how the wrong side won at Boeing

the Ricardian fallacy, operationalised

These thoughts struck me while listening to the Odd Lots podcast on Boeing, which I thoroughly recommend.  The Boeing 737MAX is one of the core case studies in The Unaccountability Machine (pre-order now! Or from a variety of alternatives if you dislike Amazon!), because it’s a really graphic example of a decision-making system which generated an awful result, without any identifiable natural person being responsible for it.

The book also has a chapter about accounting systems as mental prisons, but it never occurred to me to link the two things up, and arguably I should have done because I think the way Boeing went wrong has a lot to do with that.  So, now that the text has gone through the “only minor changes now”, “only changes that don’t affect the pagination now”, “typos only”, “no more changes” and “we mean it this time, do not reply to this email if you are going to beg for more changes” stages, I thought I’d use the ‘Stack to rewrite it a bit, focusing on this specific issue rather than the general narrative thread.

The Odd Lots episode, correctly in my view (which is to say, it seemed convincing to me when I read about it, then seemed convincing again when the author said the same thing on the podcast) focuses on the 1997 merger with McDonnell Douglas as the inflection point in Boeing’s history.  This caused a thorough cultural change from Boeing’s historical “engineering culture” based on getting things right and doing what was needed, to something more in tune with the Jack Welch / Shareholder Value spirit of the times, focused on cost control and return on investment.

It's kind of odd, though.  Boeing was the acquirer and the larger company; McDonnell was actually not in that great shape; it had a good defence business but a bad civilian aircraft business; in fact, one of the attractions for Boeing was that McDonnell had spare factory capacity that it could use to accelerate its own overflowing order book.  As you’d expect from a company run along financial lines, it was quite indebted too.  So why was it McDonnell’s culture that became dominant?

Let’s take a step back into economics.  Joseph Schumpeter identified something he called “The Ricardian Fallacy”.  This is the tendency of economists to build a theoretical model (abstracting from too much real-world detail) solve the model and then act as if they have solved the problem in the real world.  To an extent, this isn’t particular to economists – it’s the nature of modelling that (as I put it a while ago) having made a representation of reality specifically in order to attenuate its complexity and make a problem manageable, you don’t then go back and unattenuate it.

But bearing that in mind, the Ricardian Fallacy then interacts with another thing that economists do; they collect data.  Data gathering is almost never a neutral activity; it takes place within a theoretical framework.  And what this means is that if the system for gathering, classifying and tabulating the data was designed by people who had a particular model, then the data will most likely support that model.  Everything which is part of the model will be well-verified, data-driven, empirically based and so on.  Everything which isn’t part of the model will be handwavey, subjective, “hard to quantify” and other synonyms for “probably special pleading and made up”.  In the book, I have a subsection called “How Ricardians Win Arguments” and this is how – they collect the data.

Returning from the digression, the important thing to understand is that the financial accounts are a model of the business.  They incorporate a lot of assumptions, of which perhaps the least analysed but most important one is “the financial year is a meaningful time period for this process”.  Some things appear in the accounts, and they are the things which can be backed up with numbers.  Other things don’t, and therefore they can’t.  (Or best case, they can only be backed up with ad hoc, unaudited numbers which everyone will be suspicious of).

I think that’s one of the deep causes of what went wrong in Boeing; the McDonnell-Douglas executives were the ones who could back up their business cases with a ream of hard data.  The legacy Boeing executives were left talking about culture and best practice and all sorts of soft-sounding things that were hard to put into a model.  The Ricardians won the argument, and the disastrous decisions turned out to have been made without anyone realising they were making them, when they decided to use the financial reporting system as a tool of management.

In “The Brompton”, where everything I wrote was basically paraphrasing Will Butler-Adams, there’s quite a lot of description of the arguments he used to get into with the company founder over duelling interpretations of what the effect of the changes he was making.  In my notes, there’s a phrase which really stuck in my mind – “understanding the numbers has to come from understanding the business.  People go badly wrong when they try to do it the other way round”.  But that’s what they do, far too often.