So, just what is this economics stuff good for?

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Mark Wadsworth asks us an interesting question:

Reading this and this got me thinking.

If we think that we know all this stuff, the temptation - on the part of prodnoses - is to use it to interfere.

Alternatively we could think of economics as a discipline that tells us why we need to tell those prodnoses to bugger off.?  That is its best purpose.  Telling people why they should NOT do stuff.

Is economics best use as a negative or positive thing?

Discuss and inform me.

The answer comes from Ben Bernanke:

Economics is a highly sophisticated field of thought that is superb at explaining to policymakers precisely why the choices they made in the past were wrong. About the future, not so much. However, careful economic analysis does have one important benefit, which is that it can help kill ideas that are completely logically inconsistent or wildly at variance with the data. This insight covers at least 90 percent of proposed economic policies.

Yes, sometimes we can propose sensible things as a result of having consulted the economic runes. But the real value is that 90% of the time we can tell damn fools that their damn fool plans are damned foolish.

Nationalisation, rent controls, price controls of all kinds, trade barriers, infant industry protection....there's a long list of things that people propose again and again, even if vanquished they'll pop up a generation later. The value of economics is that not only can we point out that they're damned foolish but even why they're damned foolish.

Economists are morally superior beings, scientifically proven that is

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A lovely paper discovered by Paul Walker over in the land where Kiwis live standing on their heads:

Does an economics education affect an individual's behavior? It is unclear whether differences in behavior are due to the education or whether those who choose to study economics are different. This issue is addressed using experimental evidence from the Trust Game where trusting and reciprocating behaviors can be measured. First, it is shown that economics students provide greater trusting investments and reciprocate more. Accounting for the selection effect, these effects are explained by those who choose to study economics and not directly from the education being provided. Thus, economists play well with others and these social preferences are not taught in the classroom.

We who have studied economics are thus morally superior because we do play nicely with others: the reasons being that playing nicely with others is the reason we went to study economics.

Well, Hurrah! for that.

However, this does pose a problem for us as we try to explain it to others. For we're, in some manner, captivated by those very examples of playing nicely together than the market offers us. We can see how competition is the method by which we decide who to cooperate with and that the vast majority of economic activity isn't in fact competition at all, it's cooperation. The seemingly vast and impersonal market itself is simply a description of how we all, the many billions of us, choose to cooperate to our mutual advantage.

Great, excellent and it's all true. But note what the paper is telling us. We're, because we chose to study economics, inclined to believe all of that anyway as that's the way our own personalities work. But our task is to get across the points about such cooperation to those who simply do not have those same basic beliefs about human behaviour that we do. No wonder it sometimes comes out as a dialogue of the deaf: we don't get what they don't believe at root, that humans are naturally cooperative beings and markets are the way that we do this.

Thus, we might posit, the existence of this idea that trade, the economy itself, is a zero sum game. We have one view of human nature, they another and the fact that ours is correct doesn't matter so much as the fact that they don't believe us or the main point itself.

 

Companies are the cells of the economy

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An interesting point being made by Ronald Coase here:

Wang: Microeconomics is about demand and supply. Compared with classical economics, marginal analysis clearly offers a deeper understanding of consumer choice. But I don’t think it is equally powerful in explicating production, the supply side of the economy.

Coase: To understand production, we have to go back to Adam Smith’s division of labor. It serves well as a starting point, even though the modern economy today has become far more complicated.

Wang: This must be Smith’s most undeserving failure. Modern economics is built on Smith’s framework of the “invisible hand”. But it leaves no room for the division of labor.

Coase: Modern economics shows little interest in production. I am not sure production function tells us anything about production in the economy.

Wang: Adam Smith used the pin factory as an example to develop his analysis of the division of labor. Today, to investigate the division of labor, we can no longer afford to confine our focus to a single firm. Instead, we have to study the organizational structure of production.

Coase: That’s right. The firm remains the cell of the economy, but the intricate relations and constant interactions among the cells determine economic dynamism.

It's that last line that so particularly interests me. For it's often pointed out that companies are little sections of a command economy and thus, some leap to say, obviously it's possible to have a command economy because we actually do.

It's possible however to run Coase's analogy in two ways. One is to make that distinction between the cell itself and the entire organism, which do run to different rules. Another might be to compare it to physics: we know very well that there are entirely different rules at the quantum level and at the macro.

Any such analogy can be pushed too far of course but with the economy that cell might well be subject to central planning: but it's the interaction of all of those limited plans which leads to the vibrancy of the economy as a whole. We as entire human beings cannot and do not work by the same rules that apply at the cellular level: nor do economies work well subject to the same rules that might apply at the company or organisational level.

I'm not sure the Russians have got the hang of this sanctions thing yet

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I've been continually amused by the Russian reaction to the sanctions that have been imposed upon the country over Crimea and the Ukraine. First they ban imports of fruit and veg from the EU and US. That's clearly and obviously something that damages Russian citizens more than it does anyone else. Then there was the delightful idea that they would have price controls on the supplies they could get: exactly what not to do to encourage domestic production and imports from new suppliers. And now we've got them closing down McDonald's branches in Moscow over "food safety violations". Russia has shut down four McDonald's restaurants in Moscow for alleged sanitary violations in a move critics said was the latest blow in its tit-for-tat sanctions tussle with the west.

The federal monitoring service for consumer rights and wellbeing announced on Wednesday that the offending outlets included the famous restaurant on Pushkin Square that opened just before the fall of the Soviet Union. The body said the eateries were being shut down for "sanitary violations" discovered during inspections this week.

No, no one at all believes that it's for any reason other than those sanctions. Quite apart from anything else the floor in a Maccy D's will be cleaner than the average food preparation table elsewhere in Russia.

But of course there's more to it than that: obviously, those who would eat at McDonald's, ie the Russian citizenry, are discomfited by this. McDonald's Canada, which owns (last I heard at least) 50% of the stores will lose money. But here's where it gets really fun. The other 50% owner is Moscow City Council (again, last I checked).

So, err, Russian sanctions against the US reduces the cash income of the local council in Moscow.

I'm unconvinced that they've quite got the point of sanctions just yet: you're trying to hurt the other guy, not yourself or your own citizenry.

An independent Scotland should use the pound without permission from rUK, says new ASI report

Today the Adam Smith Institute has released a new paper: "Quids In: How sterlingization and free banking could help Scotland flourish", written by Research Director of the Adam Smith Institute, Sam Bowman. Below is a condensed version of the press release; a full version of the press release can be found here. An independent Scotland could flourish by using the pound without permission from the rest of the UK, a new report released today by the Adam Smith Institute argues.

The report, “Quids In: How sterlingization and free banking could help Scotland flourish”, draws on Scottish history and contemporary international examples to argue for the adoption of what it calls ‘adaptive sterlingization,' which combines unilateral use of the pound sterling with financial reforms that remove protections for established banks while allowing competitive banks to issue their own promissory notes without restriction. This, the report argues, would give Scotland a more stable financial system and economy than the rest of the UK.

According to the report, adaptive sterlingization would allow competitive, private banks to issue their own promissory notes backed by reserves of GBP (or anything else – including USD, gold, index fund shares or even cryptocurrencies like Bitcoin). With each bank given powers to expand and contract its balance sheet relative to demand, this system would be highly adaptive to changes in money demand, preventing demand-side recessions in modern economies such as the ones that led to the 2008 Great Recession.

The report’s author, Sam Bowman, details Scotland’s successful history of 'free banking' in the 18th and 19th centuries and the period of remarkable financial and economic stability which accompanied it. Historical ‘hangovers’ from this period, like Scotland's continued practice of individual bank issuance of banknotes, are still in place today, making Scotland uniquely placed for a simple transition to the system outlined in the report.

The report highlights evidence from 'dollarized' economies in Latin America, such as Panama, Ecuador and El Salvador, which demonstrate that the informal use of another country’s currency can foster a healthy financial system and economy.

Under sterlingization, Scotland would lack the ability to print money and establish a central bank to act as a lender of last resort. Evidence from dollarized Latin American countries suggests that far from being problematic, this constraint reduces moral hazard within the financial system and forces banks to be prudent, significantly improving the overall quality of the country’s financial institutions. Panama, for example, has the seventh soundest banks in the world.

The report concludes that Britain's obstinacy could be Scotland's opportunity to return to a freer, more stable banking system. Sterilization, combined with reform of Scottish financial regulation that:

  • removed government liquidity provisions to illiquid banks,

  • established mechanisms to ‘bail-in’ insolvent banks by extending liability to shareholders, and

  • shifted deposit insurance costs onto banks and depositors rather than taxpayers,

would improve standards and competitiveness in banking, while significantly reducing the prospect of large-scale bank panics and financial crises.

Commenting on his report, the Research Director of the Adam Smith Institute, Sam Bowman, said:

The Scottish independence debate has repeatedly foundered on the question of currency, but if Scots look to their own history they will find that their country is a shining example of how competition in currency and banking can ensure a stable and effective banking system. Scotland’s free banking era was an economic and intellectual Golden Age, and its system of competitive note-issuance was recognised by such thinkers as Adam Smith as one of the root causes of the country’s prosperity during this time.

The examples of Panama and other dollarized Latin American economies are proof that countries can thrive when they unilaterally adopt another country’s currency. Combined with a flexible, adaptive banking system, the unilateral use of another country’s currency can instill a discipline in a country’s financial sector that neither a national currency nor a currency union can provide. Scotland’s banking system is almost uniquely primed for such a system of ‘adaptive sterlingization’. The path outlined in this paper would go almost unnoticed by the average Scot – until the next big economic shock, when they might just wonder why their system was so much more stable than that of the country they’d left behind.

This train fare question isn't difficult you know

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The Guardian rather jumps the shark here:

The Guardian view on rail fares: unfair Travelling by train produces benefits for everyone – less air pollution, lower greenhouse gas emissions, fewer traffic jams. Passengers should not have to pay two-thirds of the cost

Actually, a small engined car with four people in it has lower emissions, lower pollution, than four people traveling by train. So it simply isn't true that everyone benefits from more train travel.

There are indeed some truths there though. It simply would not be possible to fill and empty London each day purely by private transport: some amount of commuting public transport is going to be necessary. And there's no reason why those who benefit from that should not pay for it: as they largely do through the subsidy of London Transport paid for by Londoners.

But on the larger question of who should pay for the railways of course it should be those who use the railways that pay for it. Some City fund manager who commutes in from 50 miles outside London should not have his lifestyle choice subsidised by the rest of us. We should not be taxing the man who cycles to work at minimum wage in order to pay for wealthier people top travel longer distances.

The Guardian is, once again, forgetting that there is no magic money tree. If rail users do not pay for the railways then there is no unowned cash that can be diverted to doing so. Either the rest of us put our hands in our pockets or we don't. And why should the poor pay taxes so the middles classes can live in the greenbelt?

Looking at the world through neo-liberal eyes

I spoke at Brighton University as part of their seminar series on neo-liberalism.  The term 'neo-liberal' is usually used in a derogatory sense, though I chose not to use it that way.  I was the only speaker in the series to speak in favour of neo-liberal ideas, and my title was "Looking At the World Through Neo-Liberal Eyes."  I began by quoting an old Chinese proverb: "Never criticize a man until you have walked a mile in his shoes.  That way you are a mile away when you voice your criticism; and you have his shoes."  I invited the audience to see the world briefly as it looks through neo-liberal eyes.  These were the points I made.

1.  Value is in the mind, not within objects.

Value is not a property of objects or a quality they possess.  Although we talk of objects "having value," we mean that we value them.  Value is in the mind of the person contemplating the object, not in the object itself.  If value resided in things, it could theoretically be measured objectively and we would all agree on what it was.  There would then be no trade, for exchange takes place when each person values what the other person has more than they value what they are offering in exchange.  A trade gives each of them something they value more, and thus wealth is created by the exchange.  When people make the mistake of supposing that value resides in objects, they ask how it arrived there, and come up with fallacious ideas such as Marx's labour theory of value.  An object can take masses of labour to produce, but if no-one values it, it will be worthless.

2.  Time must be factored into activities.

Time must be factored into economic transactions.  I could read a book today or read it tomorrow.  If I choose to read it tomorrow, I forego the pleasure of a day spent contemplating its wisdom and being stimulated by its insights.  I value the activity less if it is in the future.  If I postpone gratification I should be compensated for doing so.  There is a risk element, too, in that if I postpone a pleasure, circumstances may make it unavailable in future and I will have lost out by delaying my enjoyment.  From this notion that present pleasures are valued more than future ones comes the idea of interest, or being compensated for doing without present enjoyment in return for receiving more enjoyment later.  And from this arises the notion of investment, of setting aside funds that could bring gratification now, and using them instead to bring more gratification later.  This is the essence of capitalism, of using funds as capital, not to bring gratification now, but to increase future rewards.

3.  Imperfection abounds.

The world of human activity is not characterized by neatness and perfection.  It is not represented by simple, pure principles in action.  On the contrary, it is messy, and it changes from moment to moment.  In the real world there is no perfect competition and no perfect information.  People act rationally sometimes, and not at others.  They sometimes change their minds and behave differently.  Society is not perfectible, and nor is human nature.  People are motivated sometimes by worthy aims, and at other times they show less admirable traits.  This imperfection should be recognized and admitted so that it can be coped with, and so that ways might be found to minimize any baleful effects it might generate.

4.  Compare the present with the past rather than with an imagined and hypothetical future.

Free market economists tend to think the present is better than the past.  People live longer.  Life expectancy, which was about 30 years for millennia of human existence, is now at 68, and greater still in advanced countries.  Death of mothers in childbirth is a tiny fraction of what it was just over a century ago, and child mortality in infancy is minimal compared to what it was.  Major diseases have been conquered, and fewer die of malnutrition than ever did.  Fewer live lives at or below subsistence, and more have access to healthcare and education than did in previous ages.  By many measures the present is better than the past.  Instead of comparing it with a hypothetic future of an imagined world, neo-liberals compare it with the past, inspect what has made it better, and try to do more of what has worked in order to make the future better still.

5.  The outcome of spontaneous interaction is better than a preconceived goal.

When people make choices, including economic ones, the outcome produced by those millions of interactions will contain more information and allow more different goals to be met than any brought about by planners thinking one up.  The planners are few and they dream up a future that satisfies their own aims.  Those freely interacting are many, and they act to produce a future that allows more of their own goals to be achieved.  The spontaneous society not only results from more minds and more information, it also reacts faster and is quicker to cope with crises.

6.  Poorer peoples become richer by creating wealth, not by redistributing it.

The world's wealth is not a fixed supply to be shared out according to some idea of what is just.  Wealth is created by exchange.  When people trade what they value less for what they value more, wealth is increased.  Development aid redistributes a little wealth, whereas trade creates a great deal of it.  No poor country has become rich through aid, and none has done it without trade.  To help poorer countries on that upward path, richer countries should open their markets and buy what they produce.

7.  Life before the industrial revolution was far from idyllic.

Although some conservatives and environmentalists have a rosy view of Britain's pre-industrial past, and praise what they call "the measured rhythm of rural life," the reality was of abject subsistence for most, accompanied by squalor, disease and early death.  Most people worked on the land from dawn till dusk, doing back-breaking work and living in primitive and filthy conditions.  Most had no margin, so bad harvests or severe winters could bring starvation.  The industrial revolution brought a step up in living standards.  What we now regard as poor and unsanitary housing was an improvement from their rural squalor, and wages gradually enabled them to afford decent clothes, china dishes and household items.  The industrial revolution brought mass production and affordable items, and created the wealth that raised living standards.

8.  Economic growth is a good thing and there are no limits to it.

Economic growth brings the opportunities to satisfy our wants.  It enables us to pay for medical care and sanitation, and for education.  It funds art galleries, libraries and concert halls as well as meeting our material needs.  Although some critics say we will run out of resources, our ability to access new sources of them as technology advances is increasing faster than our use of them.  The same is also true of our development of substitutes.  Technology is becoming smarter, too, using fewer resources for its outputs.  Growth can continue to bring more opportunities and greater security to more and more people.

9.  Globalization has brought huge benefits to large numbers across the world.

Globalization has brought millions of people who previously lived fairly isolated, subsistence lives onto world markets.  They have been able to sell their labour and their produce to distant buyers and to join in the wealth-creation process that lifts people above the struggle for survival and into a world of greater opportunities.  Although some praise buying locally, it is buying globally that uses resources efficiently and enriches more people.  As Adam Smith said, we could make wine in Scotland very expensively, but if we buy cheaper French wines it leaves us money left over to spend on other things.  Globalization has enriched, and is still enriching, the world.

10.  The world is not reducible.

The real world is immensely complex, ever moving, ever changing.  It cannot be reduced to a few simple equations.  When people attempt to do this, they have to simplify, and in doing so leave out essential information that makes it work as it does.  It is not only complex, but inherently unpredictable.  We do the best we can with limited information, and always with the knowledge that unforeseen events might alter our plans and thwart our intentions with unintended consequences.  The world is not like a clean-lined machine whose mechanism can be studied, but more like a messy mass of interactions whose outcomes are uncertain.  Fortunately, the world is fairly resilient and usually manages to cope eventually with the follies people put upon it.

A simple point on railway nationalisation

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One point people bring up when they advocate renationalising railways (or renationalising stuff in general) is that when private companies run something they take a chunk of the total surplus in profit, but if the government were in control, that could go to them. But there's a very basic reason why this isn't the case: opportunity cost. A firm, in doing business, puts capital to use. It uses a mix of physical and human capital and devotes it toward achieving tasks in order, usually, to turn a profit. The best way to measure the amount of capital tied up in a project is the market's assessment thereof—the firm's market capitalisation—although of course we know that market prices are never perfectly accurate, since they are only on their way to an ever-changing equilibrium, and they may not have got there yet. And what's more, not all the relevant information will always be in the public domain.

For rail franchises—or TOCs (Train Operating Companies), as they seem to call themselves—it is relatively hard to pinpoint the exact amount of capital they are using, as they are usually subdivisions of a larger structure. But suffice to say, running trains involves tying up money on the order of billions, whoever does it (i.e. it includes Directly Operated Railways, the state body that is currently running the East Coast Mainline pretty well). You have to rent the rolling stock (trains), pay the staff, buy the fuel, pay to use the track and so on.

From this capital you get a return. TOC margins average about 4% over the last ten years. The average company got more like 10%. FTSE100 companies seem to enjoy higher returns. Of course, operating profits are not share returns, but they tell more or less the same story. The extra couple dozen billion the government would need to spend on trains could equally be spent on equities or anywhere else for more or less the same risk-adjusted return. The return they got here could be put into trains.

But even doing this makes no sense. If the government returns that couple dozen billion to the population at large, the government can tax the income that the private citizens make on the wealth, at a glance dealing with the problems of governments holding wealth—principally: they are not very good at picking winners. Or they could pay off debt and reduce their repayment costs—since the risk-adjusted return of gilts is priced in just the same way as other assets.

Either way, and whether or not rail re-nationalisation makes sense from any other perspective, it is simply not the case that government, by nationalising rail, could get a bit of extra cash to put into our network.

Looking at the world through neo-liberal eyes

Adam Smith Institute President, Dr. Madsen Pirie, explains why he is willing to own the usually-derogatory term neo-liberal, and explains why the world actually shows us the success of the much-maligned perspective.

I spoke at Brighton University as part of their seminar series on neo-liberalism.  The term ‘neo-liberal’ is usually used in a derogatory sense, though I chose not to use it that way.  I was the only speaker in the series to speak in favour of neo-liberal ideas, and my title was “Looking At the World Through Neo-Liberal Eyes.”  I began by quoting an old Chinese proverb: “Never criticize a man until you have walked a mile in his shoes.  That way you are a mile away when you voice your criticism; and you have his shoes.”  I invited the audience to see the world briefly as it looks through neo-liberal eyes.  These were the points I made.

1.  Value is in the mind, not within objects.

Value is not a property of objects or a quality they possess.  Although we talk of objects “having value,” we mean that we value them.  Value is in the mind of the person contemplating the object, not in the object itself.  If value resided in things, it could theoretically be measured objectively and we would all agree on what it was.  There would then be no trade, for exchange takes place when each person values what the other person has more than they value what they are offering in exchange.  A trade gives each of them something they value more, and thus wealth is created by the exchange.  When people make the mistake of supposing that value resides in objects, they ask how it arrived there, and come up with fallacious ideas such as Marx’s labour theory of value.  An object can take masses of labour to produce, but if no-one values it, it will be worthless.

Read the whole thing.

What glories this capitalist free market thing hath wrought

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There's nothing worse than being exploited by some running lackey pig dog of a capitalist, as Deirdre McCloskey reminds us:

The aim of the true Liberal should not be equality but “lifting up those below him.” It is to be achieved not by redistribution but by free trade and compulsory education and women’s rights.

And it came to pass. In the UK since 1800, or Italy since 1900, or Hong Kong since 1950, real income per head has increased by a factor of anywhere from 15 to 100, depending on how one allows for the improved quality of steel girders and plate glass, medicine and economics.

In relative terms, the poorest people in the developed economies and billions in the poor countries have been the biggest beneficiaries. The rich became richer, true. But the poor have gas heating, cars, smallpox vaccinations, indoor plumbing, cheap travel, rights for women, low child mortality, adequate nutrition, taller bodies, doubled life expectancy, schooling for their kids, newspapers, a vote, a shot at university and respect.

Never had anything similar happened, not in the glory of Greece or the grandeur of Rome, not in ancient Egypt or medieval China. What I call The Great Enrichment is the main fact and finding of economic history.

It's that penultimate sentence which is so important. There have most certainly been many attempts at designing economic systems: there have been even more that just sorta happened out of voluntary interactions. But there's only one of them that has actually managed what we are all the lucky, lucky, beneficiaries of. That is, one economic method of organisation that has led to a substantial, sustained, increase in the standard of living of the average woman on the Clapham Omnibus.

Nothing else, nothing planned nor nothing unplanned, has managed this. And that really is the main fact and finding of economic history. It's the one unique even in it too. McCloskey, you and I, we might differ on the details of how it all happened but we shouldn't allow minor disagreements over precedence between the flea and the louse to obscure the manner in which we're all feeding off that larger truth. That nothing else does work as well as those largely bourgeois virtues plus economic and social liberty.