Tim Harford The Undercover Economist

Undercover EconomistUndercover Economist

My weekly column in the FT Magazine on Saturday’s, explaining the economic ideas around us every day. This column was inspired by my book and began in 2005.

Undercover Economist

Why are recessions so depressing?

Happiness is around six times more sensitive to economic growth when that ‘growth’ is negative

Have we missed the true cost of the Great Recession of 2008 and 2009? That seems a strange question: the financial crisis, the deep recession that followed and slow growth for many years after seem like the defining economic events of a generation – and it’s not as if we’ve been ignoring them.

But perhaps we haven’t taken the recession nearly seriously enough. That’s the conclusion of Jan-Emmanuel De Neve, an economist at University College London and the London School of Economics. De Neve says that the “untold story” of the recession is its psychological cost. In plain language: recessions make us very sad.

It might seem obvious that recessions are disheartening experiences. It’s not, for the simple reason that the link between economic growth and happiness is itself not obvious.

The opening salvo in a long intellectual battle was fired by Richard Easterlin, an economist who, back in 1974, found that richer people in any society tended to be more satisfied with their lives, and yet richer societies showed no tendency to be happier than poorer ones. Thus was born the “Easterlin paradox”: money buys happiness within a society but money does not make society as a whole happier.

There are several ways of accounting for this finding. One is to say that it’s wrong: that data on life satisfaction weren’t very good in 1974 and now we know better. Recent research by Betsey Stevenson and Justin Wolfers finds that there is no paradox: richer societies are indeed happier. A second response is that it all depends on what you mean by “happiness”. Angus Deaton, an economist, and Daniel Kahneman, a psychologist who won the Nobel memorial prize in economics, have found that income is better at buying some forms of happiness than others. People in rich societies say they are more satisfied with their lives but that does not mean that from day to day they will be in a better mood. A third explanation, favoured by many Easterlin fans, is to say that what Easterlin showed is that we live in a rat race: what makes us happy isn’t money but feeling richer than our neighbours. It’s a race not everyone can win.

This is the backdrop against which De Neve and five of his colleagues began to investigate the impact of recessions on our wellbeing. When you look at surveys of life satisfaction, people in rich countries typically rate their satisfaction at 6.5 or 7 out of 10. The answers are stable, barely changing as economies grow. One might expect that the impact of a recession – of the economy shrinking – would be similarly hard to detect in surveys of life satisfaction.

But a couple of years ago, De Neve was sitting in the Brussels office of Gallup, the polling company, reviewing the latest data on life satisfaction with colleagues. Something strange had happened: Greece and Portugal had disappeared.

On closer inspection it turned out the researchers couldn’t find Greece and Portugal on a graph because they had dropped out of a cluster of EU countries and were suddenly reporting life satisfaction of around 5 or 5.5, on a par with Afghanistan. Greece and Portugal had both suffered severe contractions but not so severe as to put their incomes anywhere near that of Afghanistan. So what had happened?

De Neve and his colleagues believe that the impact of economic growth on happiness is highly lopsided. Their statistical analysis is based on several large international data sets surveying life satisfaction, and finds that happiness is around six times more sensitive to economic growth when that “growth” is negative. If you have six years in which the economy grows a couple of per cent a year, followed by one year when the economy shrinks by 2 per cent, the economy itself will have made substantial progress but the wellbeing of citizens will not.

This is just one research paper but it chimes with a 2003 study by Wolfers, another expert in the economics of happiness. Wolfers found when macroeconomic indicators such as inflation or unemployment were volatile, that volatility was associated with lower life satisfaction.

What might explain the disproportionate impact of recessions on happiness? There’s a longstanding finding in psychology that losses are more keenly felt than gains so maybe that’s the answer.

Yet loss aversion is not the only explanation for why recessions seem to depress us. Another is that recessions are associated with an increase in uncertainty. Uncertainty is unsettling in its own right – and it is also attention-grabbing. When the economy is growing, we take that for granted. A recession, with lay-offs, bailouts, bankruptcies and emergency budgets, is far more noticeable.

Perhaps the connection between the economy and wellbeing is simple: when the economy is doing something that we notice, it affects how we feel – and recessions have a habit of calling themselves to our attention. This suggests a new happiness paradox. Even though we may have underestimated the psychological costs of the recession, those costs would be less if only we’d stop talking about it.

Also published at ft.com.

Undercover Economist

The kettle conundrum

The problem of saving the environment, then, is also the fundamental social problem: how do we come together and co-operate?

I owe Lucy Mangan an apology. Seven years ago she wrote a column for The Guardian about the folly of overfilling your kettle. Ever since then I have harboured the unspoken thought that it was one of the most wrong-headed things I have ever read.

Now, however, the International Monetary Fund itself has planted the banner of economic cost-benefit analysis firmly on the side of Mangan. Perhaps I am the one who was wrong-headed.

Mangan’s point was that the green movement has become “hog-tied” by its insistence that doing the environmentally responsible thing is a selfless act. Greens should point out that we’re constantly doing idiotic things that not only damage the planet but waste our own money. Throwing away one-third of the food that we buy is one of them. Over-filling our kettles is another. Mangan concluded that if you and I would “stop being such a frigging idiot”, the planet would be in much better shape.

That sounds like a simple plan. Alas, thrifty kettle-filling will not help much: the physicist David MacKay, author of Sustainable Energy – Without the Hot Air, reckons that kettle-boiling represents about half of 1 per cent of the typical British household’s energy use. As for one-third of food being wasted, Mangan was misled by a statistic produced by the anti-waste organisation Wrap. In “throwing away food”, Wrap included a failure to compost kitchen scraps and used tea bags. In fact, while it is easy to identify ways to reduce carbon emissions, it’s not quite so easy to find the things that both help the planet and save self-centred individuals time, trouble and money.

This is because the central, defining quality of all environmental problems is that they’re problems of shared resources. Driving a car clogs the streets for other drivers; burning coal dumps acid rain on someone else’s forests; above all, emitting greenhouse gases chiefly harms other people, many of whom have not yet been born. The problem of saving the environment, then, is also the fundamental social problem: how do we come together and co-operate?

Enter the IMF, with the astonishing claim that dealing with climate change can be a self-interested business after all. Two IMF researchers, Ian Parry and Chandara Veung, along with Dirk Heine of the University of Bologna, have been trying to find more credible examples of the overfilled kettle problem – that is, opportunities to be better off right now that would cut carbon dioxide emissions into the bargain.

The Montreal Protocol of 1987 was an international agreement to phase out chlorofluorocarbons, or CFCs. According to a recent analysis by The Economist, this single agreement has done about as much to limit greenhouse gas emissions as all nuclear and hydroelectric power generation put together. The striking thing about the Montreal Protocol, though, is that its purpose was to protect the ozone layer. (It succeeded.) The fact that CFCs are also a potent greenhouse gas was a happy coincidence.

The IMF researchers do not mention the Montreal Protocol but they argue that national governments are leaving similar opportunities lying on the pavement, waiting to be picked up. Let’s say, for example, that the US unilaterally introduces a tax on carbon dioxide emissions of $50 a tonne. That move would raise tax revenue, allowing other taxes to be cut. It would also raise the price of anything that embodied carbon dioxide emissions. Driving would become slightly more expensive, and this would reduce congestion and traffic fatalities. Coal-fired electricity would suffer a competitive disadvantage, and this would encourage a switch to cleaner energy, improving local air quality and saving lives. All these benefits would be enjoyed within US borders.

Is $50 a tonne of carbon dioxide emissions a big tax? Yes and no. It is several times higher than the EU’s emissions trading scheme price; it may even be high enough to serve as the main policy for dealing with climate change, although it is hard to be confident of that. It would also add about $900 to the taxes paid, directly or indirectly, by the typical US citizen, and roughly half that if introduced in the EU. These aren’t trivial sums but they are small enough to be offset with reduced taxes elsewhere.

On the other hand, the tax would add less than 10 per cent to the cost of a return flight from London to Sydney; slightly more than 10 per cent to the cost of petrol in the US, and less than a penny to the cost of overfilling your kettle 20 times a week. Life could, and would, go on.

In short, the IMF researchers are presenting us with the mother of all overfilled kettles: policies that governments could introduce that would promptly help their own citizens, while only incidentally making a major contribution to slowing climate change. What makes this plausible is that while individuals and companies do not habitually waste their own resources, we all understand that governments engaged in political rough-and-tumble waste national resources all the time.

So I apologise to Lucy Mangan. The next round of climate change negotiations should focus on governments encouraging each other to stop overfilling their own kettles.

Also published at ft.com.

Undercover Economist

Pick a fund, any fund…

Most active managers do not manage to outperform passive funds – particularly not when their fees are deducted

The supermarket checkout poses a frustrating puzzle. Which line to choose? The one with fewest people? Pah! An amateur’s mistake. One must first look at the number of goods in each shopping trolley to get a sense of how long each person in the queue will take. Elevating the analysis a little further, consider awkward items such as crisps (hard to read the barcode), fruit and vegetables (which must be weighed), alcohol (requiring proof of age). A still higher form of thought is to evaluate the shoppers themselves. Will they fiddle for change? Pull out a cheque book or a wad of coupons and vouchers? If so, avoid.

Yet expending all this mental energy is the mark of a mediocre mind. The truly sophisticated thinker – an economist, for example – knows that there is no need to waste effort. Since others are keenly searching for the shortest queue, there won’t be a shortest queue at all. Each opportunity will immediately be filled, and each line will on average take the same amount of time. Pick a queue at random. Any will do, for they are all much the same.

This is also the case for passive investment. Why spend time carefully choosing assets to buy, or lavishly paying active fund managers to do the job for you, when every asset’s expected risk-adjusted return is the same?

All this assumes something rather important: that the risk-adjusted return (or the length of the queues) is indeed the same. Or at least that such returns look so similar to the trained eye that it is pointless to try to pick a winner. Another phrase to describe this idea is the “efficient markets hypothesis”. It is often viewed with suspicion because it sounds a bit Reaganite; in fact, it simply means you shouldn’t be too impressed by people who offer you stock tips.

We don’t know for sure that all financial assets have the same expected returns after appropriate adjustments for risk, partly because it is not clear what an appropriate adjustment for risk would be. It seems likely that they’re not far off.

One indicator of this is the performance of actively managed investment funds versus passive funds, which simply try to track some sector or market as a whole. Most active managers in most time periods do not manage to outperform passive funds – particularly not when their fees are deducted. As a matter of arithmetic, the average investor cannot beat the market because the market is the average of all the investors. But we might still expect that skilled active managers would consistently beat the average, and most of them cannot. Apparently skilled active managers often see their performance ebb over time, and for every Warren Buffett there are many one-hit wonders in the investment world.

What is more, active management is expensive. Even if you believe that an adviser could pick a faster-than-average supermarket queue to join, you might well be worse off pausing for a couple of minutes to take this advice, rather than choosing randomly without delay.

Active managers will have us believe otherwise, and occasional bunfights break out over whether actively managed funds are quite as bad as they seem but, for me, the logic in favour of passive investing is persuasive and the data even more so.

As this insight becomes better and better publicised, traditional fund managers are losing market share to low-cost exchange traded funds (ETFs) and, at the luxury end, to private equity groups. (The attraction of private equity is that you don’t shop in the supermarket at all. Whether the personal service at the delicatessen is actually worth what it costs is another question.)

I must confess, though, to a twinge of guilt – not a common emotion for the working economist. By passively investing or randomly choosing a supermarket queue, am I not taking advantage of the hard work of others? If everybody chose the first queue or investment that they came across, there would be no reason to expect a happy outcome. It is only because others are taking such pains to choose that I don’t have to bother.

This insight has become known as the Grossman-Stiglitz paradox, after Sanford Grossman and Nobel Memorial Prize winner Joseph Stiglitz, who back in 1980 published a paper pointing out that if financial markets were efficient, there was no benefit in paying for any sort of research or analysis; yet if nobody paid for any sort of research or analysis, why on earth would financial markets be efficient?

We passive investors like to congratulate ourselves on avoiding those parasites, the active fund managers, who charge high fees without delivering high returns. Yet we are parasites too, waiting for others to pay for research and then following the herd. Little fleas have lesser fleas, and so on, ad infinitum.

Passive investors shouldn’t feel too badly, though. This is a self-correcting problem. If most investors switched to passive funds, or picked supermarket queues at random, the market would be full of obvious errors and an active approach would pay off again.

I am beginning to make a study of supermarket queues already. It’s just a hobby – for now.

Also published at ft.com.

Undercover Economist

When regulators are all out to déjeuner

Just because a problem exists does not mean that a new regulation will solve it

“Each time I visit the city the food gets worse and worse.” Tyler Cowen, economics professor, foodie and author of An Economist Gets Lunch, despairs of Paris. Cowen isn’t the only person to lament the state of French cuisine. This may be why – in a quintessentially French move – the nation’s government has introduced a new law in an attempt to improve standards.

The quixotic law in question is public decree No. 2014-797, more popularly known as the “fait maison” rule, in which restaurants may use a new saucepan-with-a-roof-and-chimney logo on the menu beside any dish that is made on the premises. More accurately, the restaurants must use the saucepan-with-a-roof symbol to denote house-made dishes, but the definition of house-made is rather whimsical, thanks to French legislators.

The entire affair seems unlikely to improve French cuisine but it does provide a nice lesson in practical economics: regulation is a superficially appealing answer to life’s problems but often fails to provide real solutions.

The first difficulty is that regulations are developed by politicians, and politicians pay close attention to lobbyists. In the case of the fait maison rules, it is perfectly legitimate to buy industrially prepared ingredients, provided the dish itself is assembled on the premises. Frozen fish is fine. Skinned and boned chicken is fine. Onion powder seems to be fine. Certain types of factory-made pastry are fine, although others are not. Exceptions are baffling: frozen pommes frites are not allowed unless, of course, the fries are to be oven-baked. Diced, vacuum-packed vegetables are fine but be sure to add a home-made sauce. Eliminating prepared sauces was a priority – but still, it is hard to understand these rules as anything other than the outcome of a prodigious lobbying effort by industrial food companies.

Even if the rules were more logically laid out, the French government would still be committing a classic managerial blunder. To borrow the title of a 1975 article by management professor Steven Kerr, they are engaged in “the folly of rewarding A while hoping for B”.

What France demands, naturellement, is good French food. But insisting on home-made food ensures neither quality nor Frenchness. Freshly prepared food can be terrible, while some food prepared elsewhere is superb. (My brother-in-law is a master baker operating out of an industrial estate by Oxenholme station in northwest England. I’d back his frozen sourdough loaves against fresh bread baked by a more generalist kitchen any day.) The French parliament presumably hopes that by rewarding house-made food it will indirectly improve quality. This is optimistic.

A third problem is that the regulation may produce unintended consequences. Consider a chef who offers a fresh fruit crumble alongside a selection of factory-made cakes and puddings. By law, he or she must display the fait maison logo beside the crumble, implicitly damning all his or her other dishes. Such chefs might decide to offer no house-made dishes at all, rather than bring unwelcome questions to the forefront of their customers’ minds.

Policymaking is flawed and crude while the world is subtle and unpredictable. That is why regulations are often rigged from the start, are only peripherally related to the real matter of concern and have a tendency to backfire.

“There is no substitute for consumers who demand the right kind of food and who otherwise won’t buy it,” says Cowen. This is true. The British surely get the food we deserve, and because we have become less clueless about food, our food has become less appalling. (Perhaps I am wrong. Perhaps Tony Blair passed a law back in the late 1990s outlawing prawn cocktails and tinned vegetables, and I missed it. But I suspect not.)

Yet if informed and demanding consumers are essential for food, they are essential for other markets too. In banking, there is no substitute for consumers who refuse to be sucked in by teaser rates and fines in the small print. In investment, there is no substitute for consumers who avoid high charges and are unmoved by selective claims about past performance. In medicine, there is no substitute for consumers who can tell the difference between an expert doctor, a defensive pusher of scans and blood tests, and an outright quack. But such customers are rare. In fairness to the customers who struggle, it is far harder to identify a good pension than a good pizza.

Regulators, then, must muddle through. Sometimes they outsource the job to professional bodies who will punish egregious offenders. Sometimes they try to outlaw particularly troublesome practices. Sometimes (too rarely) they decide that anything they did would make things worse.

There are few easy answers. Regulations are sometimes essential; they are also sometimes both burdensome and useless. The UK’s planning laws should ensure an adequate supply of elegant, well-built homes. They do not. International rules on financial stability did not give us financial stability. Just because a problem exists does not mean that a new regulation will solve it.

This summer I went to Italy for my summer break. I have always found the food there far better than in France or Britain. I doubt that the credit for that should go to the Italian parliament.

Also published at ft.com.

Undercover Economist

Crushing the competition – at any price

It was Selten’s chain store paradox that first attracted me to economics, with a heady mixture of logic, psychology and military strategy

Forty years ago a German economist, Reinhard Selten, published a working paper with the title “The chain store paradox”. It was simple and profound and showed a discomfiting disconnect between the fashionable mathematical tools known as “game theory” and the recommendations of common sense.

This is the set-up. Imagine a chain store with 20 branches, one in each of 20 small towns. Lacking any competition, these branches charge high prices and are lucrative. In each town, an entrepreneur is considering opening a rival shop. These 20 local entrepreneurs will, one by one, decide whether to compete against the chain store or to sink their capital into something else.

Much depends on the chain store’s response to a competitor. The chain store could be aggressive, ruthlessly slashing prices. That would make life painful for both retailers. The entrepreneur, finding herself committed to a low-margin business, would wish she’d invested her money in something else. Or the chain store could be accommodating, letting prices stay high and sharing a profitable market. So what will happen?

Selten offered two lines of reasoning. One of them is intuitive: the chain store will launch a brutal price war against the first entrepreneur with the temerity to set up as a rival. It will lose money in that market but other entrepreneurs will take note of the bloodbath and will steer clear. The reward for giving up one or two cosy local duopolies is that in the other 18 or 19 towns the chain store will remain a monopolist. The chain store will use price wars as a deterrent, and the deterrent will work.

The alternative line of reasoning is a matter of inductive logic. Consider the 20th and final town. Deterrence is pointless there, since there are no further entrepreneurs to deter. The chain store may as well eschew a price war and accommodate the competitor. Yet if it is obvious that there will be no price war in the 20th town, what about the 19th? If everyone knows there will be no price war in the 20th, what would a price war in the 19th be designed to achieve? Again, deterrence is pointless. But if neither the 20th nor the 19th town will see fierce competition, what is the point of deterrence in the 18th town? The logic rolls back to the beginning of the game; it shows that deterrence is futile and will not be used at any stage.

Selten, an expert in game theory, knew that the second scenario was logically watertight. But as a practical matter he found the first scenario “much more convincing”. If he were the chain store, Selten wrote, he would launch price wars in the hope of deterring later competitors. “I would be very surprised if it failed to work.”

If deterrence works in practice, how to make it work in theory? Selten devoted himself to sharpening up game theory to deal with such apparent paradoxes, and in 1994 he was one of two men to share a Nobel memorial prize with John Nash, he of A Beautiful Mind.

One step forward is to add some vagueness or uncertainty. Can we be sure that the decision will be repeated only 20 times? Can we be sure that the competitors really understand each other? What if the chain store manager is a thug who loves to crush the competition and cares not at all for his shareholders’ dividends? Deterrence becomes a logical solution as well as an intuitive one.

It was Selten’s chain store paradox that first attracted me to economics, with a heady mixture of logic, psychology and something approaching military strategy. And it is a hypothetical game with some close parallels today.

Brad Stone’s excellent book, The Everything Store: Jeff Bezos and the Age of Amazon, paints Amazon’s founder to be a visionary entrepreneur, dedicated to serving his customers. But it also reports that Bezos was willing to take big losses in the hope of weakening competitors. Zappos, the much-loved online shoe retailer, faced competition from an Amazon subsidiary that first offered free shipping and then started paying customers $5 for every pair of shoes they ordered. Quidsi, which ran Diapers.com, was met with a price war from “Amazon Mom”. Industry insiders told Stone that Amazon was losing $1m a day just selling nappies. Both Zappos and Quidsi ended up being bought out by Amazon.

When the weapons of war are low prices, consumers benefit at first. But the long term looks worrying: a future in which nobody dares to compete with Amazon. Apple is a striking contrast: the company’s refusal to compete aggressively on price makes it hugely profitable but has also attracted a swarm of competitors.

Consider a grimmer parallel. Vladimir Putin’s Russia is the chain store. Georgia, Ukraine and many other former Soviet states or satellites must consider whether to seek ties with the west. In each case Putin must decide whether to accommodate or open costly hostilities. The conflict in Ukraine has been disastrous for Russian interests in the short run but it may have bolstered Putin’s personal position. And if his strategy convinces the world that Putin will never share prosperity, his belligerence may yet pay off.

I feel a little guilty comparing Bezos and Putin. My only regret about Bezos’s Amazon is that there aren’t three other companies just like it. I do not feel the same about Putin’s Russia.

Also published at ft.com.

Undercover Economist

Ice bucket challenge: the cold facts

In a world of limited generosity, who is to say which cause should be at the head of the queue?

Last week I finally succumbed to social pressure and invited some colleagues at the BBC to film me having a bucket of iced water tipped over my head. As surely nobody needs telling by now, the deal is that people film themselves being drenched, donate money to the US-based ALS Association or its British equivalent, the Motor Neurone Disease Association, and then nominate three further people for the same treatment.

The challenge is an infectious plague, humiliation TV and pyramid scheme all rolled into one, and it’s fundraising genius. Lady Gaga’s done it; Mark Zuckerberg has done it; George W Bush has done it. By the time this column is in print, I imagine everyone on the planet will have done it.

Social pressure is a powerful thing, and it’s refreshing to see it being used to spread smiles and encourage a generous spirit. This is not new, of course. Charities have long sought celebrity endorsements, and seeing famous people have liquids poured on them is a venerable tradition. As for seeking sponsorship to run a marathon or climb Kilimanjaro, we all know that shamelessly pressuring friends and colleagues to give money is the very essence of the exercise.

Peer pressure can also produce reluctant givers. Adriaan Soetevent, an economist at the University of Groningen, studied church collections in an open basket versus a closed collection bag. The open basket elicited larger donations. And in another clever field experiment run by three economists, Stefano DellaVigna, John List and Ulrike Malmendier, fundraisers went door to door raising money. Some households, chosen randomly, had received a flyer warning them exactly when the fundraisers would be around: this warning dramatically increased the chance that the door would not be opened. Not all of us welcome the opportunity to give money to randomly selected charities, it seems.

This time, the social element seems to be a source of no small joy: at a family gathering recently, people were gleefully ice-bucketing each other until the garden had become a swamp. Surely the ice bucket challenge is a good thing, raising money for a worthy cause while giving us a good chuckle into the bargain.

But any good economist has to ask – and I do apologise about this – “a good thing compared to what?” Some critics have suggested that charitable donations are a zero-sum game: more money for the ALS and MND associations means less money for other charities. The evidence for that proposition is thin, as it happens, but even if the many tens of millions raised by the ice bucket challenge are brand-new charitable giving, we could still ask where that money would best be spent.

The strength of a viral giving campaign is also its weakness: people join in for a laugh because their friends have put them up to it, rather than because of a logical analysis of the most worthy cause. Motor neurone disease traps people in their own bodies as they lose the ability to move, speak, eat and, eventually, even to breathe. It is a truly dreadful condition – but so is bowel cancer, fatal diarrhoea or simply starving to death. In a world of limited generosity and finite resources, who is to say which cause should be at the head of the queue?

The fact that ice-bucketeers are donating to the ALS Association feels entirely arbitrary. If the Red Cross or the American Cancer Society had happened to be the beneficiaries instead, very little else about the viral campaign would have changed. Would that have been a better situation?

GiveWell is an organisation which seems well placed to answer such questions: it aims to give donors the information they need to make the most effective donations. It sounds like an impossible job. GiveWell’s approach is to find cost-effective, evidence-based approaches such as distributing antimalarial bednets, and then search for transparent, efficient charities pursuing that approach. One of their top recommendations, for example, is the Schistosomiasis Control Initiative – a charity that could use a catchier name. It organises treatment for parasitic worms, a very unsexy cause indeed. But the worms can do a lot of harm and are absurdly inexpensive to treat – hence the finding that the SCI offers value for your donated money.

In the end, I sent a few pounds of my ice bucket donation to the Motor Neurone Disease Association. It would have felt wrong, somehow, to do otherwise. I sent a more substantial donation to SCI, surely one of the least media-friendly charities on the planet. All lives are equally valuable but some lives may be saved far more cheaply than others. It seems strange not to respond to a philanthropic bargain.

No doubt some will find this line of reasoning colder than a bucket full of iced water. But the truth is that whenever we give money to one cause rather than another, we’re making a decision about how deserving that cause is. When a social media campaign gathers momentum, it is human nature to make that decision spontaneously and without a moment’s reflection. It feels good. But feeling good and doing good are not the same thing.

You can donate to the SCI at www3.imperial.ac.uk/schisto

Also published at ft.com.

Undercover Economist

Here today, gone tomorrow

Don’t draw up your task list in the morning – do it the evening before, when you will have a more distant perspective

What does going on a diet have in common with time management? Here’s a musical clue: Little Orphan Annie sings: “Tomorrow, tomorrow, I love you, tomorrow – you’re always a day away.” Sheila Hancock’s song “My Last Cigarette” has a more cynical bent: “I’ll give up the habit, I will even yet, when I’ve had just one more cigarette.”

The songs could hardly be more different but the common thread is the way that the promise of tomorrow is transformed overnight into something altogether different: today. Strange things happen to us when tomorrow turns into today. Tomorrow we’ll eat fruit rather than candy bars. Tomorrow we’ll watch Krzysztof Kieślowski’s Blue rather than Sleepless in Seattle. And yet curiously when tomorrow arrives, we eat chocolate and watch romcoms. Our preferences flip.

This isn’t just my whimsical summary of human nature: the psychologist Daniel Read of Warwick Business School and his colleagues have conducted experiments finding pretty much exactly this behaviour. Experimental participants, given the opportunity to select food or movies in advance, are more likely to choose the highbrow film or the healthy snack. When the moment of truth arrives, they often change their minds if given the option.

Economists give this tendency the charmless name of hyperbolic discounting. Hyperbolic discounting poses some obvious and well-understood problems for those of us going on a diet or saving for a pension. The problem of personal productivity, however, is far thornier.

On any typical day – indeed, from moment to moment – we have to decide how to spend our time. We have a choice of long-term and short-term projects, big and small tasks/jobs, fixed commitments and free time, all within a daily rhythm of productive moments and postprandial slumps. To add to the challenge, unexpected tasks are always arriving in the inbox.

Armed with traditional tools of to-do list and calendar, this already looks like a tough enough optimisation problem. Add hyperbolic discounting and it looks vicious.

“Managing time is almost inhumane in its requirements,” says Dan Ariely, a behavioural scientist at Duke University. He’s right. While trying to figure out the wisest way to spend our time, we are constantly tempted to surf around on YouTube. Or perhaps we engage in busy-work, reorganising the filing cabinet and kidding ourselves that just because it’s work, it’s worth doing. Tomorrow’s priorities – applying for a promotion, starting the next big project, learning a new language – keep evaporating whenever tomorrow turns into today.

What are the solutions?

One possibility is to schedule tasks ahead of time in the calendar. The big presentation, the Japanese revision, the washing-up, all of it gets a diary slot. There’s promise in this approach. It still requires willpower but putting long-term priorities firmly in the calendar helps deal with the hyperbolic discounting problem. But an overstuffed diary is inflexible and one missed target means an entire calendar must be reworked. The system is unlikely to work for all but the most predictable lists of tasks.

Perhaps technology can save us. Ariely is part of a team producing a new smartphone app, Timeful, which aims to deliver the diary-stuffing approach more intelligently. The idealised form of the software would know everything you wanted to get done – from writing a novel to having a drink with old friends to doing the laundry. It would know how long each task would take, by when it had to be done, how important it was and when might be a productive time to do it. The software would also have access to your calendar, and it would tentatively schedule your tasks wherever it found free space. Over time it would learn about your productivity.

This seems enormously useful, although much depends on how close the algorithm comes to this idealised vision – and how much fuss it is to interact with it. (Users of iPhones can give it a try right now.)

. . .

For those who prefer a pen-and-paper approach to productivity, what to do about the hyperbolic discounting problem? I have two suggestions. The first helps bring a long-term perspective to the daily to-do list. Don’t draw up your list of tasks first thing in the morning – do it the previous evening, when you will have a slightly more distant perspective. When you do so, think about the two or three tasks you would feel most satisfied to have ticked off. Put those at the top of the list and make them your priority.

The second suggestion flips the telescope around and brings today’s perspective to tomorrow’s commitments. When being invited to do things months in advance, the diary usually looks pretty clear and it’s tempting to say “yes”. But whenever a new invitation arrives, ask yourself not, “should I accept the invitation in March?” but, “would I accept the invitation if it was for this week?”

The fundamental insight of hyperbolic discounting is that while tomorrow always looks different, eventually tomorrow will be today. If the flattering invitation would be impossible to accept for this week, what on earth makes you think the first week of March will look any different once it arrives? Tomorrow is always a day away – but your rash commitments are not.

Also published at ft.com.

Undercover Economist

When crime stops paying

To an economist, tougher sentencing in the wake of the 2011 riots offers a fascinating natural experiment

The third anniversary of the 2011 London riots is this week. They erupted so suddenly and spread so quickly across the capital and to other English cities that at the time the disintegration of British society seemed, if unlikely, at least conceivable. In the rear-view mirror, though, the riots are eclipsed by the London Olympics and much diminished by the passage of time.

For parochial reasons, the riots remain vivid to me. My son was born in Hackney just a few days before they started. As violence flared a couple of streets away to the south and to the north of us, my wife and son slept while I stood on the doorstep of our home and watched as a pair of helicopters droned directly overhead.

A year after the riots I wrote a column pointing out that they were essentially random events. They had a cause, of course. The spark was the shooting of Mark Duggan by the Metropolitan Police, and one source of fuel was the perception that police stop-and-search powers were being used crassly and with a racial bias. Yet similar grievances have emerged at other times and in other places without provoking mass civil unrest. Chance plays a major element in such stories.

The criminal justice system responded sharply to the riots. More than 1,000 suspected rioters were charged by the Metropolitan Police during the first week of trouble, and over the same time period more than 800 of them made a first appearance in court. By September 2012, 4,600 people had been arrested, out of about 13,000-15,000 people who are believed to have participated in the trouble in some way. Given the initial sense of impunity, that is a high rate of unwelcome police attention.

More striking was the way in which judges handed out sentences as though they were on steroids. Two people were sentenced to four years in prison each for Facebook postings inviting others to run amok in Cheshire, an unlikely location for a revolutionary uprising. Nobody showed up to “smash dwn in Northwich town” or “riot in Latchford”, so the sentences raised eyebrows. So did the 10-month sentence handed out to a teenager who carried two left-footed trainers out of a shop in Wolverhampton. She thought better of it and immediately dropped them – surely one of the most short-lived thefts in history. Sentences were, in general, more severe than normal. The thinking behind all this was that the true crime that needed to be punished was not theft or incitement but participation in a moment of grave civil peril.

Were these sentences an essential crisis response or a draconian overreaction? To an economist, they are something else: a fascinating natural experiment. With the news full of crushing punishments, it must have seemed plausible that the risks of committing a crime had soared. So did the threat of harsh punishments deter crime?

The usual statistical problem is that sentencing policy might influence crime rates but crime rates might equally influence sentencing policy. Cause and effect are hard to disentangle. In the case of the riots, however, the surge in crime that provoked the crackdown was sudden, unexpected, highly localised and brief. The sentencing response was drawn-out and stories of harsh sentences appeared in the national and London press for months.

. . .

As a result, a mugger or burglar in an area of London entirely unaffected by the riots might still feel conscious that the mood of the judiciary had changed. Three economists, Brian Bell, Laura Jaitman and Stephen Machin, used this sudden change in the judicial wind to measure the impact of tough sentences on crime. Across London, they found a significant drop in “riot crimes” – burglary, criminal damage and violence against the person – over the six months following the riots. Meanwhile, other crimes showed a tendency to increase, as though criminals were substituting away from the “expensive” crimes and towards the “cheaper” ones.

This shouldn’t be too much of a surprise. (I wrote an entire book, The Logic of Life, arguing that the most unlikely people in the most unlikely circumstances turn out to be greatly influenced by simple incentives.) But it’s a useful result because rigorous evidence on such matters is hard to find.

One of my favourite exceptions is an article by two economists, Jonathan Klick and Alex Tabarrok, who examined the impact of periodic terrorism alerts in Washington DC in the couple of years following the attacks of September 11 2001. Whenever alert levels were raised, police officers flooded sensitive locations, most of which (such as the White House and the Capitol) are on or near the National Mall.

Over the 16 months studied, the Mall and surrounding district experienced about 8,500 crimes, often theft from or of cars, not really al-Qaeda territory. Klick and Tabarrok argued that the occasional surges in police numbers were not caused by car thefts but did successfully deter them.

There may well be cheaper, more effective and more humane ways to reduce the crime rate.

But such studies have helped to build confidence that the world isn’t an entirely irrational place. Raise the costs of crime and criminals will respond.

Also published at ft.com.

Undercover Economist

Why tax systems are trickier than Martian algebra

Only radical restructuring has a chance of creating fair taxation, writes Tim Harford

Tax is a divisive subject but everyone seems to agree on one point: taxes are too complicated and should be simpler. Unfortunately, tax systems did not receive the memo.

In the UK only a few years ago, almost everyone in work used to be taxed at a marginal rate of either 31 per cent or 41 per cent, depending on how much they earned. (If Brits do not recognise those numbers, it is because the UK has two cumulative systems of income tax, one of which goes by the code name of “national insurance”.)

The system is trickier today than Martian algebra. Paul Johnson of the Institute for Fiscal studies points out that, over different levels of income, a non-working spouse with two children will be taxed at marginal rates of 12 per cent, 32 per cent, infinity, 42 per cent, 60 per cent, 42 per cent, 60 per cent, 42 per cent and 47 per cent. You might ask what kind of muppet designed a tax schedule like that, and one answer would be George Osborne, chancellor of the exchequer, and Alistair Darling, his predecessor – the last two men to be in charge of the UK tax system.

Another answer would be that this is just the sort of thing that happens without diligent maintenance. Window frames rot. Iron structures rust. Tax systems become complex.

Having nine different marginal tax rates is an ugly sign that things are not well. There are others. Cereal bars attract value added tax at 20 per cent but flapjacks enjoy a zero rate; vegetable chips are tax-free if the vegetable in question is not a potato; dried fruit is subject to VAT unless destined for a cake. On a gingerbread man, chocolate icing attracts a substantial VAT liability unless the icing constitutes the eyes. There are more things in tax accounting, Horatio, than are dreamt of in your philosophy.

If a tax break for unfrosted gingerbread seems uniquely British in its eccentricity, it is not. Officials in New York state have been obliged to rule on the tax status of burritos. (Legally they are sandwiches and attract sales tax of 8 per cent.) Or consider Pillow Pets, a stuffed toy/ pillow whose slogan – “It’s a pillow, it’s a pet, it’s a Pillow Pet” – poses a dilemma for US Customs. For the purposes of levying a tariff, is it a pillow? Or is it a tariff-free toy pet?

Then there are tax subsidies for agricultural land in places such as Florida. Agricultural land is no easier to define than a flapjack or a sandwich. Rent a cow, let it graze on your garden or vacant lot; if that is not agriculture, what is?

All this matters not just because the rules are hard to understand and expensive to obey but also because taxes shape our behaviour. The “camelback” houses of late 19th century New Orleans, with a hump of two storeys at the rear and a long single-storey snout stretching to the street, were tax-efficient because property taxes were levied based on the number of storeys at the front of the house. Abba’s outlandish outfits are reported to have been inspired by tax rules: they were tax-deductible only if they were too outré to be worn anywhere other than on stage.

These are trivial examples of tax-efficient charm but the same principle can be harnessed for a far greater good: a carbon tax to shift our energy system towards low-carbon fuels. Well-designed taxes can raise revenue while rewarding green behaviour.

Meanwhile complex, illogical taxes raise less revenue while rewarding clever accountants. There has been outrage over celebrity tax-dodging in the UK but the tax avoidance schemes usually involve a government attempt to provide a tax incentive for the British film industry or some other hobbyhorse.

What is behind such insanities? Partly, absurd loopholes exist because special interest groups demand them; hence the subsidies for land with cows on it. Partly, voters are given the tax systems they deserve because we sympathise with highly vocal losers whenever a loophole is closed and we fall for simple tricks that hide taxes behind a veil of complication.

The UK’s two-tier income tax system is a good example. Basic income tax rates have tended to fall over time, while national insurance rates have tended to rise. True income tax rates for the typical worker are similar to those of 35 years ago but they seem much lower. The sleight of hand is politically convenient but increases complexity, creates unfairness and opens opportunities for tax avoidance.

It is tempting, then, to call for a radical simplification, for taxes simple enough to write on the back of a postcard. But this ignores the third reason that taxes are complex, which is that fair taxation is a genuinely complex business. This year’s piecemeal reform efforts become next year’s loopholes.

Only radical, systemic reform has much chance of success – and it may be less elegant than some reformers hope. A per-person “poll tax” was introduced in the UK 25 years ago, and promptly ended the premiership of Margaret Thatcher. It was undoubtedly simple – but in taxation, as in life, simplicity is not the only virtue.

Also published at ft.com.

Undercover Economist

What tech jerks can teach us

Added to the familiar gallery of corporate monsters are those making money from parasitic smartphone apps

Fat cat bankers swimming in taxpayer subsidies. Oil barons battening on indigenous peoples. Corrupt media moguls poisoning politics. To the familiar gallery of corporate monsters, a new horror has been added: tech jerks making money through parasitic smartphone apps.

The term #JerkTech was minted recently, complete with hashtag, by Josh Constine, a San Francisco-based writer for the technology website TechCrunch. Constine pointed at ReservationHop, which aimed to make reservations at popular restaurants, then sell the reservations on to eager diners; and at MonkeyParking, which allowed people parked in a public parking space to auction it off when they left. (San Francisco’s city attorney had already sent MonkeyParking a cease-and-desist letter threatening substantial fines to users.)

There are several other examples, and it seems that the world was waiting for the word JerkTech, which spread as fast as the latest internet meme – and nothing spreads faster. Before long, both MonkeyParking and ReservationHop announced a pause for reflection.

The outrage was as much a reflection of Silicon Valley’s tarnished image as about these particular business models. Stories have circulated about a misogynistic “brogrammer” culture in some tech firms, while protesters in San Francisco have objected to Google sending free buses to the city to pick up employees, thus driving up rents. Constine himself made the link between JerkTech apps and contemptible behaviour elsewhere. As with bankers, oilmen and newspaper proprietors, the debate is emotionally charged by the broader sense that technology companies may not have our best interests at heart.

At the risk of injecting a dose of logic into the debate, it seems worth asking what exactly is objectionable about JerkTech apps themselves.

What are the common features? First, commodification: they sell or take commission on the sale of something that previously wasn’t a commodity at all: a reservation to eat at a popular restaurant; the opportunity to park in a public space. These things have always been valuable but they’ve been hard to buy and sell.

This is an odd complaint. Trading something such as sex, or a kidney for transplant, might be said to change the nature of what is being traded. But a restaurant meal is already a commercial transaction. Although one restaurateur has complained that such apps are wrong because “hospitality has no price”, all the restaurants I know do expect me to pay for the food at some stage. It’s odd to insist that the reservation itself occupies a separate, almost spiritual domain.

A second complaint is that such apps rob the poor (the government, a small business, the everyday consumer) and give to the rich (people who are willing to pay a premium). This objection is also odd. Genuinely poor people rarely own cars, and being willing to pay $5 to find an otherwise-free parking space hardly requires you to be a billionaire. None of the people hoping to secure a reservation at a Michelin-starred restaurant is poverty-stricken.

The critics are on stronger ground when they point out that JerkTech firms are appropriating someone else’s property. A driver has the right to park on the street but she does not own the space that will be vacated when she moves on. A restaurant reservation service might make a reservation under a false name (“Dick Jerkson”, suggests Constine) then sell the details to a customer who will actually show up and buy a meal. If the reservation is unsold the restaurant will lose out but the JerkTech start-up faces no loss. Most reservations are made on a trust-based system, and restaurants always run the risk that this trust will be abused. But JerkTech can exploit that trust on an unprecedented scale.

This is more than an argument about propriety: JerkTech might also have consequences. Restaurants might have to demand a credit card from customers, or proof of ID. Parking JerkTech encourages people to park in the street, simply waiting for a bid to move their car. San Francisco’s city attorney alleged that one JerkTech company was planning to pay people by the hour to occupy parking spaces for resale at the right price. This is close to extortion.

. . .

And yet: when a market is being “disrupted”, that is sometimes a sign that the status quo is rotten. Scarce restaurant reservations could sensibly be sold. That is exactly what a few restaurants do – for example, Alinea in Chicago. It would be no surprise to see tech start-ups emerge to help restaurants do exactly that.

As for parking, many cities waste this scarce resource by underpricing it. Instead of paying money into the public purse, drivers pay in wasted time. Their quest for parking spaces burns fuel and causes congestion.

Two lessons emerge from JerkTech: scarce public resources shouldn’t be given away for free to all comers; and simple technology can make it easier to match scarce resources with people who need those resources. Westminster Council, in London, is rolling out a smartphone app that will help drivers find vacant parking spaces and pay for them. If JerkTech can make a market work, there’s probably a JerkTech-free way to make that market work too.

Also published at ft.com.

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