Deep Thoughts on Incentives

In a recent post, we stated simply that, “Incentives matter. There is always a reason for individuals and businesses to make the decisions they have made.” From an investment perspective, this requires a deep understanding of alignment of interests. Our own internal checklist, which we have been developing and expanding for the past several years, prompts us to consider multiple vantage points. Some of the questions we consider include:

  • Have the managers/directors been buying/selling stock?
  • Do they have skin in the game?
  • Is their ownership a significant portion of their net worth?
  • How did they acquire their holdings?
  • What is their ownership relative to their cash compensation?
  • How is management compensated?
  • How does management evaluate itself?
  • How difficult are their performance hurdles to meet?
  • Do they use long-term metrics? Do they use the right metrics?

Or as Sherlock Holmes put it, “You’ll get results by always putting yourself in the other fellow’s place and thinking about what you would do yourself. It takes some imagination, but it pays.”

Switching gears a bit, let’s take a moment to put ourselves in the shoes of the long-term unemployed. Given the structural change in local labor markets (i.e. the gradual, then sudden, decline in the furniture and textile industries), we have a deep understanding of the other fellow’s place. That place used to be making an old-fashioned and honest living, working in any number of factories in the area. But those factories are now closed. And those skills are not easily transferrable to Google’s server farms in Lenoir. It takes time to retrain this workforce. A long time. Perhaps a generation.

This skills gap has important implications for labor market slack and inflationary pressures but that is a conversation for another day. Today, we just ask that you consider what you would do in the shoes of the long-term unemployed. Would you take a monthly check from Uncle Sam that is close to (or greater than) what you were earning in the factory? Or would you actively work to develop new skills and accept a lower-paying job instead? Stay home and collect a steady check or work your ass off 40 hours per week for minimum wage? Not a difficult decision for most.

This week, senate negotiators struck a bipartisan deal to extend these incentives on Thursday that would renew federal unemployment benefits for the long-term jobless and providing retroactive payments to more than 2 million Americans whose benefits expired in late December. Wonder what might happen if these benefits were allowed to expire? What would happen to the unemployment rate? What would happen to the long-term unemployed?

Coincidentally, the answer to these questions is also available in North Carolina where the federal extension of benefits, better known as the Emergency Unemployment Compensation Program (EUC), ended on June 30, 2013. Since then the rate of unemployment has plummeted from over 11% to less than 7%. In other words, when incentives changed, so did the results. Most of those sitting home collecting a check decided to go out and get a job. Granted, this is a difficult decision for politicians to make. However , we think the results speak for themselves. While the national unemployment rate has slowly declined, the unemployment rate here in North Carolina has collapsed relative to the national number.

NC Relative Unemployment

While I’m certain that this post will cause a bit of a ruckus locally, I’d ask that you consider these deep thoughts from Jack Handey before shooting the messenger. “Before you criticize someone, you should walk a mile in their shoes. That way, when you criticize them, you’re a mile away and you have their shoes.”

Enjoy the rest of your Sunday while I try on some new kicks.