[for educational / fair use only]

Original Source: http://www.yardeni.com/public/y_19991130.pdf

Author: Dr Ed Yardeni, Deutche Bank

Date: November 30, 1999

YEAR 2000 REPORTER

FINAL ANSWER?

Event Or Nonevent? Imagine you are a contestant on the hit game show "Who Wants To Be A Millionaire?" You've answered every question correctly and won $500,000 so far. If you answer the last question correctly, you'll take home $1 million dollars. A wrong answer, and you'll lose everything but $32,000. Regis Philbin, the host, reads the query: "Will Y2K be an event or a nonevent?" You give your answer. Regis looks straight at you and asks, "Final answer?"

Most stock market investors have given their final answer: "Nonevent!" So have most other humans on the planet Earth. Complacency about Y2K has increased significantly in recent months and is nearly universal. That's wonderful if Y2K turns out to be a nonevent. Investors seem certain that Y2K disruptions will be minimal. Greed, not fear, is the emotion driving the stock market to new highs. While many stock prices are actually down for the year, the narrow bull market is led by a buying panic in technology stocks, the ones that are most likely to head straight south if Y2K turns out to be a serious "event."

My final answer is that Y2K will be an event. I still assign a 70% probability to a Y2K-recession scenario. But I am a reasonable fellow. I can't ignore the fact that just about every IT pro and Y2K policy official is optimistic that it will be a nonevent. I'm skeptical, but I'm not inflexible. So I am moderating my outlook for the severity of the recession. The following table shows the five possible economic consequences of Y2K along with my subjective probability. The only difference between this table and the one I showed in my previous Reporter is that I am raising the odds of a moderate recession from 25% to 30% and I am lowering the odds of a severe recession from 40% to 35%.

Y2K Economic Scenarios & Probabilities

10%	Minor disruptions. Business as usual. Only a few problems, which will be fixed rapidly. Stock market moves much higher.
20%	Same impact as natural disaster. Business as usual within a few weeks. Stock market moves higher.
30%	Multiple problems cause modest 6-month recession. Real GDP down 1%-2%. Stock market down 10%-15%, then soars.
35%	Major global recession lasting 6-12 months. Real GDP down 2%-3%. Flight to quality. Deflation. Stock market down 30%, then heads toward 15,000 by 2005.
5%	Depression lasting 2-5 years. Blackouts. Social and political upheaval. Stock market...you don't want to know.

I still expect most of the problems will occur in global just-in-time supply chains in manufacturing and petroleum production. In this scenario, publicly traded companies might start to "preannounce," during January and February, earnings shortfalls caused by Y2K glitches. This would depress stock prices, which would depress consumer confidence and spending, thus exacerbating the Y2K recession effects attributable to supply disruptions. The worst of the forecasted recession should occur during the first six months of next year. It is likely to linger during the second half of the year, though there should be clear signs by then that the worst is over and lots of signs of a recovery.

(footnote #1)

Unfortunately, I seem to have confused a few reporters recently about my stance. On November 29, the Dow Jones Newswire posted a story headlined, "Yardeni Turns Upbeat About Effects of Y2K." It was based on a short e-mail I sent to my Yardeni.com mailing list with links to my latest commentary in which I said I was getting into the holiday spirit and feeling more optimistic about the future beyond the Year 2000 Problem. I've always been optimistic about the future BEYOND Y2K! The November 30 Globe and Mail in Toronto gloated, "Wall Street's Y2K alarmist turns optimist." If they had read my "Alarmist Shrugs," dated October 10, 1999, they might have more accurately observed, "Wall Street's Y2K alarmist now just skeptical."

Earlier this year, I expected that the public and investors would become increasingly concerned about Y2K during the second half of this year as we approached the century date change. I was wrong. Instead, they've become increasingly complacent. So far, there have been virtually no Y2K blowups and lots of assurances that all will be well.

(footnote #2)

The passing of September 9, 1999 without incident was widely viewed as a sure sign that all will be well next year. Many years ago, programmers used '9999' as a code to stop a program from processing and wait for an operator to intervene. In my opinion, the passing of '090999' was totally irrelevant to Y2K.

One of the most trusted leaders on our planet has been especially reassuring. On October 15, 1999, Fed Chairman Alan Greenspan said: "We at the Federal Reserve are optimistic that computer problems associated with the Century Date Change and the response to the CDC will not be a major event for our nation."

(footnote #3)

http://www.bog.frb.fed.us/BOARDDOCS/SPEECHES/1999/19991015.htm

The Chairman didn't provide any specific evidence to back up his upbeat assessment. Rather, he observed that IT systems regularly fail, but the failures are never systematic. He expects that in a market-based economy, managements will continue to respond quickly to Y2K disruptions to minimize their impacts and avoid systematic failures. He claims that the vast majority of institutions in the US are ready and have contingency plans. Yet, he concluded his speech by conceding, "no one really knows what will happen when the century rolls over."

Mr. Greenspan's greatest concern was the public's overreaction. Actually, the public is very calm. On Sunday evening, November 21, the American television public mostly and wisely chose not to watch "Y2K: The Movie." The made-for-TV millennium disaster movie was awful and finished in last place during its time slot, with a weak 16 share of the viewing audience. The top program was "Who Wants To Be A Millionaire?" the hit game show with a 23 share. Greed is more profitable than fear today in the United States. That's fine if Y2K is a nonevent, in which case we have nothing to fear but greed itself.

Mr. Greenspan deserves much of the credit for boosting public complacency. A recent Gallup poll conducted on behalf of the Fed has revealed that fewer US citizens now intend to withdraw money from their accounts due to fears about the millennium bug. Out of 1,400 people polled, only 39% indicated their intention to withdraw extra cash; this compares with a figure of 62% in March. A majority of those who plan to withdraw extra cash say they will withdraw less than $500, with most people intending to withdraw less than $250. Nine out of ten believe that their banks are ready for Y2K (up from 76% in March). Only 5% said they were very concerned about Y2K, 30% said they were somewhat concerned. Significantly, only 8% were more concerned than one month previously, while 27% said they were less concerned.

(footnote #4)

Full poll results are available at: http://www.bog.frb.fed.us/boarddocs/press/General/1999/19991118/DEFAULT.HTM

In a similar previous speech, on September 17, 1999, the Fed Chairman said, "failures and breakdowns in mechanical and electronic systems are a normal part of everyday life."

(footnote #5)

http://www.bog.frb.fed.us/boarddocs/speeches/1999/19990917.htm

He stated that the probability of a cascading of computer failures in mission-critical systems is now "negligible, given the testing that has been done, the backup plans that are in place, and the great adaptability and ingenuity of the American worker." It's almost unpatriotic to be skeptical that Y2K will be a nonevent. On the other hand, the Fed Chairman acknowledged in both speeches that alarmists played a useful role.

I agree with Mr. Greenspan that most IT systems have been fixed in the United States and most other industrial economies. I'm less confident about the readiness of systems in many important emerging economies, particularly Russia, China, Indonesia, and Venezuela. Even in the United States, I'm skeptical about the thoroughness of the testing and the adequacy of contingency planning. I think there still is a much greater risk of systematic failure than does the Chairman. I hope he is in a better position to know than I am. But my latest Y2K Experts Poll, conducted during November, is not reassuring. (See below.) We all know that many IT systems can randomly malfunction or fail on a good day, but what if, early next year, we experience many bad days, several bad weeks, or a few bad months-where the malfunctions and failures are nonrandom and systematic? We'll soon find out all together.

Other policymakers have also been very reassuring about Y2K lately:

1. The US Commerce Department estimates that Y2K will cost US business and governments $100 billion from 1995 to 2001, not a very big number. On November 17, Commerce Secretary William Daley announced the release of the department's Y2K study, which also concludes that Y2K problems at home and abroad should have only minor and short-term effects on US economic growth. I was hoping that the reassuring Commerce Department assessment of Y2K would provide some new reassuring evidence. I didn't find much, just lots of unsubstantiated assurances that all will be well. If Y2K does cause a recession, then the cost of lost output and litigation could far exceed the estimated costs of remediation.

2. US Congressional Rep. Stephen Horn, who gave failing grades to many federal agencies when he began tracking their Y2K preparations in 1996, said in a final report that the government for the most part has succeeded in fixing its computers. But Mr. Horn (R., Calif.) also singled out the Justice Department for not completing work on three mission-critical systems and said that of 43 federal programs deemed crucial to Americans, 18 still have work to do. Those programs include child nutrition, food stamps, Medicare and Medicaid, public housing and unemployment insurance.

Truth Or Consequences? It is not my intention to put a negative spin on all positive assurances and all the upbeat progress reports. Actually, I am very pleased to find that so much progress has been made. Clearly, the alarm bells were heard and provoked action. I believe the official assurances that vital systems will function well next year, including electricity and airline services:

1. On November 18, the North American Electric Reliability Council (NERC) released an update to its August report to the Department of Energy on the Y2K readiness of the electric power industry. According to NERC, 276 bulk electric entities are now Y2K ready, up from 187 in August. The number of entities that are Y2K ready with limited exceptions has declined from 64 to 17. The number of entities classified as not Y2K ready has fallen from 17 to zero.

   (footnote #6)

   The NERC update is available on-line at http://www.nerc.com/y2k.

   On November 17, the Nuclear Regulatory Commission told Congress that all commercial nuclear power plants have been completely ready for Y2K since November 4.

2. On November 16, the U.S. Department of Transportation announced that the nation's 10 largest airlines, which handle 95% of domestic passengers, were found to have no Y2K issues that would affect their compliance with federal safety standards. The airlines were part of a Federal Aviation Administration (FAA) review of 2,822 US carriers, which focused on ground-based systems such as those that handle crew scheduling, pilot training, and record keeping. Onboard systems, which handle flight and navigation, were reviewed earlier by the FAA's Certification Office and found not to pose a safety risk due to Y2K because they do not process the year date in a way that would affect flight safety. None of the nation's 565 airports regulated by the FAA had been found to have Y2K problems that will affect the airports' ability to meet regulatory safety requirements during the rollover, and that all airports covered under FAA security regulations are ready for the Year 2000.

   (footnote #7)

   Results for all US air carriers and airports regulated by the FAA, as well as self-reported information on international aviation readiness, are available at: http://www.fly2k.dot.gov.

Especially heartening is that some of the world's most important laggards claim to have caught up. In early November, Gazprom, the Russian natural gas monopoly, claimed to be 98% prepared. China's central bank systems have passed all their Y2K tests successfully. Intel, a global manufacturer of semiconductors, is so confident that the company will not stockpile for Y2K. General Motors, a company with a huge global supply chain, foresees no major problems next year. Venezuela, Mexico, and Saudi Arabia agreed to act jointly to offset any Y2K disruptions in global oil supplies. Venezuela is scrambling to meet the Y2K deadline. Mexico is in much better shape. Japan's government is very confident, but is urging the public to stock up on water, food, and flashlights.

Few of these happy progress reports have been independently audited and verified. I would believe them more if they had been. I can only assume that they are all telling the truth. If they aren't, we will all soon feel the consequences.

Jeopardy. I've been frustrated by the lack of good hard data to corroborate the optimistic progress reports. In an effort to collect some, I partnered with CIO Magazine and the Information Systems Audit and Control Association (ISACA) to conduct anonymous web-based polls of IT professionals with hands-on Y2K experience. The goal of our informal public-interest coalition is to help the public and their policy officials to assess the readiness of organizations around the world for the century date change. We conducted a poll in June and again in September. The third poll was conducted from November 10-21. All three can be viewed at http://www.peoplepolls.com.

The latest poll results are mostly encouraging and suggest that most of the responding organizations will be ready for the century date change. Most of the Y2K experts we surveyed are optimistic that their organizations will have a smooth transition, and that the overall impact of Y2K on the economy will be minimal. However, there are some disquieting responses suggesting that there are numerous laggards in both finishing the project and preparing contingency plans in time. This is especially troubling given that our sample was biased toward presumably resourceful large US organizations and financial institutions. At this late date, we encourage all organizations that have not fully completed their projects to fashion contingency plans focusing on possible malfunctions and failures of the systems that are still under remediation or in testing.

We found widespread optimism based on little hard evidence:

1. Most are finished or nearly so. In November, 32% reported that their Y2K project was 100% completed and another 56% said they were 91%-99% done.

2. Many are taking longer than expected to finish. In November, 57% said they would need the last three months of the year to finish their Y2K projects, a disturbing increase from 43% in September and only 16% in June saying so. Moreover, 28% said they would be finished in November, with another 22% projecting completion in December. Curiously, there were a few organizations (8%) expecting to have Year 2000 work to do next year and beyond.

3. Some are behind schedule. In November, 15% said they were 1-4 weeks behind schedule and 9% were 5 weeks or more behind schedule.

4. A small fraction of systems might malfunction or fail. When asked about the readiness of their mission-critical systems, 59% said they expected that they would all function properly, while 33% acknowledged that 1%-5% of these might experience some malfunctions or failures. A much greater percentage of respondents (73%) admitted that up to 25% of their nonmission-critical systems might have problems.

5. A few are still waiting for key third-party software. When our experts were asked if they are still waiting for Y2K-compliant versions of mission-critical software programs written by third-party vendors, 15% said they were. That is an improvement compared to 23% in September and 35% in June.

6. Progress assessments are largely unaudited and assessments of vendors are mostly informal. The poll shows that many of the projects have not been subjected to independent assessments and audits. Indeed, 42% said that no independent audit was conducted. While many have assessed their vendors and are confident that most will be ready, only 14% actually conducted on-site verifications of vendor readiness. Everyone else relied mostly on conversations, questionnaires, and phone calls. Interestingly, 16% predicted that they might cause problems for some of their customers.

7. Contingency planning: some have, a few don't. Nearly a third had implemented their contingency plans, while another third was still doing so. A small percentage (8%) had no plans, while (13%) were still formulating their plans. A significant portion (38%) were not planning to increase their inventories, while 27% were likely to have another 1-4 weeks worth.

8. Optimism is very high and few expect serious problems. Our Y2K Experts remain remarkably optimistic even though many of them report that they are not yet completely ready at this late date and seem to be falling behind schedule. Hopefully, they are using the remaining time mostly to retest and double-check. In the latest November poll, 91% said they were optimistic. Supporting this upbeat attitude, 21% claimed that their organizations are in better shape than their lawyers would permit them to say. An overwhelming 79% say that Y2K will have at most a very minor economic impact lasting a few days.

9. Demographics of poll are optimistically biased. Of the 30,000 e-mails sent to IT professionals, 1,212 self-described Y2K Experts responded. One-fifth said they work for a finance or banking organization. This is one of the best-prepared industries, which might explain some of the optimism expressed in the poll. Also contributing to the positive assessment is that 58% work at very large organization (with over 1000 employees), presumably with the resources to fix Y2K. Our sample was very US-based (63%) and a significant number (18%) working for a global company or organization.

Wheel Of Fortune. If Y2K is a nonevent, there will be many more millionaires and a few more billionaires next year. If it is a serious event, then many millionaires might take home a lot less than they expected. So: Will Y2K be a nonevent or an event?

Final answer!

-- Arnie Rimmer (Arnie_Rimmer@usa.net), November 30, 1999

Answers

There's insufficient information for anyone to accurately predict the quantity of Y2K problems in 2000.

Most organizations are taking Y2K work seriously. They want to stay in business without disruptions.

With insufficient data to develop a logical Y2K forecast, most people 'think positive' because most people are optimists.

Y2K is progressing like most large software projects -- everything is "fine" until 90-95% done. Then problems are "found". Of course most software projects can push out the completion date. That typical software project strategy won't help for Y2K projects. Repeat after me: "Y2K -- Oye Vey".

-- Richard Greene (Rgreene2@ford.com), November 30, 1999.

Heidrich's theorem: The greater the level of complacency, the greater the disaster about to occur.

-- StanTheMan (heidrich@presys.com), November 30, 1999.

And the answer is:

70% chance of "major" troubles lasting more than 6 months.....sounds about right.

-- Robert A. Cook, PE (Marietta, GA) (cook.r@csaatl.com), November 30, 1999.