Is technological progress history?

When it comes to technological progress and thus economic growth some of the most important questions being asked include, Has technological progress slowed down? Have we really picked all the low-hanging fruit?

A new column by Joel Mokyr at VoxEU.org argues that technological progress is in fact not a thing of the past. Far from it. There are myriad reasons why the future should bring more technological progress than ever before – perhaps the most important being that technological innovation itself creates questions and problems that need to be fixed through further technological progress. If we rethink how innovation happens, we have every reason to suspect that we ain’t seen nothing yet. Not an answer the likes of Robert J. Gordon will take too well.

Technological progress has been the driver of economic growth for the last two centuries. Some authors, such as Robert Gordon and Tyler Cowen, however, are being to suggest that product and process innovation are running out of steam.

• Robert J Gordon and Tyler Cowen, inter alia, have expressed the view that technological progress is slowing down.
• Jan Vijg has suggested that the industrialised West of the 21st century will resemble the declining Empires of late Rome and Qing China .

Their basic point is that technological dynamism is fizzling out. The low-hanging fruits that have improved our lives so much in the 20th century have all been picked. We should be ready for a more stagnant world in which living standards rise little if at all. Joel Mokyr is having none of this. For him "we ain’t seen nothin’ yet, the best is still to come".

My argument concerns both the supply and the demand sides of innovation. Starting with supply, what is it that accounts for sustained technological progress? The relation between scientific progress and technology is a complex two-way street. For example, 19th-century energy-physics learned more from the steam engine than the other way around.

The historical record makes clear that science depends on technology in that it depends on the instruments and tools that are needed for science to advance. New instruments opened new horizons in what Derek Price called "artificial revelation”, observations through instruments that allow us to see things that would otherwise be invisible.

Examples:

• The Scientific Revolution of the 17th century depended critically on the development of the telescope, the microscope, the barometer, the vacuum pump, and similar contraptions.
• The achromatic-lens microscope developed by Joseph J Lister (father of the famous surgeon) in the 1820s paved the way for the germ theory, the greatest breakthrough in medicine before 1900.

The same was true in physics, for instance:

• The equipment designed by Heinrich Hertz allowed him to detect electromagnetic radiation in the 1880s and Robert Millikan’s ingenious oil-drop apparatus allowed him to measure the electric charge of an electron (1911).

In the twentieth century, the impact of instruments on progress is even more apparent. For example:

• X-ray crystallography, developed in 1912, was crucial forty years later in the discovery of the structure of DNA.

If tools and instruments are a key to further scientific progress, it is hard not to be impressed by the possibilities of the 21st century:

• DNA sequencing machines and cell analysis through flow cytometry (to mention but two) have revolutionised molecular microbiology.
• High-powered computers are helping research in every domain conceivable, from content analysis in novels to the (very hard) problems of turbulence.
• Astronomy, nanochemistry, and genetic engineering are all areas in which progress has been mind-boggling in the past few decades thanks to better tools.

To be sure, there is no automatic mechanism that turns better science into improved technology. But there is one reason to believe that in the near future it will do so better and more efficiently than ever before. The reason is access.

Inventors, engineers, applied chemists, and physicians all need access to best-practice science to answer an infinite list of questions about what can and cannot be done. Search engines were invented in the 18th century through encyclopaedias and compendia that arranged all available knowledge in alphabetical order, making it easy to find. Textbooks had indexes that did the same. Libraries developed cataloguing systems and other techniques that made scientific information findable.

But these search systems have their limitations. One might have feared that the explosion of scientific knowledge in the 20th century could outrun our ability to find what we are looking for. Yet the reverse has happened. The development of searchable databanks of massive sizes has even outrun our ability to generate scientific knowledge. Copying, storing, transmitting, and searching vast amounts of information today is fast, easy, and practically free. We no longer deal with megabytes or gigabytes. Instead terms like petabytes (a million gigabytes) and zettabytes (a million petabytes) are being bandied about. Scientists can now find the tiniest needles in data haystacks as large as Montana in a fraction of a second.
And if science sometimes still proceeds by ‘trying every bottle on the shelf’ – as in some areas it still does – it can search with blinding speed over many more bottles, perhaps even peta-bottles.

This brings us to the Cowen question, Have all the low-hanging fruits been picked?

One answer is that the analogy is flawed. Science builds taller and taller ladders, so we can reach the upper branches, and then the branches above them.

• A less obvious answer is that technological progress is fundamentally a dis-equilibrating process.

Whenever a technological solution is found for some human need, it creates a new problem. As Edward Tenner put it, technology ‘bites back’. The new technique then needs a further ‘technological fix’, but that one in turn creates another problem, and so on. The notion that invention definitely ‘solves’ a human need, allowing us to move to pick the next piece of fruit on the tree is simply misleading.

• Each solution perturbs some other component in the system and sows the seed of more needs; the ‘demand’ for new technology is thus self-sustaining.

The most obvious example for such a dynamic is in our never-ending struggles with insects and harmful bacteria. In those wars, evolutionary mechanisms decree that after most battles we win, the enemy regroups by becoming resistant to whatever poison we throw at them. Drug-resistant bacteria are increasingly common and require novel approaches to new antibiotics. The search for novel antibiotics will resume with tools that Chain and Florey would never have dreamed of – but even such new antibiotics will eventually lead to adaptation.

In agriculture, the advance in fertiliser use has helped avert the Malthusian disasters that various doom-and-gloom authors predicted. But the vast increase in nitrate use following Fritz Haber’s epochal invention of the nitrogen-fixing process before World War I has now led to serious environmental problems in aquifer pollution and algae blooms. Again, technology will provide us with a fix, possibly through genetic engineering in which more plants can fix their own nitrates rather than needing fertiliser or bacteria that convert nitrates into nitrogen at more efficient rates.

Another example is energy: For better or for worse, modern technology has relied heavily on fossil fuels: first coal, then oil, and now increasingly on natural gas. The bite-back here has been planetary in scope: climate change is no longer a prospect, it is a reality. Can new technology stop it? There is no doubt that it can, even if nobody can predict right now what shape that will take, and if collective action difficulties will actually make it realistic.

Yes, but what about the workers?!

The big question here is, If technology replaces workers, what will the role of people become? Many commentators have written about having an idle and vapid humanity in a robotised economy. This is a concern for many. There will be disruption and pain, as there always is with progress, but the new technology will also create new demand for workers, to perform tasks that a new technology creates. It is most plausible that in our future new technology will create new occupations we cannot imagine, let alone envisage, as it has in the past.

Furthermore, the task that 20th-century technology seems to have carried out the easiest is to create activities that fill the ever-growing leisure time that early retirement and shorter work-weeks have created. Technological creativity has responded to the growth of free time: a bewildering choice of programmes on TV, the rise of mass tourism, access at will to virtually every film made and opera written, and a vast pet industry are just some examples. The cockfights and eye-gouging contests with which working classes in the past entertained themselves have been replaced by a gigantic high-tech spectator-sports industrial complex, both local and global.

Mokyr closes with a comment on Keynes and his view of the Economic Possibilities for our Grandchildren

In his brief Economic Possibilities for our Grandchildren (1931) Keynes foresaw much of the future impact of technology. His insights may surprise those who regard him as the prophet of unemployment: “all this [technological change] means in the long run [is] that mankind is solving its economic problem” (italics in original). Contemplating a world in which work itself would become redundant thanks to science and capital (Keynes did not envisage robots, but they would have strengthened his case), he felt that this age of leisure and abundance was frightening people because “we have been trained too long to strive and not to enjoy”.

Mises, Coase and central planning

One way to think of firms is that they are small centrally planned "economies". But if they are, Why do they work? After all Mises started the socialist calculation debate by arguing that central planning can't work and yet firms do work, and in some cases for very long periods of time. Perhaps the oldest still existing (multinational) firm is the Roman Catholic Church. Ekelund and Tollison  argue that ``[t]he longest-running institution in Western culture and arguably one that has had an enormous influence on Western civilization has been the Roman Catholic Church". Ekelund et al note that ``[t]he formal character of the Catholic Church, the single institution that come to embody Christianity in its official capacity, emerged as a result of the Edict of Milan in A.D. 313". In an endnote they explain that the edict meant that ``[ ... ] the Church became the recognized legal holder of property". Micklethwait and Wooldridge write ``[t]he oldest existing private-sector company in Europe is probably Stora Enso of Sweden, whose direct ancestor, a copper mine, began trading in 1288 and was issued with a royal charter in 1347". In Japan Kongo Gumi was founded by a Korean in Osaka in 578 and is a builder of Buddhist temples, Shinto shrines and castles—and now also offices, apartment buildings and private houses. It looks like it succumbed to excess debt and an unfavourable business climate in 2006. Not a bad run however.

So what is the relationship between Mises and Coase? A reading of Murray N. Rothbard's essay "Ludwig von Mises and Economic Calculation Under Socialism" suggests an answer. In this article Rothbard explains that Mises's argument about the impossibility of socialism can be applied to the problem of the size of firms. Rothbard argues that

There is one vital but neglected area where the Mises analysis of economic calculation needs to be expanded. For in a profound sense, the theory is not about socialism at all! Instead, it applies to any situation where one group has acquired control of the means of production over a large area - or, in a strict sense, throughout the world. On this particular aspect of socialism, it doesn't matter whether this unitary control has come about through the coercive expropriation brought about by socialism or by voluntary processes on the free market.

In other words it can apply to a firm.

Rothbard continues

[ ... ] Mises analysis also supplies us the answer to the age-old criticism leveled at the unhampered, unregulated free-market economy: what if all firms banded together into one big firm that would exercise a monopoly over the economy equivalent to socialism? The answer would be that such a firm could not calculate because of the absence of a market, and therefore that it would suffer grave losses and dislocations. Hence, while a Socialist Planning Board need not worry about losses that would be made up by the taxpayer, One Big Firm would soon find itself suffering severe losses and would therefore disintegrate under this pressure. We might extend this analysis even further. For it seems to follow that, as we approach One Big Firm on the market, as mergers begin to eliminate capital goods markets in industry after industry, these calculation problems will begin to appear, albeit not as catastrophically as under full monopoly. In the same way the Soviet Union suffers calculation problems, albeit not so severe as would be the case were the entire world to be absorbed into the Soviet Union with the disappearance of the world market. If, then, calculation problems begin to arise as markets disappear, this places a free-market limit, not simply on One Big Firm, but even on partial monopolies that eradicate markets. Hence, the free market contains within itself a built-in mechanism limiting the relative size of firms in order to preserve markets throughout the economy.

Rothbard then notes that this argument is related to Coase's argument about the size of firms.

This point also serves to extend the notable analysis of Professor Coase on the market determinants of the size of the firm, or of the relative extent of corporate planning within the firm as against the use of exchange and the price mechanism. Coase pointed out that there are diminishing benefits and increasing costs to each of these two alternatives, resulting, as he put it, in ah " 'optimum' amount of planning" in the free market system. Our thesis adds that the costs of internal corporate planning become prohibitive as soon as markets for capital goods begin to disappear, so that the free market optimum will always stop well short not only of One Big Firm throughout the world market but also of any disappearance of specific markets and hence of economic calculation in that product or resource. Coase stated that the important difference between planning under socialism and within business firms on the free market is that the former "is imposed on industry while firms arise voluntarily because they represent a more efficient method of organizing production." if our view is correct, then, this optimal free-market degree of planning also contains within itself a built-in safeguard against eliminating markets, which are so vital to economic calculation

While Rothbard makes a telling point about the limits of monopoly in free markets, the issue of the size of the firm that Coase was interested in, I would argue, was what determined the size of the firm well before the firm gets to the point where it takes over entire input markets.

Mises's argument (and Rothbard's) utilises the idea that under socialism, by definition, there are no markets for the factors of production and thus no prices and therefore economic calculation is not possible. But here we have a difference between Mises and Coase: Coase assumes there are markets for all factors of production, thus economic calculation is possible for firms. Such calculation may be costly, as there are transactions costs, but under socialism there are no markets and thus calculation isn't just difficult it is impossible. Thus in the Coaseian view of the firm we have "central planning" with markets, rather than the central planning without markets inherent in socialism.

What causes firms to stop expanding before they get to the Rothbard's point? For Coase there are costs to using the market - transaction costs as we now call them - and there are costs to using the firm. The size of the firm is determined when these two cost are equal. But this is probably the weakness part of Coase's argument since he does really make clearly exactly what the costs of management and transaction costs are. Oliver Williamson has argued that the reason for the limited use of Coases's ideas for nearly 40 years was the fact that transaction costs had not be made "operational". As to management costs we are told in a general way about decreasing returns to management and the "individualistic spirit of the smaller entrepreneurs [who] prefer to remain independent". These reasons haven't fully satisfied economists. As Oliver Hart has mentioned,

Coase’s questions about why firms and markets co-exist are brilliant, but his answers are less satisfactory.

Making transaction costs and management costs clearer and operational has driven much of the research on the theory of the firm since the 1970s. Two examples of this being the development of the transaction costs approach to the firm and the property rights approach.

Thus size does matter, at least when it comes to the possibility of planning. Planning works at the small scale but but fails at the large.

A bizarre piece on Coase

The Guardian in the UK has an absolutely bizarre article on Coase written by a David Walker - no relation I'm very pleased to say or if he is I'm disowning my family! The article is Ronald Coase has died, but his individualist dogma is everywhere: You can't divorce the ideas of the Chicago school economist from his followers today, intent on destroying the protective state.

The piece opens with,

He believed in privatising lighthouses, opposed regulating taxis, thought pollution was a price worth paying for profit, wanted to abolish the BBC and didn't think private companies could ever be monopolistic – you might not call him extreme but the label ideological would surely be applicable.

For a start what exactly would be wrong with privatising lighthouses and doing away with the BBC? What Coase set out to show in his paper on lighthouses was that lighthouses, an often used example of something that has to be provided by the government, were in fact provided by private enterprise in the early years of the British lighthouse system. So privatisation is perfectly possible. As to firms never being monopolistic I don't that Coase ever said this. Murray Rothbard did argue this by applying Mises's argument that about why socialism can't work for a country to the firm. If a firm gets very large it starts to take over its input markets and thus loses prices from those markets and therefore economic calculation is not longer possible. But I don't know what Coase thought about this.

Walker continues,

If, over a long career, that person had won renown as an economist but never once addressed income and wealth inequality or, in markets, the everyday imbalance of bargaining power between employers and employees, you might either think his fame overblown, or the way his reputation was inflated somewhat suspect.

Coase did not say much about income and wealth inequality, but many economists have won renown while not saying much about income and wealth inequality. So what? Its bit like saying X won renown as a physicist but said nothing about elementary particle physics. Well if he wasn't an elementary particle physicist this is not surprising. All this says is that there are gains of specialisation and the division of labour. We don't have a comparative advantage in everything. So we don't work on everything.

Walker goes on,

Coase, they say, was influential. But like cites like. He won a Nobel prize but by what transparent standard is a committee of the Swedish academy the sole arbiter of intellectual merit, or itself unswayed by beliefs and world views? In economics the line between scholarship and ideology is not just fine, but carefully screened from prying eyes.

But by what standard is a committee of the Royal Swedish Academy of Sciences. we could ask, the arbiter of intellectual merit in physics and chemistry, the other wards they decide. Someone has to decide who gets any award, for the economics, physics and chemistry Nobels it just happens to be the the Royal Swedish Academy of Sciences. Again, so what. You could ask this question no matter who gave the award. As to ideology, what are we to make of the awards to people like Gunnar Myrdal, Amartya Sen, Daniel Kahneman, Paul Krugman or Arthur Lewis, for example.

Later Walker writes,

Coase was praised for writing about the real world, for example his assertion that firms grow in relation to the cost of doing business. It's a theory, and attracted attention because so little economics is about real existing companies and the highly imperfect markets in which they operate. But Coase was careful never to frame his theory to make it empirically testable.

Both the transactions cost and property rights theories, which follow from Coase's work, have been empirically tested often. Oliver Williamson has noted at different times over the years,

The transaction cost approach to the study of integration yields numerous refutable implications many of which are unique to this approach. The cumulative evidence, which includes mundane, forward, lateral, and backward integration, is broadly corroborative.

and

To be sure, transaction cost economics, like everything else, will benefit from more and better empirical work. I have no hesitation, however, in declaring that transaction cost economics is an empirical success story.

and

TCE is an empirical success story ... research has been broadly corroborative of the predictions of transaction cost economics

In their 2007 look at "Vertical Integration and Firm Boundaries: The Evidence" Francine Lafontaine and Margaret Slade note that

Since Ronald H. Coase’s (1937) seminal paper, a rich set of theories has been developed that deal with firm boundaries in vertical or input–output structures. In the last twenty-five years, empirical evidence that can shed light on those theories also has been accumulating.

Its hard to see empirical work accumulating for 25 years if the theories are not empirically testable.

After this Walker comments,

Coase belonged to the Chicago school. Like his pal Milton Friedman, government was anathema. Without regulation, and particularly without the welfare state, markets would resolve themselves in benign benefit – all you need are saintly courts and judges where the rampant individualism prevalent everywhere else is miraculously absent.

Was Coase part of the Chicago School? In many ways yes but in others no. Coase, for example,  rejected Friedmanite positivism, as David Henderson has written,

A gentle man, Coase is also quite willing to take on some of the giants of economics when he disagrees with them. In one essay, "How Should Economists Choose?," Coase criticizes a famous 1953 article on methodology by Milton Friedman. Friedman had argued that the correctness of one's assumptions is unimportant and that all that matters for an economic theory is that it be capable of accurate predictions. Coase responds with a devastating counterexample.

"We could have predicted," writes Coase, "over the last few years what the American government's policies on oil and natural gas would be if we had assumed that the aim of the American government was to increase the power and income of the OPEC countries and to reduce the standard of living in the United States. But I am sure that we would prefer a theory that explains why the American government, which presumably did not want to bring about these results, was led to adopt policies which harmed American interests. Testable predictions are not all that matters. And realism in our assumptions is needed if our theories are ever to help us understand why the system works the way it does. Realism in assumptions forces us to analyze the world that exists, not some imaginary world that does not."

Was government really an anathema to Coase (or Friedman for that matter)? Coase showed that in a world of zero transaction costs government actions - normally the imposition of taxes - were not needed to correct for negative externalities. But he goes on to say,

Of course, it does not imply, when transaction costs are positive, that government actions (such as government operation, regulation or taxation, including subsidies)  could not produce a better result than relying on negotiations between individuals in the market. Whether this would be so could be discovered not by studying imaginary governments but what real governments actually do. My conclusion: Let us study the world of positive transaction costs.

In a world of positive transactions costs what policy should be carried out can only be determined by working out empirical case studies. Does this sound like a man for whom government is an anathema or a man who just wants to study the world, including markets and governments, as they really are.

The truth about Coase, work and his legacy is much more subtle than David Walker seems able to comprehend.

Does offshoring hurt domestic innovation activities?

Concerns about the effects of offshoring around the world, including Europe, focus mainly on the loss of factory jobs, but some also worry that innovation will also be affected in a bad way. A new column at VoxEU.org shows that offshoring firms employ more people in R&D and design, introduce more frequently new products, and invest more frequently in advanced process technologies compared to non-offshoring firms. Concerns that offshoring may hurt innovation because of the lost links between production and product development are not supported by the evidence.

The article, by Bernhard Dachs, Bernd Ebersberger, Steffen Kinkeland and Oliver Som, opens by saying,

Offshoring of production activities has been a topic of economic policy debates for at least the last decade. A central issue in these debates are the economic effects of offshoring on firms in the home country. Most contributions investigated the effects of offshoring on output, employment or skills [...] and find a complementary relationship between foreign and domestic economic activity, at least in the long run.

The effects of offshoring on innovation and technology investment came into focus only recently. Conventional economic wisdom suggests that offshoring changes the internal division of labour between various parts of the firm and strengthens capital-, technology-, and skills-intensive types of economic activity in the home country, including headquarter services such as innovation and research and development. Studies on the changing skills composition of offshoring firms [...] provide empirical support for this assumption.

This view has been challenged by various authors who point to possible negative effects of offshoring on national innovation capabilities. Gary P Pisano and Willy C Shih (2012), for example, state that “mass migration [of manufacturing] has seriously eroded the domestic capabilities needed to turn inventions into high-quality, cost-competitive products”. Pisano and Shith argue that close linkages between production product development are main source for product innovation. This idea goes back to the notion of the ‘factory as a laboratory’ [...] and to interactive models of the innovation process [...], and has also been brought forward recently [...] for Finland. Offshoring cuts these ties.

The big question asked in the article is "Are offshoring firms more innovative"? Dachs, Ebersberger, Kinkeland and Som answer by noting,

We first test for effects of offshoring on innovation input.

• Results suggest that offshoring firms employ a significantly higher share of employees in research and development and design.

Research and development and design personnel accounts for 13.7% of total employment in offshoring firms, compared to 11.9% in non-offshoring firms.

This result supports the view that offshoring firms specialise on skill-intensive, non-routine tasks and rejects fears of a lower innovation performance due to offshoring.

• Offshoring firms are also more likely to introduce new products to the market, including market novelties.

58.7% of the firms which have offshored production between 1999 and 2006 have introduced products new to the market between 2007 and mid-2009. The corresponding share for non-offshoring firms is 51.7%. The difference is significant at 10% error level. Internationalisation via offshoring may increase sales expectations of firms, which in turn spur product development. However, offshoring firms do not yield larger benefits from product innovation than non-offshoring firms. Sales from new products as a share of total turnover reveal no significant difference. This may rather reflect the uncertainties of the innovation process than to adverse effects from offshoring.

To study process innovation, we construct an involvement index that resembles the index used in Bozeman and Gaughan (2007, 2011). This procedure weights up (relatively) rare utilisation of technologies, and weights down (relatively) common ones. We calculate an overall involvement index, and sub-indices for production technologies, value chain integration technologies, and product development technologies.

Results reveal a positive effect of offshoring on process innovation [...]. Offshoring firms invest significantly more frequent in production technologies and in technologies that facilitate the management and integration of global value chains. These technologies are a means to facilitate the integration of production processes between suppliers and clients across firm boundaries and therefore promote the trade in tasks. Investment in technologies for product development show no significant difference.

This result clearly contradicts the assumption that offshoring is associated with a loss of domestic production activity. However, it supports the international economics literature which predicts that offshoring firms in the home country will focus on skill-intensive and capital-intensive activities. An explanation is that offshoring firms concentrate on the most advanced, most productive equipment – which can compete with low wages at locations abroad – in the home country to avoid involuntary knowledge spillovers to foreign competitors and increase flexibility.

and

Overall, we see no negative effect of production offshoring on innovation and technological capabilities of firms in the home country. Most indicators reveal that offshoring is associated with a higher innovation performance at the firm level. We explain this result by the changing specialisation patterns of offshoring firms towards research and development, design and innovation in their home country. Moreover, innovation activities in the home countries may also benefit from additional demand generated abroad. Fears that offshoring hurts innovation because it cuts links between production and product development are not supported by our results. An important limitation of the results, however, is the fact that we cannot observe firms that offshored all their production activities.

What then are implications for future research and policy?

Our findings provide fresh evidence on the relationship between offshoring and innovation, a field where empirical results were scarce so far. They support a view on internationalisation of firms that regards offshoring as a strategy of international expansion, and not a passive reaction of firms to a loss of their competitiveness.

With respect to policy, the analysis does not confirm fears of a weakening of national competitiveness due to offshoring:

• Activities that add to the technological capabilities of firms and their ability to create competitive advantage – such as research and development, design or process innovation – are positively associated with a firm’s decision to offshore production activities.
• Concerns that offshoring may hurt innovation because of lost links between production and product development are not supported by the evidence.

On contrary, offshoring firms have higher propensity to invest in advanced production technologies in the home country than the control group of non-offshoring firms.

Our findings also point to complementarities between domestic education and innovation policies and internationalisation:

• Domestic firms are likely to specialise in knowledge-intensive activities when they internationalise their production activities.
• Policy can help to take full advantage of the benefits from internationalisation by promoting education and qualifying personnel early enough, particularly in countries or regions where talent is short.

So offshoring is good for innovation, something worth keeping in mind when you see people complaining about the offshoring activities of firms.

Refs.:

• Bozeman, B, and M Gaughan (2007), "Impacts of grants and contracts on academic researchers’ interactions with industry", Research Policy, 36(5), 694-707.
• Bozeman, B, and M Gaughan (2011), "How do men and women differ in research collabourations? An analysis of the collabourative motives and strategies of academic researchers", Research Policy 40(10), 1393-1402.
• Pisano, G, and W C Shih (2012), "Does America Really Need Manufacturing?", Harvard Business Review, 90(3), 94-102.

If you have a couple of dollars to spare

From the Adam Smith's Lost Legacy blog comes news about the price paid for a first edition of Adam Smith's second book, "An Inquiry into the Nature and Causes of the Wealth of Nation" at a recent auction in Edinburgh:

A rare first edition of Adam Smith’s Wealth Of Nations was bought at auction in Edinburgh by an undisclosed telephone bidder for £46,000 winning bid price, plus the separate sales commission, altogether coming to £55,000.

£46,000 is around NZ$92,000 and £55,000 is roughly NZ$109,000. So if you have a couple of dollars to spare may be you could put in a bit next time a copy comes up for auction.

Competitiveness, the Venezuelan way

Much has been made recently of the fact that New Zealand is now more "competitive" than Australia. For example, The New Zealand Institute has said,

For the first time in the history of the WEF’s competitiveness index, New Zealand is ranked higher than Australia. For the first time, Australia is no longer a top 20 economy globally. Out of 144 countries surveyed, New Zealand now ranks 18th (up from 23rd last year). Australia, on the other hand, dropped one rank from 20th to 21st place. Ouch.

If this is happening near the top of the rankings, what's happening at the other end of the scale. What can we learn from looking at the worst ranked counties?

If you look at the bottom end of the rankings you get an indication of the economic legacy of Hugo Chavez in Venezuela. Peter Spence writes in City A.M. that

The latest World Economic Forum global competitiveness report, released today, is even more striking. Out of 148 countries, here's how Venezuela's institutions fare:

148th for property rights
148th for the diversion of public funds due to corruption
148th for judicial independence
148th for the efficiency of the legal framework in settling disputes
148th for the burden of government regulation
148th for the wastefulness of government spending
148th for favoritism in decisions of government officials
148th for the efficiency of the legal framework in challenging regulations
148th for the reliability of police services
147th for the transparency of governmeny policymaking (Haiti is considered marginally worse, with 2.6/7, versus Venezuela's 2.7)

and

Venezuela slipped from the world's 51st most competitive country in 1999, to the 54th in 2000 and 66th in 2001. It now ranks as the 134th most competitive of 148 states.

Now the country is worst in the world for nine out of 21 categories, and in many it's still pretty close to the bottom, close to nations like Lebanon, Chad, Yemen and Haiti.

A county's basic institutions are one factor that matter for its economic well being. If your institution don't function properly, that is if you don't protect property rights, have an honest public sector, an independent judiciary, sensible business regulation etc, then no matter how much oil revenue you have, eventually your economy, and thus people's welfare, will suffer.

Interesting blog bits (updated lots of times)

A few of the many obituaries of and tributes to Ronald Coase:

1. David Henderson
2. Richard Epstein
3. Richard Epstein
4. Peter Boettke
5. Peter Klein
6. Donald J. Boudreaux
7. David Gordon
8. Robert Higgs
9. Daniel Kuehn
10. Vuk Vukovic
11. Kevin Bryan. A version is also available at VoxEU.org.
12. Victor W. Hwang
13. Joshua Gans
14. Edward Lopez
15. Sarah Galer and Jeremy Manier
16. Caleb Garling and Benny Evangelista
17. Brendan Greeley
18. Todd Zywicki
19. Jonathan Turley
20. Matthew Yglesias
21. Stephanie Flanders
22. John Kay
23. Diane Coyle
24. Nick Gillespie
25. Dylan Matthews
26. Mark Littlewood
27. Timothy B. Lee
28. Rupert Darwall
29. Marc Sidwell
30. Cass R. Sunstein
31. John Naughton
32. Edward Lotterman
33. Phil Rosenthal
34. John Cassidy
35. Richard A. Epstein Epstein is a reply to Cassidy
36. Phil Miller
37. David P Goldman
38. Martin Hutchinson
39. Larry Downes
40. Walter Olson
41. Severin Borenstein
42. Casey B. Mulligan
43. Kenny Tan
44. Ray Perryman
45. Prashanth Perumal
46. Robert Stavins
47. Mike Rappaport
48. J. Gordon Hylton
49. Steven Medema
50. Steven Medema
51. Kevin Rafferty
52. Andrew Sheng and Xiao Geng
53. Walter Block
54. Donald J. Boudreaux
55. Jonathan Z. Zhou
56. Paul Greenberg
57. Anna Demchenko
58. Matt Nolan
59. Peter Cresswell
60. Oliver Hartwich
61. The New York Times
62. The Washington Post
63. The Ronald Coase Institute
64. The Wall Street Journal
65. The New Zealand Herald
66. The Economist
67. The Economist
68. The Sydney Morning Herald
69. University of London
70. Links to do with Coase being forced out of the University of Virginia
1. Hawes Spence
2. Nick Gillespie
3. David Friedman
4. George Leef

Capitalism, government, and the good society

From EconTalk comes this video of an Liberty Fund and Butler University sponsored symposium:

Capitalism, Government, and the Good Society

The evening began with solo presentations by the three participants--Michael Munger of Duke University, Robert Skidelsky of the University of Warwick, and Richard Epstein of New York University. (Travel complications forced the fourth invited participant, James Galbraith of the University of Texas, to cancel.) Each speaker gave his own interpretation of the appropriate role for government in the economy and in our lives. This was followed by a lively conversation on the topic moderated by Russ Roberts of Stanford University, host of the weekly podcast, EconTalk.

Williamson plus Grossman-Hart-Moore gives?

In a comment on the death of Ronald Coase at the Cheap Talk blog it is asked,

But what are these pesky transactions costs that determine the boundary of the firm?

The answer given is that

There we have no consensus. One leading theory invokes costs of haggling ex post if two firms are not integrated (Wiliamson got the Nobel Prize for this theory). The other says there are no costs of haggling ex post and bargaining in efficient but there is a hold up problem in bargaining as surplus is split. Knowing this firms underinvest ex ante. The allocation of property rights affects the ex post division of surplus and hence this leads to a theory of optimal property rights (this theory has been developed by Oliver Hart with his co-authors Sandy Grossman and John Moore (GHM)).

Is the obvious third possibility not missing? A combination of Williamson and Grossman-Hart-Moore or the reference point approach due to Hart and Moore. As I have argued in Walker (2013: 690-1),

The reference point approach can be seen as a movement away from the ex ante GHM approach and back towards transaction cost thinking in so much as contracting is not perfectly contractible ex post. This fact, as Hart (2008, p. 294) points out ‘[...] is a significant departure from the standard contracting literature. The literature usually assumes that trade is perfectly enforceable ex post (for example by a court of law). Here we are assuming that only perfunctory performance can be enforced: consummate performance is always discretionary’, and thus inefficiencies can arise ex post. The development of a tractable model of contracts and organisational form that exhibits ex post inefficiency is one of motivations for advancing the reference point approach in the first place. (Hart and Moore, 2008, p. 4). Hart’s interpretation of the reference point theory is ‘[i]n a sense, this work can be viewed as a “merger” of the transaction cost and property rights literatures’. (Hart, 2011b, p. 106).

While it is true that there may be no overall consensus on which transaction costs matter for the boundaries of the firm, it is also true that the transaction costs and property rights approaches are not as diametrically opposed as the second quote above would suggest since a midway between them can also be found. Oliver Williamson has argued in the past that the ideas in Coase's paper "The Nature of the Firm" had for many years been under-used because the idea of transaction costs had not been "operationalised". What the above would suggest is that transaction costs have yet to be fully incorporated into a general theory but progress has been, and is still being, made.

Refs:

• Hart, Oliver D. (2008). Economica Coase Lecture: reference points and the theory of the firm. Economica 75(299) August : 404–411.
• Hart, Oliver D. (2011b) Thinking about the firm: a review of Daniel Spulbers the theory of the firm. Journal of Economic Literature 49(1) March: 101–113.
• Hart, Oliver D. and Moore, John (2008). Contracts as reference points. Quarterly Journal of Economics 123(1) February: 1–48.
• Walker, Paul (2013). The 'Reference Point' Approach to the Theory of the Firm: An Introduction. Journal of Economic Surveys, 27(4) September: 670-95.

You just have to love journalists (updated x2)

Josh Barro has an article on the Business Insider Australia website on Here's The Key Thing You Should Know About Ronald Coase, The Great Economist Who Died Yesterday At 102. To accompany the article is the picture below. The title on the picture is "Prof. Ronald Coase, 1910-2013".

The key thing you need to know about this picture is that its of Oliver Williamson!! Not Ronald Coase.

Below is a picture of Coase, aged 101.


Update: These guys are really on to it. I've just check the page again (5:50pm 6/9/13 NZ Time) and the Williamson picture is still there. This despite the fact that in the discussion section below the article Ian Deans has written "That picture is of Oliver Williamson, not Ronald Coase. If you want to honor the man, maybe choose a photo of the right guy." Good to see just how much notice they take of the comments on their site.

Update 2: I've checked the page again (10:14pm 13/04/16 NZ Time) and the picture of Williamson is still there.

An intellectual giant has fallen (updated)

A world of economics has lost the greatest economist of the 20th century. The death of Ronald Harry Coase has deprived the economists profession of one of its creative and innovative thinkers. His introduction of transaction costs into economics gave rise to the modern theory of the firm, law and economics and the new institutional economics.

For me the most important thing in Coase’s work is that we see most of the main issues of the modern theory of the firm being raised together for the first time. He sets out to “discover why a firm emerges at all in a specialized exchange” − a question about the existence of the firm; he also sets out to “study the forces which determine the size of the firm” − an issue to do with the boundaries of the firm; and he inquires into the reasons for “diminishing returns to management” − issues to do with the internal organisation of the firm. It was the efforts to answer these questions that initiated the charge from seeing the theory of the firm as just part of price theory to seeing it as an important topic in its own right. Coase also provides one of the main building block for answers to these issues, the “costs of using the price mechanism” or transaction costs.

Coase

Update: Matt Nolan comments at the TVHE blog here.

EconTalk this week

Mike Munger of Duke University talks with EconTalk host Russ Roberts about why milk is in the back of the grocery store. Michael Pollan and others argue that milk is in the back so that customers, who often buy milk, will be forced to walk through the entire story and be encouraged by the trek to buy other items. Munger and Roberts argue that competition encourages stores to serve customers and that alternative explanations explain where milk is found in the store. The conversation also discusses restaurant pricing, government "nudging" and related issues of grocery economics.

A bad question

From the Homepaddock blog we learn,

Enough signatures have been gathered to force a politicians’ initiated referendum on asset sales.

The question we’ll be asked is:

“Do you support the Government selling up to 49% of Meridian Energy, Mighty River Power, Genesis Power, Solid Energy and Air New Zealand?”

This is a bad question since as written I would have to say no to it. As I have said before there are good reasons for thinking the partial sale plan isn't a good one. But just because I don't like the partial privatisation plan doesn't mean I support continued government ownership of these assets, which is, I'm sure, what will be claimed if you say no to the question.. The problem with the question is that we are not told the alternative. If we don’t sell 49% of the shares what do we do? let the government keep them, bad idea; sell 100% of the shares, much better idea.

So can we have a better question, please.

This can't be said too often

Natural disasters and wars never generate prosperity. They always destroy it, by definition.

This is Oliver Hartwich, Executive Director of The New Zealand Initiative, writing at Stuff.co.nz. What we should learn from this is that things like the Canterbury earthquakes and the resulting rebuild does nothing for the economy.

Yes, there is no doubt that the rebuild is triggering lots of economic activity here in Canterbury. But as Hartwich notes,

But such positive developments cannot obscure the fact that as a direct result of the quakes, hundreds of firms went out of business, tax revenue was lost, and the government's budget was pushed deep into the red. And these are obviously only the economic costs of the natural disaster, not counting the loss of lives or the physical and mental health effects.

If the earthquakes had never happened, there would not have been a need to deal with them. All the resources now devoted to cleaning up and rebuilding would have been employed elsewhere.

While we would not see such a pronounced construction boom, there would be across the board positive effects in other sectors of the economy. Meanwhile, instead of footing part of the bill of the rebuild, the government could have either returned the budget to surplus earlier, cut taxes or invested elsewhere.

With large projects, it is always easy to acknowledge the activity they have triggered. What is more difficult to ascertain is what other activities would have happened in their absence. We simply cannot see the business that would have taken place in Christchurch if the earthquakes had never happened.

To say that disasters are good for the economy is what economists call the Broken Window Fallacy. The fallacy is due to Frederic Bastiat.

19th-century political economist Frederic Bastiat offered an answer to such a question in his 1850 essay "That Which Is Seen and That Which Is Unseen." (This was, of course, translated from the French "Ce qu'on voit et ce qu'on ne voit pas.") Bastiat's reasoning goes as follows:

Have you ever witnessed the anger of the good shopkeeper, James Goodfellow, when his careless son happened to break a pane of glass? If you have been present at such a scene, you will most assuredly bear witness to the fact that every one of the spectators, were there even thirty of them, by common consent apparently, offered the unfortunate owner this invariable consolation—"It is an ill wind that blows nobody good. Everybody must live, and what would become of the glaziers if panes of glass were never broken?"

Now, this form of condolence contains an entire theory, which it will be well to show up in this simple case, seeing that it is precisely the same as that which, unhappily, regulates the greater part of our economical institutions.

Suppose it cost six francs to repair the damage, and you say that the accident brings six francs to the glazier's trade—that it encourages that trade to the amount of six francs—I grant it; I have not a word to say against it; you reason justly. The glazier comes, performs his task, receives his six francs, rubs his hands, and, in his heart, blesses the careless child. All this is that which is seen.

But if, on the other hand, you come to the conclusion, as is too often the case, that it is a good thing to break windows, that it causes money to circulate, and that the encouragement of industry in general will be the result of it, you will oblige me to call out, "Stop there! Your theory is confined to that which is seen; it takes no account of that which is not seen."

It is not seen that as our shopkeeper has spent six francs upon one thing, he cannot spend them upon another. It is not seen that if he had not had a window to replace, he would, perhaps, have replaced his old shoes, or added another book to his library. In short, he would have employed his six francs in some way, which this accident has prevented.

Selgin v. Summer

Over at the Free Banking blog the ever interesting George Selgin has a post discussing why Austrian cycle theory and monetarist explanations of booms and busts are not mutually exclusive. Selgin writes,

Having learned my monetary economics from both the great monetarist economists and their Austrian counterparts, I've always chafed at the tendency of people, including members of both schools, to treat their alternative explanations of recessions and depressions as being mutually exclusive or incompatible. According to this tendency, a downturn must be caused either by a deficient money supply, and consequent collapse of spending, or by previous, excessive monetary expansion, and consequent, unsustainable changes to an economy's structure of production.

During the 1930s and ever since, this dichotomy has split economists into two battling camps: those who have blamed the Fed only for having allowed spending to shrink after 1929, while insisting that it was doing a bang-up job until then, and those who have blamed the Fed for fueling an unsustainable boom during the latter 1920s, while treating the collapse of the thirties as a needed purging of prior "malinvestment." As everyone except Paul Krugman knows, the Austrian view, or something like it, had many adherents when the depression began. But since then, and partly owing (paradoxically enough) to the influence of Keynes's General Theory, with its treatment of deficient aggregate demand as the problem of modern capitalist economies, the monetarist position has become much more popular, at least among economists.

It is, of course, true that monetary policy cannot be both excessively easy and excessively tight at any one time. But one needn't imagine otherwise to see merit in both the Austrian and the monetarist stories. One might, first of all, believe that some historical cycles fit the Austrian view, while others fit the monetarist one. But one can also believe that both theories help to account for any one cycle, with excessively easy money causing an unsustainable boom, and excessively tight money adding to the severity of the consequent downturn. I put the matter to my undergraduates, who seem to have little trouble "getting" it, like this: A fellow has an unfortunate habit of occasionally going out on a late-night drinking binge, from which he staggers home, stupefied and nauseated. One night his wife, sick and tired of his boozing, beans him with a heavy frying pan as he stumbles, vomiting, into their apartment. A neighbor, awakened by the ruckus, pokes his head into the doorway, sees our drunkard lying unconscious, in a pool of puke, with a huge lump on his skull. "What the heck happened to him?," he asks. Must the correct answer be either "He's had too much to drink" or "I bashed his head"? Can't it be "He drank too much and then I bashed his head"? If it can, then why can't the correct answer to the question, "What laid the U.S. economy so low in the early 1930s?" be that it no sooner started to pay the inevitable price for having gone on an easy money binge when it got walloped by a great monetary contraction?

This not just a good piece of marriage advise, it is also a good piece of economic advise, one which is missed by many economists who see the Austrian and monetarist views as mutually exclusive.

Selgin goes on to argue that modern economists, including Scott Sumner, have been sucked into a false dichotomy:

Sumner basis his position, not merely on the claim that prices are more flexible upwards than downwards, but on a dichotomy erected in the literature on asset price movements, according to which upward movements are either sustainable consequences of improvements in economic "fundamentals," or are "bubbles" in the strict sense of the term, inflated by what Alan Greenspan called speculators' "irrational exuberance," and therefore capable of bursting at any time. Since monetary policy isn't the source of either improvements in economic fundamentals or outbreaks of irrational exuberance, the fundamentals-vs-bubbles dichotomy implies that monetary policy is never to blame for changes in real asset prices, whether those changes are sustainable or not. If the dichotomy is valid, Sumner, Friedman, and the rest of the "monetary policymakers shouldn't be concerned about booms" crowd are right, and the Austrians, Schwartz, Taylor, and others, including Obama and his advisors, who would hold the Fed responsible for avoiding booms, are full of baloney.

Scott Summer not surprisingly sees it differently,

I’m happy to reassure George that I do not believe the things he claims I believe. I believe the Fed often creates booms, and that these booms often lead to recessions. So in that sense my views are quite Austrian. I am particularly surprised by his claim that I don’t believe that monetary policy affects real asset prices, as he recently commented on a post that was devoted to exactly that proposition:

Now here’s where I part company with Keynesians who might have been with me so far. Although short term interest rates are one of those “asset prices” that cause the money market to achieve near instantaneous equilibrium, even as the goods and labor markets are in disequilibrium, they actually have very little role in moving NGDP and prices to the level necessary to restore long run macro equilibrium (and to move interest rates back to their original level.) In my view 60% of the heavy lifting is done by what Keynes called “confidence” and I call “expectations of NGDP growth” and Ford Motors economic forecasters call “expected nominal incomes in 2014 available to buy Ford cars.” Another 35% of the transmission is done by asset markets like stocks, forex, commodities, real estate prices, junk bond yield spreads, etc. And maybe 5% by risk-free short term rates. At most.

So I just claimed that 35% of the transmission effect of monetary policy works through changes in real asset values, and have been saying similar things all along. George is a smart guy, so clearly something I said was misleading, or created a false impression. Perhaps it’s my denial of “bubbles.” I believe in the EMH (i.e. no bubbles), but only for asset markets. Because goods and labor markets have sticky wages and prices, they are not efficient, and monetary stimulus creates booms and busts in terms of output. In some cases, such as the 1970 recession, the blame is almost 100% the preceding boom. Indeed the preceding boom also played a big role in the next few recessions. Where I differ from some Austrians is that I believe the preceding booms in 1929 and 2007 were not major factors in the subsequent slump. In those two cases I think tight money is mostly to blame, perhaps 90% or more. It’s hard to be more precise as the trend line is a judgment call (in the absence of NGDPLT.)

Summer goes on to say that he sees booms and bubbles as unrelated phenomenon. If by boom we mean "excessive nominal spending" then he doesn't see a strong correlation between booms and bubbles.

"When goods don't cross borders, armies will."

Over at the EconLog blog David Henderson is discussing the above quote normally attributed to Frederic Bastiat. But as Henderson points out there is little evidence that Bastiat actually said it. I posted on this topic back in 2009, see here and here.

The closest thing to the above quote I was able to find back in 2009 was one that says,

If soldiers are not to cross international borders, goods must do so.

According Jeffry Frieden, on page 255 of his 2006 book "Global Capitalism", the above quote is due to one Otto Maller and he gives a reference to page 37 of Alfred E. Eckes's 1975 book, "A Search for Solvency: Bretton Woods and the International Monetary System, 1941-1971". Maller, we are told, was a supporter of FDR's Secretary of State Cordell Hull.

It looks like the name Maller is a bit wrong as it should be Mallery. If you can find a copy of the Alfred E. Eckes's book you will indeed find the above quote is on page 37. Eckes writes,

Like nineteenth-century liberals, Otto Mallery believed that free trade was the panacea for economic nationalism and great power rivalries. "If soldiers are not to cross international boundaries," he said, "goods must do so."

The reference that Eckes gives to for the Mallery quote is "Otto T. Mallery, "Economic Union and Enduring Peace," Annals 216 (July 1941): 125-134; quotations on p. 125."

Let me give the full, albeit only two sentence, paragraph from "Economic Union and Enduring Peace" which runs over the bottom of page 125 and the top of page 126:

If soldiers are not to cross international boundaries, goods must do so. Unless shackles can be dropped from trade, bombs will be dropped from the sky. (Emphasis in the original.)

The details given at the end of the paper on Mallery are

Otto Tod Mallery, A.B., Philadelphia, was one of the drafters and sponsors of the National Employment Stabilization Act and is a consultant on the National Resources Planning Board which administers this act. He has originated legislation which brought into being new governmental agencies in Philadelphia and Pennsylvania and has held administrative positions in city, state, and Federal Governments. He was chief economist of the United States Department of Commerce. In 1937 he was economic adviser to the United States Government Delegation to the Conference of the International Labor Organization at Geneva, and in 1939 to the United States Employers' Delegation to the Conference of the American States, members of the Inter- national Labor Organization, at Habana. He is president of the Playground and Recreation Association of Philadelphia, and member of the Board of Directors of The American Academy of Political and Social Science. He is part author of "Business Cycles and Unemployment" (1923).

All of which means we are still left with the question of whether or not the Bastiat quote is genuine. But it seems unlikely.

Robert Pindyck on climate models

Robert Pindyck has a recent NBER working paper that looks at one of the critical tools used in climate policy:
Climate Change Policy: What Do the Models Tell Us?
Robert S. Pindyck
NBER Working Paper No. 19244, July 2013 The abstract answers the question in the paper's title:

Very little. A plethora of integrated assessment models (IAMs) have been constructed and used to estimate the social cost of carbon (SCC) and evaluate alternative abatement policies. These models have crucial flaws that make them close to useless as tools for policy analysis: certain inputs (e.g. the discount rate) are arbitrary, but have huge effects on the SCC estimates the models produce; the models’ descriptions of the impact of climate change are completely ad hoc, with no theoretical or empirical foundation; and the models can tell us nothing about the most important driver of the SCC, the possibility of a catastrophic climate outcome. IAM-based analyses of climate policy create a perception of knowledge and precision, but that perception is illusory and misleading.

Freedom in ideas matters

In their recent book, "How China Became Capitalist," Ronald Coase and Ning Wang argue that the market in ideas matters for the future well-being of China. Coase and Wang deplore China's lack of a free market for ideas and the damage that this has wrought on universities and on the Chinese economy's capacity to innovate.

But just how bad are the controls on academics in China's universities? A part answer to this question may be reflected in this recent posting on Greg Mankiw's blog:

A professor in China brings this story to my attention:

A renowned professor has confirmed online rumours that his peers will decide whether he will be expelled from China's most eminent university after he made a series of remarks in favour of free speech and constitutional governance.

Economics professor Xia Yeliang of Peking University was told by his department that his fate would be decided by a faculty vote, he told the South China Morning Post on Monday.

"They told me it's because of all the things I have said and written," Xia said. "They have threatened me before, but this is the first time they will vote on my expulsion."

My correspondent says that the vote will likely take place in September. He also reports that this is not an isolated incidence. He writes, "Though you may not be aware, there is a quiet crack down currently under way in China with other professors being removed for similar offenses....I can tell you from my personal experience here, most Chinese faculty at PKU and other elite Chinese institutions having been educated at top schools in the US are appalled but are quite fearful to speak out."

There are some very obvious issues here about the role of academics in Chinese society - "critic and conscience of society" in New Zealand terms - and for the freedom of speech but if Coase and Ning are right then the effects of such repression could go further than just the social and political spheres, it could negatively effect the future growth of the Chinese economy. Growth that in recent times has resulted in millions of people being raised out of poverty. Anything which retards the enormous potential for future growth that the Chinese economy has must be of concern to anyone who is worried about the well-being of the many millions of people who are still poor in China today.

Why is it that the expression "third way" always worries me? 3

Let me make a few quick comments in reply to Jason Krupp. First let me apologise for any misrepresentation I may have made, this was unintended.

My point about the meaning of ownership is that even taking into account "democracy and the nature of general elections versus specific referenda" taxpayers do not have the rights defining ownership. The residual controls rights for SOEs are not in the hands of taxpayers, these rights are held by the government or its bureaucracy. I fail to see how your dinner companion can in anyway think they are an owner of any SOE in that they do not have residual control rights over any SOE. Or at least this would be my reply to them.

My point about the government being the single shareholder isn't that having a single shareholder is bad, its about the government being a majority shareholder. I would argue that there is likely to be little difference in the operations of an SOE as long as the government is the majority shareholder. Thus an SOE under 100% government ownership will look much like an SOE with 51% government ownership. Hence my comment on the García and Ansón paper.

Using a panel data analysis of Spanish privatised firms, we study how different factors influence the operating performance of divested companies. The results show that it is not privatisation per se but other factors that matter. After controlling for possible sample selection bias related to government timing of divestments, we find that  the greater the relinquishment of State control and the smaller the percentage of ownership held by managers and/or employees,  the better the firms’ post-privatisation performance. Moreover, privatisations that are accompanied by liberalisation programmes and occur during buoyant economic cycles turn out to be more successful. (Emphasis added).

As to having millions of people acting in the role of shareholder this may or may not be a good thing. It is not clear that we need to "foster a savings culture in New Zealand", there is no saving problem here - see, for example, Le, Scobie and Gibson (2009) and Le, Gibson and Stillman (2012) for more on this.

Even if we want, and don't have currently, a "thriving equity market" its not clear that this should be an aim of a privatisation program. The aim should be efficiency and productivity. Roger Douglas made this point in an article from the New Zealand Herald.

"Privatisation is not really about how much money you get for the asset, that's important, but the more important issues are to get the regulatory environment right so that competition can take place in the industry.

"What you measure your success by is the productivity that flows following the corporatisation / privatisation process."

The New Zealand sharemarket may not be thriving, but is it the government's job to fix this, any more than it is the government's job to fix or support any other sector of the economy? I can't help thinking it is not the job of any government to bolster the sharemarket, that is the job of the those who run the sharemarket.

Refs:

• Le, Trinh, Grant Scobie and John Gibson (2009). Are Kiwis saving enough for retirement? Evidence from SOFIE, New Zealand Economic Papers 43(1): 3-19.
• Le, Trinh, John Gibson and Steven Stillman (2012). Wealth and saving in New Zealand: evidence from the longitudinal survey of family, income and employment, New Zealand Economic Papers 46(2): 93-118.

Why is it that the expression "third way" always worries me? 2

The following comes from the comments section to my previous posting Why is it that the expression "third way" always worries me? and is from Jason Krupp author of the New Zealand Institute piece I was commenting on. Let me thank Jason for taking the time to write this comment.

Dear Anti-Dismal:

I enjoyed the article, and you raise many valid points, though some of the positions you attribute to me are a little off.

Firstly, it's the critics of the mixed ownership who've claimed New Zealanders already own the state owned assets. In fact I remember a particular dinner conversation in which one guest said of the partial float “why should I pay for what’s already mine?”.

As for the complicated morass of property rights, democracy and the nature of general elections versus specific referenda, well, I’m sure you’ll agree that it’s too broad to tackle in the 500 words I had to work with.

Also, in a piece of this nature you have to take a few short cuts, such implying Government ownership when referring to a single shareholder. Should I have spelled it out?
Perhaps, but I’m giving the reader the deductive benefit of the doubt – one I’m confident they’ve made.

This need for short cut extends to the share ownership issue you’ve taken umbrage with. Of course we won't have 4.4m shareholders for long as some will sell and some will hold because there is a free market to sell them - something that wasn't available in the Soviet example you used.

But those who sell can use those funds for other things – investing in a business, paying down debt, splashing out at the shops – which have upside benefits for the economy and the government’s coffers.

And adding millions of people to the shareholder roll is a good on many levels. It’s a fantastic way of building up knowledge in the equity market, which we need if we are going to foster a savings culture in New Zealand.

I’m sure you’d also agree that a thriving equity market (which we don’t have at the moment, but it’s getting better) is essential if we’re going to lower the cost of capital for New Zealand businesses, which is notably higher than across the Tasman.

Lastly, “selling 100 per cent of the SOEs by any means would mean that this is at best a one-off trick” is exactly the point, albeit a Hayekian one. If, as a politician, you know you can’t sell the family silverware to get you out of debt, you’re likely to think a bit more carefully about what you’re getting into debt for (actually that might be a little naive).

In conclusion, you’re right, the third way is not that clear at all, but equally neither are the benefits/costs of other options.

Jason Krupp
The New Zealand Initiative