All Uncertainty from Washington Is Not Created Equal

Businesses and investors hate uncertainty. We hear that old saw all of the time, and for the most part, it’s true. At the same time, it’s worth reflecting on the fact that all uncertainty is not created equal.

To be clear, uncertainty is not the same as risk, though the terms often are used interchangeably. The late economist Frank Knight tackled the difference in his 1921 book Risk, Uncertainty, and Profit. Knight basically explained that a “risk” is a situation whereby the odds of an outcome are measurable, as opposed to uncertainty, which is not measurable.

As Knight wrote, “The fact is that while a single situation involving a known risk may be regarded as ‘uncertain,’ this uncertainty is easily converted into effective certainty; for in a considerable number of such cases the results become predictable in accordance with the laws of chance, and the error in such prediction approaches zero as the number of cases is increased.” Meanwhile, a “true uncertainty” is a “form of uncertainty not susceptible to measurement.”

So, for our purposes here, let’s go with “effective uncertainty” as being measurable, and “true uncertainty” being unmeasurable.

Knight notes that true uncertainty certainly exists in the marketplace, and that it helps to explain the “peculiar income of the entrepreneur.” So, in Knightian terms, many entrepreneurs are more than simply bearers of effective uncertainty, but also of true uncertainty. That makes sense, particularly when thinking about the entrepreneur who is the innovator bringing an entirely new product or service to the market. What lies ahead goes beyond the measurable, and ranks as a true uncertainty. It lines up with what Steve Jobs once said, “A lot of times, people don’t know what they want until you show it to them.” When an entrepreneur offers something new, true uncertainty is being embraced.

But there can be much more to uncertainty than the particulars of an entrepreneur, business or even industry. Entrepreneurs, businesses, investors, workers and consumers often face uncertainty when it comes to government. Again, in the political realm, there is effective uncertainty, where odds can be figured out based on the track record of and understanding the incentives at work in government. And then there are true uncertainties, where the odds cannot really be measured.

For nearly a decade now, we’ve been sorting through noteworthy uncertainties. Consider a few examples.

First, when the economic/credit mess hit hard in late 2008, it became anyone’s guess as to how government would react. At least, for a short period of time, true uncertainty reigned.

Second, the election of President Barack Obama brought an activist view of government, and for eight years we heard a great deal about Obama administration policies creating uncertainty. But, in fact, much of that was effective uncertainty. For example, many people seemed to talk themselves into the idea that Obama actually would not do what he clearly had pledged to do during his 2008 campaign, and then they were surprised as the Obama administration carried through on assorted big government promises. There’s a difference between true uncertainty, and simply being dead wrong about one’s expectations, that is, miscalculating effective uncertainty.

Even in terms of the outcomes of policy specifics, the ills of ObamaCare, increased regulation, and higher taxes were certainly foreseeable. And individuals, businesses and investors, for the most part, made those calculations, and reined in entrepreneurship and investment as a result, with the economy then badly under-performing (and continuing to do so).

Finally, we have the move to the Trump administration, and along with it, assorted tweets, investigations, inexperience and contradictions. This brings a degree of true uncertainty into the mix, along with the more typical effective uncertainty.

But there also is a directional shift in overall uncertainty. With the Obama administration, the calculations were about negative uncertainty. That is, we were left figuring out how bad the outcomes would be for businesses, workers and the economy with Obama’s policy agenda.

In contrast, there are major parts of the Trump agenda – namely, tax and regulatory relief and reform – that rank as positive uncertainties. That is, we’re left trying to figure out when such policies will be implemented and what the final details might look like, but the direction is positive. That is, implementation of such policies will enhance pro-growth incentives.

One area, though, where negative true uncertainty exists with the Trump administration is on trade. We’re left guessing if the harsh anti-trade rhetoric of Donald Trump on the campaign trail will win the day, or will a more traditional U.S. trade position hold sway? Once that question is answered, eliminating true uncertainty, then businesses and investors can make decisions dealing with effective uncertainty – whether it be positive or negative.

In the end, the ideal scenario is one where government serves up positive effective uncertainty, establishing a sound policy environment whereby entrepreneurs and investors are incentivized to embrace true uncertainty in the marketplace.