Friday, 30 July 2010

Ending the land cycle - or the mortgage cycle

Martin Wolf has an intriguing proposal to "end the land cycle" - by which he means: make sure that any future rise in the value of land goes to society rather than the individual landowner.

This argument has three parts. First, he makes a moral case that increases in land value are largely a function of external effects - increasing population density and infrastructure investments - and therefore why should the current occupier of the land capture all the benefits? Second, a practical case that the current system has stymied productive new development - because it's easier and cheaper for landowners to get a return by reducing the competitive supply of new housing (through the planning system) than by investing in new infrastructure which benefits everyone.

Third, the current system of land ownership through debt is one big casino: buyers borrow money in order to put a bet on the Ponzi game continuing. When it does not, the losses are shoved onto two groups of people who were unprepared for it: recent buyers, many of whom were seduced into buying by the self-serving anecdotes of previous buyers, and now lose all their equity; and taxpayers, who may have known about it but have no choice but to bail out the speculators. Caught in the crossfire is the rest of the economy - productive businesses and consumers - who may want to borrow money for non-speculative purposes, but with the system temporarily broken, can't. Thus, while the economy adjusts: a major recession.

It's a very striking article but I am not sure how he would implement the proposal. Only a massive political change could allow this to happen. However, a more modest version of the proposal might have a chance - and would provide much more macroeconomic stability.

Imagine that, instead of borrowing a fixed nominal amount of debt to buy a house, you co-invested with the bank in the house's equity. The bank would provide money and receive an equity share in the value of the house, and you would receive the balance.

Over time you'd pay rent to the bank on their share (instead of interest), and buy out their equity stake (instead of capital repayments).

This would make the bank a genuine partner with a stake in the success of your housing "enterprise". Banks would gain when property prices rise and lose when they fall - as they do now - but without all the discontinuous disruptions of debt-related bankruptcy and default.

The risks faced by banks would not be eliminated, but they would change. Banks would not see the same sudden reversals in the values of leveraged assets - the assets would become less volatile but would rise and fall with the state of the economy.

The risks faced by householders would change too. As your house becomes more valuable it would become more expensive to buy pieces of it from the bank - so perhaps you would slow your equity purchases to keep your monthly expenditure constant. Probably householders would have some options over how quickly or slowly they acquire equity from the bank.

In order to value the equity each month when it is purchased, banks and householders would agree a way to estimate the value of a house without selling it. This could simply involve uprating the purchase price by the increment in a general house price index (like Case-Shiller), or could involve revaluing it occasionally. In some places with very illiquid markets, where frequent revaluation is impractical, you might stick with the old-fashioned nominal debt mortgage.

One of the benefits of debt over equity is that it puts the valuation risk in the hands of the asset owner - who is presumably in a better position to value it accurately than the bank. This is also why banks don't typically make equity investments in companies. So it may be that a mixed model is best, with some debt and some equity - smoothing out the risks for both homeowners and banks, but still putting responsibility on the homeowner to pay a fair price for the property.

The capital structure of banks and mortgage debt would change too. Instead of highly leveraged fixed-income bonds, mortgages would become more like equity instruments. The backing of these instruments by real property assets would substitute for the role of bank capital and reserves, so - if appropriate regulatory adjustments were made - banks would not suddenly need to hold much more capital. In a sense, the homeowner might become a co-investor in the bank. Indeed, this indicates that the model might be more suitable for building societies and mutually owned credit unions than banks.

It's not clear exactly how this would work out in the long term - so why not try a pilot? A bank who's
interested in exploring this could offer it a a product (perhaps slightly subsidised) to a hundred new housebuyers at random across the UK. After five years we'd have a good idea of how it works and if it's workable, the idea would spread further.

Trials of innovative financial products have positive externalities - a theme I have been exploring in my posts about asset diversity and correlations - so maybe someone nice in the Bank of England might like to sponsor an experiment like this. Or the FSA. I know I have at least one or two occasional readers from there, so over to you guys.

Sunday, 25 July 2010

The economics zeitgeist, 25 July 2010

This week's word cloud from the economics blogs. I generate a new cloud every Sunday, so please subscribe using the RSS or email box on the right and you'll get a message every week with the new cloud.

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.

Friday, 23 July 2010

High-speed recovery in the UK

The UK grew at an unexpectedly strong 1.1% rate in the second quarter, according to the ONS.

Unexpected to the consensus of economists, that is - some of us are not so surprised. It has seemed clear - anecdotally, but from a wide range of conversations - that the economy has been fairly strong in the last few months - and with unexpectedly low growth in Q1, a rebound was already likely to show up the Q2 figures.

This means that over the last year, the economy has grown by 1.6% - including a quarter of negative growth in 2009 Q3. If this quarter's rate is sustained - which it probably won't be - we will have almost 3% growth from October 2009 to September 2010. Even if it falls back to 0.7%, we will still have achieved a 2.5% growth rate.

Despite George Osborne's sheepish attempts to take the credit - you can just tell that he knows better - this is a clear vindication of the last government's policies. Or rather, as Chris Dillow hints, it vindicates the last government's decision to keep their hands off the economy's automatic built-in stabilisers. Osborne has had the sense at least to delay the planned VAT increase until 2011, so consumption will have a chance to keep growing throughout the rest of this year.

Scott Sumner's favoured measure, nominal GDP, seems to have increased by approximately 6% in the last year, but we'll get a more precise figure later - the nominal figures aren't included in the ONS data release but I have inferred them from here and the linked data source. If this is true, it's a good number (though an extra couple of percent wouldn't hurt). Liberal Conspiracy thinks the government is planning to push up inflation to help solve its debt problems - if so, the economy would probably get a boost too.

The growth figure is good news in itself, but the best outcome would be if it improves people's expectations of future economic growth. There has been lots of (mostly sarcastic) talk about the confidence fairy recently. But expectations of future growth do affect current investment, and therefore future growth. Krugman's mainly criticises the "austerity claim" - the idea that cuts in government spending will themselves boost confidence. He is correct to cast doubt on this, but confidence is still an important factor in the economy and it will - I hope - be helped by today's figures.

The impact on confidence and expectations, unfortunately, is hard to predict. We don't really know how expectations are formed or how much evidence of growth people need before they believe it. See yesterday's post about rational expectations for some more caveats on this whole area.

Thursday, 22 July 2010

Rational expectations - is it real?

One of the big divisions in macroeconomics is the idea of rational expectations theory. This is the proposition that people behave as if they have a perfect prediction of the economy's future path, and therefore they collectively fulfil that prediction. This idea is used by some to claim that government borrowing cannot boost the economy because people will reduce spending to pay the future taxes they expect to incur; and by others to propose that price or NGDP level targeting must work, because people will act as if the target will be met and therefore - in a self-fulfilling equilibrium - the target will be met!

While there must be some truth in the idea, there are three main points where it may fail:
  1. Psychologically, people do not act consistently with their rational prediction of the future. People are often over or underconfident even when they make an accurate prediction of future outcomes.
  2. Often there is no single stable future path to the economy. Economic growth is dependent on other people's actions - because investments and purchases have externalities. Therefore, it may not be possible to determine a stable rational expectation for the economy without coordinating your actions with other people.
  3. Different people have different prediction horizons. Especially, the lower one's income the more liquidity constraint one suffers; and the less one can afford to take into account the future path of taxes, inflation or national debt. Therefore a full rational expectations model will break down because the short-term behaviour of the economy is likely to be stronger or weaker than its long term.
In addition, we can surely expect economic actors to learn over time. One reason that Keynesian deficit spending may have appeared to work from the 1930s to 1950s but fail by the 1970s is that people learned of the existence of inflation, and started to demand pay rises to match it. Prior to the 20th century inflation barely existed. Even until the 1950s - outside of Weimar Germany and a few other special cases - significant inflation was not considered an important risk. Now it's a basic part of all macroeconomic calculations.

Rational expectations, therefore, are only likely to account for the phenomena that we have learned so far. What new phenomena might lurk in our future?

I will explore the psychological basis of, and challenges to, rational expectations in a more detailed post soon.

Tuesday, 20 July 2010

Behavioural economists against nudging

George Loewenstein and Peter Ubel have betrayed the behavioural economics creed by suggesting that "the field has its limits" and "insights from behavioral economics are unlikely to have a major impact on health care costs".

Surely they know that it's the job of all card-carrying behavioural acolytes to promote "the behavioural economics revolution"? The New York Times has bought into it, university courses are covering "Behavioral Economics, a revolution which began c.1960", the Harvard Business Review has told us "How Behavioural Economics can Help Cure the Healthcare Crisis" and journals are promoting "the behavioural revolution" which began in the late 1980s.

I know you won't quibble over the fact that this revolution is supposed to have taken place - depending on who you read - anywhere between 1950 and 2005. Or whether the revolution is in behavioural science, economics or finance. It's our job to tell people that rational economics has been overthrown and nobody will ever believe in the neoclassical model again.

So what are Loewenstein and Ubel playing at? Just because they're two of the leading behavioural economists in the world (indeed Loewenstein is my all-time favourite - the Michael Schumacher of cognition). Do they think that they are going to enhance their reputation by trashing Richard Thaler's?

Just because Tyler Cowen agrees with something doesn't make it true (though admittedly, that's not a bad guideline). Just because Tim Harford asks whether behavioural economics is a big deal doesn't mean anyone is allowed to. Just because a commenter at the Guardian says "there is nothing new about behavioural economics" does not license an actual behavioural economist to say the same thing.

I propose that Loewenstein be suspended from the Union of Behavioural Evangelists and Lackeys (UBEL) and that we institute an emergency PR campaign to promote behavioural economics as the One True Science of all living organisms, social interactions and, for that matter, philosophy, physics and literature too.

(or we could just get it in perspective and keep on improving our models bit by bit. Stay on the line and I'll let you know the official policy soon)

Sunday, 18 July 2010

The economics zeitgeist, 18 July 2010


This week's word cloud from the economics blogs. I generate a new cloud every Sunday, so please subscribe using the RSS or email box on the right and you'll get a message every week with the new cloud.

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.

Tuesday, 13 July 2010

Foxconn and the suicides

You have probably heard about the recent suicide of a tenth worker at Foxconn, the manufacturer of iPhones and some other Apple products.

When I heard this story (not long after the report of the ninth suicide) my immediate thought was: OK, how significant is this? How many people actually work there?

Now it turns out that was exactly the right thought. They have about 800,000 employees. Ten suicides therefore, sad as it is, is 1.25 suicides per 100,000 of population. This would place Foxconn among the lowest-ranked countries in the world for suicides - lower than any developed nation and less than a twentieth of the rate in Japan or Lithuania. Typical rates in most countries are about 10, meaning a Foxconn employee is eight times less likely to commit suicide than in Europe or America.

Most strikingly, non-Foxconn employees in China are eleven times more likely to kill themselves than Foxconn employees!

Looking into it further, there are some details which slightly modify this argument: the suicides are, according to some reports, all at the same plant in in Longhua - however, even if correct, there are still 300,000 people working at this plant. Also, the deaths are all apparently in a six month period and not a year. The argument is still true, though the relevant rate is now 6 per 100,000 rather than 1.25. Still well below average.

Even newspapers which have looked into the statistics - for example this Guardian article - haven't bothered to draw the obvious conclusion: this is not an unusual pattern, nor is there any reason to interpret it as a condemnation of Foxconn's working conditions.

Other stuff: the shocked tone of "workers are forced to labour for 60 hours a week to earn an income" shows a plain misunderstanding of labour patterns. Chinese industrial workers regularly work 60 hours a week, just as British or American workers did in the 1920s - and as many even choose to do today. These numbers are falling fast, and are much less onerous than suffered by the people working on subsistence farms who have not chosen to move to a factory town.

[A similar point is made by Patrick Mattimore, via Tom Foremski at zdnet]

Monday, 12 July 2010

Five things I'm thinking right now

I found a meme from some game designer friends and acquaintances who have posted "Five things I'm thinking right now": Alice, Dan, Kim and dwlt [Update: Also Ian, Matt, Ben and Hilary]. I've deliberately not read their lists yet, so as not to bias my own thoughts.

  1. Another three hours of TV tonight - all entertaining enough, some of it informative, and I can even justify half of it for work. But it is cognitively poisonous. It consumes the energy of attention that could have been channelled into some long-term objective. Thinking is quite hard work, and my curiosity means that silence calls me into thought. Therefore, I resist silence. TV, or even background music, occupies that curiosity with minor mental stimulations which prevent me having to actually think. They make life comfortable, but not constructive. In fact, I believe that TV, like twitter or Facebook, is literally addictive in exactly the same cognitive sense that cigarettes or alcohol are.
  2. I could have been asleep for two hours by now. Why have I wasted that rare chance?
  3. Mmm, beer. I don't even like Stella Artois but their adverts are very tempting.
  4. Why are Meg and Chris in Family Guy such cyphers? Especially Meg. The show isn't even really about Peter, for that matter. Brian and Stewie seem to be the only people we can identify with.
  5. I wonder how important it is that I post a new blog item every day. If this one's anything to go by, more important than posting anything good.

Right...

...er...

...now I've read their lists. I think I might have missed the point a bit. Well, it would be intellectually dishonest to rewrite history now, right? And come on guys, were you really thinking all those things right now when you wrote that post?

Anyway, editing this would take time and effort. Instead, I could just distract that curiosity impulse by reading some other people's blogs. Apparently I have not learned my lesson.

Sunday, 11 July 2010

The economics zeitgeist, 11 July 2010


This week's word cloud from the economics blogs. I generate a new cloud every Sunday, so please subscribe using the RSS or email box on the right and you'll get a message every week with the new cloud.

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.

How much management does the NHS need?

Andrew Lansley (he's the health secretary, in case you haven't learned all the names yet) is playing an old political trick on TV this morning. He claims to have found £1 billion of "bureaucracy" to cut - money which will be redirected to the "front line".

Of course everybody would support that...wouldn't they?

But what if he decided to fire 30,000 essential support staff and shift their workload onto hard-pressed GPs? Doesn't that sound like a terrible idea?

Of course it might be exactly the same thing. It's all in the framing. Frank Luntz wrote a revealing - and cynical - book, Words That Work, about how he and the politicians he advises control voter's emotional responses with the language they choose. "Bureaucracy" is a classic choice of word for conservatives; while those on the left might choose "public investment", "social spending", "public healthcare" or "efficiency improvements" to describe exactly the same thing.

Indeed, with that phrase "efficiency improvements" I'm revealing a little of my own thoughts about the subject. I was taken aback by Lansley's suggestion that bureaucrats were "standing in the way of doctors providing care". Surely not?

There are two kinds of non-clinical resource in the health service. One is the straightforward support resource: the people who make your appointments, clean the floor, publish the leaflets which give you public health advice, order new drugs or bandages, and administer the payroll of nurses and doctors. These people are all taking unproductive work away from clinically trained staff. That is, other things being equal, a good thing. There is an optimal level for this support resource which generates the maximum amount of healthcare for a given budget. In most industries, support resources of this kind are at least 25% of the total cost of production. In some high-tech, high-knowledge industries with strong network effects (such as software development) the optimal level of support resource may be as high as 90% of the total, with only 10% of people working on "pure" productive outputs.

I don't think this is what Lansley is complaining about - though he might think the proportion of support resources is too high. It's hard to get a figure because these resources are managed at PCT (primary care trust) or hospital level, not centrally. Presumably the Department of Health has some idea of the numbers, and Lansley will be attending to those in due course.

But the reference to "standing in the way of" indicates he's really talking about the other kind of non-clinical resource - what we might call "meta-clinical" staff. The job of these people is to influence, improve or control the decisions of individual medical workers.

From the context of the interview, it seems that this is what Lansley wants to cut. This desire links two separate concerns.

The first is how much money the central resource costs. In this document we get some clues as to how much that might be. 83% of revenue expenditure goes on primary care trusts. Thus 17% of resources (excluding capital) are spent centrally - and much of the control, coordination and prioritisation will happen here. That is a lot of money - about £11 billion - but is it worth it? What does it achieve?

This is at the heart of the second concern: Lansley does not want individual doctors' decisions to be restricted by central influence or control.

But why does this happen? It's not just a power grab by a bureaucracy which has been created for its own sake. This central influence includes:

  • education of doctors in the latest discoveries
  • distributing information to doctors to make them more effective - partly through IT infrastructure, partly through internal and external publications
  • tests of the effectiveness of different treatments
  • allocating limited resources among different treatments, different regions and different people
  • quality assurance and upholding patients' rights (for example through litigation)
  • and, controversially, deciding which drugs or treatments doctors are allowed to provide
Do these improvements and knowledge transfer improve the quality of outcomes for patients by more than spending the same 17% on more doctors and drugs? Or more precisely, would more or less central spending at the margin bring a net improvement? That question's hard to answer, but name-calling and stereotyping doesn't help.

The new government is more and more clearly drawing a distinction between modern right-wing and left-wing politics. The right focuses on the value of local and individual knowledge; while the left believes in the value of universal, central knowledge. Perhaps this is why people in the social sciences tend to be left wing: the whole project of social science is to provide universal explanations of how people are. Does the right believe that people are really more different from each other than the left does? Or do they, perhaps, fear that they are no longer in the majority - and will therefore fight more strongly for the freedom to follow a different path? Just as the left did in earlier years when their lifestyles were the ones at threat from majority rule.

Maybe I'm pushing a simple debate on healthcare efficiency a little too far...

Update: The FT has more details of Lansley's proposals.

Saturday, 10 July 2010

Vodafone's Catch-22 price plan

Called Vodafone today because they've just charged me £250 on one of my handsets. They mentioned a new price plan which is available now that my contract period is finished. £20/month for 900 minutes and an infinite number of texts. Pretty good considering that I just paid £250 for 900 minutes and a distinctly finite number of texts. So I asked to switch plans.

Should they have told me about this option - costing less than a tenth of what I was paying - without me having to ask for it? An interesting question, for a company claiming to provide the highest quality customer service of all the British mobile networks, but that's not what this post is about.

This post is about me remembering that my work mobile is on an old contract too, costing me about about £65 for much less than 900 minutes. So I asked to have that one switched to the £20/month deal too. And so the paradox started.

I haven't changed plans for about ten years on this one. I don't use it enough for the price to make a big difference, and I'm not too bothered about having the latest handset. But if I can save £40/month with no extra commitment, why not?

Well, here's why not. Because my existing plan is so old, Vodafone refuses to move me onto a new one! The customer rep - after asking in that recognisably puzzled tone of voice, "Hmm. Can I just put you on hold for a minute?" - claims that the system does not allow her to switch me onto any of their currently available plans.

Is this an attempt to get rid of customers who aren't interested in buying new handsets? Surely not, as I must have been fairly profitable for them over the years.

In fact, the answer must be simpler, more incompetent and a bit funnier too. There must be a business rule system in Vodafone's software which specifies which plans, under which contract conditions, can be moved to which new plan. And could the developers perhaps just have forgotten to set up rules for the 1999 price plans, assuming that surely nobody would have managed to avoid an upgrade for that long?

More likely, the permutations - given the complexity and number of different contracts they've introduced over the years - became overwhelming, and they made the pragmatic decision to leave such unusual cases to the manual intervention of the call centre staff. The flaw in this plan: they haven't given those staff the power to intervene.

So it comes down to this, in the words of their own customer service rep: Your plan is so old that it cannot be changed to a newer one. So, er, can I move onto a different plan so that this problem goes away? No, you can't move onto a new plan because you're not already on a new plan.

So Vodafone - a company that claims to be "at the forefront of mobile innovation"; whose "next generation technology opens up a whole new range of opportunities for customers" - in fact embodies the efficiency and absurdist logic of Catch-22's 1944 US Air Force. Maybe not surprising that this bleeding-edge leader in mobile technology has a history that stops in 2006.

Mobile companies are notorious for deliberately inventing complex contract plans to ensure that customers are unable to compare them on price. Sometimes, I suppose, complexity can bite them back. So I've taken the simplest available way out: I've requested a PAC so I can switch both handsets to a different network. Sometimes there's no point trying to negotiate with a machine.

And the funniest comment of the 28-minute conversation with a confused customer service rep? When I asked for that PAC: "But why would you want to leave us?"

Sunday, 4 July 2010

The economics zeitgeist, 4 July 2010

This week's word cloud from the economics blogs. I generate a new cloud every Sunday, so please subscribe using the RSS or email box on the right and you'll get a message every week with the new cloud.

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.

Thursday, 1 July 2010

Trust, news and the efficient markets hypothesis

I presented this paper today at the conference of the Cass Behavioural Finance Working Group.

In summary, it replaces the concept of "news" or "information" in the Efficient Markets Hypothesis with a model of beliefs, reflecting the idea that nobody in a market has objective, indisputable knowledge about anything, only beliefs of different levels of confidence.

Slides here; will tell you more later.