Knowing and Making

Sorry, I couldn't resist the title. If you'd like to meet Greg Mankiw in person, just head over to the ASSA (Allied Social Science Associations) meeting next week and sign up for his discussion on economic policy . More to the point, the American Economics Association conference is also taking place at the same time. You can get an interesting insight into the concerns and priorities of the discipline by running some keyword searches on the preliminary programme, which is available here . Some topics of interest to me: cognitive : appears 12 times, though mostly related to cognitive and noncognitive skills, particularly with relevance to the labour market. There is one mention of cognitive biases and one of cognitive economics  - which highlights a study called CogEcon of which I wasn't aware. Again though, it appears to mainly focus on a cognitive skills measure for Americans over 50, rather than a more general exploration of how cognition affects economic behaviour...

Some recent interesting articles: A Physicist Turns the City Into an Equation is a description of an ambitious project by Luis Bettencourt and Geoffrey West at the Santa Fe Institute to develop mathematical models of the behaviour of cities (and earlier, of the physiology of living organisms). They claim to have found some strong correlations in both cases. For instance, a city that doubles in size increases its productivity and economic activity per capita by 15%. And animals that grow larger become more efficient users of energy. However, it's not clear whether they have a real model which explains these phenomena, or just some statistical correlations. Paul Mason went to the LSE and conducted a whimsical interview with the ghost of John Maynard Keynes. As fits someone who changes his mind with the facts, he has grown out of Keynesianism and is seeking a new model which can handle fiat currencies and global finance. An excellent challenge. Another challenge comes from Tyl...

Some interesting research on banks, public guarantees and risk-taking (via the Alea blog ). The researchers use a natural experiment on German banks (some of whom lost the state guarantee on their deposits due to a court ruling in 2001). The research finds that these banks reduced the riskiness of their lending after the change (compared with a control group of other banks who didn't have a guarantee in the first place). This is what you would expect from conventional theory. But I wonder whether their conclusion is correct: "The results suggest that public guarantees may be associated with substantial moral hazard effects." An alternative view: perhaps banks without guarantees take less  risk than is socially optimal, and public guarantees partly correct for this effect. There are several reasons why this might be the case: Information asymmetry - the "market for lemons" argument. Businesses (and consumers) borrowing money have much more information abo...

This week's word cloud from the economics blogs. I generate a new one every Sunday, so please subscribe using RSS or the email box on the right and you'll get a message every week with the new cloud. The words moving up and down the chart are listed here . I summarise around four hundred blogs through their RSS feeds. Thanks in particular to the Palgrave Econolog who have an excellent database of economics blogs; I have also added a number of blogs that are not on their list. Contact me if you'd like to make sure yours is included too. I use Wordle to generate the image, the ROME RSS reader to download the RSS feeds, and Java software from Inon to process the data. You can also see the Java version in the Wordle gallery . If anyone would like a copy of the underlying data used to generate these clouds, or if you would like to see a version with consistent colour and typeface to make week-to-week comparison easier, please get in touch.

This week's word cloud from the economics blogs. I generate a new one every Sunday, so please subscribe using RSS or the email box on the right and you'll get a message every week with the new cloud. The words moving up and down the chart are listed here . I summarise around four hundred blogs through their RSS feeds. Thanks in particular to the Palgrave Econolog who have an excellent database of economics blogs; I have also added a number of blogs that are not on their list. Contact me if you'd like to make sure yours is included too. I use Wordle to generate the image, the ROME RSS reader to download the RSS feeds, and Java software from Inon to process the data. You can also see the Java version in the Wordle gallery . If anyone would like a copy of the underlying data used to generate these clouds, or if you would like to see a version with consistent colour and typeface to make week-to-week comparison easier, please get in touch.

The FSA is expected over the next few days to publish published yesterday its new rules on bank bonuses, broadly in line with the guidelines announced by CEBS, the pan-European committee of regulators. It's likely that, f From 1 January, banks will only be allowed to pay a third  40% of bonuses in cash, with the rest paid as deferred claims of one kind or another - debt, preference shares or equity - which can be drawn down over three to five years. This is meant to reduce the incentive for bankers to take risks: with a high proportion of their wealth tied up in the company they work for, they will want to ensure its survival. However, there are two questions it leaves open, as I just managed to squeeze in on Radio 5 this afternoon  before they decided the 6 o'clock news was more important. The first question is: do banks - and bankers - actually know whether their actions are risky? It certainly didn't seem that way in 2008. Investments in property that they thought...

A very strong article here (by Claire Hill, law professor at University of Minnesota) focusing on two principles: how people see the world, and how they value things. Perhaps I like the article because these two points align closely with my model of beliefs and values. The article is one of a number of contributions to Truth on the Market's behavioural economics symposium , but most of the others are entirely different in character to Hill's. The symposium is dominated by strong skepticism about behavioural economics and particularly its application by governments. It's interesting to see the strong feelings that this subject arouses. Among the various contributors there's a mix between resistance to regulation in general, dislike of the assumption of irrationality, insistence that regulators are just as irrational as citizens, and the assertion that people know their own preferences better than any well-meaning nanny-state regulator possibly could. Richard Thaler ...

[ Apologies to X-Factor fans: this article is about "one direction" towards a new model of macroeconomics, not about the band. But do feel free to stick around and join in the discussion. ] If you read nothing but Rajiv Sethi 's and Interfluidity 's blogs, and developed all the consequences of what they said, you'd get a spectacular career in economic research out of it. Fortunately, Mark Thoma reads them - as well as hundreds of others - and has a good commentary on a recent post of Rajiv's . I won't quote the whole thing, but here is the key message. Without the assumption of a representative agent - the idea that everyone in the economy behaves identically - current macroeconomic models can't work. But this assumption misses some of the key dynamics in the economy - the fact that some people borrow and others save; the fact that different people have different beliefs and preferences - which are fundamental to both why and how economic activity...

This week's word cloud from the economics blogs. I generate a new one every Sunday, so please subscribe using RSS or the email box on the right and you'll get a message every week with the new cloud. The words moving up and down the chart are listed here . This week, some interesting news: for the first time ever, tax is at the top of the rankings. This is especially notable as it outranks both of the common words "one" and "new" which invariably show up there. This has never happened before, with only "free" and "oil" reaching position 2 in November 2009 and June 2010 respectively. I summarise around four hundred blogs through their RSS feeds. Thanks in particular to the Palgrave Econolog who have an excellent database of economics blogs; I have also added a number of blogs that are not on their list. Contact me if you'd like to make sure yours is included too. I use Wordle to generate the image, the ROME RSS reader to down...

Me, very briefly, on BBC Radio 4's Moneybox ( http://www.bbc.co.uk/programmes/b006qjnv ). My bit is around 16:20, but do listen to the whole report by Ruth Alexander from 13:10 or so. The subject: the psychology of pound shops... I hadn't seen the Neurokuz blog before - Marginal Revolution links to a summary of an experiment on extrinsic versus intrinsic rewards. I'm rarely convinced that there's much to learn from neuroeconomic experiments, but this does show that by focusing purely on the single dimension of reward (presumably dopamine?) we can make cognitive or mind-level distinctions between people who outwardly behave the same. What does the price of a pint say about a pub ?

You may have heard this one before. At the end of an interesting BBC programme this evening ( The Foods That Make Billions ) a commentator suggested that the problem with modern capitalism is that it sustains itself by creating desires in consumers, instead of simply satisfying desires they already have. Is this true, and if so is it a bad thing? Certainly our preferences are not simple, static attributes, waiting in the back of our heads to be satisfied by the products we buy. Preferences - insofar as they even exist - are formed dynamically, influenced by biology, cognition, the environment and the social groups we are in. Would it be surprising if they were also influenced by people who sell products? To understand if that's a good thing, let's think through some of the things that happen in a consumer's mind. Not the rational consumer which generates stable continuous utility from consumption, but a real consumer with the cognitive patterns we see in actual people...

Paul Krugman in " Bourbon Economics " (and his commenter Peter von zur Muehlen ) complain that we've had new ideas for decades in macroeconomics, but they don't take hold. By 1988, it was already obvious that equilibrium business cycle theory had failed. Shiller had already circulated his devastating demonstration that asset prices were much too volatile to be explained by fundamentals...nothing happened. Real business cycle theory continued to prosper, developing an increasing stranglehold over the professional journals. Behavioral finance stayed on the margins. The equilibrium guys had learned nothing and forgotten nothing... Our problem, in short, isn’t lack of nifty new ideas; it’s the refusal of too many economists to face up to the fact that some of their preferred theories don’t work I sympathise - as an adherent and practitioner of behavioural finance, I could hardly not. But it's too easy to blame this on the establishment for not listening. And really, ...

This week's (inadvertently Declaration of Independence themed) word cloud from the economics blogs. I generate a new one every Sunday, so please subscribe using RSS or the email box on the right and you'll get a message every week with the new cloud. The words moving up and down the chart are listed here . I summarise around four hundred blogs through their RSS feeds. Thanks in particular to the Palgrave Econolog who have an excellent database of economics blogs; I have also added a number of blogs that are not on their list. Contact me if you'd like to make sure yours is included too. I use Wordle to generate the image, the ROME RSS reader to download the RSS feeds, and Java software from Inon to process the data. You can also see the Java version in the Wordle gallery . If anyone would like a copy of the underlying data used to generate these clouds, or if you would like to see a version with consistent colour and typeface to make week-to-week comparison easier,...

The BBC covers the potential for behaviour change projects to improve public health. The article mixes up a few different kinds of interventions, though: Classic nudge-style policies: changing defaults, trying to influence social norms. Incentive-based policies: shopping vouchers for dieters. Full-blown regulation: banning branded cigarette packages. The oddest thing about this confusion is the last sentence of the article: The mandatory wearing of seat belts and the introduction of the ban on smoking in public places are two examples where legislation fundamentally altered, and some would say restricted, the choices of individuals. Some would say ??? The last couple of months seem to have seen a surge in mainstream interest in behavioural economics, which is good news - but also quite a few misunderstandings about what it is. Some people understand it better, though - for example the OFT, which has carried out some behavioural experiments and released an interesting report ...

Despite Chris's warning , I went to Tim Worstall's book launch today. I even bought a copy which I will review on here when I have read it (on the bus tomorrow). But before that, I learned something nice from his answer to an audience question. Apparently, there's a clear relationship between GDP per head and population growth. We already know that people in poorer countries have more children, and the population of those countries grows faster. It seems that there's a measurable cut-off point: at $16,000 per head of GDP, fertility drops to around replacement rate (just over two children per mother) and the population stabilises. Which reminded me of another statistic I read recently: national happiness grows with GDP until a certain point, at which it levels off and people stop getting happier. That level? $17,000 per head *. Now perhaps there's something important in that $1,000 difference, but the two figures are within the margin of error for cross-coun...

Of course we are all just waiting for something really  exciting to come out of wikileaks. Everything so far is either predictable (Prince Andrew criticising the Serious Fraud Office investigation of British Aerospace) or predictable (the Saudi royal family don't like Iran). But in the meantime you can get some cute insights by reading between the lines. Here's my favourite of the day : IRANIAN SOURCE NAMES "U.K.-REGISTERED" COMPANY [ INSULTEC ] AS IRAN SANCTIONS-BUSTER 4. (S) Note: A quick google check revealed several companies with the name INSULTEC in the title - these may or not be affiliated. Based on the information provided by source (currently in Iran, where he frequently travels), one possible candidate could be "INSULTEC Chitral Ltd." I'm not sure if Google is the only authorised resource for US diplomats to find information, but "INSULTEC Chitral" returns nothing on Google apart from links to this wikileaks document. The surp...

I'd guess that most of us are relatively happy to pay more to fly on or around a holiday than at other times. I'm sure those who flew home for Thanksgiving or are planning to do so at Christmas did not expect to get the same price as they would for a Wednesday afternoon in October. Which makes this story  (FT, may need subscription) slightly surprising: India’s government has warned domestic airlines that it intends to crack down on “predatory pricing” after carriers sharply increased fares on popular routes during a recent festival, as overall passenger traffic surges. Indian travellers were outraged during the recent festival of Diwali – Hinduism’s biggest gift-giving holiday – when some carriers charged about Rs25,000 ($550) for a last-minute Delhi-Bombay round trip ticket, a route on which fares usually range from Rs10,000-Rs15,000. The price lift here is substantial (60-100%) but reasonably typical of the uplift on flights or train tickets in the UK market. Is it a si...

Rising German bond yields over the week since the Irish bailout have been interpreted ( here  and here ) as an increase in default risk to the German government. But surely there is another "risk" much more likely to explain this increase. And that is the simple risk of inflation. The Irish bailout must make inflation more likely - through one of two routes. One : ECB liquidity support, i.e. lending to Irish and other banks, might not be repaid - which will result in an effective increase in money supply unless the ECB then tightens monetary policy to reduce it, which would be politically quite difficult. The ECB lending is secured on bank assets, but we know that those assets might not be worth 100% of their nominal value. So in the case of a bank default, the ECB has printed a billion euros to buy an asset which repays less than a billion euros of principal. Two : monetary policy may be deliberately loosened, either to help reduce the pressure on sovereign borrower...

This week's word cloud from the economics blogs. I generate a new one every Sunday, so please subscribe using RSS or the email box on the right and you'll get a message every week with the new cloud. The words moving up and down the chart are listed here (this link may be temporarily down due to a server move - should be back within a couple of days). I summarise around four hundred blogs through their RSS feeds. Thanks in particular to the Palgrave Econolog who have an excellent database of economics blogs; I have also added a number of blogs that are not on their list. Contact me if you'd like to make sure yours is included too. I use Wordle to generate the image, the ROME RSS reader to download the RSS feeds, and Java software from Inon to process the data. You can also see the Java version in the Wordle gallery . If anyone would like a copy of the underlying data used to generate these clouds, or if you would like to see a version with consistent colour and t...

An article in BusinessWeek about the success of Amazon Prime contains this interesting revelation: One challenge was selecting the annual fee for the service; there were no clear financial models because no one knew how many customers would join or how it would affect their purchasing habits. The team ultimately went with $79 mainly because it's a prime number. We see this problem a lot with our clients - new product or service launches are one of the main occasions when people hire us for pricing advice. But I have never yet seen anyone argue for a price level because of whether it factorises! Other interesting points: Amazon Prime in the UK costs £49 (not a prime number) and is one of the few items that is cheaper  in the UK than the US. It also provides next-working-day delivery in most cases, rather than the two-day US service. But then, the UK is a smaller place and perhaps delivery services are cheaper in general here. Finally, a funny quote from, of all people, a profe...

Bruce Schneier ( via Farnam Street ) makes the by-now-unoriginal observation * that: ...we pick a defense, and then the terrorists look at our defense and pick an attack designed to get around it. Our security measures only work if we happen to guess the plot correctly. If we get it wrong, we’ve wasted our money. This isn’t security; it’s security theater. Probably true. But then, terrorism isn't exactly "real" either: by design, it's a theatrical exercise too. Or perhaps a reality TV show. The clue is in the name - terrorism isn't designed to kill people, it's designed to make them scared . Thus, if we design this game for terrorists to play, they can win it just by smuggling a bomb through the security measures, regardless of whether it goes off. Notice that all the recently-discovered terrorist plots - the shoe bomber, the underpants bomber, the soft-drinks bomber, the printer-ink bomber - have failed? If the goal is simply to make us worry, make us r...

Those who defend rational expectations have some explaining to do, in the face of data like this : ...six in ten Americans think most of the money spent to rescue banks will be lost forever. Six in ten think the economy shrunk over the past year. One in two think federal income taxes have gone up in the past two years. Wrong. Wrong. And wrong. In theory, it would still be possible for rich, sophisticated arbitrageurs to bet against the public in all these areas, and thus bring the overall path of markets back in line with the predictions of any given model. But most of the wealth of the economy is (directly or indirectly) under the control of the people who have these wrong impressions; so I think it unlikely that rational expectations can effectively operate. Especially since the errors are not random, but systematic; Derek Thompson in the article above has five explanations for why this might be. David Laibson gave a fascinating talk on this topic at the Geary Institute on Tuesda...

Robert Peston inadvertently highlights a common journalistic trap today - a trap laid for them by a frequent and annoying habit of economists. David Walker, author of last year's Walker Review on bank governance ,  has written in the FT that: "[A]ny attempt to require banded disclosure for UK banks in isolation would be commercially sensitive vis à vis their non-disclosing competitors elsewhere. It could also stimulate higher executive turnover, and (as a perverse unintended consequence) lead to higher remuneration as a defensive retention measure." [emphasis mine] What exactly do "could" and "would" mean in this context? They have a very specific meaning in economist rhetoric. Would means: is guaranteed to have the following effect on an unobservable variable . Note that Walker can confidently state that this is "commercially sensitive" because there's no way to measure, confirm or deny whether that is the case. Could means...

This week's word cloud from the economics blogs. I generate a new one every Sunday, so please subscribe using RSS or the email box on the right and you'll get a message every week with the new cloud. The words moving up and down the chart are listed here . I summarise around four hundred blogs through their RSS feeds. Thanks in particular to the Palgrave Econolog who have an excellent database of economics blogs; I have also added a number of blogs that are not on their list. Contact me if you'd like to make sure yours is included too. I use Wordle to generate the image, the ROME RSS reader to download the RSS feeds, and Java software from Inon to process the data. You can also see the Java version in the Wordle gallery . If anyone would like a copy of the underlying data used to generate these clouds, or if you would like to see a version with consistent colour and typeface to make week-to-week comparison easier, please get in touch.

DraftFCB's Institute of Decision Making is at the SJDM conference too, and tweeting on tag #SJDM if you want to keep up with some of the interesting research results in real time. Today's highlights for me were: Martin Hilbert of USC has built an information processing model which can potentially explain seven different cognitive biases. In the model, external signals are stored in memory; and then retrieved again when required to make a decision. Assume that the channels into and out of memory are subject to random noise, and then place the following two constraints on the noise: first, that there is less noise than signal (i.e. our beliefs are more likely to be close to reality than not) and second, that the noise is symmetrically distributed (unbiased). From these assumptions, we can derive Bayesian likelihood, placement bias, subadditivity, hard-easy, overconfidence and conservatism effects. Martin also predicts a seventh bias which has not yet been observed, which h...

In St Louis for the SJDM conference and the first event is a very interesting 2-hour precis of the career, contribution and personality of Sarah Lichtenstein. I hadn't realised she (and her long-term collaborator Paul Slovic) had such a critical influence on the development of the Judgment and Decision-Making field. I've come across her work before, of course - if you have read much in this field you are unlikely to have avoided her. But I often read and remember a result without taking note of who was responsible for it, and I've noted many of the key experiments and theories that she and Slovic carried out, without realising they all came from the same team. I'm not sure whether the tribute was due to some particular occasion or anniversary, but you'll be pleased to hear she is still alive and well, as is Slovic and the several other pivotal researchers who spoke about her work. Slovic, John Payne, Chris Hsee, Eric Johnson, Elke Weber, Robin Gregory, Ellen P...

Andrew Sullivan approvingly quotes Barry Eichengreen on Britain: [Britain] failed to develop a coherent policy response to the financial crisis of the 1930’s. Its political parties, rather than working together to address pressing economic problems, remained at each other’s throats. The country turned inward. Its politics grew fractious, its policies erratic, and its finances increasingly unstable. In short, Britain’s was a political, not an economic, failure. And that history, unfortunately, is all too pertinent to America’s fate. Now there's no doubt that Britain's political parties (once they got over six years of intensive cooperation during the war) did engage in a debate about how to run the country. Partly about its role in the world, but more importantly the nature and extent of the welfare state, the kind of industrial policy to follow, and how the education system and the country's infrastructure should be built. Its most important decision about its "role ...

I'm attending the SJDM conference in St Louis this weekend; and will be in New York from Wednesday afternoon until Friday afternoon. I would quite enjoy meeting and chatting with any US-based readers, either in NYC or at the conference. If you fancy meeting up, post a comment here or email me.

This week's word cloud from the economics blogs. I generate a new one every Sunday, so please subscribe using RSS or the email box on the right and you'll get a message every week with the new cloud. The words moving up and down the chart are listed here . I summarise around four hundred blogs through their RSS feeds. Thanks in particular to the Palgrave Econolog who have an excellent database of economics blogs; I have also added a number of blogs that are not on their list. Contact me if you'd like to make sure yours is included too. I use Wordle to generate the image, the ROME RSS reader to download the RSS feeds, and Java software from Inon to process the data. You can also see the Java version in the Wordle gallery . If anyone would like a copy of the underlying data used to generate these clouds, or if you would like to see a version with consistent colour and typeface to make week-to-week comparison easier, please get in touch.

I thought I'd seen it all. But no. Commenter "zadok" on Robert Peston's blog has discovered the real  culprits behind Britain's economic malaise. From comment 5 on " Can the UK close massive deficit with China? ": The english ( anglo saxons ) are the most inventive people in the world but unfortunately,like everything,the normans highjacked their flair and trashed it. (Punctuation and spelling in the original) I have seen the Americans blamed; the Labour government; the Tory government; the Chinese; the rich; the middle class; the unemployed; the banks; the EU, the IMF, the World Bank, the capitalists, the socialists, the communists, and even the behavioural economists. But it never occurred to me that it could have been...the Normans .

The Wall Street Journal's RTE blog (via Paul Krugman) has been spluttering about being misrepresented by Sarah Palin. RTE criticised her for saying "everyone who ever goes out shopping for groceries knows that prices have risen significantly over the past year or so". In fact, RTE pointed out, inflation in food prices has been at a record low this year, of just 0.6%. General inflation is also low, at 1.1%. Palin - and I have to give her credit for this - responded quite cleverly to RTE by citing the Wall Street Journal itself, which said in an article last week : "an inflationary tide is beginning to ripple through America’s supermarkets and restaurants…Prices of staples including milk, beef, coffee, cocoa and sugar have risen sharply in recent months" RTE correctly points out the facts of the matter: beef is up, but bananas are cheaper; producer prices are up but retailers have not yet passed them on; the catering industry is increasing quality and offeri...

A surprising article on the BBC today, explaining How to get off a busy train . I guess the BBC does have an educational mission. But however obvious getting off a train might be, reading the article prompted a few ideas. The article is mainly about how passengers should behave, but acknowledges the role of the train's design in influencing that behaviour. And some of those design choices are very reminiscent of the "choice architecture" discipline we know from books like Nudge. But this is a problem we wouldn't normally associate with economics at all. It's a product design - or even an architecture - question. So is the domain of Nudge really economics? Or is it in fact design, ergonomics or something else? The stuff of economics is normally about how we allocate our wealth and material resources; about how we respond to incentives; how we trade and deploy limited amounts of capital and labour to produce maximum utility. Design problems, on the other han...