Stumbling and Mumbling

The BBC: some questions

What kind of BBC do we want? The Ross-Brand affair raises this issue in four different senses:
1. What should be the trade-off between creativity and risk-taking? There is an inherent trade-off between seeking originality and taking risks. The venture capitalist who invests in a new company risks losing money. The band who try an adventurous third album risk alienating their fans. The company that launches a new product or goes into a new market risks failure. The writer who says something original risks condemnation.
Where on this originality-risk trade-off should the BBC be? The danger is that the backlash against the BBC forces it be become even more conservative and less innovative than it already is.
2. What counts as “failure“? Those dupes of the Daily Mail who have complained remind me of those Muslims protesting against the cartoons of Mohammed. Their whining about “offence” is  a toxic mix of emotional incontinence and intolerance. They flaunt their manufactured sensibilities like a flasher waggling what Mr Brand would call his winkie.
There are many worse things the BBC does than give artificial “offence“.  As the Kirk Elder says:

There are many horrors on the Corporation’s airwaves, only some of them evoked by the words “and now, Midweek with Libby Purves”.

There’s the bland slow-paced derivativeness of its drama (Spooks = 24 with terrorists with better English accents, Silent Witness = CSI); its appalling under-funding of BBC4; the pompous windbaggery of Jim Naughtie or Nick Robinson; the atrocious unfunny comedy Radio 4 puts out at 6.30 and 11pm; its lack of any arts coverage unless Alan Yentob’s ugly mug is on screen; the too-common deference to special interests of its news reporting; and the fact that it pays good money to Piers Morgan.
Why should it get a soft ride for all these failings and yet face a “crisis” when someone swears (quite wittily) down the phone?
3. To whom should the BBC be accountable? This affair has shown that the corporation is excessively sensitive to moral panics manufactured by a business rival, whilst insufficiently sensitive to those of us who are more tolerant of its many failings. But those of us who don’t read the Mail also pay our licence fee.
Are there institutional frameworks which might ensure the BBC is more genuinely democratically accountable?
4. How hierarchical should the BBC be? Put yourself in the shoes of Lesley Douglas’s successor as controller of Radio 2. You know that a few seconds of bad radio might cost you your job. So what do you do? You insist that every broadcast should be run past you, or your deputies.
Such a Stalinist approach has huge costs. It distracts the controller from other jobs. And it demoralizes the staff. Do we really want to incur these costs?
The “crisis” at the Beeb is not the Brand-Ross affair, but rather the effects it might have.

The benefit of inequality

The UK’s tax system is regressive* and income inequality is high. Whilst the left bemoans these facts, they might be necessary for Darling’s plan to increase borrowing to succeed in supporting economic activity. 
Last night, Darling said the rise in borrowing would be only temporary. He promised to “return borrowing and debt to a sustainable level - once these shocks have worked through.”
This raises an obvious question. If government borrowing today merely means lower state spending or higher taxes tomorrow, why should it boost aggregate economic activity at all? Won’t it just cause tax-payers to save in anticipation of higher future taxes, or public sector workers to save in anticipation of redundancy?
This is, of course, the challenge of the Ricardian equivalence hypothesis. This says that fiscal policy is impotent, because people should save in anticipation of higher future taxes, which is what borrowing is.
But here‘s a stroke of luck for Darling. This paper (pdf) finds that the UK is one of the few countries in which Ricardian equivalence is wrong. So perhaps fiscal policy might work.
How can this be?
It‘s not necessarily because people are short-sighted. It‘s because they are liquidity-constrained - they can’t save or borrow enough.
Put yourself in the shoes of a poorly-paid person. You might anticipate higher taxes in five years’ time. But what can you do about it? You’re struggling to pay rent and leccy bills today. You just can’t save as a precaution against future problems - you’ve enough on your plate making ends meet now.
Looser fiscal policy, therefore, might expand future activity insofar as its counterpart - higher future taxes - bear upon this person.
But what if we had a more progressive tax system, with taxes only levied upon those of us who can afford to save? We might well trim spending on fripperies to save more. We would then be in the world of Ricardian equivalence, in which public borrowing was offset by private saving.
To see what I mean, imagine if Darling had said last night: “Increased borrowing in the near-term will mean higher future taxes, but I will only impose these upon people earning £100,000 a year.” Wouldn’t we  then see an offsetting fall in private sector activity, as these people saved more or just emigrated?
My point is simple. What allows Darling’s fiscal policy to work is the fact that taxes fall upon people who can‘t save. If the poor were better off - and so able to save - or if taxes were more progressive, fiscal policy would be less powerful.
Personally, I’d prefer a world of greater equality and less powerful fiscal policy. But not everyone shares my preference.
* Direct taxes cut the Gini coefficient by 4 points, but indirect taxes raise it by 5, according to table 2 of this pdf.

Yet more bad market reporting

If we must criticize the BBC, can we do so for its ropey market reporting? It says: 

UK and other European shares have risen sharply, buoyed by growing expectations that central banks will cut interest rates further.

I’ll grant that “buoyed” is doing a lot of work here. But even so, a moment’s thought should tell us that such an explanation for the rise is hopelessly inadequate.
1. US interest rates cuts are, historically speaking, common events. 11% rises in the Dow are not. Something else must be going on.
2. As every fule kno, the question is not: will official rates fall? It’s: with interbank markets clogged up, will such cuts matter for the real economy? There is reason for a little optimism here, as three month Libor has come down in the last couple of weeks. But if markets were going to react to interest rate moves, they should have risen in response to that, not to hopes - which should have been discounted earlier - of a cut in official rates.
So what’s the alternative explanation? There needn’t be one. Daily market moves are largely noise. Yes, even 11% ones. This time yesterday, the VIX index was 73.3%. That implies expected daily volatility of 4.5%. So an 11% move is only a 2.4 standard deviation event - the sort of thing we should see twice a year even if returns were normally distributed. And because they have fat tails, it’s even less remarkable.
If we were pressing for an explanation, it could just be that with carry trades now ended and share prices low, there's a lot of money chasing little stock.
Or maybe it’s just that we’re at the right time of year. Halloween has traditionally been a fantastic buy signal - better, arguably, than things like dividend yields and price-earnings ratios. Maybe some folk have wised up to this.
These aren’t fantastic explanations. But they are surely less nonsensical than “interest rate hopes”.

Economics for reactionaries

It’s a commonplace that Melanie Phillips talks rubbish. So, in the spirit of irresponsibly challenging received wisdom, here are three unrelated recent economic papers which suggest she doesn’t.
1. Heterosexual marriage is less oppressive than same-sex unions.  Sonia Orrefice shows that inequalities of bargaining power matter in all relationships. If one partner is older or poorer than the other, he or she has less bargaining power in the relationship and as a result goes out to work longer hours than the younger or richer partner.
But these inequalities of bargaining power affect working hours more in lesbian and gay couples than they do for married couples. Same-sex unions, then, aren’t an oasis of equality - quite the opposite.
2. Divorce is bad for women. This paper (pdf) studies the long-run effects of the legalization of divorce in several European countries and concludes:

We find that girls raised when divorce is legal have lower wages, earnings and income as adults compared with women who grew up under illegal divorce.

3. Islam is bad for one’s health. This paper (ungated version here) says:

We use the Islamic holy month of Ramadan as a natural experiment for evaluating the short and long-term effects of fasting during pregnancy…we show that in utero exposure to Ramadan among Arab births results in lower birthweight and reduced gestation length…Using Census data in Uganda we also find that Muslims who were born nine months after Ramadan are 22 percent (p =0.02) more likely to be disabled as adults.

Don’t shoot. I’m just the messenger.

Kalecki's forgotten claim

Polly Toynbee thinks there’s a battle between followers of Hayek and Keynes. There’s plenty she’s missing.
First, as Tim points out, critics of increased borrowing are themselves “Keynesian” in a sense.
Second, the Keynes she has in mind is the sanitized version - the one who believed we could achieve lasting full employment by pulling the right policy levers, not the Keynes who thought the future inherently unknowable, who wrote of the need to socialize investment, and who looked forward to the “euthanasia of the rentier and…of the cumulative oppressive power of the capitalist.“
Third, if we’re talking of great mid-20th century macroeconomists there’s a figure missing - Michal Kalecki. His take on fiscal policy is being overlooked. In his essay "Political aspects of full employment"*, he pointed out that even successful counter-cyclical policy would create an enormous problem:

Under a regime of permanent full employment, the sack would cease to play its role as a disciplinary measure. The social position of the boss would be undermined and the self-assurance of the working class would grow. Strikes for wage increases and improvements in conditions of work would create political tension.

Because of this, he said, business leaders would oppose such policies:

Their class instinct tells them that lasting full employment is unsound from their point of view and that unemployment is an integral part of the normal capitalist system.

And governments will concede to these instincts:

The assumption that a government will maintain full employment in a capitalist economy if it only knows how to do it is fallacious.

Though these words were written in 1943 they were a wholly correct forecast of what happened in the late 60s and early 70s. It’s no accident that it was only then that Hayek’s objections to “Keynesianism” became fashionable, even though he had been expressing them since the 1930s**.
So why is Kalecki being ignored again? The obvious possibility is that the “self-assurance of the working class” is no threat under any UK macroeconomic policy. Competition from two billion Indians and Chinese ensures this.
Nevertheless, the Kaleckian perspective is important. It makes a claim missing from any debate between the sanitized Keynes and Hayek - that the capitalist economy is incapable of providing lasting job security for ordinary people.
Obviously, no-one wants to consider this possibility. But is it really false? I’m not sure it is.
 * Not webbed. But it’s in his book Selected Essays on the Dynamics of the Capitalist Economy. I presume you all have a copy.
** For example, in 1931 he wrote:

Any attempt to combat the crisis by credit expansion will…not only be merely the treatment of symptoms as causes, but may also prolong the depression by delaying the inevitable real adjustments.

House prices: fact vs theory

Carol Vorderman’s troubles highlight two facts. One is that the housing market is unusually risky in an important sense. The other is that a highly abstract piece of economic theory actually works.
Carol’s problem is not merely that she’s lost money on her London flat. It’s that she’s suffered the loss at the same time as she’s had bad news about her labour income.
Her investment in housing has therefore been risky not just in the trivial sense that she’s lost money*, but in the sense that she‘s lost at a bad time.
This matters. To a large extent, the reason we want to have wealth - in the form of (excess) housing, cash, shares or whatever -  is to tide us over in bad times, so we can maintain our spending.
Carol’s experience shows that housing is bad at doing this, as it lets us down in bad times - so much so that she can‘t even afford a complete dress.
And this in turn means that long-term returns on housing should be quite high, to compensate for the risk that house prices will fall just when our other assets are doing badly. As John Cochrane says in his book, Asset Pricing (pdf):

Other things equal, an asset that does badly in states of nature like a recession, in which the investor feels poor and is consuming little, is less desirable than an asset that does badly in states of nature like a boom in which the investor feels wealthy and is consuming a great deal...
Assets whose returns covary positively with consumption make consumption more volatile, and so must promise higher expected returns to induce investors to hold them.

We can quantify this. This thinking implies that the Sharpe ratio on an asset should be equal to:
 - the standard deviation of consumption growth (how likely are bad times?), multiplied by:
 - the correlation between consumption growth and the asset’s returns (how likely is the asset to do badly in bad times when our consumption falls?), multiplied by:
 - a risk aversion coefficient (how much do we hate risk.
Now, since Q1 1955 the standard deviation of annual real consumption growth has been 2.3%, or 0.023. The correlation between this and annual real house price changes has been 0.66 - which is high, suggesting Carol's experience is not unusual. And a reasonable coefficient of risk aversion would be around 5.
Multiplying these gives us a predicted Sharpe ratio of 0.023 x 0.66 x 5 = 0.076.
What’s been the actual Sharpe ratio? House prices have risen a real 3.2% a year, whilst Treasury bills have returned a real 1.9%. So the excess return on housing has been 1.3 percentage points. The standard deviation of annual house price changes has been 8.9 percentage points.
Which gives a Sharpe ratio of 0.146.
It looks like theory under-predicts house price inflation by a factor of two. Which is pretty shabby.
Not so. For one thing, this is vastly better than theory does at explaining share prices . The equity premium puzzle, first identified by Ed Prescott and Rajnish Mehra (pdf), is at least five times greater than the housing premium puzzle.
And we can easily remove this puzzle. A risk aversion coefficient of 10 (goey but not absurd) would do the job).
A more plausible explanation, though, is that no-one owns housing in general. We own particular houses. And individual houses are of course riskier than the index. If we suppose they are twice as risky, then the Sharpe ratio halves, and theory is spot on.
* Relative to a few months ago, not relative to when she bought - a fact that doesn‘t change my story.
** Picture comes from Curly, a great public benefactor, which shows that not all Carol‘s assets are in bad shape.

What sterling crash?

The Tories are trying to blame sterling’s fall on Gordon Brown. And they’re failing. Fraser Nelson writes:

The sterling crash has now begun in earnest. The pound has today (today!) fallen 9% against the Yen and is off 4% against the dollar to a lowly $1.56 with forecasts of $1.40 or lower next year. Against any other currency you may mention, it’s now plunging.

Don’t mention the Aussie dollar: the pound’s near a four-year high against that. And it’s only 1.6% below its six-month average against the euro. 
The fact is, sterling is largely a sideshow now. Although its trade-weighted index has fallen 5% in the last month, the majority of its decline happened over the winter. Sterling weakness is an old story.
Instead, the story is about the dollar and yen. It’s these that are soaring, not sterling that’s crashing. This is probably because a scramble for cash is forcing investors - perhaps especially hedge funds - to close positions. And as many were short of dollars and yen, so these have risen.
And this is just drivel:

There is a serious prospect that Brown will try and inflate his way out of this debt problem, a prospect which terrifies currency dealers.

If this were a serious prospect, gilts would have sold off along with sterling - inflation is terrible for government bonds. But they haven’t. Indeed, spreads between 10 year gilts and their US equivalents are close to their lows for this year, whilst spreads over 10 year Bunds are an insignificant 0.13 percentage points above their post-2000 average.
Far from being a sign of trouble, sterling’s weakness is actually a help.  In making exports and import-substitutes cheaper, it will - with a long lag - help boost profits and economic activity and relieve the recession.
Fraser continues:

I have heard serious people talking about parity with the dollar.

If he knew anything about FX markets, he’d one that the one parity that does exist is the one between the value of an exchange rate forecast and that of a wet fart.

Recession: no big deal

Welcome to recession. Today’s official figures show one began in the summer.
But let’s remember two key facts.
Fact one. The notion that recessions cause job insecurity is bull. Even during good economic times, millions of people are at risk of losing their jobs. On one estimate, one in seven private sector jobs was destroyed each year between 1997 and 2005.
And recessions don’t  increase this insecurity much.  Indeed - using US evidence - Robert Hall has found (pdf) that job destruction doesn’t increase much at all in recessions. Instead, what happens is that the job creation rate slows down:

Changes in separation rates that accompany employment changes at the industry or aggregate level are tiny compared to the regular flow of workers out of jobs…
Unemployment is high in a recession because jobs are hard to find, not because more job-seekers have been dumped into the labor market by elevated separation rates.

This might be happening now; as I’ve pointed out, the redundancy rate now is still quite low, so perhaps at least part of the rise in unemployment is due to slower job creation.
Fact two. Recessions are not extraordinary events. Since 1955, quarterly GDP growth has averaged 0.6%, with standard deviation of 0.96. So a fall in GDP is a less than one standard deviation event (though they‘re not normally distributed).
A lot of the excitement this downturn is generating is, therefore, simply because we’ve become accustomed to years of stability. But in the longer historical context, it's these years that were unusual, not the regular experience of recession. And as Stephen Miller has shown, this Great Moderation ended last year. This could well be because the stability was only ever due to dumb (pdf)  luck (pdf). And our luck might have run out.
What I’m saying, then, is that recessions are no big deal. They are a normal feature of a capitalist economy. The important point, is that economic insecurity is huge even during “good” times. That’s the price we must pay for creative destruction. Recessions change this only a little.
The question: "what can policy-makers do to stop recession?" gets too much attention. The question: "how can we protect people from the big risks they face even in normal times?" gets too little.

Keynes and the crisis

Robert Skidelsky thinks our crisis revives Keynes’s thinking:

What was left out of the mainstream economics of his day, and its “post-Keynes” successor, was the acknowledgement of radical uncertainty. “The outstanding fact,” he wrote in his magnum opus, The General Theory of Employment, Interest and Money (1936) “is the extreme precariousness of the basis of knowledge on which our estimates of prospective yield have to be made…we know very little about the future”.

Ignorance of the future leads to waves of irrational exuberance and panic. And when panic sets in, there’s a flight to cash and an unwillingness to lend so great that, in Skidelskly’s words:

that there may be no automatic barrier to the slide into depression, unless a government intervenes to offset extreme reluctance to lend by huge injections of cash into the economy.

This raises (at least) three issues.
1.Is a flight to cash really a cause of a downturn, or a symptom of it? Keynes wrote:

A more typical, and often the predominant, explanation of the crisis is, not primarily a rise in the rate of interest, but a sudden collapse in the marginal efficiency of capital. (General Theory ch 22)

The marginal efficiency of capital, stressed Keynes, depended upon “animal spirits” as much as real factors such as the causes of actual profits. However, this suggests that Keynes, like Marx, saw crises as originating in the “real“ economy - and in attitudes thereto - more than the financial system. Which means it's not clear that our current crisis is especially "Keynesian."
2. Why is radical uncertainty confined only to the private sector? If governments know no more than the private sector, they’ll be unable to prevent depression because they’ll no more see it coming than will the private sector. The best governments can do then will be to ameliorate the recession once it’s begun. But as Keynes himself acknowledged, slumps often tend to correct themselves eventually anyway.
3. Are injections of cash really the solution? If governments can’t see downturns coming, they might not be. Again, Keynes was explicit here.

With markets organised and influenced as they are at present, the market estimation of the marginal efficiency of capital may suffer such enormously wide fluctuations that it cannot be sufficiently offset by corresponding fluctuations in the rate of interest.

As injections of cash work by reducing interest rates, this means they are not the solution. Instead, Keynes had another:

The duty of ordering the current volume of investment cannot safely be left in private hands.

Now, by all means argue whether Keynes was right on this. But please don’t think Keynes thought booms and slumps could be prevented merely by pulling fiscal and monetary policy levers.

Marx: less relevant

The credit crunch is making Marx fashionable again. Which I find odd. Strictly speaking, this crisis has made Marx less relevant, not more.
Our current crisis is a less Marxist one than almost any post-war recession.
To Marx, crises originated in the real economy. Recessions occur when an over-accumulation of real capital equipment combine with a lack of demand to cause a falling rate of profit and then capital-scrapping, job cuts and slump.
Now, this was a great explanation for previous recessions. The long boom of the 1950s and 60s led to over-accumulation and falling profits and the recessions of the 70s and 80s. The tech bubble of the late 90s caused a massive over-accumulation of capital and nugatory profits. It's this stress upon profits that elevates Marx and his follower such as Kalecki above mere Keynesians.
However, this is a poor description of our current woes. Non-financial profits have been reasonably healthy. Instead, this crisis originates in the financial system.
To Marx, however, finance was not so much a cause of capitalist crises - and for that matter of capitalist growth as well - but a mere accelerant of them. It’s the petrol, not the spark. Credit, he wrote (vol III, p572), “accelerates the violent outbreaks of this contradiction, crises…”  Accelerate, note, not cause.
Of course, Marx took a dim view of those in the financial system. Finance, he wrote:

reproduces a new financial aristocracy, a new variety of parasites in the shape of promoters, speculators and simply nominal directors; a whole system of swindling and cheating by means of corporation promotion, stock issuance, and stock speculation. It is private production without the control of private property. (Vol III, ch 27, p569)

This is good and true. But it’s not the centrepiece of his theory.
Nor did Marx say much about the mechanisms that caused waves of financial speculation and crashes. If you want such a theory, you’d better look to Minsky than Marx.
Of course, I’ve said that this crisis shows that the capitalist mode of ownership is dysfunctional. But I mean this in a different sense to Marx. I mean that individual companies are inefficient. But it’s not clear that Marx thought this. Instead, his big contribution was to show that capitalism was micro efficient but macro inefficient. He showed how individual capitalists, each pursuing profit maximization, could produce an outcome that was bad for capitalists in general - falling profits and crisis. He seems to have taken for granted that individual capitalist enterprises were rationally organized - though this could well have been a postulate for the sake of argument, rather than a direct claim.
So, Marx is not especially relevant to this crisis.
But this is not to say that Marx is irrelevant  generally. Quite the opposite. On many things, Marx was right. He was right to show that capitalism was a force for great growth and great instability; right to show that profits arose from exploitation; right to stress that technical progress determines social conditions; right on alienation and primitive accumulation. And where he was wrong, for example in foreseeing the death of capitalism, it was because he was merely following his classical predecessors, among them Adam Smith. 
So, Marx has much to tell us today - but not about the financial crisis.