Gaming

Gaming risk models invalidates the premise behind its formulation.

Skyscrapers

From Skyscrapers 'linked with impending financial crashes':

"Often the world's tallest buildings are simply the edifice of a broader skyscraper building boom, reflecting a widespread misallocation of capital and an impending economic correction," Barclays Capital analysts said.

What goes up, must come down?

Yes, It's True...

The rich are different from you and I, they're heartless scum.

Learned Somthing New About Lumber

Although my trade has enabled me to develop an expertise with respect to construction economics, until reading today's Financial Armageddon post, I was unaware that there was a correlation noted between lumber prices and the "prevailing economic winds."  (Of course, other pricing ACZA stub piling, timber marine decking and form/false work, most of my experience with heavy civil highway and marine work does not concern lumber.  I did know lumber was declining in price.)  It does make sense as less housing is likely to be constructed during a poor economy.  It will give me something new to track.

The only thing really going on is energy related construction (power and electrical), but I did know that already from reading ENR. (See also Calculated Risk.)

Public Megaproject Overruns: Error or Lie?

As I've disclosed previously, in my real life, part of my job as an (un-)civil engineer revolves around estimating construction costs for heavy civil/transportation/marine projects.  These projects include small projects that I design, and sometimes work on the construction side, and $100M+ projects of which I am a team member.  One of the professional requirements for such work is the identification and mitigation of risks.

Risk based estimating, as opposed to traditional estimating approaches, attempts to proactively recognize threats and opportunities to a project's scope, schedule and/or budget. In this process, known and unknown risks are assigned relative weights as some will impact the project to a greater extent than others. Identifying risks (and opportunities) will also keep management and executives from being surprised as the project progresses. Certain risks are ongoing, whereas others pass with time. Although unlikely, a major earthquake could occur at any time, whereas a high bid cannot occur at the end of construction.

Risk assessment and management is something we constantly do everyday. Nobody would cross a street without looking for traffic, and managing projects should be no different. Regardless of the size of the project, risk may be both quantitative and qualitative. Market conditions pose a risk to the cost of a project. The loss of key personal is more difficult to assess numerically. Risk is something that should be assessed continuously (or at least daily). Once a risk is identified, it should be documented. Likewise, if a risk is retired, it should be removed and the reason(s) for doing so noted. Therefore, to be effective, a risk registry is a living document that must be utilized throughout the life of a project. In order for it to be proactive, it must be acted upon. A risk is an issue that has not yet occurred; an issue is a risk with a 100% probability of occurrence; and an action item is the implementation of the mitigation plan. A transportation analogy is defensive driving.

One advantage of risk based estimating, as contrasted to traditional estimating approaches, is the estimate is given as a range of values rather than a singular number. As the design progresses, the range is narrowed. As with traditional estimating, it is important that risk based estimates are not skewed due to pressure to advance a project. Unfortunately, when it comes to public megaprojects, which I'll define as projects with over $100M in costs, there is a tremendous amount of political pressure to downplay the impacts of risk.  There is a great deal of research on under-reporting projects costs by Professor Bent Flyvberg.  For more background his seminal paper Underestimating Costs in Public Works Projects Error or Lie? is essential.

In my experience and as shown with extensive analysis by Professor Flyvberg, the riskiest projects, no matter the size, are those where something that was previously unknowable becomes exposed through the work process.  Examples are building remodels and underground work.   For example, during a building remodel, asbestos or mold may be discovered when a wall is removed, therefore leading to costly abatement work.  In the case of underground work, the geotechnical boring test pattern may have missed a large rock that is only removable by expensive means, or contaminated soil may be discovered.  (Change orders are always more expensive than work as it was originally bid.)  There are several means of mitigating these unknowns.  More preliminary work, during design, may help to identifying potential risks, such as performing more borings.  Another means is for the owner to take the risk from the contractor by a contracting tool such as force account, where the owner's representative directs the work methods.

There are also more general methods to mitigate risk, such as contract cost escalation clauses, which ensure that the contractor is protected from material and/or fuel cost hikes, therefore eliminating the need for hedging bids to account for future price shocks.

Another method for estimating the cost of risks is to create a risk model that uses a Monte Carlo simulation to develop a range of costs.  The probability of occurrence and the cost range of possible risks (and opportunities) are fed into the model and a random number generator computes the range of costs from best to worst case.  This is considered a cost-risk model.  For example, hypothetically, if the project was constructed 100 times, and the 60th percentile is chosen as a baseline this means the amount of funds budgeted for a certain project will correspond to the 60th highest cost per the model.  However, for public projects, this strategy is subject to manipulation as the percentile chosen will dramatically alter the cost estimate as it is released to the public.  A case in point is as follows.

In Seattle, as the residents of Washington State are aware, the earthquake damaged Alaskan Way Viaduct is being replaced, not with an elevated structure in-kind, but with a highly expensive deep bore tunnel.  The project has already started.  A cost-risk model, using the base estimate, has been developed.  The cost of the project, as reported to the public, is based on the results of the 60th percentile, which is the current policy used agency wide.  Although the 60th percentile might be a conservative estimate for rebuilding an interchange, it is rather low for an underground project with many known unknowns and unknown unknowns.  As Professor Flyvberg has convincingly demonstrated, tunnel projects worldwide are the projects that most susceptible to underestimating costs.  One reason, other than the nature of the projects, are these types of projects often allow politicians and others an opportunity to make their mark in a big way.  At the same time, the policy makers responsible are usually long gone by the time the final cost come due, so their ego is appeased and they do not have to deal with the fallout from trying to pay for it.  The deep bore tunnel is another such case.  Since tax receipts are falling, this project is taking funds that could be used to repair roads and other less glamorous, but necessary, transportation work.

It isn't only economists that use statistics to lie.

Economics: Not A Real Science

I've long maintained that economics is not a real science, rather it is merely ideology (or maybe a really, really lame religion, if you prefer) masking as science. There are several reasons for this observation.  For example, competing economic systems, like Marxism and Capitalism, are consistent within their own scheme, yet contradictory with each other.  In a real science, like chemistry, this would be analogous to having a different reaction when combining bleach and ammonia, depending upon whom mixed it.  Also, in no real science, could a practitioner get their predictions so completely wrong and not be completely discredited.  But not economics!  Compare and contrast the recent announcement of neutrinos being measured to travel the faster than light and the reluctance of some physicists to even be associated with the results, compared to the likes of Greenspan, who is incredibly still taken seriously by some.  This is more reminiscent of an ideology, where if the figurehead is proven wrong, just changes the "facts" to match.  This reminds me of the the Soviet Union banning quantum research, as it contradicted the dialectic, until the development of the atomic bombed showed that it was undeniably real.  Other than data collection, which is horribly skewed in certain areas such as unemployment data, economics has very little to offer that could be compared to a real science.

However, I am willing to cut a little slack toward some economists that are keenly aware of deficiencies in economics.   John Kay's reminder to fellow economists that the territory is not the map, regarding the innate flaws of computer modeling of complex systems, is one such example.  (Indeed, it's a reminder that real scientists could use from time to time as well.)  I also follow construction economics, and find that most of the economists involved are worth taking seriously.  (Probably because the construction industry that bankrolls their research would not stand for anything that hurt their business--unlike banks which are guaranteed a government bailout when they fail.  I can't image the likes of Kiewit putting up with the kind of mediocre crap put forth by the federal reserve and academic economists of similar ilk.)  Combined with BLS data, I even use their research in my work of estimating the costs of small to $100M+ heavy civil/structural/marine construction projects, and I have made a name for myself by doing so.  For the most part, though, I have very little use for this so-called "science."

On the Stimulus

During the 1930s, a less complicated version of capitalism was salvaged by employing socialistic approaches to keep idle men busy. It worked because the people in charge had some understanding of how the world works. The point was to keep people busy. In 2009, the same approach, called an “Economic Stimulus,” was tried again. Its impact was not as great. Why? In part, the fact that construction techniques have grown less labor intensive meant less people were employed for shorter amounts of time. A paving project in the 1930s was accomplished by trucking asphalt and dumping it on the road. It was then shoveled and raked by gangs of men. The only heavy equipment on-site was the compactor (steam roller). Now, this work is done by machines. There may be a few workers on the ground, but (not counting the truck drivers) the labor has been reduced from scores to about five or six. In addition, the requirement was the project to be “shovel ready.” Such projects, unless due to timing, are generally smaller in scope and duration than those undertaken in the 1930s. The laws impacting projects are much more stringent. Permits take years to obtain. Environmental Impact Statements take years to prepare. The days of filling in wetlands are long over. As someone who professionally worked on stimulus construction projects, I can attest that the politicians responsible for crafting the policy knew next to nothing about large scale construction projects. Their mediocrity is appalling.

-Excerpt from a work in progress.

It's the Oil, Stupid!

(Post #1000) by an Un-Civil Engineer:

Forget gold, oil is the driver of the U.S. economy.  The entire economic system is based on cheap oil.  In my other life (i.e. the one I take seriously because it pays my bills), I work as an (un-)civil engineer.  After 10 years, I am proficient in many aspects of the profession.  I am probably most successful as a cost estimator.  My specialties are heavy civil and structural construction cost engineer's estimates, and materials costs in general. As a consequence, it is necessary that I closely follow Construction Economics.  I also write about it.  Today, for reasons that will become obvious, I will do so here.

As a huge employment sector in the U.S., the construction industry has been particularly hard hit by the "Depression" in the construction market.  The residential and commercial real estate markets are in the toilet.  Heavy civil is limping along.

Construction workers have an official unemployment rate more than double that of the country as a whole.  As many workers in this sector were either self-employed or working under the table, in addition to the numbers being skewed by statistical manipulations (such as not counting those whose unemployment benefits have expired as no longer "unemployed), the number is surely far higher.

The competition for work is brutal.  Many construction firms are not currently bidding to make a profit, but merely to stay in business.  This weak economic climate is a period where it is definitely advantageous to be in an "owner" role, as bids are falling to 2003 or earlier levels.  This situation has only been made possible due to the low cost of oil and other commodities brought about by demand destruction in late 2008.  A combination of low bids and suddenly rising commodities prices will stall many construction projects and/or force firms to "eat" the difference.   (Contracts that contain materials escalation clauses can help to mitigate this problem and can even work as a two-way street: if prices fall the owner keeps the difference.) Weaker firms will eventually fail, thus raising unemployment in the sector even higher.  The  result will be a few large firms standing, and costs will again rise due to lower levels of competition.  The big boys will dominate the market.

Although the escalating cost of oil dominates the headlines, other construction related commodities, such as steel, have risen rapidly in the last three months.  Is this due to higher demand in the US?  The AGC says no.  Although there is increased demand from some foreign markers, it appears that speculators are moving back into commodities from the bond markets.  However, the cost of oil plays a factor.  If energy is more expensive, then production, fabrication and shipping costs rise as well.

Oil is rising for several reasons beyond speculation.  Many countries realize that it is a finite resource (at least as far as easily accessible oil is concerned), and are reacting accordingly.  However, this does not explain the huge jump in the last 3 months.  I (and many others) believe this is driven by the so-called QE2 instigated the Federal Reserve at about that time.  QE2 is an attempt to stimulate the economy by lowering the dollar in an attempt to increase US exports.  (Some might ask, "What exports?!?")  As commodities are priced in dollars, any move to weaken the dollar will inevitably raise costs.   Hence, QE2 will only serve to batter the construction industry even harder.  At least the stimulus, for all its glaring flaws, kept it from sinking entirely.  And, of course, the rising cost of oil will sink others as well.  The incompetence of the likes of Bernanke is amazing...  (If I was as wrong as he is, I would be out of a job.)

So what's so controversial about what I wrote above?  In my view, absolutely nothing, but I have found it almost impossible to get anyone involved in setting policy to listen.  They don't want to hear that the Federal Reserve is undermining a large US industry.  Even as the data tells them otherwise, they would rather smoke the dope of some imaginary recovery.  I once even started a serious blog (under my real name), which included alternative sources beyond the MSM of economic analysis, but gave it up.  At first interest was high, but once it became obvious that I did not tow the line of "recovery," I lost most of my readers.  (Yet none of my posts were beyond the above in tone.)  I quit soon thereafter.

Hence, it is better to have fun with art (even if nobody cares) than scream at a wall (where nobody cares), and I will certainly "keep on keepin' on" here.