Broken Incentives in US Nuclear Power Regulation

A nuclear powerplant at San Onofre was shut down a year ago after a slight radiation leakage.  Now it turns out that there are allegations that they were aware of potential concerns with the steam generators that broke but neglected to fix them because the fixes would have led to a more rigorous safety review.

Boxer's letter adds new weight to a longstanding — and unresolved — question at San Onofre. Did Edison modify the generators so extensively before they were installed that the company should have sought an amendment to its operating license, a process that can take months or even years?

Essentially the story is that the utility faced a cost benefit analysis that compared the cost of the following.

P = Reduced probability of steam generators breaking from potential modifications
C = Cost of steam generator breaking
S = Cost of additional safety modifications
L = Cost of Licensing from the NRC

And they decided that S + L > P*C so they shouldn't change anything about the design to reduce regulatory oversight. It turns out it was the wrong decision. 

Barbara Boxer's office is now alleging that they have proof that executives thought P was significant but believed that L was too high.  Senator Barbara Boxer's office broke this story and they seem to want to make L more mandatory so that the utility company would not have had to enter that variable into their cost benefit analysis. There is also a believe that L would lead to a further reduction in the probability of new machine parts breaking.

However, I haven't seen many people covering the story mention just how perverse these incentives are that safety modifications would have cost too much in licensing requirements to be implemented. In this regard maybe the US should look more to Japan and France's streamlined licensing and certification procedures rather than use any excuse of problems to hike costs for nuclear energy even further.  

It's too bad Japan's tsunami put people off nuclear power. Clean energy isn't perfectly safe. Take hydroelectric power, where a broken dam also has the potential to kill many people. But nuclear is scary and dams and floods are common so the opposition to dams is based more on environmental grounds and people living downriver while the opposition to nuclear power comes from across the country and is based largely on ignorance. When the costs of making any changes are high, the benefits of plants running newer technology are minimized. In Japan, the newer power plant that was closer to tsunami fared much better than Fukushima Daiichi plant.  We can see from San Onofre hints that under a system where any change is penalized with years of costly licensing review the chances of a disaster might actually go up, not down. 

Financial links

1. An ironically titled blog post from Reuter's Felix Salmon. I think he was thinking about "black swans" in the place of "tail risk." When one of the obvious causes behind a large standard deviation move in asset markets has become much less likely it's okay to say that tail risks have decreased. 

2. The IMF has an interesting analysis that clearly explains why a country like Japan has lower sovereign risks than their total debt levels suggest. Central banks and domestic investors reduce funding risk, so the interaction between high debt levels and an unstable investor base is generally more important than one of those factors by themselves.

3. I haven't touched on the Herbalife financial soap opera yet. For those of you who haven't heard of it, it really started when Bill Ackman gave a speech at Ira Sohn and then released a report accusing HLF of being a pyramid scheme. His price target for the stock is zero. If you are interested in whether or not this is a good trade then check out Bronte Capital's post. It seems that while Herbalife is ripping off their customers by overcharging them even after the discounts they are giving their so-called distributors, their multi-level marketing model has created many different nutrition support groups that may not be extremely profitable for people running them but are still generating real value for their customers and thus much of Herbalife's revenue is stickier even in light of the bad press. This means that the only real way the short will work is if the government goes after Herbalife, and their track record in this type of thing is pretty bad.
 
Why did I call this a financial soap opera? Outside of the arguments between Bill Ackman and Herbalife, fund managers are jumping in on all sides of the trade. Daniel Loeb and Carl Icahn are both rumored to be long HLF. David Einhorn was rumored to be short HLF in 2012 when he asked a question on a conference call a few months before Ackman made his presentation. If you want to see two hedge fund managers on different sides of the trade (one of whom is showing signs of senility) go at each other on live TV then watch the video at the link.  More recently, Herbalife hasn't been helping their credibility when they go and register domain names related to the name of Bill Ackman, the person shorting their company. Actually, this might be more of a comedy than a soap opera.

Positive rights, negative rights and corruption

Thinking about how to live in a corrupt country is interesting. It looks like there is a choice between playing by the rules and not getting anything done and making up your own rules or succeeding by bending all the rules but becoming part of the problem in the process.  The only way to win appears to be not playing the game in the first place. And this might be a good reason for businessmen from the developed world to be a little wary of trying to enter developing world markets when they are unwilling expect to bribe people or hire people who will bribe others. The foreign corrupt practices act is another reason to make people wary, leaving the only legal way to do business in a relatively corrupt country to partner with people who are already powerful and don't need bribes to get anything done.

One way to think about corruption is to tie to the concept of positive and negative rights.  Negative rights are things that are prohibited from being done to a person, and includes areas such as freedom from violent crime, private property (freedom from theft), freedom of speech and freedom from slavery. Positive rights are things that society must provide for a person. These include areas such as the right to police protection, housing, a job, food and health care. Many positive and negative rights conflict either indirectly or directly with each other. While a police force might help enforce the negative right or protection from violent crime, it also weakens the right to private property by requiring that citizens have some of their money taxed in order to pay for that protection. Societies with many positive rights such as the right to jobs, housing, health care, etc encroach on economic freedom in order to provide those rights and then economic growth generally suffers

So a person living in a corrupt society who wants to get by but doesn't want to make things worse should think of their corrupt actions in the terms of positive and negative rights.

Negative rights corruption would be bypassing or bribing officials in order to do things they should be allowed to do in the first place. This includes bribing officials to get licenses or business permits that are easily available in less corrupt countries.

Positive rights corruption is any corruption that also involves a significant violation of other people's negative rights. 

People and entities who are taking positively corrupt actions are actively making the country worse for those around them, while those who are negatively corrupt are just trying to function in a corrupt system.  Thinking about a few examples might help clarify what this means.

Walmart's actions in Mexico that landed it in hot water for violating the foreign corrupt practices act looks like a benign version of negative corruption since it seems to have merely involved facilitating the permitting and licensing processes (assuming these permits didn't also give them rights to take or pollute onto other people's land).  They were merely trying to do business and were not using the government to steal from anyone. However, the near monopoly in telecommunications that Mexico gives Carlos Slim by keeping costs high for competition is a definite example of positive corruption.

The officials that are underpaid that take bribes where the payees are acting in a negatively corrupt ways are still positively corrupt themselves, since even if they are taking those payments because they are underpaid they are still acting as if the government owes them a job.

When Chinese development companies have local party leaders force rural workers off their land, that is positive corruption. 

In the 1920's, when speakeasies bribed cops to let them serve alcohol that was negative corruption. When they bribed the cops to also shut down competing speakeasies it was an example of positive corruption.

Amgen's history of payments to Congress which helped them get a paragraph put into the US fiscal-cliff deal that will cause the government to pay them half a billion more dollars over two years is a good example of positive corruption that is still legal in the US.

The list could go on, but the point is that there should be an acknowledged difference between the two. The metaphorical line in the sand between good and bad doesn't start with breaking the law, it starts with breaking the law in a way that violates someone else's negative rights. And in fact a study has found that corruption that isn't associated with government characteristics can lead to higher growth in countries with poor institutions.  So those practicing negative rights corruption in the developing world look like they could be a net positive to their societies*.

*This is assuming that there is no slippery slope between committing different types of corruption. Also, perpetuating low level corruption might mean outperformance of countries in similar situations but it could also prevent a step change towards a society with better institutions in general.

Assorted Links

1. Scoring the United States election predictions of 2012.  When more common metrics than "Did his probabilities of over 50% work out" were used, Nate Silver's score was high but not higher than some other forecasts.  A few forecasters do beat the prediction markets at intrade, but intrade didn't do too badly either.

2. Developers vs unions in Philadelphia. With the internet, it's not just government abuse that can be exposed. Unions will have to be more careful about how they intimidate people into choosing to work with them. (HT: MR)

3. An interesting story of a trade association trying to furnish their office with products made in the US. Not surprisingly, it can get pretty expensive.

4. The flip side of the coin is a programmer who decided to outsource his own job and capture the profits. Outside of the security concerns this seems like a great idea.  However, that brings to mind the saying "Besides that Mrs. Lincoln, how was the play?"

Kobe beef in the US

For some time I have been thinking about how ridiculous it is that Kobe beef is even not allowed in the US and yet many people think they have eaten Kobe beef.  But apparently that was only true from 2010 through late 2012 when the USDA began allowing some Kobe beef back in the country.  That's good, because it means that the sushi chef who I'm pretty sure used real kobe beef to make nigiri is no longer violating that particular regulation in order to serve amazing food*.

The Kobe beef controversy is related but not exactly the same as the Champagne controversy. To many people, Champagne just means "sparkling wine." Kobe beef and Wagyu beef are used to mean "high quality beef" because people imagine that they are eating a very specific type of beef from Japan.  When the beef isn't actually from Japan and isn't even a purebred Wagyu, the issue is closer to fraud. 

Champagne producers already won the battle of forcing sellers to label where the bubbly actually came from.  They are hoping to push their victory even farther by recapturing a term that has developed a generic meaning. The Japanese beef lobby hasn't even begun to mitigate the fraud perpetuated by the US beef and restaurant industry.  So even though it's actually possible for people to import Kobe beef, think twice before you order Kobe beef in a US restaurant.  It's probably not the real thing, especially if it only seems mildly expensive.

*Maybe I'm not cynical enough, but it seems like people who import other high cost food from Japan such as fresh fish would be more likely to serve the real thing, especially if it is an off menu item.

Rise of the nerds

First, there were articles about how Settlers being talked about as the new golf in Silicon Valley. Hopefully the people who were playing Settlers have figured out where they can find much better games. One of the difficulties in picking a game is to figure out a game where re-playability is high, the dimensions of luck are controlled, the skill to win percent relationship isn't too high, kingmaking isn't easy and the length of time dedicated to the game is known in advance.  With the right board game, socializing around a board game seems like it should provide the same level of mental stimulation and socialization as golf. The main difference in function is that golf provides marginally more exercise and an excuse to get out of the house.

At around the same time, it has become more fashionable to look like a nerd. Well, maybe I should say that it has become more fashionable to look like an athletic person with good skin and thick glasses.

But it isn't just board games and oddly expensive** nerdy glasses that are getting main stream. Web comics targeting nerdy humor are more popular than ever and were the subject of recent article in the Economist. Around the same time, Forbes had a post on the rise of Esports. These are all trends that are hitting critical mass. The creator of The Oatmeal is able to raise millions of dollars for a Tesla museum, Penny Arcade is able to raise millions for Child's Play, a charity that puts video games in children's hospitals and there is currently a lot of money being spent and made on spectator video games. Next year they will be hosting three of their own convention, with the main one filling up Seattle's convention center and selling out in hours.  Maybe money is all it really takes to catch the attention of the mainstream. 

Board games, web comics and E-sports will remain a growing trend as the generations that grew up with gaming acquire more disposable income with age. It will be interesting to see how their inherently niche nature impacts their growth.  There aren't as many people dedicated to debating whether or not football or baseball is a better sport, and when there is a question the existence of the other sport is not questioned as closely. With E-sports many people fear that if another game becomes respectable their favored game will become superfluous and disappear from the scene. This means that the rivalry is much more intense than it is among traditional sports***, especially for games within the same genre. It is still an open question as to which games will be the main representative of their genre 5 years from now and how long any one game can stay at the top given how faster computers and gaming company's desire for more sales leads to newer versions of the same game being released every couple years.

Societal trends like this almost make up for how shows like Jersey Shore are creating celebrities. Almost.

*A high skill differential means that some games cannot be casually between two people. This is case with chess and go.  It's also the case for many board games but they generally have some mechanisms for luck to sometimes turn the game in the less skilled player's favor.
** Hat tip to VP
***It will probably still be a while before a match shoutcasted by Day9 causes a riot in San Francisco.

Time arbitrage

"Nobody goes there anymore because it's too crowded." - Yogi Berra

It takes a while for people to understand that time is money. But once they do, they don't often think about how certain times being busier than others should change their behavior. This activity is driven by work hours, business hours and social norms.   A busy place can sometimes be a positive. Restaurants, bars and clubs can be a lot more fun with other people around.  However, in other cases trying to do something at a busy time means full restaurants, traffic and long lines. People with flexible schedules should be on the lookout for opportunities to take advantage of peak times by either avoiding them or finding ways around them or anticipating them.

Businesses charge for times in various ways. At restaurants, dinners cost more than lunch. Open Table will award "points" for diners making reservations off of peak hours. In New York, eating between 7:30 and 8:30pm will cost some diners at more money at certain restaurants. On big days like Valentine's Day, many restaurants will only offer a more expensive prix fixe menu. At clubs, people can generally get in more easily when the club is just starting to open than they would if they tried to get in two hours later. Uber has been implementing surcharge pricing on busy nights. 

Even with all of these measures most of the value of optimal times are not charged. It's done on a first come, first serve basis in the case of reservations at most restaurants. When consumers going to places at popular times they will just face extra traffic (potentially some dynamic bridge tolls), longer wait times and longer lines.

Some social norms are fun to follow. Not many people would skip out on a NYE party just because Uber charges 5x for rides, although it might be a good idea to find an alternative means of transportation at that point. But it's interesting to think about the various ways implement time arbitrage and the concept of valuing time more generally.

1. If a work schedule is flexible then working slightly non-traditional hours is an obvious choice for avoiding commute times. Working a little earlier or a little later will save a lot of time in the end. Visits to the gym and supermarket at unconventional hours can be much more efficient.

2. Think harder about making reservations for dinner ahead of time on weekend nights than on less popular weeknights. (As an aside - when walking down popular streets in San Francisco, OpenTable's mobile app will often be able to get last minute reservations at places that would otherwise be full.)

3. Avoid peak travel times whenever possible. During certain times of the year some places are particularly busy. If your own schedule is flexible enough to shift activities by a weekend then a lot of traffic can be avoided. Waking up early for some trips can also be quite important. 

4. Realize that free promotions will often cost the gift receiver more in time than they are saving in money. It doesn't make sense to wait in line an hour for a free Chipotle burrito if their time is worth more than $10 an hour. Cyber Monday >> Black Friday.

Perhaps an interest in time arbitrage is also a way of saying "I don't like being around lots of other people," but it's more fun to pretend that it's an intellectual challenge to exploit inefficiencies. 

Regarding the Grexit

Naked Capitalism has an interesting post on the probability of a Greek exit from the eurozone (Grexit). After Europe agreed to bail out Greece again at the end of November people have relaxed considerably about the prospect of Greece being forced out. On Intrade betting markets, the risk of an exit by Dec13 has decreased down to 30% from over 60% previously. Anecdotally, Intrade seems to over predict rare events such as Israeli air strikes and Euro exits so a real probability 20% makes sense (The way Yves Smith got to the 20% number, by suggesting that Spain and not Greece could leave the EU is harder to believe). Currently, the main risk of a euro exit is that anti-EU parties such as SYRIZA and Golden Dawn outnumber New Democracy and PASOK in the polls. 

If there was an election today, Greece would be put on a path to leave the union. 

An early election could be triggered by a number of events. Failure of the current government to approve future conditions from the Troika during quarterly reviews in 2013 is one route. A gradual bleeding of MPs from ND, Pasok and Democratic Left, which would cause the current coalition to lose its majority, is another route.

It will be interesting to see how ND balances the line between alienating their supporters and kowtowing to the Troika. No one wants to see Greece leave the EU at this point. New Democracy will have to do everything they can to fulfill their side of the bargain. And on the other side of the coin, as long as New Democracy is acting in good faith the Troika will have to give Greece what they need despite their expected continuing poor performance. A country with a broken banking system, capital flight of both the financial and human variety and general political unrest is not going to be able to grow out of their problems anytime soon. 

The news flow might have died down, but the politics in Greece will be quite interesting in 2013.

A rule for everything

China's new standing committee is trying to change its image. Along with a ban of red carpets and fawning state media write ups they have instituted a new rule on speeches.

The updated rules also ban dull, long speeches and fawning write-ups in the state newspapers, as the party tries to reshape its image.

Emphasis added. This seems silly but apparently the origin of this rule comes from how at meetings Chinese official would speak in monotone for hours. Maybe being able to take up more time than other officials was part of the status games they played. So it sounds like this will be a positive influence until the rule is used to punish people who gave speeches with unfavorable substance. But it also demonstrates just how strange things are over there that there had to be a specific policy shift to bring about this change.

Falken on Taleb

Taleb, author of Fooled by Randomness and The Black Swan, has a new book out about a term he's coined called anti-fragility. The idea is that insitutions should benefit from mishandling rather than be harmed by it.  At first I thought this was a word coined because using the word "adaptive" sounds too normal until it occured to me that new terms were also useful for authors who want to group a lot of not quite related concepts under one roof. He recently published an editorial in the WSJ promoting the concept and his book. 
 
Some of the anti-fragile industries he mentions favorably are the airline and restaurant industry due to their ability to handle failure. A world full of anti-fragile institutions like these would become poor quite quickly. Maybe anti-fragile economies already are poor, as a society without complex systems that rely on each other can only produce so much wealth. Or perhaps our current society is actually already quite adaptable, as despite many different crisis over the past 5 years life has gone on normally for the majority of the developed world.
 
But rather than expand my view on his op ed, I would direct the reader towards Falkenblog's take on Taleb's new book. Before diving in, it's important for those unfamiliar with Nassim Taleb to note that he is quite arrogant, and therefore doesn't deserve to be handled with kid gloves.
 
Here are some of the more amusing excerpts:
 
"He doesn't identify key attributes of attractive, risky (oops, antifragile!) opportunities, just implies they are the ones that unlike options and lottery tickets, work well. In fact, he's anti-theory, so one supposedly finds them by random sampling (aka 'trial and error'). That's a strategy statistically proven to underperform, catering to the biases most investors have, why both day trading bucket shops thrive and  low volatility investing works. As a self-help book it's like someone saying you should eat more sugar, a strategy many will find highly convenient."
 
 "Another key to understanding Taleb is that he has a French post-modern tendency to write to impress rather than explain. He provides hundreds of loosely related anecdotes, reminding me of the Talmud quote that 'when a debater’s point is not impressive, he brings forth many arguments.'  I actually agree with a lot of Taleb, such as the intractability of risk because it is endogenous, and I think he's vaguely libertarian, but he says so many inconsistent things that doesn't mean much (when he's right it's probably a good example of the Gettier problem)."

"The fund Universa, of which he is affiliated, states that it is no longer merely long volatility or gamma, but timing when to be long volatility or gamma. I'm sure all those investors who jumped in Universa circa 2009 would be surprised to know that's the strategy, but as part of management, he benefits from the gamma resulting from the asset management fees from investors fooled by randomness. He does have an excuse here, as he did write a book on that, so it's not like they weren't warned."
 
Falkenstein goes on to note how well Taleb and his fans react to criticism. It will be interesting to see what type of blowback he gets from his review.

Btw, if you found that review fun, Eric Falkenstein has many previous takes on Taleb that are equally amusing.
 
 
"He inverts the observation that geniuses are often misunderstood to the insight that misunderstood people are geniuses, and critics of such people are imbeciles who don’t even have the taste to appreciate genius."
 
"I suspect that Taleb dreams of someday winning the Nobel Prize in Economics for his popularization of Rietz’s peso problem  (1988), fat tailed distributions (Mandelbroit 1963), or Knightian uncertainty (1921) , at which point he would refuse it and then raise his stature above all those before him. Alas, as defective as the econ Nobel is, it ain't the Peace Prize. He has not added any new significant idea to any of these richly researched threads, rather merely tries to convince readers he and his followers are the only ones in the world who really understand them."
 
 
"For someone advocating doubt and criticizing expert and 'regular' people’s overconfidence and arrogance, Taleb’s writings are filled with certainty, anger, and immodesty, having the Godelian impossibility of someone shouting 'I am the most humble!'"
 
 
"For example, last week in Bloomberg he noted that “Recent events have proved that all risk management was wrong.” Such nuanced insights are usually confined to bigots discussing ethnic rivals."