External Analysis

The analytical frame of mind seeks to break a thing apart to look at elements, mechanisms, or internal structures to understand how it functions. But I often find that an “external analysis” of boundary conditions, contexts, inputs and outputs — really just treating the thing as a “black box” — can answer questions without having to delve into the inner workings.

Of course, I don’t necessarily mean physical things. It could be anything from a job description you are writing to an economic theory. An example of an external analysis might be the design of fire-retardant chemicals. Since the purpose is to make something that won’t burn, if you succeed, it won’t oxidize easily or perhaps not even break down at all. From that simple external assessment, it is pretty clear that such a chemical will likely be a potential environmental contaminant, since it would hang around for a long time. Its toxicity would depend on other features, of course. Polychlorinated biphenyl (PCB), for example, is very stable because the active sites on the hydrocarbon frame (two benzene rings) are occupied by chlorine atoms. (This is internal analysis now.) The molecules are chemically inert, but the chlorine atoms are very electronegative. These two facts — that the molecules are inert, and that they have electronegative sites — explain the carcinogenic properties. The PCB molecules hang around in the body long enough to find their way into the cell nuclei where they can disrupt DNA replication. So the internal analysis explains the particular mechanism of one particular chemical (PCB), but the external analysis (characteristics of a fire retardant) are enough to warn you that it may be dangerous.

I had to dig deep into my thirty-five-year-old memories of organic chemistry class to come up with that example, but here is another one that is of more general interest: supply-side versus demand-side economics. Part of the fun of external analysis is that it can be quite simple-minded and still be useful. A fundamental “law” of economics is that of supply and demand, which is actually a theory about how prices are determined¬†in an open, competitive market. (In a controlled market, prices are either set by a government or a monopoly/oligopoly.) The idea is that when demand equals supply, prices will be at an equilibrium. Viewed externally, it is easy to imagine that in a demand-driven economy supply is lagging demand, so there is upward pressure on prices. In a supply-driven economy, supply is ahead of demand, so prices are softening. (External analysis saves us from having to do any math here.)

It makes sense that when Ronald Reagan was elected he was wanting to implement supply-side policies: inflation was in double digits and investment was weak. Now, after decades of supply-side policies, we see the specter of deflation all over the developed world while capital exceeds legitimate investment opportunities — flat growth, flat markets! So perhaps we need policies that stimulate demand. “Austerity” has the opposite effect: it is deflationary. Time for some long-overdue fiscal stimulus a la Keynes.