‘Global Inequality as a Consequence of Human Diversity’

Over the past few days I read Tatu Vanhanen‘s new book, Global Inequality as a Consequence of Human Diversity published by the Ulster Institute for Social Research. Though I am broadly open to the arguments he makes therein, it is not a good book and I cannot recommend it. I have not read IQ and the Wealth of Nations the 2002 book he published with Richard Lynn, but I suspect the theses are very similar.

His argument runs that the existing explanations for the variation in living conditions between nations are either hard to falsify (like Jared Diamond’s and Jeffrey Sachs’), excessively narrative, explain too little of the variation, or beg the question (like Daron Acemoglu & James Robinson’s).

He advances an alternative explanation: since (a) human evolution has been recent and extensive enough to produce substantial morphological differences (consider how different Koreans, Somalians and Papua New Guineans look); and (b) we have a large literature suggesting that lots of traits, especially cognitive ability (measured well, he believes, by IQ) are substantially genetic, we shouldn’t assume all human populations are genetically similar in intelligence. Since we know that intelligence is important for social success within populations we should not be surprised if it controls success across populations.

Quoting Pilar Ossorio, he says:

According to contemporary geneticists, any two unrelated humans are about 99.8% or 99.9% genetically identical, but because ‘the human genome contains approximately 3bn nucleotides (DNA building blocks), a 0.1% or 0.2% difference translates into millions of sites at which two people will have a different nucleotide.’

He constructs an ‘Index of Global Inequality’ (IGI) out of six measures of societal success: gross national income at purchasing power parity; the share of the population in tertiary education; under-five mortality; life expectancy; sanitation facilities; and an index of democracy. He finds, with a simple regression, that around three quarters of a country’s IGI is explained by its average IQ. Further, most of the outliers have special explanations for why they depart from the curve, the biggest four being: oil, caribbean tourism, history of socialism and civil wars.

In and of itself, this argument is somewhat interesting and somewhat suggestive. What is surprising is that this is almost the entirety of the book, fairly laboriously spread over 170-odd pages. It makes almost no attempt to deal with the evidence against it. For example, it’s true that within Western groups IQ is highly heritable (i.e. most of the variation between individual is due to genetic factors) and largely unaffected by environment. It’s also true that within poorer societies a large fraction of IQ is down to genes, but this fraction is lower, because there are many more of the big downside factors that can really stunt cognitive development (principally malnutrition). And it’s much less clear that the difference in IQ across the world, where environments are extremely heterogeneous, are down to genetics.

It’s not that it’s impossible they are and there is rock solid evidence for the alternative. But Vanhanen doesn’t even attempt to provide evidence for his view that IQ is practically entirely genetic, even across strikingly different environments. One flaw of the book is that once he has stated that the evidence suggests IQ is mainly genetic within populations, he begins assuming the link between IQ and development across populations purely represents human diversity-caused differences, with only the unexplained residual environmental. This is not representative of the stronger stuff I’ve read in the area.

This leads into another puzzling issue with the book: the fact it fails to deal with any of this existing literature. There are better ways to test whether institutions, geography or human diversity is driving differences in development and he doesn’t really attempt any of them! For example, a 2011 paper found that effectively random variation in institutions had no effect on the economic outcomes of a given African ethnic group. The literature is large and the debate is still raging, and Vanhanen’s ‘side’ might end up being judged right, but his approach adds basically nothing to the question of whether IQ causes development or development causes IQ.

I suppose I can’t really blame the book for its cheapness, the relatively frequent typos, the ugly and unclear charts and tables, but these certainly reinforce the overall feeling of lightweight pointlessness you get when you read it. And I can’t stress enough the importance of human capital theorists being epistemically cautious in their claims, given how controversial their conclusions are. People, working on sound principles, often devalue a perspective when they hear a weak argument in its favour (‘if that’s the best they’ve got…’), and I think Vanhanen’s new book will only weaken the case for considering human diversity when looking at global inequality.

The ECB is fiddling while Europe burns

If not quite burning yet, the eurozone is kindling. For once, most people agree why: money is very tight.

The central bank’s interest rate is low, yes, but this is not a good measure of the stance of monetary policy. What matters is the interest rate relative to the ‘natural’ interest rate – ie, what it would be in a free market. It’s difficult to know what this natural rate is (as Hayek would tell us) but we can look at things like nominal GDP and inflation to help us guess. Both are way, way below levels that the market is used to. Deflation is back on the menu.

As Scott points out, whatever you think about the American or British economies since 2008, the Eurozone looks like a case study in central bank failure:

The eurozone was already in recession in July 2008, and eurozone interest rates were relative high, and then the ECB raised them further.  How is tight money not the cause of the subsequent NGDP collapse?  Is there any mainstream AS/AD or IS/LM model that would exonerate the ECB?  I get that people are skeptical of my argument when the US was at the zero bound.  But the ECB wasn’t even close to the zero bound in 2008.  I get that people don’t like NGDP growth as an indicator of monetary policy, and want “concrete steppes.”  Well the ECB raised rates in 2008.  The ECB is standing over the body with a revolver in its hand.  The body has a bullet wound.  The revolver is still smoking.  And still most economists don’t believe it.  ”My goodness, a central bank would never cause a recession, that only happened in the bad old days, the 1930s.”

. . . And then three years later they do it again.  Rates were already above the zero bound in early 2011, and then the ECB raised them again.  Twice.  The ECB is now a serial killer.  They had marched down the hall to another office, and shot another worker.  Again they are again caught with a gun in their hand.  Still smoking.

Meanwhile the economics profession is like Inspector Clouseau, looking for ways a sovereign debt crisis could have cause the second dip, even though the US did much more austerity after 2011 than the eurozone.  Real GDP in the eurozone is now lower than in 2007, and we are to believe this is due to a housing bubble in the US, and turmoil in the Ukraine?  If the situation in Europe were not so tragic this would be comical.

There is a point here. Economic news, by its nature, tends to emphasise interesting, tangible, ‘real’ events over things like central bank policy changes (let alone the absence of changes).

Of course that can be deeply misleading. The stance of money affects the whole economy (at least the whole economy that does business in nominal terms, which is pretty much everything except for gilt markets), and the Eurozone is experiencing exactly the sort of problems that the likes of Milton Friedman predicted that tight money would create.

Overall, the Euro looks like the most harmful institution in the world, except perhaps for ISIS or the North Korean govt. It may be unsaveable in the sense that it will never really be an optimal currency area, but looser policy (which free banking would provide) would probably alleviate many of the Eurozone’s biggest problems. Instead, what Europe has is the NHS of money – big, clunking and unresponsive to demand.

And the ECB seems wilfully misguided about what it needs to do. The only argument against this is that surely—surely—Draghi and co know what they’re doing. Well, what if they don’t?

Another exercise in rewriting economic history

It is just so fun watching people rearranging the historical deckchairs to make sure that their tribe looks good and that the tribe of their opponents can be portrayed as those nasty, ‘orrible, people over there. And so it is with this latest from Ha Joon Chang:

First, let’s look at the origins of the deficit. Contrary to the Conservative portrayal of it as a spendthrift party, Labour kept the budget in balance averaged over its first six years in office between 1997 and 2002. Between 2003 and 2007 the deficit rose, but at 3.2% of GDP a year it was manageable.

Quite: in those first few years Blair and Brown held to the spending limits that had been suggested by the previous, outgoing, Tory government. On the basis that if anyone thought they were the spendthrift Labour party of old then they wouldn’t get elected. So there was, in there, a period of a public sector surplus. It’s only after the second election that they ripped up that idea of fiscal restraint and became that Labour party of old again. So “balance” over the six years is actually a couple of years of Tory policy then spend, spend, spend.

And a deficit of 3.2% a year might be manageable: except of course it wasn’t, was it? But more importantly it is a grave violation of the precepts of Keynesian economics to be having a deficit of any sort at that point in the economic cycle. If we are to take Keynesian demand management seriously (we don’t, but let us do so arguendo) then yes, there should be fiscal expansion in the slumps. But the counterpart to that is that in the boom there should be restraint: a surplus, not a deficit. This is not to pay off the previous debt, it’s not to create the borrowing room to provide the firepower for that next slump. It’s because demand management means that you temper the booms as well as the busts. Given that the middle part of the Brown/Blair Terror was in fact the tail end of the longest modern peacetime boom then the public accounts should have been healthily in surplus. In order to temper that boom.

Chang is doing an edit to history here, to show that his tribe is better than the other one. Given the circumstances of the time Labour really were sailor-type drunken loons going on a spree with the nation’s chequebook and don’t let anybody tell you different.

The mansion tax is theft, a bit at a time

Labour’s mansion tax was already starting to unravel even before Shadow Chancellor Ed Balls tried to save it with a few palliatives today. When you have left-wing Labour MP Diane Abbott complaining that the mansion tax would be little more than a tax on Londoners, and when other MPs and candidates nursing slim majorities are worrying that the tax might hit their own voters, and not just rich Tories, you know it’s time to throw in the towel.

Strange, is it not, how politicians never ask how they could cut their own spending, but only think about how they can raise taxes from other people. Mr Balls reckons he can raise £1.2bn from the tax, which he says would come in handy for the NHS, he reckons (though the emerging black hole in the NHS budget is much larger than that). How does he know? He says much of the tax would come from foreigners with big houses in London, but does not seem to know how many of them there are. No, as usual, it will be the Great British public who foot most of the bill, and not just the rich. Tens of thousands of homes in London will be caught by it, for example, where the average price in a ‘prime area’ will probably hit the £2m mansion tax threshold by the time of the 2015 election. And ‘prime’ includes areas like Battersea and Clapham, not just swanky Kensington and Chelsea.

There are already plenty of taxes on property. Not only is there the council tax, but there is stamp duty when you buy a house and inheritance tax when you give it to your kids. Now the plan is to add another, of perhaps £4,000 a year.

We all know what will happen. The tax will be imposed on properties of £2m, and over the years, thanks to (politician-created) inflation and (politician-created) planning restrictions, the cost of property will rise. More and more properties will be hit by the ‘mansion’ tax (yes, including broom cupboards in Kensington), just as more and more people now pay the 40% higher rate of income tax, which was originally targeted at the wealthy but is now paid by people like teachers and police officers.

And our tax (and subsidy) system is already highly progressive. Wealthier people pay higher taxes of many kinds, while poorer areas get subsidies through the local government finance system.

The mansion tax is theft, a bit at a time. There will be many people who happen to live in large houses but have little or nothing in the way of income (such as those on pensions) with which to pay the tax. Perhaps the house was their childhood home and they can’t face moving. Moving is a strain even for the most robust of us. Ed Balls says, well maybe poorer people could defer the tax until they sell the house or pass it on after their death. But that makes the tax even more complicated – it is going to need a means test and a lot of extra bureaucracy, more lines on the tax form and all the stuff that has already got us in such an overtaxed bureaucratic pickle. This is a tax we could well do without.

Equal pay for equal work

A recent speech by Andy Haldane, the Bank of England’s chief economist, sheds a good deal of light on the cost of living crisis and the union-led “Britain Needs a Payrise” campaign. Haldane points out how grim the recent situation has been for real wages in the UK economy:

Growth in real wages has been negative for all bar three of the past 74 months. The cumulative fall in real wages since their pre-recession peak is around 10%. As best we can tell, the length and depth of this fall is unprecedented since at least the mid-1800s.

But is this because employers have suddenly become selfish capitalists, whereas before they were paying workers out of the good of their heart? Or is something else at play?

Productivity – GDP per hour worked – was broadly unchanged in the year to 2014 Q2, leaving it around 15% below its pre-crisis trend level. The level of productivity is no higher than it was six years ago. This is the so-called “productivity puzzle”. Productivity has not flat-lined for that long in any period since the 1880s, other than following demobilisation after the World Wars.

We usually think that wages and productivity will be pretty closely related. Employers are unlikely to consistently pay above productivity, because they’d lose money. But equally, they’ll be unable to consistently pay far below productivity (less the share needed to rent the capital involved) because in a reasonably competitive market firms will compete their workers away with more attractive job offers.

We might think this is particularly true at the low wage end of the market, because much less of low-skilled workers productivity is job specific. An accountant makes a very poor lawyer, and a civil engineer is not qualified to write code, but a worker in McDonalds will be similarly good at Burger King, or for that matter Waterstones, JR Wetherspoon, Lidl or most other relatively low-skilled areas.

So basic economic models suggest pay will track productivity. And what do we see on the macro level?

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The deficit in pay tracks the deficit in productivity. Of course, the situation for public sector workers is a bit different—we actually measure their productivity mainly by inputs. If their pay goes up, their measured productivity goes up. It’s hard to see how else we would do it. But the overall picture suggests that the real pay decline is down to a real productivity decline. We haven’t moved away from equal pay for equal work—we’ve just had a big horrible recession and a sluggish recovery!