Our boys make progress – and I don’t mean on Brexit.
On a visit to Glasgow last Thursday, a popular Scottish newspaper had a mock-up photo of Harry Kane lifting the cup. In massive type, the headline shrieked “This Would Be the End of the World”. Yes, it would rather put the Highland Clearances into perspective.
There is a general perception this year that the football has been more entertaining than usual. This is reflected in the fact that the average number of goals per game – 3.18 – is the highest since the 1958 finals.
The qualifiers for the last 16 generally followed the form book, with only three of them – Russia, Denmark, and Sweden – edging out teams placed above them in the FIFA rankings before the tournament started.
But the patterns in the results show once again how close many of the teams are in ability. One team has to win, though it is not obvious which one.
Germany’s own qualifying group illustrates the point. A key concept in economic theory is that of transitivity. It essentially means that preferences should be well-structured.
If I prefer product A to product B and product B to product C, the assumption is that I prefer A to C.
If we carry this over into team sports, it seems logical that if A beats B and B beats C, then A should beat C.
None of these “transitive triples”, as the jargon puts it, were observed in Group F. Mexico beat Germany, who beat Sweden. But Sweden beat Mexico. Sweden also beat South Korea, who beat Germany.
The conclusion is that the teams in this group were very evenly matched. It was largely a matter of chance rather than superior ability that Mexico and Sweden qualified.
In the round of 16, three of the eight games ended in draws and the result was by penalty shoot-out. Two of the others were decided by goals deep into injury time. And one of the quarter finals was won on penalties.
Again, the implication is that there is a great deal of randomness in the outcome. Even in England’s famous victory over Colombia, the opposition goalkeeper got his hand to the final penalty shot but could not prevent the ball entering the net. Move his hand by just a few centimetres, and he saves it.
To round off this football economics analysis, finally and frivolously, is winning the World Cup good for the economy? I looked at the eight years from 1974 when European countries won.
As a control group, I examined the US and Australia, two western economies where soccer is a minor sport. Growth in a World Cup year was higher than in the previous year seven times, and lower nine times. Growth was higher in the year after the World Cup nine times and lower seven. So the pattern here looks completely random.
In the countries which won, growth was higher in the World Cup year than the previous on four occasions, and lower on four. But in contrast to the control group, growth in the year after victory fell six times out of the eight.
Winning the World Cup is bad – or so the statistics say!
As published in City AM Wednesday 11th July 2018
What does someone with the job title of “chief economist” actually do?
The most well-known in the UK is probably Andy Haldane at the Bank of England, but his role is not typical. So what do the others do?
Nobel Laureate Alvin Roth’s paper in the latest issue of the American Economic Review describes the rapid evolution of the role of chief economists. Their main activity in commercial companies, banks, and investment firms was in macroeconomic forecasting – inflation, GDP growth – with perhaps some specific market commentary on the side.
These still exist, though there are fewer of them. And they are a cost to the business, rather than a revenue generator.
But the role is changing. Now, the major tech and internet companies employ chief economists – Airbnb, Facebook, Microsoft, and Google all have them. And the content of the work is completely different.
As Roth writes, “market design has opened up new ways for economists to earn a living”. Instead of being a cost centre, this new breed of chief economist and their teams make money for the company by designing the marketplace it hosts.
For example, in the short time between you clicking on the web and the site appearing on your screen, auctions have taken place.
Google search auctions determine which ads to show for each word that someone is searching. As Roth puts it, these are auctions for “eyeballs” – for attention. Auctions for banner ads on websites may involve bids based on the cookies that reveal data about the previous web activity of the eyeballs being auctioned.
These auctions have to be very fast and very efficient. The design of such markets at the hands of chief economists has become a lucrative business in its own right.
Roth’s paper of course covers much wider ground. As its title, “Marketplaces, Markets, and Market Design” suggests, it illustrates the important advances in economics recently in understanding how markets actually work.
Markets such as those for commodities conform closely to the simplified ideal presented in the basic textbooks. They allow trade to be conducted with relatively anonymous counter-parties, with prices doing all the work of deciding who gets what.
But even here the process by which prices are set needs to be specified, as does the definition of what the commodity actually is. The Chicago Board of Trade, for example, deals in commodities like US soft red winter wheat, not just “wheat”. And there need to be people whose job it is to specify such things.
Many of the features of price changes in financial markets, such as there being far more very large changes than a standard approach suggests, appear to arise from the price-setting mechanism, the double auction. We do not yet understand why. But according to Roth, “practical market design must often proceed in advance of reliable theory”.
John Maynard Keynes looked forward to the day when economists would be regarded in the same way as dentists, people doing a useful practical job. But Roth sees the recent developments in market design as making economists more like engineers. Surely a good thing, given that their bridges usually stay up.
As published in City AM Wednesday 4th July 2018
Image: I’m Feeling Lucky by Christopher is licensed under CC-BY-2.0
Immigration is a hot topic in both senses of the word “hot”. Not only is it at the forefront of the news, it also provokes heated emotions.
For the metropolitan liberal elite, immigration is unequivocally a Good Thing. They are on the side of the angels. Whether it is President Trump attempting to control entry into America, or – in the latest twist – the Italians turning away boats, all are to be condemned.
Ironically, almost all of these cosmopolitans accept the right of “oppressed” peoples, such as the Palestinians, to a homeland and identity. But they regard such aspirations as illegitimate when expressed by the historic majorities of Europe.
To what extent is the unease around mass immigration based upon rational factors?
It is often said that immigration helps to raise the rate of economic growth, so it does not make sense to have strict restrictions on numbers.
In the mainstream model of economics, growth depends upon three things: the speed at which new technology is adopted, increases in the amount of capital used in producing goods and services, and the growth of the labour force.
Immigration does indeed increase the growth rate, though its impact on growth per capita is at best marginal. A larger labour force arising from more immigration boosts growth, but there are more people around to share in the growth.
In order to make the economic case for immigration, it would have to be shown that either immigrants adopt new technology faster and more effectively, or that they are inherently more productive than the typical worker. There is a good case for allowing relatively small number of skilled people into the country on these grounds, but not for mass immigration.
Advocates of large-scale immigration argue vigorously that it provides a young workforce to support an ageing population – not only in the UK but throughout the west.
The trouble with “replacement migration” as a solution is that immigrants themselves grow old. They have to be supported by the next generation of workers.
To rejuvenate the population through immigration requires not just a once-and-for-all influx of foreign workers, but a continuing flow of new immigrants.
A few years ago, the Oxford demographer David Coleman calculated how much net immigration would be needed each year to preserve even the existing age structure of the populations of western Europe. At present, the estimate is around six million net immigrants a year.
At such rates, in the UK by 2050 over half the population would have arrived in this country during the twenty-first century.
A further assertion is that immigrants do jobs which native British workers are unwilling to take. But this rather gives the game away. Without mass immigration, employers would be obliged to raise the real wage rate to induce these people to take the jobs. Large-scale immigration thus increases inequality.
There is no doubt that part of the opposition to immigration is driven by prejudice and fear of the unknown. But there are very rational grounds to be wary of it on a mass scale. EU leaders need to recognise the validity of these arguments.
As published in City AM Wednesday 28th June 2018
Image: May Day Immigration March by Jonathan McIntosh is licensed under CC-BY-2.5
Criticisms of economics have abounded since the financial crisis.
Even Nobel Prize winners like George Akerlof of Berkeley have got in on the act. A key demand is for economics to adopt a more recognisably human portrait of behaviour in its theories than the rational calculating machine of the textbooks.
Psychology rather than pure economic theory is needed, apparently.
The simple fact is that economics has moved on a great deal in recent years. Much of the success of behavioural economics is based upon incorporating insights from psychology. But economists have done this in their own way.
As top behavioural economist and Nobel laureate Richard Thaler notes in his book Misbehaving: “behavioural economics has turned out to be primarily a field in which economists read the work of psychologists and then go about their business of doing research independently”.
It turns out that this approach seems to have been a very sensible one. Famous psychological experiments have recently been shown to be without foundation.
The most glaring example is the 1971 Stanford Prison experiment, one of the most influential psychology studies of all time.
Students were randomly assigned to be either guards or prisoners within a mock prison. The objective was to observe the interaction within and between the two groups.
The results proved shocking, with the abuse handed out to the prisoners by the guards so brutal that the study had to be terminated after just six days.
There were already doubts about the results. Other psychologists had found them difficult to replicate. But it has emerged this month, from analysis of previously unpublished records and interviews with some of the participants, that results were simply faked.
Another famous study, the so-called marshmallow test, has also been debunked.
In the original research in the 1960s and 1970s, children aged between three and five were given a marshmallow that they could eat immediately, but told that if they resisted eating it for 10 minutes, they would be rewarded with two marshmallows. More than a decade later, in their late teens, it was claimed that the children who had resisted exhibited advanced traits of intelligence and behaviour far above those who caved in to temptation.
But by the straightforward expedient of taking into account the economic and family backgrounds of the children, almost all the differences claimed for the ability to delay gratification disappear.
Ironically, it is economists themselves who have shown that western societies as a whole, not just particular groups, have great difficulty in deferring gratification.
The Chicago economist David Laibson established the idea back in 1997 in a famous paper with the rather gnomic title of “Golden Eggs and Hyperbolic Discounting”. The obscure phrase “hyperbolic discounting” means that people assign a great deal of weight to costs and benefits incurred in the present and very near future, and very little weight to anything beyond that.
Economics may have its faults, but much of psychology seems to be built on sand. Perhaps it is psychology that can learn from economics.
As published in City AM Wednesday 20th June 2018
Image: Experimental Psychology by Interactive Archive Book Images is licensed under CC0.0
The 2018 World Cup in Russia kicks off tomorrow.
This time, at least, there is little feeling that our boys will emerge victorious.
And yet. There is a great deal more randomness in the outcome of soccer games than is generally appreciated.
A striking feature of games in the World Cup is that they are low-scoring affairs. Leaving aside the penalty shoot-outs, the average number of goals per game in the 2014 finals was just 2.75 – and this includes the memorable semi-final in which Germany overwhelmed Brazil 7-1.
In the 2010 finals, the average number of goals per game was even lower, at 2.25. This range, between 2.25 and 2.75, has been the experience of all finals since 1962.
Clearly, in low-scoring games, chance has a great potential to influence the outcome.
No fewer than 45 per cent of all games in the 2014 finals were decided by a single goal. A further 21 per cent ended in a draw.
We might expect greater disparities in the qualifying phases of the World Cup, where the skill levels of the teams may differ much more.
True, in the European qualifiers, only half of all games ended in a draw or victory by a single goal, compared to two thirds in the 2014 finals. But countries such as Gibraltar, Lichtenstein, Andorra, and San Marino were involved.
In the African qualifying rounds, where there are less obvious disparities between the countries, again two thirds of all games were either drawn or won by just one goal.
Football reflects the broader world. It is not always the fittest, to put it in Darwinian terms, which come out best in any given situation. There is more pure chance involved in success than many would care to admit.
A classic example of the impact of chance is Windows. The first two versions, way back in the mid-1980s, struggled to gain acceptance with consumers. Marlin Ellers was Microsoft’s lead developer for graphics on Windows, and he gives a fascinating account of the times in his 1998 book, Barbarians Led By Bill Gates.
Before Windows 3 was released, Microsoft announced that it would carry out no further development of the system. The operating system of the future, it believed, would be something else called OS2, being developed in partnership with IBM.
To everyone’s surprise, Windows 3 sold two million copies in six months. The rest is history. Had the company given up one iteration earlier, Windows might never have taken off.
All this said, quality or skill is not completely squeezed out. In all the World Cup finals since 1930, 77 teams have participated, but only 12 have ever made it to the actual final game, and a mere eight countries have won. Just three – Brazil, Italy, and Germany – have won 13 out of the 20 tournaments between them.
Amazon and Google, Brazil and Germany, all develop a tradition of excellence, which is hard for others to overcome.
Hard but not impossible. In any process which involves innovation, whether evolution itself, business or team sports, the potential is always there for an outsider to triumph. Anyone for England?
As published in City AM Wednesday 14th June 2018
Image: FIFA World Cup by By Isak Aronsson is licensed under CC2.0
Guess which of the 964 jobs listed in the widely used Occupational Information Network online database is the least susceptible to replacement by artificial intelligence (AI).
The unsurprising answer is that of “massage therapist”.
This is one of the findings of a paper in the latest issue of the American Economic Review by Erik Brynjolfsson and colleagues at MIT’s Sloan School of Management.
But, while this answer might seem obvious, the study itself is a serious and innovative attempt to analyse the potential impact of AI on occupations across the economy.
A key point is that AI technology itself is going through a period of revolutionary progress.
The success of Google’s Deep Mind team in defeating the world champion at the immensely complex game of Go received wide publicity.
Unlike the algorithms which vanquished chess some years previously, the latest AlphaGo programme – improved since its annihilation of the Go champion less than two years ago – does not simply rely on pure computing power to outperform humans. The algorithm starts by knowing absolutely nothing about the game. It becomes stronger by playing against itself and learning as it goes along.
In short, it teaches itself, remembering both its mistakes and its successes. This type of algorithm is very new, and is known as deep learning. The programmes automatically improve their performance at a task through experience.
Brynjolfsson and colleagues regard this as so significant that they describe deep learning as a “general purpose technology” (GPT).
GPTs are technologies which become pervasive throughout the economy, improve over time, and generate further innovations which are complementary.
Historically, they are few and far between. Steam and electricity are examples. If they disappeared tomorrow, we would rapidly be driven back to the living standard which existed several centuries ago.
Deep learning will take years – or even several decades – before anything like its full effects are realised. But we will then look back and find that it is just as hard to imagine a world without deep learning as it is a world without electricity.
What will that look like? The authors analyse 2,069 work activities and 18,156 tasks in the 964 occupations. From this, they build “suitability for machine learning” (SML) measures for labour inputs in the US economy. They find that most occupations in most industries have at least some tasks that are SML. Pretty obvious. But few, if any, occupations have all tasks that are SML.
This latter point certainly is surprising – and from it the MIT team derives a positive message: very few jobs can be fully automated using this new technology.
A fundamental shift is needed in the debate about the effects of AI on work. Instead of the common concerns about the full automation of many jobs and pervasive occupational replacement, we should be thinking about the redesign of jobs and reengineering of business processes.
Economics is often described as the dismal science. But Brynjolfsson’s paper certainly provides very positive food for thought.
As published in City AM Wednesday 6th June 2018
Image: Robots by By Kai Schreiber is licensed under CC2.0
The governor of the Bank of England, Mark Carney, is up to his usual tricks.
Last week, he claimed in front of the Treasury Committee of the House of Commons that British households are now more than £900 worse off after the vote to leave the EU.
The figure was obtained by comparing a forecast made by the Bank in May 2016 on the assumption of a Remain victory with the situation as it actually is today.
In other words, the so-called evidence cited by the governor consists of the difference between where the economy stands right now, and a forecast made by the Bank two years ago.
It is no exaggeration to say that this has no scientific standing at all.
Predictions of the economy are notoriously unreliable. The Survey of Professional Forecasters in the US publishes a 50-year track record of one-year-ahead predictions of the growth of the economy. The correlation between the forecasts and what actually happened is – literally – zero, with no sign of it improving during the course of the five decades. And this is just looking one year ahead, not two.
The UK does not have such an impressive body of evidence to assess forecasting accuracy, but the studies which have been published show that the track record of our economists is no better than that of the Americans.
It is worth pointing out time and again that the Project Fear forecasts, also made in May 2016 like the Bank’s ones referred to by the governor, were for the next six months, not the next two years. Yet they were shown to be completely wrong.
Far from the predicted rise in unemployment of half a million by the end of 2016 on a Leave vote, unemployment has fallen almost continuously ever since, and now is lower than it has been since the mid-1970s.
We might usefully recall one of Carney’s first public pronouncements after taking up the post of governor in July 2013.
Interest rates, he said, would not be raised until unemployment fell from its level of 7.8 per cent to below seven per cent. He stated that this process would take three years. In fact, unemployment dropped to below seven per cent just six months later, at the start of 2014.
Rather than grandstanding about Brexit and currying favour with the global liberal elite, there are more pressing issues to occupy Carney’s time.
The primary concern of the Bank of England should be the stability of the financial system. Yet there has been a worrying rise in the amount of debt in the economy.
Figures from the Bank of International Settlements show that total credit to the private non-financial sector – the debts of households and companies in everyday language – peaked at 196 per cent of GDP in 2008, the year of the crash. This had fallen to 163 per cent by 2015. But it has now risen to 170 per cent.
This is by no means yet another crisis, but this – not Brexit – is where the governor’s mind should be focused.
As published in City AM Wednesday 30th May 2018
Image: Mark Carney by Bank of England is licensed under CC2.0
The new Italian government looks set to cause shock waves across Europe.
The two parties promise mass deportations of immigrants and huge increases in public spending.
Both the social and the economic policies of the Italian coalition clash directly with those of the European Commission, and Germany and France. They represent a decisive break with the consensual approach of the past.
The performance of the UK economy since the financial crisis of the late 2000s has been disappointing. But it has positively boomed in comparison with that of Italy.
Italian GDP, according to the OECD’s database, peaked in the first quarter of 2008. By the spring of 2009, it had collapsed by eight per cent. There was a feeble recovery, before it started to fall again in late 2011. Even now, GDP remains over five per cent below its value of 10 years ago.
It not only looks dramatic – it is dramatic. The failure of the Italian economy to recover for a whole decade breaks all records, not just in Italy itself, but across the western economies as a whole.
Angus Maddison spent many years at the OECD constructing estimates of GDP in the western economies going back to 1870. His database puts the recent performance of the Italian economy squarely in the spotlight.
Some capitalist economies have experienced truly devastating collapses: Austria, for example, when it was overrun by the Red Army in 1945, and Japan when it was subjected to massive nuclear and conventional bombing attacks in the same year.
But leaving the World War years and their immediate aftermath aside, we can identify, prior to the recent financial crisis, 191 instances of peacetime recessions in the western economies since 1870 from the Maddison database.
Across some 20 capitalist countries, GDP has fallen for a year (the data is annual) 191 times.
Out of these 191 examples, on 113 occasions GDP bounced back above its previous peak value the following year. Two years after a fall, the peak had been regained no less than 151 times. So most recessions are very short. Capitalism is a very resilient system.
The previous longest recession on record across the west as a whole was that of the United States. The collapse during the Great Depression of the early 1930s was so severe that, even with a boom later in the decade, it took until 1939 to recover the peak 1929 level.
That is the context in which we should view Italy’s decade-long recession. It is hardly surprising in the circumstances that the Italian electorate has supported parties which are pledged to overthrow the status quo. If they do what they say they will, the impact will be greater than that of Brexit.
Greece and Portugal are in the same position as Italy, with GDP in both economies still being below pre-crisis levels. But they are small.
The bureaucrats in Brussels, aided by Germany, have allowed Italy to be crushed by the longest peacetime recession in the history of capitalism. No wonder they may now get their comeuppance.
As published in City AM Wednesday 24th May 2018
Image: Vatican Sunset by Giorgio Galeotti is licensed under CC Attribution 4.0
The Windrush scandal still bubbles away.
The bureaucrats at the Home Office are being condemned for their harsh behaviour. But it is scarcely their fault – they are simply reacting in a way entirely compatible with the economic theory of rational choice.
It emerged during the saga of Amber Rudd’s resignation that targets had been set within the Home Office for the number of illegal immigrants to be deported each year.
The relevant officials could have spent a lot of time and effort, for example, tracking down members of eastern European criminal gangs.
Instead, they focused on the much easier task of deporting elderly people who have lived in Britain for decades. Many of these immigrants, understandably, regarded themselves as British and had never bothered to hunt down and fill in the complicated forms which would have guaranteed their residency.
The bureaucrats reacted to targets exactly as rational choice theory predicts, seeking to meet them in a way which minimises the costs and effort to them. The problem lies not with the individuals trying to meet the targets, but with those who set the targets in the first place.
A great deal of the behaviour of the police can be accounted for in the same way.
You could try to tackle knife crime, at personal risk to yourself. But it is much easier and safer to investigate and “solve” hate crimes, such as when Tony Blair himself was interrogated for allegedly abusing the Welsh.
An interesting new Princeton University book by the American historian Jerry Z Muller provides many such examples from the United States. The Tyranny of Metrics is about the unintended consequences which often follow when targets are set to measure performance.
More precisely, it is about the adverse effects which can be created when standardised measures of performance are substituted for personal judgement based on experience.
Unsurprisingly to economists, if the rewards which agents receive become dependent on meeting quantitative targets, they will game the system to try and achieve them.
Muller’s book was inspired by the excellent TV series The Wire, set in Baltimore and based on real life. A central theme was the baleful influence which targets to cut crime had on the police department. They spent a lot of time arresting low-level drug dealers instead of going for the top villains.
A key point which Muller makes is that a decline in trust leads to an increased demand for measured accountability. A lack of trust can work two ways, with both the governors and the governed becoming suspicious of each other’s abilities or motives.
For example, it was under Margaret Thatcher that the first of a disastrous series of exam performance targets was introduced into British schools, because teachers were seen as being hopelessly and uselessly left-wing.
It is easy to introduce a target. It is much harder to generate a culture within an organisation in which everyone is trusted to do a good job. But, ultimately, it is the latter which works.
As published in City AM Wednesday 16th May 2018
Image: Home Office by Steve Cadman is licensed under CC BY-SA 2.0
The Trojans had to beware of Greeks bearing gifts.
In the same way, politicians need to be suspicious of petitions signed by economists.
The vast majority of the UK economics profession backed Project Fear, which predicted a rise in unemployment of half a million by the end of 2016. Instead, unemployment has fallen almost continuously since the Leave vote in June of that year.
In 1981, 364 economists signed up to urge Margaret Thatcher’s chancellor, Geoffrey Howe, to end austerity. No sooner was the ink dry than the economy started to boom.
The latest petition, on the face of it at least, should be taken more seriously. Over 1,000 American economists, including 14 Nobel Prize winners, have written to President Donald Trump. His trade policies, they claim, repeat the mistakes of the 1930s and threaten to plunge the world into another Great Depression.
It is a big claim to make. The financial crisis recession of the late 2000s was a mere blip by comparison – GDP in the US fell by four per cent. In the early 1930s, it dropped by over 20 per cent.
These economists cite the Smoot-Hawley Tariff Act of June 1930 as being a major cause of the massive recession. Output was already falling sharply in America. The claim is that the Act exacerbated the problem. It increased tariffs on over 20,000 types of products imported into the US, and was followed by a string of retaliatory measures across the world.
But the 1,140 economists – at the last count – who have signed the petition ignore a very well established result in economic theory. This is the so-called “theory of the second best”, published by Richard Lipsey and Kelvin Lancaster in 1956.
The economies of the west owe much of their success to the fact that they are market based. But they are not entirely the free market ideal of the economics textbooks. It might be thought that making them a bit more free market would make them even better. Conversely, taking them further away from the ideal, by imposing a trade tariff for example, would make things worse.
Lipsey and Lancaster showed that in general this result could not be demonstrated theoretically. It might be true. But only empirical evidence could show whether it was or not.
The petitioners should also look at a paper just published in the American Economic Association’s prestigious Journal of Economic Perspectives (JEP). Arnaud Costinot and Andre Rodriguez-Clare, of MIT and UCLA at Berkeley respectively, pose the question: what if America abolished all trade? Not just impose a tariff, but no trade at all.
Their detailed empirical evidence suggests that the effects are rather small. GDP would be between two and eight per cent less. A fall, it is true, but hardly one to generate such a furore over a policy, not of abolishing trade, but just making it that bit more expensive.
The JEP paper also shows, not surprisingly, that trade tends to widen inequality. The poor might lose out, even if the economy overall benefits.
President Trump seems to grasp the political importance of this.