A QUARTERLY MESSAGE ON LIBERTY

SPRING 2014VOLUME12NUMBER2

You’ve probably heard the story of what’s ar-guably the biggest movie disaster of all time.The script required a massive set built in the middle of an even more massive body of

water, even though water is both difficult and dangerousto work with—if you’ve ever had a bathroom flood, youcan imagine what thousands of gallons can do to a set.The budget marched rapidly north of $200 million,

which in the mid-1990s made it the most expensive pic-ture ever made.The sheer scale of the project attractedguffaws and predictions of doom from the gleeful press.To top it off, the picture was plagued by production de-lays and a postponed release date.

MEGAN MCARDLE

MEGANMCARDLE ISACOLUMNISTFORBLOOMBERGVIEW, WHERESHECOVERSECONOMICS, BUSINESS, PUBLICPOLICY,ANDTHEOCCASIONALKITCHENGADGET.SHESPOKEABOUTHERNEWBOOK, THE

UPSIDEOFDOWN, ATTHECATOINSTI-TUTE INFEBRUARY.

Why Failing Well Is the Key to Success

2 • Cato’s Letter SPRING 2014

The film finally de-buted four monthslate, in Tokyo, to areception that theNew York Timesde-

scribed as “tepid,” “muted,” and“subdued.” By that time, the studioheads had privately started sayingthings like, “If we can just breakeven….” The director himself admit-ted—well after the release—that he“labored on” for the last six months“in the absolute knowledge that thestudio would lose $100 million. Itwas a certainty.”

Journalists and movie buffs acrossAmerica had by then already spentmonths wallowing in schadenfreude.How could anyone have thought this

was a good idea? Which just goes toshow why so few journalists end upmaking millions in Hollywood.

Titanic went on to become thetop-grossing picture of all time—at least until its director, JamesCameron, went on to make the evenmore successful Avatar. Perhaps youwere expecting me to name Water-world, the Kevin Costner extrava-ganza that cost almost as much as

Titanic, and grossed just $85 millionbefore an ignominious close. That’scertainly what many people were ex-pecting when Titanic hit moviescreens in 1997. The 1995 Water-world debacle was still a fresh memo-ry when Titanic debuted, and theparallels must have chilled evenJames Cameron.

All of which illustrates WilliamGoldman’s famous observation aboutHollywood: no one knows anything.Until you put a movie into a theater,there’s no way to tell for sure what’sgoing to happen.

But there’s something else our exercise illustrates even more com-pellingly. It’s easy to believe, espe-cially in hindsight, that you can

reason your way to a goodprediction. I fooled you a bitby telling you that it was ar-guably the greatest moviedisaster of all time, ratherthan the greatest disastermovie. But the reason I wasable to get away with this isthat the line between thetwo is much thinner than werealize.

We like to think thatthere’s a plan—that failurecomes when you do not pre-

pare. But if you actually look at themarketplace, that’s not what you see.Let me talk for a moment about aproduct that was really well-planned.

Once upon a time, an old softdrink company was being threatenedby a hot, young competitor. TheCoca-Cola company was frightenedthat customers had begun taking the“Pepsi Challenge” and seemed toprefer the taste. So Coke started a

The universe is an inherently uncertainplace.We tend to think that we can some-how engineer failure out of the system, but we can’t.

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top-secret project to developa replacement. These menweren’t stupid: they knewthat this was risky. And sothey went out and commis-sioned the biggest market re-search study in history. Evenbefore they had finished de-veloping the new product,teams were criss-crossing thecountry, conducting surveys,assembling focus groups, and offer-ing free samples to determine howpeople might feel about the change.It turned out people loved it.

The company decided to repeatthe process, commissioning the big-gest market research study in historyagain. The results showed that whilea minority of customers were re-sistant, the overwhelming majoritycouldn’t wait to get their hands onthis new creation.

Once it hit store shelves, howev-er, New Coke lasted less than threemonths and nearly took the compa-ny down with it. What happened?The problem was that the executivesat Coke didn’t understand the limitsof their experiments. The questionthey thought they were asking was“If we replace Coca-Cola with thisnew soda, will you buy more of it?”But the only question their test couldactually answer was “Which of thesesmall samples would you prefer todrink in a parking lot, if I gave it to you for free?” That’s not even closeto the same question, but it’s the bestthey could do. In short, there is ulti-mately no way to know whethersomething works until you put it outthere and see how your target audi-ence reacts.

The universe is an inherently un-certain place. We tend to think thatwe can somehow engineer failure outof the system, but we can’t. It strikesme when I read stories about entre-preneurship that they all tend to fol-low the same narrative: Genius in-ventor comes up with brilliant ideaand is now standing, arms crossed, onthe cover of a business magazine. Butwhen you actually talk to entrepre-neurs, that’s not the impression youget. They are basically like baseballplayers. A great batter fails to hit the ball 7 out of 10 times. If you take agroup of people who want to start asuccessful business—let’s say they allhave solid business plans, good ven-ture capital support, and won’t runinto imminent cash crises—thosepeople will succeed only 3 times outof 10. Most entrepreneurs fail.

Not long ago, a guy named PeterSkillman, who was head of user expe-rience for Palm, assembled a varietyof groups—from American studentsto Taiwanese telecom engineers—and gave them each 20 pieces ofspaghetti, a meter of tape, a marsh-mallow, and a piece of string. Theteams had 18 minutes to create thetallest freestanding structure thatwould support a marshmallow.

In America, the assumption is that inyour failure, you’velearned a lot of valuablelessons on somebodyelse’s dime.

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Unsurprisingly, the engineers didvery well. MBA students finisheddead last because apparently theyspent too much time arguing aboutwho was going to be in charge of the spaghetti. Lawyers didn’t do welleither.

The most successful group, how-ever, was kindergartners. How didthey beat the engineers? By the sim-ple process of experimentation anditeration. They didn’t follow rules:

the kindergartners were the onlygroup to ask for more spaghetti. Andbecause they had more spaghetti,they just dove in and started creating.They ruthlessly called out whatdidn’t work and discarded it. Withthat process—what Silicon Valleycalls “failing fast”—these five-year-olds ended up with structures thatwere on average a full inch taller thanwhat the engineers had achieved.

This is how evolution works, it’s

how the economy works, and franklyit’s how most learning works. If youthink about tennis, nobody learnshow to play by developing an elabo-rate theory of tennis ball physics.You learn first by hitting the ball andwatching it go in the opposite direc-tion you had hoped. Over time, youbegin to hit it in the right directionand your brain learns through repeti-tion of those rare events.

When you talk to Europeans whohave done business in America, andvice versa, they tell you the samething: a European executive whoworks for a company that has failed is an executive who no longer has acareer. In America, by contrast, theassumption is that in your failure,you’ve learned a lot of valuable les-sons on somebody else’s dime.

In the business world, we are verygood at recognizing the fact that failure holds an enormous amount of critical information. We are not so good at recognizing this in theprison system. In fact, the UnitedStates is much worse than any othercountry in the world, having essen-tially wrecked the lives of two millionyoung men by making them unem-ployable. Most of the people inprison have done things they should-n’t have done. But it’s a phenomenalwaste—both for them and for socie-ty—that we’ve thrown away all ofthat human capital.

In a certain sense, the genius ofAmerica’s economic system is that itis so forgiving. The United States isfar and away the bankruptcy capitalof the world. Most of us don’t realizehow uniquely generous it is. But it’s asystem that fosters innovation and

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risk taking, encourages en-trepreneurship, and helpsfolks who make mistakes,even bad ones, get back ontheir feet. Everywhere else,bankruptcy is a stigma, anenduring disgrace, a perma-nent stain. Here it’s just aslikely to be the doorway to abusiness empire. By wipingold debt off the books, wehelp the economy by speed-ing up the redeployment ofcapital—both human and fi-nancial.

For small-time entrepre-neurs, easier personal bankruptcymitigates the considerable risks ofstarting a business. But that’s not theonly way easier bankruptcy laws en-courage entrepreneurship. Takingentrepreneurial talent and strappingit to old debts is an enormous waste of a scarce resource. By freeing peo-ple from the sunk costs of theirfailed business, we free them up totry again.

You might say that all this isworth it if we’re punishing the profli-gate—keeping people from runningup bills they can’t pay on foolhardyventures. And it’s true: making bank-ruptcy more difficult probably doesprevent some of that. But the pricetag of easier bankruptcy is surprising-ly cheap.

I want to close by saying that thepain from failure should be short, it should be sharp, and it should in-centivize us to overcome withouttearing us away from the social fab-ric of society. It’s not enough to en-courage people to fail. It matters asmuch, maybe more, what we do

next. How easy do we make it to re-cover?

Failing well means learning toidentify mistakes early. It meanslearning to understand those mis-takes so they can be corrected. Most of all, it means overcoming our natural instincts to blame some-one whenever something goeswrong. Societies and people fail best when they err on the side of forgiveness.

America spent several centuriesbeing really good at failure, andsomewhere along the way we builtthe biggest, richest country in theworld. We did it mostly because wewere willing to risk more, and for-give more easily, than most othercountries in the world. We lendmore freely and let debtors off thehook; we regulate more lightly andrely on a hit-and-miss liability systeminstead. These things are often paint-ed as weaknesses, but in fact they aregreat strengths. They are the sign of acountry more invested in the futurethan the past. n

“America spent several centuries being really good atfailure, and some-where along the way we built the biggest,richest country in the world.

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Jeffrey Miron is the director of economic policy studies atthe Cato Institute and the director of undergraduate stud-ies in Harvard University’s department of economics. His areaof expertise is the economics of libertarianism, with particu-lar emphasis on illegal drugs. From 1992 to 1998, Miron waschairman of the department of economics at Boston Universi-ty. He is the author of LIBERTARIANISM, FROMA TOZ and DRUG

WARCRIMES, in addition to numerous op-eds and journal arti-cles. Miron received his PhD in economics from MIT in 1984.

cato scholar profile

Jeffrey A. Miron

IS IT TOUGH BEING A LIBERTARIAN ATHARVARD? HOW WILL YOUR WORK ATCATO COMPLEMENT YOUR UNIVERSITYRESPONSIBILITIES?

Harvard has welcomed my libertarian views. Ido not mean that most people agree; quite thecontrary. But rather than being hostile, facultyand students seem to enjoy debating my per-spective. The regular pushback helps sharpenmy arguments and nudges me to give otherviews their due. And the incredible stream ofresearch that is produced and discussed in theeconomics department forms a great founda-tion for my role at Cato.

My work here will fall into three mainareas. First, I will work with those scholarswho write on economic policy issues. Second,I will try to get more outside scholars involvedwith Cato. I think academia contains morelibertarian-leaning economists than outsidersrealize. I hope to energize these folks behindlibertarian themes.

Finally, I will continue my own work intwo main areas: drug policy and governmentdebt. We appear to be entering a great mo-ment for drug legalization, though muchwork remains. In particular, we should legal-ize all drugs, not just marijuana. On debt, mygoal is to emphasize that the problem is muchworse than conventional numbers like thedebt-to-GDP ratio imply. The implicit liabili-ties of federal, state, and local governments inthe United States are overwhelming andgrowing.

HOW DO YOU APPROACH ECONOMICS?WHAT IS THE COUNTRY’S ECONOMIC OUTLOOK MOVING FORWARD?Overall, my approach to economics is utterlymainstream: I use theory and empirical meth-ods in the same way as other academics. Themain difference is that, relative to some, I em-phasize the unintended consequences of in-tervention and the potentially enormous gapbetween intentions and outcomes.

I am torn about the country’s outlook. Onthe one hand, the United States is still an in-credibly dynamic economy that has the po-tential to grow as robustly as it has in the past.On the other hand, counterproductive inter-ventions keep expanding, and the long-termfiscal outlook is dismal due to entitlementgrowth. The country needs a substantialchange in direction—toward smaller govern-ment—to avoid falling far down the list of rich(or free) countries.

One of the toughest challenges for liber-tarianism is the ingrained assumption thatgovernment spending is necessarily goodspending and we therefore always need more.This is not even true in the textbook Keyne-sian model that has fostered this view, aframework that faces serious theoretical andempirical difficulties. But because the bene-fits of more spending are often more obviousthan the costs—and since vested interests areeffective at protecting their programs—reign-ing in excess spending is hard. Cato’s econom-ic analyses are a vital antidote. n

Cato University isright around thecorner—July 27through August

1—and you should consider at-tending if you possibly can. Itwill be held this year at the love-ly Rancho Bernardo Inn in SanDiego. Spending a week atCato University is a wonderful,comfortable, and enriching ex-perience, the kind of event you’ll rememberfor years to come. We consider Cato Univer-sity to be our premier educational event of theyear. But it’s also great fun!

Participants and faculty travel from acrossthe country and around the globe. Just to giveyou a quick flavor, this year Jeff Miron of Har-vard University will be lecturing on such topicsas the economics of cooperation and coercion.Cato senior fellow Tom Palmer will boldly en-deavor to explain the history of libertarianthought in just a few cogent lectures. Rob Mc-Donald of the U.S. Military Academy at WestPoint will impart a whole new perspective onU.S. history, especially that of our foundingyears. Randy Barnett of Georgetown LawSchool will bring legal and constitutional issuesinto focus.

If it’s simply not possible for you to trek toSan Diego, you can avail yourself of the CatoUniversity Home Study Course. The 12 mod-ules of this program are available separately—as downloads or on CD. Indeed, you shouldbear in mind that just about all the events wehost at Cato are available online. That equatesto a pretty amazing archive of topflight presen-tations and information, since we host eventsjust about every day. The events themselvesrange from book forums to panel discussionsto full-blown, multi-day conferences.

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