danieldwilliam | Entries tagged with ten pillars

My series of blogposts on the Ten Pillars of Economic Wisdom has been in hiatus over the summer but I have a quite afternoon and long lunch to devote to the next in the series.

Actually, I’m going to take the next of my Ten Pillars articles out of sequence and go to Pillar Number 8, Creating Jobs and Creating Wealth are not the same thing.

If you lost your job it would be a disaster. If you lost your job but got to keep all the stuff you would consider yourself to a lottery winner, to be really wealthy.

What is Wealth?

You might define it as material things, including the technology embedded in them. Or you might count the amount of labour required to produce the objects. You could include services that are rendered to you. Some where in between goods and services are things like clean air and clean water.

You could include some good things like a reduced fear of crime.

You might say that wealth was about mental well being. That people don’t buy products they buy solutions to problems they have. You might think about Maslow’s Hierarchy of Need and see wealth as a continuum from meeting basic material needs up to meeting our desire for self-actualisation. You could include in this issues of choice and control. You could equate wealth with good mental and physical health.

I’ve always liked the idea of wealth as a set of solutions to problems. And the less labour that is needed to solve my problems the better.

In a kind of self-referential implosion I’ve seen wealth defined as things of value, as defined by their ability to be exchanged for other things of value. Wealth is what you think it is.

It’s your money, pick your own defination.

What’s clear to me is that wealth is not the same as a job. A job is something that allows you gain access to wealth. Other things that enable you to gain access to wealth are owning capital, social transfer payments and crime.

For me a job is labour that is exchanged for wealth through it’s ability to contribute to wealth for other people. Wealth and job are not the same. A job is just one way that we gain access to a share of the wealth that we collectively create and own. And in some ways they are a waste of time. I’m going to talk briefly about driverless cars (1). Specifically taxis and I’m going to assume that you, like me, find chat from taxi drivers to be of limited value. If I wish to get in a metal box and be taken from Waverley Station to where I live I could have a taxi, with a driver or I could soon have a taxi, without a driver. I will arrive at my home in the same time. I’m indifferent between the driven or the driverless cab. But one technology involves a human being having a job.

I’m no better of for them having a job. In fact, if I weren’t paying for a human driver my cab ride home would have been signifcantly cheaper. (2) I could have spent the saving on a nice coffee from Starbucks. I’d have been better off.

There is a familiar pattern in the Developed world over the last few hundred years of mechanisation, of work that was done by human beings being done instead by machines. Often the machines are better at it. A mechanical pump can pump more water from a coal mine than all the humans you can fit in the coal mine ever could. Often the inventor can take the skills needed to do the job, embed them in a machine and then run that machine faster than humans can work. In any event, work that once was part of someone’s job is now done by a machine.

That process of jobs disappearing as new technologies build machines that can do them better has been going on for centuries. Many of the jobs, most of them, are of no loss to the job holder, so long as they can find another job – in order exchange their labour for a share or wealth. Who misses going to the well to draw water and would tear down the aquaduct? Who misses spending a month’s wages on a hand knitted jumper shirt when a machine can knit it in minutes? Not me.

More stuff is available for less overall human effort. What happens to the person who used to do the job? What happens to my taxi driver once I tell him that I no longer care enough for his chat to pay for him time? Unless he can find another job he loses access to wealth, and some measure of dignity.

This is the crux of the discussion about creating jobs. Without a job most people have no way of accessing the wealth that is being created. The agenda behind talk of job creation is a desire to avoid having a conversation about reallocating capital or continuing to widen and deepen social transfer payments. We’d rather pay someone to dig holes in the road and then pay someone to fill them in again than create a fairer society or admit that we’ve got plenty of stuff and share it around a bit more equally.

Jobs naturally follow opportunities to create wealth in ways that can’t currently be done by a machine. I don’t think there is any reason to think that the only worthwhile jobs are created in the private sector but we do have to be careful about taxing some citizens and using that wealth to create jobs for other citizen. That’s just a transfer payment in disguise. (3) The money taken in taxes would have been spent on wealth for someone. Whenever I hear politicians talking about the state investing in Green-Collar jobs (4) for example I wonder if they can tell the difference between us subsidising a new technology so that we can all enjoy the wealth that might come from cleaner, cheaper, more politically secure energy and subtly taking money out of our pocket using electricity bills instead of taxes so that no-one notices that we’ve given a bunch of wealth to people but not created any additional stuff.

Our aim as humans should be to elimate the need for jobs. To move to a state where everyone one alive could not distinguish between their work and their play and where the reason for doing the work is not because we need a job to buy some stuff but because we need the work to lift our souls.

(1) Who would have guessed.

(2) I estimate between 1/10^th and 1/20^th the price.

(3) Are you Rangers in Disguise?

(4) A neologism which is in the dictionary due in part to my efforts

http://zenpencils.com/comic/75-l-p-jacks-work-and-play/

Current Mood: contemplative
Current Location: The Taxi Rank At Waverley
Current Music: Anything by Men at Work

The fourth of David Henderson’s Ten Pillars of Economic Wisdom is

4. The only way to create wealth is to move resources from a lower-valued to a higher-valued use. Corollary: Both sides gain from exchange.

( Read on for ethical sneakers and sexual puns... )

Current Location: The Shoe Shop of the Soul
Current Music: Blue Suede Shoes, Elvis

Today’s excursion into the Ten Pillars of Economic Wisdom takes us to Pillar number 3.

Economic thinking is thinking on the margin.

How does behaviour change as people have slightly more or slightly less of a thing? Or the opportunity to have slightly more or less of thing? What decisions do I make when looking at my current position and deciding whether to move to a different position?

( If your marginal utility for economcs chat is high, read on... )

Current Mood: full
Current Location: On the Margin
Current Music: One Potato, Two Potato, Three Potato, Four, traditional

Today’s foray into the Ten Pillars of Economic Wisdom is my response to the second of Henderson’s Pillars, Incentives Matter, Incentives Affect Behaviour.

( Read on for a discussion of why expensive machines get broken by cheap labour )

Current Location: A Power Station
Current Music: She's Electric, by Oasis

I’m going to amuse myself by considering what I’m reminded of by each of the Ten Pillars of Economic Wisdom.

The first of the Ten Pillars of Wisdom is TANSTAAFL.

There Ain’t No Such Thing As A Free Lunch.

If economics is the study of the creation, transfer and exchange of value than this pillar reminds us that none of that creation, transfer or exchange comes without a cost.

( This essay is free - well nearly... )

Current Mood: calm
Current Location: Pillar 1
Current Music: Food, Glorious Food, by Oliver Twist

This post started out as a reply to a comment on this entry. It got a bit long and became a post of its own. Below I attempt to excuse the poor performance of macro-economics as a science and demonstrate the better peformance of micro-economics.

It is certainly the stated aim of the science economics to understand economic activity so that testable predictions can be made and be seen to be correct. In that sense it is a science.

It’s ability to do that in macro-economic situations is relatively poor. I offer the following explanations and excuses.

The range of possible outcomes is much greater than the range of interesting outcomes. A prediction that, next year, people will buy and sell goods and services much like they did last year but perhaps a little more of them instead of the whole shebang descending into outright anarchy is of less use to the people who use economic predictions than whether GDP growth in the UK is 1.1% or 1.2%.

Newtonian physics ability to predict that the sun will rise tomorrow is much better, but less use, than its ability to predict whether you need to wear a sunhat or a rain hat.

Secondly, macro-economics is looking at very complex systems, made up of other complex systems. The interactions of these complex systems is difficult to understand because it’s quite difficult to isolate them experimentally. (1) Even it were possible to get whole economies in the lab there is so much data that it’s difficult to analyse. So, the macro-economists ability to do primary science is very limited. They can use a whole slew of real data to try and understand what has happened in historical situations but there are problems with that. Firstly, there is lots of debate about which data are real, influential and complete, which confounding, which complementary. Some of the data is erroneous. Some is corrupt. There are lots of inputs and lots of outputs and the lines between them are not well understood. It’s also not exactly clear whether the inputs are actually inputs or really outputs or just noise. The second…

The second is the third big reason why macro-economics struggles. All the situations it is using to create a model of how economies behave are unique. The 1929 Crash and Depression has a lot of similarities with our own current situation but it’s different enough that it is unique (2). The next Great Crash and Depression will be different again. You can gain some insight by comparing sets of similar events and trying to isolate differences in input. This is, to use a technical term, bloody difficult. And again, there are the usual arguments about the quality of the data and it’s interpretation. What you see when you see macro-economists arguing is two people with limited data arguing about whether a unique event was Type 1 or Type 2 with an occasional heckle suggesting it’s Type 3 and someone suggesting that the Types should really be Class A, Class B and Class Pyjama.

In historical terms we’ve had perhaps 6 big recessions or depressions in the UK and maybe 800 adjustments of the Bank of England base rate. That’s not a lot of data to build a workable theory. Not compared to the number of times balls have been dropped.

If you want a historical analogy for the science of macro-economics – picture yourself as a 17^th Century physician trying to explain the Great Plague of London.

Micro-economics, which is where I play, has a much happier situation. It’s trying to create theories and models that predict the behaviour of smaller systems with fewer participants. We’re looking at the behaviour of individuals and firms. People are buying and selling things all day every day so there are lots and lots of unique data sets. You can isolate some interactions in a lab and replay them changing the variables one at a time. For those that you can’t there are sufficient volume of interactions that even if we can’t isolate them in the lab we can do meaningful statistical analysis. We can analyse the behaviours, the inputs and outputs, we can drill into the underlying psychology or the maths. And we can test lots of different, seemingly unique situations, again and again until we are able to discover universal rules.

Micro-economics predicts that if the price of a good rises then the volume of sales will fall. You might well say, well, no shit Sherlock, but up until Galileo conducted his experiments people thought that the large cannon ball would hit the ground before the smaller one. So micro-economics predicts that if a price rises, volumes will fall. It offers an model for predicting by how much volumes will fall and what the consequent impact on total revenues will be. It offers a theory for explaining why some goods, Giffen goods, behave differently and sales volumes increase when the price increases (3) and you can use this to predict which goods are going to be Giffen goods. If you see a good behaving with a strange price elasticity of demand you can run experiments to see if the good is a Giffen good or a Veblen (high status goods).

The theory of transaction costs offers a predictive model for where the boundaries between different organisations will lie based on the comparative cost of performing specific operations in house or hiring out the work. It tells me that firms will be reluctant to hold rare and expensive specialist services on their books 365 days a year if they can hire in consultants when they are needed and only when they are needed. It tells me that small firms therefore won’t have internal consultancy departments but that very large firms might do for some specialist roles. And lo, MLW and f4f3 both land contract work doing specialist labouring.

Most excitingly for me, we can do economics experiments on non-humans and get decent results predicting the way they behave and how that behaviour will change over time if we change one of the input variables. The maths of economics appears to be coded into the genes of species.

So, macro-economics has problems with prediction because it’s ability to gather experimental data is poor. It’s a problem intrinsic to the nature of the beast it is studying. The theories are untested and a bit wild. This won’t really improve until we have much more data. Check back in 2512. Micro-economics is much better at predicting outcomes using a theory. Theories can be built and quickly tested in the lab and in the wild.

One way of looking at stock and commodities markets is as a series of experiments where scientists pretending to be traders use a predictive model to work out if a price is going rise or fall.

(1) an example of an attempt to perform economics on an experimental basis is North Korea. A second, perhaps happier example, is Cuba.

(2) e.g. no China and India growing, or not, at 10% per annum.

(3) Giffen goods, fascinating and one of my first loves as an economist.

Current Mood: quixotic
Current Location: In the Field
Current Music: Weird Science

I was pointed in the direction of the Ten Pillars of Economic Wisdom by widgetfox and she asked for my thoughts on them.

Here are Ten Pillars

The Ten Pillars of Economic Wisdom
By David R. Henderson
1. TANSTAAFL: There ain't no such thing as a free lunch.
2. Incentives matter; incentives affect behavior.
3. Economic thinking is thinking on the margin.
4. The only way to create wealth is to move resources from a lower-valued to a higher-valued use. Corollary: Both sides gain from exchange.
5. Information is valuable and costly, and most information that's valuable is inherently decentralized.
6. Every action has unintended consequences; you can never do only one thing.
7. The value of a good or a service is subjective.
8. Creating jobs is not the same as creating wealth.
9. The only way to increase a nation's real income is to increase its real output.
10. Competition is a hardy weed, not a delicate flower.

Here are my thoughts on them as a group.

Broadly, I agree with them as a body in the spirit in which they are intended. I think that the spirit in which they are intended is not as the Gospel of Economic Truth. I think they are intended in two ways.

Firstly, they are Economic Wisdom for Students. I think they function well as a list of things economic neophytes should remember and which they should use as a filter to view any case studies they are looking at whilst they gain a foundational understanding of economics.

I think Henderson is saying, Hey, whilst you are learning about the science of economics here are Ten Things you should remember. Try reading them before each lecture or before each day’s reading. If you think you’ve found an exception or situation that falsifies one of them have a really good think about whether you’re right or not before you send off for your Noble Prize. Maybe sleep on it for a few nights.

Don’t stand up in class and say “X is the case. Doesn’t this disprove such and such a pillar”. A more valuable starting question for you, the student to ask, is “In this situation, how or why does such and such a pillar apply?” Perhaps follow up with “Are there any situations where it doesn’t apply?” You’ll look like a dick who is trying to impress the cool kids less often. Bearing in mind that you’re in an economics lesson trying to impress the cool kids isn’t a strategy with good returns. Remember, 3 and 6.

I think the second use of Ten Pillars is a Field Guide for the Economic Anthropologist. If you, the economically literate (or numerate) citizen is going about your daily business and you find a situation you don’t understand, this list functions as a quick and dirty prompt to work out what is really going on.

Take my recent gripe about Amazon for example.

Amazon could sell me more books if they curated their offering better. However, curating their offering better requires them to get over the cost hurdle implicit in Pillar 5. Remembering my Michael Porter and thinking about Amazons generic strategy I realise Amazon are in the Cost Leadership mode. Taking on the costs of building a system to gain more knowledge doesn’t help them with 99% of their sales but adds costs that have to be paid for. So, Pillar 2, they won’t bother with my list of ways to improve their curation. Someone else might. (And if it's you, let me know and we'll do business.)

So, it’s a useful starting point for students or for those trying to understand specific real-life situations from an economics point of view. For more on this I’d recommend Tim Hartford and his book, The Undercover Economist.

It’s not the Bible of Economics. (For a start there are no charts with curvy lines on them anywhere. You call that a ~~religion~~ science. When you don’t even have any curvy lines crossing anywhere. What are you? A biologist?) Is it the case that all Ten Pillars hold true in all cases. Probably not, but I’d not bet against any of the Pillars being wrong in any particular situation without giving it considerable thought.

Is this the only useful list. Not at all. There are other toolkits out there. I'm going to find some and I may one day produce my own.

What is useful about this list, well, Pillar 5, again. If you don't already have a degree in Economics this list might help you out.

Finally, I’d add two of my own, for my own use as an Economic Anthropologist.

11 If the solution is not either elegant or brutal it is probably not the optimal solution.

12 You should be able to reason from the psychology of the individual through micro-economics and up to macro-economics and back down again.

Someone else’s from comments on the various discussions that I’d add would be

13 Any cost (or revenue) not accounted for in an entity’s books is passed on to society.

Some people agreed with me up to a point on this.