The Inverted Yield Curve and Recession?

https://www.bloomberg.com/news/articles/2022-04-02/inverting-yield-curve-signals-high-stakes-for-fed-and-investors

https://www.reuters.com/world/us/ny-feds-williams-balance-sheet-run-off-could-start-soon-may-2022-04-02/

                I was checking the financial news feeds yesterday morning and found the attached 2 articles. The Bloomberg article continues the discussion on the inverted /inverting yield curve which is a pretty good advance warning sign for recession. The second, Reuters article, involves one of the Fed’s presidents, John Williams, and his views on Fed actions and reactions. Both are good for different reasons.

                The Bloomberg article is highlighting that many in the financial community are feeling the Fed needs to get the Fed Funds Rate up now to help bring inflation down. Talk of .50% and even .75% increases are now routinely discussed where a .75% increase wasn’t considered at all until recently. The purpose of the increases is to brake and break inflation. To brake the rate of increase and to break the rate down from the current 7.5% annual rate that is increasing, to the Fed’s long term target annual rate of around 2.0%. The article is showing that more and more groups are calling for higher and faster rate increases. The final paragraph in the Bloomberg article does a pretty good job of summarizing the possible outcomes of this -  “It’s not a done deal that we are going to have stagflation or a recession but we are getting close,” said Jake Remley, a senior portfolio manager at Income Research + Management, which oversees about $92 billion. “That inflection point is out there somewhere, and it’s possible that at some point we may hit it soon if they keep pushing the expectations for [Fed Funds Rate] hikes.”

                The second article from Reuters is a summary of comments by John Williams, one of the Federal Reserve Bank’s presidents. Williams is responding to questions about Fed intentions. It is not uncommon for various Fed bank presidents and some others to make limited statements about current Fed thinking or activities. They very seldom make a definitive statement and usually don’t say much more than generalities however, and this is very much on purpose. They sometimes use these types of settings to get a feel for what the thinking is in the markets. It is an interesting dance, the Fed tries to make calming statements with little or no content and then tries to “read” the comments from the market to see what the market may be thinking or may do. The market meanwhile tries to “read” what the Fed is saying (as the Fed tries not to say much) and get more information out of the limited statements. The reason for this dance is that the market can react very quickly to any information or direction it “thinks” is important. The Fed doesn’t want to diminish its ability to influence markets by telegraphing their plays. We had this problem in the 1970s-80s with Alan Greenspan and the raging inflation and interest rates of that period. Greenspan would share what he was thinking (kind of like thinking out loud, not necessarily  concrete, more exploring several ideas, we all do it)  with some of his people or other governmental people, congress etc. and within hours (sometimes if felt like minutes) the markets would have gotten hold of the information and reacted in some way or other. Greenspan finally had to stop saying anything just so he could think through things. That basically has carried over through all Fed officials since then, they don’t dare say anything before they want to act themselves. Remember, everything in the market is about information and perception or worse perceived information. Williams, as reported in this article, spent a little time relating past performance of Fed policies (in the 2019 Fed actions)  that were viewed by the Fed as being successful. Now if I was going to say that last statement as proper Fed-speak I would say something like; Many individuals in the market and government perceived our actions (Fed actions of 2019) as being somewhat successful and we believe given current conditions which may or may not be similar to conditions in 2019 that the Fed may be successful or not in doing something similar though not necessarily the same again, i.e. slow the economy without crashing it (recession). Do you get the idea. The article reports that Williams gave some general rate targets and hinted that the Fed might consider (the next section is my words not Williams but you get the idea)…., trying but may not try, still it might work, but there are no guarantees, but maybe….. something “like” the previous actions might, or possibly might not do something similar or not, in the current situation that may or may not be like the previous situation, maybe. Do you get the drift of the depth and breadth that the Fed people will go to to say something but not say something. The article goes on to say Williams suggests the high inflation rate is currently the “greatest challenge” for the Fed at the moment (which may or may not change) - nothing is ever a problem, just a challenge, and lists several factors likely influencing the current inflation trends. Notice in the list nothing is said about the Fed’s massive balance sheet which in my mind is the 900 lbs. gorilla in the room. Williams does acknowledge that the Fed is going to try to “ease inflation to around 4% this year and ‘close to our 2% longer-run goal in 2024’ while keeping the economy on track.” With inflation currently running at 7.5% and climbing that is a good goal. The trick to the whole thing is in Williams’ quoted remarks in the last paragraph, “These actions should enable us to manage the proverbial soft landing in a way that maintains a sustained strong economy and labor market”. That is really the goal, hope, prayer and fervent wish – a soft landing of the economy. The success rate of soft landings is, unfortunately, not particularly good.

                Stay tuned to the exciting continuation of the US Fed and the fight with the dragon of inflation. The year 2022 promises to be interesting (not problematic, of course). Think of the 1965 movie Those Magnificent Men in their Flying Machines. The first 3 lines of the theme song describe our likely market ride as the Fed attempts to bring the economy in for a “soft” landing. Think of the Fed as the pilot and the economy as the flying machine.

    Those magnificent men in their flying machines,

    they go up tiddly up up,

    they go down tiddly down down

from Those Magnificent Men in the Flying Machines theme song

… and up and down and up and down and up.

As the stewardess says, everyone please fasten your seatbelts we are entering turbulent weather.

The Recession word is being tossed around

 

 https://www.bnnbloomberg.ca/fed-officials-take-aim-at-inflation-say-ready-to-act-with-vigor-1.1742076

https://www.bnnbloomberg.ca/a-recession-warning-sign-part-of-u-s-yield-curve-inverts-for-first-time-since-2006-1.1743815

https://edition.cnn.com/2022/03/26/economy/inverted-yield-curve-march-warning/index.html

              Another day another crisis of some sort. I trust you have put on your financial blinders so you can function in this rapidly changing and not changing environment (is that ambiguous enough to sound like a talking head). Take a look at the 3 articles above. The first, BNN Bloomberg-Fed ready to act, is a discussion of the Fed’s response to inflation as it raising the Fed Fund Rate. The dot plot shown in the article is a relatively new invention of the Fed to signal its thinking. The dots supposedly show the thinking of the voting members of the Fed on interest rate changes. This chart was created because the market made so much noise several years ago about the Fed never saying what they were thinking that the Fed created this and said, in essence, here is what we are thinking now stop asking. If you are confused you are in good company. Remember, the chart has no binding power, it is the equivalent of thinking out loud but it has proven an indication of possible intent in several instances. So the Fed is thinking of acting aggressively. That is a good sign. Now we will see what they actually do. However, the market will react to the perception of movement because the market really doesn’t have anything else to go on. That is why you need to be wearing your financial blinders to help protect from an overload of change that is based on perceived information not necessarily actual information. It’s hard to separate the two.

                The second two articles are hot off the press, so to speak. The articles titled, A Recession warning sign? and This recession indicator, are from today’s news feed discussing an inverted yield curve. The CNN article makes the statement that a “yield curve inversion has preceded every single recession since 1955” which is true.  But not every yield curve inversion has been followed by a recession. A subtle but important difference. An inverted yield curve by its very nature is very unstable and traditionally corrects itself as investors and the economy calm down. Having said that, there have been a couple of times in the last 40 years that the curve stayed inverted for some time (many months is very unusual but does happen).

                What does it all mean. Well……, as the last sentence in the CNN articles says, “The harder the Fed steps on the brakes [raises Fed Funds Rates], the higher the probability the car seizes up and the economy goes into recession”. But something has to be done to get the excess money out of the system and we have kicked the can down the road for so long we are losing the ability to kick. Remember from a previous post I said one of the quickest ways to reign in inflation is recession, it isn’t a painless method but it usually works. I am afraid there are only a limited number of options and a slow reversal of the excess money policy and slowly removing the excess funds from the economy is definitely a much gentler method of slowing down a raging economy but is infinitely more difficult and the tools the Fed has are not very good at fine tuning. Regardless of the impression they try to give, Fed Funds Rate changes and buying or selling securities from the government controlled pool are more a blunt force hammer than a fine tuning knob.

           Stay tuned as the ride continues.

Fed Interest Rate Hike and the Possible Impacts

https://www.reuters.com/world/us/all-systems-go-feds-liftoff-us-interest-rates-2022-03-16/

 

March 17, 2022

                The Federal Reserve raised the Fed Funds interest rate as discussed in the article from Reuters (listed above). Now begins the very delicate balancing act of raising rates, which is supposed to reduce inflation. The problem is the interest rate lever is not particularly precise nor the effects very controllable. Don’t be fooled by the Fed language. It sounds like they have the ability to precisely control the effects and impacts of the changes. They don’t. The changes caused by the Fed’s interest rate adjustments will tend to be in a general direction (tightening or loosening policy) but the magnitude of impacts is not really knowable or controllable. What does a .25% increase do vs. a .50% increase? The problem is, too much increase too fast and the economy goes into immediate recession, too little increase or too slow and inflation just keeps on going. The Fed doesn’t really know the impact nor does anyone else. It’s like a go-cart careening downhill out of control and the brake is the stick against the wheel. Maybe it works, maybe it doesn’t. Remember, there is no fine control regardless the words or language used or implied. Soft landing, controlled slide, easy fix are just words with no meaning in this type of situation. There will be under and over correction, wild swerves and hairy curves on two wheels. There will be missed turns and some likely drop offs. A crash is also likely (recession) and in the current situation we may have a couple of crashes before it settles out completely. You will notice lots of corrections and changes in forecasts and the news media will begin to pay less attention to changes and such as they become more frequent. You will have to dig that out yourself. There will be pronouncements by various Federal officials and large bank economists about this and that affecting the inflation rate. They will be all over the place. Energy, food and commodities prices will bounce around generally going up (inflation) until they don’t which may be caused by recession or if we are really, really lucky by successful Fed policy. It sounds fairly bleak but we have done this before and it can be fairly mild, think the recession of 1997 and 2002. They were really quite mild. Remember, the definition of recession "is a macroeconomic term that refers to a significant decline in general economic activity in a designated region. It had been typically recognized as two consecutive quarters of economic decline, as reflected by GDP in conjunction with monthly indicators such as a rise in unemployment.” (www.investopedia.com) If we have less than the 2 quarters of downturn this is not considered a recession but it is an economic slowdown. That is really what the Fed is trying to achieve, a series of down sloping waves that reduce inflation but don’t quite drive the economy into the red zone definition (recession). They will do everything they can to avoid the recession definition, it looks very bad for them. Perception is everything.

                So, hope for the ideal series of corrections. A series of down sloping waves that never quite reach the definition of recession but that bring economic activity down by drying up the easy money currently circulating in the economy. We should see higher borrowing costs (interest rates), higher prices on commodities, energy and food and less spending. That is going to be challenging for people as we have become used to spending. I am hoping home prices come down without a crash but we will have to see. Again, this isn’t the end of civilization as we know it. We have had inflation and recession before, some mild some not so mild. The US economy will make it through this even though it may take a while but it will be okay. Reduce you debt as able or avoid it by postponing things, save more and above all… enjoy life, stay close to family and friends, take some time for yourself and don’t spend too much time listening to the talking heads in either government or the media.

 Greetings. It has been quite awhile since the last post but I felt there are some that might find an analysis of the current economic situation as it relates to a very fast paced changing world situation interesting and helpful. It has been some time since we had a shooting war, the Gulf War was the last one involving the United States. The current conflict with Russia and Ukraine will likely stay warm for a bit longer. Putin has not yet reached his objectives. He won't stop until he does. Putin will call the West's bluff on an open attack and push to reach his objectives. Biden and the NATO powers will not risk an all out shooting war at this point (or ever perhaps). Putin has shown he has no such fears. Tom Clancy in his book Red Storm Rising shows what the US military's World War III scenario looked like in the later 1980s. A good book and a good read. Some of the same conditions still apply. I have collected a few financial articles from leading news groups and put together some brief comments. The bottom line at this point is the US and world economy is in for a fairly rough ride over the next several months and may stretch out to a couple of years. Like the COVID pandemic the economic problems will likely drag on. 

I wrote the articles on the days shown and the news articles are from those days. Enjoy the read. Leave any comments and thoughts. Have a good day.

Written 3/2/2022

Global Bonds Extend Rally as War Curbs Pace of Rate-Hike Bets - BNN Bloomberg

Greetings,

                A new day, an increase in conflicts and more whipsawing of financial markets. Such is the life of a market watcher. If you have been closely following financial news (and regular news for that matter) you should have a very sore neck at this point. I hope you are feeling somewhat jaded with all the news, views and opinions swirling around at the moment. We have now had the State of the Union message with attendant power statements, major and minor threats and much noise including the continuing threat of spending trillions of dollars. The  attached Bloomberg article highlights the whipsaw nature of world turmoil. According to this article the Fed will now not raise Fed funds rates in March and likely any thoughts and plans should be scraped according to the article. I am afraid this is the nature of market watching. The pundits / reporters / news agencies tend to lurch from pillar to post with great speed. Remember, everything is short term in financial reporting regardless of what is said about forecasting and future planning. Any future plan will survive as long as short term situations don’t change (of course they always and constantly change). That is why you tend to see solutions being proposed and discarded with great rapidity.

                The underlying problem still exists. There is too much money in the system. I am afraid that war is one way of wringing out some excess funds but not very efficient and of course very painful. One can hope that the threat subsides soon. If so, look to see inflation become the #1 topic again and then the handwringing over Fed Funds rate hikes will quickly become the next short term, long solution.

                Just remember, long term proposals will be subject to short term criteria which will cause new long term proposals based on the current short term situation. No forecast survives today’s financial news. In the financial news business one uses the simplest of forecasting tools which is the straight line regression analysis or even easier (and quicker), pick a current point, pick a past point and draw a line to the future. Remember any past point is acceptable as long as it supports the current “group thinking”.

                The best plan is to stay back from the front line of financial news reporting. Let the pundits slug it out at the front. You and I can remain somewhat calmer and more reserved and enjoy much less stress if we don’t try to react to every “new” piece of information. In these situations slow and steady wins the race both in the fairy tale and real life.

Good luck.

Written 2/14/22

Inflation to exceed Fed’s 2% goal well into 2023, survey shows - BNN Bloomberg

https://www.reuters.com/business/finance/what-global-banks-forecast-fed-rate-hikes-2022-2022-02-11/

Greetings;

                Another 2 articles on the inflation front, markets and reactions. Things are getting very interesting (you remember what that key word means from last letter). The “very” modifier is a further definition of the key word, interesting. It means that the governmental agencies are now reacting. That is both good and bad. The politicians will attempt to minimize the importance of the various datum that is being generated by the numbers guys. You can see what form the politicians are initially likely to use in the statement from Pres. Biden in the Reuters article, 3^rd paragraph, when Biden says “we will make it through this challenge”. Expect to see more politicians weigh in on the themes of “we can do this and let’s all pull together and it isn’t as bad as it looks”. Watch for it, the noises, platitudes and pithy sayings should increase fairly soon. The various federal agencies, especially the Fed, will be trying to assure the politicians and the markets they can handle things. As it progresses and gets more involved (this will not likely be a short duration situation) the politicians will start to blame the Fed and call for more relief, help, etc. As I said it should be interesting. We haven’t seen this sort of financial mix/mash since 2008-9 in the beginning of the great recession. I don’t expect it to be as bad as that but it could be fairly rough.

                I am hoping things are more like the recession of 1997 or 2002 which were much more mild, relatively speaking, and were of fairly short duration. There are 2 basic types of recessions characterized by the letters “V” and “U”, the letters refer to the shape of the recession. The “V” is a fast falling in markets and things then a quick rebound, more of a blip that leaves markets gasping for breath and wondering just why they did a faceplant into the payment but getting up quickly and dusting themselves off (the markets tend to look around in this type of recession to see if anyone saw them fall, they look a bit guilty but carry on.) There will be commentary on what caused the fall. The “U” shaped recession is a bit more serious/difficult. The fall comes but the market faceplant is a bit more jarring and the markets may stay down on the pavement for a time. (Represented by the bottom of the “U” which may draw out over months as opposed to the “V” which may be quite short.) When the market gets up it is a bit more groggy and it will look around and wonder just what tripped them. As you would expect it can be quite a bit more jarring and damaging. (The recession of the early 80s was more “U” shaped as was the great recession of 2009 which was very “U” shaped. You remember how long it took to get out of the 2009 recession, that’s the long bottom of the “U”, more like |____| .)

                So, keep the faith, if not in the system in life in general. The Fed will be increasing rates, the politicians will become more involved and their voices more strident and shrill. Look for the blame game to start fairly soon. We must have a scapegoat and the politicians will indeed look for and find one, whether it is deserved or not. The Republicans will have one and the Democrats a different one. Oh yes, and I forgot, the talking heads will have much to say, most of it irrelevant but possibly entertaining in a sad sort of way. I will be interested to see how it impacts the Democrats massive spending plans. The diehard Democrats will want to push on with the spending which will make things worse by pumping more money into the already loose money policy and not allow the easy money to dry up. If they get the spending package through in most of its aspects look for inflation to remain for years not quarters or look for several quick, sharp recessions in a row for the next several years.

                Life is good when we remember that God, family and friends are the real value in this life and inflation can’t diminish the value of them. 

 

 

We See The Obvious But Fail to See The Less Obvious.., Obviously -- Part 1 – Historical Perspective



illustrated by William Wallace Denslow

             All of us are familiar with the Mother Goose nursery rhyme Little Jack Horner but look at his experience the next Christmas.

Little Jack Horner sat in a corner, eating his Christmas pie; he put in his thumb and pulled out mincemeat and said, “What is this?? What a mess! This isn’t plum pie, now I have to wash my hand and cook will box my ears and I’ll get nothing for my pilfering.”

             Little Jack Horner experienced the impact of unintended consequences. The previous Christmas he had tried the same stunt with cook; stole a pie from the cooling rack and in a quick stroke stuck his thumb into the pie and hit a plum. He loves plums and felt very fortunate. Latter cook found him and boxed his ears but he felt vindicated. He got the plum. This year he tried the same trick; he stole a pie from the cooling rack, but didn’t realize it was mincemeat. In his haste to avoid cook he didn’t look closely. He hates mincemeat and when he failed to spear a plumb with his thumb he was sorely disappointed at a handful of mincemeat! Yuck, no, double yuck. Not only did he have to wash his hand but he didn’t get a plum and cook still boxed his ears. Not at all satisfactory. What went wrong, he says to himself. “It worked so well last year. I did the same things, why no plum?”

             In  1776 Adam Smith’s book, The Wealth of Nations was published in which he discusses his “invisible hand” which is a famous metaphor and is an example of a positive unintended consequence. His contention  that the baker, butcher and others do things for their own self interest and yet they supply food for the greater public provides the positive impact to their own selfish acts of acquiring money through the sale of goods (food). Hence, a positive unintended consequence.

             Earlier, John Locke the English philosopher and physician urged the defeat of a parliamentary bill in 1692. The bill was designed to cut the maximum permissible rate of interest charged on loans. Locke argued that instead of benefiting borrowers, especially small borrowers which was the stated purpose of the legislation it would hurt the very people it was meant to help. He suggested the actual results would be less available credit not more credit and a redistribution of income away from “widows, orphans and all those who have estates in money.” This is an example of the more common perverse nature of unanticipated or unintended consequences unlike Adam Smith’s positive unintended consequences.

             In 1850 Frederic Bastiat, a well respected French economist, published a paper shortly before his death titled What is Seen and What is Not Seen, or Political Economy in One Lesson. Bastiat was very aware of what he called “seen” and “unseen”. The seen were the easily recognized, obvious or visible consequences. The unseen were the less easily recognized, less obvious or unintended consequences. He was concerned that politicians,  policy makers, economists, bureaucrats and others were ignoring the impact of the unintended. He made the following statement, “There is only one difference between a bad economist and a good one: the bad economist confines himself to the visible effect; the good economist takes into account both the effect that can be seen and those effects that must be foreseen.” I think Bastiat is suggesting that more effort is required to be a good economist than a bad one. It takes effort, time, energy and knowledge to “foresee” possible impacts from current rules and activities. To explore the possible impacts is much more challenging than looking at the immediate, visible impacts only. I believe such actions require a much greater commitment to finding the answers or truth than most of our current political and business leaders are willing to allocate. The lack of effort is unfortunate in the most benign cases and very damaging in the worst cases.

             One of the most comprehensive analysis on the concept of unintended consequences was done by Robert K. Merton in 1936 in an article titled The Unanticipated Consequences of Purposive Social Action. Merton identified five sources of unanticipated consequences; 1) ignorance, 2) error, 3) imperious immediacy of interest, 4) basic values, and 5) self-defeating prediction (also the reverse of the idea would be the self-fulfilling prophecy). Merton suggests that the first two are the most pervasive but the others can and are destructive too. The imperious immediacy of interest refers to instances were the individual wants the intended consequence so much that he purposefully chooses to ignore any unintended effects. Think of blind obedience to a program or course of action or willful ignorance. An example of this would be that the Food and Drug Administration creates enormously destructive unintended consequences with its regulation of pharmaceutical drugs. By requiring drugs not only be safe but efficacious for a specific use the agency slows the introduction of life saving drugs, many times by years. Time when many sufferers may die or suffer needlessly because the drugs are not available. According to some articles, the consequences have been so well documented that regulators and legislators now foresee it but accept it. Merton suggests that the basic values consequence can be seen in the Protestant work ethic. He says it “paradoxically leads to its own decline through the accumulation of wealth and possessions.” In his final point, self-defeating predications, he points to the population growth warnings in the early 20^th century which would lead to mass starvation. The very fact that people were concerned lead to increased research and development of food production which increased production and has since made the likelihood of mass starvation very much reduced.

             The law of unintended consequences is working always and everywhere. I believe governments and bureaucrats are particularly susceptible to ignoring or discounting unintended consequences. Also special interest groups tend to pick and choose their desired results, regularly disregarding unintended consequences as minor problems or inconveniences. Trade policies help one industry at the cost to some other industry or group. After the September 11^th, 2001 terror attacks there was an outpouring of support and concern which was needed and helped the country work through the trials, destruction, death and pain. However, it has been suggested that so much money was funneled to the 9/11 effort that other important charities and causes suffered significant problems for some time after trying to raise funds for important and worthy causes in disease control, relief of hunger, basic research and other humanitarian aid. Where does one draw the line? One final example I found relates to the case of the Exxon Valdez oil spill in 1989. Afterward, many coastal states enacted laws placing unlimited liability on tanker operators. As a result, the Royal Dutch/Shell group, one of the world’s biggest oil companies, began hiring independent ships to deliver oil to the United States instead of using its own forty-six-tanker fleet. Oil specialists fretted that other reputable shippers would flee as well rather than face such unquantifiable risk, leaving the field to fly-by-night tanker operators with leaky ships and iffy insurance. Thus, the probability of spills probably increased and the likelihood of collecting damages probably decreased as a consequence of the new laws.

             In following blogs we will examine Bastiat and Merton more fully. Bastiat, looking and writing in the 1800’s sees things with a certain clarity. Merton 80 years later created terms and thoughts that help clarify and expand the concepts. Finally, we will look at modern workplace, government and society for current examples and situations. Don’t make snap judgments on this, stay with it and let’s see just what unintended consequences we may discover.

The Bear Trap that Looks Like a Cookie: The Seduction of Goal Setting Part 4 – Practical Experiences or How Not to Succeed in Goal Setting

             Many of you have likely been exposed to goals and goal setting at one time or another. Some experiences may be pretty good but I am willing to bet that many have been either pretty poor or down right dangerous. For a variety of reasons, most people required to set goals either have no training or no knowledge of good goal setting techniques. They may be driven by upper management or team leaders who are themselves ill-prepared to help or even harbor dangerous ideas when it comes to the overall organization mission. Below I have shared a few of the situations I have encountered in my working career regarding goals, goal setting and the results of goal setting. We can see the results of poor goal setting in the Wells Fargo Bank illegal practice of opening unauthorized accounts. The news broke around the first part of September, 2016 and caused significant problems for the bank and is still on-going at this time. Investigations by federal agencies, penalties and fines of $185 million (which some think is small potatoes for Wells Fargo), the CEO, John Strumpf, stepping down and significant headaches for the bank’s legal, ethics, and customer service groups are all causing problems for the bank. All because of bad goals. (Google Wells Fargo unauthorized accounts, for a list of several news organizations and articles on this.)

In my early career days I worked for a utility company in their finance group. We were different from the accounting department but still under the company treasurer. One of our main functions was to estimate future  weather (temperatures) and the effect it would have on revenues. We were very interested in average temperatures. Since our product, natural gas, was used by retail customers mainly for heating we tried to gauge the impact of varying weather scenarios. This was especially true for how cold we thought things would get. We would start with general cold weather estimates and based on historical data, which we had quite a bit of, we would estimate average per customer usage in various areas throughout our service territory. Then during the year I would compare actual sales to our projected sales and see how we did. It was especially helpful when the differences in average temperature vs. actual temperatures supported the difference in usage and revenue generated. Sometimes the differences were opposite the expected impact and we had to look for other things that might affect usage and revenue.

             One year the treasurer asked me to prepare the forecast usage (weather impact) and the corresponding revenue generated for the annual budget. I spent several days going over the historical data and making adjustments I thought were reasonable and justifiable. When done I took the forecast and revenue generated to be reviewed. The treasurer didn’t look at my model or assumptions or discussion but at the bottom line, the revenue. He said “Bruce, this total revenue number needs to be $1.0 million higher” and handed it back to me. I started to explain how the average temperatures and regional adjustments had been developed and that I felt very confident that there wasn’t an error. The treasurer gently stopped me before I got very far and commented that he wasn’t concerned about the model or assumptions but that the model needed to generate $1.0 million more revenue. It took me a little while and a couple of trips back to him but I finally caught on and added an “other revenue” line to the budget that contained $1.0 million. It was then signed off. During the year I would compare the actual weather vs. the average weather forecast to see where revenue differences could be explained and I used the “other revenue” line to absorb changes I couldn’t explain.

             That was one of the first experiences I had with goal setting and reaching the goal. The treasurer either had set a goal or had been given a goal to generate so much revenue. It was not as important that the forecast model was right or wrong as it was to have the correct revenue generated. This illustrates how goals can impact in ways and places we might not normally expect. Who would have suspected that weather manipulation was so important. It wasn’t of course but it was a means to an end. No one knew what the weather was going to be but we had established, over many years, a process that had been well vetted and well received. That particular year the process was changed because of a goal.

             Some time later I was a manager in the public finance group of a large financial services company. I managed a group of very highly trained professionals with unique skill sets and knowledge. In an organization of over 100,000 employees my group of 4 to 6 people were the only employees that did what we did. They were not clerical people but like most professionals knew and could perform some clerical functions. At one point I was approached by a new HR representative asking about the performance reviews I had prepared for my people. She had reviewed my performance reports and had prepared new performance review reports she wanted me to use. The new forms were a series of statements with check boxes I was to use to show if my people were under, at or above performance levels as contained in the statements. The HR person was concerned that I had not set enough goals  for my people. Her main concern was that I did not have sufficient concrete goals to see if my people had “performed” fully. The performance reports I had been using were ones used for several years and I had thought, adequate. HR decided to “update” the process. I was not involved in writing or helping create the new reports that would be used for my people who were the only people in the company that did what we did. I was not given the chance to review or comment on the new reports. I was told to fill out the new reports by a date specific and return them to her. It was a mess. The reports were essentially a modified clerical position performance review report. Since some of my most junior people were on a similar pay level as some of the most senior clerical people, it appeared the HR person had just modified  clerical performance forms. As you would suspect it didn’t work, at all. It took me about 4 months to get things straightened out. In the end I was able to get goals that allowed my people enough flexibility to do their varied jobs and some freedom to try new things and ideas.  But I still had to include some goals with check boxes. I have trouble understanding the need for checkboxes.

             Sometimes a company wants to make drastic changes to its business model. New goals can be an effective way to implement changes quickly. During the great recession of 2007 – 2009 the organization I was working for bought out a competitor. In my business area the purchased firm was given control of the operations not the buying firm. The people who had been bought out by our company convinced executive management that extreme changes needed to be make which would make division look more like the bought out company. There was a lot of difference between the two division (old division and purchased division) philosophies. The bought out division was able to quickly make changes through establishing new goals. Many people who didn’t fit the new look or mold were fired, several quit because they didn’t agree with the new direction and goals and the change was completed fairly quickly but with a fair amount of disruption to the new combined division.

             This concludes the series of blogs on goal and goal setting. Don’t give up hope on goals but don’t be snowed under by them either. As the authors of the Harvard Business study on goal setting I referenced in part 1 of this series, goal setting should be used judiciously and with much thought and regular, consistent review. It is not something to take lightly.

The Bear Trap That Looks Like a Cookie: The Seduction of Goal Setting Part 3 - It's All About the Goals, Stupid

             We have been talking about problems associated with goals and goal setting, especially performance goals. We will continue the process of reviewing and uncovering the pitfalls and traps of poorly worked and implemented goals. Remember, it is easier to create poor goals than good ones, as many of you may experience regularly.

             Many claim that goals set at the most challenging levels create the greatest inspiration or commitment or performance. You have all heard that if we don’t shoot for the stars we will never hit them. The logic is flawed. Many may look at such goals and see the impossible nature and just not try. If employees do try for such goals they may resort to excessive risk taking, unethical behavior or dishonesty in their efforts to reach such goals.

             A problem of risk taking is that it may very well distort the risk preferences of the company or manager. Extreme goals can drive excessive risk taking. It does no good for a manager to claim they didn’t want excessive risk when there are few or limited options to success. Excessive risk can be generated by management and managers who are fixated on goals to the exclusion of common sense. Some managers may associate the goals with the idea of destiny or an idealized future for themselves. Goals then drive the justification for risk taking. Risk taking can also be used to justify face-saving activities if goals are not meet. At Wells Fargo during the great recession of 2008 the company acquired Wachovia Bank. At that time senior management designated Wachovia management as in charge of Wells Fargo public finance responsibilities and other related functions. The new management decided that it was necessary to change the focus (goals) for these related areas to become more like what is called a New York investment house. In order to do that it was necessary to create significant changes in goals and emphasis. Many employees were either let go or quite rather than take on the new goals and requirements which many considered overly ambitious and did not serve the bank’s client base. Since that time there has been significant changes in the type of clients served and not served as well as employee turnover and change.

             As mentioned earlier, overly challenging goals can lead to unethical behavior. If missing the goal contains a high price of failure, it may be easier to “fudge” the difference in the actual performance and the goal by cheating or misrepresenting the performance. Extreme goals can make unethical behavior more likely. Aggressive goals can make unethical behavior more rewarding or increase the likelihood of unethical activities or behavior. With such pressure there has to be greater vigilance to watch for and correct unethical behavior.

             Too challenging goals can cause dissatisfaction and lead to psychological consequences of failure. Missed goals can also affect future performance. Dissatisfaction can lead to employees quitting the organization, creating unfavorable comments and stories or other things that lead to loss of clients and customer and reduction in general company goodwill. Wells Fargo’s current problems including $185 million in fines and review by several Federal agencies was created by employees trying to reach over-challenging goals.

             Performance goals can have a negative impact on complex tasks. As individuals concentrate on specific,  challenging goals, they may learn less from the experience which will degrade overall performance. There may be better outcomes from encouraging one to do their best which allows for innovative thinking and solutions outside the box of the goal parameters. Specific, challenging goals may inhibit alternate solutions by creating a too narrow focus and penalize creative thinking. Narrow focused goals may encourage and inspire performance but at the cost of learning and innovation. If the challenge is to put more widgets together that can be addressed by a specific performance goal. However, the likelihood of finding a better way to put widgets together is greatly reduced.

             Goals can become a means unto themselves. They become their own reward. The final outcome moves from improvement to finishing the goal. Managers are likely to overvalue and overuse goals. Management can also use goals as a cop-out to cover poor management skills. This is particularly true in those situations where managers set a challenging new goal (or just a new goal) and then do not provide training, materials or guidance specific to the goals. The individual is left to “use their initiative” to solve the managers problem. The very nature of performance goals can create their own internal problems and barriers to success.

             Individuals may loose their ability to think creatively and independently, instead looking for the solutions only to the goal. The goals then create the drive and focus and may eliminate the ability to see the greater interactions and overall aims. Such things as mission statements and general purposes can get lost in the rush of reaching for the specific performance goal.

             Goals can create perceptions of unfairness which can be a significant problem. This is especially true when everyone has individual goals. One may feel that their goals are much harder or more difficult to accomplish than another. Allegations of favoritism can easily start which seriously damages team work and team communications. If all aspects of a goal are not thought through then it is easier to game such goals. Creative or productive energy is spent gaming the goals instead of improving the overall activity.

             As a former middle manager I was caught in the middle of goal setting; receiving goals from upper management and having to translate and create goals for my people. It was difficult and frustrating. Part of any goal is the need to monitor and control. Cheating on goals is fostered when rewards are dependent on performance quantity and not on quality outcomes. But quality requires more effort, planning and review than quantity. We may inadvertently put individuals into difficult ethical dilemmas by the type of goals we create thus forcing people to make choices that can and do have profound impacts on themselves and the company. Just look at Wells Fargo’s current problems.