I learned a bit of economics at Freddie Mac, I learned a lot about business and about information systems.

The economics that I learned there was about the options embedded in the 30-year, fixed-rate mortgage: the option to prepay; and the option to default. Bob Van Order was the main intellectual evangelist for the option-theoretic approach. I was the one who put together a team of economists and computer programmers to implement the simulation models to calculate option values.

Also, Bob promoted an idea formulated by Mike Lea, who had preceded Bob as Freddie Mac’s Chief Economist. This was the idea of the “dueling guarantee,” which said that the Savings and Loans had their liabilities guaranteed by Federal deposit insurance, while Freddie and Fannie had their liabilities guaranteed by the implicit support of the government. Shareholders in a firm with a government guarantee should want the firm to pursue high-risk strategies, because the gains go the shareholders and losses go to the taxpayers. Offsetting this consideration is “franchise value,” in that if you do go under and the government takes over, that eliminates future profit opportunities. Also offsetting the moral hazard was a sense of obligation to protect taxpayers. Bob helped nudge the company toward adopting a strict capital standard, but that discipline had eroded by the time of the financial crisis.

I was at Freddie as it was undergoing a major growth spurt. When I joined Freddie Mac in December of 1986, it had a very loose culture. Although it was 15 years old and a financial institution, it was managed very casually. It was just making the transition from sub-Dunbar to super-Dunbar, and certain key people made decisions informally by consulting with one another–or not, as the case might be. My first project was to go back and trace what had gone wrong with some multifamily security “hedges” in which a trader in Corporate Finance at his own discretion decided when to “hedge” and when not to “hedge,” based on his predictions for where interest rates were headed. In other words, he was speculating. He was fired by the time I finished the project.

A lot of people were fired over the next few years. Freddie Mac needed to make the transition to a tighter organizational culture with more formal lines of communication and more formal decision processes, and a lot of middle managers could not handle that transition.

I learned a lot about business from training courses. My guess is that taking relevant courses while you are working, where you apply what you have learned right away, is more efficient than going to business school. Some of what I learned:

1. the Myers-Briggs personality typing. Academic psychometricians do not consider this a reliable personality classifier, but I find it useful. At a meeting, you could just see the “P” types wincing while decisions were rattled off, and you could see the “J” types grimacing at having a decision revisited.

2. W. Edwards Deming’s management theories. He was a “quality control” guru. One of his most powerful ideas is that the earlier you intervene in a process, the more leverage you have. Waiting to inspect your widgets as they roll off the assembly line is inefficient. Making the assembly line more reliable is better. Designing the widget so that it is easy to assemble is better still. You can apply that principle broadly. If you want to improve health outcomes, make the environment less toxic, improve nutrition (particularly for the young), etc., rather than wait to treat the illnesses that result from ignoring these areas. If you want to improve educational outcomes, your best hope is in the first few years of life, not in college.

Deming also disliked “tampering” with a process, meaning making changes without thinking in experimental terms of tracking results and comparing to a baseline. Again, this has wide application. Schools are constantly tampering with curriculum, and rarely to they attempt a rigorous evaluation of whether the new curriculum achieves better results. With the virus crisis this year, we saw constant tampering by officials with different lockdown mechanisms, different advice on social distancing, etc. It drove me crazy that nobody had Deming’s scientific mindset.

3. Concerning information systems, Freddie briefly brought in an executive named Chuck Sheridan, who had a lot of wisdom. He was a fan of what was called information engineering. He offered the theory that in a business setting, the data are the most stable construct, the business logic is the next most stable, and the people involved are the least stable. I found this persuasive and helpful, particularly later with my Internet business. I became a fan of data modeling as a way to keep track of a complex information system.

Chuck also had a “law” that said, “The person who designed this system that I have to maintain was an idiot.” I think that the reason that this law holds is that when you first design a system, there is a lot of trial and error involved, and requirements change as you go. When you have a working version, you (a) want to stop, because Thank God Its Working, but (b) you know if you had it to do over again you would to it differently. So even when it’s your own system, you think that the person who designed it was an idiot. I developed a very strong bias in favor of re-writing systems often, in order to keep them legible, efficient, and flexible.

But information engineering did not take hold at Freddie Mac. The company was still too loose as a business. It was at that time that I formulated the aphorism that every organization gets the systems it deserves. Tight organizations, like the Fed and like the operations division of Freddie Mac that processed security payments, had very solid information systems. Loose organizations, like Freddie Mac’s marketing department that negotiated contracts with mortgage lenders, had information systems that were fragmented, with information buried in odd places.

4. I learned the importance of project management. In large organizations, projects don’t just happen. You need a project manager to keep everything on track. You need a project executive to whom the project manager can appeal when decisions are needed or people are being uncooperative. I picture the Obamacare web site fiasco as a case of not having a high-level project executive and/or a competent project manager. Ultimately, I blame the lack of business experience among Obama’s top aides.

5. We also had some “new age” management training. Things like Steven Covey’s Seven Habits. Some consultants coached our top executives to develop a set of “operating principles,” which they rolled out in the organization. For example, “practice open, honest, and timely communication.” The most interesting operating principle was “Assume positive motivation.” Often, there is conflict in an organization, and it is easy to assume that the people on the other side are just being selfish or narrow-minded. “Assume positive motivation” meant that you tried to empathize with them, rather than dismiss them. It was an attempt to resist falling into what I have since learned is called the illusion of asymmetric insight, where you believe you understand your opponent’s true motivations, and they are bad. You might say that “assume positive motivation” is the essential lesson of my book The Three Languages of Politics.

A woman I hired as a project manager, Susan Snyder, also gave me some “new age” tapes, including “Who are You?” by Ram Dass (formerly Richard Alpert). I listened to that tape many times during my commute to and from Freddie Mac. One key lesson from that tape is that when you are wrestling with an either/or choice, if you pick (A) you will have to live with the part of you that wanted (B), and vice-versa.

She also showed that when a project is floundering, you need to hold a gripe session in order for the participants to air the frustrations. Then you try to steer them constructively by putting on a white board the “current state” of the project and the “desired future state” of the project.

This was related to another idea from management training, which was to be “at cause” rather than “at effect.” If you are “at effect,” you see yourself as a helpless victim of your situation. It is easy for a mid-level of low-level employee to feel this way. If you are “at cause,” you look for the best possible way to cope with the problem. Simply being in that frame of mind is a better, happier way to live. In general, not just in business.

I learned to avoid hiring anyone who talked in very negative terms about their previous job. If they were “at effect” working for someone else, they would likely be “at effect” working for me, and this would hurt morale for my whole team. So if I were hiring today, I would stay away from social justice warriors. Not to discriminate against their politics, but to avoid the “at effect” type that is so demoralizing.

For me, and I think for many other people as well, the most difficult part of being “at cause” is dealing with difficult interpersonal conflict. One of the best people at Freddie Mac at doing that was Mary Cadagin (the article is from after she left Freddie and went to Fannie Mae). When she saw that an executive needed a set of facts in order to be comfortable, she produced a fact pack, even though her own style was more intuitive. When she saw that someone (like me) was raising criticisms that demoralized a meeting, she would end the meeting and just talk to the individual one-on-one to find out what the person’s issues were and get the person to come to terms with them. Mary was the opposite of “passive/aggressive.”

6. I learned that there is no perfect organization chart. No matter how you structure it, some decisions will cut across organizational lines. The solution at Freddie Mac was to create committees. Because mortgage credit policy affected many areas, there was a “credit policy committee.” Re-organizations do not necessarily make a company better structured. They are often used to remove or lower the status of some executives and to raise the status of others. Usually, this is what the CEO is after, because it can be easier to effect these changes through a re-org than through formal demotions and promotions. Sometimes, a re-org can just be a power play by a mid-level executive.

7. In textbook descriptions of a firm, managers have all of the information that they need in order to optimize. In the real world, what managers know is dwarfed by what they don’t know. You certainly don’t observe demand curves or cost curves in an actual business.

Somewhat related: David Andrukonis said that the way to make yourself unhappy was to notice the people making more money than you and working less hard. Instead, better to make the effort to notice the people who are making less than you and working harder. He eventually was forced to resign when as Chief Risk Officer he told the CEO that the risky mortgages that Freddie was getting into were bad for borrowers, bad for Freddie Mac, and bad for the country.

8. In investigating artificial intelligence for mortgage underwriting, I stumbled on the “Big Data” approach. The rule-based systems that companies were trying to develop were just inferior, expensive versions of human underwriting. Credit scoring companies, on the other hand, used the masses of data assembled by credit bureaus to come up with better predictors of default risk. For example, the utilization ratio, which is the ratio of the amount you owe on your credit cards to the total amount of credit available to you on those cards, is a powerful indicator, but one that human mortgage underwriters overlooked entirely.

If this has been the longest post in my “influences” series, that is no surprise. Business was far and away the best “school” of my life.