Disaster economics

The UK is rightly transfixed with the unfolding story of the catastrophic fire at Grenfell Tower in Kensington, London, which at the time of writing had led to 30 confirmed deaths.  This follows – as the Queen pointed out in her birthday message – terrorist attacks on Westminster and London Bridges, and in Manchester.

‘Disaster economics’ seems like an inappropriately technocratic topic at a time like this.  But disasters often have their root in the inherent challenges of disaster economics [or rather disaster economics and statistics].  And failing to rise to them can lead to more disasters than is necessary.

One of the main challenges is figuring out the frequency of disaster-events of different severity, when such things are relatively rare.  In small samples of a few years, you will have many observations of rainfall around the most common quantity, but you will have very few – perhaps even no – occurrences of huge floods.  Estimating the probability of a huge flood or a catastrophic drought is therefore a more hazardous business than guessing the probabilities of milder events.

A key part of this problem is figuring out not just the frequency of very bad things, but how that changes as policy changes.  How high would a sea wall have to be to reduce floods of a seaside town to 1 year in an 100?  How much resources would need to be spent on potential terrorist supervision to reduce the frequency of London Bridge style attacks to one every ten years?

A focus of the literature on policymaking when the chance of very bad things happening is poorly estimated is the idea of ‘robustness’.  I came across late applications by Tom Sargent and others of this idea to monetary policymaking, but the idea was stolen from engineering and control work done in the 1960s and 1970s.  The idea here is to set up the policy problem so that one chooses a policy that does best in the event that things turn out as worse as could be compared to the benchmark understanding of the policy problem.  To translate:  imagine we start out with a guess at the height needed to build a sea wall to get the frequency of a flood down to 100 years equal to 3 metres.  We then say – what’s the worst this height could actually be without it being apparent in the data we have?  Suppose the answer to that is 5m.  We then fund a sea wall to 5m.

Two difficulties follow from this.  The first is that it is not often easy to put a boundary on the ‘worst case scenario’.  If our time series on floods is short, or patchy, or not that accurate, we might not have a good idea where that boundary lies.

A second difficulty arises from the fact that scarce public funds have to try to deal pre-emptively with multiple sets of disasters of unknown probability.  If the only thing we had to spend money on was terrorist attacks, we could simply define the worse case scenario of the amount needed to get attacks down to 1 in 10 years to be the total feasible tax take.

But in reality governments have to deal with the risk of tower block fires, hospital epidemics, terrorist attacks, wars, floods, road pile-ups, corruption, cyber attacks, financial crises, climate change, prison riots, and much more.

An overly cautious approach to avoiding one kind of catastrophe deprives funds available to prevent others, and will lead to more catastrophes of those kind.

The problem of disaster policymaking gets harder when we place it in the context of a real life democracy with real voters.   Several issues arise.

First is gaining acceptance that – particularly given the multi-dimensional and competing nature of disasters that we face – it is impossible to eliminate risk entirely.

A second problem that derives from this is the need for ‘something to be done’ in response to a disaster.  I say this derives from the first difficulty, because even with optimal disaster policy, there are going to be disasters, so it may be that nothing needs to be done at all.  I make this point not to pretend that this is the position we are in at the moment.   There are plenty of persuasive arguments emerging out of the coverage of the Grenfell Tower fire and recent terrorist attacks that might lead us to think that things have to be done.

Third, given the news cycle, short memories, and the limited horizons of politicians in a competitive democracy, there is pressure for something to be done quickly enough for the incumbents to salvage credit for responding appropriately and quickly to the disaster.  A better something – that did not drain money from effective disaster prevention elsewhere – that emerged out of a time-consuming investigation, can’t always be waited for.

Fourth, policy is made in the prism of voters psychological responses to different kinds of risk.  These responses are not always rational, as research in behavioural economics and related fields has shown.

A famous recent example is the response of US citizens to the 2001 terrorist attacks involving hijacking planes to be used as bombs.  The thought of being caught up in such a horrible event, however, unlikely, was sufficient to cause so many people to use road transport instead, that far more were killed on the roads, due to mundane, but less awful to contemplate, risks of crashes [than would have been given a plausible estimate of the chance of repeat plane hijacks].

Making this point is rather distasteful given what Grenfell Tower residents went through, and how that disaster might well have been averted with safer construction, or better evacuation advice.  I’m hoping that you take me to mean not that these reactions in the analysis so far are misplaced, just that the good that comes out of this tragedy is not confined to fire safety, but involves an appreciation of disaster economics and policy as a whole.

Another feature of the disaster policy problem is that it can be easier to muster political support and mission to respond to events that are fresh in the mind, rather than to risks that appear, at least perhaps to some local constituency, to be latent, that is risks that have a certain probability of happening but have not yet happened.  This is perhaps what dogs climate change mitigation, where the connection between our individual choices and the problem is hard to detect.

Climate change’s most dramatic effects to date seem to be far from the UK, at the polls, or in glacial areas, or in low-lying, poorer economies that most of us have not visited.   Or, like climate change, the connection between the policy choice and the event is far removed in time [in this case, discussion revolves around temperature changes over 100 years].

This is not to push back against the likely response to the Grenfell Tower fire.  Far from it.  The point would be that winding back time to before the fire policy choices up to that point might later be seen to have been tainted by the issue of failing to respond appropriately to risks that were at that time latent, yet to crystallize.

A final aspect of the disaster policy problem relates to general difficulties that people, the media and policymakers tend to have in dealing with statistics and policy analysis.

These difficulties surface all the time, and cropped up in the much more mundane and less tragic context of the debate around Brexit.

For example:  framing the analysis of the cost of Brexit as the assertion that people will, with certainty, be x amount poorer [which led to the counter under the banner of ‘project fear’];  the deduction by Brexiteers that the counterfactual analysis HMT and others did could be dismissed as a simple ‘forecast’;  the observation by Brexiteers that pre-referendum forecasts of the UK turned out to be ‘wrong’.  And many more.

There are pockets of wisdom in public policy thinking that relate to this disaster economics issue.  For example, in health, there is the ‘qualy’, a way of figuring out how many units of good life a given amount of spending on different treatments confers, and thus allocating money between them to preserve the maximum amount of life for a £.  And in defence analysis there was a tradition of the exact opposite:  working out how much it costs to kill the enemy using different weapons, and therefore optimising the number killed for a £ of expenditure.

But this kind of analysis tends to be kept under wraps for fear of causing revulsion and a collapse in support for state activities.

Reading this draft back, there is a risk that some are going to take it as a tactless and dry response to the sickening events of the last few months.

But the intention is to point out that there is a need not just to get the Grenfell Tower response right, but to take a look at the government’s approach to disaster economics as a whole.  Is the tax take reserved for such things large enough?  And is it divided up in the right way?  Are all regulations – not just fire regulations – striking the right balance between liberty and disaster prevention?  And not just one determined by the kind of dysfunctions described above?

 

 

There is a capitalist logic to requisitioning empty property near a disaster

‘Requisition houses?  Communism!’

That is the impulse of some to respond to Jeremy Corbyn’s offhand suggestion that empty properties of ‘the rich’ be requisitioned for use rehousing those made homeless by disasters like the fire at Grenfell Tower.

But there is a perfectly sound logic to it consistent with the way governments treat all our property rights.

For starters, as Jonathan Portes notes in his book ‘Capitalism’, property rights are not absolute.  Planning regulations restrict what we can do with land.  Driving and parking regulations restrict what we can do with our cars.

These restrictions are in the name of a collective, greater good [less ugly towns and no chaos on the roads].  So inviolable rights to dispose of property as we like in all circumstances are rare – because to grant them would ultimately cause harm elsewhere.

So too, perhaps, with the right to have an empty flat located just round the corner from a disaster zone that has made many homeless.

In this spirit, one could imagine temporary requisitioning to be like a congestion charge for cars.  Housing contiguous to the disaster site is the scarce resource, like roads through a busy city.  The equivalent of ‘rush hour’ on the roads is the time immediately after the disaster when the need for accommodation nearby is extreme, and the invoilable right to hold empty flats causing greatest harm.

Relatedly, one could envisage empty-property taxes that rose in the immediate area around a disaster zone like Grenfell Tower, which would either help fund temporary rehousing, or could be discharged in kind by the owners handing over the keys for a while.

Having such rules in place ex ante would encourage better – more socially desirable – use of scarce land.

Brief history of time spent inflation targeting

This pulls together tweets that I sent on the history of inflation targeting, having read this article in the New York Times.  Warning:  this is a highly subjective, UK-centric and stream-of-consciousness, and still very brief ‘history’.

A key thing to recall about inflation targeting was that it was about targeting the only thing that central banks had not yet tried targeting and failed.  It came after broken promises to target the relative price of money and gold;  the exchange rate;  and the growth rate of money aggregates;  even after periods when, confused about the difference between an instrument and a target, central banks ‘targeted’ the interest rate.

That statement leaves out nominal GDP targeting.  Despite elegant works by Meade and others, this never seemed to be a runner at the time.

Another feature of inflation targeting, remembering the haste with which it was embarked on, particularly in the UK, was ‘we have to target something, inflation is something, so we have to target inflation’.

At the outset, what seemed scary about doing it was the notion that you can just promise to target the thing that policy really cares about, rather than specifying a value for an intermediate target like money or the exchange rate.

One way of interpreting this new ‘promise’ was:  ‘we won’t tie our hands, because we’ve tried that before, and found that we always have to untie them again;  so instead we will just do it.’  That borrows from Bennet McCallum’s use of the Nike advertising campaign back in the day:  instead of making a commitment, just do good policy.

Naturally, there were sceptics.  Why would markets believe a promise just to get inflation down, when promises to keep intermediate targets had been broken?  The answer was that the lack of resolve that had led to those past failures had their ultimate cause in the variable link between intermediate targets and the ultimate goal, meaning that there were times when, with respect to the ultimate goal, the intermediate target would be better broken.  There was no better demonstration of that than the UK’s exit from the ERM in 1992 which precipitated inflation targeting.

These flaws with intermediate targeting were known at the time, but the dominant view was that the credibility benefits of sticking to a verifiable intermediate target trumped the credibility costs of promising to do something that was occasionally harmful.

I wonder too if part of the reason for pre-inflation targeting strategies was the lack of understanding about what caused inflation.  Money growth and exchanges rates were a monetary policy phenomenon, but inflation was to do with costs, trade unions, oil prices, and lots of stuff that wasn’t monetary policy.  So how could a promise be framed in terms of a variable so little under central bank control?

Subsequently, inflation targeting central bankers enjoying the good times of macro stability would crow about the optimality of their regime, but the benefits of final goal targeting were not at all universally subscribed to at the outset.

Another aspect of the history not mentioned in that NYT piece is the shift from lexical mandates that stressed the primacy of the inflation goal, using ‘subject to’ texts to mention other goals associated with the real economy, towards mandates that emphasised the trade-offs that existed between inflation and other goals.

In my opinion the ‘subject to’ language was always nonsense.  In responding to shocks that did not generate a trade-off, the ‘subject to’ clause was redundant.  Stabilising inflation would stabilise other goals automatically.  In circumstances when there was a trade-off, the ‘subject to’ clause was simply wrong, directing policy, essentially, to ignore the trade-off to the detriment of the economy.

But ‘subject to’ probably seemed necessary at the outset given the worries about our monetary policy misbehaviour in the past, the sense that simply promising to hit your final goal sounded a bit like magic, and the need to sound like you had engaged conservative central bankers, and not lily-livered ones worried about unemployment.  Who, in the aftermath of our ejection from the ERM, could imagine a Chancellor declaring that ‘we will henceforth target a weighted sum of the variance of inflation and resource utilisation’?  Though that is precisely where the logic of giving up on intermediate targets leads, ultimately.

Central bankers did slowly become bolder and less confusing about the trade-off language.  Two reasons:  1) They were emboldened by the apparent taming of inflation, and perhaps felt that there was a credibility dividend that could be spent.  2) There was a torrent of applied monetary policy work on evaluating regimes articulating why even in the simplest models dual goals were warranted [culminating in Woodford’s Interest and Prices].

But initially – and still occasionally – multiple goal pursuit was hidden in tricksy language about there being only one target, just variations in the horizon at which it was optimal to meet it.

The most recent chapter in inflation targeting history has been the great financial crisis, which has had many consequences.

The first is that it retroactively boosted a line of thought that held that inflation targeting had led to a neglect of asset prices, and this had brought about financial instability.  The second is that it thrust interest rates at the zero bound, essentially handing back to fiscal authorities the job of hitting the inflation target.  The third was a bursting of the bubble of thought that had clearly greatly exaggerated the contribution of inflation targeting and central bank independence to macroeconomic stability.  A fourth is the unprecedented level of political controversy generated by persistently low interest rates, and quantitative easing, both of which are resented in some quarters as conspiracies to aid the rich, borrowers, or both.

The criticism that inflation targeting ignored asset prices – the BIS were the most persistent advocates of this – was always wrong.  It was sometimes based on a misunderstanding of the capability and inclination of inflation targeters to respond to multiple goals, to things not defined in their headline quantified index.  It also exaggerated the power of monetary policy to do anything about what, in essence, was a ‘real’ and not a ‘monetary policy’ phenomenon, whose root cause lay in inadequate regulation, not loose monetary policy.  This critique therefore misconstrued symptoms as causes.  The focus on fine tuning the details of inflation targeting practice, and lack of focus on regulation were both caused by a failure to see the risks building up in the system.

The accidental return of the job of hitting the inflation target to the fiscal authorities [who had delegated it in the first place] was unfortunate, and came at a time when those authorities faced their own credibility issues attempting it and when fiscal policy was so politicised that fiscal branding took precedence over confronting the technical problem of assisting monetary policy.

A highlight of the bubble bursting on the contribution of monetary policy frameworks to stability was of course the UK Bank of England conference on the ‘Great Stability’, which took place in September 2007, and was punctuated by the senior attendees leaving to follow up the breaking news they had seen on their Blackberries.

This broad brush history misses out some of the details that transfixed central bank economists.  The developments in communication towards increased, but still incomplete transparency.  The use and abuse of measures of ‘core inflation’.  Discussion of point versus range targets;  of price level versus inflation targets.  Developments in the method of estimating price increases and biases that remained.  The spread of DSGE models in central banks.  The curious phenomenon of the ECB and Fed inflation targeting quietly while saying that they weren’t.

It also begs questions about the future:  how inflation targeting should be reformed to better weather future macroeconomic storms.  Much ink has been spilled on that, so I won’t repeat here.

 

 

 

More on Bitcoin and the conditions for a takeover of fiat money

Something I did not stress about the likelihood of a crypto-currency takeover in my Alphaville post that I should have done, and which cropped up in a Twitter exchange with Joe Weisenthal, relates to the fact that in theory, and even in history, the unit of account and medium of exchange can differ/have differed.

So, here, the question I started with was the low likelihood that Bitcoin or similar might take over soon, given the small value of currency in circulation relative to the value of paper US dollars. [100bn compared to 1.4trn].

In this 2000 paper by Woodford he explains how the central bank could retain control of monetary policy, even if people stop using central bank money as a medium of exchange or store of value, simply by central bank money remaining the unit of account.

Analogy:  if central banks were given the power to define the metre in a textile based economy, then even without being the monopoly supplier of money they could pump up the business cycle by lengthening the metre.  Textile suppliers would have temporarily fixed prices per metre of cloth.  [Which amount to amounts of goods they would accept directly, or indirectly, in exchange for a metre of cloth].

The lengthening of the metre would pump up demand for cloth [which was now cheaper in terms of goods per old metre!  Still with this?] in the same way that an increase in the money supply reduces the real price of fix-price goods in a conventional model economy.  We don’t yet broaden out central bank empires to defining the metre, but we could contemplate it one day:  we’d have to include the kilo, litre, and presumably also allow central banks to define the time unit so that the otherwise weightless/dimensionless service economy could be controlled.

In Chile, policy actively sought to disentangle the unit of account from the medium of exchange, with the creation of the Unidad de Fomento.

This was to try to avoid the costs of endemic inflation in terms of the Chilean Peso.  Exchange rates between UDFs [which had no material form – you could not buy UDFs] and Pesos were published daily in the newspapers, which were simply ways of presenting changes in the CPI.  [See Shiller(2002) and also this nice blog post by JP Konig].

A similar indexed unit of account concept, the ‘Unidad Reajustable’ exists in Uraguay.  And there are other examples too.

In the case of crypto-currencies, we are contemplating a switch that from the perspective of the authorities is involuntary, not voluntary like in Chile.  But the Chilean experiment shows that the unit of account/medium of exchange separation possible in theory is also possible in practice.  If central authorities can will this separation, perhaps markets can coordinate on it too.

That was a long-winded and somewhat contorted way of explaining that it’s at least possible that the take-up of Bitcoin and similar as a medium of exchange mis-states the probability that it becomes a unit of account.

Control of monetary policy may escape central banks even if Bitcoin never takes over as a medium of exchange;  similarly, if central banks can retain rights to define the unit of account, it might be relaxed – a small seigniorage loss aside – about losing the role of monopoly issuer of the currency.

 

Alphaville post on implications of a Bitcoin takeover, or of central banks trying to head one off

In keeping with the modern custom of bombarding readers with a product using every conceivable media possible, multiple times, here is a link to my post on this.

 

There is a magic money tree

Well, not really:  that was click-bait.   But bear with me.

The unprecedented increase in the size of central bank balance sheets since before the great financial crisis is unlikely to be entirely reversed.  And that means a one-off bit of magic money tree-growth.

Equilibrium real interest rates look like being much lower for the foreseeable future.  That means that the resting point for central bank interest rates consistent with hitting the inflation target will be much lower.  [Think of that resting point as the inflation target plus the real rate, roughly].  Perhaps around 3 per cent, rather than say 6% before the crisis.  That will raise the demand for non-interest bearing paper money.  And as a consequence central banks will hold larger balances of government securities to ‘back’ it.

Added to that, the UK/US/Eurozone central banks are paying interest on reserves.  This increases the demand for those reserves, swelling long run central bank balance sheets, and perpetual holdings of government securities, even further.  Another bit of magic money from the tree.

One hypothesis about low real interest rates is that it is about weak demand, and expectations of that persisting long into the future.  If that were true, and central banks and governments coordinated successfully to combat it, the magic money growth for public finances, such as it was, would go into reverse.  Indeed, the fiscal masters of the central bank ought not to be rubbing their hands at their good fortune, but hoping the magic reverses.  Otherwise central bank rates will be hovering perilously close to the zero bound, unable to do much about the next recession that comes our way.

Needless to say, all this is very different from embracing the idea that monetary policy should be subordinated to fiscal goals.  The ebb and flow of this minor magic money growth has taken place entirely as a consequence of central bank policy being focused on monetary policy goals.

Even when one contemplates helicopter money as a device to escape the zero bound to interest rates and demand-side secular stagnation, the goal is to subordinate this fiscal magic to monetary policy goals, not vice versa, and proponents like Simon Wren Lewis have, as I read him, been careful to stipulate that this should be the case.

Social care funding and inheritance tax

The General Election has focused attention on how to fund ‘social care’.  This is money spent looking after people at the end of their lives when they are not able to look after themselves.

The Conservative Party manifesto included the proposal to charge social care costs against the value of the estate that the old person’s heirs would otherwise inherit, down to a limit of £100k.  At the time of writing, there seems to be talk of there being a review of whether the amount that would be charged in this way is capped.

One reaction to the original proposal was ‘why should the state fund the social care of the rich [ie those who would otherwise die with a large estate]?’

During the period when we are able enough to work and plan for ourselves, we all face, looking ahead, uncertainty about how much we need to put aside for our own care and pleasure at the end of life.  That uncertainty comprises not knowing how long we are going to live – in particular how long we will be alive when we are not able or inclined to work – and how much money it will cost to sustain us during that period.

From the perspective of this end of life lottery, the lucky ones are those who die suddenly at the onset of retirement.  The unlucky live long into old age with considerable care needs.  This is why popular discourse dubbed the Conservative proposal a ‘dementia tax’.  One of the losers in the end of life lottery is someone who takes a long time to die, but loses their mental faculties and has to pay others to look after them.  One of the winners, as Chris Giles noted, is the person who dies of a heart attack promptly, after finishing work, caused by a hedonistic life of excessive pizza eating.

Seen this way, the risk of ill health in old age magnifies the impact of the risk posed by longevity uncertainty [a point emphasied by Dan Davies today on Twitter], from the perspective of the young worker-investor-planner.

Just as with plain vanilla longevity uncertainty, one way to mitigate it is to marry.  You commit to leaving your riches to your partner in the event that you are lucky enough to die first.  And if you are unlucky and live long, and/or need caring for, you exact the terms of the promise made under ’til death do us part’ to get you through your daily needs.

Even better, you pool your resources with a larger group in a market economy and buy an insurance product.

The case for state intervention at this point rests, as always, on a few arguments.

First, market failure.  You know more about your lifestyle, life expectancy, and genetic predispositions to suffer dementia or similar than the insurer [asymmetric information];  and the insurer suspects that once you have signed up for the longevity/social care insurance, you will live solely on quinoa [moral hazard]. This drives up the price or even destroys the market altogether.

Second, we may be predisposed to under-insure against risks that seem remote;  and under-save for the future anyway.

Third, an additional risk arises because of aggregate cohort risk.  The dramatic rise in life expectancy in western countries made many defined benefit pensions worth a lot more than was predicted when they were first offered.  The only way to insure against this risk is for the state to step in and smooth the costs over generations.  Social care costs are, I suspect, probably subject to the same kind of aggregate cohort risks.   When we all live longer than we thought, because we gave up cigarettes, but contract dementia instead, there is not enough money from the estates of the lucky dead ones to sustain us.

Looked at like this, paying for the social care of the elderly rich is not an injustice, it’s the state paying out on a just and efficient scheme for insuring against the costs of old age.  Note the use of the word efficient there.  We can get to this conclusion without any politics about what the old do and do not deserve.

Shouldn’t inheritance tax be adjusted accordingly, then, if the Conservatives were to back-track on the proposal to charge social care costs against estates, either wholly or partially?  More generally, shouldn’t inheritance tax be how this insurance is financed?

No, inheritance tax is there to mitigate against a different problem:  weighing up the competing considerations of how inherited wealth distorts the allocation of talent and incentives in the next generation and opposing political considerations relating to equality and liberty.

There is no more reason to finance social care out of inheritance tax than any other tax.  If inheritance tax is at the right level, having balanced the factors mentioned above, then it should bear no more of the burden of this increase in state provision than other taxes.  If it is too low, then it should be increased [and other taxes adjusted accordingly] regardless of what will be charged for social care against estates.

Another response to the policy on social care was ‘three cheers:  this is progressive!’.

The progressivity of the overall tax system is another matter that has to weigh political ideas about redistribution [how much equality do we like?], liberty [how much should the state be allowed to determine how much I have] and efficiency [what effect does pursuing the other two objectives have on the size of the pie and therefore the tax base?].

If the tax system was not sufficiently progressive for you before hand, then you should not cheer something that puts all the burden of making it more so on impairing the state’s intervention in longevity and social care risk, but instead call for tax changes across the board.

[One reader, Tony Holmes, answered the question posed earlier ‘Why should the state fund the social care of the rich?’ more succinctly than did this post, by posing another question:  ‘why should the state fund the healthcare of the rich?’  And we could substitute in any state policy that is directed at risk:  fire fighting, flood defence, etc.]

Does it ‘cost’ anything to nationalise a company?

Labour’s manifesto reveals that they intend to re-nationalise water companies if they are elected.  How much would this ‘cost’? was many people’s response.  For example, the BBC’s Laura Kuenssberg noted that a ‘costing’ of this policy was omitted from the manifesto.

The nationalisation would happen by the government selling debt to the market, and using the money raised to buy shares [presumably at least a majority, perhaps all] in the company.   There are questions about which internationally acredited accounting conventions this borrowing would be included under, and which it would not.  But this issue is not very interesting [to me, anyway].

The interesting thing is to think through the economic consequences and ‘costs’ of the policy.

Supposing that the fair price for the assets were knowable, and that the cost of doing the transaction was small, in principle the company could be sold again at some point in the future, leaving public finances back to square one.  The extra liability of the government is matched for a while by an asset;  then the transaction is reversed.  The ‘ifs’ there are significant.

The next question is what happens to the revenues that ownership of the firm would, under private management, generate.  If the company is managed in a commercial way, with appropriate amounts of revenues ploughed back into the company, there need be no ‘cost’ from this source.  Once again that is a substantial ‘if’.

Taking ownership may inject risk into public finances, if the public sector does not already implicitly stand entirely behind the water companies.  At some times, when market dysfunction means that risk is not priced properly, taking on risk like this may be a good thing;  it’s similar to the Bank of England buying private sector assets with QE.  At other times, the drain of uncertainty on the public finances will be one that comes without a compensating social benefit.

A stark example of how to maximise the ‘cost’ of nationalisation is the oil industry of Venezuela, where its output was sold at subsidised or sometimes zero cost, and many jobs treated as posts of patronage, experts let go, and capital expenditure cut.  This is not a serious comparison, but it does make a point.  There will be political pressure on government owners NOT to manage the assets in a commercial way and to use it as a means of redistribution.  As Mike Bird of the WSJ pointed out on Twitter, one has to ask: why nationalise?  It’s possible, but unlikely, that the reason is to run it on the same commercial terms as before.

It’s worth pointing out that interfering in commerce like this could make things better, not worse.  If ownership proves simpler than regulation, and rent extraction is reduced, there might be benefits in terms of lower costs that generate offsetting revenues in other parts of the tax base (that use water as an input).

Buying a company like this does not ‘cost’ in the same way that it costs me to borrow to buy a house.  There, I am borrowing to consume the housing services that the house affords me.  A better analogy is borrowing to buy a house to let it out.  This would consume a lot of my personal fiscal space.  But only because the credit risk associated with the capital value of the house, and my rental management skills are large relative to the other income streams that I have available to me to make good the interest on the loan and repay the principle.  For the same reason, the government would find it tricky to raise the money to buy Microsoft.

Continuing the analogy, the credit history of the government is pretty good, bar a period after WW2 when there was a hefty amount of inflation and what economists came to term ‘financial repression’ [taking our savings and charging less than market rates for it].  But the record of managing public companies is somewhat less compelling;  markets may therefore conclude that public ownership is a drain on public funds if that history was to repeat itself.

Some on Twitter commented that public ownership might make it easier to realise environmental benefits.  If that can be done without affecting the revenue streams, then this also does not need to be seen as a ‘cost’.  However, if this means placing further restrictions or duties on the water companies that impairs revenue, then the environmental benefits that ensue have to be seen as something that the taxpayer pays for out of future taxes, and today’s fiscal ‘space’.  That is, unless those benefits somehow undo a market failure [flooding?  long-term land productivity?] whose resolution commands a price.  It may be money well spent, in these terms, but it would be money spent.

Imagining that how to spend the BoE missing stimulus was the GE2017 centrepiece

Myself and many others have suggested that in order to help out monetary policy when interest rates reach their effective lower bound [around 0], there should be a discretionary fiscal stimulus.

My version of this is that the BoE would quantify how much was missing given what was possible not just with rates, but also QE.  And the Treasury would decide whether to accept this advice, and, if so, how to implement it.

Imagine if this system was already in place for the 2017 General Election.

The question for all parties would then be:  do you agree with the BoE’s current estimate of the missing stimulus?  If not, what do you think it is, and why does your analysis differ?  If you do agree, how are you going to implement and unwind it?  What other – for example distributional – objectives are guiding those choices?  If there has been missing stimulus applied in the past, has it worked and had the intended effect?  If not, what is to be done differently next time?  If the BoE, in the face of one of the many downside risks that might materialise, were to sharply increase its missing stimulus quantification, what would your contingency be?  How are the answers to all these to be made consistent with long term fiscal sustainability?

This would be a much better world, in my opinion, than the clash of brands and scare stories that colours the current discussion of fiscal policy on the airwaves, which – Labour’s draft manifesto aside – never mentions the constraints on monetary policy.

What use Eurozone integration?

Martin Sandbu posed an interesting question in his Free Lunch column this week:  What can a common treasury achieve that existing institutions and national authorities can not?

The question was by way of warding off French President-elect Emmanuel Macron from demanding too much by way of fiscal union when political capital could be spent more wisely.

The answer in the abstract is:  the benefits that flow from commitment, enforceability, and internalising externalities.

Martin’s question could be asked of any collective.  What can a national Treasury achieve that could not be replicated by tens of millions of people agreeing to contribute or accept payments from a pool of resources, depending on how their luck fared?

We have national Treasuries to implement agreed plans for contributions and withdrawals;  or, more realistically, implement plans devised by people we collectively agree to give the authority to devise them.  Without this central body, there would be every risk that if we were lucky, we would decide not to part with our agreed contributions toward the plight of the unlucky.

The ‘banking union’ could be replicated by a list of promises to supervise and promises to pay out/bail out/resolve wherever financial trouble emerges.  But, once that happens, the similarity of interests dissolve.

The Eurozone collectively signed up to the Stability and Growth Pact at its inception.  But subsequently – leaving aside the merits of it – proved unable to enforce it.

Bound up with enforceability, of course, is that there can be majority rule.   Like all public contracts, a Eurozone finance ministry is a desire to implement a median fiscal policy that some won’t approve of even ex ante, let alone ex post.

On top of this, is the idea that centralised institutions can internalise externalities.  An example here is the tragedy of the commons.  The phrases refers to the archaic problem of preventing individual farmers overgrazing and degrading common land.  Here we might think of the incentive for a single government in the EZ to over-borrow, or under-supervise its banks and free-ride on the better behaviour and tax base of the others.  Central budgets and supervisors can stop that.

Formal integration institutions are not cast iron guarantees themselves, of course.  States face time-consistency problems;  and get taken over by those who come of the age when they can decide, having not previously had any say.  But they raise the cost of changing direction.

Macron’s ambitions on fiscal union may not be feasible, but, within a currency union, they are logical.  One might even argue that without further steps, such as a centralised Treasury, existing common institutions [like the small fund backing the banking union] won’t be robust enough to prevent a recurrence of the last financial crisis.