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Hyperbolic discounting explains why the French are revolting over Macron’s fuel tax

Hyperbolic discounting explains why the French are revolting over Macron’s fuel tax

Economists have long argued that an effective way of reducing carbon emissions is by increasing taxes on energy consumption.

This year’s Nobel laureate, Bill Nordhaus, advocated a global carbon tax over 40 years ago.

The scientific logic is impeccable. But the practical politics of it are fraught with difficulties.

To say that energy taxes, and fuel taxes in particular, are lacking in popular support is to indulge in understatement. President Emmanuel Macron has just tried to increase the price of fuel in France by €0.04 a litre, and the centre of his capital has been put to the torch.

But even we normally placid British, with no revolutionary tradition to compare to that of France, have form on the matter.

Norman Lamont, then the Conservative chancellor, introduced the so-called fuel escalator in his 1993 budget. Fuel duty would increase each year by three per cent more than the rate of inflation. When Labour won in 1997, Gordon Brown put the escalator up to six per cent.

By September 2000, however, enough was enough. Deliberately slow protest driving in towns and on major roads was combined with blockades of oil refineries. Whole swathes of the country were brought to a virtual standstill within a matter of days.

In his pre-budget report in November of that same year, Brown announced that fuel duty would be frozen completely until 2002.

Since then, successive chancellors have approached fuel duty, and especially the escalator, as one might a dangerous wild beast. Occasionally, they have summoned up the courage to give it a gentle prod, and increase fuel duty simply by the rate of inflation. But while the escalator may still exist in theory, in practice it has been abandoned.

Of course, the events in France are driven by more than the now-withdrawn eco-tax on fuel. But it certainly acted as the key trigger to the demonstrations, which have enjoyed widespread support across the country.

No doubt many of the sympathisers dutifully organise their recycling into the appropriate bins. The seeming plethora of extreme weather events this year will have encouraged this bourgeois sense of duty to do something about climate change.

Yet when it comes to being required to part with some actual cash in the form of a fuel tax, which is a more effective way of curbing emissions, they become enraged. They know that climate change may well impose large costs in the future, but they are unwilling to pay a small cost now to help reduce them.

Behavioural economics provides the key to understanding this seemingly paradoxical behaviour. One of its strongest empirical findings is that, when trying to compare future costs and benefits with those on offer now, people often use “hyperbolic discounting”.

Translated, this simply means that they place far more value on small rewards or costs which are incurred now than on much larger ones in the more distant future.

It is unlikely to comfort Macron to know that the French riots can be ascribed, in part, to hyperbolic discounting. But the rest of us might enjoy a good laugh.

As published in City AM Wednesday 12th December 2018

Image: Yellow Vest Revolution by Max Pixel under CC0 1.0

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From Northern Rock to lunch tables, no one is immune from the herd mentality

From Northern Rock to lunch tables, no one is immune from the herd mentality

The Bank of England and Federal Reserve held a two-day conference last week in London on big data and machine learning. All very interesting stuff.

There was an intriguing vignette as we emerged from the conference room for the frugal lunch on the first day.

Straight ahead was a table with sandwiches, fruit and the like. Most participants made for this, so many that a long queue soon formed, stretching well out of the room. But a sharp right instead brought you to a smaller table, with identical food. The wait was very much shorter.

This illustrates important aspects of modern economic theory.

In fashion markets and on the internet, for example, products or sites can rapidly become popular for reasons not connected to their inherent qualities. They become more popular simply because they are already popular. People start to follow the crowd rather than rely on their own judgment.

The same thing can be observed in bubbles in financial and property markets. An extreme example was seen in the case of Northern Rock in the run-up to the financial crisis in 2008. The bank did in fact have enough assets to pay its liabilities. But it experienced a short-term liquidity problem and approached the government for support.

The news leaked, and within 24 hours huge queues formed outside the branches as people scrambled to get their money out. The longer the queue, the bigger it became. The result was the first bank failure in the UK for 150 years.

This herd-like behaviour seems irrational. But an important paper by Sushil Bikhchandani and colleagues in the top-ranked Journal of Political Economy 25 years ago showed that it was perfectly compatible with the economic concept of rationality.

Suppose you have to make a decision, like the table to go to in order to pick up lunch. You might have some private information about the options. In addition, there is some public information available to all.

If enough people have chosen and have already given more weight to the public information, it will seem like it is more accurate than your own. So you are likely to give more weight to it when you choose.

This is exactly what happened at the central bank event. The first few people coming out of the conference used private information, and made for the table they could see. Others behind them could only see people getting lunch, and simply followed them. They used the public information about where lunch was available.

Those in the long queue had imperfect information, another key concept in economic theory. They were outside the room and could not see the other table in the opposite corner.

I considered approaching people in the queue to sell them information to shorten their wait. But it is a bit tricky to value information – yet another important issue in modern economics. As soon as I mentioned it, they would easily guess there was another table and find it themselves.

The conference itself was fascinating. But it was certainly gratifying to see economists behave as rational herders.

As published in City AM Wednesday 5th December 2018

Image: Northern Rock by Alex Gunningham via Wikimedia under CC BY-SA 2.0
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Britain’s stagnant regions are stuck in a monetary union trap

Britain’s stagnant regions are stuck in a monetary union trap

The Economic Statistics Centre of Excellence created a bit of a stir at the end of last week with its estimates of growth in the regions of the UK.

Since the recovery from the financial crisis began during 2009, London’s economy has grown by 26 per cent.

At the other end of the scale, output in the north east has expanded by only six per cent, less than one per cent a year. Yorkshire has grown by just eight per cent, and the north west, which includes both Liverpool and Manchester, by 11 per cent.

The economies of the Eurozone show a similar pattern. Since 2009, Germany has expanded by 20 per cent, growth in Spain has only been six per cent, and the numbers for Portugal and Italy are even lower, at just two and one per cent.

The regions of the UK and the Mediterranean economies of Europe have an important feature in common: both groups are in a monetary union with more dynamic and innovative economies. Newcastle is in the sterling monetary union with London, and Portugal is in the euro with Germany.

The weaker economies are not sufficiently competitive to produce enough goods and services that others want to buy. They run a balance of payments deficit with the world outside their borders.

And in a monetary union, a balance of payments deficit translates into lower growth and higher unemployment. Standard trade theory in economics shows this clearly.

At least in the UK, the poorer regions get compensation in the form of large transfers of money from the more successful ones to finance their trade deficits.

London generates a fiscal surplus – the difference between income raised by taxes and public spending – of £3,700 per head, according to the latest Office for National Statistics estimates. But only two other regions – the south east and the east of England – run surpluses. The rest are in deficit – they spend more than they raise in tax.

Northern Ireland gets the biggest per capita subsidy, to the tune of £5,000 a year for every single person living there. The DUP might usefully contemplate the fact that the rest of us would be better off if we got rid of the province altogether.

A devaluation for the UK’s regions against London and for the economies of southern Europe would help to make them more competitive. In a monetary union, this is simply not possible.

The problem goes deeper than a simple lack of price competitiveness. The British regions just do not attract enough high-skilled workers to produce the quality goods and services which are in demand in the twenty-first century.

We might imagine that low housing costs would attract people, but the price mechanism works very slowly and imperfectly in this context. Over the past couple of years, there has been a trickle of people out of London to the regions, while the inflow from them to the capital has been halted. But there is a long way to go.

And that means that, whatever form Brexit takes, the economic trends of Britain’s monetary union are such that the future for Britain’s regions still looks grim.

As published in City AM Wednesday 29th November 2018

Image: Derelict Factory by Will Lovell via Geograph under CC BY-SA 2.0
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Life under Network Rail offers a glimpse of the future if Corbyn were left in charge

Life under Network Rail offers a glimpse of the future if Corbyn were left in charge

The shambles that is Network Rail continues to blight our lives.

City A.M. readers may have experienced the cancellation of many services into Waterloo on Monday, due to engineering works overrunning. Even the best-laid plans can go astray. But this week was not just a one-off event. It seems to be a permanent feature of life under Network Rail.

The old Eurostar platforms at Waterloo are being redeveloped for use by regular trains. The work seems to have been going on since the Norman Conquest, and still only one platform is in operation.

And disruption is not confined to Waterloo. Back in May, the introduction of new timetables across the UK’s rail network created chaos.

On 27 July, the Office of Rail and Road (ORR) wrote to Network Rail and said, according to its website: “we had concluded that Network Rail are in breach of the timetabling conditions in its network licence”.

What could the regulator do about the breach? First, the ORR could improve its grammar and decide whether Network Rail is plural (“are”) or singular (“its”). But this aside, the answer is: not much. Because Network Rail is a nationalised industry.

You might hope that the train operating companies, with their private sector dynamism and innovation, should be able to overcome these challenges. But the basic problem is that many of the operating franchises are now run by foreign state-backed companies.

Their names may not be on the side of the trains themselves, and the precise pattern of ownership is often complex. But Deutsche Bahn, in which the German government is the majority shareholder, owns the outfits which run franchises such as CrossCountry. The French state operated company SNCF lies behind franchises like the Gatwick Express. Abellio, run by the state-owned Netherlands Rail, operates the Greater Anglia franchises.

Britain’s railways have evolved into a system which is run and maintained by state-owned companies. There is relatively little genuine private sector involvement.

Initially, rail privatisation was a great success. The peak number of passenger journeys made each year was some 1.1bn in the mid-1950s. This fell to 750m in the 1990s. Then, after privatisation began, there was a dramatic reversal, as the new private companies paid more attention to consumers. Journey numbers started to rise, passing the one billion mark in 2003, to the current level of 1.7bn.

However, with the increasing involvement of companies which are ultimately backed by the taxpayer, whether British or foreign, interest in the wellbeing of rail users – the consumers – has declined.

Many of our major routes, whether commuter or long distance, are operating close to full capacity. There is less incentive either to treat people well or to attract more passengers.

The Labour party routinely calls for the nationalisation of the railways. But to all intents and purposes, they have effectively become nationalised already.

As such, the industry offers not just a glimpse, but a full-length feature film on what life would be like in general under a government led by Jeremy Corbyn – cancelled trains to Waterloo are just the start.

As published in City AM Wednesday 21st November 2018

Image: Waterloo Station by Ben Brooksbank under CC BY-SA 2.0
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Move over Facebook and Apple, the next generation of customers has other ideas

Move over Facebook and Apple, the next generation of customers has other ideas

A visit to Rochdale Sixth Form College was a cheering experience last week.

This year, 55 per cent of A-levels were at grades A* to B.

True, Eton and Winchester do better. But this track record shows that even poor boroughs – and Rochdale is one of the poorest – have the capacity to deliver high-quality education with good leadership and teaching.

I gave a talk to over 200 A-level students of economics and computer science. They were a lively bunch who asked interesting questions. But the most fascinating piece of information I obtained was in the informal discussions afterwards.

Literally none of these 16-18-year-olds was on Facebook. They all used other apps to communicate with each other and share stories.

Globally, of course, Facebook continues to grow. The latest statistics give the site 2.27bn users who are active at least once a month. This is an increase of some 10 per cent compared to a year ago.

To set against this, it was only just over three months ago that Facebook suffered the biggest one-day loss in the history of Wall Street. The company’s shares dropped nearly 19 per cent.

This appears, with the benefit of hindsight, to have been due to a perception among investors that the reported growth in users was below expectations.

The biggest demographic of users is the 25-34 age group. But right in front of me was a group of bright young people from the demographic immediately below this. And there were no Facebook users.

A powerful way of understanding how things spread on social networks is based on work by the Scots Anderson McKendrick and William Kermack in 1927. This pioneered the mathematical analysis of how epidemics either spread or are contained in a population.

There is now a huge and complex body of scientific literature built on these foundations. But a fundamental point remains: for an epidemic to be sustained, a supply of new people who are susceptible to it is necessary. Otherwise, it eventually fades away.

A related problem seems to confront Apple. The tech company’s shares fell seven per cent in a single day last Friday, on fears that iPhone sales have peaked. In other words, the number of people buying the new models has plateaued – at best.

Apple’s chief executive, Tim Cook, warned that sales for the Christmas trading period could fall short of Wall Street’s forecasts.

What made the markets even more nervous was the announcement from the company that it would stop publishing the volumes of phones, tablets, and laptops sold. Apple has provided this information during its period of spectacular sales growth over the past 20 years.

Among the students I met, so-called “dumb phones” are rising in popularity. These are designed just to make calls and send texts.

The tech giants are increasingly seen as dangerous monopolies. But in an evolving market economy, even the biggest firm will eventually fail. The Rochdale students could well be revealing the future.

As published in City AM Wednesday 14th November 2018

Image: Smartphone Users by Pxhere under CC0 1.0
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