Economics is often described as the dismal science, but it often contains cheerful material. A paper by the leading American economic historian Joel Mokyr made for exuberant holiday reading. Written for the top Journal of Economic Perspectives, it is entirely in English and contains not a single mathematical symbol. Mokyr examines the history of anxieties about the economic impact of technology since the late 18th century.
We are living through precisely such a phase of worry at present, as fears abound that robots will destroy our jobs and take over the world. There is nothing new under the sun. The same concern was widespread two centuries ago. The machinery installed in new-fangled factories would create mass unemployment. Mokyr points out neatly that people get anxious at the same time about a problem which has completely opposite implications. Namely, that we are running out of ideas, and the progress of technology will grind to a halt. The great English economist David Ricardo addressed exactly this question in the early 19th century in his Principles of Political Economy. Many leading economists in the United States share the concern today.
The most famous group objecting to machinery two hundred years ago were the Luddites, who went round smashing it up, along with any unfortunate mill owner they could get their hands on. But the slightly later Captain Swing riots were also widespread, particularly in rural areas, and were often even more dangerous. Mokyr notes that the modern equivalent is the Occupy Wall Street movement, an altogether tamer creature. It turns out that the Swing riots were mainly directed not against the new threshing machines used by farmers, but against the use of cheap immigrant labour from Ireland. Hello? And in any event, the main complaint made by the working class in the first half of the 19th century was about the exceptionally long hours they were required to work, an observation difficult to square with claims that jobs were being eliminated on a large scale.
In the end, the fears of the Luddites that machinery would impoverish workers were not realized, and the main reasons are well understood. Technological change increased the demand for other types of labour that were complementary to the new technologies. So, for example, large numbers of supervisors and managers were needed for the vast new factories and companies. Product innovation created completely new markets which demanded completely new types of job. And the process has continued. As Mokyr says ‘Nineteenth-century political economists lacked an ability to predict new job categories like the personal fashion consultants, cyber security experts, and online-reputation managers of the twenty-first century’.
In fact, the demand for labour has held up far more than was expected. Between 1900 and 1930, for example, weekly hours in American manufacturing fell from 59.6 to 50.6. A simple extrapolation, beloved of doom merchants, would imply only 25.4 hours would be worked by 2015. Of course, innovation is disruptive. But over the 250 years history of capitalism, its positive effects have greatly outweighed the negatives ones of job destruction.
As published in City AM on Wednesday 26th August 2015
Last week saw the ritual tears and joy of the announcement of the A level results. An encouraging aspect was the increase, albeit small, in the percentage of entries in traditional academic subjects, now standing at 51.2 per cent. This is yet another example of incentives at work. The universities have been signalling that non-academic passes, no matter how distinguished, will not count for much, and the message is getting through.
More dispiriting is the huge regional imbalance in the schools which perform strongly. The league tables for the private schools have yet to appear. But we know that the best results in these schools are concentrated overwhelmingly in London and the South East. Only a mere handful of Northern schools, such as Manchester Grammar, challenge the dominance of the likes of St Paul’s, Eton and Westminster.
The league tables for state schools confirm the splits in regional performances. Different criteria produce slightly different rankings, but the overall picture is robust to these variations. The list in the Telegraph is as good as any, based on the percentage of grades A*, A and B at a school. Only one school outside London and the South East makes the top ten, the Girls Grammar in the prosperous Cheshire enclave of Altrincham. In the top 100, the West Midlands has 12 schools, the same number as the whole of the North, from Cheshire up to Cumbria and across to Yorkshire and Tyne and Wear. The best performing state school in Wales comes in at number 168, and what used to be known as the People’s Republic of South Yorkshire manages an entry at 184.
True, London and the South East are wealthier, but the rest of the country moved on from flat caps, whippets and coal in the bath many decades ago. Besides, a greater proportion of able pupils are creamed off by the private schools in London and its surrounding region. This stiff competition for students does mean that the state sector here has a stronger incentive to perform well. But otherwise, it is very hard to rationalise such disparities in success on the basis of purely economic variables.
Cultural factors drive these discrepancies in the state sector. Crumpsall, for example, is a not particularly salubrious area of Manchester. But the King David comprehensive makes it at 55 in the Telegraph rankings, stating on its website that the school is ‘founded on traditional Jewish values with a belief in respect, courtesy, self-discipline, diligence and the pursuit of excellence’. In contrast, the Welsh Labour Party used to be proud that their schools sent young people to elite universities. But under devolution, this ethos has gone into decline, with the politicians being more interested in shoring up their votes amongst politically correct time servers. No wonder that Wales actually registered a positive swing to the Conservatives in the recent election.
Culture can be an elusive concept, but it is important and economists face the challenge of incorporating it into their analysis.
As published in City AM on Wednesday 19th August 2015
The key aim of George Osborne’s economic policy has been to eliminate the financial deficit of the public sector. The main way of trying to achieve has been to squeeze public spending. The orthodox economic textbooks maintain that this withdraws demand from the economy, and so leads to the growth rate being slower than it would otherwise be.
But can contractionary fiscal policy of this kind actually expand the economy? At first sight, it seems something of a contradiction, the concept that spending less might cause higher growth. An oxymoron, one might say – where I am using the word in its regular sense and not referring to those Greeks who voted ‘no’ in the referendum. The very idea provokes howls of derision and outrage, from leading Keynesians such as Stiglitz and Krugman downwards.
Yet we have been here before. In early 1981, the UK economy had moved into a deep recession, comparable in size to that which we experienced during the financial crisis. In the budget of March of that year, the then Chancellor, Geoffrey Howe, cut the financial deficit by 1.5 per cent of GDP, or some £20 billion in today’s prices. This prompted no fewer than 364 university economists to write to the Times in protest, explaining that the policy was completely misguided and would only serve to prolong the recession. In fact, the economy began to recover during 1981, and posted a healthy growth rate of 2.2 per cent in 1982, followed by a boom rate of 3.9 per cent in 1983.
One swallow does not make a summer. Is there any other evidence? Tim Congdon, in a recent article in the journal Economic Affairs, claims that since the 1980s, ‘expansionary fiscal contractions’ have been the norm rather than the exception both in the UK and the US. Keynesian support for fiscal activism is, he argues, unsupported by a large body of recent evidence. To cite just one example, Congdon points to the substantial fiscal tightening under the Conservatives from 1994 and initially continued by Gordon Brown until 2000. Over this period, the UK economy grew rapidly.
There are good theoretical reasons for thinking that cutting the government deficit could stimulate rather than contract the economy. The classic paper was written by Robert Barro of Harvard as long ago as 1974. Its rather mysterious title, ‘Are government bonds net wealth?’, has not prevented it from becoming one of the most cited papers in the whole of economics. Barro, who was subsequently awarded the Nobel Prize for work such as this in macroeconomics, essentially argued that a nation cannot make itself better off by increasing its public debt. More recently, the work of the Italian economist Alberto Alesina, now also based at Harvard, has been influential in policy making circles in the European Commission and European Central Bank.
The simple view that more government spending boosts the economy appears to make common sense. The opposing views are more subtle and complex. But it is the latter which at present have the upper hand.
As published in City AM on Wednesday 12th August 2015
Alas poor Cecil! Close personal friend of mine, sadly dead now.
The catchphrases of the Scottish comedian Bob Doolally capture the outpourings of grief among the Twitterati at the death of the now famous lion. The mourning is mixed with incoherent rage, as long-standing opponents of torture and capital punishment demand that the American dentist who killed the animal have his teeth pulled out without anaesthetic and then be sent to Zimbabwe to be hanged.
Yet the story illustrates two deep features of the current world. We can usefully reflect on the truly appalling outrages which have been inflicted on Zimbabwe by President Robert Mugabe. At the start of his regime, he used Cuban and North Korean troops to murder 20,000 political opponents. One of the most fertile countries in Africa has been reduced to destitution and starvation by racially motivated land grabs. Economic mismanagement, which far surpassed that of the Greeks, led to an inflation rate of one million per cent. But these outcomes scarcely rate a mention, in contrast to the global swamping of social media occasioned by the shooting of a lion.
In cyber society, there is in general only a tenuous connection between the objective content of an incident and the amount of popular attention which it receives. It is not a matter of people gathering all available information and then making a considered, rational choice, as standard economic theory assumes they do. Popularity is self-reinforcing, and in a dramatic way. Network theory is beginning to illuminate why some stories or products spread like wildfire while most receive virtually no attention. But this is due to the subtle mathematical properties of the connections rather than the content or the competing merits of the product.
Economics does much better at understanding the second aspect of the Cecil story. There is a big demand across the world to hunt exotic and dangerous species. The markets for trophies and other by-products of hunting, such as the alleged aphrodisiac of powdered rhinoceros horn, are probably even larger. Unrestricted entry into such markets would lead to the so-called problem of the commons. This arises when the actions of individuals, each making decisions independently and in a rational way, generate an outcome which is bad for the group as a whole. Resources become depleted to the point of extinction.
The <a href=”http://www.nobelprize.org/nobel_prizes/economic-sciences/laureates/2009/ostrom-facts.html” target=”_blank”>Nobel Laureate Elinor Ostrom</a> spent much of her career researching how this problem is managed in contexts such as fisheries and farmlands. The existence of a well-defined community, whose members influence each other through their shared values and cultural norms, is a good indicator of success. But the urge to hunt is global, and so we face a market failure.
The regulation of hunting is one of the very few functioning aspects of the Zimbabwean state. It is a way of limiting access to rare species, and the permit fees received from legal hunters provide the resources required to combat poaching. Calls to ban hunting are ill-informed, for this would simply magnify the problem of the commons and lead to a world in which Cecils were extinct.
As published in City AM on Wednesday 5th August 2015
The activities of the House of Lords are very much in the news at the moment. But the members do carry out serious work, not least on the economic affairs committee. Last week, Lord Green, former chairman and chief executive of HSBC, appeared before them. Yes, the noble Lord admitted, the bank had not got everything right. “There were things we should have done differently with the benefit of hindsight”, he told the committee.
This sort of apology has become routine from those who led banks in the run up to the financial crisis. What was certainly not routine was Lord Green’s view on how the board could obtain reliable information about what was really going on inside the bank. He was nostalgic for what he called the ‘old’ HSBC before the takeover of the Midland in 1992. Then, he said, “you could rely on the people on the spot because you knew them, and had probably been to school with them”. Rather disappointingly, at a time when the Prime Minister likes to surround himself with old school chums, Lord Green himself only went to Lancing rather than to Eton.
But his rather throwaway remark does raise an issue of fundamental importance for all large organisations like HSBC. Just how does the board find out whether managers are cutting corners in order to meet profit targets? Indeed, are the profits which are being reported fair and true? The directors of Barings were certainly duped by Nick Leeson and lost their bank as a result.
Lord Green longed for the days when he had been to school with key people reporting to the board. That is certainly one approach to obtaining sound information. Stalin adopted a similar method in order to know what was actually being produced in the Five Year plans of the old Soviet Union. He believed Nikolai Voznesensky to be completely reliable and promoted him to run the entire Soviet economy when still in his thirties. Voznesensky did indeed provide years of loyal service, though his first slip up was his last. He was shot in 1950.
Boards can’t liquidate employees who distort the information which flows up to them. Yet even this measure, which an economist might regard as providing the ultimate incentive to behave properly, does not seem to have worked. So much depends upon the internal culture of an organisation, as the long and interesting discussion between Lord Green and the members of the economic committee makes clear.
Recent innovations using modern computer science might help. For example, the emotional content of internal emails and communications can be extracted using advance textual analysis. Potentially risky attitudes might be detected, even though the reported numbers tell a different story. Perhaps even more powerfully, by the use of network theory, the patterns themselves can reveal anomalies, regardless of the content of the messages. The Enron internal email traffic has been dissected in a number of academic papers, and the problems were certainly identifiable in advance. At heart, however, it is the culture, the human factor which matters, and it is here where many banks have yet to clean up their acts.
As published in City AM on Wednesday 29th July 2015
The holiday season gets into full swing, but a shadow has been cast by the abysmal failure of our boys to get anywhere near the enormous target of 509 which Australia set them to win in the second Test match. It may seem preposterous even to have thought they would. But a revolution seems to be taking place in the ability of teams to make large scores in the fourth innings.
S Rajesh, the stats editor of the website ESPNcricinfo, has a fascinating piece on whether batting in the last innings has become easier. In the 140 year history of Test cricket, teams have scored 350 or more in the final innings on only 49 occasions. Of these, no fewer than 21 have been in the past ten years. The chances of winning when faced with such a challenge still remain low. Only four sides won in the most recent decade, and only nine in total, but the ability to score heavily seems to have leapt up.
Before the Second World War, teams made 350 or more just five times. Admittedly, one of these was the monumental 654-6 which England made in South Africa in 1939. The match was timeless, with England being set 696 to win. But at the end of the tenth day, the match had to be abandoned as a draw so that the team could catch their ship home. In the five decades from 1945 to 1995, with many more Tests being played, 350 was exceeded only 14 times.
Rajesh offers some explanations for the dramatic rise in large fourth innings totals. Higher scoring rates, boosted by the techniques of Twenty20 cricket, mean that teams tend to start their final innings earlier in the match, when the pitch has had less chance to deteriorate. And in general pitch maintenance is better, so they crumble less.
This all sounds plausible and rational. But the change may not be a permanent one. The world of spam filtering illustrates why. The attacking side, the spammers, constantly change their strategies to try and break through, and the defenders also develop their techniques. At the moment, they are on top, with the US company Symantec claiming that spam rates are now lower than ever. But we have been here before. In 2012, the infamous Russian botnet, Grum, was taken down by spam fighters and spam fell by a half, only to bounce back. In the same way, there are two sides in a cricket match, and strategies evolve over time. They just take longer to work out and perfect. In the inter-war period, massive scores were made very rapidly, as improvements in batting techniques dominated. The fielding side then gained the upper hand. Fielders became more athletic and defensive placements got better. Bowling techniques evolved in their ability to contain the batsman.
In any evolutionary system in which two adversaries face each other, fluctuations in outcomes will take place. Spam and cricket are just two examples. Maybe even England will be able to learn how to score more than 103.
As published in City AM on Wednesday 22nd July 2015
George Osborne’s budget has been met with predictable outrage from the poverty lobby. The cuts to the welfare budget will allegedly create shocking levels of deprivation. Young people in particular, it is stated, have been singled out for punitive measures. On the face of it, the arguments do seem plausible. Many people on benefits will get less money. But slashing these payments is a policy which is very popular with the electorate as a whole. The welfare state, created with the best of intentions, is increasingly seen not as a provider of services to the population as w hole, but as a means of transferring money to those on benefits.
A fascinating new monograph by Nima Sanandaji looks in detail at the welfare systems of the Scandinavian countries over the past century. Its main title, ‘Scandinavian unexceptionalism’, could mean anything. But the sub-title rams the message home: ‘Culture, markets and the failure of third-way socialism’. Greece shows the failure of socialism when other countries are expected to pick up the bill. Sanandaji writes about the failure of socialism when the tab for a large welfare state is handed to people inside the country itself. Although they seem harsh, Osborne’s policies will eventually prove to be in everyone’s interests, including those of the poor.
The economic success of the Scandinavian economies long predates their large welfare states. Between 1870 and the Second World War, for example, Sweden was the fastest growing developed country in the world. Their success was not a miracle, but was based on standard ingredients such as an open economy, competition in domestic markets, the rule of law, and reasonable levels of taxation.
Even in 1955, the share of taxation in GDP was lower in Sweden, Denmark, Finland and Norway that it was in the UK. In the case of the former two, the tax take was low by the standards of the rich nations at the time, being in the low 20 per cent range, very similar to the United States. The Scandinavian experiment of high taxation and a generous welfare state only began in the 1970s. By 1985, whilst the tax take in the US had remained at 25 per cent, almost the same as in 1955, it was 46 per cent in Sweden and 48 per cent in Denmark.
From the 1970s, the previously dynamic Swedish economy virtually stalled. Between 1970 and 2000, net job creation in the private sector was zero. Sweden fell from 4th position in the OECD table on living standards to 11th. Taking into account sick leave, which grew enormously, and early retirement, the Nobel Prize winner Thomas Sargent calculates that the true rate of unemployment in Sweden since the mid-1990s has varied between 14 and 18 per cent.
The Scandinavian countries, with the partial exception of oil-rich Norway, began to scale back both taxation and welfare provisions in the 21st century and their economic performance have improved. Correlation does not prove causation, but the Scandinavian experiences suggest that apparently generous welfare states eventually damage everyone’s prosperity.
As published in City AM on Wednesday 15th July 2015
One aspect of the Greek crisis which will affect many readers is the reduction in the amount of cash in a bank deposit which is protected. The Bank of England announced that the current guaranteed amount of £85,000 will be cut to £75,000 on 1 January. This has led to predictable outrage, with Andrew Tyrie MP, who chairs the Treasury Select Committee with distinction, being one of the leaders of the attacks.
The provision of any sort of bailout involving banks raises tricky questions. At the height of the financial crisis during 2008, the then Governor of the Bank of England, Mervyn King, agonised over the so-called moral hazard problem. Once you rescue a bank with state funding, the incentives to banks to ensure their own liquidity and solvency in the future might be weakened. King eventually decided that bailouts were essential. A strong consensus of economists agrees with this view, although there are prominent names who dissent.
Without the deposit guarantee scheme, bank customers would certainly have much stronger incentives to discover for themselves the creditworthiness of any particular bank. In general, the principle that the onus is on the consumer to find out about the risks of a purchase is widely accepted. Sellers cannot misrepresent their offer, but otherwise it is up to the buyer. This applies even to really big ticket items like houses.
The whole idea of protecting bank deposits, on this view of the world, is just another manifestation of the nanny state culture. People are grown ups and should take responsibility for their own actions. There is a lot to be said for this view in most cases. But the bank guarantees are different.
Way back in 1969, George Akerlof of Berkley published a paper for which he eventually received the Nobel Prize. It is called “The market for lemons”. He didn’t mean the actual fruit, but ‘lemon’ in the sense of a dud purchase. Akerlof illustrated his remarkably deep theoretical model with the example of the used car market. If you see a classified ad for a second hand car and go to look at it, you can kid yourself that you know what you are doing by kicking the tyres like Del Boy. But the plain fact is that the seller knows a lot more about the actual quality of the car than you do. Economists love jargon, and this simple concept became known as ‘asymmetric information’.
Markets themselves are often used to try to correct such imbalance. When you buy a house, you also buy the services of professionals like lawyers and solicitors. They supply you with the information needed to make you almost as knowledgeable as the buyer. Even they can’t tell you the dog next door barks at night. But with banks, dogs might bark all day and they are still very difficult for experts to hear. Regulators, central banks, finance ministries all missed the fact that in 2008 many banks were essentially bust. They all suffered from asymmetric information. Deposit guarantees are a Good Thing and should not be reduced.
As published in City AM on Wednesday 1st July 2015
David Cameron is feeling the heat. This is not just a consequence of the sudden dramatic rise in London temperatures. The need to extract something meaningful from our EU partners and the increased threat of terrorist attacks are sleep-depriving problems. But the Prime Minister did have one good result during the past week. Despite widespread predictions to the contrary in the liberal media, the newly-released child poverty figures showed that there had been no increase in the number of children in poverty over the 2011-12 to 2013-14 period.
According to official statistics, the number is still high, at 2.3m. This represents 17 per cent of all children. But apart from a small blip at the height of the 2008-09 recession, the trend has been slowly but steadily downwards since 2000, when 26 per cent were classed as being poor. A child is classed as being in poverty if the household has an income of less than 60 per cent of the UK median. The median is the level at which half of all households have an income above that level, and half are below. It is currently around £25,000 a year in the UK, so a poor household is one which has an income below £15,000.
Life isn’t much fun on that sort of income, and no amount of intellectual juggling can get away from this point. But the official definition of child poverty is a pretty odd one. The idea that an income below 60 per cent of the median made you poor was dreamt up in the 1960s by leftist academics like Peter Townsend, then at the LSE. It meant, quite literally, that the poor would always be with us. If, by the stroke of a magic wand, everyone’s real income in the UK were doubled overnight, the median level would be £50,000 a year. And those with less than £30,000 would then be deemed poor.
More importantly, the data on household incomes in any year are a snapshot taken at a particular point in time. The information does not tell us how people move over time.
In fact, there is a decent amount of mobility in terms of moving up and down the income ladder, as the work of scholars like Tony Atkinson at Nuffield College, Oxford shows. Being poor today does not necessarily mean you will be poor tomorrow. Sajid Javid was the son of a bus conductor in Rochdale. He is now a multi-millionaire and in the Cabinet.
There is a large scientific literature on the question of income mobility. But as a broad summary, both here and in the US, 40 per cent of all households in the bottom 20 per cent of the income distribution will still be there in 10 years’ time. But this means that 60 per cent have moved up, around 10 per cent of them into the top 20 per cent of all incomes.
Rather than being stuck with one that is little more than a relic of the ideology of the 1960s, a more realistic definition of child poverty would take account of these dynamics.
As published in City AM on Wednesday 1st July 2015
The gracious Palladian architecture of Edinburgh has often led the city to be described as the Athens of the North. If the referendum result had gone the other way, much closer parallels would have rapidly emerged. A high spending left-wing government, faced by a collapse in revenues with the fall in the oil price, would soon have faced the wrath of international capital markets. This could so easily have been the UK as a whole, as the recent politics of Aberdeenshire Council demonstrate. Until last month, the council was narrowly controlled by a motley collection of the unionist parties, embracing the Conservatives, Labour, and Lib Dems. This vignette shows that Labour would happily have worked with the SNP to form a government in Britain. But there are differences between Scotland and Greece. The Scots, for example, have shown themselves to be much more adept practitioners of the esoteric discipline of game theory. Varoufakis, former academic turned Greek finance minister, specialised in the subject. A sound knowledge of game theory can often be very useful. Chris Ferguson, for example, winner of no fewer than five World Series of Poker championships, teaches game theory at UCLA. The deluded Greek Trotskyist seems to have convinced himself that his theoretical knowledge would give him a decisive advantage in the negotiations with the troika of the IMF, the ECB and the European Commission. But he seems to have forgotten that the purpose of playing a game is to win. You win at soccer by simply scoring more goals than your opponent. But the concept of winning in a set of negotiations is often not as clear cut as this. One of the insights of game theory is that it is possible for both sides to win. To achieve this, the players might adopt strategies which signal their willingness to play co-operatively. The pay-off for both can be much higher over time than when they intend to, in the game theory jargon, defect. That is, make a move at some point which is intended to shaft the opponent. Nicola Sturgeon and David Cameron have manoeuvred themselves into a lucrative strategy of co-operation. The game began during the election campaign. The SNP needed to destroy Labour in Scotland. They trumpeted their intention to help Ed Miliband get into Downing Street. The Conservatives seized on this, and used the SNP bogeyman to frighten the voters in the marginals. The game goes on. Cameron needs to make some concessions to Sturgeon so she can boast about them to the Scottish electorate. But the SNP also needs to maintain a set of grievances, which is their raison d’etre. Neither side actually wants to redress them, so that both sides continue to gain and keep Labour out. Practical politicians are often much better practical game players than so-called expert theorists.
As published in City AM on Wednesday 24th June 2015