Archive for July, 2011

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As the country (and the world) watches the ongoing brinkman-ship over the budget negotiations and the debt ceiling, many observers are asking how it could have come this far. There are many explanations for this highly unnecessary crisis, from the surge of the Tea Party to positioning for the 2012 presidential elections. Of course, down-to-the-wire budget negotiations are nothing new to the U.S. political landscape. Most of the time the worst consequences are avoided, but sometimes bad outcomes result, such as the the 1995 shutdown of the U.S. federal government. As a consequence of that shutdown, passports and visas were left unprocessed, national parks closed, and veteran services curtailed.

There is confidence (shared by the financial markets) that a default on U.S. debt can and will still be avoided, in part because the consequences would be catastrophic. But this has not stopped extensive delays, walks away from the bargaining table and other negotiation theatrics. As in any bargaining setting, none of this is unusual.

When there is uncertainty about the resolve of the other side, delays and the willingness to walk away can credibly signal toughness. (This is well known from many negotiations, such as the NFL talks.) And when the parties finally agree after mutual damage has been inflicted, many observers wonder why they could not have agreed in the first place. Game-theoretic models of  bargaining point out that the pervasive uncertainty in negotiation agreements may be difficult to reach, as both sides believe they can reach a better deal. But the costs associated with strikes and delays also reduce incomplete information over time, making an agreement possible. That said, in many settings negotiations can break down permanently even after long negotiations.

Through its extensive set of checks and balances the U.S. Constitution was designed to force policy makers into these bargaining situations. The need to find common ground between the President and Congress aims to ensure moderate policies with broader support. Other democracies, such as Great Britain, lack this structure, as parliamentary democracies encourage unity between the executive and its supporting majority in Parliament.  There are pros and cons to each structure.

A British Prime Minister can make far-reaching decisions without periods of extensive bargaining. This was last seen in the austerity measures passed in October 2010, which implemented far more radical cuts in the UK budget than discussed in the current U.S. debate.  On the other hand, the possibility of radical change can lead to highly disruptive policy changes as different parties assume power, as seen in the waves of nationalization and de-nationalization of British industry in the 70s and 80s.

Such inefficient policy shifts are far less likely in a system of checks and balances, but in addition to the usual bargaining shenanigans known from any negotiation, there are unintended consequences  that make the current situation particularly severe. In a paper with Roger Myerson, the 2007 Nobel Laureate in Economics, we have argued that a system of checks and balance can create the incentives for Congress to create inefficient decision structures. The argument goes as follows: In a bargaining situation each chamber wants to get the best deal for its members and their constituents. By creating internal veto players that need to sign off on any deal the chamber, can secure a better outcome for itself.

We are all familiar with this phenomenon when buying a car at a dealership. The salesperson first has to talk to the boss who takes a tougher line and so forth.  In the car dealer case we may recognize these tactics as bluffs that can easily be circumvented.  A good way to counter this is to have only one person go to the dealer and then consult the absent spouse over the cell phone who, of course, is conveniently  busy and does not really want to buy the car, etc. Now we are again on equal footing. In the car dealer case we look at these tactics as bluffs lacking credibility. To give them credibility they need to be ingrained as institutions.

In Congress such internal veto structures can take many forms: strong committee chairs, a decentralized leadership, or super-majority voting rules like the filibuster in the U.S. Senate. The problem is that having more players who need to agree makes a deal less likely.  By setting up internal veto players to get the best deal each chamber creates an externality for the other chambers.  The consequences are fewer agreements, and an inability to pass tough policies and gridlock.

Increased partisanship makes this problem more severe, but not its root cause; it is a feature of our system of governance. What can be done? First, anything that creates bonds across chambers will be a positive step, whether these are joint committees or strong personal relationships. Second, voters that hold members of Congress accountable for failure to reach agreement change the incentives to engage in intransigent behavior. Third, moving from a system where all chambers have to agree with the President to one where only one chamber needs to sign off would create incentives to remove internal hurdles and lead to more efficient bargaining while maintaining the quintessential features of checks and balances.


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Photo Courtesy of Reuters

We are now witnessing the British version of Watergate. What started out as a sordid story about hacking into voice mail accounts and other personal information has now grown to engulf not only the Murdoch media empire, but also the British government (certainly the current one under David Cameron and, possibly, past ones), and Scotland Yard. Every day we see new resignations and arrests. Pundits, politicians, and journalists alike now deplore the decade-long stranglehold of Murdoch’s papers. Charges not only include hacking, but the bribery of police officers to derail ongoing investigations into the practices at News of the World and other tabloids. The resignation and subsequent arrest of former editor Rebekah Brooks and the resignation of Dow Jones CEO Les Hinton have cut deep into News Corp’s inner circle.

Already the British media is full of speculation of a possible arrest of Rupert Murdoch’s son James. And the public is awaiting the testimony of father and son on Tuesday.  Across the Atlantic, U.S. politicians have asked for criminal investigations for violations of the Foreign Corrupt Practices Act and the FBI has been reported to investigate potential hacking into accounts of 9/11 victims.

It is clear that the Murdoch and News Corp. is facing the biggest crises in their history. The BSkyB acquisition has been abandoned and shares have plummeted. But now the very existence of the Murdoch empire is at stake; what’s more, the crisis has now reached deep into the venerable institutions of government, leading to resignations of John Yates, Metropolitan Police’s top counterterrorism officer and Paul Stephenson, commissioner of the Metropolitan Police. Pressure is mounting on Prime Minister David Cameron regarding his cozy relationship with Brooks and Murdoch and his appointment of News of the World‘s former editor Andy Coulson as communications director.

The most upsetting case pertains to Milly Dowler, a 13-year-old girl who was kidnapped and subsequently killed in 2002. News of the World is accused of not only listening to Dowler’s voice mail messages, but deleting messages in order to make room for new ones, which potentially interfered with the missing person investigation and provided Dowler’s family with false hope that the young teenager was still alive.

Nobody knows where the crisis will end. But while breath-taking in its speed and drama, the scandal followed a familiar script.

First, newspapers and media companies are especially bad at managing reputational crises. This is not only illustrated by the News Corp. crises but other cases such as the Jayson Blair scandal at the New York Times or “Memogate” at CBS’ 60 Minutes. Operating in an intensely politicized atmosphere in their daily lives, news organizations typically interpret any criticism immediately as another politically motivated act and miss the underlying business issue—a crisis that threatens the pillars of news organizations: competence and integrity. The response is defensiveness, which further erodes trust. What was required was a sense of transparency, empathy and commitment to set things right. After almost two weeks, News Corp. finally changed course and took some of the steps that should have been taken much earlier: an apology to the victims of the hacking scandal, the resignation of Rebekah Brooks, and a commitment to reform. But after weeks of fighting back and dismissing the concerns, these steps now look calculated and reactive.

Second, good governance structures pay off in a crisis. According to the New York Times, News Corp. stock routinely trades cheaper than comparable media companies’, commonly known as the “Murdoch discount.” In the aftermath, this “discount” has since hit 30%. Ineffective boards or ill-placed personal loyalties are a problem in good times, and in bad times they are a disaster.

Third, dormant issues can very quickly become life-threatening crises if the roles of the key actors change. One of the striking aspects of the News Corp. scandal is that the allegations of hacking into voice mail messages, private accounts, and bribery of police officers were known for years. But the dynamics dramatically changed when the reports related to Milly Dowler (and other similar cases such as murder victims or soldiers killed in action) surfaced in early July. Previous tabloid targets were celebrities and politicians, parties that could count on little sympathy from a jaded public. But the horrific case of Milly Dowler and her family immediately triggered reactions of sympathy for the victims and disgust and outrage for the new villains: News of the World, News Corp. and Murdoch.

Fourth, moral outrage and fear quickly turn public opinion. Once a company loses public opinion, politicians will adjust, turning from friends to enemies in a heart-beat. At that stage politicians and public officials need to save their own skin amidst allegations of inaction or complicity.  Another illustration of the eternal law of politics: Nulli Permanentes Amici Nulli Permanentes Inimici. No permanent friends, no permanent enemies.

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