New Hayek blog

There is a new blog on the ideas and works of F. A. Hayek available at Taking Hayek Seriously.

One must have a prize. (updated)

Tim Harford has an interesting column at FT.com on the use of prizes rather than, say, patents to stimulate innovation. Harford points out that in the past governments used prizes as the standard way of rewarding innovators. The most famous example being John Harrison's answer to the problem of finding a way for a ship's navigator to determine a ship's longitude and therefore its position at sea. But as Harford notes such prizes fell out of fashion. Patents became the standard way to encourage and protect commercial innovators while basic research is funded more by grants than prizes.

Until now. A number of groups are beginning to use prises again to motivate innovators to find answers to the groups problems. Harford gives the examples of

The most famous innovation prize of this century, the $10m Ansari X Prize, was designed to promote private space flight. The pot went to Mojave Aerospace Ventures in 2004, after the successful flights of SpaceShipOne. And even the Ansari X Prize is dwarfed by a quasi-prize of up to $1.5bn that is about to be offered by five national governments and the Gates Foundation to the developers and suppliers of a more effective vaccine against pneumococcal diseases such as pneumonia, meningitis and bronchitis. The prize, called an "advanced market commitment" or "advanced purchase commitment", takes the form of an agreement to subsidise heavily the first big orders of a successful vaccine. Given that the top companies in the UK’s powerful pharmaceutical industry spent little more than £5bn in 2006 on research and development, a $1.5bn prize should be taken seriously on hard-nosed commercial grounds alone.

Prizes have some nice features, one of which is that they overcome the biggest problem with patents; namely the monopoly that patents provide. This downside is fundamental to the very design of a patent,

... in order to reward an innovator, the patent confers a monopoly. Economists view this as, at best, a necessary evil since monopolies distort prices. In the hope of raising profits from some customers, they will price others out of a market. The most obvious victims are consumers in poor countries.

But as Jean Tirole has explained, in a world of incomplete contracts (ie the real world) the patent system may make sense,

It has long been recognized that patents are an inefficient method for providing incentives for innovation since they confer monopoly power on their holders. Information being a public good, it would be ex post socially optimal to award a prize to the innovator and to disseminate the innovation at a low fee. Yet the patent system has proved to be an unexpectedly robust institution. That no one has come up with a superior alternative is presumably due to the fact that, first, it is difficult to describe in advance the parameters that determine the social value of an innovation and therefore the prize to be paid to the inventor, and, second, that we do not trust a system in which a judge or arbitrator would determine ex post the social value of the innovation (perhaps because we are worried that the judge might be incompetent or would have low incentives to become informed, or else would collude with the inventor to overstate the value of the innovation or with the government to understate it). A patent system has the definite advantage of not relying on such ex ante or ex post descriptions (although the definition of the breadth of a patent does).

But as Harford explains it isn't all or nothing, patent or prize, but rather the

[c]hampions of prizes see them as a component of a wider system to promote innovation, rather than as an outright replacement either for grants or patents. Instead, the hope is that prizes will help to compensate for the specific weaknesses of those alternatives.

Another way to reward innovation would be to grant a patent and then have the government buy it and place in the public domain. Each patent could be put up for auction and at the end of the auction ownership of the patent could be randomly determined. If the (private) winner of the auction is chosen then he pays his bid and gets the patent and if the government is chosen it pays the amount of private winner's bid and is assigned the patent.

Anyway the Harford article is worth reading.

Update: The Victory Project proposes billion-dollar prizes for

To the first person(s) that solves any of these Problems:

1. Develop a cure for breast cancer.
2. Develop a cure for diabetes.
3. Reduce greenhouse emissions from petroleum powered automobiles by 95% without increasing the cost of a normal car more than 5%.
4. Achieve 150 miles per gallon of gasoline in a 3,000 lb. car, using EPA standards; without increasing the cost of a normal car more than 10%.

(HT: Arnold Kling, EconLog)

Chocolate chips are distributed Poisson

According to Herbie Lee, an associate professor of applied mathematics and statistics at the University of California, Santa Cruz, Baskin School of Engineering, the numerical distribution of chocolate chips in commercially baked cookies is Poisson!!!

Now thats important news!

The Law of Unintended Consequences (updated x4)

Alex Tabarrok has an excellent post on the topic of The Law of Unintended Consequences at Marginal Revolution. Tabarrok writes,

The law of unintended consequences is what happens when a simple system tries to regulate a complex system. The political system is simple, it operates with limited information (rational ignorance), short time horizons, low feedback, and poor and misaligned incentives. Society in contrast is a complex, evolving, high-feedback, incentive-driven system. When a simple system tries to regulate a complex system you often get unintended consequences. Unintended consequences are not restricted to government regulation of society but can also happen when government tries to regulate other complex systems such as the ecosystem (e.g. fire prevention policy that reduces forest diversity and increases mass fires, dam building that destroys wet lands and makes floods more likely etc.) Unintended consequences can even happen in the attempted regulation of complex physical systems (here is a classic example involving turbulence).

The fact that unintended consequences of government regulation are usually (but not always or necessarily) negative is not an accident. A regulation requiring apartments to have air-conditioning, for example, pushes the rental contract against the landlord and in favor of the tenant but the landlord can easily push back by raising the rent and in so doing will create a situation where both the landlord and tenant are worse off.

Tabarrok then makes an important point,

More generally, when regulation pushes against incentives, incentives tend to push back creating unintended consequences. Not all regulation pushes against incentives, some regulations try to change incentives but incentives are complex and constraints change so even incentive-driven regulations can have unintended consequences.

Yet again we see incentives matter, and if we ignore them we are heading for trouble, unintended or otherwise. Tabarrok ends by asking the question,

Does the law of unintended consequences mean that the government should never try to regulate complex systems? No, of course not, but it does mean that regulators should be humble (no trying to remake man and society) and the hurdle for regulation should be high.

Update: Steve Phelan at Organizations and Markets comments here.

Update 2: Russ Roberts at Cafe Hayek comments here.

Update 3: Arnold Kling's comments are here.

Update 4: The Ambrosini Critique comments here: Nominee for MR post of the decade.

The foolishness of economic 'stimulus' (updated)

Donald J. Boudreaux has an article in the Christian Science Monitor under the title The foolishness of economic 'stimulus'. In it Boudreaux argues that

... stimulus, however, is futile. Government cannot create genuine spending power; the most it can do is to transfer it from Smith to Jones. If the Treasury sends a stimulus check to Jones, the money comes from taxes, from borrowing, or is newly created.

If it comes from taxes, the value of Jones's stimulus check is offset by the greater taxes paid by Smith, who will then have fewer dollars to spend or invest. If Uncle Sam borrows to pay for the stimulus checks, this borrowing takes money out of the private sector. Any dollars borrowed – whether from foreigners or fellow Americans – for purposes of stimulus would have been spent or invested in other ways were they not loaned to the government.

The only other means of paying for such stimulus is for the Federal Reserve to create new money. Unfortunately, this option leads inevitably to inflation.

Boudreaux's last paragraph makes an important point that we should not lose sight of,

Sound money, low taxes, and free trade might not "stimulate" the economy today, but this combination will surely increase its vigor over the long-run.

And it is economic growth over the longer term that raises our standard of living.

Update: Arnold Kling gives his view on Boudreaux's view in Boudreaux vs. Macro.

Incentves matter: Chinese peasant file

As I have noted before Venezuelan President Hugo Chavez has threatened to nationalise farms, in an effort to tackle food shortages. Perhaps he should take note of the effects of agricultural reforms in China before doing so. As John McMillan describes in his book, Games, Strategies, and Managers, the lives of some 800 million peasants in China were radically changed when Deng Xiaoping abolished the commune system and introduced the "household responsibility system". The incentives under the two schemes are very different.

Under the commune system, peasants were organised into production teams. The members of each team were assigned work points. These points were an attempt to measure both how many hours and how effectively that particular team member had worked. Each members income was dependent on the number of work points accumulated. Income was not perfectly related to effort, however, because it was impossible to observe how conscientiously each individual worked. Moreover, there was a tendency to spread the commune's earnings across the individual commune members: those with larger families were given more income, regardless of effort. Thus the link between individual effort and reward was weak.

On the other hand, under the responsibility system each peasant family is given a long-term lease of a plot of land. There is a requirement that the household deliver a certain quota of produce to the government each year but any production over and above this quota may kept by the household. The household is free to consume it themselves, sell it to the government, or sell it in the newly instituted rural markets. With the exception of the special case of rice, they may decide for themselves what crops to sow and what animals to raise. The peasants know that, after the quota is exceeded, they own the entire extra output resulting from any extra effort they choose to make.

The results of this change in terms of productivity are interesting, and the thing Hugo Chavez should take note of. By productivity we mean the amount of output for a given set of inputs; the efficiency with which the input are used. As McMillan describes it,

Through the Maoist period ... productivity fluctuated randomly, though the net effect was negative - by 1977, according to these estimates, productivity had declined to about 90% of its 1952 (precommune- system) level (despite technological advances such as improved rice strains during that period). In 1978 and 1979, under Deng, the government increased the prices paid for agricultural outputs, while leaving the structure of the commune system unchanged. [...] productivity increased, showing that the commune system was not completely devoid of efficiency: the communes could respond to the incentive of higher prices. Then, from 1980 to 1984, the commune system was gradually replaced by the responsibility system: the [data] shows the productivity growth as the peasants began to respond to the strengthened individual incentives. In marked contrast to the apparently random alternations between positive and negative growth in the pre-1978 picture, productivity increased in each year from 1978 on, with the most spectacular growth, 11%, occurring in 1984. Output increased by 67% between 1978 and 1985. In part this was caused by an increase in inputs. But mainly it was due to the strengthened incentives: productivity increased by nearly 50%. The effective quality of labor was much higher under the responsibility system than in the communes. Individual workers in the commune had an incentive to shirk, since they were paid only a fraction of the return from the effort they exerted. Chinese agriculture provides, therefore, a dramatic experiment in the effectiveness of incentives. [p.97-8]

The state of the public service. (updated x3)

I see that the National Business Review is reporting that Mark Prebble, the State Services Commissioner has announced that he will be leaving his job about a year earlier than planned. This is apparently for "health reasons". However as the NBR also points out

... the temptation to chalk him up as another casualty of a series of minor scandals about the alleged politicization of the public service in the last year may prove irresistible.

At the same time the NBR has an article by Dr. John Gibson, Professor of Economcis at the University of Waikato, reporting on research into why public servants in New Zealand get paid 20 per cent more than similar workers in the private sector. Gibson writes,

My research shows that this pay gap is not due to obvious differences in job conditions, such as stress, whether jobs require physical labour, how interesting the work is or the scope for improving ones skills.

But the source of this pay gap has become apparent in recent months. It's the "bite your lip and be the fall guy" premium. (My emphases.)

May be 20% isn't enough for Mark Prebble. Gibson goes on to say,

This economy with the truth is aided and abetted by some of the weakest public sector leadership that we have seen in many years. Why don’t public sector CEOs stand up and defend the integrity of advice that their staff have given? Why do they roll over and play dead while the politicians tell porkies?

But this comes at a price to New Zealand as a whole. The public service is the major supplier of economic policy advice in this country. It dominates the market for advice in a manner not true overseas and so its all the more important that their advice is truly independent. There are few outside checks on what the public service says. Gibson writes,

It is no wonder that almost all of the researchers in Treasury have either left or taken secondments so that they spend as little time as possible at No 1, The Terrace. What’s the point, when research is systematically ignored or distorted by politicians?

What's the point, when senior management check which way the wind is blowing before taking a position and will even disassociate themselves from research done in their own department.

Having a compliant rather than an independent, research-led Treasury is hugely costly to New Zealand. Unlike in larger countries, there are few other sources of evidence-based advice on which to set economic policy.

Good independent economic advice is a must if New Zealand is to move up the OECD rankings as we are told by the government we must do. But if the government really believes this then why is it not encouraging honest, open and independent advance from its own departments?

Update: Not PC comments on the issue here: The demise of the Head Bureaucrat.

Update 2: Kiwiblog comments on Mark Prebble here: Prebble quits.

Update 3: The New Zealand Herald story on Mark Prebble is here.

Marginal Revolution book forum

For those few who don't already know, Marginal Revolution is hosting a book forum on Tim Harford's new book, The Logic of Life (pin factory error and all). The first reviewer is Bryan Caplan of the Economics Department at George Mason University.

Strange simulus idea

There is a very strange article in the New York Times. Make the Tax Cuts Work is by Len Burman, director of the Urban-Brookings Tax Policy Center. In his article Burman says,

But if they were repealed in a year, the Bush tax cuts could spur a burst of economic activity in 2008. If people knew that their tax rates were going up next year, they’d work to make sure that more of their income is taxed at this year’s lower rates. Investors would likewise have a giant incentive to cash out their capital gains now to avoid paying higher taxes later.

But if this is right then why doesn't the government declare that as from next year the tax rate will be 100% and then people would work like crazy this year to avoid having their income taxed at 100% next year. The increase in work this year would be huge!

The problem here seems to be short term thinking. Maybe people would work harder today, but how much extra spending would result? It seems likely that people would spend their addition income over time, not all today. So any increase in consumption today would be small which means the stimulus resulting form this spending would be small. And what of the future? Would work effort in the future be reduced under Burman's plan? So future spending and stimulus would be reduced. So in the future some additional stimulus plan would be needed, which I'm sure Mr Burman would provide.

Ken Lay as a CEO

From Peter Klein at Organizations and Markets we learn that James A. Brickley of the Simon Graduate School of Business, University of Rochester, has a working paper out on "The Role of CEOs in Large Corporations: Evidence from Ken Lay at Enron", and the results are not what I would have thought.

Internal documents released through the Enron litigation allow for a more detailed examination of the activities of top executives than is typically possible. This clinical study of Enron's Ken Lay highlights the difference between popular opinion on the role and knowledge of CEOs with that suggested by economic theory and evidence. In contrast to popular opinion, the evidence is consistent with the following three hypotheses: 1) Lay performed a role at Enron that is consistent with existing economic theory and evidence, 2) he performed this role with reasonable diligence, and 3) while he was relatively well informed about Enron at a high level, it is unlikely that he would have had detailed information on many of Enron's transactions - including deals with Fastow's partnerships. News analysts assert that a positive feature of Lay's legacy is that CEOs are now spending more time monitoring the details of financial reports and internal controls. This study suggests that the opportunity costs of this change in CEO behavior are higher than these analysts suggest.

Inefficiency is good!

This from an address, Economic Freedom, Human Freedom, Political Freedom, given by Milton Friedman, at the Smith Center for Private Enterprise Studies in 1991.

The United States today is more than 50% socialist in terms of the fraction of our resources that are controlled by the government. Fortunately, socialism is so inefficient that it does not control 50% of our lives. Fortunately, most of that is wasted. People worry about government waste; I don't. I just shudder at what would happen to freedom in this country if the government were efficient in spending our money.

Rambo Inflation

From Marginal Revolution comes figures on Rambo Inflation: the number of people killed per minute in the Rambo series.

Rambo: First Blood (1982): 0.01

Rambo: First Blood Part II (1985): 0.72

Rambo III (1988): 1.30

Rambo IV (2008): 2.59

Roberts on stimulus, again. (updated)

Following on from his commentary on National Public Radio (NPR), Russ Roberts continues to discuss proposals to stimulate the economy. Here Roberts starts by considering a basic question: If you received a windfall, that is, an unexpected increase in your income, what would you do with it? He considers two cases

1. Your rich uncle dies who hated you. But he left you money anyway—$1600. What do you do with the money?

2. The government announces a $1600 rebate for all families, financed by borrowing. What do you do with the money?

The answer, of course is, it depends,

With the inheritance, you feel a little richer. You might splurge on a fancy weekend in New York. Or you might save all of it. Or something in between. But with the rebate, you are less likely to spend it. Why? Because your taxes (or someone's taxes) are going to go up in the future and that will discourage the feeling that you're wealthier.

The basic point here is what economists call Ricardian equivalence, for a given level of government spending, a tax cut today implies a tax increase tomorrow and so you save the tax cut to pay for the future tax increase. If this happens there wouldn't be much stimulus from a tax decrease. As Roberts explains it,

Well, if the government isn't going to cut spending (and they're not, because that would offset the stimulus of the tax cut, wouldn't it?), then it's going to have to borrow all the money to cover its spending for this year. The bonds the government sells are going to have to be repaid. We're going to have higher taxes next year and the year after. I think we better put [the tax cut] aside to pay for those taxes.

Thus no increase in spending.

Update: For a quick overview of the standard view on a stimulus package see this from Arnold Kling, Stimulus: The Mainstream View.

Don Boudreaux on Globalization and Trade Deficits

Don Boudreaux is Russ Roberts guest on EconTalk this week. Boudreaux is in the economics department at George Mason University. He and Roberts talk about the ideas in Boudreaux's new book, Globalization. The topics discussed include comparative advantage, the winners and losers from trade, trade deficits, and inequality.

Chavez following Mugabe?

This BBC report says that Venezuelan President Hugo Chavez has threatened to nationalise farms, in an effort to tackle food shortages. Exactly how this will help isn't clear. The report states that Venezuelan government controls keep food prices low in shops to help even the poorest Venezuelans feed themselves. But some farmers prefer to sell their produce in neighbouring countries where prices are higher and this leads to shortages of bread, milk, eggs and meat. Arbitrage anyone?

You do have to wonder why Chavez thinks that nationalisation will improve the incentives for framers to produce more and sell locally. Has nationalisation increased farm output in any country that has tried it?

The report also says that Chavez also announced a rise in milk prices, in an apparent attempt to tackle recent shortages. That will help. It will at least reduce the incentives for arbitrage.

Are wages in Africa too high?

Tyler Cowen points us to this interesting posting by Chris Blattman, a political science professor at Yale. Blattman writes,

One thing that has always struck me in the African countries I have worked is that the real wages (i.e. wages adjusted for the cost of living) of African formal sector workers seem to be incredibly high, at least compared to that of workers in China or India. Given that firms in China and India seem to be more productive than their African counterparts, it creates a double disadvantage for African workers, and raises the question of why the situation continues. Why don't manufacturing wages fall in Africa, stimulating more jobs for more people at wages still higher than those available in agriculture or informal business?

Why, when I run a survey in rural Uganda, do youth with the same education and experience expect a wage three to four times higher than the youth I worked with in India? I don't begrudge anyone anywhere a living wage. It's the relative differential that puzzles me, and that could be keeping Africa from doing business globally.

There are probably lots of plausible reasons. Perhaps we ought to consider (and get data on) the informal sector in Africa, which could be larger and have more moderate wages than the formal sector ones. It may be that all my notions and data about African wages are erroneous.

Another possibility, however, is that the largest employers of skilled workers in most African countries are international NGOs and the local government. They are competing, in many cases, for the same pool of skilled and semi-skilled workers as the manufacturers and service sector firms. Neither the government or NGOs, moreover, seem to set wages according to the local market or local conditions, and it requires little imagination to wonder whether they set their wages higher than the market would normally do.

Why not just stop expanding the money supply?

A story from the BBC says that Zimbabwe's central bank is to introduce new higher-denomination banknotes (the highest value note is worth 10m Zimbabwean dollars) in an effort to ease the critical shortage of cash in the country. But according to the report the $10m note will be worth less than US$3.90 or £2 or 2.60 euros on the black market.

There is any interesting question as to why you run out of currency when hyperinflation is driven by rapid growth of the money supply. And Zimbabwe is suffering from hyperinflation, it has an annual inflation widely thought to be in excess of 50,000%.

There are two possible reasons for a currency shortage. The first is that currency is just a subset of the broader money stock which also includes bank deposits in the form of cheque accounts. Currency (dollar bills for example) can become too small a proportion of the broad money stock if the currency printing presses can't keep up with growth in the broader money stock. Growth in the broader money stock is driven by central bank expansion of bank reserves. So your cheque account went up by $2 but the currency supply only went up by $1 and thus you can't convert the cheque account balance into cash. The second reason is that an excess demand for money can occur if prices begin to rise even faster than the money stock is growing. Here the problem is that people anticipate ever faster shrinkage in the value of the dollar and increase their prices to compensate. One wonders what the velocity of money is.

The game is up? (updated x4)

The pin factory problem (see More on Harford on Smith) is solved. David Warsh has put up his hand and said the error was mine. Warsh points out that Tim Harford depended on the assertion made in Warsh's book Knowledge and the Wealth of Nations that Smith didn't visit a pin factory. Warsh wrote on page 40:

The first three chapters and the plan of the book provided the whole kernel of what today we would call a theory of growth. Much stress has been laid over the years on the significance of the description of the pin factory. In fact Smith never visited one. Apparently he based his account on an article in an encyclopedia. Never mind that Smith was widely traveled and sharply observant everywhere he went. His failure to expend much shoe-leather in this case has occasionally been cited to discredit him. Such cavils entirely miss the point.

What was the basis of Warsh's error? Warsh writes,

I am pretty certain that, when I wrote that passage, I was thinking in a general way of my old and dear friend Charles P. Kindleberger, from whom I first learned much of what I know about various controversies of historical economics. Specifically, I was remembering an essay that he wrote for Thomas Wilson and Andrew Skinner to commemorate the bicentennial of the publication of the appearance of Smith’s great work in 1776.

Warsh then goes on to state,

As usual, Charlie set out his thesis concisely and joyfully in the first paragraph of "The Historical Background Adam Smith and the Industrial Revolution:"

An early version of this paper focused on the dispute, if one may call it that, between historians of economic thought who sometimes seek to demonstrate that Adam Smith was fully aware of the industrial revolution taking place around him as he wrote The Wealth of Nations, and economic historians who think he was not. It is true, as Samuel Johnson put it, that “in lapidary inscriptions, a man is not upon oath,” and piety demands that the guest of honour be given the benefit of the doubt. Nonetheless, I propose to dismiss this question quickly, with an open-and-shut verdict for the economic historians.

I am, however, pretty certain that it was the recollection of this zinger a few pages farther on that caused my fingers to slip. CPK was nothing if not memorable:

It may well be true, as Viner says, that “Smith was a keen observer of his surroundings and used skillfully what he saw to illustrate his general argument”…. But it is surely going too far to say with Max Lerner in his introduction to the Modern Library Edition: “Smith kept his eyes and ears open… Here was something that gave order and meaning to the newly-emerged world of commerce and the newly-emerging world of industry… Smith took ten more years. He could not be hurried in his task. He had to read and observe further. He poked his nose into old books and new factories.”
That last sentence is half right.

So there we have it. Does it matter? As Warsh says,

Whether my error is serious or trivial depends on the business you are in. It is, I suppose, a calumny on Smith to say that he never saw to a pin factory, even if in the same breath I gave him credit for getting out and around. Certainly I deeply regret the error. It is still the case that Kindleberger was correct in the essay that made such an impression on me: Smith failed to report a lot of stuff that was going on right under his nose. The great figures of the early Industrial Revolution – Wedgewood, Arkwright, Boulton and Watt – are mostly missing from The Wealth of Nations. But does that demonstrate that Smith was ignorant of the industrial revolution that was going on around him? I don’t think so.

Update: The Undercover Economist (Tim Harford) has this to say on the matter.

Update 2: Gavin Kennedy's response to Warsh is here.

Update 3: Tim Worstall makes an interesting point about this debate, namely how quickly it was over. Worstall writes,

Aside from all of this trivia, there's one other thing I think interesting. The speed with which all of this was worked out. The original contention, that Smith didn't, was published last Wednesday, as was the assertion that he did (we're still in panto season, aren't we?)

We're now only at Monday and we've got the whole thing sorted, down to the footnotes of which earlier writers he did reference, as well as who was at fault for the implication that he hadn't also visited such a manufactury himself.

See A Tiny Technology Story for Worstall's article.

Update 4: Tim Harford offers Adam Smith: an apology

French Bookseller's Union v. Amazon

Alex Tabarrok at Marginal Revolution has this to say about Amazon and the French Bookseller's Union. Tabarrok writes,

A French court has ruled in favor of the French Bookseller's Union that Amazon's free shipping policy violates a law forbidding booksellers from offering discounts of more than 5 percent off the list price. Amazon was told to start charging for shipping within ten days or pay a daily fine. It must also pay €100,000 to the French Booksellers' Union.

Amazon CEO Jeff Bezos, however, is refusing to charge for shipping and is taking the case to the French public. Way to go Jeff! My advice? Tell the state, laissez nous faire!

A law forbidding booksellers from offering discounts of more than 5 percent off the list price????? How does such a law help consumers? It hardly helps competition if the state is willing to enforce a cartel's rules on pricing of books.

More on Harford on Smith (updated x2)

In this post on Tim Harford's new book, The Logic of Life I noted that Gavin Kennedy asked of Harford,

My question to the Undercover Economist is simple. 'On what do you base your assertion that Adam Smith never visited a pin factory?'

Now Marshall Jevons at The Bayesian Heresy offer this explanation;

Harford refers to David Warsh's book, chapter 3 in the references. It is actually chapter 4.

"These first three chapters and the plan of the book provided the whole kernel of what we would call today a theory of growth. Much stress has been laid over the years on the significance of the description of the pin factory. In fact Smith never visited one. Apparently he based his account on an article in an encyclopedia. Never mind that Smith was widely traveled and sharply observant everywhere he went. His failure to expend much shoe-leather in this case has occasionally been cited to discredit him. Such cavils entirely miss the point."
-Knowledge and Wealth of Nations, p. 40 ( you can go to Amazon’s search inside the book feature)

No Tim Harford didn't lie, he was just quoting David Warsh.

So according to Jevons, it is David Warsh who may be at fault. On checking my copy of Knowledge and Wealth of Nations Warsh does make this claim. So I guess the question now is, What is Warsh's evidence for his claim?

Update: Gavin Kennedy has brought things up to date at his Adam Smith Lost Legacy blog, see the posting David Warsh is Named as the Source for the Allegation that Adam Smith Did Not Visit a Pin Factory.

Update 2: See The game is up? for a summary of David Warsh's response to Kennedy.