In a series of articles for Independent Australia, I’ve been looking at how the pandemic has exposed, even more sharply, the zombie ideas that survived the GFC, and gave rise to my book Zombie Economics. The latest instalment is on privatisation. The next will be on austerity.
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John Quiggin 
A genuine question: what privatisations have really worked?
Think of the integrations of telecommunication and IT. Telecoms have mostly been privatised, and we have choice and innovation barely credible to someone who remembers the weeks it took to get a new black dial phone only forty years ago. I know that much IT innovation was based on R&D in the public and not-for-profit sector, but much (perhaps the great majority) was carried out in the private sector. Does any of the innovation come from the actual privatisation?
It’s an old problem. The firm is publicly run because it is close to being a natural monopoly. If you privatize it without splitting it up and thereby increasing costs then you need to regulate it to stop it abusing its monopoly power. But we know from Economics 101 that regulating a monopoly is difficult because price/rate of return restrictions reduce incentives to be innovative and to cut costs.
06’s question about telecommunications is interesting. I too remember getting our first phone at home in NSW in the 1960s and I think the weighting period was at least 6 months. When I stayed in Illinois in the early 1980s I remember being surprised that a fixed-line connection could be established in a day. I assume that this part of the telecommunication firm’s operations is competitive because they don’t involve natural monopoly elements so you get better efficiencies.
I know the worse ones. If the Government had kept the CBA it would be at least $50 billion better off.
And the energy ones have not worked well at all either for customers or for a coherent clean energy policy.
Happy to say I was wrong on privatisation in general, although still with some reservation about how inefficient and overstuffed most government businesses were on the 1970s and 80s.
David Ricardo gets a walk-on part in the Independent piece, so a thought about him is just on topic.
His “theory of Ricardian equivalence” is a speculation in the 1820 Essay on the Funding System (no text available online, come on libertarian think-tanks). According to Wikipedia, he explicitly doubted it was true. More, he did not think it very important. The final 1821 edition of his masterwork, The Principles of Political Economy, has 33 chapters including marginal issues like “Taxes on Gold”. There is no chapter on equivalence, nor one on the public debt.
Ricardo was a successful bond speculator and active backbench MP. If Britain’s 290% debt-to-GDP ratio (modern estimate for 1815) had been a real problem at the time, he would have written about it. There is no mention of debt interest in the introductory chapter “On Taxes”. There is perhaps a technical reason for his neglect of debt in that British government bonds were overwhelmingly perpetual at the time. The face value of such bonds is of no interest, and the question for public finance is whether the interest coupons can be serviced from taxes. In 1815, maybe 10% of British GDP (better estimate wanted) went on such debt service. Even that failed to excite Ricardo’s acute mind. It is very doubtful if it weighed on lesser mortals.
Trick question for fans of Ricardian equivalence. It’s September 1805, before Trafalgar, and you are PItt deciding whether to tax or borrow to prosecute the war, which is going badly. Does Ricardian equivalence hold without myopia when there is a very significant chance (evens maybe) of Napoleon winning? That would have very bad consequences for the English ruling class. You would expect that to raise interest rates and tip the argument in favour of taxation. IIRC that’s not what happened.
Wikipedia quotes this barbed encomium from a friend:
“It is this very quality of the man’s mind, his entire disregard of experience and practice, which makes me doubtful of his opinions on political economy.”
How lucky we are that Ricardo’s heirs in economic theory are utterly different!
Is this it James?
ESSAY ON THE FUNDING SYSTEM
Under this head we propose, first, to give an account of the rise, progress, and modifications of the SINKING FUND, accompanied with some observations as to the probability of its accomplishing the object for which it was instituted; and next, briefly to consider the best mode of providing for our annual expenditure both in war and peace,—an inquiry necessarily involving the policy of that SYSTEM OF FUNDING of which the sinking fund was long considered as one of the principal recommendations and props.
…
A complicated system may perplex and mislead, but it can never ameliorate.” Accordingly, Dr Hamilton has shown, that the whole amount of taxes that would have been paid in twenty years, for an annual loan of 11 millions on the old plan of a sinking fund of 1 per cent., would be 154 millions. On Lord Henry Petty’s plan, these taxes would, in the same time, have been 93 millions,—a difference in favour of Lord Henry Petty’s plan of 51 millions; but to obtain this exemption we should have been encumbered with an additional debt of 119,489,788l. of money capital, which, if raised in a 3 per cent. stock at 60, would be equal to a nominal capital of 199,149,646l
https://oll.libertyfund.org/titles/ricardo-the-works-of-david-ricardo-mcculloch-ed-1846-1888#lf0454_head_084
David Ricardo, The Works of David Ricardo (McCulloch ed.)[1846]
https://oll.libertyfund.org/titles/ricardo-the-works-of-david-ricardo-mcculloch-ed-1846-1888
The EMH Aten’t Dead
…
“But in the spirit of the whole rationality thing, I want to gently challenge what looks more like a case of ‘back-slaps for the boys’ than a death knell for efficient markets.
First: how the heck did the market get the coronavirus so wrong?
– The Great Coronavirus Trade
– The EMH Gets Stronger With Every Attack
Most edges can’t even be spoken out loud without disappearing. If stocks systematically rise on the third Thursday of each month but only under a waxing moon, and then someone writes about it in public, you can kiss that anomaly goodbye. The EMH sucks it into its gigantic heaving maw, and it’s gone forever.
In other words: every time someone picks a hole in the theory and points out an inefficiency, they make the predictions generated by the EMH more robust! It’s like some freaky shoggoth thing that Just. Won’t. Die.
https://www.lesswrong.com/posts/utySCY9nJt9xGYGGQ/the-emh-aten-t-dead
KT2: Thanks! Interesting that Ricardo uses 3% as an illustrative bond rate. That shores up my 10% of GDP guesstimate for debt interest.
Consols paid 3% from 1751 to 1889. GDP was not measured until much later, but 10% in debt interest looks too high, given that total government share of GDP is estimated at 10% – and apart from debt has to include military expenditure, the civil list and other subsidies to the upper crust.
Correction: Ricardo (in KT2’s extract) suggests the 3% consols would be sold at 60, implying a 5% interest rate. It looks as if the policy was to hold the coupon constant and allow variation in the issue price. The modern calculation of a 290% debt-to-GDP ratio may be using the uninformative higher face value of the bonds, which would inflate the valuation of the debt. Still, my 10% of GDP for debt interest looks reasonable. The peacetime Army and Navy cost vastly less than the war ones, the civil list was trivial, and Liverpool’s government matched the libertarian nightwatchman ideal of no public services: it didn’t even run a police force, let alone schools, hospitals, sewerage and state pensions. So the main item in the budget must have been debt interest.
I posted Siris on this last week. Soros’ take on Consols below. I do not understand who and why anyone would buy when redemption may be a behest of ruling party and maybe 70+yrs before repay??? My brain and financial pisition can’t compute why productive capital is tied for such a length of time. 166 years???!!! Makes discounted cash flow look ridiculous. DR od 0.0001%?? Consol buyer says; “I chose to accept rate of – whatever the government decides over 4+ generations”.? I am missing something. Sounds cheap and sensible for government cash flow.
“In 1757, the annual interest rate on the stock was reduced to 3%, leaving the stock as Consolidated 3% Annuities. The coupon rate remained at 3% until 1888. In 1888, the Chancellor of the Exchequer, George Joachim Goschen, converted the Consolidated 3% Annuities, along with Reduced 3% Annuities (issued in 1752) and New 3% Annuities (1855), into a new bond, 23⁄4% Consolidated Stock, under the National Debt (Conversion) Act 1888 (Goschen’s Conversion). Under the Act, the interest rate of the stock was reduced to 21⁄2% in 1903, and the stock given a first redemption date of 5 April 1923, after which point the stock could be redeemed at par value by Act of Parliament. ”
https://en.m.wikipedia.org/wiki/Consol_(bond)
The Crisis of a Lifetime
May 11, 2020
GREGOR PETER SCHMITZ
interviews GEORGE SOROS
…”That will consume a lot of the ECB’s attention when it is the only really functioning institution in Europe that can provide the financial resources needed to combat the pandemic. Therefore, it should focus its attention on helping Europe to establish a Recovery Fund.1
GPS: Do you have any suggestions where these resources could come from?
SOROS: I have proposed that the EU should issue perpetual bonds, although I now think that they should be called “Consols,” because perpetual bonds have been successfully used under that name by Britain since 1751 and the United States since the 1870s.
Perpetual bonds have become confused with “Coronabonds,” which have been rejected by the European Council – and with good reason, because they imply a mutualization of accumulated debts that the member states are unwilling to accept. That has poisoned the debate about perpetual bonds.
I believe that the current predicament strengthens my case for Consols. The German court said that the ECB’s actions were legal because they adhered to the requirement that its bond purchases were proportional to the member states’ shareholding in the ECB. But the clear implication was that any ECB purchases that were not proportional to the ECB “capital key” could be challenged and deemed ultra vires by the court.
The kind of bonds that I have proposed would sidestep this problem, because they would be issued by the EU as a whole, would automatically be proportional, and would remain so eternally. The member states would have to pay only the annual interest, which is so minimal – at, say, 0.5% – that the bonds could be easily subscribed by the member states, either unanimously or by a coalition of the willing.
European Commission President Ursula von der Leyen says that Europe needs about €1 trillion ($1.1 trillion) to fight this pandemic, and she should have added another €1 trillion for climate change. Consols could provide those amounts if the EU’s member states authorized them.
Unfortunately, Germany and the “Hanseatic League” states led by the Netherlands are adamantly opposed. They should think again. The EU is now considering doubling its budget, which would provide only about €100 billion and yield only one-tenth of the benefit that perpetual bonds could provide. Those who want to keep their EU budget contribution to a minimum ought to support Consols. They would have to authorize certain taxes, like a financial-transaction tax, that would provide the EU with its own resources, assuring its AAA rating, but the taxes would not have to be imposed – their place would be taken by Consols. Both these parties and the rest of Europe would be much better off. Annual payments of €5 billion, whose present value would continuously decline, would give the EU €1 trillion that the continent urgently needs – an amazing cost-benefit ratio.
Both these parties and the rest of Europe would be much better off. Annual payments of €5 billion, whose present value would continuously decline, would give the EU €1 trillion that the continent urgently needs – an amazing cost-benefit ratio.
https://www.project-syndicate.org/onpoint/the-crisis-of-a-lifetime-by-george-soros-and-gregor-peter-schmitz-2020-05
The nets give a figure for 1820 of 17.1 million pounds for defence, 4.9 million for all other spending and 31.1 spending on interest (total spending 57.5), estimated gdp of 497 million pounds.
So government spending a bit higher than 10 per cent and interest about two thirds of government expenditure. Worth noting that this was very largely a direct transfer to the landed classes.