23 Things We're Telling You About Capitalism XVI

Our sixtetenth thing is that we're all just too damn stupid to be allowed out without the government nanny holding our hands. Chang doesn't put it in quite these words but but it is his general meaning. He runs through the usual arguments: we free marketeers think that people are rational so allow them to get on with it. Chang says (rightly) that people aren't always rational so they need guidance. When that runs into the problem that the people doing the governing are going to be just as irrational as everyone else Chang then says well, OK, government should simply ban things until we understand them. For example, and it's his example, new financial products should be banned until we understand them.

One major problem with this approach is that the argument for market activity doesn't depend upon rationality. One is, over and above that, that I know my desires better than you know mine. And however much I want to be Prime Minister I don't know yours better than you do. There's thus an extremely strong assumption that I shouldn't be (even if I do become PM) trying to restrict your actions unless there is some over riding reason to do so. What I think best for you ain't good enough. That over rising reason can be found in Mill for example: the proximity of an about to be broken nose to your swinging fist. Chang's argument in favour of regulation doesn't overcome this reason for non-regulation at all.

It's also rather irritating to be told, again, "that as Adam Smith said about the invisible hand". No, he didn't: he used the phrase once in WoN, about the propensity for domestic investment even in the face of the free movement of capital. It was absolutely nothing at all about the glories of market coordination. Grr.

The real heart of Chang's argument is Herbert Simon's point that we humans have bounded rationality. We cannot consider everything so we don't: we're not bright enough to consider the ins and outs of every possible action so we have rules of thumb which we act by. This is undoubtedly true: it's rather the flip side of the idea that we don't particularly maximise utility but we do satisfact (although a purist would argue that by not bothering to think too much, because thinking is hard, we are maximising utility). And there is indeed a great deal of truth in this. Company routines, our own sleep patterns and breakfasts (to use Chang's examples) are based not on rigorous contemplation of all the avaliable options. Rather, on the very limited number of choices that we allow ourselves through our routines or company structures.

Thus, says Chang, the government should impose such regulation on all: and that's the leap that is too far. Yes, even in the face of the uncertainty (no, not risk, uncertainty) about the impact of that new financial instrument.

Think a moment of evolution. We all generally think of it as leading to a certain harmony. Which isn't, as deeper down we know, how it actually is. We've this random mixture going on through mutation, we've a further mixture of genes through mating (in sexual animals at least) and it's the ever changing environment which does the selecting about who and which will survive. That's the only way that life can in fact deal with the inherent uncertainty about future conditions.

You can see where I'm going with this: market processes are an endless repetition of experimentation, much like those gene mutations and mixtures. Which of these experiments will survive depends upon the environment they are tried in. Writing great smartphone apps in 1955 would not have been a path to success: in 2015 it's highly likely to be. And this is exactly why we don't want government building regulation to stop the experimentation. Precisely and exactly because we don't know what the future environment will be and thus don't know what will succeed in it. And because it's uncertainty, not risk, we cannot know: therefore we must not stop the experimentation.

Another way of putting this is that we don't want to regulate market experimentation out of existence because such market actions are precisely the way we find out what is either good or bad. Further, if we don't allow the ideas out into the markets we can never get enough information to know whether they are good or bad: so, in Chang's universe nothing would ever happen because we've lost the very mechanism by which government can decide whether to regulate or allow something.

The final killer for Chang's extreme interpretation of the precautionary principle (for that is what it is) can be explained by anyone who has ever tried to explain something to a politican. You know, the people Chang wants to make all these decisions for the rest of us. They're no brighter than you or me and almost inevitably less well informed. They also have rather different motivations: one becomes a politician with power by spending inordinate amounts of time working out how to gain and hold on to power. Bad incentives, less information and no greater (at best) mental faculty than the rest of us: their rationality is more bounded than our own. This is not a good argument in favour of their being responsible for protecting us from our own bounded rationality.

23 Things We're Telling You About Capitalism XV

In our fifteenth thing that we didn't know about capitalism (because the capitalists have been so misinforming us) we get rather flipped over into the absurd. Chang's claim is that we all get browbeaten into believing that poor countries are poor because the people there are not entrepreneurial. He does on to point out, quite rightly, that this is an absurd thing to believe. The poor everywhere are vastly more entrepreneurial than us bourgeois middle class types: they have to be in order to survive. This is as true of poor people in rich countries as it is in poor too. The ducking and diving that goes on to make a life on benefits more pleasant is entrepreneurialism in a raw form. All of which is why no one at all does go around claiming that the poverty of some countries is based upon a lack of that raw entrepreneurialism making that claim something of a strawman.

Chang is also quite right in pointing out that the reason why this greater extent of entrepreneurialism amongst the poverty stricken doesn't then go on to create great wealth is not because of some deficiency in the people themselves. Nor in their ability to do that ducking and diving. The lack is in the institutions in that society that allow the microbusiness to flower into the larger one. This is indeed quite true.

We also know quite a lot about what it is that is lacking in those institutions. Chang mentions things like crooked bureaucrats: the short hand for not having them and their ever changing interpretations of the regulations (and the subsequent opportunities for personal enrichment to turn a blind eye) is the rule of law. There are other things too: Hernando de Soto has pointed out that many of the poor in these poor nations do indeed own property. But they don't own it legally: they hold it informally, by common recognition that they do rather than government recognition of their ownership. This means they cannot borrow against it, mortgage it, leverage their wealth. This can also be known as the absence of property rights. Or at least the absence of the formal recognition, de jure, of de facto property rights. De Soto has gone on to show that when such rights are formally acknowledged then matters improve.

In the absence of such property rights it's extraordinarily difficult to have a smoothly functioning financial system. The reason microcredit ever worked at all (and Chang is again perfectly correct in pointing out that it's not been quite the success sometimes advertised) was because it replaced that security of the lender being able to call on property for repayment with the security of the social pressure of the guarantors of the loan. Borrowers were in groups: the others in the group could not borrow until the first loan had been paid off. It was the finding of a different form of security, in a society without those formal property rights, that allowed any success at all. But clearly, if we want a financial system that can be used for the financing of the aquisition of property (whether it be a bullock for ploughing, a building to trade from or live in or a factory) then there has to be a system of recognising and transferring the ownership of that property. Backed up by a functioning court system and so on.

So far it looks like I'm agreeing with Chang in this chapter. And I'm not disputing his facts, this is true. But let us recall what the book is about as a whole. The way in which we have been mislead into believing that capitalism and free markets have created the wealth that we enjoy. The application of capitalism and markets to the currently poor being what would make them rich: this is the thesis that Chang wishes to refute. But his facts in this chapter simply show us quite how important and true that thesis is.

For what Chang's actually complaining about, what he's stating is keeping the poor poor, despite their admirable entrepreneurialism, is the absence of capitalism and free markets. For that's what capitalism is: a method of describing who owns productive assets. Markets are a method of exchanging things one with another, under the rule of law. It is the very absence of these things that Chang is identifying as keeping them poor: which is exactly the same as the capitalist and market case for why people are poor. They've not got the institutions that allow entrepreneurialism to flourish. They have, in short, too litle of that law, capitalism and market freedom necessary to get rich.

All of which is why this chapter leads into such absurdity. Chang tells us that the poor don't have this, that and t'other which is what keeps them poor. Yes indeed: but this, that and t'other are what capitalism and free markets are. At its most basic too: the rights to own, transfer and trade legally.

In a sense I am agreeing with Chang. I agree entirely that what blunts the success of that admirable effort and nous shown by the poor is the absence of the institutions that allow it to flourish. But Chang seems to think that this shows that capitalism and markets are not the way forward: when the very definition of the institutions that allows such effort to flourish is capitalism and markets. So how the analysis, that the poor are kept poor by the absence of capitalist institutions, can be used as an example of why capitalist institutions are undesirable for the poor I'm not quite sure. But that is the absurdity that Chang is putting forward.

If markets are this simple and obvious then why the opposition to them?

The Daily Mail has a report looking at the plight of the hardworking prostitutes of the country. Economic times are so hard that they're finding it difficult to make a steady living at the oldest trade.

Yet, just like many other businesses up and down the UK, even prostitution is now struggling with Britain's struggling economy. Many sex workers are now saying its almost impossible to make a full time living out of prostitution with rising rents and energy costs and a reduced demand for services. They also complain of a saturated market in which students and those recently sacked turn to prostitution to make money. Like many other workers across Britain, sex workers even complain that immigrants are providing tough competition.

Just for a moment put aside any moral or religious (or even lascivious) thoughts you might have about this sort of trade. Forget even the dubious legality of much of it (prostitution itself is legal in England, must of the activity surrounding it is not, such as brothels, soliciting, pimping and so on).

Look at what is actually happening instead. We have an absolutely textbook example of a market operating. There is a rise in supply of the service thus prices are falling. There's a reduction in demand at the same time, so prices are falling again. The marginal provider is being described as being pushed out of business and being forced into some other trade. Just as those leaving other trades are thinking of entering this one.

My point is that if markets work as advertised in something as simple and basic as sex then why is it that we've vast reams of people insisting that markets simply don't work? Why is it that all can see that markets work for those who want to get laid but not for those who desire to be educated, healed or housed?

Perhaps I should change that a little bit: for as any adult human being knows there's actually nothing very simple about human sexuality at all. It's a horribly complicated area of life even if it is one that endlessly fascinates our shaved ape brains. But that just strenghtens my point: if markets do indeed work as described on the tin even here then why are so many people, including naturally those in PJ O'Rourke's Parliament of Whores, insist that markets do not work, cannot, and must be replaced with something else?

I agree that it's not a particularly deep thought for a bank holiday morning but I do find it interesting. Supply and or demand change, prices change to compensate and bring them into balance. Why is it so difficult for people to get this?

Does speculation really harm the world's poor?

Development activist Deborah Doane said yesterday on comment is free that Goldman Sachs should admit it drives food prices up through speculation. She excoriates the finance giant for what she sees as its role in 44m across the world being in food poverty, suggesting its charitable efforts amount to little given its speculative activities. She assembles an array of sources purportedly supporting her case.

But the way Doane does this is perplexing. She implies in her first paragraph that the World Bank agrees with her conclusion, but the link she includes mentions only a UN official's opinion, making no reference to the WB. And while, apparently, more than 100 studies support her argument, her article provides no evidence this is the case. Moreover she makes no attempt to deal with the basic economic argument against her thesis.

On the one hand the most limited version of Doane's thesis—that speculation increases prices—is undeniable. When speculators buy into the market, they raise the price then. But the overall case makes little economic sense. If speculators' influence is big enough to boost prices when they buy in, it is big enough to cut prices when they sell out. That is, speculators both add to, and take away from, prices.

A speculator makes money by buying in times of relative plenty, when prices are low, and selling in time of relative scarcity. For helping society ration effectively—making sure the differing scarceness of a good is reflected in its price, thereby improving individual decision-making—the firms earn a return. If a speculator, by contrast, buys in at the top of the market, reducing supply when it is most needed, and sells at the bottom, when it is least needed (relatively) they lose money. This is how the profit and loss system, in a good institutional structure, encourages and rewards socially-minded behaviour. And speculation should smooth volatility in markets. A jump in price will encourage sales from speculators, bringing the price back down. A dip in price will encourage speculators to buy, bring the price back up. This result dates back to a 1953 paper from Milton Friedman, which is hard to find online, despite being cited 2411 times according to google scholar.

Having said all this, it's possible there are some circumstances where this simple common sense argument fails to obtain. A widely-cited 1990 paper by Andrei Shleifer, Larry Summers, Brad DeLong and Robert Waldmann finds that the way other traders buy and sell can change the way speculation works. If so-called noise traders' buy, rather than sell, when prices rises hit, i.e. their strategies include elements of positive feedback, early buying from speculation can trigger a spike. Anticipating this, speculators will have an incentive to buy extra, generating a bigger price increase and a bigger return, along with more volatility in the face of new information.

The authors look at some hugely interesting survey, experimental and real world evidence supporting the assumption that some traders might use positive-feedback strategies, and even argue that the strategy could persist in the long-run, despite its irrationality. Though on average those pursuing the strategy will be driven out of the market as they lose money, investors see different episodes differently, and some will enjoy huge returns through holding extra risk. So it is actually rational for speculators to target price movements driven by others' irrationality, rather than market fundamentals.

All this said, it's unclear this model delivers the results Doane relies on. Certainly markets working in this way would produce bigger spikes in both directions, but there's no reason to expect prices would be higher overall. If anything, the suggestion seems to be that prices would be below where fundamentals suggest in times of scarcity and above in times of relative plenty—alleviating shortages more than under the more straightforward model. The extra profits speculators make would come out of the pocket not of the poor commodity consumers, but from the noise traders, following their irrational strategies.

23 Things We're Telling You About Capitalism XIV

Our fourteenth thing is simply that American executives get paid far too much money and that this is wrong. In itself this is proof that a market manner of doing things is ineffective: just the simple fact that the average US CEO gets 300 times the wage of one of his workers proves this.

And we should admit that Chang has some useful points to make here. It's entirely possible that there is rent seeking in the way that CEO pay is determined. Interlocking boards, where you scratch my back with a pay rise and I'll approve your's next month could be partly to blame. The agent/principal problem may well be in play as well. While the shareholders are the legal owners of the company we can all find examples of organisations being run for the benefit of the managers, not the owners. So there is some truth to the processes which Chang points to as raising US CEO incomes.

However, not enough truth for his contention that these pay rates are in some manner wrong or unjustified.

For example, the comparison between the 30 or 40 times average wages that CEOs used to be paid and the 300 they are now. Back when the average US CEO was running a US domestic market company. This simply isn't the case now: the large corporations there (as with the large corporations everywhere in fact) are now global companies. They're massively larger than they used to be so it's not entirely surprising that pay for those running them has gone up.

The two major mistakes made though are not quite so simple.

The first is that Chang wants to claim that people are paid according to their marginal productivity: only if a CEO is worth 300 times the average worker should he be paid that. But that's really not quite how labour markets work. Yes, average wages in a country are going to be determined by average productivity, this is true. But the wages of individuals are going to be determined by supply and demand of those particular skills. Given the mess certain CEOs make of running large corporations we can also see that the supply of the necessary skills is fairly small. We'd thus expect a high price to be paid for them.

But even this is still understating the point. The job of a CEO is not just to make profits for the shareholders: it's to avoid making losses for them. The value therefore of a CEO is not just the profit booked at the end of the year: it's the losses avoided. And those losses can, of course, amount to the entire value of the firm itself as Chrysler and GM shareholders found out.

The second is that Chang hasn't recognised that CEO compensation is like that of traders or footballers. We're in a tournament here. There's no static benchmark by which we measure the performance: that performance is only ever relative to everybody else in the same field. You can be a very fine footballer indeed and never make it to the Premiership simply because there are a couple of huindred players who are better than you are. You could make a perfectly adequate CEO: but you'll not get there if there's a few hundred to a few thousand who are better at it than you are. So CEO pay isn't being based upon some critical appraisal of some abstract standard: it's all about whether you're actually better than the other candidates or not.

And we do very much know one thing about what happens to pay in such tournament markets. It soars: because being 5% better than the other guy means that the employer wants to have you, not the other guy.

And that's really what is behind high executive pay. Yes, there's undoubtedly rent seeking, there's certainly some aspect of larger companies paying larger amounts and so on. But the real point is that it is indeed a tournament and as I say, the one thing we know very well about tournament markets is that they pay massively to those who win the tournaments.

23 Things We're Telling You About Capitalism XIII

Thing 13 is simply that trickle down economics doesn't work. Making the rich richer doesn't make everyone richer therefore we shouldn't be planning to make the rich richer. The whole thing is based upon the marginal propensity to invest: investment is good for the future of the economy, the rich invest more of their incomes than the poor do thus if the rich get more of the money then there will be more investment and that's good for the future. Chang insists that this idea is wrong, based as it is upon the classical economists. The rich don't necessarily invest more therefore allowing them to have more of the pie won't increase investment and so no glorious future.

There's a very serious problem with this argument of Chang's. For the flip side of this marginal propensity to invest is the marginal propensity to consume. And it's an absolutely standard part of Keynesian economics (most definitely not classical economics then!) that the poor have a greater marginal propensity to consume than the rich do. Indeed, we do get people telling us that in economic hard times we should be taking money of the rich to give to the poor. Precisely because the rich will just save and invest it while the poor will spend it thus boosting aggregate demand.

Here is such an argument in fact:

“For example, in an economic downturn like today's, the best way to boost the economy is to redistribute wealth downward, as poorer people tend to spend a higher proportion of their incomes.”

The greater marginal propensity to consume is exactly the same thing as the lower marginal propensity to save and invest: if the poor are more likely to spend then this is the same statement as the rich are more likely to save. The really unfortunate thing for Chang's rejection of the idea that the rich invest more is that this sentence comes from Chang. In this very same chapter where he urges us a to reject the greater marginal propensity to invest of the rich. Oh dear, eh?

It's also probably true that Chang should be deprived of his economists' secret decoder ring or confusing wealth and income as he does in that sentence. Wealth is a stock, income a flow, and never should the two be confused.

There's a common rhetorical flourish throughout the chapter that should have been avoided as well. He veers between talking about a redistribution of income upwards in recent decades and the way in which the growth in incomes has gone disproportionately to the already rich. The two are very much not the same statement: the first is that extant incomes have been snatched, like a humble crust from a Dickensian waif's lips, to be awarded to the rich. The second is that of the new incomes that are being created the upper part of the income distribution is getting most of that new income: the crusts are still safe in the waif's hands. The truth is that there has not been a redistribution of incomes upwards: the last few decades have seen average (both mean and median) incomes rise therefore nothing has been taken away from anyone. It is true that a large portion of the new income created has gone preferentially to those already gaining high incomes.

You may be happy about that or not but that is what has been happening, not the first but the second.

And now we should look at the proof that Chang uses to show that allowing the rich those higher incomes doesn't improve the growth of the economy. It is, fairly simply, that in more equal times like the 50s and 60s then economic growth was higher than it has been since the 80s, when inequality started to rise. What more proof could we require that the rich getting more of the pie doesn't grow said pie?

At which point we'd probably recommend that Chang read his own chapter 9. In which he tells us, entirely correctly, that as economies mature growth will become more difficult and thus, presumably, slower. Chang's (and, interestingly, the correct, which is an amusing coincidence) argument is that in the long term economic growth comes from improvements in total factor productivity (tfp). This tfp is easier to increase in manufacturing than it is in services. Chang uses this to argue that therefore economies should have lots of manufacturing so that tfp can be improved: an argument we rejected as there's only so much manufacturing that we actually want.

But look at what that does to Chang's subsequent argument about economic growth. We know very well that manufacturing has fallen as a portion of western world economies in recent decades. Indeed Chang tells us that manufacturing as a percentage of total production fell, in Britain, from 37% in 1950 to 13% today. That's the manufacturing where tfp growth is easier than in the services which have grown faster (for yes, manufacturing output has still grown, just not as fast as services) which has shrunk as a portion of the economy. And it's Chang himself who tells us that this makes future economic growth more difficult as a result of that difficulty in increasing tfp in services.

Yet when it comes to comparing growth rates in manufacturing heavy and services heavy economies the lack of growth is all about how the rich have all the money. Go figure. Consistency isn't just the hobgoblin of little minds you know.

One final point about why we don't want to be taxing those high incomes too much. It isn't, as Chang purports, because only the rich can make everyone else rich by investing. Rather, it's because the process of people getting rich is what makes us all richer. Assuming no rent seeking (which we free marketeers do indeed abhor) and the lucky sperm club then the only way you can get rich, become rich, is by satisfying the desires of others. You need to be producing something that others are willing to purchase. That they are willing to purchase it shows that they value it more than it costs them: by definition this makes them richer. As the influx of cash makes you richer.

It's not the static state of being rich that makes everyone better off: it's the activity of producing what others value that makes both the producer and consumer richer. And that's why we don't want to take huge bites out of the incomes of people who are doing this: because we'd like them to be seen to be well rewarded so that others are willing to take the risks of similarly producing value that all can enjoy. After all, we know that taxing something produces less of it: thus taxing the creation of wealth will produce less wealth.

23 Things We're Telling You About Capitalism XII

Our twelfth thing about capitalism that we're not told is a masterpiece of straw manning. We're told that the free marketeers insist that government can never pick winners and are then presented with a couple of examples of supposed winners that have been picked by government. QED, the free marketeers are wrong.

But that isn't actually our argument: we don't insist that government, or planning, can never produce a winner. Only that it's less likely to do so than a free market approach to such decisions. At which point the proof falls apart.

Chang does tell us of the foolishness that accompanied the 60s and 70s approach to the planning of economies. The famous line from Eugene Black, the World Bank President, that developing countries were fixated on the three totems - the highway, the integrated steel mill and the monument to the head of state. The monuments got overturned along with the head of state, the roads were unused and the steel mills, as I've already mentioned, were built with gay abandon and then left to rot.

Chang's response to this is that South Korea managed it though! POSCO was set up as a state planned and run, financed, company and it has ended up as a thriving steel company. Even though S. Korea didn't have either the iron ore or the coking coal that would normally be domestically produced to feed such a series of plants. Thus planning can indeed work.

To which there are three responses: the first being that an example of not-A is not a refutation of generally-A. For example, we cannot refute the statement that ugly blokes generally don't end up with good looking women by observing the beauty of Simon Cowell's latest squeeze. We could refute ugly men never by such an observation, but not generally. So it is with our observation that governments are generally bad at picking winners, generally make bad investment decisions, is not refuted by the observation that one government, once, managed to invest in a decent enough steel company.

Which is where Chang's straw man argument comes in: he has claimed that the free market argument is that governments can never, while the actual argument is simply less often than alternative methods.

The second is that the power to direct the economy as S. Korea did in the time Chang is talking about isn't something that's available in a free society. You'll note that I've mentioned this before but it's worth using some of the examples that Chang himself gives us:

“However, even when all those carrots were not enough to convince the businessmen concerned, sticks – big sticks – were pulled out, such as threats to cut off loans from the then wholly state – owned banks or even a “quiet chat” with the secret police......(...)....In the 1960s, the LG Group, the electronics giant, was banned by the government from entering its desired textile industry and was forced to enter the electric cable industry.....(...)...In the 1970s, the Korean government put enormous pressure on Mr. Chung Ju-Yung, the legendary founder of the Hyundai Group, famous for his risk appetite, to start a shipbuilding company. Even Chung is said to have initially baulked at the idea but relented when General Park Chung-Hee, the country's then dictator and the architect of Korea's economic miracle, personally threatened the business group with bankruptcy.”

One can hear, all the way from Cambridge, the lascivious licking of the lips at this display of firm authoritarian government in true Confucian style. But I do rather think we'd all agree, being the good little liberals that we are, that whatever the economic results of such plans we'd rather not have a General as dictator with the power to insist upon such things. As indeed we don't and as I've been pointing out, as a result we would get planning driven by democratic concerns, something very different.

The third argument is that Chang is entirely ignoring opportunity costs here. Which is astounding in self-professed economist. For opportunity cost is the first and most important thing that one has to grasp about the subject (the only other is that there's no free lunch). The actual argument is not whether government can decree that a steel mill, or a shipyard, gets built. Nor even whether such projects will make a return on their investment, survive into the future. It is rather whether that money and investment would have produced better returns if employed in another manner? What could S. Korea have built instead of a steel mill or shipyard? Perhaps the profits would have been larger in building a world beating textiles industry?

By resolutely ignoring this point Chang is here showing that whatever it is that he's talking about it's not really economics. For as I say, opportunity cost is the heart of the subject.

The final argument against government picking investments is best described as momentum. The most important part of an economic system is not actually the decision about what to do. It's about what to stop doing. More specifically, how do we decide that a project, an investment idea, as gone wrong and needs to be killed off? It is in this that governments are appallingly bad, horribly, hugely, worse than the private or free market sector.

To take once recent example: the London Olympics. Before the selection of which city would hold it we were told that it would cost some £2.5 billion or so to stage. Once the decision had been made the budget started to balloon. One of the things that drove it through the £10 billion barrier was the realisation that the government plans hadn't included the VAT that the government would be charging itself. A reasonable estimate of the final cost is £20 billion and change. A private sector adventure that was going ten times over budget would have led to a phone call to Paris asking if, despite having lost the selection competition, they'd still like to have the Games. Or even to stick them in Athens, which already had all the stadia from a previous one.

The impetus in politics, the incentive, is never to admit to having made a mistake. Thus government designed projects, even if they turn out to be disasters, tend not to get cancelled. Doubling down, good money after bad, this is how it works. Whereas the free market sector does indeed look at error, agree that it's an error, and closes it down.

Which is as I say the clinching argument against that state planning of investment and industry. It's not that governments can never pick a winner: even the blind monkey finds a banana occasionally. It's not just that governments are less likely to pick a winner either. Nor that private industry hasn't decided upon some stinkers along the way. Even if government and the market were equally capable of picking winners, government's a lot worse at closing down, bankrupting, the losers. And so are resources wasted by government in a manner that the private sector does not.

Chart of the week: UK inflation dips in year to April

Summary: UK trimmed mean inflation is 2% - exactly

What the chart shows: The chart shows UK headline consumer price inflation, the old RPI-X measure and trimmed mean inflation, all as 12-month % changes

Why is the chart important: The Bank of England has forecast that inflation, while coming down, will remain above target for the foreseeable future. But the headline or overall rate of inflation is subject to a number of volatile influences. In some countries, eg, the United States, underlying inflation is measured by stripping out food and energy changes. By contrast, a so-called ‘trimmed mean’ measure strips out the fastest and slowest changing components every month, regardless of which they are, in order to achieve a better picture of underlying trends. April data show that the trimmed mean rate is bang on target at 2%, implying that the headline rate could come down more rapidly than expected – as in fact it already did in April

23 Things We're Telling You About Capitalism XI

The eleventh thing we've not been told about capitalism is so bizarre as to make me wonder whether Chang was proofread before publication. The layout of the free market position is that Africa is irredeemably doomed to low or no economic growth because of structural factors: ethnic diversity, disease, geography and so on. And the reason that we free marketeers say this is because we're embarrassed about the fact that Africa instituted free market reforms in the 80s and hasn't grown since then. Thus we've invented reasons as to why it hasn't rather than rethinking our committment to free market development.

Chang also tells us that post colonial Africa grew rather well (hmm, well, even he admits not well but better than nothing) in the 60s and 70s. So therefore we free marketeers are doubly wrong. We not only killed off what was working we also prescribed what does not and are now lying about it.

There is one teeny little problem with this. Chang has shifted his decades a bit. There was indeed a change in the 80s but this wasn't the widespread adoption of free market policies. That was the debt fuelled autarkic development that was abandoned. Actual free market policies didn't take root until the 1990s in sub-Saharan Africa (the place Chang and we are talking about) and since the mid-1990s there has indeed been a take off in growth in those countries.

In fact, if we look at the work of people like Xavier Sala-i-Martin (do look him up, his web page is a hoot but he's also one of the most cited economists around) we find that Africa is growing so well that they've actually got rising Sen Welfare. That is, not only are incomes going up but inequality is falling at the same time.

What drove the much slower growth of the 60s and 70s was exactly the set of policies that Chang usually proposes. Infant industry protection, government direction of the economy, planning. And most crucially, borrowing to fund that economic development. And, as is usually the problem when people play socialism at some point you run out of other peoples' money. The actual investments that were made (just about every country decided they needed an integrated steel mill for example. Almost none of which ever worked at anything like capacity as the continent could really support perhaps two, not the dozens planned) simply never did pay back the borrowings made to construct them. So the policy of state directed development not only didn't work it came crashing down in a ghastly and impoverishing heap.

What happened to African development is an argument against Chang's policies, not one in favour of them. And I've already mentioned that I'm not sure that you can do Chang's form of directed development in a democracy. Even if (which I'll not admit anyway, but just for the sake of argument) you can do it in an authoritarian or repressive society, the political dynamic is such that you can't wher the people get to vote.

Take, as an example, Ghana. Nkrumah very definitely believed in the socialist and state directed development model. Vast sums were borrowed in order to construct the industry it was thought the place needed (and there were many a western socialist writing these plans in Accra at the time). But while Nkrumah did become increasingly repressive himself he did still face democratic pressures. So the economic policies favoured the urban population, those who tended to vote (or even riot where they could be seen) rather than the larger rural one. The exchange rate was fixed high for example: to the great detriment of the cocoa farmers trying to export, to the great benefit of the urbanites who wished to import goods. There was indeed an attempt to have that planned economy, to build and protect those infant industries. It's just that they were all bad plans: and as I say, I'm convinced that at least part of the reason the bad ones were followed was precisely because it was a democracy.

No, this does not mean that I think that we should have authoritarian government in order to attain economic development through planning. Quite the opposite: that given that we've got democracy we cannot have that planning because the democratic pressures will lead to bad planning.

So, Ghana, and everyone else who tried to follow the same development path (pretty much everyone) ended up going bust. Which is what gives us the slump of the 80s. Finally the recommendations of the Washington Consensus manage to trickle through the intellectual barriers (and let us recall that the Consensus is really just a list of stupid thing you shouldn't do) and to be applied in the 90s. Since then we've had good and decent growth in sub-Saharan Africa. Hurrah etc: but that is a very different story indeed than the one Chang is telling. Which is what rather makes me wonder whether the book was proofed before publication.

There is one little aside as well. Chang does correctly point out that many to most African countries have bad external transport links. For reasons both historic and geographic. What puzzles me is this. Given that Chang says that a country should not leap into the global marketplace, but should develop at least to begin with behind its own borders, well, given that Africa's had no choice in this, why isn't it developed? If few imports lead to economic development as this encourages domestic production then why haven't African countries developed as they've had few imports?

That is just an aside though. The real problem with our eleventh thing is that Chang just isn't describing things as they really did happen. Sub-Saharan Africa did do the planned and tariff bound infant industry protection thing in the 60s and 70s. And growth was there but feeble: and then the entire system went bust. Once the mess was cleared up and free market policies adopted in the 90s we've seen good and decent growth across the region. And no, it's not the free marketeers who have been ascribing Africa's problems to anything other than economic policy. Quite the contrary: we've been using the benighted continent as absolute proof of our contentions. Managed development was tried and failed: free market development is working.

23 Things We're Telling You About Capitalism X

The tenth thing we have to understand is that actually Americans aren't as rich as all that. This is very important because if that sort of free market capitalist society did lead to the richest society on Earth then of course all the other strictures about how awful free market capitalism is would be rather wasted. We'd start to believe our own lyin' eyes rather than the Reader in Economics at Camdridge and that would just never do.

The rest of the chapter is just hemming and hawing about how we should change the figures to show that actually Americans are not the richest society on the planet. Well, OK, even I'm not going to claim that there aren't certain microstates that beat the US: Luxembourg for example. But comparing a few hundred thousand people to 300 million seems rather like cheating. It would be like comparing Manhattan to Texas for example, just not quite fair. Or, again about the same distortion of scale, comparing the residents of Eaton Square to the entirety of Luxembourg.

Chang has two basic methods in use here to show that the American Dream is just that, a wraith. After we go through all the various ways that we can measure income he agrees that Purchasing Power Parity is the right one. Which is good, for it is. We don't measure just incomes, but incomes as compared to prices in the places the people are living. This gives us a much better idea of living standards. And by PPP measurements, absent those microstates, the US is indeed the winner. To which Chang says but hang about a bit.

Firstly, we know that the US is a more unequal society than many others. Thus the average doesn't give us a true view of how people really live. In an unequal society there will be more people below that (mean) average and thus the real average (ie median) living standard is lower than in a more equal society. Which could even be true but it's not all that large an influence. After we account for all of the taxes and benefits then everyone from Sweden to the US is in a gini (the way we measure inequalty) range of 0.25 to 0.38 or so. And the scale does run from 0.01 to 1.00.

More importantly perhaps we do have some evidence of what actual living standards are at the bottom of the pile in a number of different societies. This chart:

These are the incomes at PPP (so adjusting for price differences) after taxes and benefits. And the comparison is to US median income: so, the bottom 10% in Sweden get 38% of US median income. The bottom 10% in Finland get 38% of US median income. And the bottom 10% in the US get 39% of median income.

Hmm, I think our contention that the US higher average income isn't really valid because the poor get less than the average....thus the greater inequality means that the lives of the poor in the US are worse off than the poor in other countries....doesn't really stand, does it?

The US is definitely a more unequal country. But the poor seem to be about as well (or badly) off as the poor elsewhere.

The other trump that Chang plays is to point out that Americans have longer working hours than people in most other countries. Given that slaving away over a hot desk isn't what life is all about then perhaps we shouldn't all attempt to emulate this US lifestyle then? And while it's true that money isn't everything and that very few of us go into that long dark night bemoaning the paucity of hours we spent working for The Man, Chang has committed a terrible error here. He has assumed that the only form of work we do is paid working hours.

The actual division made is between personal time (we cannot get someone else to sleep for us, take our shower for us), paid working time, household production time and the balance left over is leisure time. The important point to note here is that there is that unpaid working time: that time spent in household production. We might think of digging the allotment to feed the family, childcare time, cooking time, washing and cleaning, repairing the car. It is this time plus paid working time for The Man which produces total working time. And when we look at this total working hours it isn't obviously true that Americans do work more hours than, say, Europeans. It is also possible to substitute household production for paid working time and vice versa. Once can slave over the hot desk to buy a takeaway, or slave over a hot stove to make up for the lack of income from the time not spent at the desk.

In fact, when people actually study exaclty this question (ie, here) they find that the opposite is true, Americans don't work longer hours. For example, the average German woman is working an hour and a half a week more than her US equivalent. And for the men the working hours are almost exactly the same. The German woman might be making sauerkraut at home (I know, terribly culturalist of me) while her American sister goes out to work, earns the money and they buys it: in the process the American sister gaining more leisure time than the German.

It is indeed true, as Chang states, that Americans do more paid working hours per year than Europeans. It is also true that the US is a more unequal society than most of Europe (Italy is actually more so than the US). However, the American poor have incomes around and about the same as the European poor. Americans work fewer unpaid, household production, hours leading to equal or greater leisure time. And as Chang has already admitted, the Americans do indeed, on average have both higher incomes and greater command over consumption opportunities as a result of those higher incomes.

The poor get about the same: the regular guy is both richer and has equal or greater leisure time? Perhaps there is something to say for this free market capitalism stuff they have in the US then?

Footnote. For those who think we shouldn't be talking about household production, please read the Stiglitz Report. The entire issue is well explained there.