A new governing paradigm—maximising national wealth

How should governments decide on policy? One answer is that policy should follow a particular ideology, such as libertarianism or socialism. Another answer—direct democracy—is that policies should be arrayed in front of the populace at large so they can pick. Another is that the people at large should choose people who vote on policies from options selected by a third group of people—roughly the Westminster system. Absolute monarchy would give a family and their descendants control of policy. But an under-considered method of choosing policy is via markets.

Here I don't mean getting rid of social democracy and having most or all goods provided by the market; instead I mean choosing policies—whether free market or interventionist, right- or left-wing—with respect to the result of a hypothetical prediction market, specifically, one looking at some measure of national wealth.

Why wealth? Well what we really want to do is make people have better lives—increase their well-being. But measuring well-being directly is controversial and difficult. The two leading theories of well-being are that well-being consists in happiness/pleasure and that well-being consists in satisfying one's desires or preferences. We know wealth makes people happier, particularly when they are poor, but even when they are already well-off, and we know more wealth means more ability to satisfy most different preferences.

Thankfully, both measures (like the official ONS statistic) and proxies (like the total market capitalisation of, FTSE All-Share firms, which make up 98% of total business wealth) of wealth are fairly widely available. Of course, these happen after the fact—so while we could easily judge past governments by their effects on these metrics, we couldn't judge current policy proposals. But that needn't hold us back! We already have markets in future RPI inflation in the UK (and CPI inflation in the US), called TIPS spreads. These take the price differential between RPI-linked and regular gilts or T-bills to work out what the market expects inflation will turn out to be. We know this because if it didn't represent the market opinion, then traders could buy and sell bonds to achieve a higher expected return (i.e. take arbitrage opportunities).

Even a simple, TIPS-like market in national wealth would help us rationally guide policy. It's not exactly clear whether central banks check TIPS markets, but if they did, the markets would give them advance guidance on whether their policy would help them hit their target level of inflation, based on reactions to policy changes, suggestive speeches, and explicit forward guidance like the Carney or Evans rules. In the same way, important policies would shift the wealth markets, and governments could use that as evidence for doubling down on wealth creating policies and for getting out of wealth-destroying moves.

However there are important distinctions between the Bank of England's role in stabilising the nominal side of the economy, and the government's role in making policy that makes it likely that lots of real wealth is generated. The best nominal policies, like NGDPLT, focus on stabilising, or ensuring the stable growth of, some nominal variable. The optimal result is extremely reliable stable growth. But that's not what we want in real wealth. When it comes to real wealth, the more the better. That a policy boosted the markets' expectations of national wealth by 10% in five years would not prove it was an optimal, or even good policy, if there was an alternative that could boost wealth by 50%.

So when it comes to national wealth we need conditional prediction markets. We need markets that tell us what would happen if we implemented a given policy. The specifics of implementing these sorts of markets become quite complex and difficult, as we do not want to restrict the policy choice too much, but it may also not be practicable to open up a gilt market for every permutation of every major political idea. But if we could start conditional prediction markets up, we'd have a range of policy options with very interesting and suggestive evidence of what is best for the country's social welfare.

I think there are some persuasive objections to the results of these markets, and—further—to running policy in any rigidly-linked way to these markets. But I also think they can all be plausibly dealt with, and I will attempt to do so in a blog post tomorrow.

Making the wrong argument about supermarket cashiers

Farhad Manjoo makes a valiant attempt to insist that supermarket cashiers aren't going to be out of a job any time soon. So what's with all those self-checkout things then?

In a recent research paper called "Dancing With Robots," the economists Frank Levy and Richard Murnane point out that computers replace human workers only when machines meet two key conditions. First, the information necessary to carry out the task must be put in a form that computers can understand, and second, the job must be routine enough that it can be expressed in a series of rules. Supermarket checkout machines meet the second of these conditions, but they fail on the first.

They lack proper information to do the job a human would do. To put it another way: They can't tell shiitakes from Shinola. Instead of identifying your produce, the machine asks you, the customer, to type in a code for every leafy green in your cart. Many times you'll have to look up the code in an on-screen directory. If a human checker asked you to remind him what that bunch of the oblong yellow fruit in your basket was, you'd ask to see his boss. This deficiency extends far beyond the checkout lane.

All of this is entirely true and also very near irrelevant. Because employers are not in fact looking at the best way of doing something. They're looking at the most productive way of doing something.

And most productive depends, in this case at least, on two things. What are the costs of the different ways of doing the check out and, much more importantly, who is bearing those costs?

Let's imagine that the machines cost the supermarket less than the cashiers. That certainly sounds about right: technology has marched on and those systems, I would guess, would be cheaper than several years wages for enough cashiers to cover all of the shifts. Therefore the supermarket is going to be installing more machines. And it doesn't actually matter to the supermarket if the machines aren't as "good" as cashiers.

For here "good" is a function of how much time it takes to complete the task. And by getting us to line up at the machines the supermarket has made that time a cost that it isn't carrying. Instead, it's us the customers who are carrying that cost. It's an externality to the sums the supermarket does, is not included in hte numbers they face. The machines may well be a worse deal for us, the consumers, but a better one for the supermarket, the producer. All of which means they're going to keep installing those machines because their incentives are to do so.

What they're really doing with the limitations on political party funding

There is, as we all know, a move afoot to try and ban the spending of large sums of private money on the pursuit of politicas. Specfically, on the donation of large sums of money to a political party. We will then be forced to cough up for the poltroons through our tax bills rather than in a voluntary manner by our donations. This, in itself, is good enough reason to condemn the proposals.

But Don Boudreaux points out what makes it all very much worse. It isn't just about making, say, Labour less beholden to the unions. It's about creating a cartel:

If executives for profitable and established companies such as Apple and Wal-Mart persuaded Congress to cap the amounts that banks, venture capitalists, rich uncles, and other financiers may invest in private firms, including upstarts, this restriction would be widely seen as an anti-competitive and unjust scheme to stymie economic competition. New rivals would be disproportionately bridled in acquiring the means – money – to buy the inputs necessary for competing successfully against incumbent firms.

This is what is being proposed here in the UK. Instead of people deciding they might want to give some money to a politician or political party they'd like to support the money will be doled out from the State. One the basis of previous election support, obviously. Meaning that there's a very large barrier put in place against the rise of a new political party.

It is, quite simply, the creation of a cartel.

One other point that Boudreaux alludes to. Let's say your a staunch Labour guy and you're outraged by the way that the Big Business money flows to the Tories. The way to stop this is to change the incentives for Big Business. Strip the government, the State, of the ability to create rent seeking opportunities and no business would ever bother to buy a politician. For the politician wouldn't be able to create that super-profit for the business in return.

Or as I would put the solution. Don't stop people from buying politics, stop them from being interested in purchasing politics.

ASI launches The Entrepreneurs Network

Today, sees the launch of The Entrepreneurs Network – a new think tank supported by the Adam Smith Institute. The Entrepreneurs Network is a think tank designed to bring entrepreneurs to the forefront of political discourse and help make Britain the best place to start a business.

The Entrepreneurs Network will produce research outlining the benefits of easing unnecessary burdens upon enterprise; host high-profile events to bridge the gap between the aspirations of the entrepreneurial community and policy makers; and represent and champion entrepreneurs, making the case for a more entrepreneurial society.

The best way to stay in tough with what The Entrepreneurs Network is doing is to sig up to the fortnightly Entrepreneurs Bulletin. This will give you:

  • A digest of the latest government proposals and how they could impact your business;
  • An update of what is going on in entrepreneurial communities across the country;
  • The chance to share your views on entrepreneurship;
  • Invitations to Network events;
  • Opportunities to represent your business and the Network in the media.

Please visit the website to find out more, sign up for the bulletin and contact us with your thoughts on this new think tank.

Ten Logo.jpg

It really is all obvious or trivial except

There's a story about economics, that it's all trivial or obvious except....the except being Ricardo on trade. The point was made when a mathematician asked an economist whether there was anything in economics that was not trivial or obvious. As opposed to, as in mathematics, attempting to unlock the secrets of the universe of course.

I was reminded of this when reading about Sam Johnson and his writing of his dictionary recently. I came across this quote:

Yes, Sir, no man is a hypocrite in his pleasures.

This is of course exactly the same as the idea of revealed preferences and the Good Doctor was a couple of centuries ahead of the economists in pointing it out.

The point of revealed preferences being of course that you shouldn't take as being true what people say or write: watch what they actually do in order to understand their desires. The implications of this are important, even if the point, once made, is entirely obvious. We should not, for example, take votes in elections as being particlarly indicative of anything very much other than that there's no other good way of getting rid of the last lot of poltroons who attempted to govern us. That the new lot's manifesto made some promise or other on reducing drinking, say, does not mean that everyone wants all hte pubs shut. For millions of people do indeed go to pubs every day which is a much better guide to their desires than whatever happened in the voting booth.

Similarly public opinion, polls, surveys, while they might be interesting they're in no manner as good a guide to desires as watching what people actually do.

As to economics being trivial or obvious, yes, much of it is indeed so. To an extent we can think of it as the codification and exploration of those trivial and obvious points that can be made about humans: an exploration of the implications if you like. Except, of course, for Ricardo on trade which is why it's so troubling that so many people don't understand it. The real message of that is that if we all do what we're least bad at and then swap around the resultant production then we'll all be better off than any other way of organising the universe.

Talking about controlling conflict minerals

I was having a chat this past week with a senior bod in a charity that is trying to do something about conflict minerals. These are the ones where child slaves are sent out to dig up the ores which the armed militias then greatly profit from. Something I'm sure we'd all like to see stopped.

During the course of that hour long chat (I'll use no names, so no pack drill) it became apparent this senior bod, indeed the group of NGOs pushing for new EU regulation along the lines of the US's Dodd Frank rules, had not the slightest clue about how the world works. I'll grant you they knew where the exploitation was taking place but other than that pretty much bupkiss.

"So, this proposal of yours, how much will it cost?"

"We've not done a cost analysis of it".

"What will be the value of the benefits of your proposal?"

"We have not done a benefits costing."

This is, please recall, a group that is campaigning to change the law for 500 million people. And they don't know how much what they are campaigning for will cost, what the benefit will be, not even whether the benefit will be greater than the cost and that thus there will be a net addition to human happiness or utility.

That's bad enough but then I found myself very much through the looking glass. Their proposal is that everyone (yes, all individuals and all companies, those who first introduce a product onto the EU market) must be legally responsible for the entire supply chain of the ingredients in what they are selling. They seem not to get that no one at all knows how to make any particular product. They'd not even heard of I Pencil. No one person, no one company, knows how to make a pencil: or a smartphone, a computer, nor almost any piece of modern day gizmoidery. So how in heck can anyone track down the entire supply chain for doing this? Let alone agree to be legally responsible for the entirety of it?

They are quite literally insisting that if I ship in a box of Chinese pencil sharpeners to sell on e-Bay (of the soon to be popular "Hello Rover!" brand) then I am legally responsible for ensuring that the steel making the blade was not made from conflict mineral tungsten. Which means tracking back through any number of Chinese companies not just to a steel mill but to the ferro-alloy producer before that and interrogating him as to where he got his ammonium paratungstate from. Which means going further back to the plant that made that from the original ore. And I've got to do that again with the screw that keeps the blade in place.

These people are of course mad. For the entire point and purpose of a market economy is that I cannot know all of that and it is the markets that ensure that I don't need to. I can just look at the prices to see where I'm going to get my gear from. I am entirely blind as to what happens two or four steps down the line from me: the point being that the system simply cannot work any other way. Full supply chain analysis, of the sort they are insisting that everyone should do, entirely negates that value of a market economy for us. We're back to being GOSPLAN and look how well that system worked.

Chart of the week: Eurozone bank deposits recover slightly

Summary: Drain on bank deposits in periphery easing

What the chart shows: The chart shows deposits held by ‘other general government/other EA residents’ relative to the situation in January 2012 and January 2013

Why is the chart important: Bank deposits are the key component of broad money. The crises in the periphery countries was accompanied by substantial drains of deposits as households and companies moved money out of (distrusted) local banks, either to hold as cash or – more likely – to deposit in (trusted) banks in core euro area countries. But this also meant a drastic fall in broad money, in turn crippling banks further. As the euro area situation has stabilised and conditions have improved, however, marginally, this process has begun to reverse. In Greece, Spain and Ireland, bank deposits are now increasing. This does not mean that there is a strong and durable recovery on. But it does show improved confidence and gives some hope that the bottom may have been reached.

Making the US Govt shutdown seem worse than it is

It's always the same, any bureaucracy under attack will cut the most obvious, public and desired of its services when the budget is under attack. It's never the paper shufflers who are asked to cut back but the library hours that are reduced. Or the parks are closed rather than the diversity advisers getting it in the neck. So it is with this latest shutdown of the US Govt.

NATIONAL PARKS: National parks have been closed to new visitors, and park roads, concessions and other facilities are now being closed. Overnight visitors have been given two days to depart. This will mean a loss of 750,000 daily visitors and an economic loss to gateway communities of as much as $30 million for each day parks are shut, according to the non-profit National Parks Conservation Association.

That might all seem logical enough. The non-essential bits of the government are being closed down and while parks are nice they're not really essential. Except that's not what they actually mean by "concessions". This is what they do mean:

The US Forest Service, under pressure apparently from the White House, has reversed both its historical precedent as well as its position yesterday and will close over 1000 public parks and campgrounds that are operated by private companies without using one dime of public money. Why does the fact that our landlord the US Forest Service is going on an unpaid vacation mean that tenants of theirs have to close up shop too? We have no idea.

A concession is where a private company operates the park, the Forest Service being merely the landlord. And as you might expect, the money flows from the concessionaire to the Forest Service, not the other way around.

So, in order to make the government shutdown more painful to the populace the US Government is cutting its own revenue by insisting that private businesses which pay it rent must close down.

I can never remember whether we're supposed to flog bureaucrats before or after we hang them.

Is the Bank of England financing the Treasury?

Many observers view the coincidence of quantitative easing (QE) and the recent decline of bond yields to very low levels as evidence that the Bank of England has played a significant role in pushing yields down, allowing the Treasury to borrow at lower rates. The reasoning behind this conclusion relies on the laws of supply and demand, and the inverse relationship between the price of a bond and its yield: by conducting large scale purchases of bonds, demand for those bonds increases and causes a rise in their price (decrease in their yield) and reduces the cost at which the Treasury can borrow. There are even fears that should the Bank ever sell its bond holdings, the process would happen in reverse, pushing yields up, and forcing the government into a difficult fiscal position—a bond bubble.

These views are entirely plausible—I held them myself in the not too distant past. Nevertheless, I had to reconsider this position after coming across a presentation given by David Beckworth, assistant Professor of Economics at Western Kentucky University. I’ve recreated one of the charts from the presentation below but with different countries. It shows the yields on the debt of several of the world’s largest economies, with the UK & US having undertaken QE, Germany could be considered to have a small amount through OMT, and Australia has had none; a neat experiment. 

Clearly there’s a strong correlation between the yields of these countries. Now, if UK QE drives UK yields down (and prices up) then why do the Australian, US, and German yields follow the UK so closely? The Bank isn’t buying their bonds. Why do the US and UK yields follow an almost identical path when their QE was conducted at completely different times? An overwhelming amount evidence supports the notion that QE reduces short term yields, but on this grander scale, one can hardly assert that the overall decline in UK yields over the last 5/6 years can be attributed largely to domestic monetary policy. Surely this is a global phenomenon.

Maybe it’s the Fed?

Perhaps a more disturbing conclusion can be drawn. What if the original reasoning was correct, but instead of the UK and the Bank of England, it’s the Fed and the world economy. After all, the US dollar is the world’s reserve currency, and it’s by no means unreasonable to suggest that the selected bonds are near perfect substitutes so that demand for one is demand for all. If such is the case, the Fed has a frightening amount of power over the world economy.

Again, the logic is sound. But the Fed only holds around 17% of total US treasury securities, roughly the same share it held in 2007. As Beckworth said to his American audience: “85% (his numbers differ marginally from mine) of the largest dollar run up in US debt history was funded by you, me, our financial intermediaries, and foreigners.” So it’s unlikely that Fed QE is responsible for the global yield decline.

Liquidity Shortage, high Asian Savings rates, or neither?

If not QE, what is behind the global decline in yields? In my opinion, it’s due to the fact many central bankers are apparently unfamiliar with the lessons outlined in Bagehot’s 19th century classic Lombard Street. By failing to provide ample liquidity in the early stages of the crisis, when they had the opportunity to nip it in the bud, a routine cleanup developed into a full blown crisis. Investors, in a panic to increase their liquidity, rushed to the next best safe liquid asset—government bonds. Thus in a way they are keeping yields down, but only indirectly by not following the lessons outlined by Bagehot, which has stunted growth and created a liquidity shortage.

Another question remains with regard to what extend the decline since 2007 is a continuation of the trend of the last 30 years. Over this period there’s been a continued decline in yields. It could be high Asian savings rates leading to vast amounts of cash searching for interest baring assets. Furthermore, the Western world has (up until now) seen improved management of fiscal and monetary policy compared to the tumultuous 60s and 70s. Either way, it’s clear from the evidence presented here that QE is not likely to be causing any bond bubble, nor should it be seen as monetising government debt.

Help to What? Moving forward from conference season

Help to Buy was conceived and born into a dysfunctional legal and political environment, including: (1) a draconian, outdated planning regime which still retains features of its social-democratic origins in the 1940s; and (2) Housing Benefit, a rent subsidy amounting to a staggering £24bn a year, nearly half of which is directed to the private sector, behaving exactly as expected: perversely benefiting private landlords to the detriment of virtually everyone else, including private renters and—in the wake of the implementation of the benefit cap—welfare beneficiaries as well.

With that context in mind, the Adam Smith Institute argued early last month that the Help to Buy programs, also subsidies, are likely to have a difficult adolescence and produce similar effects, disproportionately hurting the poor and the young while improving the position of existing landowners. We are by no means alone in this view; many believe the scheme will make housing less affordable in the long term by driving up prices, increasing inequality, increasing household debt in an environment where interest rates are very likely to rise, and increasing the overall risk of losses for participants in the sector (including new homebuyers, whose liability to repay high-LTV mortgages could become very onerous, very quickly if interest rates move upwards).

The Government's move last week to empower the Bank of England to harness Help to Buy if the housing market overheats is a welcome admission that the Government shares at least some of the concerns of its critics. It is, however, a pity, and a loss for progress, that the Conservatives are unable to admit this in public, as most recently seen with Radio 4's interview of David Cameron on Tuesday.

In that interview, Sarah Montague peppered the Prime Minister with a list of the scheme's non-partisan opponents, including the ASI, and the reasons for our opposition. The Prime Minister blithely replied that “you need to get out more and listen to ordinary people who want to buy a home,” and that his government's objective was to liberate young Britons who, “trapped in rental accommodation, [are] paying high rent to somebody else”.

On the subject of housing, Cabinet-level officials have repeated similarly populist rhetoric with increasing frequency over the past 30 days. While this might resonate with younger voters, it does nothing to address the fundamental imbalances that underpin the high price of housing, and misleads the public as to the character of the crisis. As the Spectator's Fraser Nelson pointed out, the Anglo-Saxon fetish for homebuying is not a value universally shared; if this were the case, he playfully suggested, we should perhaps send humanitarian aid to the long-suffering peoples of “Austria, Denmark, the Netherlands, Korea and Sweden as well as France and Germany,” where short-term leasehold tenure is more widespread.

Even if the question of tenure were a normative one (and it isn't), in practical terms, the distinction is almost entirely sentimental in the medium-term. For the purchaser who takes maximal advantage of the equity loan component of Help to Buy, for over half a decade he or she may expect to trade his or her landlord for a bank and, after 5 years of interest-free lending, the Treasury—while not paying down very much principal, at least on a typical long-run amortisation schedule. There is also, of course the matter of capital appreciation; but even this, in a climate of high and rising prices, carries the potential to be a double-edged sword for banks and borrowers alike.

The real substance of the housing question is not one of tenure, nor one of "aspirations" (especially when the political realisation of these aspirations is inefficient at best, and reckless at worst). The country would benefit most from a renewed focus on affordability in the long term, a measure on which the British housing market – social and private, rented and purchased—continues to remain under significant stress.

In this respect there is very little difference between purchased or rented accommodation. In May, for the first time in 18 months rents rose across every region in the country; records were broken in London, where the average monthly individual rent now exceeds £1,100. Only yesterday, Boris Johnson—referring to a “massive affordability gap” in the London rental markets—called for additional government-subsidised support, “allowing companies to make tax-free loans for rental deposits, as they can for childcare.”

We might call such a program “Help to Rent.” Armed with the knowledge that the government already spends £10 billion a year subsidising tenants in the private rental markets—a new Help to Buy Equity Loan scheme every 17 weeks, or Help to Buy Mortgage Guarantee every year—the Mayor’s proposal, too, is unwise, for all the usual reasons.

If the crises in social rented, private rented, and private purchased accommodation are to ease, aggressive supply-side solutions are necessary to increase the availability of housing, which will gradually bring down its price and increase the availability of finance (as lower price-to-earnings ratios will make banks less reticent to lend). One option to achieve this, while appeasing more parochial voices who seek to retain the national character of urban and rural environs, might be placing greater emphasis on private property rights in planning laws governing built-up areas, a form of liberalisation which would allow developers to option out, and then raze, inefficient stock in places with few architecturally or socially redeeming characteristics (such as Fulham and Battersea) and replace it with buildings of considerably greater ambition.

Subsidising demand will not and cannot, given present legal and political restrictions on development, achieve this outcome. Further injections of government cash will only make life more difficult for future market entrants who are forced to pay for these subsidies while competing against them. As the Conservative Party Conference draws to a close, young Conservatives—and indeed first-time buyers of any political persuasion—should resist and oppose calls by senior Tory figures for additional state intervention in the housing market. If affordable housing is the goal, it's time to call for rather less.