Now this is just wacky

In the UK the Labour Party Leader Jeremy Corbyn has suggested setting a maximum earning limit or, effectively, a marginal tax rate of 100%. Here is a two minute video in which Institute of Economic Affairs Director General Mark Littlewood explains why such a 'maximum wage policy' is economically and socially a terrible idea - and why such a policy would even stand to hurt Corbyn's own agenda.

The most obvious point is that high income earners, who are very mobile, just get up and leave the UK or cut back on the work they do. Littlewood makes this point with the example of footballers in the UK. This would reduce the amount of tax that the government gets from high income earners, not increase it. You must also wonder what effect it would have in the long-run on innovation and growth.

Trump and trade: the protectionist triumvirate

From the Cato Institute comes this Cato Daily Podcast in which Caleb O. Brown talks to Daniel J. Ikenson and Daniel J. Mitchell about Trump and trade:

With Wilbur Ross at Commerce, Peter Navarro at the new National Trade Council, and Robert Lighthizer as U.S. Trade Representative, Donald Trump has assembled a team aimed at protecting U.S. industry from competition.

Let the data speak?

From twitter comes these tweets from Modeled Behavior (Adam Ozimek) @ModeledBehavior

People who think that data never "speaks" and the researcher can get basically any result haven't spent enough time doing empirical research

— Modeled Behavior (@ModeledBehavior) January 8, 2017

Point is, it's true that sometimes the data whispers and we must rely on our ability to hear clearly. But sometimes the data screams.

— Modeled Behavior (@ModeledBehavior) January 8, 2017

and my response

@ModeledBehavior "If you torture the data enough, nature will always confess." Coase. You would scream too if you were being tortured.

— GrumpyMcGrumpyface (@psw1937) January 8, 2017

The Coase quote comes from the third G. Warren Nutter Lecture -- "How Should Economists Choose?" -- which Coase delivered at the American Enterprise Institute for Public Policy Research, Washing­ton, D.C., on November 18, 1981.

But its not the full quote,

I remarked earlier on the tendency of economists to get the result their theory tells them to expect. In a talk I gave at the University of Virginia in the early 1960s, at which Warren Nutter was, I think, present, I said that if you torture the data enough, nature will always confess, a saying which, in a somewhat altered form, has taken its place in the statistical literature. Kuhn puts the point more elegantly and makes the process sound more like a seduction: "nature undoubtedly responds to the theoretical predispositions with which she is approached by the measuring scientist."

A little before this quote Coase had said,

Other studies take the form of a test of the theory espoused by the author: there is a model, then regressions, followed by conclusions. In almost all cases it will be found that the statistical results confirm the theory. Sometimes it does happen that some of the expected relationships are not statistically significant, but they will usually be found to be in the right direction. And when results are obtained that do not square with the theory, which occasionally happens, these results are not usually treated as invalidating the theory but are left as something calling for further study. I would not claim that such studies have never led the investigators to modify their theories, but such cases appear to be rather uncommon. Some articles, of course, involve the testing of alternative theories, and this means that some theories are bound to come out worse. But I doubt whether such studies have often led to a change in the views of the authors. My impression is that these quantitative studies are almost invariably guided by a theory and that they may most aptly be described as explorations with the aid of a theory. In almost all cases, the theory exists before the statistical investigation is made and is not derived from the investigation.

Coase goes on to say,

Quantitative studies, or qualitative studies for that matter, may give someone who believes in a theory a better idea of what that theory implies. But such studies, normally quantitative in the natural sciences and increasingly so in economics, also play, as Kuhn indicates, another and very important role. The choice economists face is a choice between competing theories. These studies, both quantitative and qualitative, perform a function similar to that of advertising and other promotional activities in the normal products market. They do not aim simply at enlarging the understanding of those who believe in the theory but also at attracting those who do not believe in it and at preventing the defection of existing believers. These studies demonstrate the power of the theory, and the definiteness of quantitative studies enables them to make their point in a particularly persuasive form. What we are dealing with is a competitive process in which purveyors of the various theories attempt to sell their wares.

Coase then quotes Dan Patinkin:

What generates in me a great deal of skepticism about the state of our discipline is the high positive correlation be­tween the policy views of a researcher (or, what is worse, of his thesis director) and his empirical findings. I will begin to believe in economics as a science when out of Yale there comes an empirical Ph.D. thesis demonstrating the suprem­acy of monetary policy in some historical period and out of Chicago, one demonstrating the supremacy of fiscal policy.

I have always thought there is too much truth in Patinkin's remark.

Coase comments,

Assuming that Patinkin is right and that the empirical findings of economists at Yale and Chi­cago are not the same, this undoubtedly reflects a difference in their view about how the economic system operates, a difference, that is, in the theories espoused at the two universities.

So empirical results are made to fit the theory?

And,

But there are motives for selecting one theory rather than anotherthat are more worrying, and I think it was this concern that lay behind Patinkin's somewhat facetious remark. In public discussion, in the press, and in politics, theories and findings are adopted not to facilitate the search for truth but because they lead to certain policy conclusions. Theories and findings become weapons in a propaganda battle.

To give some perspective on Coase's whole argument, it should be noted that the point of Coase's lecture was to argue against the position Milton Friedman took in his essay "The Methodology of Positive Economics".

Many economists, perhaps most, think of economics as the science of human choice, and it seems only proper that we should examine how economists themselves choose the theories they espouse. The best-known treatment of this question is that of Milton Friedman, who, in the "Methodology of Positive Economics," his most popular paper, in itself a somewhat suspicious circumstance, tells us "how to decide whether a suggested hypothesis or theory should be tentatively accepted as part of " the positive science of economics. As you all know, the answer he gives is that the worth of a theory "is to be judged by the precision, scope, and conformity with experience of the predictions it yields .... The ultimate goal of a positive science is the development of a 'theory' or 'hypothesis' that yields valid and meaningful ... predictions about phenomena not yet observed.

I should say at once that I do not consider Milton Friedman's answer satisfactory.

[ ... ]

The view that the worth of a theory is to be judged solely by the extent and accuracy of its predictions seems to me wrong. Of course, any theory has implications: it tells us that if something happens, something else will follow, and it is true that most of us would not value the theory if we did not think these implications corresponded to happenings in the real economic system. But a theory is not like an airline or bus timetable. We are not interested simply in the accuracy of its predictions. A theory also serves as a base for thinking. It helps us to understand what is going on by enabling us to organize our thoughts. Faced with a choice between a theory which predicts well but gives us little insight into how the system works and one which gives us this insight but predicts badly, I would choose the latter, and I am inclined to think that most economists would do the same. No doubt it would be their belief that ultimately this theory would enable us to make predictions about what would happen in the real world; but since these predictions would emerge at a later date (and probably would also be about different things), to assert that the choice between theories depends on their predictive powers becomes completely ambiguous.

Managing political risk

At the, oddly named, Pro-Market blog Roy Shapira posts about a recent working paper that suggests that firms react to political risk, both passively by cutting investment and employment, and actively by ramping up lobbying efforts.

Shapira writes,

In a recent working paper titled Aggregate and Idiosyncratic Political Risk: Measurement and Effects, Chicago Booth professor Tarek Hassan and co-authors Stephan Hollander, Laurence van Lent, and Ahmed Tahoun employ an innovative methodology to try to narrow the gap in our ability to measure political risks and how firms react to them. Their findings suggest that firms do indeed react to political risk, both passively by cutting investment and employment, and actively by ramping up lobbying efforts. (Emphasis added)

But isn't this exactly what we would expect? Isn't this the outcome that regime uncertainty would tell us we should expect? The whole point of regime uncertainty is that if investors can not be sure as to how future government actions will effect their property rights and their returns to investment they will be hesitant to make long-term commitments. In other words firms cut back on investment and employment. Decisions about such variables are highly sensitive to risk in various forms, including uncertainty over future tax and regulatory policy. One obvious way to deal with such uncertainty is to lobby the government. If you have input into the policy making process you can gain knowledge of any future polices, thereby reducing uncertainty, and also try to influence the policy agenda in ways that are beneficial to your particular industry.

Interview with Jon Elster

An interesting, if too short, interview with Jon Elster (2016 Johan Skytte Prize Winner).


Interview with Jon Elster (2016 Johan Skytte Prize Winner) from The Johan Skytte Prize on Vimeo.

Liquor control and homicide

Howard Bodenhorn, of Clemson University, has a new NBER working paper out on Blind Tigers and Red-Tape Cocktails: Liquor Control and Homicide in Late-Nineteenth-Century South Carolina, NBER Working Paper No. 22980, issued in December 2016..

The abstract reads,

In 1893 South Carolina prohibited the private manufacture, transportation, and sale of alcohol and established a state monopoly in wholesale and retail alcohol distribution. The combination of a market decline in the availability of alcohol, reduced variety, and monopoly pricing at state-operated outlets encouraged black markets in alcohol. Because black market participants tend to resort to extra-legal mechanisms for dispute resolution, including violence, one result of South Carolina’s alcohol restriction was an increase in homicide. A continuous-treatment difference-in-difference approach reveals that homicide rates increased by about 30 to 60 percent in counties that more vigorously enforced the law.

Now while the conclusions of the paper are interesting in and of themselves I can't help but think that such results should give supporters of the current "War on Drugs" pause for thought. I mean what are the chances that the war on drugs has helped enforce a black market for drugs involving a recourse to violence to settle disputes and thus an increase in homicides? This is in addition to the violence inherent in the actions of authorities fighting the war on drugs.

The legacy of Frank Ramsey

A short video from the Royal Economic Society about the legacy of the mathematician Frank Ramsey. A man few have heard of but who has had a huge influence on economics.

Frank Ramsey was an economist who died in 1930 aged just 26. But his remarkable research lives on - in the 125th anniversary edition of The Economic Journal he has not one but two articles. Orazio Attanasio discusses the ongoing influence of his work.

Trump's 100-Day Plan

Donald Trump has a 100 day plan (pdf) which includes "Seven actions to protect American workers" (see below).

With regard to this plan The University of Chicago Booth School of Business Economic Experts Panel was asked the question,

Question A: If all of the “Seven actions to protect American workers” in President-elect Trump’s 100-day plan (see link) are enacted, it will more likely than not improve the economic prospects of middle-class Americans over the next decade.

The responses to the question were,

In addition the panel were asked,

Question B: If all of the “Seven actions to protect American workers” in President-elect Trump’s 100-day plan are enacted, it will more likely than not improve the economic prospects of low-skilled Americans over the next decade.

The responses to this question were,

So in answer to the first question zero percent of respondents "Strongly Agree" or "Agree" while in answer to the second question zero percent "Strongly Agree" and two percent "Agree".

Not exactly overwhelming support for the President-elect's plan. For the sake of middle-class and low-skilled Americans you have to hope the economists are wrong. It just doesn't look that likely to me. I don't see how anything good can come of the First, Second and Third of Trumps actions. As many people have already pointed out trade is good for American, restricting it will only hurt the very people Trump claims he wants to help. As action Four, what exactly is a foreign trading abuse? In the eye of the beholder? As to the Firth, Sixth and Seventh actions I suspect that the devil is in the detail.  The outcome will depend on exactly what policies he puts in place to achieve the end.

Why you don’t have to worry about the trade deficit

From the Marketplace website comes this audio in which Doug Irwin, Jeff Frankel and Margaret McMillan explain why you don't have worry about the trade deficit.

Just before the holidays, President-elect Donald Trump announced he would create something called the National Trade Council to promote U.S. manufacturing. Trump named Peter Navarro, an ardent China critic, to lead the office. Trump and Navarro also share another passion: an aversion to trade deficits. A trade deficit means that the U.S. imports more goods and services than it exports. We've run one every year since 1974. To most economists, that's not a big concern.

Nobel Prize-winning thoughts on incentives and the importance of contracts

On NPR's Morning Edition Steve Inskeep talked to Bengt Holmstrom of MIT, who was one of the winners of the 2016 Nobel Prize in economics.

Perhaps a fitting piece of research to end the year on

A new NBER working paper on Depression for Economists by Jonathan de Quidt and Johannes Haushofer, NBER Working Paper No. 22973, issued in December 2016.

No its not about depressed economists, although recent events are enough to make any economist - especially trade economists - depressed, but rather the economic causes and effects of depression.

Major depressive disorder (MDD) is one of the most prevalent mental illnesses worldwide. Existing evidence suggests that it has both economic causes and consequences, such as unemployment. However, depression has not received significant attention in the economics literature. In this paper, we present a simple model which predicts the core symptoms of depression from economic primitives, i.e. beliefs. Specifically, we show that when exogenous shocks cause an agent to have pessimistic beliefs about the returns to her effort, this agent will exhibit depressive symptoms such undereating or overeating, insomnia or hypersomnia, and a decrease in labor supply. When these effects are strong enough, they can generate a poverty trap. We present descriptive evidence that illustrates the predicted relationships.

But I can't help but think this is, to a degree at least, reinventing the wheel. I'll bet that psychologists have been looking at such things for years.

Why are there still so many jobs?

Here's a paradox you don't hear much about: despite a century of creating machines to do our work for us, the proportion of adults in the US with a job has consistently gone up for the past 125 years. Why hasn't human labor become redundant and our skills obsolete? In this talk about the future of work, economist David Autor addresses the question of why there are still so many jobs and comes up with a surprising, hopeful answer.

Thomas Sowell: so long, and thanks for all the fish

At age 86, Tom Sowell has decided he has better things to do with his time than write magazine columns and so he has retired as a regular columnist. His final column is here. Sowell writes,

Even the best things come to an end. After enjoying a quarter of a century of writing this column for Creators Syndicate, I have decided to stop. Age 86 is well past the usual retirement age, so the question is not why I am quitting, but why I kept at it so long.

It was very fulfilling to be able to share my thoughts on the events unfolding around us, and to receive feedback from readers across the country — even if it was impossible to answer them all.

Being old-fashioned, I liked to know what the facts were before writing. That required not only a lot of research, it also required keeping up with what was being said in the media.

During a stay in Yosemite National Park last May, taking photos with a couple of my buddies, there were four consecutive days without seeing a newspaper or a television news program — and it felt wonderful. With the political news being so awful this year, it felt especially wonderful.

Sowell notes the advances that have been made in terms of material welfare during his lifetime,

In material things, there has been almost unbelievable progress. Most Americans did not have refrigerators back in 1930, when I was born. Television was little more than an experiment, and such things as air-conditioning or air travel were only for the very rich.

My own family did not have electricity or hot running water, in my early childhood, which was not unusual for blacks in the South in those days.

It is hard to convey to today's generation the fear that the paralyzing disease of polio inspired, until vaccines put an abrupt end to its long reign of terror in the 1950s.

Most people living in officially defined poverty in the 21st century have things like cable television, microwave ovens and air-conditioning. Most Americans did not have such things, as late as the 1980s. People whom the intelligentsia continue to call the "have-nots" today have things that the "haves" did not have, just a generation ago.

The effects of economic growth can be dramatic and welcome, and those who are anti-growth, for whatever reason, should keep this in mind.

Realignment: The future of British politics

May be not just UK politics but New Zealand politics, at least to some degree, as well. The idea that in the future politics will not be divided by 'left vs right', but rather by 'nationalism vs liberalism' is one worth considering.

In this audio excerpt from a lunchtime lecture, Dr Steve Davies - Head of Education at the Institute of Economic Affairs - outlines his predictions for the realignment of the UK political parties over the next decade.

The lecture, which took place on September 27th 2016, foreshadowed the Conservative Prime Minister's party conference speech, which showed signs of Steve's prediction that the future of politics will not be divided by 'left vs right', but rather by 'nationalism vs liberalism'.

The fall and fall of Soviet agriculture or why small is sometimes beautiful

In chapter 4 of his recent book “Was Communism Doomed?: Human Nature, Psychology and the Communist Economy" psychologist Simon Kemp outlines the mostly sorry tale of Soviet agriculture. He sums the Soviet experience up by saying,

Overall, Soviet agriculture was not a great success story.

The question raised by this is, Why?

Kemp gives his answer is chapter 8 of his book on “Psychological Ownership”. Kemp notes that agriculture does not require a large organisation. Kemp writes,

Economies of scale are not always important in agriculture. When Stalin initiated the brutal collectivisation of Soviet agriculture, he appears to have done so with the genuine belief that in the long run the larger units would prove more productive. As we have seen, this increase in productivity did not happen [see chapter 4 of Kemp's book]. In part, this is because agriculture does not always benefit from concentrated large-scale production.

Owner-operator (family) farms are still in most countries, including New Zealand, the standard organisation for agricultural production. Why this is so is a question relevant for why collective farms failed. After all collective farms were designed more along large scale industry lines than small scale family lines.

The short economic answer to this question is, I would argue, given by Allen and Lueck (1998). They argue that farms operate in unique circumstances defined by nature, in particular seasonality. This is the main feature that distinguishes farm organisation from industrial organisation. For farmers a season is a distinct period of the year during which a given activity is optimally undertaken.

This is key to understanding the why the incentives generated within agriculture favour family farms. The two basic issues are opportunities for hired workers to shirk due to random production shocks from nature and the limits on the gains from specialisation and the timing problems caused by seasonality. The trade-off between effect work incentives and gains from specialisation help determine the costs and benefits of different farm organisational types.

The family farm model provides the best work incentives since the owner is the sole recipient of the benefits, but this model misses some benefits due to specialisation. This follows from the fact that the farmer must engage in numerous different tasks during each stage of production, and in addition, numerous production stages throughout the year.

On the other hand, large factory-style corporate farms gain from a specialised labour force and lower cost of capital, but suffer from bad worker incentives since hired workers, not being one of the owners, have an increased incentive to shirk.

To some degree all firms are governed by the trade-off between gains from specialisation and work incentives. For the case of farming it is the unique, large impact of nature that biases it towards family operations.

An obvious, but key, feature of agriculture is that it involves a living, growing product. In the case of livestock, for example, you have breeding, husbandry, feeding and slaughter. Such a cycle is largely governed by nature. In principle there is no reason that a different farmer could not own each stage. But timing difficulties between stages result in high costs of engaging in market transactions. Such timing issues are particularly severe in farming because the inventories of the intermediate goods cannot be held given the living nature of the product.

There are a number of factors, such as the number of crop cycles, the length of the production stages and the number of tasks within a stage, which also influence wage labour incentives. When cycles are few, stages are short, random shocks are large and the tasks are few, there is little to gain from specialisation and labour is especially costly to monitor. Thus family farms.

If these issues can be overcome, that is, if farmers can mitigate seasonality and random shocks to output, farm organisation starts to look much like that in the rest of the economy. Under such conditions farm organisation will gravitate towards factory process and develop the large-scale corporate forms of other sectors of the economy. So larger more industrial looking farms may work.

But right now, small it seems really is beautiful.

Ref.:

• Allen, Douglas W. and Dean Lueck (1998). "The Nature of the Farm", Journal of Law and Economics, 41: 343-86.

The enviromental costs of Christmas trees: real vs. artificial

I'm guessing this is the big question in environmental economics. Timothy Taylor takes a look at the issue at his Conversable Economist blog. He writes,

One artificial tree used for one year has greater environmental impact than one natural tree. However, an artificial tree can also be re-used over a number of years. Thus, there is some crossover point, if the artificial tree is used for long enough, that its environmental effect is less than an annual series of trees. For example, the ellipsos study finds that an artificial tree would need to be used for 20 years before its greenhouse gas effects would be less than those of an annual series of natural trees. The PE Americas study offers a wide range of scenarios, and summarizes, but here is the situation "for the base case when individual car transport distance for tree purchase is 2.5 miles each way. Because the natural tree provides an environmental benefit in terms of Global Warming Potential when landfilled, and Eutrophication Potential when composted or incinerated, there is no number of years one can keep an artificial tree in order to match the natural tree impacts in these cases. ... For all other scenarios, the artificial tree has less impact provided it is kept and reused for a minimum between 2 and 9 years, depending upon the environmental indicator chosen."

But a full analysis of the issue needs to look at effects across all the full life-cycle of the tree, whether natural or artificial. And things get complicated right about here.

Under what conditions is the tree manufactured or cultivated, with what use of energy, fertilizer, and logging methods? By what combination of transportation mechanisms is the finished tree moved to the home? A substantial share of artificial trees are manufactured in China and then shipped to North America. What are the different issues in use of the tree, including use of water and emissions of fumes? What is the end-of-life for the tree? For example, the carbon in a natural tree will be stored for some decades if the tree goes into a landfill, but not if if is composted or incinerated.

In short, its difficult being green!

Trump’s trade adviser is a terrible filmmaker

Or so says Scott Meslow at the Politico Magazine. Yes Trump's head of the new White House National Trade Council Peter Navarro has made a film, called "Death by China" (what else?).

No I didn't know either.

The film is apparently based on Navarro's book also with the title "Death by China: Confronting the Dragon - A Global Call to Action".

Perhaps the takeaway from Meslow's review comes early in the article,

As a film critic, I found it an appalling cinematic experience. But it’s a brutally effective, if unsubtle, 79 minutes of propaganda -- which might explain why Trump liked it so much.

Meslow continues,

Within its first five minutes, Death By China lays out the stakes: 57,000 American factories closed, 25 million Americans can’t find "a decent job," and the United States owes $3 trillion to China. The roots of our alleged economic woes, Navarro argues, can be traced back to 2001, when the United States enthusiastically endorsed Beijing’s entry into the World Trade Organization.

Now I have no idea whether this is good film making or not but it sounds like crap economics. As any number of economists have pointed out American's economic woes are not due to trade they have more to do with things like changes in technology.

This bit is interesting,

Navarro attempts to prove this point with an array of cherry-picked talking heads, a series of unenlightening man-on-the-street interviews, and — most strikingly — some computer-animated sequences designed to dramatize Navarro’s argument. In one, a knife bearing the label "Made in China" is plunged into the center of the United States, covering the lower half of the country in a sea of blood. In another, missiles of "currency manipulation" and "illegal export subsidies" are fired from cannons and dropped from planes, leaving American cities in rubble. Navarro structures his film around China’s "Weapons of Job Destruction." Everything is cast in the violent, overheated rhetoric of a war with China — a war Navarro argues we’re losing.

These are all standard tactics in the agitprop documentary playbook: Present one side of a political argument with a dizzying array of semi-credentialed talking heads, leaving dissenting voices on the floor of the editing bay. When your logic is lacking, appeal to emotion instead, depicting derelict factories or unhappy-looking American workers. And, because audiences have been conditioned to expect political documentaries to entertain as well as inform, leaven all the messaging with simplistic cartoons, jaunty music and the occasional joke.

A little later Meslow writes,

Navarro himself appears only briefly, laying out what he views as a practical guide for what the average American can do to combat this threat. "Every time a consumer walks into a Walmart, the first thing they have to do is be aware enough to look for the label. Then, when they pick up that good and it says, 'Made in China,' I want them to think, 'Hmm. It might either break down, or it could kill me, number one. This thing, if I buy it, might cost me, or someone in my family or my friends, their job. Lastly, 'Hey — if I buy this, that money is gonna go over to help finance what is essentially one of the most rapid military build-ups of a totalitarian regime since… when? The '30s. I mean, make no mistake about that."

Again crap economics. So you have been warned. There is more in Meslow's review which you can read for yourself, if you really want to.

Latest Blogwatch column

My Blogwatch column from the latest issue (Issue 57, Decmeber 2016) of the NZAE magazine Asymmetric Information.

A question to end the year with.

A question I have absolutely no idea of the answer to. This comes from Greg Mankiw's blog.

A professor emails me:

My students have the pleasure to use your economics textbook. I have one question: where the symbol "Y" for GDP comes from? All the others, we could detect, such as NX , NCO, etc. My students are curious, and I could not give them a good answer.

My unsatisfying response:

To be honest, I don't know. It is an old convention to use Y to denote real GDP, and I am just following that. But I don't know where or why the convention began.

So anyone who knows the answer let the rest of us in on the secret.

Is the concept of inequality the best way of thinking about our economic problems?

This question is asked by Tyler Cowen in a chapter in a new book The US Labor Market: Questions and Challenges for Public Policy, edited by Michael Strain, which is freely available online from the American Enterprise Institute. The issues raised in the book are relevant to more countries than just the US.

Cowen opens by making an interesting comparison,

I find it useful to compare the productivity slowdown and the increase in income inequality. It seems the productivity slowdown has been of much greater consequence for human welfare, including for lower-income groups. For instance, if American productivity growth had not slowed after 1973, today the median household would earn $30,000 more each year. Alternatively, if income inequality had not accelerated after 1973, today the median household would earn an extra $9,000 more. That is less than one-third of the loss from the productivity slowdown.

One question I would ask is why income inequality and not consumption inequality? Consumption seems more relevant to people's well being.

Cowen goes on to say,

I wish to suggest a simple hypothesis: income inequality (or for that matter wealth inequality) is not the real problem. Rather, the problem is that many Americans are not seeing their lives improve as much as we would like. This is a problem whether or not the top 1 percent is seeing big gains. The problem has to do with the low level of earnings or health or well-being or opportunity for some individuals, not the disparity per se. That is a simple point, but it is difficult to communicate in today’s discourse on these issues, and it turns out to have significant concrete implications for how we should seek remedies.

Later Cowen notes,

Practically speaking, that conceptual mistake misdirects the focus to making people or their outcomes more alike, rather than elevating opportunity for those at the bottom and also in the middle. In fact, opening up enterprise and opportunity for large numbers of people often increases measured income inequality, even when it makes life better for most people, including those at the bottom. Let’s say for instance that global markets were opened up to additional trade, or occupational licensure were relaxed and new commercial opportunities were created. Some people could use these new opportunities to earn much more than others, perhaps millions or even billions more. Probably most people would be better off, but since measured inequality might well rise, analysts who focus on inequality are likely to overlook or undervalue these potential remedies. Keep in mind that the larger a market economy, the larger a country, and the higher the level of aggregate wealth, the higher the level of inequality is likely to be for purely natural reasons; if everything and everyone is clustered at or near zero, inequality just can’t get very high.

Relevant to my question about consumption inequality Cowen points out that,

If we look at the inequality of consumption, rather than income, and count government benefits as a relevant part of income, it turns out actual inequality is considerably lower than many popular or even academic discussions might indicate.

If global inequality is part of the inequality we are worried about, then we should worry less.

Another striking and under-discussed feature of the inequality debates is that global income inequality has been going down for over 20 years. The very poorest people in the world are now much wealthier than before, and significant portions of China, India, Africa, and other developing parts of the world now belong to a growing global middle class. Several billion people have been lifted out of extreme poverty into better circumstances, and over time we can expect the emerging economies to grow at faster rates than the wealthy ones, which will limit inequality all the more. At the same time, scourges such as malaria, polio, and other diseases have for the most part lost ground, most of all in poorer countries. The last 20 to 30 years are probably the most egalitarian time, in terms of income, the world has ever seen. So to the extent income equality is important, we should be celebrating like never before. More specifically, every discussion of income inequality, if it is to be accurate and scientific, should open by framing its worries in the context of a time that has made unparalleled strides toward limiting income inequality overall. Of course for political reasons that is not a popular presentation, but it is an accurate one.

Cowen then looks at key drivers of the increase in inequality. He shows that it makes sense to disaggregate "the inequality problem," as a lot of it isn’t a problem at all, or again it is a problem of some kind other than an inequality problem.

Take as an example one issue you see much discussed which is skills-biased technical change. And there could be a problem here. It is bad that some individuals do not work well with information technology, which is becoming so much more important to most people's work, and this does harm their wages and future opportunities. But the problem part of that equation is not an inequality problem; it is an education problem and a retraining problem. Cowen also discusses issues to do with global markets and rent-seeking.

Cowen sums up this section by saying,

In sum, America [and likely New Zealand] has serious problems of inadequate education, lack of retraining, and some quite bad policies in particular areas. In most cases that disaggregation is a better way of understanding what is going on rather than emphasizing inequality at the macro-economic level. The gap between rich and poor is neither the major driver of the actual problems nor the most important symptom of the most significant problems. Lack of opportunity in absolute terms is the main symptomatic problem.

In the last section of his chapter Cowen looks at the question, How Should Policy Respond? He briefly discusses five areas, Health Care, Occupational Licensing, Education Cheaper Rent and Lower Home Prices, Discontinue or Ameliorate the War on Drugs and End Crony Capitalism.

With regard to house prices and rents, an issue New Zealanders can relate to, Cowen writes,

These days it is harder for Americans to migrate successfully to some of the most economically dynamic American cities, in large part because of high rents and restrictive building codes, stemming from the NIMBY mentality. For a low-skilled worker, the higher wages in New York or San Francisco do not always make up for the much higher rental costs. In the 1950s, a typical apartment in New York City rented for about $60 a month, or adjusting for inflation about $530 a month; today that is closer to the cost of a parking space in Manhattan. If it were cheaper to move into major American cities, more Americans would have an easier path toward a higher salary and a brighter future. Economists Chang-Tai Hsieh and Enrico Moretti have argued that the American economy could become much richer if more workers could move from the low-productivity cities to the high-productivity cities; that would increase income mobility, too. Hsieh and Moretti estimate that lower rents, through building deregulation, could increase American GDP by almost 10 percent. A lot of those gains would go to Americans who cannot currently afford to move to San Francisco and other high-productivity cities.

The size of the effect on GDP of having people move from low-productivity areas to high-productivity areas did come as a surprise to me.

Cowen ends by saying that the United States has some very real and obvious problems, many of which impact the low- and middle-income earners of America in particular, but the concept of inequality is not the best conceptual starting point for finding or evaluating potential solutions.

There are many other interesting points made in Cowen's chapter and it is well worth the read, no matter what your current view of inequality.

The book containing Cowen's chapter also has many other useful chapters on a variety of issues to do with labour markets. Anyone interested in such markets should give it a read.