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Sunday, March 27, 2011

Malthus, Demographics, and China's Future

Last week, I had some furious e-mail exchanges with a Media Realism reader. I have never met the gentlemen in person but there is a lot of mutual respect between us and we both really enjoy the lively back and forth that our correspondence generates.

With his permission I am going to cover portions of our e-mail trail from a week ago.

He basically led off with the premise that the United States was finished. Our debt and overhanging entitlement avalanche would eventually destroy the country. China, in his view, would rule the world in 20 years. We might hang on as a military power for a while but our days as a serious economic player are rapidly coming to an end.

I agreed that we certainly face serious challenges and that politicians need to take corrective action soon to avoid a disaster. But, I warned him that as impressive as China’s growth has been in recent years, they appear to be headed for a train wreck that will be harder to avoid and correct than our entitlement and debt problem. It all comes down, like many things in marketing and business, to simple demographics. To explain, let us go back about 200 years.

Thomas Malthus (1766-1834) was a very gloomy economist at a time when the rest of the educated world was getting excited about the ideas of Jean Baptiste Say, Adam Smith, and David Ricardo. One of his most famous arguments was that the western world would have severe trouble feeding itself. Basically, he said that population, when left unchecked, increases in a geometric ratio. At the same time, the ability to produce food increases only at an arithmetic ratio. So, eventually, many nations have to face starvation. Famine and epidemics would help (sic) ease the problem as would the occasional war and plague. Without those sad events, Malthus felt that the only acceptable alternative was very late marriage and abstinence by the population. As a clergyman he was opposed to all forms of birth control (like many economists, Malthus was a fun guy).

Chinese leader Mao Zedong was strongly influenced by Malthus and watched with alarm as the Chinese population grew sharply during his tenure. His “Marxist miracle” was often under criticism by all sides of the political spectrum as he had a hard time feeding his billion Chinese citizens.

After Mao’s death, the next generation of Chinese leaders had the same concerns about Chinese population growth. In 1979, they became authentic neo-Malthusians and instituted the “one child per couple” policy in many provinces that is still intact today.

The Chinese economic growth story has been amazing. Cities have mushroomed seemingly out of nowhere in recent years that now have more than a million people. The average Chinese saves more than 20% of his income which fuels rapid building, investment, and manufacturing. Chinese schools are now turning out more scientists and engineers than anywhere on earth and the universities are gaining ground globally in academic rankings.

So, China is definitely booming but they are heading for perhaps the worst demographic disaster in measured history. Simply put, their strict one child per couple policy will lead to a shortage of workers. And, a labor shortage normally translates to higher wages, which will hurt the comparative advantage they now hold in manufacturing. By 2025, China is projected to have one fifth of the world’s people but one quarter of the 65+ population. Already, other cracks are appearing. For 2500 years, Chinese sons always took care of their parents. Now, with the single child policy a couple is now expected to care for both sets of parents. As Nicholas Eberstadt of the American Enterprise Institute put it “a de facto national pension system has been the family but that social safety net is now unraveling badly.” Columnist Ted Fishman asks ‘will China grow old before it grows rich?”

Another really freaky and ghoulish demographic anomaly is rearing its head in China. Due to the reverence that Chinese families give sons, many infant girls are put up for adoption and taken to foreign countries. Abortions are often undertaken if it is determined that the newborn will be a girl. So, soon China will have a population where there are 123 young men for every 100 young women. Young women will likely move to the cities where they will be highly prized by young men and only the more successful men will tend to find partners.

For a few decades in the old American West, we had gender imbalances such as this. Alaska might face this in certain regions as well. But for a country of a billion people, this is unprecedented and has to cause huge social problems including crime.

We have all heard the problems about demographics in Western Europe with Spain and Italy getting special attention. Mark Steyn refers to the present as “Europe’s Gelded Age.” The Chinese threat appears much greater. The Chinese economic growth over the last few decades has been nothing short of remarkable. They are big polluters but are taking steps to clean things up. Life is getting better for many millions of Chinese as they enter the middle class each year. But demographics are a tidal wave that no one can hold back and they are going to hit China very hard. All of us have to be impressed with what China has accomplished the past 20 years against stiff odds but taking on demographics is virtually always a losing battle.

Are demographics really that important? Well, when asked that question I always conjure up the old quote from mid-20th century writer and raconteur Damon Runyon: “The race does not always go to the swift nor the battle to the strong, but that’s the way to bet.”

May I suggest that you do not bet your life savings on China, but instead, bet on demographics?

If you would like to contact Don Cole directly, you may reach him at doncolemedia@gmail.com

Tuesday, March 22, 2011

Behavioral Economics and The Future of Advertising

A few weeks ago I visited a retail store. As I was entering I noticed a fellow about 40 years old standing out front. He was short and easily weighed 300 pounds. To my surprise, he was inhaling deeply on a cigarette. Moving through the store to pick up a few items, my thoughts kept coming back to the guy out front. He was a walking heart attack for sure and a prime candidate for a stroke as well. As I left the store, he had another surprise for me. He lighted a new cigarette with the butt of his dying one. I shook my head sadly and moved on.

Since 1776 and Adam Smith’s “invisible hand” theory, free market economics has always made the assumption that people act in a rational manner. Smith’s invisible hand said essentially that when selfish but rational actions take place across a society, we would be more prosperous overall. Well. The chubby fellow whom I encountered in front of the store was not acting rationally. He was killing himself and not slowly. Were he rational he would go on a diet right away and go cold turkey on the cigarette habit.

The real truth is that as humans we all tend to lean toward emotion. Most of us experience love, jealousy, grief and excitement at times and that clouds our behavior and purchasing.

This concept has been captured in a field known as Behavioral Economics. Back in the 1970’s two psychologists, Amos Tversky and Daniel Kahneman, began to adapt theories on how our brains process information and then contrasted that with the economic models that featured the rational man often dubbed “Homo economicus” (Kahneman won the 2002 Nobel Prize in Economics).

So, there are reasons why 20% of Americans are morbidly obese and some smoke at the same time but they are not being rational. Behavioral Economics is a marriage of Psychology and Economics and will become an increasingly important field for marketers and ad agencies in the years to come. Here are a few core principles of Behavioral Economics that can apply to our life in advertising:

1) Despite when classical and now neo-classical economists may have said, people are moved by value judgments and, sometimes, moral judgments. Many of us every day do what is right rather than what gets the maximum profit to us short term.
2) Economists usually do not distinguish between social and market contexts. An example would be a couple’s 25th wedding anniversary. If a man gives his wife a very nice piece of jewelry she is often touched by it. Were the same fellow to give her a card with a $1000 bill in it, there is an excellent chance that the marriage would not endure for another 25 years. Some economists would argue the economic impact was the same in both cases--$1000 was spent. Behavioral Economics is more nuanced.
3) In financial markets, many of us too often are irrational investors. We buy near the top and sell when the market is bottoming out. People put way too much weight on recent events and do not often think long term, which is rational.
4) Old habits die really hard. Some 20% of Americans are morbidly obese and their girth will derail any hope of cutting future health care expenses. All too few of us examine whether our behavior is optimal.
5) Monkey see, monkey do. We observe others doing things and do not always make decisions based on our own judgment.

Historically, advertising has often made a strong appeal to emotions and we all know that emotion can be a powerful selling tool. So, ad agencies should be comfortable with Behavioral Economics and plug it in to their client service options. Today, at smaller and mid-size shops, people are all too often-dubbed Account Planners, Strategy Officers, or Marketing Directors and they basically rehash syndicated data from Simmons or Mediamark Research, Inc. (MRI). Real pros, if they have not already, should embrace Behavioral Economics. It could really sharpen their marketing effectiveness. If you dig in and understand it, you are able to weigh in on almost all brand interactions. Today, many agencies limit themselves simply to messaging.

For a non-technical primer on Behavioral Economics may I recommend, “Nudge” by Dick Thaler and Cass Sunstein? The authors serve up a host of practical suggestions to nudge people to do the right thing without being perfectly rational. It is easy reading but will make you think clearly about when economics and psychology meet.

If you would like to contact Don Cole directly, you may reach him at doncolemedia@gmail.com

Tuesday, March 15, 2011

How the West Was Lost

Dambisa Moyo is a brilliant young woman. A P.H.D. in Economics from Oxford and having a master’s degree from the JFK School of Government at Harvard are only the beginning of her impressive credentials. A few years ago, the young Zambian lady shocked the world with a book entitled DEAD AID, which boldly suggested that foreign aid is not working and that there is a better way to help Africa.

Now her next blockbuster is racing up the business best-seller lists. It is entitled HOW THE WEST WAS LOST (Farrar, Strauss and Giroux, 2011) and urges the U.S. and Europe to take corrective action quickly or face financial disaster.

In a very tightly written 195 pages, she makes some very well reasoned arguments. She boils our Gordian knot of difficulties down to three key areas:
1) The capital crisis—too much money diverted into homes rather than building up our infrastructure
2) The huge amount of debt that has created a financial house of cards
3) The labor crisis both in terms of quality and quantity

Her language has a brutal directness that you do not hear anywhere else. Consider this passage on pensions: “Forget Bernie Madoff, forget Alan Stanford, the biggest Ponzi scheme has got to be the looming car crash that is Western pension funds. And like any well-run Ponzi game, its results will be devastating. It will all end in tears.” She goes on say that her generation will face “double taxation” of having to foot the bill for current retirees and somehow save for their own.

Her coverage of the housing crisis and how the West got there is similar to others that I have seen but she raises issues that others do not. In Canada or the United Kingdom if you walk away from your home, you are still liable for the remaining mortgage. In many U.S. states, she points out, a walk-away is the bank’s problems and ultimately that of society.

The book concludes with a withering finale of tough love. She has a section entitled “all is not lost.” Her four possible scenarios are all scary but certainly possible and likely if we continue on our current path. In brief, they are:

1) The Status Quo—we continue to spend, neglect education, and remain the pre-eminent military power. If this continues the US (along with much of the West) will be second tier economies as the debt overwhelms over.
2) China Falters—somehow the Chinese cannot keep growth going and they do not overtake us. She says it is possible but not likely.
3) America Fights Back—we go on a fiscal diet, get real in all areas, and return to the bright days. She asks if we have the will to do this plus will we or can we give up our role as the world’s policeman? Also, other countries will have to virtually always play fair on trade and other issues if we are to solve our problems. Is that realistic?
4) America’s Nuclear Options?—These are tough choices. She suggests that we become less open and more protectionist as we get our house in order. Also, she tells us that the US has benefited the least from being open to global development. Then comes the bombshell. To get out of the mess, America may have to default on its debt. This would hurt the Chinese but she thinks that the world might forgive us faster than we think. Or, we can do a de-facto default by inflating our way out of the mess (this seems to be happening now to a certain degree). If we do not do one of these things she suggests that “many fear America will remain in a stranglehold of debt and dependence from which it will be very difficult to credibly escape.”

Someone wrote to me and suggested that a young Zambian is not the person to dissect our problems. My answer was one a wise man once told me—“Understanding requires distance. We cannot read a book by rubbing it against our eyes.”

Ms. Moyo has given us a shrill wake-up call. Will we respond to it?

Should you be unwilling or unable to read the book, check out Ms. Moyo on YouTube. There are several great interviews with her there.

If you would like to contact Don Cole directly, you may reach him at doncolemedia@gmail.com

Friday, March 11, 2011

Is Consumerism Dead?

Lately, as we the economy slowly claws its way back to some semblance of growth, we are hearing an interesting mix of marketers, political pundits, psychologists, financial counselors and columnists all saying the Great Recession has changed Americans permanently.

The idea is that the wild consumption binge that many Americans have been on for the last few decades has come to an end. This morning we hear that the savings rate is now at 5.8 % which is way above pre-recession levels of zero-1.5%. Many say that hard work and thrift are making a comeback as we return to old values and rely on collaboration to solve problems and now clearly see the failings of the old status symbols.

I am not so sure that is what is happening. If a few years from now the economy is booming will people revert to their old spendthrift ways? It is not clear to me where we will go.

For a moment, let us look at the facts of the Great Recession. Unemployment doubled and is now at 8.9% but almost everyone admits that the real rate is much higher as millions of discouraged citizens have given up looking for work. From late 2007 through 2009 an amazing 13 trillion dollars of wealth evaporated in the U.S. Besides unemployment soaring, 401k plans shrunk, roughly a third of the equity in homes disappeared and, amazingly, some one quarter of all mortgaged homes were under water (meaning current value of home was less than existing mortgage balance).

The spending that went on was amazing. Take housing. In 1950, the average U.S. home being built was 983 square feet. By the end of 2006, it was at approximately 2,350 square feet. Buy a house, everyone seemed to be saying to young people. It can only keep going up in value. And, by 2007, mortgage equity withdrawal, where people refinanced with a cash out option on their equity line of credit, actually was 9% of the U.S. disposable income! Looking at it another way, in 1982, a recession year, household debt was equal to 44% of Gross Domestic Product while by the end of 2007 it was actually over 100%. You did not have to be financial genius to see that this was not sustainable but if you talked about the dangers of it you were dismissed as a Cassandra.

Now, it is clear that many people are not going back to their old spending habits. If you are permanently unemployed or under-employed, you have to had to make painful lifestyle shifts. Your days of using your home as a veritable ATM machine or super credit card are over. But for those who still have decent jobs how long will this new austerity last? When will greed overcome fear?

Clearly, people are still nervous. Yet, I remember when gas briefly touched $4.00 a gallon in summer 2008 when oil topped $146 a barrel. You could not give an SUV away. But several months later when oil cratered to $33 per barrel, the SUV’s flew off the dealer lots with an abandon again. Now, as gas at the pump moves up due to Middle Eastern political tensions, the pattern seems to be repeating itself.

Unless you are in advanced old age, the Great Recession is easily the worst financial calamity that you have witnessed in your lifetime. The Great Depression of the 1930’s psychically scarred our parents or grandparents. They became more frugal and, for the rest of their lives, were net savers and cautious investors. Was the Great Recession a similar event for ALL of us?

Are we truly moving from a credit to debit society? Is the old cliché about the Indestructible American Spirit that is infinitely resilient and able to turn any hardship into opportunity still valid?

I remain on the fence. Long term we need to address our entitlements that will take the entire economy down in several years unless we have reform in the Social Security, Medicaid and Medicare plans. But with stocks up 80% from the March 2009 lows, is the “wealth effect” kicking back in among the affluent? So far, the ostentatious displays of wealth that began in the 1980’s and lasted nearly 25 years have been muted.

Our business, however, seems to be ignoring the trend to austerity if it really has legs. TV programming still goes toward the glitzy and the idealized lifestyle is one great material comfort. Do you see a resurgence of programming like “The Waltons” or “Little House on the Prairie” that epitomize the return to honesty, fairness, and authenticity that many say are reappearing in American life these days as a result of the recession?

All of us want a return to vibrant prosperity. Will it be built on our newfound savings and realism about entitlements or will it be a return to the house of cards that we built with plastic in recent decades?

I only know this for sure. Markets always go to extremes and they are full of endless volatility. As consumers get more in charge in our digital age, they are also harder to predict. But, human nature does not change. Much of me hopes that the new thrift is permanent. Recovery will be slower but it has a chance to be longer lasting than that of the era of consumerism.

If you would like to contact Don Cole directly, you may reach him at doncolemedia@gmail.com