Category Archives: Economics

Carrot and Sticks – Ian Ayres

“This book is centrally about how to craft commitments that will work best for you”

StickK.com is a website designed to help you achieve your goals. You pick a goal or activity you want to do, pick a referee to check to make sure you did it, and then put up a stake you’ll sacrifice if you don’t follow through: the money can go to a charity or, for the truly motivated, an anti-charity, such as the Bush Presidential Library if you’re left wing, or the Obamacare support fund (not a real thing) if you’re right wing.

It was set up by Ian Ayres, a contract lawyer and behavioural economist, and he’s now written a book to explain the ideas behind it. The idea is pretty simple, and so the book focuses largely on a multitude of great examples, from drugs that make you throw up when you drink alcohol or ingest too much fat, to signs in US National Parks that said that so many guests were stealing petrified wood they were running out, which actually increased total theft. In Israel, so-called ‘kosher phones’ were even set up by the Rabbinic council in Israel to block numbers for escort services and charge more than $2/minute for calls on the Sabbath!

The book got a little wearing for me in the middle: it felt a bit like a long list of examples. The end picked up again, though, first with a chapter on diets (if you want to keep weight off, weigh yourself regularly: it correlates highly with persistence in weight loss. Equally, if you’re on a strict diet, careful you don’t substitute to other activities: 20-30% of bariatric surgery patients pick up another vice, such as gambling, smoking, or drinking), and then a chapter on public policy helping people commit to desirable activities, such as reduce energy use. Overall, very worth the read! Interesting, entertaining, and if a little slow in the middle, still informative.

The Great Escape – Angus Deaton

“Life is better now that at almost any time in history…Yet millions still experience the horrors of destitution and of premature death…This book tells stories of how things got better, how and why progress happened, and the subsequent interplay of progress and inequality.”

The movie The Great Escape tells the story of Allied POWs seeking to escape German prison camps. Some of them make it, and some don’t. Deaton argues this makes a general point: that inequality is an inevitable result of progress, because not everyone can escape at the same time. The key, however, is to make sure that inequality is only temporary: that everyone, to stretch the metaphor, escapes in the end.

Deaton focuses on health and wealth inequality, covering their historical evolution and the current state of affairs, before turning to how we might reduce inequality and particularly foreign aid. He is an interesting mix of idealist and pragmatist: he believes strongly we have a moral obligation to eliminate poverty and improve health for the less well off, but also rejects foreign aid as a failed method of achieving those goals. Aid, he suggests, tends to flow from a desire to be seen to be doing something, rather than actually making a difference, which is why so much money is spent to so little effect. Instead, he argues that the most important step we can take is to “work on and within [our] own governments, persuading them to stop policies that hurt poor people, and to support international policies that make globalization work for poor people, not against them.” He recommends we invest in things for the developing world, rather than just in the developing world: R&D on malaria and other diseases, improving country capacity in international negotiations, arms control, and other projects.

Deaton has a gift for making complicated concepts clear, and a book that might feel like a dry compendium of statistics works for that reason, though there are times when sections can feel like a litany of graphs and analysis. He is also good at explaining how statistics might mislead or betray our reasoning: the book may be of particular interest to readers without much background in statistics, but want to understand the debates around wealth and inequality.

The book really comes into its own, however, in the final section. Deaton is passionate and eloquent when it comes to aid, something he feels strongly about. For someone well read in the subject, it won’t add a lot to your understanding (though it will serve as a helpful reminder of the basics), but if you’re willing to do a bit of work to actually understand issues rather than just read results, he’s insightful, interesting, and informative. Worth the read.

The Why Axis – Uri Gneezy and John List

“Without understanding that life is a laboratory, and that we must all learn from our discoveries, we cannot hope to make headway in crucial areas.”

Paying students for marks gives them an incentive to study. Does it also crowd out intrinsic incentives for the same, crippling students by making them unable to study when they are not immediately paid for it? If a gay couple tries to buy a car, does the dealership discriminate against them because they are inherently hostile to gays, or because they believe they can increase their profits by doing so? Should charities allow people to opt out of receiving mailings, and if so, will that increase or decrease donations?

If you are a teachers’ union, activist, or charity, you likely have strong opinions on the answer. What you may not have is any actual knowledge. Gneezy and List, two great experimental economists, argue that fundamental questions such as the best ways to educate, fight discrimination, and run businesses lie at the heart of experimentation. Without it, we cannot understand the world we live in, forced to reason by post hoc ergo propter hoc: that because things occur at the same time, one must cause the other. With experimentation, we can establish true causality, understanding how what we do affects the world around us.

To understand education better – and with the help of a $10 million dollar donation from some hedge fund managers – they have established their own schools, one focusing on teaching will-power and delaying gratification, and the other a more standard academic curriculum of reading, writing, and arithmetic. To understand discrimination, they tried having gay couples purchase cars while signalling they planned to check other dealerships, and found that discrimination disappeared; to understand charitable giving, they experiment with several different approaches, finding that having a pretty girl ask for donations and offering a lottery prize for donating are equally effective in increasing donations, but that the lottery has long term effects while the pretty girl does not. Giving people the opportunity to opt out of mailings is most effective of all, however, increasing initial donations, leaving long-term donations unchanged, and saving money on mailings.

The Why Axis is another in a stream of books by economists popularizing their work. As with many such, it is reasonably well written, and stocked full of anecdotes, stories, and examples. It is more interesting than most, however, because experiments provide particularly interesting fodder for discussion. In addition, Gneezy and List argue passionately for a more experimental way of looking at the world. Whether we are considering a new job, a new product, or a new policy, trying it out on a small scale provides information essential to avoiding blunders. To my mind, they’re definitely correct we would be better off if we experimented with different ways of doing things a bit more; in that spirit, pick up a paper or two of theirs to see if you find them interesting, and if so, the book might well be worth it.

Business Adventures – John Brooks

“The [Tax] Code, a document longer than “War and Peace,” is phrased – inevitably, perhaps – in the sort of jargon that stuns the mind and disheartens the spirit; a fairly typical sentence, dealing with the definition of the word “employment,” starts near the bottom of page 564, includes more than a thousand words, nineteen semicolons, forty-two simple parentheses, three parentheses within parentheses, and even one unaccountable interstitial period, and comes to a gasping end, with a definitive period, near the top of page 567.”

Any book that is the favourite of both Bill Gates and Warren Buffet is self-recommending, and I feel a little second-rate saying I really liked it as well. Nevermind. Business Adventures is a great book!

What distinguishes Business Adventures from other business books is the quality of the writing. It’s a collection of New Yorker articles by John Brooks from the golden age of print journalism, and it shows. Topics include the rise and fall of Xerox (invented by accident – they just kept adding elements from the periodic table to their ink till they found one that worked, and had no idea why), the Ford Edsel (a brutal failure of a car design for Ford), income tax, cornering a market in order to destroy short sellers (sadly now illegal, which might be why short selling is so popular), the first supermarket (Piggly Wiggly Stores – the owner would become a millionaire and then go bankrupt several times), the manager of the Tennessee Valley Authority, currency crises, and a vast scope of other subjects.

It’s a hard book to find these days, but Amazon has it on Kindle. It’s tremendous, and I recommend it. For the quality of the writing, for the quality of the stories, and even for the insight. It won’t teach you to be a modern investment banker, but it will teach you about the fundamental concepts businesses and businesspeople need to think about, concepts that can often feel obscured in a haze of electronic trading and hedge funds today. As the real estate crash in the US showed, however, technology and advanced degrees are no substitute for understanding the classical principles of business.

In Our Hands – Charles Murray

“The real problem advanced societies face has nothing to do with poverty, retirement, health care, or the underclass. The real problem is how to live meaningful lives in an age of plenty and security.”

The idea of a negative income tax is one of the few public policies that seems to appeal to both left and right, though admittedly the left prefers the name basic income or guaranteed minimum income. In brief, the idea is that people making less than a given amount get money from the state until they are making that amount: those that make more than that get a reduced subsidy or nothing. In principle, it can then replace a diverse set of loophole-rich, easily abused welfare programs, appealing to the right; and ensures that no one in society is without a certain basic wage, appealing to the left.

Tax reform is not exactly an issue with wide appeal. In Our Hands makes the case for a negative income tax by talking not just of the cost savings but also of the social and political implications, making the book of wider interest than just to economists. Murray lays out the possibly savings from eliminated welfare programs, and argues that though a negative income tax isn’t economical yet, it will be in the next few years as costs and populations increase. By ensuring everyone has a stake in society and some source of income, he argues, it also encourages responsible citizenship and participation in the world.

He neglects some questions that seem of interest, however. Long run, some might worry that pseudo-classes defined by whether someone receives the benefit could form. The policy is also vulnerable to politics: as soon as it is created it will be subject to massive political fights which, based on the current disputes about minimum wage, will have little to no relationship to reality on either side, and keeping it to the optimal level might be difficult.

The book is unabashedly an argument from the right, and in some ways that’s the book’s greatest weakness; many on the left might also support the policy, but I’m not sure In Our Hands is the book to sell them on it. That said, for a left wing reader willing to make the effort, the book does have information and arguments for both sides. Murray’s design also has some odd parts, such as giving $5,000 to all citizens, rather than eliminating it over a certain income bracket to reduce costs. Still, an important policy, and a good way for someone without a background in tax to start thinking about some of the issues, though much more needs reading (and writing!) to reach conclusions.

The End of Normal – James K. Galbraith

“The 1970s were not an interlude brought on by shocks, bad management, and policy mistakes – but instead, in certain respects, a harbinger of the world conditions that we now face and from which we will not, on this occasion, so easily escape.”

“There remains one alternative. It is to engineer the economy to grow at a low, stable, positive rate for a long time, and to adjust ourselves materially and psychologically to that prospect. It is to pursue slow growth: a rate above zero but below what cheap energy and climate indifference once made possible.”

For all the books on the financial crisis, I think most people struggle to understand what happened, or even differentiate it from the European sovereign debt crisis or related issues. James Galbraith, as befits the son of one of the best known economic historians of earlier in the century, John Kenneth Galbraith (a Canadian!), takes a long view of it, looking at broad trends of demography, world finance, and technology.

Galbraith emphasizes the oft-ignored role of resource prices in driving – and slowing – economic growth. At root, he argues, we rely on resources to fuel our economies and our bodies. When they become scarce or expensive, we must give up our resource-intensive activities and accept a lower intensity of civilization, or face destruction. When the meteor hit, and sunlight became scarce, the dinosaurs gave up space to smaller mammals that were less resource intensive: he suggests we should think of our society from a similar frame, and choose a level of resource intensity appropriate to resource availability. The financial crisis isn’t a deviation from the mean, but rather a signal of things to come.

The book addresses an important issue, and from a relatively novel perspective. Predicting the future is always hard, and Galbraith wisely spends more time on first principles than on trying to predict future conditions, other than saying they won’t be great. The book’s weakness is in structure: non-economists may find it difficult to follow. Galbraith leaps around from idea to idea and engages with things he disagrees with rather than advancing his own ideas, so some ideas can be hard to keep track of unless you already know the literature. In his attempts to make it accessible, it also feels a bit superficial at points: criticizing economists for finding their models beautiful seems a bit irrelevant. Not the last word on the subject, but definitely a start, and very much an underdiscussed issue.

Whatever Happened to the Music Teacher: How Government Decides and Why – Donald J. Savoie

“It is exceedingly difficult for front-line workers and their managers to have a sense of responsibility in their place of work. It is true that their work was once guided by fairly rigid administrative rules, but it is also true that a number of these administrative rules have been done away with. In their stead, the work of front-line managers and workers is subject to many voices, many hands, and many oversight bodies.”

The public service is a classic whipping boy in the press and in the living rooms of the people. It is, the story goes, bloated, corrupt, inept, overstaffed, overpaid, underworked, and takes too many holidays. Statistics seem to support this impression to some extent: between 1995 and 2006, the Canadian public service ended up with 51% more executives, 46% more financial managers, 98% economists, and 40% fewer general service staff, including music teachers. While the private sector was in crisis between 2007 and 2010, the number of public servants paid over $100,000 a year doubled.

Savoie, a respected academic with a long history of work with the public service, proposes an explanation for why. The past few decades have seen, with the best of intentions, a push to use lessons from the private sector in the public service: extensive performance audits, centralizing final authority, making sure that things are cost effective.

These are doomed to failure, says Savoie. Cost-benefit analysis requires a bottom line, and that’s something the public sector, by definition, does not have. These attempts to create a private sector culture have sacrificed public service ideals like frugality and service without gaining commensurate benefits. The result has been steadily decreasing emphasis on front line workers like music teachers, and steadily increasing centralized control powers that have little to contribute to the overall public service mandate, leading to a reputation for bloat, overpay and underwork.

The book can sometimes be a bit heavy into political theory, but the bottom line message is interesting. Savoie is also sometimes a bit overeager to interpret things in a way that supports his theory, when it could as easily go the other way. Still, it takes on an interesting question, and if you flip through the political theory bits, it does so in an interesting way. If this is something you’re interested in, I suspect it’s one of the best books in the field. Well worth the read.

Capital in the 21st – Quotes

Having reviewed Piketty’s Capital earlier this week, I thought I’d also pass along a few choice quotes. If you haven’t read the review yet, though, I’d start there.

On his thesis

“A society structured by the hierarchy of wealth has been replaced by a society whose structure depends almost entirely on the hierarchy of labor and human capital. It is striking, for example, that many recent American TV series feature heroes and heroines laden with degrees and high-level skills, whether to cure serious maladies (House), solve mysterious crimes (Bones), or even to preside over the United States (West Wing).”

“Inequality is not necessarily bad in itself: the key question is to decide whether it is justified, whether there are reasons for it.”

“When the rate of return on capital exceeds the growth rate of the economy (as it did through much of history until the nineteenth century and as is likely to be the case again in the the twenty-first century) then it logically follows that inherited wealth grows faster than output and income.”

On ideology

“I was vaccinated for life against the conventional but lazy rhetoric of anticapitalism, some of which simply ignored the historic failure of Communism and much of which turned its back on the intellectual means necessary to push beyond it.”

“Both the antimarket and the antistate camps are partly correct: new instruments are needed to regain control over a financial capitalism that has run amok, and at the same time the tax and transfer systems that are the heart of the modern social state are in constant need of reform and modernization, because they have achieved a level of complexity that makes them difficult to understand and threatens to undermind their social and economic efficiency.”

Interesting Facts

“There is no historical example of a country at the world technological frontier whose growth in per capita output exceeded 1.5 percent over a lengthy period of time.”

“Billionaires today own roughly 1.5 percent of the world’s total wealth, and sovereign wealth funds own another 1.5 percent.”

“Capital is a better indicator of the contributive capacity of very wealthy individuals than is income.”

Capital in the 21st Century – Thomas Piketty

“The overall conclusion of this study is that a market economy based on private property, if left to itself, contains powerful forces of convergence, associated in particular with the diffusion of knowledge and skills; but it also contains powerful forces of divergence, which are potentially threatening to democratic societies and to the values of social justice on which they are based.”

This is a longer review than I normally write, so I thought I’d summarize takeaways first (who has the time to read long reviews with all those cat videos?)

Overall very good: lots of interesting information on wealth and income inequality.
Before world wars, inequality was from wealth inequality; now, it comes from income inequality. Rise of the supermanager.
Policy analysis weak – hasn’t really considered other options or read the literature. Still, capital tax may be good idea: can replace the common and unfair real estate tax. WIsh he had discussed a consumption tax.
Long run, the only cure to inequality is better education.
No big surprises: basically just fleshes out ideas that most people would have believed true intuitively, if without data.

Piketty’s work has been ridiculously popular: for a 600 page economics treatise to outsell fiction on Amazon.com is amazing to me, particularly given that it wasn’t very popular in France, where it was first published. Still, any book that can manage that is worth a read.

Piketty argues that because the interest on capital (r) is larger than the growth rate of the economy (g), capital ends up growing faster than the economy. Over time, therefore, capital owners own a larger and larger share of the whole pie, which leads to inequality. Though there are compensating factors, like the diffusion of knowledge and skills, without comprehensive educational policies and redistributive taxation, this inequality can grow to extreme levels. He uses income tax and estate tax information to study wealth and income inequalities over the past 200 years, finding high inequality pre world wars, low inequality after world wars, and increasing inequality today, though unlike before the wars, it is largely due to income inequality, not wealth inequality (managers with high salaries, not landowners).

His fundamental insight, as anyone who has read a review will know, is the fact that r > g. I think that’s true, and it does have the effects he describes, but speaking as an economist it’s also not surprising. Interest rates on capital are relatively high partly because people are impatient and aren’t good at saving, at least judging by their ability to save for retirement. If society lowers the return on capital, people will save less, and I’m not sure that’s a good thing either, something Piketty doesn’t consider. Still, he’s right that increasing inequality can be a source of stress for society, and it’s definitely an important subject for study.

The book is divided into a section analyzing the data, a section predicting future trends, and a section discussing policy. The first section is excellent; the Financial Times has raised some problems with his data work, but by and large I think it’s well done and the results are unchallenged. Lots of interesting information. The second section has the bad habit of making a prediction then immediately disavowing it as a guess, which is common but I think a bit disingenuous.

The third section I found very weak. The policies he supports may well be good ones, and I think there are good arguments for a capital tax, since most countries have a property tax and that’s basically just a capital tax that’s very unfair to the middle class. It’s clear this is not an area Piketty has thought about much, though, and his discussion of education policy is pretty shallow. Dismissing a consumption tax based on total spending, which is often a popular policy, he rejects it in a single line as never having been done, before advocating a global capital tax that has also never been done before. Long run, as he points out, it appears the only cure to inequality is better education and better skills transfer, and I think almost everyone, left or right, would support that.

Whether when you think of capital you think of landed aristocracy, as the French Piketty does, or of Bill Gates, as I suspect a lot of North Americans do, may play a role in how you feel about the book. In the end, I think the power of Marx’s original Capital is that it provides a new way of thinking about the world. I didn’t find Piketty managed the same: perhaps it’s because I’m an economist, but most of what he said I would have assumed to be true. I also find anyone that introduces mathematical identities (like 2+2=4, things that are defined to be true) as “fundamental laws of capitalism” to be a little pretentious for my taste, but that definitely doesn’t relate to the overall quality of the book. It’s well worth a read, and thinking about inequality and its solutions is definitely an important issue.

You can see the Amazon reviews here.

The Principles of Scientific Management – Frederick Winslow Taylor

“We can see our forests vanishing, our water-powers going to waste, our soil being carried by floods into the sea; and the end of our coal and our iron is in sight. But our larger wastes of human effort, which go on every day through such of our acts as are blundering, ill-directed, or inefficient…are but vaguely appreciated.”

Which would you prefer? Good pay, but a job where every detail is spelled out for you, with no chance for autonomy or individuality, or worse pay, but a job where you can use your personal expertise to make a difference to the result? That question lies at the heart of your judgment of the Scientific Management.

I’d hate to speculate how many (or few) management consultants have read it, but Scientific Management is a seminal work in the field, quite possibly a founding work. Taylor argues that progress requires management to become more scientific: that the traditional knowledge of workers must be studied and tabulated by management, and narrow, well-defined tasks should be given to workers, with every aspect detailed. Managers shouldn’t just ask workers to carry pig iron: they should specify how far, how heavy a load, how long to rest, how often, and method of lifting.

Some of Taylor’s suggestions seem reasonable to modern ears: he recommends frequent breaks for workers and limits on hours, for example, so that workers can “work while they work” and “play while they play.” More fundamentally, one of his core suggestions is simply to gather data, which I certainly wouldn’t disagree with: finding the best weight someone can shovel without hurting their back is an experiment anyone who has shoveled snow can support.

Where Taylor runs into trouble is the extreme centralization of knowledge his system requires. As Shop Class as Soul Craft can tell you, such a reduction of worker responsibility can be dehumanizing, and long run it’s hard to believe anyone can perform well when they feel like a cog in a machine they do not understand. To be picky, his experiments are also terribly run, and the results are almost entirely attributable to selection bias, since he fires anyone who doesn’t perform: clearly average performance increases then, but it need not have anything to do with management methods.

Still, the book is worth reading, particularly if you plan to talk to MBAs very often. Even if you don’t, Taylor provides a frank commentary on how he sees the problem of management, and perhaps particularly if you disagree, it’s useful as a way to figure out what you think might work best.