Democracy doesn't help growth

Studies of democracy and growth are plagued with what economists call "identification problems"—it's hard to identify whether relationships you see between variables are due to those variables affecting each other, or some other variable. For example, across the world, democracies are all-round better countries than non-democracies: richer, freer, safer, and happier—but is this due to democracy itself? It's hard to say: these countries also have different institutions, favourable history and geography, and different cultures—all with roots deeper than democracy.

So economists try and come up with clever methods to work out whether democracy itself makes countries more prosperous (or indeed whether it makes them freer, happier, and/or safer). For example, you can try and control for other factors you think you might be missing out, like the rule of law, human capital, and free market institutions. I survey some of this work in a previous post.

Or instead of looking at a "cross section" of countries—a bunch of countries in one time period—and looking how countries vary, you might look at lots of countries over time, and check whether increased democratisation changed their growth trajectories. If everyone's growth seems to pick up just when they democratise, that's much stronger evidence in favour of democracy, because it controls for all the idiosyncratic factors particular to individual states (what economists call "country fixed effects").

You can improve the methodology yet further. When countries democratise, it often isn't the only thing they do at the same time, and it may not be a cause of or necessary feature of the other stuff they do (e.g. formalise land titles and allow markets in various areas). What's more, it may be caused by special circumstances—like an economic crisis—that would lead us to expect accelerated growth afterwards even if democracy itself didn't have any special effect.

A new paper takes these seriously, and attempts to identify the effect of democracy on growth by surveying 165 country-specific political experts, asking them whether an episode of democratisation came out of economic turmoil, or came out of an "exogenous" (i.e. unrelated) desire to increase democracy. They find that once you control for these "endogenous" (i.e. turmoil-related) increases in democracy, democracy no longer causes growth—previous positive findings came from faulty identification.

Now, democracy may still be good for other reasons—people may just like it, so even if it's only equal to the alternatives, we might prefer it—but we should be yet more sceptical that it is responsible for the things we enjoy in our society.

An Alternative to Grammar Schools

Theresa May’s policy bringing back grammar schools has divided the nation, and the buzzword across the country has become meritocracy. How can we ensure that the most academically gifted go to schools that suit them best, and at the same time not discriminate against those who are less academically gifted by channelling their talents into where they can be best used? 

To the political establishment there seems to be only two options; to carry on with Cameron's free school and academy reforms, or to carry through with Theresa May’s plans to introduce a new generation of Grammar schools across the country.

After Mrs May’s insistence that “there will be no return to secondary moderns” it looks as if the road forks out only two ways, now, with May tugging at the reigns of her disobedient party to get it going down her chosen route.

The prevailing issues surrounding the disagreement it seems, are those of social mobility, school choice and having healthy competition between schools. Given these, perhaps they should consider a third way, a way that the Adam Smith Institute has advocated in the past. That is, to allow profit making free schools to exist. These schools could spur the creation of school chains that compete on quality and standards, ensuring that quality of schooling is maintained. But parents still need to ensure that their desire for school choice is respected. Especially as it is essential that the future of a child is not determined by where he/she should happen to live. To address this, a digital voucher like bursary should be given by the government so that they can send their children to one of these new free schools if they wish.

Though this may be considered somewhat radical, and entail far more than simply the aforementioned, it would be an excellent and indeed highly interesting concept for MPs to consider. Not least because it would be refreshing to consider something new in education policy for a change, rather than trying to dredge up the Grammar school system from the past.

The 2013 Paper published by the Adam Smith Institute in partnership with the Centre for Market Reform of Education School Vouchers for England can be found here.

We agree with The Lancet on the goal, disagree about the method

The Lancet has a special edition out looking at maternal mortality around the world:

According to the new Lancet series, the chances of a woman dying from childbirth over her lifetime is about one in 4,900 in high-income countries, while for women in sub-Saharan Africa the figure is one in 36. By contrast, according to the World Health Organisation, the UK figure is one in 5,800.

We entirely agree that the world would be a better place if there were greater equity in those numbers. As long as the equity is achieved by the terrible numbers becoming better, not by a degradation elsewhere. However, we are deeply unconvinced that this is the correct method of gaining that goal:

 We call on all stakeholders to work together in securing a healthy, prosperous future for all women. National and local governments must be supported by development partners, civil society, and the private sector in leading efforts to improve maternal–perinatal health. This effort means dedicating needed policies and resources, and sustaining implementation to address the many factors influencing maternal health-care provision and use. Five priority actions emerge for all partners: prioritise quality maternal health services that respond to the local specificities of need, and meet emerging challenges; promote equity through universal coverage of quality maternal health services, including for the most vulnerable women; increase the resilience and strength of health systems by optimising the health workforce, and improve facility capability; guarantee sustainable finances for maternal–perinatal health; and accelerate progress through evidence, advocacy, and accountability.

We have absolutely nothing at all against those who know how to cut that carnage teaching those who do not. Indeed, think it an excellent idea.

And yet those lifetime risk rates of one in 36 - they are, like the absolute poverty in the places where those rates exist, the historical norm for human beings, even in fact rather better than that historical norm. Further, it is the poverty which is the cause.

No one does want mothers and or babies to die. It's a fairly fundamental driving force of being a human that we do our best for them. Yet what if it costs $60 to provide suitable maternity care? No, that's just a number plucked from the air - and we're in a society where GDP per capita is $600 a year. There are, tragically, still near 10% of all humanity trapped in economies of that level and destitution.

Given that urge to care for those mothers and babies we know very well that a society climbing up out of that poverty will devote more resources to those groups. We've seen it happen absolutely everywhere that any society has so climbed up out of that historical norm of destitution. 

Thus we do indeed agree with the goal. But insist that the priority to achieve it has to be economic development. Because all else will follow once that is happening. Not just resources to maternity care - but to health care in general. Indeed, things like the "greater empowerment of women" and the like which some make so much of we insist all rely upon a society with some economic surplus, however small, which allows such empowerment. So too the end of child labour, the education of all children and so on.

There are thing which we can do to help - we know how to do some of these things and we should pass that knowledge on, of course we should. But that 10% of the world is still resource constrained. The basic answer has to be, therefore, to increase the economic resources available. This can also be expressed as helping them get rich.

Fortunately we know how to do that. This neoliberal globalisation stuff has, in recent decades, led to the greatest fall in that absolute poverty in the entire history of our species. We must therefore keep that engine of economic growth running -  for the mothers and the children, you understand.

The first and most basic thing you must know about economics

The world simply will not make sense if you do not grasp the first and most basic thing you must know about economics. Which is that incentives matter.

What the incentive is, what the action or activity is, those are things which can all vary wildly. Whether something acts as an incentive or a disincentive can change too. But it really is crucial to understand that whatever else might be going on, incentives matter:

In 2004 the New Zealand government introduced legislation banning anonymous sperm donations and preventing donors from receiving any payment for their services.

Donors in New Zealand have minimal costs covered (such as travel to the clinic) but are not compensated for their time, which after rigorous medical testing and counselling, can be significant.

Under the new law, the sperm donor must also agree to being identified to any offspring when the child turns 18.

A decline in sperm donations following the introduction of the legislation coincided with a sharp rise in same-sex and single women applying for donated sperm.

It's not difficult to predict is it? On the application side the greater controls mean that fertility through donation is more desirable. On the production side the greater controls make production less desirable. Note that there's no money floating around this system but we've still got a change in demand and a change in supply.

And given that we've not got a price that can change to balance them we've got a mismatch.

Incentives really do matter.

Bitcoin and the Beeb

Crypto-currencies such as Bitcoin have already changed the way we pay for things. For a start, it speeds payments up. Instead of institutions like banks controlling our money, it is now issued independently – with thousands of bitcoin miners trying to discover more. 

But it is still rather clunky. All those bitcoin-mining computers whirring away consume vast amounts of energy. And it is still, in a sense, centralised. New generations of programmable money will be more efficient and more dispersed still. And that will change the way we pay for things yet again.

With micro-payments of a tiny fraction of a cent becoming easy-peasy, they will also become routine. Why endure TV ads, for example, when you can simply pay a tiny amount online to watch ad-free content?

Which might completely change our thinking about the BBC. The government is about to issue its thoughts on the corporation's future, and other technological changes (such as the relative ease with which we can now operate subscription systems) might change it fundamentally, even if the government doesn't. But just think about how micro-payments could change public broadcasting even further. Most of the BBC's content is pure entertainment. And bolted on are some 'public service' functions, like current affairs programmes. (That is why politicians love it - they get to watch Newsnight and other tedious political content.)

In a world of micro-payments, your TV can charge you for watching the entertainment and (if that is really what the politicians insist on), not charge you for the boring Newsnight. But think further. Who would really want ads on the commercial channels when you can pay - a tiny amount - not to have them? Or could we actually be looking at a world in which the BBC takes adverts in return for being 'free', and the commercial channels are ad-free, at least to those who pay a bit?

The possibilities are endless. Which is another good reason why the BBC should not be a public monopoly. 

Sure, there's such a thing as market failure

Much as it pains to admit it there really is something called market failure. Markets are not perfect - only very good. We would note that most of what people call market failures - say Lord Stern's argument that climate change is the largest such ever - are not in fact failures at all. They are absences. Markets don't deal with externalities, whether positive or negative, because as that word externality implies, they are outside markets.

But even given that it is true that markets are not the appropriate solution to everything. However, we also need to know that there's such a thing as government failure. It's no good our shouting that markets have failed thus that bloke with a Third in PPE from Gradgrind Poly must know how to deal with it. It's possible that there simply isn't a solution to the problem. It's also entirely possible that government will be worse at whatever the task is:

The SNP has admitted that the new IT system set up to deliver common agricultural policy (Cap) payments to farmers is “not there yet”.

Fergus Ewing, rural economy secretary, told MSPs that arrangements for the payment of 2016 subsidies were “not risk-free” as he announced that eligible farmers and crofters would be able to apply for a loan of up to 80 per cent of the value of their entitlement.

Mr Ewing confirmed that by last Friday 17,744 out of 18,479 eligible businesses had received their 2015 payments, with “the majority of outstanding cases” expected to be paid by the October 15 deadline.

The traditional measure of competence is the ability to organise a piss up in a brewery. Here we have government unable to give away free money - not even rising to that modest measure, is it? 

Markets might not be able to solve every problem in this vale of tears that is human existence: but it's remarkable how few of them government is able to deal with.

But who will build the roads?

Ed Glaeser is one of the most interesting economists in the world at the moment, thanks to his iconoclastic work on the economics of cities. I think some of his approach can be summed up as looking at cities at things that grow or emerge spontaneously, and can't be constructed (or stimulated) by the government into growth. 

His latest essay for City Journal focuses on infrastructure spending, which some people seem to view as a sort of panacea – it stimulates the economy, and you get some nice new roads! Or maybe not:

The existence of plausible transportation alternatives and the law of diminishing returns have also tended to reduce the benefits of infrastructure investment over the past two centuries. The opening of the Erie Canal in 1821 brought enormous value because the inland transportation options at the time were dismal. In the early nineteenth century, it cost as much to ship goods 30 miles over land as to send them across the entire Atlantic Ocean. Yet the very existence of canals, as much of a breakthrough as they represented, reduced the benefits of the later rail system, as Nobel economist Robert Fogel has shown. The returns for new transportation infrastructure in places with terrible roads, such as much of Africa and India, will be much higher than in the United States, which already enjoys an impressive, if under-maintained, array of mobility options.
What about the economic value of the shorter commuting times that new infrastructure can bring? Between 2009 and 2014, the Texas Transportation Institute estimates that the annual cost to Americans from traffic rose from $147 billion to $160 billion and that hours wasted in traffic increased from 6.3 billion hours to 6.9 billion hours, despite the surge in federal transportation funding. The time wasted has been particularly egregious in America’s more successful metropolitan areas, like San Jose, where delays per auto commuter jumped from 56 hours in 2009 to 67 hours in 2014. Yet it’s hard to see how substantially reducing time lost to traffic congestion will turbocharge the economy. Imagine that America gets its act together and cuts traffic time sufficiently to save $80 billion—a pretty miraculous improvement. That would still represent less than one-half of 1 percent of America’s $18 trillion GDP.

Read the whole thing.


Today's Oxfam report says increasing inequality increases inequality

We suspect that Oxfam might want to think a little bit more about this part of their report today:

Research carried out for Oxfam by the London School of Economics, to be published later this year, shows empirical evidence that poverty rates tend to be higher when inequality is higher and increases in income inequality are associated with increases in income poverty rates.

Err, yes, we suppose so.

Poverty in the UK is a relative measure. Less than 60% of median household income adjusted for household size (and often after housing costs). This is a measure of inequality, not one of poverty.

Thus the actual information content of that coming report is that increasing inequality increases inequality.

Err, yes, we suppose so really.


A first stab at explaining the surging money supply

Allister Heath is getting worried over the surging money supply. It's entirely possible that he's right to worry as well. What follows is not *the* way to think about this. It is, rather, *a* way to walk through the basics of the subject.

Think of the equation MV = PQ. Money times the velocity of circulation equals prices times quantity demanded. One way to think of monetary policy is that to try to gee up the economy we try to increase V - we do this by lowering the interest rate. Thus, hopefully, Q increases. Similarly, if P is rising, that is we've got inflation, raise interest rates so as to reduce V and thus stop the rise  in P.

Again, please note that proper monetary economists will have conniption fits at this explanation. We're really trying perhaps too hard to make it simple.

We can also simplify what we mean by "money supply". M in that equation should be thought of as M0 in the national statistics. Notes and coins and central bank reserves sorta stuff. And MV can be thought of as M4, which is M0 plus all the stuff the banking system does, loans and debts and credit and so on. Again, not right but useful as an aide memoire.

Which brings us to the recent unpleasantness. Interest rates were already near or at rock bottom. But we could see that V was plummeting. We were really rather worried about a very deep recession (Q falling) and or deflation (P falling). And the solution there is to create lots more M so that MV doesn't shrink.

Which is one way of describing what QE was and is. The Bank of England makes up some more money and goes and buys stuff with it. Simple because it has made more M0, thus MV is larger than it would be if V fell but there was no increase in M.

All of which is great. But there will come a time when V returns to something like normal. and what we don't want to have is some great overhang of M which when timesed by that now resurgent V leads to massive increases in P - because it won't turn up as Q rising 20% a year, that's for sure. That's where the so far at least unmet predictions of QE causing galloping inflation come from. It presupposes that V returns to normal, of which there's no sign yet. Or, as Heath worries, perhaps there is:

Lilico provides context for this. The 14.7pc rate of increase is a new record for this statistical series, launched in 2009. Looking at an earlier and closely comparable statistical series, the strongest rate of growth in recent history was in 2006, at the height of the pre-crash madness, when the money supply surged by 12.8pc, a jump now widely understood to have been scandalously out of control.

There are other possible explanations for this. But the above is, while a scandalously simplified explanation, a possible one. Our whole aim in doing QE was to protect the economy against that fall in V. The reason it was QE rather than going out and spending the cash is because we wanted to be able to reverse the increase in the money supply (and QE has increased M0 a number of times, it's not just a small percentage increase) if, as and or when, V recovered to more normal levels.

Thus, if V has or is recovering in order to avoid that galloping increase in P we will want to reduce M. That is, reverse QE. The Bank of England will, assuming that this is the right explanation of course, sell the gilts they have and cancel the money they collect from doing so. Or, perhaps, simply not replace maturing gilts as they currently do, thus reducing their stock of gilts over time - this will have the same effect on M as the government will have to issue new gilts to the public to replace those maturing that the Bank holds. 

That is, if the money supply is booming because matters monetary are getting back to normal then the answer is for matters monetary to get back to normal. QE was a response to extraordinary times and if they're leaving the stage then so should QE.


Just what is the problem with grammar schools?

We find the current furore over grammar schools to be puzzling, difficult to understand.

Take this in the Observer. They note, correctly, that Upper Bavaria has an astonishingly low youth unemployment rate of only 3.4%. They credit, correctly, the education system:

Germany’s much-admired dual education system (in which apprentices are trained jointly by employers and at specialist vocational schools) has grown in Upper Bavaria, not because it was seen as the more responsible thing to do, but because companies, unable to “buy in” a fully trained-up workforce, often had to mould the workers they needed themselves.

That education system is dual in another manner too:

 The Gymnasium is designed to prepare pupils for higher education and finishes with the final examination Abitur, after grade 12, mostly year 13. The Realschule has a broader range of emphasis for intermediate pupils and finishes with the final examination Mittlere Reife, after grade 10; the Hauptschule prepares pupils for vocational education and finishes with the final examinationHauptschulabschluss, after grade 9 and the Realschulabschluss after grade 10.

Perhaps not dual then but there's a definite separation into academic and vocational streams - streams which go to different schools. And this is a much-admired system which leads to a 3.4% youth unemployment rate.

Yet mention grammars in Britain, the equivalent of those gymnasium (and common across much of central Europe too) and we are discussing the very devil, encouraging the destruction of all that is good and holy in our society.

We don't understand it. Our assumption is that it must have something to do with left wing politics - we find that's the usual explanation for beliefs entirely at variance with reality.