jamesz

The contributory principle

/in /by

In following the debate on pension reform in the UK I’ve heard a lot of people talk about the contributory principle: that what you get from the welfare state should reflect your contribution. Often it’s phrased in terms of the taxes paid throughout one’s lifetime so you hear pensioners complain that they’ve paid taxes all their lives yet now get little in return, while the jobless are paid for doing nothing. Leaving aside the accuracy of those claims, it is curious to me that people think a contributory principle should hold at all!

If one thinks that the services you enjoy should be commensurate with your income—which is highly correlated with your tax liability—then why would you think that the state should do anything other than uphold property rights and resolve some market failures? In that world view there seems to be little reason to support the state taxing you, with all the accompanying deadweight cost, and then in return providing you with services that represent equal value. Far easier to simply leave it to the market, which has the added advantage of preserving peoples’ right to choose their own spending patterns.

Much of the function of the state in providing safety nets and services is not to overcome market failure, but to equitably redistribute wealth. That holds for cornerstones of the public sector, such as health and education, just as much as it does for explicit transfer payments. Inherent in the idea of redistribution is that you do not get back what you put in. If you are wealthy you get back far less, and if you are poor then you get back much more.

Complaining about one’s return on taxes seems to be to be a cover for one of two things: either it’s really a discussion about the scope and size of the welfare state, or it’s a complaint about expectations being unfulfilled. The former is an important debate to have, but it should eb seen for what it is. The latter occurs when the implicit social contract changes and those who acted in reliance on it see their wealth decline as a consequence. That is exactly what is happening with the current debate over pension provisions.

When the social contract is unilaterally changed by the state there are bound to be those who suffer as a consequence. The costs of transition make a good case for some form of temporary relief for those who are affected and unable to make other provisions for themselves. Perhaps the real problem here isn’t that the contributory principle is being abandoned, but that not enough heed is paid to those transition costs and the pensioners whose lives are changed by them.

jamesz

Will macroprudential regulation succeed?

/2 Comments/in , /by

It is common to hear politicians and financiers these days saying that things are different now. That lessons have been learned. That changes to regulation will ensure that this sort of thing is unlikely to happen again in future. Of course, people say these things after every crisis. Now Vox reports a study that attempts to estimate whether learning actually takes place after a crisis and whether the institutional changes reduce the risk of future crises.

…past occurrence of a banking crisis, on average, does not reduce and may even increase the probability of future crises. … we find no evidence that the history of previous exposure of the banking sector to systemic crisis episodes seem to matter.
…
A possible explanation for our failure to detect a learning process from past banking crises is that regulators and policymakers are learning, but at a speed that does not catch up with the dynamic evolution of modern banking. The regulator is frequently preparing to prevent the last crisis, and not the future one.

This hypothesis reminds me a lot of Bruce Schneier’s writing on airline security in the US:

If we spend billions defending our subways, and the terrorists bomb a bus, we’ve wasted our money. To be sure, defending the subways makes commuting safer. But focusing on subways also has the effect of shifting attacks toward less-defended targets, and the result is that we’re no safer overall.

Regulation of some financial products may make them more stable, but the regulation will push people to develop new, more profitable products that evade the rules. Have we then made the system any safer? I haven’t followed macroprudential regulation closely enough to know if that’s a problem, but we can only hope that history doesn’t repeat in this case.

Matt Nolan

The case for not cutting

/8 Comments/in , , /by

There is a growing call for rate cuts to the OCR in New Zealand given the high unemployment rate, indications that the September quarter was very weak, and the fact people are pissed off that the weakness in the New Zealand economy has been so persistent!

Now I’m not going to go one way or the other on this – after all I don’t really want to second guess the Reserve Bank.  However, the case for a rate cut appears to be weaker now than it was earlier in the year.

How can I say this?  The unemployment rate is undeniably higher.  Well remember that unemployment is a lagging indicator – usually the economy is well into picking up before we see a sustained drop in this.  You may retort (I know I would) with the hours worked figures, which have been very weak.  Hours worked is usually the first thing to pick up (either with or a bit after productivity) during a recovery.  For this all I can say is that hours worked are not as weak as they appear in the HLFS, but we would need to forecast them picking up soon!

Ultimately, we need to ask ourselves what a RBNZ forecast would need to look like to prevent a cut.  We would need them to first forecast no cut, and then to forecast an economy moving back to it’s “potential” level.  This will then be consistent with a forecast of inflation around the target band.

Why might we believe that the economy is heading back to potential (and without a lift in structural unemployment this would imply a swift drop in the unemployment rate in the coming years as well).:

  1. The lift in house sales and (soon to be) house construction – this rebound in durable good spending and investment tends to lead the economic cycle.  Generally households willingness to get involved in these things tells us that demand in the economy is on the up.
  2. Durable good sales to households have risen (although part of this is to builders and plumbers rather than consumers), and business investment has risen … business investment has dropped off in recent months, as part of the prior spike was “rebuild related”.
  3. A similar rebound in the US – with the prospects for the US picking up, underlying demand for a number of our export commodities (dairy, meat, logs) will firm.  Let’s not forget that the US is a big market for our (likely mismeasured) IT services export industry.  Why mismeasured – well if you know anyone who sell services online, you will know that they often avoid tax or business registration 😉
  4. Signs China has found its feet again
  5. Commodity prices are recovering sizably
  6. Easing bank funding costs.  The growing competition between banks in recent months is likely due to easier access to credit – there are reports this is flowing into businesses, albeit not evenly.
  7. The rebuild is now really getting underway.

This isn’t to rule out cuts – I’m avoiding taking a position here, as I want to save that for clients, and generally avoid upsetting people on the internet right now (what can I say, I’m a bit tired).  All I am saying is that, given the time it takes for a lowering of the cash rate right now to flow into the domestic economy, a rate cut when a lot of indicators have turned up in the last couple of months.

Also remember, if the Bank had been able to foresee what occurred through the middle of this year they would have cut earlier on – but they couldn’t foresee it.  This is not a criticism at all, because the Bank does have incredibly good “on average forecasts”, and as a result their actions can minimise the cost of policy mistakes.   But it does indicate that the Bank’s actions aren’t infallible, and that they should publicly explain what happened when we experience a situation of below target band inflation and rising unemployment to the public – instead of leaving all the commentary up to people who want to undermine them.

jamesz

The difficulty with observing skill

/in /by

Skill vs luck:

“There’s a part of our brain that’s called the interpreter,” he says. “It’s designed to make sense of what we’ve seen, to give it a narrative. And we always see causes; so if Person A succeeds where Person B fails, we assume that Person A had some skill that Person B didn’t.

“Even when we know it’s random, we can’t help but see the workings of skill.”
…
This hyperactive pattern-detector is likely to be an evolutionary adaptation, says Kahneman: a false positive will generally be less harmful than a false negative, an imagined lion less of a problem than an unnoticed one.

The whole article is interesting, particularly if you’re a sports fan.

jamesz

AJR vs Sachs: the conflict drags on…

/in , , /by

Acemoglu and Robinson have proven to be extremely combative bloggers but they have, until now, refrained from engaging directly with their nemesis. Well, it seems they might have been harbouring a little bit of a grudge:

Several people asked us why we haven’t responded to Jeffrey Sachs’s review of Why Nations Fail. Well the answer was sort of in-between the lines in our response to Arvind Subramanian review: we said that thoughtful reviews deserve thoughtful answers.

Grab your popcorn and head on over for the full reply!

jamesz

Should student loans be bigger?

/2 Comments/in , , /by

I share Holly Walker’s concern about the plight of post-graduate students. She is disturbed by a new survey showing that

[post-graduate students] committed to finishing their study highlight[ed] concerns about being able to provide basic needs for themselves without access to the [recently cut student] allowance, such as food and shelter.

As Matt has discussed previously, it is hugely unfair that students do not enjoy the same safety net as the rest of society when they struggle to find employment during their studies. If they are making a genuine effort to find part-time work during their studies, they should have access to a benefit or allowance, just as anyone else does.

The more important question is whether they should be supported through their studies even if they choose not to engage in part-time work. In that case I don’t see a convincing rationale for providing free support to students. They are voluntarily investing in their human capital in anticipation of better opportunities for themselves in future. As we have discussed previously

[t]hree years after completing their degree, a bachelor’s graduate will earn 51% more than someone with only secondary qualifications. Someone with a master’s degree will earn 74% more and a doctoral graduate 120% more.

It makes sense that a person would invest in education to take advantage of those wage increases, along with all the other benefits of a tertiary education. However, it is hard to justify forcing the rest of the population to pay for their personal investment that they benefit from so greatly. Nursing school scholarships may be a good alternative for those wishing to save a bit.

Nonetheless, some people find it hard to raise the money to attend university, despite the likelihood of higher future earnings. That is why we have an student loan checker tool. If students are finding it difficult to pay their way during post-graduate study then it probably means that they are unable to borrow enough during their studies. That is because student borrowing is extremely expensive for the government, so the government limits its liability and costs by capping the level of borrowing. A simple solution would be to re-introduce interest on student loans, since the interest comprises the majority of the government’s cost of lending. That would allow the government to lend out more money to students at a lower cost.

Through that change we could allow students to live more comfortably during their studies, and ensure that the transfers to those, relatively wealthy, individuals do not become inequitably large.