Tim Harford The Undercover Economist

Since You AskedSince You Asked

My column ran in the Financial Times comment section on Saturdays between 2011 and 2014.

Since You Asked

Teachers could predict exam grades better – but not much

Teachers forecast the right results nearly half the time. Few professions can boast such a record

“Half of A-level grade predictions prove to be wrong, figures show, raising questions about the use of predicted grades in university applications. Just 48.29 per cent of the grades forecast by teachers last year were accurate, according to statistics published by OCR, one of England’s biggest exam boards.”The Guardian, October 22

That’s bad.

Is it? There are seven grades available, including the U grade (fail, to you and me) and the new A*, so the chance that a dart-throwing bonobo would pick the right grade is about 14 per cent. Cambridge Assessment, the group that analysed OCR’s exam statistics, reckons teachers are accurate almost 50 per cent of the time. Some 92 per cent of forecasts were within one grade of the result. Better than any bonobo could achieve.

Am I supposed to be impressed that teachers are better forecasters than dart-throwing bonobos?

It impresses me. Few other professions can boast such a record. The psychologist Philip Tetlock, in a landmark study of expert forecasting, once gathered 27,450 quantifiable forecasts from about 300 experts. Over two decades he was able to observe how good those forecasts were. In each case he grouped the range of possible outcomes into three roughly equal ranges chosen based on historical outcomes.

You’re going to tell me that the experts fared poorly against the bonobos.

I am. And Professor Tetlock wasn’t focused on “random-walk” processes such as the movement of stock prices; he was asking for predictions on political and economic outcomes that were, in principle, predictable. The experts, whether journalists, diplomats or academics, fell short. No doubt forecasting exam grades is a simpler matter than making political forecasts, but picking the right grade almost half the time is no bad performance.

But could it be better? I note that grammar and independent schools managed to deliver more accurate forecasts.

Fractionally more accurate. But they had an easier job. The top grades were more likely to be forecast correctly, and I’m afraid top grades are disproportionately the preserve of independent and grammar schools. Teachers at these schools were also less likely to be optimistic. One imagines darling Felix and Felicity drifting into Oxbridge on a wave of effusive fluff from their teachers, but students from independent schools are almost three times as likely to get at least three A grades as those from state schools, at which point it becomes hard to deliver over-optimistic predictions.

But there is a general tendency for teachers to deliver rose-tinted grade forecasts, isn’t there?

Yes. Erroneous forecasts were three times as likely to be too high as too low. That might not be a problem – students whose exam results fail to live up to teachers’ promises are often turned away from the first-choice university to find a place somewhere less competitive. Far rarer is the process of “adjustment”, where a student’s final grades are better than predicted and he or she manages to win acceptance to a more prestigious course than originally admitted for. So teachers may be right to err on the side of optimism.

Sounds like cronyism.

Well, teachers’ predictions can’t match Wall Street analysts’ earnings forecasts for optimism. In the past 25 years, analysts have on average been too optimistic 22 times and too pessimistic three times.

Nobody takes Wall Street seriously any more. But exam forecasts are important: universities use them when making offers.

Universities do take other factors into consideration, but you are right. The situation is hardly reassuring. There is one consolation, though: the results being predicted here aren’t flawless measures of student ability. They’re just a snapshot of how a student coped on the day with hay fever, menstrual cramps or just an unfortunate choice of questions. Teachers may not forecast the vicissitudes of exam season correctly – but who’s to say their predictions may not be just as good, or better, indications of how talented students really are?

So all is well.

Perhaps. A final note of caution. These forecasts were submitted to OCR as late as May, four months after forecasts made for university admissions. For all I know, the forecasts that really matter – those made for university admissions – are optimistic beyond the dreams of Wall Street.

Also published at ft.com.

Since You Asked

Patience pays off for long-game investors

Stockpickers who persevere with their ‘pets’ are rewarded when they perform impressive profits

“Neil Woodford, one of the colossi of British fund management, is leaving Invesco Perpetual after a quarter of a century to pursue his conviction that modern investment has become too short-term.”, Financial Times, October 15

One of the colossi?

I know, I know. I’d have plumped for one of the colossoi myself. Or one of the colossuses. Or maybe one of the giants.

I wasn’t being pedantic. I was wondering whether there really are any colossi in stockpicking. Wasn’t the Nobel Prize in economics given this week to Eugene Fama, who showed you can’t beat the market?

Speaking of pedantry, it’s not a Nobel Prize. It’s best described as the Nobel Memorial Prize. And, yes, Professor Fama did show you can’t beat the market. But whether or not he’s correct, investors believe in star stockpickers, from Benjamin Graham and Warren Buffett to Anthony Bolton and Mr Woodford. So there’s likely to be a stampede for the exit at Invesco Perpetual, which could be hard to manage.

Do you think Mr Woodford is merely the beneficiary of a lucky streak, then?

It’s devilishly hard to know. His record is excellent – over the past 25 years, the market as a whole would have turned £100 into £1,000; Mr Woodford would have turned it into £2,300. A modest degree of outperformance, delivered with reasonable consistency over a quarter of a century, will do that to your portfolio. Maybe those results are a matter of luck – there are, after all, many fund managers in the world, and somebody has to be the best. But maybe it’s real skill. Quite possibly both. One of Prof Fama’s findings was that smaller companies, with low market value relative to book value, have tended to outperform the market as a whole. This may be because such companies are riskier and the high expected return is compensation for taking that risk. It turns out that such companies have played a significant part in Mr Woodford’s success.

It might also be that he takes an interest in the companies he invests in.

He’s certainly had substantial shares in some of them for a very long time. This is similar to Warren Buffett’s approach, and is reminiscent of John Maynard Keynes’ behaviour while investing on behalf of King’s College, Cambridge. Keynes invested for the long term in a few favoured companies, which he called his “pets”. These were extremely profitable – in contrast to the investments he made earlier in his career, when he tried to deploy his knowledge of the business cycle to time his trades.

Timing the market didn’t work out for him?

No. Buffett-style value investing did very well, though.

But this long-term vision isn’t just an investment strategy, is it? There’s a sense that stock markets are insanely short-termist these days, and Mr Woodford’s activist approach and “buy-and-hold” tactics are good for capitalism as a whole.

It’s curious. One of the points of an equity market is that, by making shares easy to trade, it allows investors to take a long-term view of profits. As a shareholder in a non-traded company, you care about when it makes its money because it directly affects your own cash flow. But if you hold shares in a publicly traded company then you don’t need to worry about the precise timing of profits: you can cash out at any time by selling to someone who is able to wait.

I understand the theory but things are different in practice, aren’t they?

It seems so. John Kay, an FT columnist who chaired a government-commissioned review into equity markets, felt many British companies were too focused on short-term returns. The reason for that was the behaviour of Mr Woodford’s competitors and all the other intermediaries that stand between company managers on one side and savers and pensioners on the other.

But Mr Woodford has directly benefited from a long-term perspective – as did Mr Buffett and Keynes. Why don’t other investment managers acquire a few “pets”, if it’s so good for business?

That’s a good question. We are unwittingly rewarding investment managers for sticking with the crowd and following some particular benchmark. More independent-minded managers are taking a big risk – if their decisions don’t pay off at first, they are unlikely to get another chance. Even Mr Woodford has had bad years: if they had come early in his career, I wouldn’t now be talking about him.

Also published at ft.com.

Since You Asked

Dr Osborne’s bitter medicine is no cure

The chancellor’s claim that Britain’s slow recovery vindicates his policies is drivel

‘The International Monetary Fund has dropped its criticism of George Osborne’s austerity drive after revising up the UK’s growth forecast by more than any other leading economy.’
Financial Times, October 8

Good news for the chancellor, then.

He’s had a pleasant week. The independent Office for Budget Responsibility also said this week that his austerity policies were “not the most obvious reason” that economic growth had been so weak until recently.

Pretty embarrassing for his Keynesian critics, eh?

That depends on whether his Keynesian critics are embarrassed by the sneers of cloth-eared nincompoops or not. I don’t see how any thoughtful, open-minded person can believe that Mr Osborne’s critics have been proved wrong by events.

How so? Growth is back! Isn’t that an endorsement of government policy?

OK. I’ll use small words to explain this. Let’s say that a man gets sick. He picks up some pills from the chemist.

What sort of pills?


That isn’t a small word.

Oh, shut up. So our man begins taking the antibiotics, but almost immediately gets an appointment with Dr Osborne, who declares the antibiotics a quack treatment. Dr Osborne confiscates them and instead prescribes prolonged bed rest. Our friend is sick for a long, long time. But recently, he’s been feeling better. He’s out of bed, pottering around and thinking about taking a shower, getting dressed and heading out for a walk. Dr Osborne claims vindication. He says the quacks who suggested antibiotics were wrong because the man’s getting better. But this is the argument of a fraud or a fool – or, of course, a politician. Sick people usually get better. Sick economies usually get better, too. That fact, enormously welcome though it is, proves nothing.

Mr Osborne has said that the opposition couldn’t explain why the economy was recovering despite continued austerity.

That’s drivel. No sane person would claim that austerity – a catch-all term for higher taxes and lower government spending – is the sole cause of economic performance. A simple textbook model would suggest short-run economic performance is determined by demand while long-run economic performance is determined by supply: of the British people, their skills, the buildings, infrastructure, equipment and institutions that surround them. We’d expect austerity to dent demand in the short run – two or three years. In the long run, as Keynes reminded us, we are all dead. This simple model says that Mr Osborne’s economic vandalism can hold the economy back for a long time, but not forever.

I’m sure there are kinder ways to characterise the chancellor’s policies.

It’s simple logic. Austerity doesn’t explain everything about the recession, but that doesn’t mean it explains nothing. Let’s be clear: the UK economy is suffering the slowest recovery of gross domestic product since credible records began by a colossal margin. Sixty-six months after each began, in the awful recessions of the 1920s, 1930s, early 1970s and early 1980s, GDP had recovered to 5-8 per cent above the pre-recession peak. This time, we are still about 2-3 per cent below it. We are looking back – I hope – at an unprecedented economic catastrophe. The OBR says Mr Osborne’s austerity wasn’t the only cause – or indeed the largest cause. He didn’t cause the financial crisis any more than Dr Osborne infected our patient. Our sick man had many things wrong with him and the antibiotics would have cured only one of the conditions. But it’s cheeky of the chancellor to claim the limpest recovery in British history vindicates him.

We don’t know that for sure – not like we know that antibiotics kill germs.

True. But we’re reasonably confident austerity damages economies in recessions.

You’re talking as though Mr Osborne had a choice. Our deficit was vast and it’s still big; he couldn’t have risked a debt crisis.

Markets – aided by the Bank of England, with unlimited ability to print sterling – have been happy to buy UK government debt. They might not have been so sanguine if the 2010 election had delivered a lame-duck minority government. But with a solid coalition Mr Osborne could have taken credible steps to encourage spending during the slump while charting a course to long-term fiscal rectitude.

Why didn’t he do that?

Political timing. Mr Osborne’s economic mismanagement has cost a lot of people their jobs. It may well keep his own secure.

Also published at ft.com.

Since You Asked

The price of a loaf is of little importance

Cameron’s critics chose a singularly useless indicator, writes Tim Harford

“Clueless David Cameron doesn’t know the price of a value loaf of bread showing just how out of touch he is with the British public. And the PM risked alienating himself from voters further when he tried to defend his ignorance by saying he used a pricey BREADMAKER instead.”, The Daily Mirror , October 1

I thought David Cameron was in trouble for not knowing the price of a pint of milk?

You are thinking of the Mayor of London, Boris Johnson, who admitted he didn’t know. Or possibly you’re thinking of an insult thrown at the prime minister and his chancellor, George Osborne, by a member of parliament, that they were “two posh boys who don’t know the price of milk”.

MPs do throw a few choice insults across the floor of the House.

Actually the insult came from their own side – it was Nadine Dorries.

Oh. But they are posh boys, aren’t they?

They certainly are posh. But I think we already knew that without these bizarre trivia tests on how much particular products cost. It’s ridiculous. David Cameron is the prime minister. He’s busy. Do we really expect him not only to do his own shopping but also to keep careful track of what every item costs? There are a lot of people in the country who don’t do that – most of them men, I suspect.

Still, the prime minister should know the price of a loaf of bread.

The prime minister did know the price of a loaf of bread. He said it was “north of a pound”, and the Office for National Statistics reckons the average price of an 800g loaf of white sliced bread is £1.31. Sounds like he was about right. The prime minister is being accused of being out of touch only because he didn’t know the price of a particular lump of processed fluff called a “value loaf”, sold in Tesco or Sainsbury, which is much cheaper. And I should point out that this makes the entire business even more nonsensical: the general story is supposed to be that David Cameron does not understand how high the cost of living has risen. What this proves is that he doesn’t realise how low the cost of living really is.

How much is a value loaf, then?

I read in the newspapers that it is 47p, although I hope you’ll forgive me if I don’t go and check.

You’re out of touch too!

Listen: there are about 10bn distinct products and services on sale in London alone, according to an educated guess by the complexity economist Eric Beinhocker. If each of them had a single undisputed price, and if Mr Cameron were to memorise every one of those prices at a rate of one a second in some prodigious feat of being-in-touchness, the process would take 317 years.

But ordinary people do know the price of what they buy.

Some do and some don’t. Believe me, I know: one chapter in my first book did little more than note unusual patterns in supermarket pricing. You’d think I had solved Fermat’s Last Theorem from the response that got: many people are genuinely surprised to discover that prices of apparently similar goods vary in intriguing ways from one store to another, or even from one shelf to another. If they really had been paying attention they would know that already.

We’re all out of touch!

Some people know the price of a tin of beans to the penny, and are savvy shoppers. The rest of us simply assume that the savvy shoppers keep the supermarkets honest.

Surely people do at least know the price of a loaf of bread.

Perhaps. There is some evidence – and grumbles from the Competition Commission – that supermarkets use the price of certain products, such as bread and milk, to lure shoppers in before mugging them with a high price for some less familiar product. Far from being a bellwether of the cost of living, there are few prices less informative of what food really costs than the price of a loaf or a pint of milk.

Tough. Politicians have to pay attention to the price of bread. “Panem et circenses” and all that.

Yes, yes – bread and circuses. The lesson through the ages is that nobody cares about what politicians do, so long as people are well fed and entertained. These days, when the political stakes are high, and Mr Cameron’s government has advanced a broad range of substantial changes to the way the country is run, all anybody seems to care about is whether he knows the price of a loaf of bread. That’s the true circus.

Also published at ft.com.

Since You Asked

An energy price cap that does not quite fit

Miliband has promised to pull the plug on a very bad thing

‘Ed Miliband defended his proposal to freeze energy prices … His vow to stand up to “powerful vested interests that hold our economy back” was accompanied by a promise to freeze bills for 20 months if he wins the next election.’ FT.com, September 25

Gosh. Mr Miliband has declared war on the free market!

That’s an excitable way to put it. Prices have been capped before, and not so long ago. Energy companies used to be monopolies or near-monopolies, so regulators imposed price caps. Those caps no longer apply to retail energy, the theory being that the market is now competitive enough.

But this market still isn’t competitive.

It’s much more competitive than it was, and neither the level nor the trend in prices is that unusual compared with other EU countries. No doubt competition could be given a prod, but it’s hard to see how a freeze for a few months can be anything but a stunt.

It will keep prices down, though.

It may. Energy prices do bounce around a lot – and, while they have been rising on average for the past decade or so, they have at times fallen. A freeze might actually keep them high rather than low. But in a way that misses the point. Nobody denies that Mr Miliband, given all the tools of state power to play with, can make retail prices go up, down or any way he wants. The question is whether this would be worth the unpleasant side effects.

He is bringing a sledgehammer to crack a nut, you think.

I think he is bringing a sledgehammer to a nightclub: he’s decided he doesn’t like the atmosphere and he’s determined to change it. And he will – but not necessarily in a subtle or constructive fashion.

What exactly do you think is wrong with a freeze?

Let’s start by acknowledging that this is economically a sideshow. If he is lucky, Mr Miliband’s 20-month cap (why 20 months?) will delay a price rise of 10 per cent or so. Energy spending comprises 5 per cent of the basket of goods used to calculate the consumer price index. So Mr Miliband will, on an optimistic view, postpone (not prevent) a 0.5 per cent rise in CPI. That will help some people but is trivial compared with what he might do with the tax or benefit system.

But it’s still something – so what’s the downside?

The first downside is that it makes UK energy policy look capricious, confrontational and juvenile. That matters because this country urgently needs new electricity generating capacity. If suppliers don’t expect to get the revenue they need to cover their costs, they won’t invest. It’s alarmist to suggest that Mr Miliband will simply scare them away and the lights will go out, but it’s reasonable to expect that they will need more convincing in the wake of his little pep talk at the Labour party conference, which can be summarised simply as: “Your customers vote and you don’t, and I’ll never forget that.” He has achieved the remarkable feat of damaging the country before becoming prime minister; most party leaders wait until they win an election before they start screwing it up.

Mr Miliband isn’t really very scary. Is that the only problem?

He is also ignoring climate change. Reducing greenhouse gas emissions means conserving energy, and generating it using nuclear power and renewables, both of which are probably more uncertain and more expensive propositions than oil, gas and coal. Because of this, prices are rising as a matter of policy – policy that began under the last Labour government, in which Mr Miliband was, I seem to recall, the energy secretary.

High energy prices still cause hardship.

They do, to some people, and they can be helped through taxes and benefits. But we live in a world where climate change is a looming disaster and security of energy supply a serious concern, and where our use of energy remains wasteful. In this context, out of all the things that Mr Miliband could demand should be cheaper, why on earth choose energy?

You’re unimpressed.

Mr Miliband’s message is: “Energy price rises are bad. I will make the bad thing stop.” This shows all the political maturity of a 10-year-old – which does, admittedly, place him firmly in the mainstream of British politics. It’s almost as though he looked enviously at chancellor George Osborne’s Help to Buy policy and wondered if he could possibly find something as crude, populist and ill-advised as that. He has succeeded.

Also published at ft.com.

Since You Asked

A primer on free primary school meals

We know that cost-free hot food boosts attainment but we have no idea why, says Tim Harford

“Nick Clegg will attempt to distance himself from his Conservative coalition partners with a highly political £600m plan to give free school meals to children in their first years at primary school.” Financial Times, Sep 17

Didn’t Jamie Oliver do all this years ago?

Don’t even joke about it. The cheeky fellow did indeed descend upon the London borough of Greenwich, redesign its menus, galvanise dinner ladies and vanquish Turkey Twizzlers. A fresh-faced opposition leader named David Cameron and a fellow called Tony Blair scrambled over each other to praise Mr Oliver in 2005 for refusing to accept the slop that was being served to the nation’s children.

Hadn’t Blair been in charge for a decade by then?

Close enough. And what’s really embarrassing is that he could easily have investigated the hypothesis that healthier meals were good for the nation’s children. Instead, it was left to a celebrity chef and two economists, Michèle Belot and Jonathan James, who examined what happened in Mr Oliver’s wake. Relative to apparently similar London boroughs, pupils in Greenwich seemed healthier and achieved more at school. Perhaps that inspired a pilot study, carried out between 2009 and 2011, investigating the merits of handing out free meals to all primary schoolchildren.

I’ve heard about this – didn’t the pilot find that free school meals for all improved pupils’ academic performance?

It’s a little more subtle than that. We know more pupils had hot meals in Newham and Durham, the pilot areas.

Are we really supposed to be surprised that more children had hot meals?

It’s such an inspiring adjective, isn’t it? Hot. You can forget drizzled with truffle oil, seared and served on a bed of organic seasonal greens; as long as you know it’s hot, all the bases are covered. But it is worth checking this sort of thing. We also know attainment rose: the pupils ended up being about two months ahead of where one might expect in these pilot areas.

But the policy seems to be paying for food for children whose families could easily have afforded food anyway. It’s poorly targeted.

You have a point, but the current free school meals programme doesn’t do a great job of getting free meals to those who need feeding: some poor children are not eligible, and some eligible families do not apply. A parallel pilot programme in Wolverhampton expanded eligibility while retaining a means test. It was not a success. Middle-class families already have healthcare and education paid for by the UK taxpayer. Taxpayer-funded spaghetti bolognese is hardly the biggest of issues.

You’ve convinced me. Free school meals for all!

Not so fast. There are some odd features about the whole business. The first is that Nick Clegg’s Liberal Democrats only want to give the free meals to children up to the age of seven.

One has to start somewhere. And that is the cutest group of children.

The pilot found that the children who benefited more were aged 8-11. What is more disturbing is that the researchers who conducted the pilot have no idea why the meals are helping.

Surely hungry children are distracted, or even too sick to come to school.

That’s the obvious explanation, but attendance did not improve. Behaviour was measured only indirectly and inconclusively. And there’s another puzzle: the kids whose performance improved most were eligible for free food anyway.

So what’s going on?

Three possibilities. One: the only way to get poor children to eat free school meals is to get everyone to eat free school meals. Two: some of the less-poor children in places such as Newham and Durham had been eating badly and their behaviour improved, making classrooms more conducive to learning. Three: the entire thing is an artefact of the way the experiment was run. Kitchens were refurbished; queueing systems were redesigned; parents were informed about the pilot and teachers were trained. It’s possible that the experimenters weren’t able to disentangle the effect of the free grub from the effect of the focus on healthy food.

So what now?

In an ideal world, the government would roll out universal free school meals on a randomised basis in different parts of the country at different times, using that to find out much more about what is going on, whether the effect is real and whether it is value for money.

And in the real world?

In the real world, Nick Clegg will roll out the policy next September, declare victory and run for election.

Also published at ft.com.

Since You Asked

The enduring appeal of the plastic banknote

Durable and functional, the plastic stuff will be popular, writes Tim Harford

‘The Bank of England looks set to part company with paper banknotes after more than 300 years, becoming one of a growing number of central banks around the world to switch to plastic tender.’ Financial Times, Sept 10

Most of us already use plastic, don’t we?

You mean credit cards. The Bank of England is canvassing public opinion as to whether cash itself should be made of polymer instead of cotton paper. These are recognisably notes – you can fold them up and tuck them in a wallet. The idea appears to be a Canadian import. Mark Carney, the new of the Bank of England governor, has already introduced them once, when he was running the Bank of Canada. But it’s true the distinction between the purchasing power of a plastic credit card and the purchasing power of a plastic banknote is a subtle one.

Hardly. There’s all the difference in the world. There’s nothing quite like proper cash in your wallet.

That sort of attitude may explain why the BoE is being so cautious about introducing a polymer note. We’ve had one before in the British Isles – the Isle of Man tried it in the mid-1980s, struggled to prevent the ink smudging and gave up.

But we’ve presumably figured out the technical details by now.

It seems so. Australians have been using them since the late 1980s and they seem perfectly happy. The BoE has been touting their advantages – they last longer, they are much harder to forge, and if you dip them into red wine they wipe clean afterwards.

Is this regarded as an important feature?

Oh, yes. And Mr Carney personally demonstrated that you can use a rolled-up polymer fifty to slurp extra-thick milkshake.



I was under the impression banknotes were sometimes used to help take other mind-altering substances.

I wouldn’t know about that kind of thing. Certainly I am not aware of the BoE providing any demonstration.

It all sounds sensible enough, then. But still – people are possessive about their banknotes.

I’m not sure that’s true, actually. All sorts of objects have served as money. Contracts were denominated in salt; hence “salary”. In the 1990s, Brazil had a currency, the unidade real de valour, that had no physical form whatsoever. Prices in the supermarkets were expressed in URV but people paid using (devalued) the cruzeiro real. The Pacific Yap islanders used 2-tonne stone rings as a form of currency. Prisoners of war have used cigarettes, and have even had to deal with Gresham’s law: “bad money drives out good”. Fat cigarettes were kept for smoking and thin cigarettes were passed as money.

We’re adaptable, then. It sounds as though there’s nothing to worry about.

There’s always room for something to go wrong, but I think this looks like a sensible move. It is amazing that we are so happy to accept paper – or polymer – money. Sometimes it feels like a mass hallucination.

Is the illusion ever broken?

It’s very strong. I recall two musicians, Jimmy Cauty and Bill Drummond – famous as dance band The KLF – filming themselves burning £1m of their own money almost 20 years ago. There was outrage at the waste – despite the fact that, as Mr Drummond himself pointed out, all they had done was burn a pile of paper. He had destroyed his own ability to purchase goods and services, but no actual productive capacity had been destroyed – so, logically speaking, he’d donated £1m (in the form of lower inflationary pressure) to the nation. And, if the BoE had objected, it could have printed another £1m quite easily. Yet few people can bring themselves to accept that argument.

So the new money is durable, hard to forge, and people will embrace it with scarcely a thought because money has a kind of magic.

I think so. Just one thing worries me: how to dispose of the outdated currency. An old form of cash was “exchequer tallies”. These were half-sticks of annotated willow indicating that the government owed money to the bearer; the exchequer retained the other half. In principle, one could travel to London and use the stick to pay one’s taxes but it was more convenient to circulate them as currency. The system was used for more than 500 years, until reformers did away with it. The vast archive of “preposterous sticks” was fed into stoves at the House of Lords in 1834. Alas, the blaze was a little bigger than intended and the Palace of Westminster itself was incinerated. I trust the old cotton banknotes will be disposed of with more care.

Also published at ft.com.

Since You Asked

Low pay and the rise of the machines

Labour could organise a Luddite revolution against technology

‘4.6 million Britons (20 per cent of all employees) earn below the Living Wage – a leap from 3.4 million (14 per cent) in 2009’
The Resolution Foundation – 4 September 2013

4.6m Britons don’t earn a living wage – are they dead?

Very droll. For “living wage” read “decent wage”. The Living Wage (with capital letters) is a target set by campaigners for a good solid hourly wage – currently £8.55 an hour in London and £7.45 an hour elsewhere. That’s 20 per cent above the legal minimum wage rate. A lot of people don’t make that much money. Some of them will be doing just fine – £7 an hour isn’t bad if you’re 17 years old, living with mater and pater and saving up for a gap year somewhere sunny – but others will not.

I feel like I’ve heard about all this before. Why are we talking about it now?

It’s the new narrative for the Labour party. Here’s the awkward thing for Labour: the economy is slowly picking up steam. So how to attack George Osborne, the chancellor? Ed Balls, shadow chancellor, could argue that Mr Osborne deserves no credit for the upturn – that government austerity made the depression longer and deeper than necessary. To an economist that’s pretty plausible. To the voting public it doesn’t seem to have much bite. And so the new story – pushed by Mr Balls and his deputy Rachel Reeves this week – is that while it’s welcome that the economy is recovering, the problem is that hard-working families aren’t benefiting.

Why is it always “hard-working families”? The phrase conjures up images of a family with six kids, all chained together and sent down a coal mine.

Can we skip the stylistic criticism for a moment and talk about the economics?


What is powerful about this story is that there’s a lot of truth to it, and little Mr Osborne can do is likely to change it. And if Mr Balls were chancellor, little he could do would change it either. There are forces at work in the world economy that are making it hard for people with traditionally valuable skills to prosper.

Such as?

As technology becomes cheaper and better, people are replacing “labour” with “capital” – that is, employing fewer people, or paying the people they do employ less, and replacing them with machines or computers. Research published by two economists at the University of Chicago, Loukas Karabarbounis and Brent Neiman, has documented this trend: it’s global, it’s been going on for three decades, and it is happening in many different sectors of the economy. Some people can get more done in an automated world – but others find themselves shoved out of skilled work and into poorly paid alternatives. So inequality increases. The arrival on the scene of China and other major low-wage economies has also played a part.

We need to fight back!

Maybe. Ed Miliband, the Labour leader, could organise a Luddite revolution against the machines. I don’t think that’s what he and Mr Balls have in mind when they talk about “predistribution”.

What do they mean when they talk about “predistribution”?

It means fixing inequality without the need to resort to redistributive taxation. Which raises the question of how. Improving education is one idea – but then who is in favour of worse schools? It also seems to mean bullying big companies to pay better wages to their most junior staff. But pressure has the same consequences as a too-high minimum wage: it can increase wages but it can also destroy jobs.

Perhaps we should look to Germany for answers: they seem to have solved their economic problems and have a strong manufacturing sector.

Germany has been reliant on low-wage jobs and flexible working conditions as much as anyone – perhaps more than most, as the economist Adam Posen has argued. Even employment in China’s manufacturing sector is in structural decline: it was at its highest back in 1996. And you’re missing one important thing about this argument.

Which is what?

Throughout this long recession, economists have been puzzled by the fact that so many people have managed to keep their jobs – or find new jobs. A key part of the answer: falling wages and flexible hours. The UK’s flexible labour market kept the show on the road in the dark days; now it is being blamed, quite reasonably, for the fact that people have jobs that don’t pay very well. Politicians may talk out of both sides of their mouths – but they can’t have it both ways.

Also published at ft.com.

Since You Asked

Have prisoners learned not to snitch?

“They finally tested the ‘prisoner’s dilemma’ on actual prisoners – and the results were not what you would expect”
BusinessInsider.com, July 21

It is amazing that it has taken six decades to get around to testing out the prisoner’s dilemma on real prisoners.

Is it? The prisoner’s dilemma is a little fable economics teachers use to make a formal example more memorable. It was never actually a prediction of how prisoners behaved. Presumably you also think it’s remarkable that two and a half thousand years after Aesop, nobody has got around to re-enacting “the Tortoise and the Hare” with a real hare?

Grumpy today, aren’t we?

Well, I do feel that the prisoner’s dilemma has unjustly monopolised the popular imagination of what game theory is all about. Game theory attempts to analyse situations where a few people interact in such
a way that they need to take each others’ behaviour into account. The prisoner’s dilemma is just one such example.

Why has it garnered so much interest?

Partly because it seems to produce a paradox, and partly because there’s a good story to go with it. Two suspects are charged with a serious crime, carrying a sentence of 20 years. There’s only enough evidence to convict them of something more trivial, with a sentence of two years. The prosecutors tell each prisoner that if he confesses to their joint guilt, his sentence will be halved. Furthermore, if he confesses and the other prisoner is silent, he won’t even be charged with the more serious offence.

Hang on, let me get a pencil.

The prisoner’s dilemma, then, is that you get one year if you confess and the other guy stays silent, two years if you both stay silent, 10 years if you both confess and 20 years if you stay silent and the other guy confesses. The apparent paradox is that no matter what the other prisoner does, you will improve your own situation by confessing – yet as a pair the prisoners would be much better off if they could somehow both commit to remain silent. So the dilemma is seen to symbolise all sorts of problems of social co-operation.

You seem sceptical.

Well, the prisoner’s dilemma has a dark beauty to it but as a model of real life it’s not great – when the game is changed so that the prisoners are put in the same situation repeatedly, for instance, the results change. A less famous game, known as the “stag hunt”, is often a better model for the difficulty of co-operating. A run on a bank is not much like a prisoner’s dilemma but a lot like a stag hunt.

Are you not curious to know what the prisoners did when faced with the prisoner’s dilemma?

Oh, I certainly am curious – curious enough to look up the research. The researchers, Menusch Khadjavi and Andreas Lange, conducted low-stakes prisoner’s dilemma experiments both with female prisoners and female students. The headline-grabbing result: prisoners co-operate with each other more than students do.

What does that tell us – that prisoners take care of each other? Or that they fear reprisals?

Probably not reprisals: they were promised anonymity. It’s really not clear what this result tells us. We knew already that people often co-operate, contradicting the theoretical prediction. We also know, for instance, that economics students co-operate more rarely than non-economists – perhaps because they’ve been socialised to be selfish people, or perhaps because they just understand the dilemma better.

You think the prisoners just didn’t understand the nature of the dilemma?

That’s possible. The students were much better educated and most students had played laboratory games before. Maybe the prisoners co-operated because they were too confused to betray each other.

That seems speculative.

It is speculative, but consider this: the researchers also looked at a variant game in which one player has to decide whether to stay silent or confess, and then the other player decides how to respond. If you play first in this game you would be well-advised to stay silent, because people typically reward you for that. In this sequential game, it was the students, not the prisoners, who were more likely to co-operate with each other by staying silent. So the students were just as co-operative as prisoners but their choice of when to co-operate with each other made more logical sense.

First published on FT.com.

Since You Asked

Welfare and the Tinker Bell policy

The UK benefits cap is a stunt policy designed to win attention, writes Tim Harford

‘The benefit cap starts being introduced across the country today, restoring fairness to the welfare state . . . with the amount of benefits working-age households can claim limited to the average working wage – £500 a week.’ Press release from the Department for Work and Pensions, July 15

“Restoring fairness to the welfare state.” I like that.

Indeed. The government spends about £2,500 per citizen a year on benefits – £160bn in total – and this policy is projected to save about £3 per citizen a year in the long run. That’s an awful lot of “restoring fairness” resting on a very small sum of money.

Surely it’s the symbolism of the thing.

Less “restoring fairness” than “creating the superficial appearance of fairness”, then? This is a stunt policy, designed to win attention, and I am depressed that you insist on talking about it. I think we should treat Iain Duncan Smith, the work and pensions secretary, the way we treat a three-year-old boy who blows raspberries in public: don’t point and make a fuss, because you’ll only encourage him to do something similar again.

All very well for you to suggest that the policy’s impact is tiny and we should ignore it – households affected by the benefits cap can’t just pretend it isn’t happening.

That is true. The DWP believes that 40,000 households will see their benefits reduced – and 20,000 households will see benefits reduced by £62 a week or more. So with some misgivings, let’s talk about the merits of the policy. We can think about it morally, practically, politically or not think about it at all. Mr Duncan Smith is firmly in the “don’t think about it at all” school of thought. He has made the statistically unsupportable claim that the threat of the benefits cap has pushed people back into work. He has been censured for this by Sir Andrew Dilnot, who chairs the UK Statistics Authority, and when challenged about it he responded that “I have a belief that I’m right”. It’s the Tinker Bell school of public policy: if you believe in fairies, the fairies will live.

If we vetoed any policy just because a foolish or duplicitous minister was attached to it, nothing would ever happen. Ignore Mr Duncan Smith: what about the policy itself?

There’s obvious moral appeal to the idea that people should get more money if they work than if they don’t. But this policy appeals to that moral intuition only in a crude way. What, for instance, is the moral significance of average wages? By definition – since the DWP tells me this is the median average – half of working households earn less than that. Then there’s the regional issue: the cap is national, but whether you look at the cost of living or the average wage, £26,000 looks a lot less generous in London than it does on Tyneside. In any case, working households earning £26,000 after tax enjoy plenty of top-up benefits. The figure of £26,000 sounds plausible but it could scarcely be more arbitrary.

But even if the ethical case is a bit vague, perhaps there is a practical case. Mr Duncan Smith believes that the cap will encourage people to find work.

That is plausible, although if Mr Duncan Smith had convincing evidence to support his belief he wouldn’t need to abuse the data he does have. But “will the benefit cap encourage some people to find work?” is not a very good question to ask. A well-designed benefits system looks at incentives in more detail. The issue isn’t whether a family on benefits is making more money than some entirely irrelevant benchmark. It’s what the effective marginal tax rate is as benefits are withdrawn when a household member gets a full or part-time job at a low wage. Mr Duncan Smith also seems uninterested in the cost of withdrawing benefits – both for the innocent children whose parents are claimants, and for the administrators who must figure out the details. Thanks to a leak, we know that Eric Pickles, the communities secretary, thinks the policy may leave the taxpayer worse off because of the administrative fiddliness and the cost of temporary housing for the suddenly homeless.

But it may still work.

Whether it works or not seems to be irrelevant. If the DWP cared about that, it would have run a randomised controlled trial of the policy. Instead it ran a pilot with the aim of ironing out the kinks. Why bother finding out whether the policy will work? As a DWP spokesperson informed me, “the policy is already decided”.

Also published at ft.com.

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