iain M Banks in his Culture novels. As he put it, it’s a problem you’d encounter “rather in the same way a sentence encountered a full stop.”

“The usual example given to illustrate an Outside Context Problem was imagining you were a tribe on a largish, fertile island; you'd tamed the land, invented the wheel or writing or whatever, the neighbours were cooperative or enslaved but at any rate peaceful and you were busy raising temples to yourself with all the excess productive capacity you had, you were in a position of near-absolute power and control which your hallowed ancestors could hardly have dreamed of and the whole situation was just running along nicely like a canoe on wet grass... when suddenly this bristling lump of iron appears sail-less and trailing steam in the bay and these guys carrying long funny-looking sticks come ashore and announce you've just been discovered, you're all subjects of the Emperor now, he's keen on presents called tax and these bright-eyed holy men would like a word with your priests.”

Or as Nassim Taleb put it, “First, [the event] is an outlier, as it lies outside the realm of regular expectations, because nothing in the past can convincingly point to its possibility. Second, it carries an extreme 'impact'. Third, in spite of its outlier status, human nature makes us concoct explanations for its occurrence after the fact, making it explainable and predictable.”

Nassim Taleb, in fact, first brought the term as applicable to risk management to the forefront, most notably in his 2007 book, The Black Swan. His points make sense, after some rumination. Too often we expect the normal everyday life to continue, with the bits of randomness so prevalent in life to be the same kind of randomness you often find in games – a perfectly normal randomness, in other words. 

But as the past year has shown us, this ‘normal’ Bell-curve randomness results in us actually discounting events with very small probabilities of occurring as they are extreme outliers. And additionally, we’ll never expect events to occur that we didn’t even CONSIDER to be possibilities at all! How do you prepare to mitigate that? Taleb, luckily, has some ideas. Key amongst these is the concept of anti-fragility. In order words, institutions should implement strategies that can capitalize on positive outside context problems, and become stronger due to negative ones. 

He provides several guidelines as to how to achieves this. “What is fragile should break early while it is still small.” In other words, don’t have any institution that is too big to fail. Anything critical should be tested early and often, so that it can fail and show its weaknesses before it becomes critical. “Don’t let someone making an incentive bonus manage risk.” Bonuses don’t accommodate critical collapses. You don’t want to cut corners to show a profit on safety. 

“Only fraud should depend on confidence. Governments should never need to restore confidence.” No one will ever be able to contain the spread of rumours. Instead, our government should be able to shrug off rumours and operate in the face of them. “Do not give an addict more drugs if he has withdrawal pains.” Or, don’t use the same methods to try and solve the problem as the ones that caused it. After all, the definition of insanity is doing the same thing over and over again and expecting different results. “Make an omelette with the broken eggs.” We might be tempted to fix what is broken, but a better solution would be to take the pieces of what is broken, and build something new that cannot be broken as easily. 

It is quite an interesting facet of risk management to examine, and I heartily recommend that those interested do so – after all, it seems more and more that the unthinkable becomes reality. Globally, we’re going to see even more potentially unthinkable scenario’s that could become reality – France deciding to exit the European Union and NATO, a new Italian banking crisis that could precipitate a new banking crisis, Venezuela going into default, a potential trade war between China and the USA, or the USA and Mexico, a successful North Korean nuclear test… These all seem like low-probability events, but ones with far-reaching consequences. 

Locally, we face the possibility of a recession that could stretch into a true depression. We have a drought that may be extended and a possibility of a water crisis. The SWAPO conference is this year as well and that could drastically change the face of our political landscape. We have South Africa that seems teetering on the edge of a political or economic crisis. All of these have the potential to have massive consequences for our nation. 

But there could be outsized positive events as well. The United States could reach a lasting peace with Russia, significantly reducing the chance of war. Namibia could experience immense rainfall, and experience a burgeoning agricultural sector. Our Harambee Prosperity Plan could have a sudden, impactful success, that catapults our economy to new highs. We need to be prepared for that as well. 

But all of this we can see. It’s quite probably things will happen that we’d never have seen coming, that will change our lives forevermore. A true Outside Context Problem. And that is what will test our resolve. That will reveal if the foundations of this Namibian House we’re building remains strong enough to weather any storm, and to grow in times of rain. We should be ever vigilant, and ensure the foundations of truth, loyalty, kindness, generosity, joviality and friendship permeate our society. When the waves break on our shores, we must be ready.

A Namibian House: The Magic Inside

Originally published in the Informant√© newspaper on Thursday, 8 December, 2016. 

Honesty. Loyalty. Kindness. Generosity. Laughter. These are the values we need to have as Namibians if we want to join our President in building a Namibian House. One “where everyone feels a sense of belonging, where everyone is presented with a fair opportunity to prosper in an inclusive manner and by so doing, ensure that no one feels left out.” But we cannot do so alone – we need to do it together. We need to forge a bond with one another to succeed – we need to form a friendship with one another. 

Friendships are such an important part of all our lives, and yet because of its ubiquity, one we tend to neglect even though it is one of the most important bonds we need for a successful society. Friends make us feel included – and friends inspire us to be better people. We don’t just want friends – we need them! In marriage, friendship is rated as more important as intimacy. If you friend eats healthy, you are five times more likely to eat healthy as well. Even at work it is important – people without friends at work are one twelfth as likely to report feeling engaged. 

The Greek philosopher Aristotle said, “In poverty and other misfortunes of life, true friends are a sure refuge. They keep the young out of mischief; they comfort and aid the old in their weakness, and they incite those in the prime of life to noble deeds.” Friends come in many shapes and sizes, and all these types of friends help us in different ways.

Some friends are motivators – builders. They motivate you, and encourage you to develop yourself – they drive you to succeed. They’ll risk themselves in order to see you succeed, because they know that success is not a zero-sum game, and they know that success is best shared. Other friends are your champions. They believe the same things you do, and they’ll provide vital encouragement in your endeavours. They have your back, and will stand up for you even if you’re not there.

Friends can also be your partners. You’ll share similar interests, and this is the basis for many a friendship. These are the people you’re on common ground with, and who join you on your journey through life, with similar ambitions etc. Friends can also be companions – the people who are there for you when you need them. These are the people you want around you when something big happens in your life – the people you share a deep bond with. 

Some friends are connectors. These friends help you build friendships, as they learn to know you, and introduce you to other friends, and help you to meet new people. If you need something, they know someone who can help. Other friends are your energetic friends – they’re the fun part of a social circle. They make a good day great, and lift your spirits when you’re down. 

Then you have your intellectual friends – your creative friends. They help you open your mind, and expand your horizons. They help you discover new ideas, new opportunities and drive you to explore other people and cultures. They want to create a positive change, and always ask the good questions. Finally, you have your friends who are expert navigators of life. They are always there with sound advice, and they are the people you approach when you need guidance. During difficult times, they’ll help you to see a positive future that remains grounded in reality. 

As you discover these values in your friends around you, you’ll start to see that you, too, fulfil many of these roles for your friends. Friendships cultivate the virtues which are essential to a flourishing society. And while friendships are mutually beneficial, friendship at its core is not a give-or-take proposition. Friendships occur because we are willing to give ourselves to another life. We don’t make friends because we expect something in return, but because we have something we can give.

Friendships are born from generosity, as we give yourselves. We bond through laughter, while loyalty binds us together and make us strong. Mutual honesty shows us that we belong, and our kindness shared unites us through each day, and for the rest of our lives. Success does not happen in isolation – every successful person has a group of friends that helped him/her become that success. Oscar Wilde famously said “Anybody can sympathise with the sufferings of a friend, but it requires a very fine nature to sympathise with a friend’s success.”

We, as a country, need to be invested in each other’s success if we wish to break the cycle of poverty. We need to be honest with one another about what is required, and invested in not leaving anyone behind. We need to lift up those who are trapped in the darkness, and give freely to ensure success permeates across all the strata of our society. We’ll do it with a smile on our faces, because seeing each other succeed should fill our hearts with joy. We cannot do it alone. 

We need to become more than citizens – we need to become friends! Friends invested in seeing the Harambee Prosperity Plan succeed. Friends who motivate, who encourage, who are there for each other when needed. Friends that join everyone who can help each other, and friends who not only open each other’s minds, but also guides each other to a new future we built together. When citizens are friends, success will follow like magic. All the values in the world cannot thrive if they cannot be shared amongst friends – but when they are, I believe you’ll find that friendship is magic.

Deep Breaths

Originally published in the Informant√© newspaper on Thursday, 1 December, 2016. 

A few months ago, I explained how inflation was a natural occurrence of our modern economies, just as our own inflation started to skyrocket. The time has come once again to revisit that topic, as our inflation woes have only worsened, and our economic situation has become more precarious as well. With our GDP growth turning negative in the second quarter, and our government expecting overall growth to slow to 2.5%, it is time to examine our options. 

Inflation can be defined, inter alia, as the rate as which money loses value. If the inflation rate is at 5%, for example, that means N$ 100 of goods this year, will cost N$ 105 next year. It means your money will lose 5% of its value every year – a frightening prospect! If you thus want to save, you need to to get a return, or interest rate on your savings, of at least 5% just to break even. This means that the interest rate as quoted by the banks, are simply what is known as a nominal interest rate. The real interest rate is the nominal interest rate minus the inflation rate. 

To build capital you thus need a positive (above zero) real interest rate. This is also true for investment in a business. When investing in a business, you expect a return – a return on investment. But similar to interest rates, this needs to be adjusted for inflation as well, to get the real return on investment. For a business this return is generally reflected in its profits after tax.

But businesses need capital, and this is generally procured either via direct investment in a business (also known as equity investment) or via debt, or loans. Since equity investors get partial control of a business depending on their investment, and share in the profits, it is generally the most expensive, since the business owner will have to give up a certain percentage of her profits. Businesses therefore tend to approach banks for loans.

Where do banks get the money to advance loans? Why, they get it from you! The depositor who is saving money at the bank! In order to pay you your interest, they in turn give loans at a higher interest rate to businesses and individuals than what they pay you, and use the difference to cover their expenses. Obviously they cannot lend it ALL out – after all, when you want your money, you’ll not be happy if told that it is in the hands of XYZ corporation that has not repaid its loan yet. 

Generally, however, a lot of money gets saved each day, a lot of loans are repaid each day, and a certain percentage of savings are untouched. So the bank aims to keep a certain percentage of capital in reserve, to pay out should money be withdrawn. Per Bank of Namibia regulations, they need to keep at least a minimum percentage, but they are free to keep more. Unfortunately, they don’t earn any interest on funds in reserve, so they generally keep close to it. 

So what happens when a bank experiences an imbalance, and needs more cash to keeps its reserve intact? They lend from the central bank, as I’ve explained in a previous Theory of Interest. These funds, however, are not for free. They borrow from the Bank of Namibia at the Repo Rate. Thus, the repo rate is the anchor, the benchmark, by which banks set their interest rates. 

If the repo rate is lowered, then banks have some breathing room. They can advance loans at lower rates – and those who have to repay them, businesses and individuals, have a lower repayment amount. For individuals, this means more money to spend at the various businesses in the economy, enhancing their profits. For businesses, this means their real rate of return goes up, as their profits increase due to lower interest costs. Thus, as the interest rates goes down, the economy is stimulated. Growth increases. 

Conversely, when the repo rate goes up, the opposite happens. Loans need to have higher rates – meaning businesses have lower profits, and individuals have less to spend. With higher rates, businesses need to have higher real rates of return to be able to qualify for loans, while their current loans decrease their profits and rates of return. Economic growth thus slows. 

Central banks, however, are not in charge of economic growth – they are in charge of monetary stability. In other words, they need to keep inflation in check. As I’ve previously covered, inflation occurs when economic spending (creating new money by issuing debt) outpaces economic growth. And so, the natural reaction when faced with increasing inflation is for the central bank to increase interest rates, so as to reduce spending (or reducing the money in circulation).

It is thus clear that the Bank of Namibia is in a bit of a bind. With our economic growth currently slowing due to external factors, the last thing our economy needs is the additional pressure an interest rate increase would put on it. But our inflation keeps slipping upwards. Our Repo Rate is currently at 7%, with inflation at 7.3%. This presents an additional problem for inflation targeting, as the banks can effectively utilize their facilities at the reserve bank to borrow at less than inflation – effectively making money in a real sense every time they borrow, since the money they pay back has lost 7.3% of its value, while they only had to pay back 7%. 

The Bank of Namibia’s next Monetary Policy Committee meeting will be on the 7th of December, and we should be monitoring their repo rate decision with all the attention it deserves. Will they take the view that our current inflation is simply lagging behind their previous rate increases, and will drop soon – and thus keep the repo rate as is? If they are wrong, inflation could spiral out of control. Will they take action to keep the repo rate above inflation, and put more pressure on the economy? If they do, will that put a damper on our potential economic recovery next year? We’ll know on the 7th of December – and then we’ll have an idea of what 2017 could have in store for us.