Chris Dillow's Blog, page 131

Ambition vs comparative advantage

Is there a trade-off between ambition and comparative advantage, implying one between mobility and efficiency?

I ask because I'm trying to resist calls from the office for me to appear in some videos, on the grounds that this is not where my comparative advantage lies; I'm not as telegenic as some of my colleagues. However, if I were the ambitious type eager to climb the greasy pole by pleasing management, I would accede to such requests even though my investment in them would be suboptimal from the organization's point of view.

In this sense, there's a trade-off between ambition and efficiency. Efficiency requires that round pegs go in round holes - that people do what their comparative advantage requires. But ambition might lead them to do other things. Esther McVey's ambition to become a politician rather than a perfectly good TV presenter, for example, has not noticeably improved the nation's well-being.

There are many other examples. The Peter principle says folk are promoted to their level of incompetence. The Dilbert principle says incompetents become bosses. In football, it's common for good coaches to become managers, often with mediocre effects. In several firms, the (mis)use of key performance indicators can encourage employees to become all-rounders, rather than specialize in what they're best at.  

There are two conditions necessary for this trade-off to occur.

First, that pay is attached to jobs, rather than to quality matches between skills and jobs. If you can earn more as a second-rate manager than a first-rate coder, you might prefer to become a boss.

Secondly - as Joao Ricardo Faria stresses in a nice paper (pdf), hirers must have imperfect information. This not only causes them to make bad hires, but - worse still - might cause biased hires. For example, if they appoint people who give off "competence cues", they'll tend to recruit the irrationally overconfident. Or if they prefer to hire people in their own image - say because they are easier to monitor - underlings will have an incentive to emulate the skills of existing managers, to the detriment of comparative advantage. Or risk-averse bosses might simply prefer the known mediocrity to the potential superstar.

Equally, there are (at least) two circumstances in which the ambition-efficiency trade-off will most manifest itself.

One if is there's a lack of competitive pressures. Gary Becker famously pointed out that uncompetitive markets allow bosses to discriminate against blacks or Jews. But equally, they allow bosses to hire favourites, or simply fail to drive out of the industry firms who put square pegs into round holes.

The other is if there's a lack of technical progress. As Faria points out, rapid technical change helps to identify good performers, as these understand and adapt better to new conditions.

Now, I don't say all this to suggest all this is a knockdown argument against hierarchical capitalism; there is a great deal of ruin in any nation, and it's not clear how widespread the trade-off is. I merely want to note that there is, potentially at least, a conflict between two principles of neoclassical economics - that people respond to incentives, and that people should specialize in what they are relatively least bad at. These two principles are consistent only under particular institutional conditions.

Who benefits from benefits?

In the "debate" about welfare benefits, there's one point which is underweighted but so obvious that I'm embarrassed to mention it - that some form of welfare is beneficial not just to its recipients, but to capitalists.

Rightists like to point out - correctly - that the burden of taxes doesn't necessarily fall upon those who nominally pay it: corporation tax, for example, is paid by workers and not just capitalists.

But just as there's tax incidence, so there is benefit incidence; the benefits of benefits don't flow merely to their nominal recipients.

Housing benefit, for example, helps to sustain high rents and so could well be renamed landlords benefit.

Similarly, unemployment benefit helps capitalists in several ways.

One arises simply from the circular flow of income. Because "scroungers" spend their benefits, they are in effect a state subsidy to Lidl and pound shops.

You might object that this subsidy is paid out of others' taxes, which depress demand. This isn't wholly true. Those taxes don't just reduce others' spending, but their savings too. For this reason, welfare benefits are a form of balanced budget multiplier, which helps to support demand.

In this sense, there is a Malthusian case for welfare benefits. I refer not to the Malthus of the Essay on Population, but the Malthus who feared that economies would suffer from deficient demand and so said: "It is necessary that a country with great powers of production should possess a body of consumers who are not themselves engaged in production."(He was thinking of aristocrats rather than White Dee, but the economics are much the same.)

For this reason, benefits are a form of automatic stabilizer; insofar as benefit spending rises in recessions, they help reduce economic volatility. This is especially important if monetary policy lacks reliable efficacy because we're near the zero bound, or if fiscal policy can't be used counter-cyclically, say because governments can't see recessions coming.

It might be no accident that in the era of a big welfare state, economic volatility has been lower than it was in the 19th C, when we had a minimal welfare state: for example, the standard deviation of annual GDP growth was 2.5pp between 1831 and 1914, compared to 1.9pp since 1946.

Insofar as businesses require certainty if they are to invest, welfare states help to give it them.

To see some other benefits of benefits, imagine we didn't have them. We'd then have higher crime, and even starvation, neither of which are in capitalists' interests. But we'd also see: more violent opposition to redundancy plans; less geographical mobility because people would want to stay close to family and friends who could support them in hard times; and people being loath to move into potentially good but insecure jobs. In all these ways, we'd see less labour mobility. You can therefore regard a welfare state as a subsidy to the creative destruction which is necessary for higher productivity.

Now, in saying all this I don't mean to say that all welfare states are in capitalists' interests: these advantages of a welfare state must be traded off against the costs of higher taxes and - if benefits are high - a reduced labour supply. It's just that some type of welfare states - even ones which give "handouts" to "scroungers" might be in capitalists' interests.

This helps explain something. The most vocal opposition to "generous" welfare benefits comes not from the voices of capital, but from pub bores and comedy villain Mick McManus-types. The CBI - which normally yaps a lot - is relatively quiet. There's a reason for this.  

"Politics" as wrestling

Last night, as on most Thursday nights, my Twitter timeline was full of tweets about something called Question Time. Which raised the question: do people pay too much attention to politics?

What I mean is that if folk were seriously interested in how the public realm should be governed you'd expect them to be also interested in social science and philosophy. But interest in these is weak relative to that in "politics". For example:

 - Books on such subjects sell relatively poorly; Why Nations Fail, despite an endorsement from the Prime Minister, is selling less than Health, Safety & Environment Test for Operatives & Specialists. And even good introductions to political philosphy don't reach the general reader.

 - There are no good regular social science programmes on TV - though there are on radio.

 - Social science blogs attract only a couple of thousand views per day from UK readers. And I've found that my domestic traffic tends to spike when I write more partisan pieces.

 - If someone were to use the basic language of social science and philosophy ("Bayesian", "Rawlsian", etc), on a programme like Question Time they'd be greeted with incomprehension. Ed Balls acquired a reputation as a pointy head for using the phrase "endogenous growth theory".

Interest in politics, then, seems much more widespread than interest in the social sciences. There is, I fear, a simple reason for this. People watch programmes like Question Time or the Big Benefits Row for much the same reason they'll watch the Liverpool-Arsenal game tomorrow - because they are tribal conflicts. Except that there'll be some skill on show tomorrow.

This in turn explains why such programmes feature the likes of Galloway, Starkey and other diseased effluvia rather than sociology professors. People watch them not to be informed or educated, but to have their egotistical prejudices massaged or to get a cheap sense of angry moral superiority. This is why the answers that are so often correct in politics - "I don't know" and "it does much matter" - are so rarely heard. Insofar as they do "learn" anything from such shows, they do so through a process of asymmetric Bayesianism, overweighting comments supportive of their prejudices (pdf) and disregarding ones which challenge them.

Question Time has much in common with the wrestling we used to watch in the 70s, with Katie Hopkins playing the Mick McManus role and lefties acting like the nans who'd hit him with their handbags.

This wouldn't be so bad if there were a distinction between post-serious "wrestling politics" and proper politics, based upon rational inquiry about evidence and values. But when policies are devised with a view to headlines and focus groups, this distinction risks being blurred. The problem with British democracy isn't so much the politicians as the voters.

What did tax cuts do?

I'm disappointed to see Tim Worstall falling for an old canard. He points out that the share of income tax paid by the top 1% has risen hugely since 1979-80 and infers: "Looks like lowering rates can indeed increase tax collected."

Post hoc ergo propter hoc, dear boy.

It's quite possible that the share of tax paid by the top 1% rose since the 1980s not because of Laffer curve-type incentive effects, but because some other processes have increased the share of incomes going to the richest 1%.

One of these was that high-paid jobs expanded because the financial sector grew faster the the rest of the economy: since 1990*, business services and finance has grown by 129% in real terms whilst overall GDP has risen 61%.

Another is that "superstar (pdf) effects" have increased in importance, such that top bosses, entertainers, lawyers and sportsmen can earn more now than they did in the 80s.

These processes might have been independent of the cut in top taxes by Nigella's dad in 1988. I say this because the share of incomes going to the top 1% seems to have grown faster between the mid-90s and mid-00s than it did in the few years immediately after Lawson's cut. Sure, incentive effects might work with a long lag - but the data are also consistent with the tax cut being independent of the things generating rising top incomes.

What's more, if higher top taxes did have incentive effects, they might have incentivized not genuine wealth creation, but rather rent-seeking activities which increased the share of the top 1% at the expense of others. Such activities include corporate downsizing, offshoring, lobbying and the introduction of power-biased technologies.

There's one big piece of evidence to suggest that what's happened since the mid-80s is an increased share for the top 1% rather than genuine wealth creation. It's that aggregate economic performance hasn't improved since the Lawson tax cut. I pointed out the other day that trend growth in GDP per capita hasn't changed since then. And I'd add that labour productivity has actually fallen. Since 1988Q2, GDP per hour has rise by 1.8% per year, compared to 2.5% per year between 1971 (when ONS data began) and 1988Q2.

Of course, you might argue that economic performance would have been worse, in the absence of the cut in top taxes. But it would be unwise for rightists to do so; it would imply that other Thatcher reforms either depressed growth or failed to improve it.

I say all this not to argue against top tax cuts, but merely to point out that you need much better evidence than a rise in the share of tax paid by the top 1% to justify them.

* Chosen because that's when ONS data begins.

Non-issues

Many people's first impression of Laurie Penny's piece on short hair has been to marvel at the ability of some feminists to see issues where none exist. But I suspect this habit is much more widespread. Many of what are widely thought to be important issues are really no such thing. For example:

 - Immigration. This is probably slightly good for the economy on average, albeit with slight costs at the bottom end of the labour market. And the social effects of it, whilst moot, could be good as well as bad.

 - The 50p top tax rate. Maybe this will raise a little revenue, maybe not. Maybe it'll slightly benefit the economy, maybe not. But it's unlikely to matter much.

 - Benefit fraud. Even if you concede that a large number of claimants are lazy and could find work, the aggregate sums involved are teeny - especially compared to the output lost as a result of the banking crisis.

For me, these are non-issues; you have to be a fact-free fanatic to claim with confidence that any of them will do massive damage. There are two reasons for this. One is that the economy and society are big and looseish networks and therefore in many ways resilient. It takes a hell of a lot to make a big difference to them. (And a lot of big changes in society arise from things which aren't much appreciated at the time.) The other is that well-being adapts to many shocks; it's stationary over the long-run. If society improves or degrades a little, we'll get used to it.

Equally, it's easy to see why people might over-inflate the importance of such issues. To take three possible reasons of (I suspect) many:

 - Selection effects. People enter the political class - not just professional politicians but journalists and activists too -  because they think that policy matters. The most vocal commentators are therefore selected to be biased towards over-estimating the importance of issues. This is reinforced by politicians exaggerating the differences between parties, and by the media trying to sell stories: "crisis" and "disaster" sell better than "cuts both ways" and "not much in it".

 - Statistical illiteracy. The Great British Public doesn't have a scooby-doo about statistics. This means they can't even ask the most important question of any number: is that a lot or a little? This breeds a sense of disproportion.

 - Ego and tribalism. The three issues I've picked (I think I could have added more) have something in common: they are bound up in questions of identity. Immigrants, "scroungers" and the rich are others.And others are threats to what Richard Sennett called our "purified identities."

Now, I don't say this to mean that all issues are unimportant. Given their strong correlations will low well-being, unemployment and poor mental health are big issues, as is global poverty. I'd add that concentrations of power are also an issue - not least because, as we saw with the banking crisis, they represent tight networks (pdf) which are potentially fragile. However, a lot of mainstream politics is just narcissistic navel-gazing. So a lot of those throwing stones at Ms Penny are doing so from glass houses. 

Taxes & Marxism

Chris thinks there's a case for higher taxes on the rich even if they raise no revenue. Jackart says this is Marxist.For me, though, the problem is the exact opposite - it's not Marxist at all.

Marx's beef with capitalism was not that capitalists paid too little tax. Instead, it was that capitalists had power over workers by virtue of capital being scarce and labour relatively abdundant. This power advantage enables capital as a class to exploit labour as a class, and to impose lousy working conditions - or, if you prefer, worse conditions upon workers than we'd see in more egalitarian forms of production.

However, I don't see that higher taxes are anything like sufficient to address these problems.

Chris is right to say that:

[The rich's] experience matters and shapes public policy, that of an unemployed teenager in the North East doesn’t: we need to shift the balance of voice in favour of the unemployed teenager and against the City trader.

But I don't see how a tax rise will solve this. Sure, it might at the margin reduce the ability of the rich to buy politicians. But this isn't the only (or even main) route through which capitalists exercise power. They do so partly because of our "disposition to admire, and almost to worship, the rich and the powerful", which causes us to fail to see that "The skills required to succeed within a spontaneous order are little connected to the skills needed to understand it.": how often does the BBC invite a businessmen to talk about the economy and economic policy as if he were an expert? And it's also because capitalists' control of investment allows them to appeal to "business confidence" to resist any policies they dislike.

Higher taxes won't solve these problems. Nor will they solve the fundamental problem that workers lack access to scarce capital. Indeed, if they cause an "investment strike" or migration of entrepreneurs, they might even worsen the capital scarcity.

By all means disagree with Chris, or agree with him. You cannot, however, call that piece Marxist. I fear Jackart is making the common rightist mistake of using Marxism to mean "really nasty leftism", when in fact Marxism is in many ways different from mere social democracy*.

There is, though, something in all this I find depressing. Marx thought that the overthrow of capitalism - which he saw as a liberating process - required not the intervention of a technocratic state, but rather the action of workers themselves: this is partly because, to him, the capitalist state was a "committee for managing the common affairs of the whole bourgeoisie". However, we have now lost the idea or even perhaps hope that workers can be political agents in themselves. It seems instead that political agency lies only with the rich or the state. And I for one lament this.

* Let's leave aside Jackart's belief that Marxism is "evil". Many Marxists opposed Stalinism, and paid a higher price for doing so than western cold warriors. The offer I made here stands: if he doesn't accuse me of liquidating the kulaks, I'll not accuse him of murdering Alan Turing.

Manufacturing's "demise"

Aditya Chakrabortty says UK manufacturing is in "demise". Tim Worstall says it ain't. Who's right?

It depends.

My chart shows manufacturing output since 1970. This shows that Tim is right in the sense that output is higher now than it was at any time before 1988. We're producing more now than we were in the 1960s or 70s, even though manufacturing jobs have halved since then.

However, in another sense Aditya is right. Output has actually fallen slightly since the late 80s; it's actually done even worse than agriculture in this time. This is not merely because we're comparing different points of the economic "cycle." At its low-point in 2009Q3, output was exactly the same as it was in at the low-point of the 1991 recession.

But of course, any comparison of two points is subject to sampling error. Maybe we've had some good luck in recent years, in which case the data overstates the fate of maufacturing. Or maybe we've had some bad, in which case it understates manufacturing's health.

We can measure this by estimating the standard error of trend growth rates. This tells us that in the last 25 years, trend growth has been zero per cent per year, with a standard error of 0.66 percentage points. So maybe Tim's right, maybe Aditya is.

Over the last 50 years, manufacturing output has grown by 0.7% per year, with a standard error of 0.6%. This means that although Tim is probably right over this period, there's a roughly 7-1 chance that Aditya is.

The point here is a simple one, but more familiar to scientists than partisans - that in noisy data even basic inferences are tricky.

Does this matter? I'm not sure. On the one hand, I'm not sure there's much to mourn in the decline of manufacturing jobs; very many of these were tedious, noisy and dangerous.

But on the other hand, perhaps we should worry about relative weakness in the production of internationally tradeable goods. Our large trade deficit is accompanied by a big general external deficit. And this could well be something to worry about, either because (when accompanied by high unemployment) it is a sign of a mismatch between demand and supply, or because it's a sign that domestic debt is rising.

Our parental inheritance

Philip Larkin's famous hypothesis - They fuck you up, your mum and dad.They may not mean to, but they do - has been corroborated by some recent happiness research, in two ways.

Andrew Clark and Emanuela D'Angelo show that our life satisfaction depends not just upon our own socioeconomic status, but also that of our parents. Other things equal, if two people have the same jobs and incomes, the one who is upwardly mobile is happier than the one who is in the same job as their parents.

This is probably because our parents' income acts as a reference group. Having rich parents raises our expectations and so makes us less content with a high income, whereas if you come form a poor home merely being able to pay the leccy bill without worry makes you happy.

But there's a second way in which our parents incomes affect our attitudes in adulthood, find Clark and D'Angelo. Our political attitudes, they find, "are some kind of weighted average of the individual’s own status and parents’ social status." Yes, richer people are more likely to vote Tory and oppose redistribution and state ownership. But for a given income, the upwardly mobile are more likely to be lefties. "Doing better than one’s parents makes individuals more favourable to redistribution and more pro-public sector", they say. This could be because people who have done well from poor homes are more aware that state education, welfare benefits and the NHS can help people prosper in later life; Caitlin Moran's columns seem to be about little else.

If we put these two findings together, say Clark and D'Angelo, the implication is that "greater upwards mobility should make for satisfied Left-wingers." Which might help explain why there's so little of it.

Why inequality matters

Will Wilkinson says "the level of inequality, taken in isolation, [is] completely useless as a barometer of social or economic justice." The Economist says economists "cannot advance positive reasons for what the right level of inequality is." I agree.  

Instead, we lefties care about inequality not because we have some idea of what the Gini coefficient or share of the top 1% should be, but because we fear that three things that would make inequalities tolerable are - to some extent - missing.

Firstly, inequalities don't all arise from fair processes.

One condition here - set out in Rawls' difference principle - is that inequality should be associated with "fair equality of opportunity". But this condition is obviously lacking when top jobs go disproportionately to people from the most expensive schools.

Also, many inequalities arise not from free market processes but from what Acemoglu and Robinson call extractive institutions - the ability of the rich to use political power to extract wealth for themselves*. The state, through crony policies such as bank bailouts, generous procurement schemes, corporate welfare policies and intellectual property laws is complicit in this. As David Grusky has pointed out, a lot of inequality is a form of market failure.

Many egalitarians aren't worried about the rising share of the 1% in itself. Instead, we worry about it, when it is combined with falling median incomes - as this is a sign that inequality has become mere predation, rather than a byproduct of a healthy economy. It's the wealth of Emma Harrison that troubles us, not so much that of Wayne Rooney.

Secondly, we fear that inequality has adverse effects. I'm not thinking so much here of its impacts on economic growth, social cohesion (pdf) and other aspects of well-being; the evidence here is convincing if you're prepared to be convinced, and not if you're not. Instead, the danger is that inequality is, as Sean McElwee says, an "affront to democracy." The obvious way in which this happens is that the rich simply buy power. But there are less obvious mechanisms too. One is that the rich's control of business gives them leverage over government policy because - as Michal Kalecki said - they can claim that anything that reduces "confidence" will hurt jobs. Also, as Adam Smith said, we have "a disposition to admire, and almost to worship, the rich." This not only undermines the equality of respect that's part of the democratic spirit, but it leads us to pay too much heed to the interests of the rich and not enough to those of the poor.

Thirdly, we've no great beef with inequality if it is combined with some form of risk-pooling. Even if our first two conditions were met, we'd favour some redistribution to mitigate the effects of bad luck - be it the bad luck of a bad draw in the genetic lottery or of being hurt by a recession. Of course, lefties define luck more widely that righties, but most of the latter should support some redistribution; Hayek, for example, favoured a basic income.

I say all this to make two points.

First, to the right. Contrary to what David Henderson says libertarians should worry about income inequality as it is often the product of statism.

Second, to the left. Getting the rich to pay more tax is nowhere near enough to reduce the inequalities we should tackle.

* Marxists claim that capitalism (and, I'd add, managerialism) are also extractive institutions. We don't need to go that far in this context.  

Endogenous preferences

One of the big and (therefore?) overlooked questions in social affairs is: what's endogenous? I say this because Noah has pointed out that people's preferences are sensitive to how choices are framed. This contradicts standard neoclassical economics, which takes them as given, or exogenous.

In truth, Noah is only touching the tip of an iceberg here. A lot things which are sometimes assumed to be exogenous exemplifications of personal character might in fact be the endogenous product of situations. For example:

 - Preferences adapt to circumstances. Although we associate this idea with Jon Elster's classic book, it was expressed earlier by G. K. Chesterton: "No man demands what he desires; each man demands what he fancies he can get." For example, if we see an unemployed man not looking hard for work, should we believe he is lazy, or should we instead suspect that his lack of job seaech is because he's reduced his preferences to fit the fact that there's no work available?

- People live up or down to their stereotypes. For example, women who are primed in such a way as to increase the salience of their gender become less competitive and select into "feminine" careers relative to women who are not so primed. If women earn less than men because of their career paths, should we thus assume this reflects women's exogenously differently preferences, or rather endogenous social conditioning?

 - Confidence is endogenous; the well-paid become more confident. This can lead to further inequality, as the confident push for promotions and make risky investments, whilst others lack the confidence to be ambitious.

 - Morality is endogenous; the poor can't afford moral principles, whilst the rich don't need them. So moral codes are stronger among the middling sorts.

All this corroborates Marx:

The mode of production of material life conditions the general process of social, political and intellectual life. It is not the consciousness of men that determines their existence, but their social existence that determines their consciousness.

There's another example of endogeneity though - benefit fraud.Justina Fischer and Benno Torgler show that people's willingness to claim benefits they are not entitled to is higher the greater is inequality. There's a simple reason for this. We are all inclined to act better towards people like ourselves than towards others. The more inegalitarian a society is, the more likely claimants are to regard taxpayers as "others", and so the more willing they'll be to fiddle them.

To the extent that this is the case, complaining about benefit fraud is mistaking the symptom for the disease.

Now, rightists might reply here that even if benefit fraud is endogenous, it is still morally wrong and thus to be deprecated.

This, however, runs into a problem. There's something else that's endogenous - support for inequality. Rightists who overlook the endogeneity of benefit fraud can therefore hardly complain when leftists say that inequality is wrong even though it is tolerated by the public. And, I suppose, vice versa.

Perhaps there's a good reason why the issue of endogenous behaviour is ignored.