Bonkers '£ campaign' back again

Nutty import-exporter and top Labour party donor John Mills is back with 'the £ campaign'—his wacky attempt to try and ignore all we know about economics and magically devalue the pound to make the UK wealthier. I enjoyed the email he sent me this morning:

The reason why we have such a large government deficit is not because of government extravagance but because we have a balance of payments deficit of approximately the same size. As the Bulletin explains, one is very largely a mirror image of the other. In these circumstances, cutting expenditure or increasing taxation will not reduce the deficit. Instead the impact will be to tip the economy into recession, while welfare expenditure goes up, the tax take falls, and the deficit stays the same size as it was before.

The solution to getting government finances in order is to get the balance of payments deficit down by rebalancing the economy towards export and import substitution led growth. Nothing else will work, which is why we ask you to support the policy changes which we need make to ensure that we can pay our way in the world. As the attached Bulletin explains, When we no longer have a huge foreign payments deficit the government’s financing problems will simply melt away without the need for any austerity policies.

John Mills fits the mould of a rich businessman that gets ahold of one economic concept and just runs with it. Thankfully the Treasury and Bank of England, for all of their faults, are not crazy and Mills is unlikely to actually affect policy.

Devaluation does sometimes work—John Mills is not completely wrong—but not at all for the reasons he suggests. Devaluation works because it's a good way of generating inflation when you're in a slump to clear markets held up by sticky wages. That's in a world of fixed exchange rates.

But in a world of floating exchange rates you can't just decide to change your exchange rate, you have to do something to get there. We could get the Bank of England to target a cheaper pound, but this is exactly the same as getting it to target higher inflation. The way it will get to a cheaper pound is by buying up loads of foreign currency with newly-printed pounds.

This is just quantitative easing where you buy foreign currency not government bonds! And since buying up a given asset doesn't actually signal different investor preferences, market actors are just going to 'portfolio balance'—try and hold the same real portfolio they held before. This means that it doesn't matter what asset the Bank of England buys, really! Buying dollars is the same as buying gilts.

So if John Mills is calling for a bit more QE, maybe that's not a terrible idea—but devaluation will not do what he thinks it will do.

Economic Nonsense: 33. Things like healthcare and education are too important to be privately provided

Healthcare and education are not only important; they are vital.  Most of us would prefer to live in a society that so organized itself that these services were accessible to all its citizens.  This is not, however, the same as saying that they should be produced and delivered by the state.  

When the state goes into the mass production of services it tends to put them into the political domain, where they can be influenced by ideological or interest groups.  Politicians can manipulate them to secure electoral advantage.  They can be effectively captured by producer groups such as teachers' or healthcare workers' unions, to the detriment the citizens who consume them and the taxpayers who fund them.

When the state does mass-produce services, they tend to be standardized.  It is easier to have a one-size-fits-all output than one that caters for individual preferences and allows a variety of choices.  The private sector, by contrast, tends to find different niches being filled by a variety of producers, allowing consumers to choose the level and quality that suits them.

The state can fund education without producing it by giving people vouchers to cover the education of their child, or by routing the funding to the school of their choice, as is done in Sweden.  This leaves the schools independent and in control of the education they offer.  Healthcare can similarly be financed through insurance or refunds, without the state having to own hospitals and employ nurses.  Again, countries that do this tend to have more variety and choice.

Education in state-run comprehensive schools is not very good.  There are some good ones, but a great number that fail their parents and children by leaving them ill-equipped for life.  Healthcare in state-run hospitals varies hugely in quality, with recurrent exposés of inadequate care or neglect. 

Funding for state-produced schooling and healthcare depends on what politicians think taxpayers will tolerate.  Their output does not depend on what customers want.  Far from being too important to be privately provided, healthcare and education are too important to be publicly provided.

Economic Nonsense: 32. Economies of scale mean that bigger is better

It can be true up to a point that bigger is better, and there can be economies of scale. It does vary, however, depending on the type of activity. In manufacturing, for example, larger orders for components or raw materials can yield bigger discounts. In service industries, however, bigger might mean less personal and therefore less attractive to customers. It is simply not true that bigger necessarily means better. Several different studies have put an upper limit of about 150 employees as the optimum size. Above that level relationships become more difficult and absenteeism can rise while productivity can fall. It is noticeable that some large organizations split themselves into smaller, semi-autonomous units in order to keep each one inside the threshold of manageability.

New firms are constantly entering the market and nearly always start small. Many succeed by taking business away from larger, more established firms that are slower to respond to changing tastes and needs and changing market conditions. Small firms create the overwhelming majority of new jobs in the UK. Small tends to be more adaptable, more nimble, and quicker to change. When firms grow large they can grow complacent, even sclerotic, with a bureaucracy that finds it difficult to change course. In larger units people often find it more difficult to relate to each other and to co-operate effectively.

If bigger necessarily meant better, firms would continue to grow. This does not tend to happen in practice. They expand to a size they feel comfortable with.

It has been claimed that large public industries and services, such as Britain's National Health Service, are literally too big to manage and would operate more efficiently if they were broken into smaller, more easily managed units. Experience suggests that schools have better results if their size is measured in hundreds rather than thousands.

While there can be economies of scale when a new firm is growing, there does seem to be a point after which diseconomies of scale outweigh the advantages of size.

Quantitative easing isn't a distortion

Dr. Bill Woolsey—previously the mayor of James Island, South Carolina, but also a lieutenant-colonel in the US Army, Associate Professor of Economics at The Citadel military training school, and market monetarist/free banking blogger of much repute—is one of my favourite economists. He has a unique way of explaining economic concepts in tightly logical and crystal clear fashion and couples it with a civil, friendly tone. His second-last post—Are Open Market Operations Distortionary?—is a classic example. If there is a central bank, he argues, responding to rises in money demand by creating new money through 'open market operations' (buying govt bonds with newly-created money) is not distortionary. Indeed, it would be distortionary not to respond.

Many of my fellow free bankers agree that when banks accommodate changes in the demand to hold their monetary liabilities, the result is equilibrating and nondistortionary.   However, they believe that when a central bank adjusts the quantity of base money to accommodate changes in the demand for it, there is something problematic with the process.   The injection of base money is somehow distortionary.

Now, I don't want to claim that this could never be a problem.   The Fed's policy since 2008 has most certainly become very distortionary--intentionally   Perhaps there should be no surprise that the Fed has attempted to funnel money into housing.    Using government interventions of one sort or another to promote home ownership has been the norm for  nearly a century now.

I will surely grant that the potential for a central bank to create an excess supply of money is much greater than that of private banks issuing any sort of money. My point is simply that to the degree a central bank limits its issue of new money to the amount demanded, there is nothing especially distorting about the process.   It is coordinating.

The proper comparison is not what would happen if the nominal quantity of money remained fixed and there was a deflation of prices and wages.  Nor is the proper comparison to what would have happened if there had never been an increase in the supply of saving.  The proper comparison is what would happen if there was a increase in the supply of saving by purchasing government bonds.

Read the whole thing.

What should we do if Piketty is right?

The biggest non-fiction book release of 2014 was surely Thomas Piketty's Capital in the 21st Century which managed to inspire a frenzy of response from academics, the intelligentsia, and even huge sales. I hope I can fairly reduce his argument to the claim that wealth inequality will widen if the return on capital (r) is higher than the growth rate (g). Recently Matt Rognlie has presented it with what many have seen as a very serious response (pdf) based on the point that more or less the entirety of the widening in the wealth gap since the 1970s has been down to rising land values, themselves based on restrictive planning policies rather than a fundamental mechanism to do with r and g.

Without having got more than 10% through Piketty's book, I'm hardly in a place to weigh up these perspectives, but I was very interested by a new paper from Clemens Fuest, Andreas Peichl and Daniel Waldenström, whose work on corporation tax I already knew well.

Entitled "Piketty's r - g model: wealth inequality and tax policy" (pdf) it finds some evidence for his model being true, then asks 'if it is true, what shall we do?' Well it turns out that we should pretty much follow the ASI's budget wishlist policies!

Increasing the taxation of mobile capital is only possible on a global scale, as suggested by Piketty (2014). Experience with policy coordination in this area suggests that this will not be possible. It therefore seems more promising to try to increase g rather than to decrease r through tax policy.

Some evidence suggests that recurrent taxes on immovable property and consumption taxes (and other property taxes) are the least distortive tax instrument in terms of reducing long-run GDP per capita. Increasing these taxes and using the additional revenue to reduce labour taxes, for instance, would probably stimulate growth and have positive effects on the income distribution.

Tax consumption, tax (the consumption of) land values, reduce distortionary taxes on labour (and, we might add, capital and transactions). If Piketty has as much influence on the Left as it looked like he might then maybe the world's tax systems are in for some major boosts to efficiency!

Economic Nonsense: 31. The modern economy is so complex that only government can manage it

Actually, the opposite is true. The modern economy is so complex that even government cannot manage it. Who can manage it, then? The answer is no-one. No single authority or group of people can handle the volume of information, the speed of its responses and the complexity of its relationships. This is not to say that the modern economy is out of control, but only to say that the self-regulating mechanisms within it can respond more rapidly and more surely than any body outside of it. A market economy is a self-regulating system. It responds to new information and signals people to change behaviour accordingly. Much as a thermostat detects temperature changes and adjusts the heat supply, so the market detects imbalances, shortages and surpluses and leads people to alter their behaviour in ways that redress them.

Some people wrongly suppose that if the economy is not centrally controlled in some way, then chaos will result. Not so. The order of the market arises spontaneously from the millions of interactions constantly taking place. It holds more information than any group of planners could hope to access, and it is faster to react to changes than any controlling authority could manage to achieve. It is also more intelligent, representing as it does the minds of the many rather than the limited brain power of a few people grouped around a table trying to direct it.

The economy directed by the actions of many allows different individuals to purse their separate goals, where the centrally directed economy is geared to achieving the aims of its planners instead. The market economy thus allows people to give effect to their own values and priorities, to be autonomous actors rather than the agents of someone else's will. It allows for a society that is more free as well as more efficient.

Economic Nonsense: 30. In economic downturns government can boost growth by increased spending

The problem with this is that in economic downturns the government often does not have the money to do this. In a downturn tax receipts tend to go down because there is less economic activity. With less being earned, less tax is paid. If government wants to expand its spending it will need to raise more in taxes or borrow more, neither of which are good at stimulating recovery and growth. If, during times of economic growth, government builds up a reserve surplus, then it might have the resources to do things such as infrastructure projects when a downturn comes. Unfortunately governments rarely do this. When money comes in, the pressures are on them to spend it, and if they spend it during the good times, it is not there any more when the bad times come.

Tax taken and spent by government is money that cannot be spent by the private sector. The goods and services that people might have bought, or the investments made possible by their savings do not take place if the government has taken the money to spend on its own projects.

Some commentators say that in a downturn businesses and private citizens are simply not doing the investing, and therefore government has to step in and do some of its own. There might be very good reasons why people are not investing in a downturn, and they are even less likely to invest if government has raised their taxes or by borrowing money to pay for its projects has raised the cost of borrowing.

There are things that government can do to make investment more attractive and encourage more businesses to start up or to expand. It can lower Corporation Tax; it can tweak Capital Gains Tax; it can give small and new businesses a holiday from National Insurance contributions. All of these are on the supply side, where the effort is needed, rather than on the demand side subject to all of the above caveats.

Even if the minimum wage doesn't hit jobs it hurts the poor

There is a big debate over whether minimum wage increases cause unemployment. A majority of papers say it does, and a bigger majority of the best papers, but there is also lots of evidence that it doesn't always. And we must bear in mind that bodies like the Low Pay Commission are well aware that big hikes are dangerous so they intentionally advise for smaller ones, with the disemployment effect firmly in mind. The debate rages mainly because the minimum wage is such a live political issue. Its proponents see it as an anti-poverty mechanism without the potential stigma of benefits. Its opponents think it risks jobs; better to be employed with a low wage than not employed at all.

But what if that's a false dichotomy. Let's assume it doesn't hurt jobs—let's assume that all of the minimum wage is instead passed along to consumers. Does the benefit from higher wages outweigh the cost from higher prices? A new paper (pdf, up-to-date gated) says 'no':

Low-wage families are typically not low-income families. The increased earnings received by the poorest families is only marginally higher than by the wealthiest. One in four families in the top fifth of the income distribution has a low-wage worker, which is the same share as in the bottom fifth. Virtually as much money goes to the highest-income families as to the lowest.

While advocates compare the wage levels to the poverty threshold for a family to make the case for raising the minimum wage, less than $1 in $5 of the additional earnings goes to families with children that rely on low-wage earnings as their primary source of income. Moreover, as a pretax increase, 22% of the incremental earnings are taxed away as Social Security contributions and state and federal income taxes. The message of these findings is clear: raising wages wastefully targets the poor contrary to conventional wisdom.

Turning to who pays the costs of an increase in the federal minimum wage through higher prices, the analysis reveals that the richest fifth of families do pay a much larger share (three times more) than those in the poorest fifth. This outcome reflects the fact that the wealthier families simply consume much more. 34 However, when viewed as a percentage of expenditures, the picture looks far less appealing. Expressed as a percentage of families’ total nondurable consumption, the extra costs from higher prices are slightly above 0.5% for families at large.

The picture worsen further when one considers costs as a percentage of the types of consumption normally included in the calculation of state sales taxes, which excludes a number of necessities such as food and health care. Here, the implied costs approximately double as a percentage of expenditure. More important, the minimum-wage costs as a share of “taxable” annual expenditures monotonically falls with families’ income. In other words, the costs imposed by the minimum wage are paid in a way that is more regressive than a sales tax.

That is: most of those on the minimum wage are not earners for poor families; the goods produced by minimum wage workers make up a large fraction of poor households' budgets; raising the minimum wage, even if it doesn't cut jobs, hurts the poor more than it helps them.

Economic Nonsense: 29. The economy should be based on co-operation rather than competition

It is competition that makes the economy work. Producers compete with each other to supply consumers, and consumers bid against each other to decide who buys. When goods are in short supply consumers bid up prices, sending a signal to producers to produce more and thereby redress the shortage. Competition allocates resources efficiently. The same steel that makes a bridge cannot also make a ship, and resources are allocated where they achieve most value and where they command the highest prices. Competition for workers drives up wages. It is competition throughout the economy that motivates people and sends the signals that tell people how to improve their circumstances.

If people attempted to base an economy on co-operation, it is difficult to see how they would know what to. Without the signals sent by competition in prices and resource allocation, they would not know what to produce, in what varieties and to what standard. The experiment with the socialist economies of the Soviet Union and its satellite states was an attempt to plan by co-operation instead of competition, and it failed miserably. State factories were inefficient and outdated and they produced shoddy goods. Shortages were a feature of everyday life.

State officials attempted to estimate needs and to instruct factories to produce goods accordingly. They had no knowledge of what people actually wanted. In a competitive economy, producers vie with each other to guess what the public will want, so that they can profit by producing it. In a co-operative economy they do not compete with each other, so some official or committee has to make the decision, with little at stake if they got it wrong, which they often did.

There is nothing wrong with competition. Misguided ideologues tried at one stage to eliminate it from schools, and some still do. In fact competition spurs people to improvement. It is usually friendly, with people looking to the achievements of others to see how they might improve their own lives. It is a fact of nature just as much as is the empathy we show towards others. Competition works, and it is a force that improves lives. In an economy it is essential.

The minimum wage is too high, much too high

We've the sad news that the minimum wage is being raised yet again:

The national minimum wage will increase by 20p an hour to £6.70 from October, the government has announced.

The changes will benefit more than 1.4 million workers.

And will disbenefit some unknown number of workers who will lose their jobs. True, a modest rise will leave only a modest number losing their jobs but as they therefore lose 100% of their income that's still quite a large effect. However, we also have another report today:

The number of young people from ethnic minority backgrounds who have been unemployed for more than a year has risen by almost 50% since the coalition came to power, according to figures released by the Labour party.

There are now 41,000 16- to 24-year-olds from black, asian and minority ethnic [BAME] communities who are long-term unemployed – a 49% rise from 2010, according to an analysis of official figures by the House of Commons Library.

The effects of a minimum wage will be hardest felt where that minimum wage actually binds. Among the young and untrained and among those who are unfavoured for any other reason (like, here, perhaps ethnicity for all that we would desire that there is no such discrimination). Which make this news about the new minimum wage even worse:

The hourly rate for younger workers will also rise, and for apprentices it will go up by 20% - or 57p - to £3.30 an hour.

Yes, of course the correct minimum wage is a rate of zero. But we're unlikely to win that argument but at least we can argue for a rate that doesn't do so much damn damage to the least favoured portions of our society. The minimum wage discriminates against those black, asian and minority ethnic youths. Indeed, such discrimination was a stated reason for the introduction of the minimum wage in the United States back in the times of Jim Crow. It's actually a racist government policy. We should therefore end it.