28 November 2012

What the PM Did Not Tell MPs

We already know that the PM can make free with the facts.

This is what David Cameron told the House of Commons following the summit last week:

For example, when it came to the bureaucratic costs of the European commission not a single euro in administrative savings was offered.
Not one Euro.
This is what the European commission actually proposes for EU staff:
  • a 5% cut in staff numbers;
  • an increase working hours (37.5 to 40 per week) without increasing salary;
  • a 6% "solidarity levy" on top of taxes paid by EU officials;
  • raising the retirement age to reduce pension costs;
  • limiting options for early retirement;
  • a reduction to the value of allowances related to staff returning home.
Would you think that these cuts - already negotiated with the unions - were in the commission's financial proposals if all you had to go on was the PM's statement? In fact they are and Mr Cameron's complaint is that he wants more cuts to staff numbers, benefits and pensions and a higher levy.

A lawyer's argument might be that he was talking about the final proposal made by the council president and so he meant "not a single euro in administrative savings was offered in addition to those already on offer". He didn't say that and so most listeners would conclude that no savings on administration had been offered at all.

Whatever you think of the idea of cutting the EU budget and whatever you believe about the good fortune of people who work in Brussels, we can agree that the PM should tell the whole truth when he speaks in parliament.

UPDATE I've seen some figures now that show the commission's proposal would cut £1Bn from the administration budget. The final plan offered a bit less due to provision for Croatia joining next year. It seems hard to ovoid the conclusion that MPs were not told the truth.

27 November 2012

Equality in America

Brad DeLong, the Berkeley economist, has a fascinating post on inequality in America, taken from a conference presentation at his university:
Three Dimensions of Inequality: Global, Educational/Technological, and Plutocratic

He is concerned not just with the increase in inequality but with the political impacts on democracy and equality of opportunity. The fascinating bit is his commentary on the rise of plutocratic inequality since about 1980.
And there is a third dimension, for the rise of the 0.01% produces not just a plutocratic over-class in the United States but a transnational global plutocratic over-class. ... How is (sic) social democratic politics and equality of opportunity going to be attainable in the world of the future? We know that money speaks loudly in politics, but plutocracy seems to be acquiring so much money that speaks very loudly indeed.
His thesis has implications, then, not just for the US; it matters for the rest of us too. It reminds me of similar concerns raised in Robert Peston's book Who Runs Britain?: and Who's to Blame for the Economic Mess We're inwhich also warns of the danger of a new class using its inherited wealth to dominate political decision making.

21 November 2012

Price Discrimination and the Cameron Rule

Gas is a commodity. Electricity is a commodity. If a commodity market is efficient there should only be one price: one price for gas and one price for electricity. Either there is a competitive market or there are several energy tariffs.

The energy bill announced yesterday will allow each supplier to offer households four different core prices.With six suppliers that could mean up to 24 different prices for the same basic commodity. There could be even more if discounts can be offered on the core prices.

The energy bill will not create a competitive market leading to lower prices. The oligopoly of six firms will be allowed to compete by appearing to offer different products to their customers. They are in effect pretending to offer a choice between an "Armani" kilo-Watt-hour or a "Top Shop" kilo-Watt-hour.

Is some social purpose served by allowing different prices? Lets say, cheaper tariffs for customers who pay in advance using pre-pay meters? Lower prices for poorer customers who do not have bank accounts? In fact, the outcome is the opposite; it is better-off customers who are able to use the cheaper tariffs.

Price discrimination is the trick used in this kind of market to extract above normal profits from customers.

Price discrimination
The diagram shows how it works. The dotted line represents the cost of supply and the solid blue line is the demand curve. When the price is set at T1 the company makes a small profit above its cost. Some consumers are willing to pay more, and so if they can be induced to pay T2 the firm will make additional profits (equal to the light shaded area). Some consumers are still able to pay a higher price, T3, which would yield even more rent to the lucky firm (the darker shaded area). Imagine how the diagram would look with 24 prices.

A Cameron Rule would help - all customers must be given the most favourable tariff offered to any customer. The rule should apply to core tariffs and discounts. A special offer to one customer should be applied to all energy bills. Effectively each firm would sell at one price, and the greater price transparency would enable competition between the big six to focus on price.

Of course, it will still be an oligopoly and there is no guarantee that the price will fall to the lowest level compatible with an ordinary level of profit. The regulator would still be need inter alia to ensure no tacit collusion on price and to act against barriers to new entrants.

13 November 2012

Cameron Rules

The government's energy bill is due to be published in the next few days. Despite not yet knowing what it might contain, this is a good opportunity to talk about what consumers pay for gas and electricity.

The prime minister drew attention to the issue when he announced that the energy firms should be compelled to give the lowest tariff to their customers. we are waiting to see how that will appear in the bill.

In my view, Labour should support the "Cameron rule", and be prepared to amend the bill if the government tries to walk away from its proposal. To me the Cameron rule sounds a bit like the WTO principle of "most favoured nation", which means that if trade barriers are lowered for one country then the same treatment should be available to all WTO members. As with customs tariffs so with energy tariffs; all residential customers should receive the most favourable tariff on offer to any customer.

Reading the press reaction which followed the PM's announcement led to a moment of revelation. Some commentators assumed that privatisation had created a free market in energy. Really, they think consumers benefit from competition in energy supply! At best they acknowledge the information gap when it comes to pricing; at worst they blame customers for not switching suppliers often enough.

The first clue that there is not a free market in energy is the existence of of Ofgem. A competitive market wouldn't need its own regulator. To explain further we need a bit of economics.

Here comes the economics bit
The key idea is the law of one price; in a free market identical goods have the same price. One kWh should not cost more from one supplier than from another. So the fact that customers are charged different prices is a sign that the market is not free or competitive or efficient.

Privatisation swapped a state monopoly for a private oligopoly. Energy supply is now in the hands of six large companies. This kind of market does not operate like the competitive markets of the textbooks. The firms do compete but rarely on price. More usually they compete through marketing and indeed the complex pricing arrangements offered by the companies is a form of marketing.

The problem lies in a market structure that leaves the big six with considerable market power. Hence the need for Ofgem and also support for the idea that gas and electricity utilities belong in the public sector. Unfortunately that option will not be in the coalition's bill. However, a Cameron rule imposing  the law of one price on each supplier would lead to one price for consumers. When they complain that the rule will end the free market in energy, we can say, "there never was a free market  in energy."

The US has a Volcker rule for banks and a Buffett rule for tax, can't we have a Cameron rule for energy prices?

09 November 2012

Thinking About Rude Books

When I studied mathematics, many years ago, we began by doing analysis on the real number line. The course proved all the fundamental theorems of calculus on real numbers. In the second year I studied analysis on the complex plane and learned the proofs of the same theorems for complex numbers. The next year I moved on to n-dimensional space and, yes, the same theorems work in n dimensions. In my final year I took an optional course which proved the same theorems on topological space*.

When I went on to study economics I learned all sorts of results in simplified worlds where there were two goods and a budget constraint or a production possibility frontier. I assumed that the same results could be demonstrated for worlds with n goods and n-1 hyperplanes as budget constraints or PPF. Strangely no-one bothered to show that they did.

Thanks to Steve Keen's book, I now know the answer. Serious economists have indeed checked whether the simple models can be generalised. For example, the consumer theory model (the one with two goods where the consumer has a budget constraint) is used to demonstrate the downward slope of a demand curve. It might work when there are more than two goods but it falls apart once there is more than one consumer. Consumer theory only gives the traditional downward sloping demand schedule under conditions which amount to there being only one consumer.

Keen's book goes on to demolish the traditional supply curve. Some  simple mathematics (which was first published in 1957 but still doesn't feature in the textbooks) shows that the idea that firms have zero market power in a competitive market is false. Consequently, price does not equal marginal cost. To be fair, when I first studied economics in the 70s we were aware of the empirical work which showed that the textbook equation was not how real firms set their prices.

In the first part of Debunking Economics Keen uses the results of economic research to show that most of microeconomic theory has been tested and found wanting. This matters for macroeconomics as the last few decades have been dominated by an approach which insists that macro has microfoundations. In effect, modern macro is built on crumbling foundations.

The second part of the book does the same wrecking job for macroeconomics. The argument here is more complex and demands more from the reader. One difficulty is that macro models are less well known than supply and demand. Few outside the economic profession understand the DSGE models used, nor even the simpler IS-LM model. Nevertheless, it is worth persevering; Keen is writing for a general audience. He points out the failures of conventional macro to deal with the nature of money and credit, the effect of time, and the analysis of disequilibrium. By the end the case for abandoning neoclassical economics is made.

In a final part, Keen sets out the alternatives. This section sits less well with the overall argument and has the effect of making the volume read like two books joined together. Perhaps it is, as the earlier version of the book - published before the crises - did not go into the alternatives in such detail.

I strongly recommend this book to anyone interested in how economics has failed in predicting or dealing with the current depression. It is an angry book which pours scorn on the mainstream economics profession. If you would prefer an less polemical approach, then I would point you towards a book by Marc Lavoie, Introduction to Post-Keynesian Economics.This is a short book with a more academic approach which covers similar ground.

*A topology is defined in such a way that it has all the properties needed to make calculus work, and no more.

08 November 2012

More or Less Wage Equality

Pay is not the only source of income and the ONS survey only covers pay and not overtime or bonuses. However the picture that emerges from the ONS report issued today shows income rising in the last 25 years but rising faster at the top of the scale. It also shows that the minimum wage has been successful in reducing the gap between the very bottom and the very top since its introduction in 1999.

The top 10% has seen wage growth of 81% in real terms compared with the average rise of 62%, and 47% for the bottom 10%. The top 1% has benefited by growth of 117%.

The good news in the survey is that the bottom 1% has seen a rise above the average, of 70%. The analysis by the ONS gives the credit entirely to the introduction of the minimum wage.

04 November 2012

Pay Paradox

David Smith in the Economic Outlook column of the Sunday Times (£) asks:
Public sector pay has risen nearly twice as fast as in the private sector in this supposed time of cuts. How can that be?
Despite the freeze on public sector pay average pay has risen from £448 to £491 since April 2009, while the private sector average has gone from £446 to £469, a rise of 9.6% compared with 5.2%. How come? David Smith looks for the answer in flexibility and unionisation, but misses the obvious cause of this statistical puzzle.

The number of employees in the public sector has fallen by 648,000 (including the 198,000 college staff now counted as private sector). The private sector has added 1 million jobs.
The strong growth in private sector employment in the past three years has a lot to do with wage flexibility...the lack of pay flexibility in the public sector - and the large increase in the wage bill - has been the prime reason for the big public sector job losses.
Does he have the causality the wrong way round? The higher average pay could be a consequence of the lower number of employees. The cuts have fallen disproportionately on the low paid, rather than managers in the public sector. Every employee earning less than the average who leaves the public sector nudges the average upwards. Salary bands, which he mentions, also play a part as fewer new staff are recruited and so fewer are on the lower steps of the salary ladder. By contrast the private sector has been recruiting but recruiting more at the bottom end and so pushing down on the average.

It is a pity he didn't consider whether the statistics were comparing like with like between 2009 and today. This kind of story can turn into conventional wisdom and become lodged in the political discourse. It needs to be challenged from the start. Careless use of statistics can lead to poor policy.

01 November 2012

More Fibs

John Rentoul spotted another fib; one I missed. Both Mr Cameron and Mr Osborne in their conference speeches claimed that:
In every single year of this Parliament the rich will pay a greater share of our nation's tax revenues than in any one of the 13 years that Labour were in office.
In fact the only year for which figures have been published is 2010-2011 which show the top decile paying a smaller share than previously. It seems the government are relying on figures for the proportion of income tax receipts paid by the top decile. It is not what they said but even that fails if 2010-2011 is included.

The claim is a fib.

Afterthought: if the top decile took a larger share of income then they would pay a larger share of income tax. Is increasing inequality something the government should be boasting about?