HMRC’s programme to make tax digital continues to roll out.
Anyone with a small business will know about the imminent deadline of 1 April, when VAT returns become digital.
Quick to seize an opportunity, several companies have developed software to ease the task.
The digitisation of tax raises the wider issue of whether technology will help the Office for National Statistics (ONS) put together faster and more reliable measures of the state of the economy. The VAT returns potentially give the ONS real-time information.
The current methods of constructing the national accounts – the picture of how the economy is doing – remain rooted in the twentieth century. Ron Jarmin, the deputy director of the US Census Bureau, writes in the latest issue of the top ranked Journal of Economic Perspectives that: “current measurement programs are not keeping pace with the changing economy, and current methods for collecting and disseminating statistical information are not sustainable”.
For example, national accounting bodies such as the ONS and the Bureau of Economic Affairs in America still rely heavily on sample surveys for their information.
Jarmin points out that surveys are encountering increasing problems. Response rates by both households and companies have declined substantially, increasing costs and threatening quality.
The intellectual conservatism of outfits such as the ONS is illustrated by measurements of well-being, or happiness. Hailed as an innovation when David Cameron instructed the ONS to produce this in 2014, it is based purely on old-fashioned survey questionnaires.
Economists in general are traditionally sceptical of survey-based approaches. The respondents, in the jargon of economic theory, simply state their preferences when answering a series of questions.
Economists place much greater weight on preferences which are revealed by the actions which people take. In the 1980s in Britain, survey after survey showed a stated preference for higher taxes and more public spending. Yet in their actions at the ballot box, people kept electing Margaret Thatcher. They revealed a preference for the exact opposite.
The online world is replete with revealed emotions. Indeed, the entirely new language of emojis has evolved to allow people to do this.
Modern machine learning techniques can readily translate the text of tweets and blogs into a scientifically-based measure of wellbeing. And they can do so much faster and more reliably than the survey methods used by the ONS.
Jarmin urges governmental statistical agencies to rely much more on digital information in general. He argues that material “generated from transactions, online interactions, sensors, the internet of things, and many other sources can be used to capture various aspects of economic activity”.
He notes the massive increase recently in the number of economists working for tech companies in the US. Here, innovative methods of data collection and analysis are the norm.
Statistical agencies such as the ONS need to show the same energy and move much more rapidly into the twenty-first century.
As published in City AM Wednesday 20th March 2019
Image: Berlin Wall by Jed Record via Flickr is licensed under CC BY-2.0
Knife crime continues to dominate the headlines.
What can be done about it? Economics does not pretend to provide all the answers. But, perhaps surprising to some, it has a lot of useful insights to offer on crime.
Gary Becker was a professor of both economics and sociology at Chicago. One day he was pushed for time, and weighed up whether to park in an inconvenient garage, or on the street right next to where he was going, risking a fine.
This sparked his interest more generally into the costs and benefits of crime to the criminal. The result was a paper in the Journal of Political Economy in 1968 which eventually won him the Nobel Prize in 1992.
Becker’s theoretical work has generated a large number of scientific empirical investigations into crime by economists. Would capital punishment, for example, be a sufficient deterrent to reduce the number of knife murders?
If execution reduced the number of murders, it would be morally wrong not to implement it. Sparing the life of the criminal would come at the cost of future innocent victims of other murderers.
Economists have carried out many statistically-based investigations into this topic, mainly using data in the US. From a scientific perspective, it is an excellent source, as there is a lot of natural variability in the data. Some states have capital punishment, others do not, and the number of executions differs a lot across the former.
On balance, although there is some evidence of a deterrent effect, it is not sufficiently strong to be conclusive. This is particularly the case given the rise in recent decades of gang culture.
Young gang members face a non-trivial probability of death in any given year from both other gangs and members of their own. So capital punishment would just be a marginal increase in this probability.
Steve Levitt, also of the University of Chicago, shot to fame in 2005 with the best-selling book Freakonomics which he co-authored. Given that a great deal of crime is committed by relatively unskilled men from single-parent families, Levitt showed that increases in abortion rates reduced the “supply” of such people, and so cut the crime rate.
More pertinently in the current context of knife crime, Levitt describes the evidence on crime and police numbers as being “persuasive”. In urban environments, hiring an extra police officer generates benefits in reduced crime which exceed the cost of employing them.
The “cost” to the criminal is the potential punishment, such as a prison sentence. But this consists of two elements: the expected length of sentence if convicted, and the probability of being caught in the first place. If the latter is low, even much stiffer sentences will have only a small deterrence effect.
The evidence suggests that an increase in the probability of being arrested does reduce crime. Longer sentences can also work, providing that there is sufficient chance of being caught.
The evidence from economics offers little comfort to the Prime Minister in her claim that police numbers play no role in the current spate of knife crimes in the UK.
As published in City AM Wednesday 13th March 2019
Image: Police via Wikipedia is licensed under CC BY-SA 3.0
The idea that the Earth is flat is a rapidly growing trend on social media. The Flat Earth Society’s Twitter feed has the best part of 100,000 followers.
The evidence of major natural experiments, which contrast the performances of economies based upon market-oriented principles with those based upon the planned economy ideology of socialism, is decisive in just the same way.
Compare the US and the Soviet Union, East and West Germany, North and South Korea, India and China under different forms of socialism versus under different forms of capitalism. In each example, the capitalist country performed far better than the socialist one.
This is discussed in an interesting new book by Kristian Niemietz, head of political economy at the Institute of Economic Affairs (IEA), entitled “Socialism: the failed idea that never dies”. (As a disclaimer, I am a member of the IEA’s academic panel but was not involved with this book).
The main theme describes the attitudes of western left-wing intellectuals towards socialist societies. The author covers the Soviet Union, China under Mao Zedong, Cuba, North Korea, Cambodia, Albania, East Germany, and Venezuela.
Niemietz identifies common trends in how western believers in socialism have reacted to each of these regimes.
There is an initial honeymoon period, where the experiment generates some evidence that it might be working. The Soviet Union in the 1930s, for example, was industrialising rapidly. Western admirers such as George Bernard Shaw conveniently ignored the mass famines in Ukraine and the millions of people in the labour camps. They eulogised the new type of society.
Eventually, the negative evidence becomes too strong to sweep under the carpet. Supporters then become angry and defensive. They question the motives of their critics and there is a frantic search for excuses.
The third and final stage sees western socialists deny adamantly that this particular example ever constituted real socialism. Socialism did not fail, because the country was never actually socialist to begin with.
These points are not just of abstract interest. Niemietz sets out in detail how the current Labour leaders, Jeremy Corbyn and John McDonnell, have gone through exactly these three phases in their attitudes towards Venezuela.
The final part of the book considers why such an obviously wrong idea continues to attract support.
Niemietz recognises that this is probably a job for psychologists, but being an economist, he looks to see what economic theory can say.
A key point is simple cost benefit analysis. Western intellectuals can acquire prestige and admiration for defending socialism, but never have to incur the costs involved of actually living under that system.
But if Corbyn and McDonnell have their way, the bien pensants of North London would learn for themselves what socialism actually means. Unfortunately, the rest of us would as well.
As published in City AM Wednesday 6th March 2019
Image: Berlin Wall by Flickr is licensed under CC BY-SA 2.0
Sydney University’s Centre for Complex Systems does innovative work on a broad range of topics.
Climate change is, quite literally, a hot topic in Australian politics. The country melted in 45-degree record temperatures in January, and upcoming federal and state elections are concentrating minds.
Both the main political parties have ambitious targets for emissions reduction. The centre-right coalition government wants to cut emissions by 26 to 28 per cent by 2030. The opposition Labor party, which until very recently was the firm favourite to win the General Election this year, aspires to slash emissions by no less than 45 per cent.
A major report was released last week describing the results of an economic modelling analysis of these plans.
Of course, any such exercise has to be surrounded by many caveats and cautions. But the author, Brian Fisher, has a good pedigree. For many years he headed the Australian Bureau of Resource Economics, and has been involved with the UN’s Intergovernmental Panel on Climate Change.
Under Australian Labor’s plans, for example, Fisher’s report suggests that GDP in 2030 would be nearly 10 per cent lower than it would otherwise be.
A key point is that, in the jargon, the marginal abatement cost curve is non-linear.
Essentially, at the start of any plan to cut emissions there is some low-hanging fruit.
The first steps in reduction can be carried out fairly easily. Cars, for example, have already become far cleaner in recent years without consumers feeling any noticeable pain through higher prices.
But these easy gains soon become exhausted. Further reductions have larger and larger negative consequences for the economy.
With each extra bit of abatement, the costs rise more and more. At some point, they start to explode.
The results come as no surprise to economists. Cutting carbon dioxide emissions is a costly business.
William Nordhaus received the Nobel Prize in economics last year for his work over the past four decades on the economy and climate change. His analysis shows very clearly that targets set by the UN, for example, to control global temperature rises are enormously expensive.
The current climate change strikes by schoolchildren in the UK are a direct copy of those which happened last November in Australia.
These children are owed a fair and detailed conversation about the costs of the policies which they are calling for and how that would impact their lives, from making their smartphones and other gadgets more expensive, to putting up the costs of any holiday plans they might have.
Many liberals seemed to encourage the strikes. They appear to hold the opinion that good intentions are all that count. The Duchess of Sussex, for example, feels able to both campaign on climate change and take a private jet from New York back to the UK.
But if serious action is going to be taken on the climate, both politicians and scientists have to be more explicit about the costs. A proper, mature dialogue with the electorate is needed.
As published in City AM Wednesday 27th February 2019
Image: Schoolchildren strike by Matthew Richards under CC BY-SA_2.0
The political spotlight remains focused on Brexit, but an important dogfight is developing in the area of higher education.
It is not merely a theoretical question. In the past year, a number of universities have announced deficits running well into the millions, and are having to cut budgets and staff.
Chris Skidmore, the higher education minister, has warned that some institutions “may exit the market altogether as a result of strong competition”.
However, Angela Rayner, Labour’s shadow education secretary, explicitly ruled this out in a speech last weekend. Universities, she declared “are not profit-making private companies that can simply be left at the mercy of market forces”.
The source of the dispute is a reform introduced in 2015. Whereas each university used to face limits on the number of students it could recruit, the changes essentially enabled an institution to take on as many students as it wants.
Strict rationing was endemic in the previous system. The number of students with the A-level grades to qualify them for admission to good universities exceeded the number of places on offer.
Many universities have expanded their capacity in the last few years, especially in humanities courses which are cheaper to provide than science and engineering.
The overall effect has been a flight to quality. Students obviously want to go to a more prestigious university if they can. And since all universities charge the same level of fees, given the chance that’s exactly what students have done.
The impact on weaker universities has been pretty dramatic. Their intakes have fallen sharply.
From the students’ perspectives, the reforms have been unequivocally advantageous. Many more get to go to more prestigious institutions than they would have done when rationing was in force.
But weak universities have had to close departments and cut staff. There are persistent rumours that several face bankruptcy because their student numbers – and hence their income – have dropped so far.
Rayner’s speech tells us a great deal about the mindset of the current Labour leadership on this issue. Far from being the party of the workers, Labour under Jeremy Corbyn has become an unashamed ramp for the public sector middle class. Its instincts are to defend the lecturers teaching second-rate courses that no one actually wants to take.
The preferences of consumers in this market – where the students really want to go – are very clear. Yet Labour wants to override these and pander to the interests of the producers – the staff.
Regardless of the shape which Brexit takes, or even if by some machination it does not happen, the willingness and ability to innovate will be the key factor in determining the UK’s future prosperity.
America, China and the rest of Asia will press ahead working out how to create better products and services. Labour’s instincts, in education and elsewhere, are to prevent changes from happening if they threaten its core support. While the rest of the world moves forward, Labour wants Britain to stand still.
As published in City AM Wednesday 20th February 2019
Image: University Graduation via Geograph under CC BY-SA_2.0
Concerns are growing that another financial crisis is imminent.
No less important a figure than Kenneth Rogoff wrote last week that “the next major financial crisis may come sooner than you think”.
Rogoff, a former chief economist at the IMF, shot to fame with his 2008 book This Time Is Different, co-authored with his Harvard colleague Carmen Reinhart. The sub-title of the book, “eight centuries of financial folly”, effectively summarises its contents.
Reinhart and Rogoff take a broad historical sweep of financial crises, and conclude that their basic cause is debt. It is not usually that the interest payments on debt become too high to be sustainable. Rather, the cause is a crisis of confidence that debt has become too high to ever be repayable.
In a sentence, this is essentially the story of the global financial crisis of the late 2000s.
Such crises are very rare under capitalism. Indeed, over the last 150 years, the recession of the early 1930s is the only other example.
So if they are so infrequent, why worry? Unfortunately, that is not how rare events emerge.
Until last Saturday, Chelsea had not lost by six goals since 1991. It might be another 28, or even 128, years until it happens again.
But Chelsea’s defeat followed on from a 4-0 drubbing the previous week at Bournemouth, a club which has spent almost all its history bouncing between the third and fourth tiers of English football.
By their very nature, rare events do not follow regular patterns.
Rogoff’s view that we are nearing another crisis might seem to be supported by the slowdown which is taking place in Eurozone economies. Even Germany appears to be on the brink. One longs for a genuine English word to use in place of Schadenfreude.
Most recessions, however, are definitely not caused by financial factors. They are usually short, and simply reflect the rhythms of business confidence.
The debt data published by the august crises are very rare under capitalism suggests that Rogoff’s fears are not, in fact, well-founded in terms of advanced economies.
Household debt as a percentage of GDP in the west rose from 62 per cent in 2000 to 83 per cent in early 2008. This very sharp rise by historical standards in less than a decade represents nearly $17 trillion in terms of actual money.
Corporate debt increased by around the same amount.
As a percentage of GDP, company debts peaked at around 95 during the financial crisis. By 2015, this had fallen to the mid-80s. There has since been a modest rise, but we do not see a dramatic escalation.
Households have got an even tighter grip of their finances. Their debt hit 85 per cent of GDP in 2009, but is now down to the low 70s.
The main problem is undoubtedly China. Households and companies taken together had debt levels of around 100 per cent of GDP in the mid-1990s. This has since risen almost inexorable to 250 per cent.
A 6-0 defeat for the Chinese is certainly looking likely.
As published in City AM Wednesday 13th February 2019
Despite the dire predictions from the economics profession about Brexit, the UK economy is doing well.
Growth continues at a steady pace. An all-time record 32.4m people are in work. Unemployment has fallen to levels not seen since the mid-1970s.
In contrast, the Eurozone is on the brink of recession – and Italy is already in one.
Economists in the UK are overwhelmingly anti-Brexit. Yet the persistent failures of their forecasts do not seem to lead them to revise their views.
Of course, macro-forecasting is just one part of what economists do. Economics as a subject is fundamentally about the allocation of scarce resources. So economists clearly have a role to play in government, where politicians are constantly having to make trade-offs between what they would like to do and what funds are available.
Even so, we might reasonably wonder whether the massive expansion of the Government Economic Service (GES) under Gordon Brown has been worthwhile. Well over 1000 economists are now employed in the GES.
An altogether more positive view of the point of economists comes from across the Atlantic. The giant tech companies just can’t get enough of them.
Amazon, for example, has hired over 150 economists qualified to PhD level in the past five years. This makes Amazon’s economics team several times larger than the largest academic departments in America.
This phenomenon is the subject of a fascinating article in the latest Journal of Economic Perspectives by Susan Athey of Stanford and Michael Luca at Harvard. Athey was previously the consulting chief economist at Microsoft, and Luca works closely with companies such as Yelp and Facebook.
The close commercial links of the authors are typical of how tech companies are using economists.
Collaboration with the academic world is actively encouraged. But at the same time, as Athey and Luca point out: “the majority of economists in tech companies work on managerially relevant problems with data from the company, and many are in business roles”.
They work on a wide range of practical issues. For example, economists use both actual and experimental data to help decide whether to introduce new products and how to evaluate the impact of competitors.
There are important questions around evaluating not just advertising, but a whole range of marketing initiatives. The skills of economists are very useful in the design and analysis of randomised controlled experiments on these topics.
At the top level, economists get involved in the key strategic decisions of the business. At Microsoft, Athey herself worked on the strategy and empirical analysis of Microsoft’s investment in Facebook and the acquisition of Yahoo’s search business.
It is not all one way. At tech companies, economists have had to become familiar with modern analytical tools in machine learning and artificial intelligence. These are very powerful tools, but academic economists have tended to look down their noses at them.
In the UK, the government is the biggest employer of economists. In the US, it is the tech companies. The contrast shows that we have some way to go to catch up with the entrepreneurial spirit of America.
As published in City AM Wednesday 6th February 2019
Nobel laureate Bob Solow pronounced 30 years ago that “you can see the computer age everywhere but in the productivity statistics”.
At the start of the 1980s, the world entered the digital age. Fax machines transformed communications. The introduction of personal computers made high-powered computing available to all.
But it took time to work out how to make best use of these major changes in technology. In the 1980s, output per worker in the US grew by only 1.4 per cent a year. But between 1995 and 2005, this had accelerated to 2.1 per cent.
We are on the cusp of another acceleration in productivity growth, due to artificial intelligence (AI).
Even the mention of AI strikes fear into many hearts. Surely this will cause massive job losses? That is one way to boost productivity, but it’s hardly desirable.
Rather, they have supplemented what employees do, enabling them to be more productive.
Two recent pieces in the Harvard Business Review provide firm evidence for this. Satya Ramswamy found that the most common use of AI and data analytics was in back-office functions, particularly IT, finance and accounting, where the processes were already at least partly automated.
Thomas H Davenport and Rajeev Ronanki came to the same conclusion in a detailed survey of 152 companies. AI was used, for example, to read contracts or to extract information from emails to update customer contact information or changes to orders.
Developments within the techniques of AI itself suggest that practical applications of the concept are about to spread much more widely.
There was a surge of research interest in AI in the 1980s and 1990s. It did not lead to much.
Essentially, in this phase of development, people tried to get machines to think like humans. If you wanted a translation, for example, your algorithm had to try to learn spelling, the correct use of grammar, and so on. But this proved too hard.
The real breakthrough was through the 2000s. Researchers realised that algorithms were much better than humans at one particular task: namely, matching patterns.
To develop a good translator, you give the machine some documents in English, say, and the same ones translated into French. The algorithm learns how to match the patterns. It does not know any grammar. It does not even know that it is “reading” English and French. So at one level, it is stupid, not intelligent. But it exceptionally good at matching up the patterns.
In the jargon, this is “supervised machine learning”.
At the same time, a new study in the MIT Technology Review shows that purely scientific advances in this field are slowing down markedly. In other words, in the space of a single decade, this has become a mature analytical technology – one that can be used with confidence in practical applications, in the knowledge that it is unlikely to be made obsolete by new developments.
Productivity looks set to boom in the 2020s.
As published in City AM Wednesday 30th January 2019
Image: AI via vpnusrus.com by Mike MacKenzie under CC BY 2.0
THE ECONOMIC Affairs Committee of the House of Lords has got its bovver boots on. Last week, the government was given a sound kicking.
The issue was the seemingly esoteric one of how to measure inflation. Inflation tells us how much the prices of goods and services are going up. The question is: what do we put into the basket when we are working this out?
The most general measure is the consumer price index (CPI). This takes into account literally everything which individuals in the UK buy. Something which is widely purchased, such as rail journeys, will carry more weight than, say, spending on parts for model railways. But they all count. The percentage change in the CPI is one measure of inflation.
Gathering all this information obviously takes time. In contrast, the retail price index (RPI) is quick and easy to calculate. It is, quite literally, based on a basket of products available in shops. The basket gets changed from time to time to reflect changes in spending patterns. The disadvantage of the RPI is that it is much more focused on goods than on services.
In recent years, inflation as measured by the RPI has been higher than the CPI. Between 2014 and 2018, the respective rises were 9.7 and 5.9 per cent.
These differences have important practical consequences. All sorts of things get increased each year by the “rate of inflation”.
The Lords accused the government of using the RPI for uprating stuff like rail fares and student loans, where directly or indirectly the government rakes in money. But it uses the CPI when it comes to paying out on pensions and benefits. “Index shopping” was their Lordships’ neat description of this practice.
But in top academic circles, much more fundamental attacks have been made on both these traditional metrics.
Measuring inflation faces a very difficult problem. How do you take into account changes in the quality of goods and services?
A simple example is a car. A particular model may cost exactly the same as the identical model last year. But suppose that, unlike last year’s model, this car has heated seats and parking sensors. The measured price has not changed, so inflation is zero. But you are getting more for your money.
The problem becomes acute in any area of new technology. Smart phones did not exist 30 years ago, and the internet was not yet developed for general use. How much have their prices changed since then? We have only to ask the question to see the problem that the vast advances in technology pose.
Even back in 2003, the top MIT econometrician Jerry Hausman estimated that the CPI was systematically overstating inflation by as much as two per cent each year, because of this quality issue.
Measured correctly, inflation could well have been negative in the current decade. But it will be hard to get politicians to take an interest in this. Imagine having to tell people that their pensions would be reduced because prices were falling.
Even if we could improve the measurement inflation, as the Lords demand, politics is forever likely to trump science here.
As published in City AM Wednesday 23rd January 2019
Image: Maths Equation by World Bank Photo Collection under CC BY-NC-ND 2.0
DESPITE the First World War ending the previous November, the year 1919 was a very bad one. For example, the UK entered what was by far its deepest ever economic recession.
Output fell some 25 per cent between 1919 and 1921 as the economy attempted to adapt to peacetime conditions. The troops had been promised “homes for heroes”, but many of them received the dole instead.
Globally, the influenza virus which killed between 50m and 100m people in the years from 1918 to 1920 was in full swing. Scaling this up to the present day would give a figure of between 200m and 400m deaths.
Given the nature of much of the comment in the mainstream media, we might easily think that similar disasters were affecting us in 2019.
On the contrary, there is a great deal to celebrate.
In the UK, real GDP per head is now some five times higher than it was a hundred years ago. Even poor people today are comfortably off by the standards of 1919.
Life expectancy in 1919 was 55 years for men and 59 for women. Now, a new baby can expect to live at least 25 years longer.
Across the world, we see inequalities in living standards between countries being eroded. Then, only a small handful of western countries could be described as rich by the standards of the time.
Now, more and more nations are joining the club. Literally billions of people have escaped lives of unremitting drudgery, at income levels close to starvation.
All this has been brought about by the institutional structure of capitalism, of companies motivated, at least in part, by profit, operating in a market-oriented system.
Yet, incredibly, capitalism is under attack, often by those who are some of its most conspicuous beneficiaries. According to a 2018 YouGov poll, only 30 per cent of Americans aged under 30 had a favourable view of capitalism.
This is precisely the group which lives and breathes capitalism, not just through its material consumption, but through popular culture.
Last week, I was in New York and visited the Whitney Museum to see a stunning exhibition of Andy Warhol’s work.
It was Warhol who said: “in the future, everyone will be famous for 15 minutes”. He describes, prophetically, the world of the internet, in which self-styled anti-capitalist young people blog, tweet, and work their apps furiously to try to get their own 15 minutes’ worth.
The difference between capitalism and socialism is neatly captured in a video of the group Boney M currently available on YouTube. In the years around 1980, the band was massive, selling some 80m records with hits such as Rivers of Babylon and Daddy Cool.
In the video, the group is playing at the Sopot Festival of Culture in the then Communist-controlled Poland in 1979. The artistic audience gaze open mouthed at their exotic performance.
Socialism offered the Red Army choir and “Song of the Partisans”. Capitalism had Boney M.
A real effort is needed to re-educate people. Capitalism offers not just material wealth, but exciting popular culture as well.