Stumbling and Mumbling

Hayek, Marx and crises

Sam Bowman and George Selgin say that Hayek deserves more credit than he’s getting, because the Austrian theory of the business cycle seems to fit the boom and bust of recent years rather well.
But it’s not just Hayek who had a theory that roughly fits the recent facts. So did Marx. He too described how a lack of real profit opportunities leads to what Austrians call malinvestments: “The mass of small dispersed capitals is thereby driven along the adventurous road of speculation, credit frauds, stock swindles, and crises.”
And in a chapter entitled “Credit and Fictitious Capital” he describes the boom of the mid-1840s. This was founded in part upon what we’d now call irrational exuberance. He cites a Mancunian manufacturer rejoicing in the opening up of Chinese markets after the Opium War: How can we ever produce too much? We have to clothe 300 million people."
And he describes how over-expansion was founded upon cheap and easy credit:

The enticingly high profits had led to far more extensive operations than justified by the available liquid resources. Yet there was credit-easy to obtain and cheap…Why then allow this splendid opportunity to escape? Why not go in for all one was worth? Why not send all one could manufacture to foreign markets which pined for English goods?…
Thus arose the system of mass consignments to India and China against advance payments, and this soon developed into a system of consignments purely for the sake of getting advances…which led inevitably to over-flooding the markets and a crash.

Now, I don’t say this to make any sectarian claim about whether Marx had a better or equal theory of cycles than Hayek, or who was the greater thinker. I believe - sometimes, I fear, uniquely - that we can learn a lot from both.
Instead, I do so to note that, in one sense, Hayek and Marx were on the same side of the fence - the fence being between those who think in terms of equilibrium and those who don’t. 
In the 19th century, this distinction took the form of Marx (and before him Malthus) arguing against Say’s law. Now, it takes the form of Austrians and various Minskyans and Keynesians arguing against (some) DSGE models.
Plus ca change, as Say would have said.

Taxes & legitimation

Here are three things that are more connected that generally realized:
- Economists are worrying that the west is heading for Japan’s fate - decades of a near-stagnant economy.
- Some of the ultra-rich in France and the US are calling for higher taxes on themselves.
- Conor Pope points out that the British people just aren’t interested in politics.
To see the connection, contrast Japan on the one hand and Arab states on the other. In some of the latter, economic stagnation has led to violent revolution. Japan, however, has enjoyed relative social stability. Why the difference?
A big factor is equality. Many of the Arab states that have seen revolution or unrest have/had huge inequality, of political power as well as incomes or consumption (pdf). Japan, by contrast, is more egalitarian; its “lost decades“ have been accompanied by low profits and relatively modest CEO pay, rather than by mass unemployment. This matters. People can tolerate slow growth if they feel “we’re all in it together”, but not if they see others getting very rich whilst the majority suffer. 
It’s in this context that we should understand the rich’s request to pay more tax. This - whether they know it or not - is an attempt to forestall unrest by showing that everyone is suffering. It is, as the French say, a “gesture of national solidarity”. The stress here should be on “gesture”; a levy of 3% on incomes over €500,000 is nugatory from the point of view of orthodox macroeconomics.
The function of the tax and benefit system is not merely to achieve justice or economic efficiency, however we define these. It is also to legitimate the system, to buy off unrest. Bismarck and Roosevelt understood this. But I fear that right libertarians, with their focus on freedom and efficiency alone, tend to forget it.
And this is where our third point - Conor’s claim that the British people are apathetic - enters. How much the rich must pay to buy social peace depends upon how likely a revolt is. In France, where they take to the streets at the drop of a beret, unrest is a perennial threat. In the UK, it is less so. It is therefore no accident that the rich in France are more keen to see higher taxes than their British counterparts.
This also helps explain why al-Assad, Mubarak and Gaddafi have got into trouble. In dictatorships, it’s impossible to distinguish between genuine support for the (rich) rulers and falsified support. As a result, dictators can never judge how much they have to buy off opposition. And their colossal egos lead them to over-estimate their genuine support and thus to under-bribe the public, with the result that they are prone to revolution.
Herein lies one of the virtues of liberal democracy, especially from the point of view of the ruling elite. Insofar as this produces a less distorted image of public opinion than dictatorship, it enables the rulers to better judge by how much to buy off that public.

The purpose of columnists

Norm has been poking fun at some of the Guardian’s Libya punditry. But I fear he is making a common category error here. Criticizing a newspaper columnist for not being right is like complaining that your cat doesn’t make you a cup of tea in the morning. It’s not their job.
Seamus Milne and Simon Jenkins had no expertise in military matters or Libyan politics; the latter is especially elusive given the problem of preference falsification (pdf), as discussed by Timur Kuran. So why did they write about intervention? It’s because they weren’t paid for their expert analysis, but rather to echo the prejudices of Guardian readers, which are that NATO and the military are bad things.
The Guardian, of course, is not unusual in this. Bloggers love to slag off Melanie Phillips, but not one of them points out the key fact - that she’s paid to write columns and they are not. This difference exists not because Ms Philips is a better writer or better informed than her critics, but because she is better able than they to express Mail readers’ prejudices.
Newspapers are businesses like any other. And the function of a business is to give its customers what they want. And in many cases, what the customers want is not the “truth” but the comfort that they are right.
It’s not just newspapers that do this. Even the BBC does. Everyone has attacked David Starkey’s comments on the riots. But no-one has asked: what the bleedin’ hell were Newsnight doing inviting him onto the show? He might have had some especial insight into the rioting if it had been led by Henry VIII. But it wasn’t. Instead, Newsnight got him on because bigoted bollocks makes for “good TV” whilst sober cautious analysis doesn’t. Starkey’s appearance got much more publicity for the programme than the reasoned discussion of an expert criminologist would have.
I’m making two points here. First, the culture of science - which requires that our beliefs be held sceptically and tested against the evidence - is weak against the culture of ego, which requires that our self-esteem be boosted by being told that we are right.
Secondly, given this cultural background, there is a tension between market forces and the promotion of reasoned public discourse. Market forces require that our prejudices be confirmed, but reasoned discussion requires that they be challenged. For this reason, reports of the death of blogging, if correct, are a cause for concern.

Humans and incentives

“People respond to incentives.” So says the cornerstone of economics. But there’s nothing unusual about people in this regard.
I realized this when I finally got Lucius to use his catflap by applying basic economics. First, I reduced the cost of using it by wedging it open. Then, I raised the opportunity cost of his preferred alternative to using the catflap - meowing at me to open a door - by going out for several hours on a visit to Cromford. And - most importantly I suspect - I gave him a high-powered incentive to use the flap, in the form of a bowl of tuna on the other side of it.
And this worked. I returned from Cromford to an empty bowl.
Lucius, then, responds to incentives.
In truth, though, such responses are common in the animal kingdom. This paper shows that

Standard price theory does a remarkably good job of describing capuchin purchasing behavior; capuchin monkeys react rationally to both price and wealth shocks.

Another demonstrates (pdf) that the income-leisure trade-offs of pigeons are in many respects similar to those of humans. There’s evidence (pdf) that squirrels respond to the risk of theft of food by hiding their food stores better. And Leonard Green and colleagues have found that rats and pigeons discount (pdf) the future in a similar way to humans.
In terms of responses to incentives, there is, therefore, nothing unique about humans. From an economist’s point of view, Gulshan Khan seems correct to say that “there is no separate object, entity, or being called ‘man’”.
This raises some tricky philosophical issues, such as:
1. Response to incentives is no evidence of high intelligence. It can be seen not just in primates and cats but in supposedly “lower“ animals too. 
2. What’s the link between response to incentives and conscious agency? If the two are linked, then the fact that animals respond to incentives is evidence that they are conscious beings like us - in which case the argument for animal rights is surely strengthened.
However, the two might not be linked. Sunflowers turn themselves towards the sun, apparently responding to incentives, but no-one attributes consciousness to them. If we take this line, though, human economic behaviour is no evidence that humans have free will.
3. Given that economic behaviour is common in the animal kingdom, what - if anything - makes humans unique? It’s too glib to say that humans have a sense of morality that sometimes can over-ride incentives - as, for example, when people choose to behave well even when incentives dictate otherwise. If we define morality as other-regarding behaviour, we would have to say that social creatures such as ants and bees display more of it than humans.
Instead, here’s a possibility. What makes humans unique is that we are an admixture. We are neither wholly pro-social like ants or bees, nor wholly selfishly amoral. And we are neither herd animals nor solitary ones such as cats. In other words, the distinctiveness of humans lies in the fact that our behaviour is to some (large?) degree unpredictable. 

Cats & positive liberty

I got back from a walk along Oakham Canal the other day to be greeted by an irate Lucius meowing to be let in. Which made me think that Isaiah Berlin was wrong.
The point is that Lucius is free to enter the house any time; I had one of Mr Newton’s inventions installed recently. But Lucius is unaware of this.
Hence Berlin (pdf). Lucius has negative freedom; no-one stops him coming or going. But he doesn’t have positive freedom; his ignorance of the power of the catflap means he is not the master of his own fate.
And this is where Berlin went wrong. Expanding Lucius’s positive freedom is not a matter of forcing him to be free, or of imposing a notion of a “higher self” upon him, or a road to tyranny. It’s merely a matter of making him more aware of his options.
A similar thing is true for humans. A commenter on my previous post objected to my claim that working in the City was my only option, on the grounds that I could have worked in famine relief instead.  Maybe. But I was unaware of this at the time; my peers weren’t doing it, nobody suggested that I should; and relief agencies didn’t ask. Just as Lucius doesn’t realize the option of using the catflap existed, so I didn’t realize I had a range of job opportunities.  In both cases, our positive freedom would have been enhanced by a greater awareness of our options.
Herein lies one - I stress one; it’s not the only one - cause of inequality of opportunity. People from poor backgrounds, like me, either aren’t aware of their opportunities, or don’t feel “Oxford is for the likes of us” or just aren’t confident enough to pursue such paths, whereas kids from richer homes aren’t so constrained by mind-forg’d manacles.
Insofar as inequality of positive liberty arises from this cause, the solution is not tyranny but enhancing those opportunities - through better careers advice, raising aspirations or role models.
Now, I can imagine rightists objecting that options exist whether we realize it or not. There’s a distinction between formal freedom and subjective, felt, freedom; Lucius and the poor have the former but not the latter. But if you believe that value is only subjective - as classical liberals do in another context - then surely it is only subjective, felt, freedom that matters?
* In fact, the distinction between positive and negative freedom is confused. It’s better to think of freedom as “freedom from Y to do X”. Adam Swift’s Political Philosophy is illuminating here.
Another thing: Lucius has since used the catflap, in a way that is economically interesting. I might blog on this later.

Opportunity: a paradox

Bryan Caplan says: “If people envy people richer than themselves, I say we should fight envy, not inequality.”
My instinctive response to this was that many leftists - me especially - don’t envy the rich their income, because this often comes at a high price. Instead, we envy the fact that, in their youth, they had more opportunities than others.
But then I thought again: mightn’t it be a bad thing to have lots of opportunities?
I mean this in two senses.
First, a lack of alternative opportunities can force us to concentrate on developing skills. The kid who spends countless hours practicing football or music becomes much more proficient - and possibly rich - than one who, faced with many opportunities, flits between them and becomes a mere dilettante. A big reason why I got into Oxford - and from there a decent income was a small step - was that, in the days before computer games, I had nothing else to do.
There’s an analogy here with the arts. As Jon Elster points out in Sour Grapes, great art often arises because of constraints. 78 records which limited recordings to three minutes produced lots of great music whereas free jazz and atonality is often unlistenable. Old black and white films with no special effects are often superior to multi-million pound CGI ones. And so on. Excellence often arises from limited choice, and mediocrity from freedom.
Secondly - and maybe relatedly - when we are faced with unlimited opportunities, our bounded rationality often leads us to make poor choices or to become less satisfied than we would be with fewer options; Sheena Iyengar (eg this pdf) has argued for just this view. Although her research has focused upon low-level choices, such as jams in supermarkets, I suspect it applies to major decisions; women such as J-Lo, Cheryl or Kerry who could have any man they want often marry no-marks.
Again, this is true for me. When I was looking for work after university in the 80s, pretty much my only option was to go into the City: there were no jobs in academia and journalism never occurred to me. The upshot was that I ended up making a bit of money simply for want of alternative. Had I had a freer choice of occupation, I’d probably have wasted my 20s doing self-indulgent lower-paid work and I‘d be worse off now.
Now, all of this looks as if it’s an extension of David Henderson’s writing on how we can overcome envy. It is - but only insofar as it challenges their fundamental belief in the great value of freedom. Which is a paradox.
Another thing: I suspect that (some) inequality would be a bad thing even if there were no envy. But this is another story.

The death of conservatism

There’s one response to the riots which, if not unheard, has not been as widespread as I’d have hoped. It’s a bit like this:

Occasional riots are a feature of most societies, not just capitalist ones; the fear of the “mob“ is an ancient one. This alone suggests they are ineliminable.
So too does another thing. Whatever you think are the causes of the riots - poverty, neo-liberal consumer culture, bad parenting or some sort of moral decline - these cannot be swiftly removed, except by large sacrifices of liberty or economic efficiency. It could be, then, that sporadic riots are less costly than the redistributive policies that would remove poverty and disaffection, or the statist interventions (assuming them to be feasible) that would remove bad parenting  or reverse moral degradation.
Nor can we expect the police to prevent riots. Arising as they do from poorly understood and perhaps genuinely unpredictable emergent behaviour, riots cannot be foreseen in advance. So they will catch the police unawares. And given that the police force is a hierarchical monopoly, it is inevitable that it will be a deeply flawed institution, prone to big errors.
Riots, then, are just something we have to live with.

What I’ve just described is a strand of old-style conservatism - what David Willetts called the “melancholy tendency”. This, a position I suspect Oakeshott or Salisbury would at least sympathize with - says that some social evils are ineradicable because governments have bounded rationality in the face of deep-rooted complex problems. Some imperfections, then, must be tolerated.
Reasonable as it is, this view seems to me to have been under-expressed. Which just shows - again! - how old-style conservatism has been supplanted by a managerialism which pretends that society can be “mended” as if it were just a broken watch.
In this sense, though, there’s a curious similarity between rioters and politicians. Just as rioters looted (in part) because they aspired to consumer goods which they could not acquire through their own legitimate skills, so politicians aspire to social goods which they cannot acquire by their  own meagre skills.  

Are missing dads to blame?

Melanie Phillips, among others, says:

The single most crucial factor behind all this mayhem…is the willed removal of the most important thing that socialises children and turns them from feral savages into civilised citizens: a fully committed, hands-on, there-every-day father.

Unlike many on the left, I don’t regard this as self-evidently wrong - it’s a hypothesis like any other. So, what is wrong with it?
Clearly, it’s incomplete in itself, just as attempts to blame the riots on poverty are; fatherlessness, like poverty, has existed for years and yet the riots are only occurring now. This account must, then, be accompanied by a story of imitative behaviour or cascades.
Even with this accompaniment, though, I have my doubts.
The first issue it raises is: are fathers really a source of moral behaviour in children? Granted, a good dad can be a good role model. But equally, a bad one can be a bad role model and so it might be better if he leaves; if I’d regarded my dad as a role model, I’d have become a gangster.  Net, it’s not obvious why having a father around should be a good thing. And three things speak against them being so.
First, Daniel Coyle points out in The Talent Code that losing a parent can have the opposite effect from turning a child feral. It can instead act as a “primal cue” that unleashes the energy that propels people to greatness. Michelangelo, Washington, Lincoln, Darwin and Newton were all products of lone parent families and they didn‘t turn out too bad.
Secondly, Judith Rich Harris has argued that, for most families, parenting matters less than a child’s peer groups.
Thirdly, empirical research by Ian Walker has found that whilst having a lone parent is correlated with poor academic achievement (and by implication the correlates of that such as poor behaviour), this correlation vanishes when we control for the fact that lone parents are poorer. Income, then, matters more than fathers.
 The second issue is: are fatherless youth really immoral, or is it instead the case that their moral code is limited? I suspect - I’d welcome evidence - that many of these rioters don’t lack a moral code. It‘s just that their code extends only as far as their mates or “gang” and not to neighbours.  But as I’ve said, morality is endogenous; it arises from social processes. Why is it that social processes work to make people loyal to a few friends, but not to others? The Left, of course, can answer this; poor youth feel no obligations to society because society has done nothing to benefit them.
But there’s a third issue. Let’s assume that all the above is false, and that fatherlessness causes people to be amoral. Why does this amorality lead to rioting?
The answer is that,  to paraphrase David Friedman, people riot for the same reason that I write about economics - because the benefits outweigh the costs. And one reason why the costs of rioting are low is that such people have little to lose.
Which brings me to a curiosity. In principle, Ms Phillips' theory is consistent with a Leftist answer to the riots - improve people’s economic situation and they’d have more to lose by rioting and so they’d not do it. Strangely, though, no-one - neither Ms Phillips nor her critics - seems to see this link. I’m tempted to think that, maybe, talk about the riots is motivated by something other than a desire to understand or prevent them.

Riots, sell-offs & cascades

There’s a parallel between the riots and the stock market sell-off. Both are examples of how social behaviour can shift from stability to instability.
There’s always some doom-monger trader who’s keen to sell.  Usually, though, his selling readily finds a buyer, so prices don’t move much.
Analogously, there’s always some nutter who wants to rob and trash places. But normally, his friends don’t go along with him, so he suppresses his tendencies.
In other words, when behaviour is uncorrelated - when sellers find buyers or when the lawless are surrounded by the lawful - we get stability. What we’re seeing now, though, is a higher correlation of behaviour. When sellers have tried to sell, they’ve run into other sellers - so prices have tanked low enough to lure out the buyers. And the lawless have found themselves accompanied by other criminals, so their behaviour has been encouraged rather than suppressed.
This is what Left Outside describes as a shift in equilibrium, from law-abiding to criminal behaviour and from stable-ish prices to unstable ones.
But what explains this? A big part of the story must be information cascades. These happen when people base their behaviour not upon their private information, but rather upon what others are doing. So traders think “others are selling, so this is no time to go long”. And some youth think “hey, those guys are getting away with a good ruck, I’ll pile in too.“ As Ian says, rioting is imitative behaviour.
This sort of story is a complement to attempts to explain the riots by reference to anger, deprivation, powerless or alienation. Such explanations run into a problem - that people have been angry, poor, powerless and alienated for years. So why are rioting now when they weren‘t for a long time? The answer is that an information cascade has led them to do so, whereas in the past such a cascade was absent. In similar fashion, financial markets can shift from having low volatility to high volatility because a cascade arises.
This story also contradicts a claim implicit in something Will says. He suggests that nudges and choice architectures are alternatives to neoclassical rational choice theory. In this story, though, they are complements. For the poor and desperate, rational choice gives (some of them) a disposition towards violence and looting; they have nothing to lose but their chains and a pair of trainers to gain. But whether this disposition leads to actual criminality depends upon nudges. And just recently, they have been nudged by their peers into thinking that they can actually get away with making trouble. So they do so.
Illuminating as the theory of information cascades can be, there is a problem with it. We cannot forecast when such cascades will emerge. We can only identify them in hindsight. They allow us to explain behaviour, but not predict it.
And perhaps this will always remain the case. I say so because of a recent paper by Klaus Adam and Albert Marcet, who show how only a very small information cascade can generate significant asset price volatility. This suggests that small changes in the extent to which we use public signals versus private information might lead to quite large changes in behaviour. Analogously, it implies that only small cascades can make the difference between peaceable behaviour and lawlessness.
Perhaps, then, social orders are more brittle than we like to think.

In defence of lying

My claim in an earlier post that I’ve no problem with lying in politics has irked some people, so I should defend it.
In part, I’m just putting a brave face on things. Politicians, I think we can all agree, talk a lot of rot. The question, then, is whether they believe what they say or not. Personally, I’d rather they didn’t. I’d rather we were ruled by intelligent liars than sincere fools.
There are (at least) four circumstances in which lying might be acceptable:
1. To preserve stability. This motive goes back as far as Plato’s “noble lie”, but we see it today in the G7’s statement that it will “take all necessary measures to support financial stability and growth.” It might be more truthful for the G7 to say “there’s not much we can do to raise growth and the only good solutions to Europe‘s debt crisis are politically unacceptable” - but such a claim would have clobbered the markets and served no purpose other than the inherent value of truth-telling.
In this context, political lies are just an extension of the white lies we tell every day: “No, you don’t look fat”; “I don’t mind at all”; “I‘ve got to pick the kids up“. If everyone told the truth all the time, the main beneficiaries would be divorce lawyers and employment tribunals. 
2. To fob off silly speculation. Before the election, the Lib Dems opposed Tory cuts. Now they support them. Nobody is remotely convinced by their rationale for their change of mind. The truth is instead that such a change of mind is a necessary price of being in the coalition. But if the Lib Dems were to say this, we’d simply get endless tedious media speculation about “tensions” and “splits” within the government. Their lies serve to protect us from such mindless stories. And I thank them for this.
3. To promote decent policies in the face of an ignorant or prejudiced electorate. Labour’s policy on immigration was - with some scandalous exceptions - reasonably liberal. However, given public hostility to immigration, it could not proclaim this. Instead, it occasionally lied by talking tough.
If you don’t like that example, a very different one is the recession of the early 1980s. From a Tory point of view, this served the useful function of smashing working class militancy. But the Thatcher government did not, at the time, proclaim this as its effect. At best, it lied by omission. And it probably had to.
4. To project strength. During the cold war, the west gave the USSR the impression that it would retaliate against any nuclear strike. Such an impression might well have been a lie; would US presidents really have murdered tens of millions of people in what, in some circumstances, would have been  a futile gesture? But it was, at the time, a lie necessary to preserve the peace.
We saw a similar thing recently when Leon Panetta pledged to “stay the course” in Afghanistan. This serves the doubly useful function of comforting the relatives of dead soldiers and of - at the margin - of demoralizing the Taleban. It might well have been more honest for Panetta to have said “we might have to give this up eventually as a losing game.” But that would serve no good purpose.
These four circumstances are, I think, sufficiently broad to permit a lot of lying. The trade-off between truthfulness and utility crops up pretty often.