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Why the economics profession remains blind to the benefits of Brexit

Why the economics profession remains blind to the benefits of Brexit

The office for National Statistics last week estimated that the UK economy grew at an annual rate of 2.4 per cent in the final quarter of last year. This is slightly above the long-term average growth of the past three decades.

But a Financial Times survey this month showed that the majority of economists remain just as pessimistic about Brexit’s likely effect on Britain’s economic prospects as they were a year ago.

Most have not changed their minds. But of those who have, the more pessimistic outweigh the more optimistic by three to one. Almost incredibly, economists do not generally feel they were proven wrong by events following the vote.

How can this be? Why is the economics profession so overwhelmingly opposed to Brexit?

The reasons rest on two important underpinnings of the discipline. First is a belief in the benefits to society of free trade. There is substantial empirical evidence which backs up economists’ views on this matter.

The majority opinion among economists, however, is that the UK leaving the EU will necessarily lead to our trade becoming less free. This is a judgement about political economy, on which standard economic theory is silent. Simply put, they agree with Remainers that we cannot negotiate better trade deals on our own than we can from within the European Union.

As the referendum showed, this is a contested issue. The Cambridge economist Bob Rowthorn has pointed out that “there has already been a sharp fall in the size of the Euro-area economy as a proportion of the world economy, and it is hard to see how this trend will not continue”. The deals we need are with fast-growing countries like India and China, and with enormous and innovative markets like the United States. Whether we can get a better deal in or out of the EU is a matter of judgement, not theory.

But the more important reason is that economic theory is in essence about equilibrium. It is about how best to allocate a fixed amount of resources in a static world. Economics has relatively little to say about dynamic processes, about change, about disruption, evolution, innovation, about behaviour out of equilibrium.

This emphasis on a static world leaves many economists unable to see the serious failings of the EU, both actual and potential. In the 1970s and into the 1980s, before the impact of the Thatcher reforms had been felt, it was indeed sensible to look to Europe for inspiration. The UK was plagued by high inflation and low growth.

But now we have had nearly two decades of the euro, one of the most efficient job destruction machines ever created. The combined impact of the euro and their own internal corruption has led output in Italy, Portugal, Spain and Greece to be much lower now than it was 10 years ago. This is a recession without parallel in economic history in its length and severity.

The ability to innovate is the key to long-term growth, as America has shown with Microsoft, Google, Facebook and others. Economic theory has very little to say about innovation. And this blinds the economics profession to the failings of the EU.

As published in CITY AM on Wednesday 1st February 2016

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Blame Jeremy Corbyn for the increasing number of public sector strikes

Blame Jeremy Corbyn for the increasing number of public sector strikes

The total number of working days lost through labour disputes last year was, at just 170,000, the second lowest annual total since records began in 1891.

What a difference a year can make. Southern Rail commuters have endured months of misery due to the prolonged series of strikes called by the RMT. Union members on Eurostar walked out in the past week and have threatened to do so once again over the Bank Holiday weekend. Before it was suspended yesterday, Virgin East Coast staff were planning industrial action.

We are also experiencing the long-running dispute between the government and junior doctors, who in April carried out their first full walkout in the history of the NHS. They are now threatening the “trade union dispute of the century”, with rolling strikes from September onwards.

Traditionally, strike activity rose as the economy picked up. And labour market statistics for 2016 do show that the UK economy is very close to full employment. Pockets of unemployment may be scattered in some of the regions, but the latest economy-wide figures show a rate of just 4.9 per cent, the lowest for 11 years. There are a record 31.7m people in employment, and the proportion of people aged between 16 and 64 who are in work is also at a peace time high of 74.4 per cent.

Despite the buoyancy of the labour market, however, disputes remain very rare in most sectors of the economy. The current spate of strikes is essentially confined to the public sector, broadly defined. Private companies operate the rail franchises, but Network Rail is responsible for the maintenance of the network as a whole.

The connection between the strength of the economy and the number of strikes still holds in transport and health. The innovative polices of the rail operating companies mean that passenger numbers have boomed, doubling over the past decade. And the demand for health services continues to grow rapidly.

The unions shed crocodile tears and claim the disputes arise out of concerns for the safety of the public. In one sense, the strikes are nothing more than good, old fashioned examples of the workers putting their hands in taxpayers’ and consumers’ pockets when the opportunity arises.

But we might reasonably ask why the same things are not happening elsewhere in the economy. There does in fact appear to be a more sinister aspect to these disputes. Many of the strike activists are supporters of Jeremy Corbyn. The Labour leader and his acolytes scorn the possibility of reform through representative parliamentary democracy. Building a so-called social movement is far more important to these true believers than is winning elections.

The Black Lives Matter campaign, another social movement, earlier this month closed access to Heathrow from the M4 and disrupted transport across the UK. Just as with the junior doctors and the rail workers, the same sanctimonious regret was expressed at any inconvenience caused to the public.

Unfortunately, Corbyn’s position as Labour leader and his advocacy of “social movements” gives comfort to the growing number of strikes, sit downs and general disruptions which we are currently witnessing. And if he wins the party’s leadership contest, we can expect them to continue.

Paul Ormerod

As published in CITY AM on Wednesday 16th August 

Image: Jeremy Corbyn by 70023venus2009 is licensed under CC BY 2.0

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Bank bail outs are no model to follow for British steel

Bank bail outs are no model to follow for British steel

The potential closure of the Tata steel plants, and the plight of Port Talbot is a tragedy for those directly affected. A key question is: if the banks could be saved, why not steel?  From a purely political perspective, the topic has legs.  The loyal, hard working Welshmen, fearful for their families’ futures, contrasted with the arrogant pin striped bankers, ripping everyone off.  It is a difficult narrative for the government to counter.

Away from the hurly burly of politics, the challenge takes us to some issues at the very heart of economic theory. Economics for beginners starts off with a simple diagram showing how much firms would supply of a product at different prices, and how much consumers would demand.  The point where these two curves cross tells us the price which exactly balances supply with demand.  In the technical phrase, the market clears.

A fundamental question in economics has been whether it is possible to prove that a set of prices can be found which would clear every single market, so-called ‘general equilibrium’. Supply and demand would be in balance everywhere, and so there would be no unused resources.  It is a problem which is easy to state, but exceptionally hard to prove.  No less than seven out of the first eleven Nobel prizes were awarded for work in this area.

Readers may recall having to solve quadratic equations at school. It has been proved that there is a formula which solves every such equation.  Plug in the numbers, and out pops the answer.  The general equilibrium problem is similar, but at a much harder mathematical level.  Can some formula, as we can think of it, be found which proves that a set of prices can be found for every economy?

The work may be esoteric, but it has great practical influence. Much of regulatory policy, for example, is designed to try and remove impediments to the workings of markets, to try and bring about the desired state of general equilibrium, where all resources are fully utilised.

A crucial problem for this work, in many ways the crown jewel of economic theory, is that it has proved very hard to establish that money has any special significance. It is simply another commodity. This thorny theoretical issue was highlighted by the financial crisis, which the mainstream, equilibrium models could not explain. In essence, both money and steel are equally as important.  Economists will realise I am compressing points here, but in this framework if the banks can be saved so, too, can steel.

Economists not obsessed with equilibrium, like Keynes, often take a completely different view. Money is decisively different, because it is the only product which appears in every single market.  Disruptions to money are not confined to a particular part of the economy, but have an impact everywhere.  Milton Friedman believed that the Great Recession in America in the 1930s had a monetary explanation for this very reason.  Money is fundamentally different to steel.  The banks had to be saved, steel is just an option.

As published in CITY AM on Wednesday 6th April 2016

Image: Steel by Ben Salter licensed under CCY BY 2.0

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How technology is driving inequality

How technology is driving inequality

Inequality is one of the major political topics of our times. Rather like a Shakespearean tragedy, the current splits in the high command of the Conservative Party have many themes. But an important one, and the ostensible reason for Iain Duncan Smith’s resignation, is the treatment of the working poor, a concept which until fairly recently seemed to have been banished forever.

Like sending ten year olds up chimneys, the idea that people in work would not really have enough money to cope belonged to the distant past – well, to the depression years of the 1930s rather than the child labour of Dickensian times, but it was all a very long time ago.

Increasingly, this is no longer the case. A snippet from the arts world illustrates the point. The famous actor Robert Lindsay is president of the Royal Theatrical Fund, a charity which helps struggling actors. In the Sunday Times, he is quoted as saying that “there are household names who are now earning so little, people stop them in the street and ask for their autographs, but the spotlight has gone out for them”.

A survey of nearly 1,800 British actors by Casting Call Pro in 2014 found that no less than 75 per cent of them had earned less than £5,000 during the previous year. Only 2 per cent had earned more than £20,000, a figure which itself is only approximately what someone on the Living Wage in London and working 40 hours a week would make.

A key driver of rising inequality is technology. Fears abound that robots and artificial intelligence will destroy up to half of all existing jobs, but history suggests they will be replaced by completely different ones. The problem is more subtle. The stupendous proliferation of data and information in cyber society is changing fundamentally the way in which people make choices.

In more mature markets, such as the fast-moving products in supermarkets, consumers are still able to operate in ways described in the economic textbooks. They are familiar with the different brands and their various qualities and are able to compare prices. So they make choices essentially on the features of each of the various alternatives on offer, as “rational” choice theory says they should.

But in other contexts, people are bombarded with so much information that it is literally impossible to process it in this way. Eric Beinhocker of the Institute for New Economic Thinking estimated that, in New York City alone, consumers are presented with a potential 10bn different choices every day. They have to find some different way in which to navigate the maze. A good rule of behaviour is just to choose something which is already popular: you think other people have done the work for you, and have decided it is a good choice.

This self-reinforcing behaviour drives highly unequal outcomes. Things become popular simply because they are popular. Footballers, actors, film directors who are thought to be good get a bigger and bigger share of the pie. In cyber society, everyone loves a winner.

As published in CITY AM on Wednesday 23rd March 2016

Image: Scales of Justice by James Cridland licensed under CC BY 2.0

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A Christmas competition with a difference…

A Christmas competition with a difference…

… and the chance to win a bottle of champagne.

For the prolonged holiday break, a quiz is appropriate. But one with a difference: not just questions, but comments to go with them. A prize of a bottle of champagne to the best answers – just email them to me.

The last couple of years have seen the rise of populist left-wing movements. Syriza in Greece is the most prominent example. Podemos in Spain polled well in the general election in that country on Sunday, securing just over 20 per cent of the vote. In neighbouring Portugal, the ruling conservatives were displaced this year after internal constitutional wrangles involving a motley alliance of leftists. Even in the United States, Bernie Sanders, the senator who openly proclaims himself a socialist, is attracting support in the Democratic primaries. Socialist incumbents were re-elected last month in Seattle, the home of Microsoft.

Many people have serious doubts about the practical viability of the programmes of these parties. But criticism is not limited to the right. The Labour Prime Minister James Callaghan notoriously pronounced at the height of the economic crisis of the 1970s that “we used to think that you could spend your way out of a recession and increase employment by cutting taxes and boosting government spending. I tell you in all candour that that option no longer exists, in so far as it ever did exist”. But which famous socialist went even further and once said, and where: “certain comrades deny the objective validity of the laws of political economy under socialism. These comrades are profoundly mistaken”?

Thinking of workers’ rights, Sports Direct has come under intense criticism this month for the alleged way in which it treats its staff. The chairman of the Public Accounts Committee, Meg Hillier MP, has called for an HMRC investigation into low pay and the “humiliating and demeaning” working conditions at the company. Whatever the truth of the allegations (and Sports Direct has insisted that it is acting within the law), working in a warehouse on low pay isn’t much fun at the best of times. But things could be worse. Where and when could workers be sent to jail for being late for work twice within a single year and with what offence were they charged?

On a lighter note, England is in action in the first Test against South Africa in Durban beginning on Boxing Day. Brian Statham, the great England fast bowler (and great Lancastrian) wrote over 50 years ago that he expected all the batting records to end up eventually in Asia. It looks like a good prediction. The highest all-time partnerships for the first five wickets are now held by Indians, Pakistanis and Sri Lankans, including the highest of all, the 624 for Sri Lanka’s third wicket against South Africa in 2006.

But our boys still hold one truly outstanding record. Jim Laker’s match statistics of 19 wickets for 90 runs against Australia in 1956 is still by far the best bowling return, not just in Tests but in any first class match. As an approximation, what is the probability that this will be beaten in 2016? Extra marks for your reasons why. Happy Christmas.

Paul Ormerod

As published in City AM on Wednesday 23rd December

Image: Champagne by Sam Howzit licensed under CC BY 2.0

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How do you deal with someone who thinks the Earth is flat?

How do you deal with someone who thinks the Earth is flat?

Imagine you are relaxing at a bar enjoying a drink after a hard day’s work.  The person next to you strikes up a conversation.  Initially he seems reasonable.  But soon he begins to go on at length about how the Earth is flat and how a misguided cabal of scientists hides this truth from us.  You could try and persuade him of the error of his ways.  But the most sensible course of action is to make your excuses and leave.

Economists face the same dilemma in commenting on the policies of John McDonnell, Jeremy Corbyn’s new Shadow Chancellor.  They are bonkers.  For example, McDonnell believes that the problem of the public sector deficit can be solved by extracting an additional £93 billion a year from companies.  He claimed in the Guardian this is the total amount of subsidies which the corporate sector receives from the taxpayer.  The source of the calculation is apparently a report published by the University of Sheffield, with the same newspaper bemoaning the fact that no-one bothers to read it.  Could there be a reason?

Suppose, purely for the sake of argument, that the £93 billion figure is correct.  What might be expected to happen if companies are suddenly deprived of this vast amount of money?  They might slash dividends, an action with which McDonnell would almost certainly approve.  This would of course harm pensions, but perhaps this is the price to be paid.  But firms might equally well make major savings by getting rid of workers, by reducing wages, or by drastic cuts in investment and research and development expenditure.  Ultimately, only individuals and not companies can bear the cost of taxation, a profound insight of economics which many, especially on the Left, find hard to grasp.

By comparison, the economic wish list set out by Corbyn himself during his leadership campaign gives the impression he retains some residual connection with reality.  But is a Flat Earther more or less balanced than someone who, say, believes that the dimensions of the Great Pyramid reveal the hidden secrets of the universe, a quite popular internet delusion?

Corbyn argues that there is no need to place limits on the amount of welfare benefits which an individual or family can receive.  Economic growth will revive the economy to such an extent that employment will boom, and many people will be removed from welfare as a result.  In turn, growth will be generated by the activities of a new National Investment Bank.  But this is pie in the sky.  The failure of planned economies such as the Soviet Union, the failure of the National Plan of the 1964 Labour government, the failure of the Regional Development Agencies, none of this evidence shakes Corbyn’s faith in the inherent superiority of economic planning and dirigisme.

No doubt these policies will have some popularity in the regions which are already heavily subsidised.  But it is hard to see them striking a chord in the wealth generating parts of London and the South East.

As published in City AM on Wednesday 23rd September

Image: An Epic View of Earth by NASA’s Earth Observatory licensed under CC BY 2.0

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