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Internet and monopoly
Internet and monopoly
The hostility towards the virtual monopolies enjoyed by tech giants such as Google and Facebook reveals some strange bedfellows.
The European Commission is well known for its enthusiasm for regulation. No surprise, then, that last year the Commission fined Google 2.4 billion – billion! – euros for giving its own services preferential treatment in search results. No surprise that last month the European Commissioner for Competition, Margrethe Vestager, said that the threat to split Google into smaller companies was being “kept open”.
What was perhaps surprising was that last summer Steve Bannon, when he was still in the White House as President Trump’s top advisor, argued that Google and Facebook have become so dominant and essential that they should be regulated like public utilities.
It is clear that many politicians, both in Europe and America, dislike the dramatic changes brought about by the internet. What is equally clear is that many of them have an underdeveloped understanding of what we might term cyber society.
In Mark Zuckerberg’s hearing before the Senate committee, for example, he was asked how Facebook made its money, a point which should be obvious to anyone who has ever used it. Another senator asked him whether Twitter was “the same as what you do.”
In many ways, this is understandable. Revolutionary technologies take time for their implications both to emerge in full and to be grasped. William Huskisson, an MP and member of the Cabinet, was famously run over and killed by Stephenson’s Rocket at the locomotive trials of 1830. He simply did not appreciate how fast the miraculous new machine went.
Cyber society also creates fundamental challenges for economic theory. Consumers, for example, are assumed to be able to gather and process sufficient information to make a rational choice amongst the available alternatives. In the context of, say, the supermarket, empirical evidence suggests this is a reasonable assumption to make.
But I recently googled the term “mobile phones”. I received “about 155 million” results. It is simply not possible to process the information from more than a miniscule fraction of these.
As long ago as the 1950s, Nobel Laureate Herbert Simon believed that even then, in many situations, the same point was true. The model of rational choice had to be “replaced”.
In essence, Simon argued that a good decision rule to use in such complex situations was to choose things which were already popular.
This sets up a positive feedback loop. The more popular your product is, the more popular it will become, simply because it is already popular.
This means that the basic market structure encountered in cyber society is monopoly. It is the opposite extreme from the economics textbook, where the core model is one of a large number of small firms.
The most effective way of undermining these monopolies is by encouraging even more innovation, the exact opposite of the top-heavy regulation of the European Commission. Regulation of market structure worked with the American oil giants in the early 1900s. The 21st century demands a different approach.
Paul Ormerod
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Eurozone
Eurozone
One of the entertainments of the holiday period was reading Yanis Varoufakis’s book “Adults in the Room”. It describes his time as finance minister of Greece and his negotiations with the IMF, the European Central Bank and the European Commission.
Varoufakis was only in the job between January and July 2015. He had the unenviable task of trying to re-negotiate the massive debts of the Greek government.
The academic-turned-politician had many bright ideas. But he could get no traction. Reading between the lines, he cannot have been an easy person to deal with. Indeed, he was effectively forced out of his position by the far-left prime minister Alex Tsipras.
Some of Jeremy Corbyn’s shadow cabinet will undoubtedly have read the book. The more reflective of them will realise that negotiating with international bodies when you have a large burden of public sector debt is not exactly fun. In the end, exactly like the Greeks, you will be forced to adopt policies of austerity which you have spent your political life criticising.
But many of our more ardent Remainers would also benefit from Varoufakis’s analysis and descriptions of events. To them, the EU represents a kind of Garden of Eden, where milk and honey, as well of course as sweetness and light, flow in abundance.
The harsh reality is that, in their fanaticism for greater European integration and its crowning symbol of the Euro, Europe’s elite are quite unable to get to grips with the fundamental problems which Europe faces.
The financial crisis of the late 2000s began to take hold of the wider economy during the winter of 2007/08. The year 2007 represented for most countries the peak level of output before the crash.
Over the past decade, Western European countries in the Eurozone have grown much more slowly than comparable ones who are not members of the Euro.
Greece of course has experienced one of the deepest and longest recession in the entire history of capitalism. Greek output in 2017 was no less than 22 per cent lower than it was in 2007.
Even leaving Greece out of the calculations, the growth performance of Western European economies in the Eurozone has been poor. Their average growth over an entire decade has been just 5.6 per cent.
In contrast, average growth in a group made of the US, Canada, Japan, Australia, the UK and smaller non-Eurozone countries like Norway and Switzerland has been 16.2 per cent. The UK itself is below the average for this set at 11.4 per cent. Still, a lot higher than the Eurozone average.
Towards the end of last year, much was made of the fact the growth in the Eurozone as a whole had slowed from 0.4 per cent in the second quarter of 2018 to just 0.2 per cent in the third quarter.
But Europe’s problems are much deeper seated. The evidence of an entire decade shows the stultifying impact of the Euro. The best decision Gordon Brown ever made was to keep us out of it.
Paul Ormerod
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Long run returns on bonds and equities
Long run returns on bonds and equities
Given the huge amount of uncertainty which is around, the FTSE index remains remarkably resilient. It currently sits almost bang in the middle of the 7000 – 7600 range where it has been since the beginning of January 2017.
Brexit does not seem to trouble share prices. Nor do the threats by John McDonnell, Labour’s shadow Chancellor, to carry out extensive raids on shares and put workers on the boards of companies.
As the saying goes, these risks and uncertainties are “priced in” by the market. The concept of market efficiency, revered by economists, means that all available information is taken into account in the process of setting share prices.
The implication is that pension funds and traders alike appear to attach only a small probability to a disruptive Brexit or to Labour forming a government.
Of course, it is precisely when an unexpected disruptive event takes place that the market ceases to be efficient.
Market participants need time to absorb and process the implications of the new environment, and do so at different speeds. There is widespread disagreement about what the “rational” price of an asset is, and as a result volatility abounds.
Despite the sanguine way in which the market is currently behaving, there must be many who are nevertheless casting anxious eyes back over their shoulders.
They can take comfort from an article published in the latest Quarterly Journal of Economics by Oscar Jorda, of the University of California, and colleagues. Its findings represent an important addition to scientific knowledge.
The authors publish estimates of the annual total returns on equities, housing, long term government bonds and short-term fixed interest government securities (3 month Treasury bills in the UK).
The impressive nature of the work is not simply that it covers 16 advanced economies. Data is provided for every year between 1870 and 2015
Government debt in countries such as the US and the UK is considered to a be a very “safe” asset. One of the most remarkable findings of the research is that the real return, , in other words gains after allowing for inflation, on such assets has been very volatile, often even more so than the supposedly “risky” assets such as equities.
This is quite contrary to the conventional view of how the world is supposed to work. If an asset gives a higher return than another, the expectation is that its price is more volatile. There is a trade off between risk and return. But this seems not to be true.
Intriguingly, both equities and residential real estate have yielded total real gains of no less than 7 per cent a year. Housing outperformed shares from 1870 until World War Two, and the position has been reversed since then.
Governments come and governments go, as indeed have two major world wars. But over the course of well over a century, holding equities and not worrying about short term fluctuations has yielded rich rewards. Obviously, the past is not necessarily a guide to the future. But the past here spans evidence from nearly 150 years.
Paul Ormerod
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2019 Nobel Prize
2019 Nobel Prize
This year’s Nobel Prize in economics, announced on Monday, was a ray of sunshine amidst the prevailing media gloom.
The award was made for the work of the new Laureates on the alleviation of global poverty. This is one reason to be cheerful about it.
In addition, they have made important developments in how economists go about solving problems. They are a key part of the drive to move economics on from an obsession with pure theory and to make it much more empirically based.
At first sight, the award is very conventional. All of this week’s joint recipients are based in top American universities, two at MIT and one at Harvard. Of the previous 81 winners, no fewer than 61 did most of their work at Ivy League institutions.
They also retain the basic view of economists. Poor people are essentially rational agents, trying to take decisions which are in their own interest. They may have much more difficulty in accessing relevant information than others. They face many more constraints on their ability to make the best decision. But they are just as rational as everyone else.
The similarity with tradition ends there. Esther Duflo, for example, became only the second woman to win the prize, along with her close collaborators Abhijit Banerjee and Michael Kremer, so something different there.
Their main innovation is to introduce the use of randomised controlled trials (RCTs) into economics. One hundred years ago, the British statistician Ronald Fisher was revolutionising the principles of statistical analysis. It is the maths he developed which enabled the testing of new medicines to become much more scientific.
The basic idea is to have a group of people who take the new drug and a group who do not. The key thing is to assign them into the groups purely at random. This way, any difference in the outcomes of the group which was treated and the group which was not can reasonably be thought to be due to the impact of the drug.
Duflo and her colleagues, along with many others they have inspired, have successfully addressed a wide range of real-life policy problems in the developing world using the same approach.
Examples include discovering how best to get farmers to use more effective fertilisers, how to increase the uptake of safe water filters, how to improve patient safety in hospitals, how to spread advice most effectively, about tuberculosis using community-based counsellors and how to improve safety in public service vehicles.
The technique of RCT has even been applied in developed world settings. For example, experiments have been carried out with job applications, sending them out with names which strongly imply the ethnic background of the applicant and seeing if the response differs across groups. (It does).
The approach of RCT is not without critics in economics, even now. An important issue, for example, is that experiments are typically on a small scale, and they may be issues when they are scaled up.
But Duflo and colleagues, unlike some economics Laureates, have definitely helped to make the world a better place.
Paul Ormerod
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Companies that bow to the social media mob are…
Companies that bow to the social media mob are operating in the wrong century
Pizza Hut is the latest addition to the list of companies grovelling to criticism on social media.
The restaurant chain tweeted an apology for running a promotion in the Sun newspaper.
A few weeks ago, Paperchase said that it would not place any more marketing campaigns with the Daily Mail after receiving “hundreds” of complaints.
In the public sphere, last year Greater Manchester Police staged a simulated terror attack in the massive Trafford Park retail complex. The carnage began, realistically, with the cry “Allahu Akbar”. Following a Twitter storm, the police felt forced to apologise.
Boris Johnson, in his inimitable style, has condemned Pizza Hut and Paperchase for being “cowardly”. The campaign against them was run a by a small group of hard-left activists calling themselves Stop Funding Hate.
But examples such as these raise a more important question. Which century is British management living in?
After being attacked by critics on social media, many outfits respond with blind panic. A famous Monty Python sketch depicts the novel Wuthering Heights, not in words but in semaphore, a nineteenth century technology. Many senior managers seem to remain stuck at this level of communications technology.
Scientific knowledge of how things spread on social media such as Twitter has grown enormously in the last few years. Yet swathes of top management appear to be completely unaware of this work.
A high-powered study published last year by the physicists Guido Caldarelli and Gene Stanley, editor of the top statistical physics journal Physica A, confirmed that social media users typically form communities of interest which foster confirmation bias, segregation, and polarisation.
In other words, in general people on social media are preaching to the already converted.
With Rickard Nyman, a computer science colleague at UCL, I conducted a real-time analysis of the tweets during the Brexit campaign. Modern algorithms reveal as clear as day that there were two communities, with little connection to each other. One group was talking about what they would see as the “grown-up” themes of employment, the economy, trade and such like. The other, in essence, just didn’t like foreigners all that much.
The key moment was when, with just over two weeks to go, immigration began to get traction as a theme amongst the “Remain” Twitter community. Otherwise, the two groups were just reinforcing existing opinions and prejudices.
More is known. A significant proportion of tweets do not get retweeted at all. And it is the act of retweeting which shows that the recipient is paying attention.
Simply being a follower and reading a tweet involves effectively zero effort. The number of followers is a very weak indicator of a person’s influence.
Most tweets which express strong emotions essentially just fade away. It is the more balanced ones which have a greater chance of getting traction across the network.
The most depressing thing about the reactions of companies and public bodies to social media attacks is not, as Boris would have it, their cowardice. It is that they seem to show very little understanding of modern technology.
Paul Ormerod
As published in City AM Wednesday 13th December 2017
Image: Pizza Hut via Stephen McKay is licensed under CC by 2.0
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It is the private sector, not the state, that…
It is the private sector, not the state, that has enabled America’s economic recovery
The American economy continues to power ahead. The widely respected and independent Congressional Budget Office (CBO) reckons that the actual level of GDP in the US in 2017 is finally back at the level of potential output.
The potential level of GDP is the amount of output which would be produced if there were no spare capacity in the economy. In a service and internet-oriented economy, any estimates of it are fraught with difficulties.
The maximum output of a car plant or steel mill is reasonably straightforward to work out, at least in the short term. But it is less obvious what the constraints are on any web-related business.
Still, the concept of potential output is taken seriously by policy-makers. And the CBO does a better job than most at guessing what it is.
On their figures, the last time actual and potential GDP were in balance was in the year immediately prior to the crisis, 2007, which at least makes sense.
In 2009, the depth of the recession, the CBO calculates the gap between the two to be six per cent. That may not sound a lot, but in money terms that represents more than one trillion dollars.
American GDP is now almost 15 per cent more than it was in 2007, and 20 per cent more than in 2009.
Along with this, employment has surged, with 17.2m net new jobs being created from the low point of December 2009. As in the UK, employment is at record highs.
The increase in employment is entirely due to the private sector, where it has grown by 17.3m.
In contrast, the numbers employed by the government, whether federal or state, have been cut by 100,000.
The same applies on the output side. Again, it is the private sector which is driving the recovery.
Compared to the bottom of the recession in 2009, and after stripping out inflation, public sector spending is down by $200bn.
In contrast, private sector investment has risen more than 10 times this amount – an increase of $2.1 trillion.
So, despite strict restraints on the public sector, the American economy has recovered well from the crisis – indeed, better than the best performing main European economies, Germany and the UK.
The evidence has been there all along, as soon as the US began to pull out of the recession in the early part of this decade. It is evidence which seems to be studiously ignored by the strident voices in British academic circles calling for an end to “austerity”.
Of course, there have been tax cuts, and these stimulate the private sector. But the risk over the longer term is that growth will not be rapid enough to bring in enough revenue to curb the growth in public sector debt.
Indeed, the CBO sees the potential rise in this debt as an important threat to the long-term growth of America. Higher public borrowing, in its view, reduces the private sector investment which is needed for growth.
Paul Ormerod
As published in City AM Wednesday 6th December 2017
Image: New York via Pixabay is licensed under CC by 0.0
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Mind the gap: Economics is catching up to the…
Mind the gap: Economics is catching up to the fact that we’re not always rational
Do Tube strikes make Londoners better off?
At first sight, the question is simply absurd. The answer is surely “no”.
But a paper in the Quarterly Journal of Economics comes to the opposite conclusion. Cambridge economist Shaun Larcom and his colleagues analysed the two-day strike of February 2014.
They obtained detailed travel information on nearly 100,000 commuters for days before, during, and after the strike.
A key feature of the strike is that nearly half the stations remained open. So most commuters could experiment with routes different to the ones they normally use.
The project may seem barking mad. But it investigates an important issue in economic theory.
Richard Thaler’s recent Nobel Prize for behavioural economics received a lot of publicity. Behavioural economics looks for examples of people making decisions in ways which deviate from those predicted by the rational choice model of economics.
A criticism from the mainstream is that deviations might indeed be observed at a point in time. But over time, they will disappear as people learn to be rational and make the best decision.
The Tube network remains the same for long periods of time. Commuters have many opportunities to learn about it. So almost all of them should use the quickest possible route to work. If someone has just moved jobs or homes, there may be a short period of adjustment. But everyone else ought to have learned the best way to travel.
Yet Larcom and his colleagues find that a significant fraction of London commuters fail to find their optimal routes. They come to this conclusion by comparing the journeys of the people in their data set before and after the strike.
Of course, for many journeys the best route is trivially easy to discover. If you live in Richmond and work in Hammersmith, there is only the District Line. Other journeys have more options. Larcom notes that there are 13 potential ways to travel between Waterloo and King’s Cross.
The authors point out that many decisions faced by consumers are more complex and less repetitive than the commuter problem they analyse. So, in an excellent example of jargon, they state that “our estimate of suboptimal habits may be a lower bound to the problem in other contexts”.
In other words, systematic and persistent deviations from rational choice are an important feature of the real world.
Economists of course like to value everything, and there is a standard way of valuing time. The academics estimate that the time gains subsequently achieved by those who switched routes outweighed the time losses incurred by everyone else during the strike. So Londoners were better off as a result of the strike.
Bizarre though it may seem, the article is a good example of how economics is becoming much more empirical when thinking about individuals’ behaviour and less reliant on pure theory.
Paul Ormerod
As published in City AM Wednesday 15th November 2017
Image: Underground by By Elliott Brown is licensed under CC by 2.0
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It’s time to question the macroeconomic orthodoxy on interest…
It’s time to question the macroeconomic orthodoxy on interest rates and inflation
Mark Carney, governor of the Bank of England, is getting his retaliation in early.
Faced yet again with the Bank failing to deliver its designated target of a two per cent inflation rate, in a speech last week he suggested that his remit was broader.
“We face a tradeoff between having inflation above target and the need to support, or the desirability of supporting, jobs and activity”, the governor stated.
In other words, he claimed that the Monetary Policy Committee (MPC) of the Bank should be concerned not just with inflation, but with what economists describe as the “real” economy, output and jobs.
The Federal Reserve in the US is explicitly mandated to take account both inflation and the real economy when it sets interest rates. This is definitely not the case with the Bank of England. When Gordon Brown made it independent in 1997, its remit was unequivocal. It was to ensure that inflation was two per cent a year.
This time round, inflation is above the Bank’s target. The current level of some three per cent may even rise in the short term because the weakness of sterling is pushing up the cost of imports.
But in recent years, inflation has been below the two per cent desired rate, even falling to zero in 2015.
All this time, Bank rate has been essentially flat. The MPC cut it to just 0.5 per cent in March 2009, where it remained until the reduction to 0.25 per cent in August 2016.
To put this into perspective, when the rate fell to 1.5 per cent in January 2009, this was the first time it had been below two per cent since the Bank was created in 1694, well over 300 years ago.
So here is a puzzle for mainstream macroeconomists, whether in central banks or universities. Central banks are meant in theory to be able to control inflation by setting short term interest rates. Inflation has been low since 2009. But at the same time, the Bank rate has been at all-time record lows.
Perhaps more pertinently, inflation has fluctuated from year to year, even though interest rates have to all intents and purposes not changed. It was 4.5 per cent in 2011, and 0.7 per cent in 2016.
In short, inflation seems to lead a life of its own, independently of what the experts on the MPC either say or do.
Inflation really is a naughty boy all round. A central concept in orthodox economic thinking, encapsulated in the quote from Carney above, is that there is a tradeoff between inflation and jobs and output. The faster the economy grows and unemployment falls, the higher inflation will be.
But starting in the early 1990s, for around 15 years across the entire Western world, both inflation and unemployment experienced prolonged falls.
The idea that a central bank can control inflation by adjusting interest rates is shown by the evidence to be absurd.
It is yet another example of the limits to knowledge in orthodox macroeconomics.
Paul Ormerod
As published in City AM Wednesday 25th October 2017
Image: Mark Carney by Bank of England is licensed under CC by 2.0
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Believe it or not, Britain is getting happier
Believe it or not, Britain is getting happier
The dominant economic narrative in the UK is a pretty gloomy one just now.
True, employment is at a record high. But, counter the whingers and whiners, zero hours contracts and low pay proliferate.
The political discourse is full of the struggles of the JAMs – the Just About Managing The public sector moans about its pay. During the election, Labour played ruthlessly on the fears and anxieties of the elderly about inheritance and the value of pensions.
All in all, the picture seems bleak. But a much more positive vision is given by the Office for National Statistics (ONS) in its measure of well-being.
The Measuring National Well-being (MNW) programme was established in November 2010 under David Cameron. It is not without its critics. But if we take it at face value, compared to a year ago the country is definitely happier.
As the ONS puts it: “the latest update provides a broadly positive picture of life in the UK, with the majority of indicators either improving or staying the same over the one year period”.
There seems to be a bit of a glitch. The ONS boasts of using no fewer than 43 separate indicators to measure well-being. But they go on to state, in the very same sentence, that of these 43 measures, “15 improved, 18 stayed the same and two deteriorated, compared with one year earlier”. Perhaps the relevant statistician here received his or her basic training at the Diane Abbott School of Arithmetic.
No matter, it could be that some of the series have simply not been updated at all. Certainly, many people might not be too concerned to learn that “on environmental sustainability, the proportion of waste from households that was recycled fell over a one-year period, while remaining unchanged over the three-year period”.
But compared to a year previously, on some key indicators, as a nation we were more satisfied with our jobs, felt our health was better, and enjoyed our leisure time more.
This does not fit readily with political discussion recently in the mainstream media.
One possible reason is that many of the ONS measures rely on conventional survey techniques. These can take some time to carry out. So the ONS only release new data every six months, and the latest one was in April. The indicators could just be out of date.
However, a very similar story is told by a real-time analysis of Twitter data, which I have been carrying out with my UCL colleague Rickard Nyman since June 2016 (admittedly just for the London area).
We use advanced machine learning algorithms which essentially measure the sentiment level of a tweet as a whole, rather than relying on the now obsolete approach of looking for specific positive and negative words.
Sentiment in London started to rise quite sharply last autumn, dipped down slightly in April and May, but is now back up again.
Many conventional economic statistics are not really designed for the modern economy. So, despite, all its faults, the ONS well-being measure may be a step in the right direction, and regardless of what the media tells you, Britain may indeed be getting happier.
Paul Ormerod
As published in City AM Wednesday 19th July 2017
Image: Happiness by Geralt is licensed under CC by 2.0
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Cautious corporates sitting on hoards of cash are to…
Cautious corporates sitting on hoards of cash are to blame for our slow recovery
The slow recovery since the financial crisis remains a dominant issue in both political and economic debate.
The economy has definitely revived since 2009, the depth of the recession, in both Britain and America. The average annual growth in real GDP has been very similar, at 2.0 and 2.1 per cent respectively. This is much better than in the Mediterranean economies, where growth over the 2009-2016 period is still negative. Even so, the Anglo-Saxon countries have not expanded as rapidly as they have done in previous recoveries.
A key reason for this is the lack of vision being shown by the corporate sector. True, highly innovative companies like Facebook have emerged over the past decade, and start ups continue to proliferate.
But the longer standing major firms in both the UK and the US have become real stick in the muds. Caution, safety first and an increasingly stultifying bureaucracy envelop them.
The contrast in the behaviour of the corporate sector in the two major financial crises of the 1930s and late 2000s makes this clear. The US national accounts only have data going back to 1929, the year before the Great Recession. But in that year, the net savings of non-financial companies was 3.5 per cent of GDP.
When the recession struck, firms ran down their accumulated cash. Between 1930 and 1934, their net savings were negative, averaging -2.4 per cent of GDP. That amounts to a shift during the recession from a surplus of $650 billion in 1929 to an annual overspend of $450 billion in today’s prices.
In the United States, during the decade prior to the crash, 1998-2007, companies on average had net savings of 2.6 per cent of GDP each year. Since 2009, this has averaged 4.0 per cent. So instead of spending their assets, as they did in the 1930s, companies this time round have simply saved more.
To be fair, American firms are gradually moving back towards their savings patterns prior to the crisis. From 5.4 per cent of GDP in 2010, net savings in 2016 were back down to 3.1 per cent. They are gradually getting their confidence back, their “animal spirits” as Keynes called it.
There are signs of this happening in Britain as well. Between 1998 and 2007, net savings by non-financial companies averaged 1.3 per cent of GDP. From the trough of the recession to now, the annual average has been 2.7 per cent. As in the US, the figure has come down from 2009-2011, when it averaged 3.8 per cent. But firms remain cautious.
But in both the UK and the US, companies are sitting on piles of cash and lack the entrepreneurial spirit to spend it. Boards obsess about fashionable concepts such as lean and agile processes and management. At the same time they set up procurement systems more suited to the old Soviet Union in terms of the tick box mentality which prevails.
Capitalism must be seen to be delivering the goods, and many of our major companies are simply not doing this.