Knowing and Making

Profitable and not-at-all exploitative recommendations for transport and accommodation providers seeking to make the best of this week's Icelandic volcano: Create a steep demand curve for your tickets but start low. If you simply ramp up the prices of your train tickets, ferry berths or car rentals, you'll be accused of price gouging. Short-term gain but long-term hit to reputation. Instead, sell the first few tickets at the same price as you normally would, so that you can claim not to be exploiting anyone, but as your capacity fills, increase price steeply. I suspect this is what Eurostar is doing, but they're still being criticised for exploitation - so the next tip is: Make a big noise about how you're contributing to the rescue effort. We're all in this together you know, it's the Dunkirk spirit and all that. You're laying on extra  buses, trains and ships - and while you need to ask a fair price to help cover your costs, you're saving people hu...

I went to a very interesting speech by Frances Dickens of Astus on Wednesday. She runs a company which acts as a barter exchange between other firms. She started out describing the business model (eliding a few intriguing things which we were obviously meant to know already - such as the fact that the barter is always backed by spare media space, usually TV inventory). By the end I felt like I'd been listening to a monetary economist talking about the founding of a new central bank. So many of the issues confronting them are exactly like the issues faced by a currency issuer (which, after all, they are, kind of): Is the currency backed by anything? Previous barter companies have failed because they issued promises with no capital behind them, and the promises were quickly devalued Network effects - now that they are the market leader and the majority of companies use their "currency" by default, they have a hugely defensible position Reputation and credibility -...

In an intriguing example of pricing an externality, Barack Obama has announced a plan to tax American banks based on their reliance on the wholesale finance markets. On a related subject, Nick Rowe has a neat analysis of finance as magic - the magic of borrowing short and lending long, sharing risk and creating liquidity. To make this magic work in a more stable fashion, it's understandable that governments would want to encourage banks to move from wholesale to deposit finance. Assuming it works, what are the effects of this move likely to be? The coordination game between multiple owners of capital will work better, for two reasons. First, because no individual will have as much power as they do now. Second, because the more finance is provided by millions of depositors (instead of a few hundred managers of wholesale capital) the more statistically predictable their behaviour is likely to be. Even when there are herd changes in depositor behaviour, the movement of a larger...

If you have clicked onto this article just from reading the title, then I may disappoint you slightly. I am not (yet) going to propound a behavioural theory of money, though I think there's one coming in the future. But I will point to a couple of results which may indicate where to get one. The first is a quote from John Moore and Nobu Kiyotaki of LSE, in the beautifully titled lecture Evil Is The Root Of All Money . "Money is the medium of exchange. Notice that for this argument to hold together, there has to be a set of mutually-sustaining beliefs, stretching off to infinity. I was willing to hold money yesterday because I believed the dentist would accept it today. She is willing to hold money today because she believes someone else will accept it tomorrow. And so on. If there were a known end-point to history, the entire structure of beliefs would collapse back from the end." This, as they point out, is the conventional view among microeconomists about the existence ...

Robert Peston's column today got me thinking on a tangent. If the state incurs liabilities (let's say while rescuing banks), there are a few ways it can pay them off. One is by selling assets that it acquires along with the liabilities. For example, if it acquires a 70% stake in Royal Bank of Scotland, it can sell it into the private sector for (let's say) £20 billion. This might offset some or all of the liabilities it has covered. Another is by increasing taxes. In one sense, this is exactly the same as selling assets: it takes money from the private sector into the public sector. The difference is in the distribution. When selling assets, the money comes from those people who choose to buy the assets. When taxing, the money can come from whoever you like. A third is by walking away. After all, the state's liabilities are unenforceable except by the state itself. Thus the state can simply ignore its liabilities (as Argentina did a few years ago, and most developed ec...

Models and Agents hints at the Fed increasing the interest rate it pays on banks' excess reserves. Is that a good idea? Given that banks seem to be building up those reserves instead of lending them out, paying more (or any) interest would just encourage them. Instead, I suggest a small tweak in the other direction. Charge banks a negative interest rate to hold their reserves - even as small as 0.1%. While rational calculation implies that the difference between 0 and -0.1 is virtually no difference at all, the real world doesn't necessarily work that way. Behavioural experiments clearly show a phenomenon called loss aversion  where people are asymmetric in their valuation of profits and losses. They will typically give up twice as much to prevent a £1 loss as they would to make a £1 profit. In this case, I would bet that loss aversion will kick in and encourage the banks to lend into the private sector instead of having their money drain away to the central bank. Even if ban...

While the amount of net debt across the world is always zero , the amount of gross debt is not. And gross debt has reduced substantially in the last year as firms and consumers are deleveraging. An interesting post from Steve Waldman at Interfluidity praises this trend. I'm not convinced by his conclusion but he does contribute something rarely visible in economics commentary - a good philosophical understanding of what debt is. "Credit, also known as debt, is one of several arrangements by which a party with the power to command resources but lacking aptitude or interest in managing a productive enterprise delegates wealth to another party who is capable of creating value but unable to command sufficient resources." I would put it slightly more generally: Debt is a promise to give resources to another party in the future . On this view, the gross amount of debt in the world is a representation of the number of promises we have made to each other. A promise is a restrict...