The opportunity cost of war

John Quiggin46 Comments

Among the responses to this post on the costs and benefits of the Iraq war, quite a few commenters doubted that it was reasonable to express the opportunity cost of war in terms of the alternative of an allocation to foreign aid.

This NY Times editorial refers to the fact that the main EU nations have finally made a serious commitment to increase overseas development aid to 0.7 per cent of GDP, a target that’s been around for a long time, but never reached. The US currently gives about 0.2 per cent, and an increase to 0.7 per cent would cost around $50 billion per year, which is pretty close to the annual cost of the Iraq war effort. It’s the one major country that’s holding out against making any sort of commitment.

Of course, it might be said that Americans, unlike the citizens of other developed countries, are prepared to pay to kill people, but not to help them, so the opportunity cost calculation is still irrelevant. Apart from being closely akin to the slur that Arabs are incapable of handling democracy, this runs up against the problem that many Americans support the view that the US government should give large amounts of foreign aid, well in excess of 0.7 per cent of GDP. The problem is that they imagine that the government is actually doing this on a still more lavish scale. On average, Americans think that 24 per cent of US government expenditure is allocated to foreign aid – the true figure is 1 per cent.

A more plausible objection is that it’s possible to do both. The UK was part of the Iraq war (though its contribution, in relative terms was much smaller than that of the US) and it has committed itself to meet the 0.7 per cent goal. To this my response is, let the US make a substantial commitment on aid first, and then it will be time to recalculate the opportunity costs of war.

UpdateHere’s a US criticism of aid in general

The PC on the failure of infrastructure reform

John Quiggin36 Comments

My Fin article last week (over the fold) was about telecommunications, and included the statement

It is true that prices have fallen, but … the rate of decline is no more than would have been expected from technological change…. [the outcome is] common to infrastructure reform in general. Although employment in the infrastructure services sector was slashed during the reforms of the 1980s and 1990s, and labour productivity rose impressively, household consumers saw little if any benefit. The gains were swallowed up by an explosion in the numbers and pay of senior managers, by increased rates of return demanded by investors in the new and riskier and environment and by various forms of ‘rebalancing’, which typically benefitted business at the expense of households.

This point is neatly confirmed by the PC report on National Competition Policy, which shows that households are paying higher prices for nearly all infrastructure prices as a result of reform, mainly because of shifts in costs from households to business.

The PC report notes declining average prices for most infrastructure services. However, as with telecommunications, there was, in most of these cases, a long-standing trend of declining prices before reform began. There’s no evidence to suggest that average prices have fallen faster (or in cases like urban transport, risen less) than would have been the case without reform.

The absence of any net change in average prices, relative to trend means that the effects of infrastructure reform have been almost entirely distributional. The losers have been household consumers of infrastructure services and workers in infrastructure industries. The winners have been senior managers and capital owners in the infrastructure sector and business consumers of infrastructure services. Presumably, businesses have passed on some of the savings to their consumers. And, in the case of publicly owned infrastructure services, households benefit in their capacity as members of the public.

Overall, though, it’s not surprising that there has been little enthusiasm from Australian households for another round of reform. The last round produced plenty of pain, and not much in the way of gain.
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The Productivity Commission and National Competition Policy

John Quiggin10 Comments

I spent a good deal of my academic time in the 1990s arguing with the Industry Commission (now the Productivity Commission) about their estimates of the benefits of microeconomic reform and, in particular the ‘Hilmer reforms’, enshrined in National Competition Policy. My main target was their estimate that NCP would raise Australia’s national income by 5.5 per cent relative to the level that would be obtained without reforms. I suggested that the likely benefits were less than 1 per cent.

In their latest report, available as a PDF download, the PC splits the difference, claiming a net benefit of 2.5 per cent. Reading a bit more closely, the ground they’ve conceded is even greater. The PC estimates cover not only NCP but the entire program of microeconomic reform including tariff reform, financial deregulation, labour market reform and so on. And, whereas the earlier estimates were for a five-year time frame, with more to come in future, the PC implicitly concedes that Australia’s productivity growth, after rising substantially between 1993-4 and 1998-9 fell back to the historical average rate, or below, from 2000 on.

One point on which the PC is holding its ground is that of work intensity. I’ve argued consistently that the upsurge in measured productivity in the middle and late 1990s was due, at least in part, to increases in the pace and intensity of work. They say

Further, contrary to the contention of some commentators (see, for example, Quiggin 2001), greater work intensity — manifest in longer working hours and an increased pace of work — does not provide a credible explanation for the sustained improvement in Australia’s productivity performance. The impacts of changes in hours worked are explicitly accounted for in measures of productivity growth. And claims that the productivity improvement would be temporary because of an unsustainable pace of work are inconsistent with the extended period of strong productivity growth that has been observed in Australia.

This argument fails because the supporting premise “an extended period of strong productivity growth” is false. As I’ve already observed, above-average productivity growth ceased after 1998-99. This is exactly consistent with a once-off increase in work intensity.

There’s some fancy footwork going on with levels and rates of change here. I’ve asserted that productivity growth based on increased work intensity is unsustainable in the sense that while you can increase work intensity for a few years, the process has to come to a halt. If the higher levels of intensity are maintained, productivity growth will return to its previous rate, but the increase in productivity level will be maintained. A stronger notion of ‘unsustainable’ is that the increase in effort will be reversed, and productivity growth will be below-average until the temporary increase in levels is lost. There is some evidence of a reduction in work intensity over the past few years, but it’s clear that much of the increase in the 1990s has been sustained.

What’s left in the case for microeconomic reform is not the productivity gains that were originally[1] promoted but the proposition that microeconomic reform has contributed to our good macroeconomic performance over the past fifteen years. There are a lot of problems with this claim. Most obviously, we were well into the micro reform push when the 1989-90 recession began. More importantly, our current strong performance seems heavily dependent on low interest rates, and it’s hard to see how these can be sustained with a large trade deficit and an expanding current account deficit. Still, this is one area where I’ve been overly pessimistic in the past, and we’ll just have to wait and see whether we can get back on to a sustainable trade path without a recession or serious slowdown.

fn1. Actually, this isn’t quite right. In the early 1980s, microeconomic reform was promoted on macroeconomic grounds, as providing the increased flexibility that would permit a sustained macro expansion without running into export bottlenecks and current account deficits (at that time, assumed to be unsustainable). These claims were abandoned after the 1989-90 recession and attention focused on productivity growth.

What I’ve been reading

John Quiggin4 Comments

As mentioned last week, <a href="https://johnquiggin.com/index.php/archives/2005/04/10/what-ive-been-reading/ “In Defense of Globalization” (Jagdish Bhagwati) , along with Diversity in Development: Reconsidering the Washington Consensus There’s a draft of a review article over the fold. Comments much appreciated.

Moving on, I’ve read an advance copy o“Freakonomics : A Rogue Economist Explores the Hidden Side of Everything” (Steven D. Levitt, Stephen J. Dubner) The book contains a chapter defending the (mildly surprising) conclusion that having a black-sounding name like DeShawn is not a disadvantage in the US, once you take account of the class, education and family backgrounds variables typically associated with such a name. My first thought is that, in view the name Levitt and Dubner have given their baby, they must be pretty confident on this point. My second is that, if you haven’t already, you should read Baby’s Named a Bad, Bad Thing
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The expected utility of voting

John Quiggin3 Comments

In the comments thread to Chris’ post on tactical voting at Crooked Timber, Michael Otsuka very sensibly suggests

I believe there’s an extensive, sophisticated social science literature on the expected utility of voting in elections which has made some progress beyond the speculations posted above. Could anyone who’s up-to-speed post a reference to an accessible summary to save us the trouble of trying to reinvent the wheel?

This brings me to one of those papers I’ve been meaning to write for years (I wrote a several drafts of a joint paper with Geoff Brennan, but we never quite converged), and which has finally (2005!) been written by someone else. The idea was to prove an assertion I’ve made quite a few times in academic papers, and here at CT, that, as long as voters have ‘social’ rather than ‘egoistic’ preferences, the expected utility of voting is independent of the size of the electorate, and potentially large enough to justify high levels of participation. You can read this paper by Edlin, Gelman and Kaplan (PDF file). There’s an excellent appendix on why the probability of a decisive vote is of order 1/n.

There’s still the question of why people vote when one side or the other is bound to win. EGK have a go at this, and in my paper[1] on the subject, I say

This approach, in which b [the social benefit of the preferred party winning] is a simple step- function, may be replaced by a more sophisticated one in which b depends not only on the party elected, but on the size of its majority. This would be consistent with the fact that there is a substantial, though normally reduced, turnouts in elections which are perceived as foregone conclusions.)

That’s not a complete solution, and I think it’s also important to consider that voting per se is considered as a social duty or as yielding social benefits, but I think it’s at least as important as expressive motives.

fn1. Quiggin, J. (1987), Egoistic rationality and public choice: a critical review of theory and evidence’, Economic Record 63(180), 10–21.

The market can stay irrational longer than you can stay solvent

John Quiggin25 Comments

Brad DeLong has a great post on the puzzle of low US interest rates (made more puzzling by the sharp decline over the past week or two). It seems obvious that this can’t last, but entirely unclear when it will come to an end. The reasons he and I (and more relevantly George Soros and Warren Buffett) aren’t betting on, and therefore accelerating, the end are argued pretty well, I think.

I’ll add my own contribution to the discussion over the fold. It’s a comparison of views of the economy based on flows of goods and services and those based on asset prices. On the former (traditional) view, the signs of impending disaster are everywhere. On the latter view, it’s sunny skies as far as the eye can see.
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Weekend reflections

John Quiggin11 Comments

This regular feature is back. The idea is that, over the weekend, you should post your thoughts in a more leisurely fashion than in ordinary comments or the Monday Message Board.

Please post your thoughts on any topic, at whatever length seems appropriate to you. Civilised discussion and no coarse language, please.

Dead horse, assume the position

John Quiggin5 Comments

In a stunningly original essay in today’s Australian, Stephen Matchett assails ” Elitist dismissal of mass entertainment as intellectual ‘prole food'”, when it is in fact, “recognisably subversive”[1]. He’s quoting one Alan McKee, who turns out to be a fellow Brisvegan and (via Google) a colleague of mine at UQ. Reading between the lines, I suspect McKee has more to contribute than this hackneyed point (he makes a valid observation about omnivorousness and cultural capital later on), but he’s not well served by this piece.

No doubt there are people out there who still adhere to the idea of a fundamental and unbridgeable gap between art and mass culture, but I’ve followed debates on this and related topics around the blogosphere for a few years now without running into them (probably, they’re waiting for this Internet fad to pass before they get a computer). The real problem now is to articulate some sort of criteria from distinguishing good from bad that does not rely on the failed assumptions of high art.

fn1. I see this point being made all the time in cult-stud writing. No doubt it explains why the recent collapse of capitalism, in the face of withering postmodernist critiques, began in the United States, the home of mass culture.

Preferential voting for Britain ?

John Quiggin21 Comments

I was thinking about Chris Bertram’s post on tactical voting at CT and I was struck by the thought: Why hasn’t Labour introduced preferential (single transferable) voting in Britain? Readers will probably be struck by the alternative question, Why should Labour introduce preferential (single transferable) voting in Britain?

My first is that this would be an improvement in democracy, both for individual constituencies and for the country as a whole. Although no voting system is perfect, preferential voting is much more likely to produce an outcome that reflects the views of the majority of voters than is first-past-the-post.

I don’t suppose that an argument like this will cut much ice with the Blair government (or most incumbent governments), so let me move to the second point. Labour would almost certainly benefit from this shift, at the expense of the Tories. It seems pretty clear that Labour would get the bulk of LDP preferences, as well as those of the Greens and minor left parties. The Tories would pick up preferences from UKIP (but this group looks like a flash in the pan) and the far-right (but this is a small group, and there are disadvantages attached to such preferences, especially if, say, the BNP demands preferences in return).

It’s true of course that the biggest benefits would go to the Liberal Democrats, since their supporters would not have to worry about ‘wasted votes’. But even here, there’s a hidden benefit for Labour. Sooner or later, there will be a hung Parliament, and the price of LDP support will be full-scale proportional representation. If Labour introduced preferential voting without being forced to, it would not only cement LDP support but would greatly weaken the case for PR.

The remaining objection is that of additional complexity. This can be overcome, in large measure by adopting the optional preferential system, where voters can indicate as many or as few preferences as they choose.