Posts Tagged ‘John Kay’

banking in crisis-prone USA and dull Canada

Thursday, June 5th, 2014

Mark Carney, governor of the Bank of England, is rightly admired for his handling of the global financial crisis. But perhaps the key fact is not that he is Mr Carney, but that he is Canadian, and the bank of which he was previously governor was the Bank of Canada. ….

The US had a uniquely fragmented and fragile retail banking structure, the product of a long-term alliance between community bankers and agrarian populists, made possible by a system jealous of states’ rights. This was replaced towards the end of the 20th century by a network of financial conglomerates controlled by deal makers and traders, who had a decisive hand in stimulating the subprime mortgage boom; a new, bizarre and disastrous play in the game of bank bargains.

Profs [Charles] Calomiris and [Stephen] Haber describe Canada’s mortgage market as displaying “enviable dullness”: but they might have applied the phrase to Canada’s financial system and some might extend it to the country itself.

Capital markets, regulatory institutions and the behaviour of people employed in the financial sector are neither predetermined nor universal, but rather the product of culture, history and the political system. That is a perspective developed effectively by Profs Calomiris and Haber.

John Kay, “Why banking crises happen in America but not in Canada“, Financial Times, 4 June 2014 (ungated link).

Mr Kay is reviewing Fragile by Design: The Political Origins of Banking Crises and Scarce Credit, by Charles W. Calomiris and Stephen H. Haber (Princeton University Press, 2014).

reforming the economics curriculum

Wednesday, May 21st, 2014

Students of economics are in revolt – again. A few years ago, even before the crisis, they established an “autistic economics” network. After the crisis, in 2011, a Harvard class staged a walkout from Gregory Mankiw’s introductory course. That course forms the basis of textbooks prescribed in universities around the world. This year, 65 groups of students from 30 countries established an International Student Initiative for Pluralism in Economics. In no other subject do students express such organised dissatisfaction with their teaching. ….

Their demand for more pluralism in the economics curriculum is well made. Yet much of the “heterodox economics” the …  students suggest including is flaky, the creation of people with their own political agenda, whether Marxist or neoliberal; or of those who cannot do the mathematics the dominant rational choice paradigm requires. Their professors reject the introduction of these alternative schemes for the same good reasons their science colleagues would reject phlogiston theory or creationism.

Yet teachers are mistaken in their conformity to a single methodological approach – encapsulated in the claim that has taken hold in the past four decades that approaches not based on rational choice foundations are unscientific or “not economics”. The need is not so much to teach alternative paradigms of economics as to teach that pragmatism, not paradigm, is the key to economic understanding.

John Kay, “Angry economics students are naive – and mostly right“, Financial Times, 21 May 2014.

Ungated access here.

GDP is a flawed measure of output

Wednesday, April 16th, 2014

Gross Domestic Product (GDP) has many flaws, some of which are well-known. It ignores unpaid work, for instance, including work done, mainly by women, caring for young children, the elderly, the infirm – even a spouse and adult children. The famous example from first-year economics is that GDP would go up if everyone took in their neighbour’s wash, charging each other for laundry services. With few exceptions (imputed rent for owner-occupied housing is an important one), GDP is a measure of market transactions.

FT columnist John Kay thinks that the problem is more serious than many realize. GDP, he explains, measures poorly even what it is supposed to measure.

At Oxford university, many students regard attendance at lectures as optional. So teachers who fail to enlighten or entertain end up talking to empty rooms. A malicious fellow student measured lecturing performance by computing the ratio of attendance at the start of a course to attendance at the end. The highest score was earned by the hapless teacher of a first-year course on national income accounting.

Few universities now offer such a course. They have responded, or pandered, to student preferences, and the economics curriculum has moved on. Not necessarily in a good way; national income accounting … is no longer well understood. ….

And national income accounting cannot handle the financial services sector. Reported output of financial services rose dramatically during the 2008 financial crisis. This nonsensical result arises because the measurement of financial services output is strongly influenced by the margin between average bank lending and borrowing rates, which increased sharply. When someone confidently quotes the contribution of financial services to national income, you can be sure they have no understanding of the esoteric concept of “financial services indirectly measured” (don’t ask). Only a few people in the depths of national statistics offices do. This problem casts doubt on the validity of reported growth rates both before and after the crisis.

It once puzzled me that many economists in the financial sector forecast and discussed GDP without knowing what it was. I have since realised the job of market pundits is not to forecast GDP but to forecast what the statistics office will announce is GDP, and that is not at all the same.

John Kay, “GDP is flawed – just not the way most people think“, Financial Times, 16 April 2014.

There is much more in the full column, which can be downloaded at the link or, in a few days, at www.johnkay.com

supporting scientific research

Saturday, February 22nd, 2014

It is sad that Senator Tom Coburn is stepping down from the Senate because of ill health, but less sad that he is stepping down. The blend the Tea Party brew is rather weak for Mr Coburn, who believes research should be useful and has firm views of what is useful. ….

Mr Coburn’s greatest ire was reserved for the funding of political science. He believes that people who want to understand politics can watch Fox News – though he conceded that some might prefer to pay attention to CNN and MSNBC. Last year he tagged an amendment to an omnibus bill that blocked grant funding to academic research in this field. ….

Politicians can always win cheap laughs by reading out the titles of research projects they do not understand. In the early years of Margaret Thatcher’s premiership, her minister Sir Keith Joseph tried to abolish the then Social Science Research Council but a report commissioned from Victor Rothschild failed to deliver the desired verdict.

Rothschild used the example of research on “kinship and sex roles in a Polish village”, a project description that had provoked much merriment in the UK public accounts committee. A respondent pointed out that the work showed how the inefficiency of fragmented land holdings increasingly tended by ageing women gave rise to economic cost and political tensions. We now know that such tensions grew in Poland in the following decade. And then the Berlin Wall came down. ….

Of course, there is a lot of bad and useless research. But … it is difficult to decide which research is useless or how research will influence our lives. The most immediate practical offshoot of particle physics research had nothing to do with particle physics at all: the worldwide web began as a means of enabling the scientists involved to keep in touch.

John Kay, “Philistines may carp but scientists should reach for the sky“, Financial Times, 19 February 2014. (ungated link)

Thomas Coburn (born 1948) is a Republican Senator from Oklahoma, medical doctor and Southern Baptist deacon. He is a social conservative who opposes gay rights and embryonic stem cell research, and supports term limits, gun rights and the death penalty.  Sir Keith Joseph (1918-1994), a Conservative politician, was influential in creating the political philosophy known as “Thatcherism”.

John Kay on inequality

Wednesday, December 4th, 2013

There is nothing new here, but I found the entire column interesting, perhaps because I agree with it.

Some inequality is inevitable, and there seem to be three principal factors that make it more tolerable.

Inequality is easier to accept if everyone is becoming better off. Recent dissatisfaction in Britain and the US is significantly attributable to the fact that while some have grown much richer, median incomes have not increased. The criticism that the rapid economic growth of China and India has been accompanied by rising inequality is mainly made from outside these countries.

Inequality is easier to accept if the beneficiaries have benefited people other than themselves. Bill Gates’s extraordinary wealth causes little resentment because he is associated with technological innovations that have transformed business and personal life. Financiers rarely attract similar approval because – sometimes rightly, sometimes wrongly – they are suspected of appropriating wealth created by others rather than engaging in genuine wealth creation.

And inequality is more tolerable if its beneficiaries behave well. Mr Gates has chosen to devote his Microsoft fortune and his time to philanthropy rather than fly in entertainers and exotic foods for lavish parties. Investor Warren Buffett lives in the Omaha bungalow he purchased 50 years ago.

John Kay, “London’s mayor is half right on envy, greed and inequality“, Financial Times, 4 December 2013.

This will soon be posted at www.johnkay.com, in the archive of John Kay’s past FT columns.

Ronald Coase, R.I.P.

Tuesday, September 3rd, 2013

British economist Ronald Coase, who had a great influence on my own understanding of economics, has died, at the age of 102.

Coase wrote and published little, but the quality of his writing was superb. In 1991, he won a Nobel memorial prize in economics for two articles: “The Nature of the Firm”, published in Economica in 1937, and “The Problem of Social Cost”, published in the Journal of Law and Economics in 1960. The first publication is the one that had such a profound effect on me even though (perhaps because) the article was regarded as an aberration by mathematical economists and econometricians, who ignored institutions as they modelled the firm as a production function. One of the reference books that I keep at my desk – next to Adam Smith’s Wealth of Nations – is The Nature of the Firm: Origins, Evolution, and Development, edited by Oliver E. Williamson and Sidney G. Winter (Oxford University Press, 1993).

FT columnist John Kay admires Coase as much as I do, and has written a warm obituary for tomorrow’s newspaper.

Ronald Harry Coase, the son of two Post Office workers who both left school at the age of 12, was born in the London suburb of Willesden in 1910. Condemned to wear leg irons as a boy, he won a late scholarship to Kilburn Grammar School and then went to the London School of Economics. There Arnold Plant, professor of commerce, introduced him to Adam Smith’s “invisible hand” and helped him win a travelling scholarship to the US to investigate the structure of American industry.

In classical economic theory, agents moved effortlessly towards equilibrium in a frictionless world. In reality, goods are bought and sold in marketplaces – sometimes literal, sometimes virtual – and economic life is dominated by corporations. Classical theories ignored or looked through these institutional arrangements. Economists saw only the investors, employees and customers who obtained, without cost or intermediation, the information they needed to do the business of the market economy.

John Kay, “Ronald Coase: Nobel Prize winner who explored why companies exist“, Financial Times, 4 September 2013.

GSifis

Thursday, August 1st, 2013

You don’t know what a GSifi is? Neither did I, until I read an explanation by British economist John Kay.

Last week, the Financial Stability Board identified nine international insurance companies as GSifis. For those uninitiated in the acronyms beloved of the regulatory community, a GSifi is a global systemically important financial institution. Finding GSifis in the insurance sector is a solution in search of a problem. Having invented the concept of GSifi to describe too-big-to-fail banks, the world’s financial regulators are on the hunt for other businesses which can be treated in a similar way. ….

The fundamental principle must be that when a business fails, the shareholders should be wiped out, senior managers should be dismissed and there should be an appropriate distribution of the assets of the collapsed entity among the various creditors. That distribution must incorporate claims of equity and efficiency, and both considerations imply that those who might have been expected to have knowledge of the parlous state of the business should take the bulk of the negative consequences of its failure. ….

What is not only not needed, but should be strenuously resisted, is the development of a system of regulatory supervision of large corporations which purports to reduce or eliminate the probability of their commercial failure.

Regulators have neither the competence nor political authority to implement such a system, and their attempt to do so will have two outcomes: the ossification of industries around incumbents, and the repeated use of public funds to support struggling companies.

John Kay, “The world must learn to deal with the reality of failure“, Financial Times, 31 July 2013 (ungated).

GSifis are too-big-to-fail so, in all likelihood, will cost taxpayers money. The Financial Stability Board, which is searching for GSifis, is an international body established by the G-20 in 2009 to monitor the global financial system. Canadian Mark Carney, Governor of the Bank of England, is the chairman of its board.

John Kay on mark-to-market accounting

Thursday, July 18th, 2013

British economist John Kay has written another excellent, ungated column.

[A]ccounting standards – both IFRS [International Financial Reporting Standards] and the US Generally Accepted Accounting Principles – have moved from “prudence” towards “neutrality” and from “historic cost” to “fair value”. That emphasis implies insistence on marking trading assets to market prices. ….

Concern is often expressed about the difficulty of applying mark-to-market principles when there is no active market. Actually, the larger problem arises when there is an active market. ….

A contradiction lies at the heart of the efficient market hypothesis: if market prices did incorporate all available information about the value of an asset, no one would have an incentive to obtain that information in the first place. The perverse implication of asserting that the market price of one’s assets measures their fair value is that the people best placed to supply information about fair value – the owners – abandon the attempt to make such an assessment in favour of the judgment of traders. And this is not an academic quibble: what happened at Enron, and in the banks, was that trading assets were marked to values that had been established not by people who knew about the contracts or the loans, but by the biased and ill-informed assessments of the traders [my emphasis].

To express reservations about the primacy of mark-to-market principles is not to say that assets are best valued at historic cost. Market prices may often provide insights of relevance to managers and investors. But one can acknowledge that utility without adopting an ideological commitment to the infallible, or at least irrefutable, wisdom of the market. In the past decade, the efficient market hypothesis has been mugged by reality. ….

Accounts have many users and many purposes, and these vary with the nature of the business and the environment in which it operates. The nature and content of appropriate financial information should be a matter for negotiation between the companies that prepare accounts and the parties who use them.

John Kay, “The market is not the best place to set a fair price for assets“, Financial Times, 17 July, 2013.

The published version is available here (behind a metered paywall).

John Kay on “quantitative easing”

Wednesday, July 10th, 2013

British economist John Kay wonders why policymakers since 2008 have given so much attention to monetary stimulus, and so little to fiscal stimulus.

When I was a student, I learnt that if there was a plentiful supply of liquidity to the banking system, there would be easy credit for businesses and households, which would encourage them to spend more. It was never clear that this mechanism worked well in recessions: nervous businesses and households might be reluctant to spend and invest, however much liquidity was available to them. ….

A few technical papers from central banks try to estimate the overall macroeconomic effects of post-2008 monetary policies. But there is almost no direct evidence …. The one policy certainty is that countries that claimed an early commitment to fiscal rectitude would encourage growth have not come through the crisis as well as those readier to adopt fiscal stimulus. ….

Most opportunities for long-term investment are found in infrastructure, either in the public sector, or associated with or financed by the public sector. Yet far from treating the depressed state of western economies as an opportunity to make such investment, and taking advantage of opportunities to raise long-term finance at interest rates that are negative in real terms, austerity-minded governments have been cutting capital expenditure and their central banks have been aggressively buying long-term debt back from its private holders.

Why has so much attention been given to these monetary policies with no clear explanation of how they might be expected to work and little evidence of effectiveness? The very phrase “quantitative easing” seems designed to discourage non-technical discussion. But the real answer, I fear, is all too familiar: these policies may not benefit the non-financial economy much, but they are helpful to the financial services sector and those who work in it.

John Kay, “Quantitative easing and the curious case of the leaky bucket“, Financial Times, 10 July 2013.

An ugated version will be posted here shortly.

tax reform

Thursday, June 20th, 2013

British economist John Kay explains why it does not happen. The reason has everything to do with economic power, and nothing to do with technical economics.

The first time my research gained wide publicity was in 1979. In collaboration with another young academic, I explained that many large British companies paid no corporation tax. The issue resurfaces again as my co-author retires from the Bank of England. ….

It is disingenuous for companies to claim they pay the tax legally due when their assessments are based on accounts that defy economic and business realities.

In the main, however, tax authorities have preferred to cut deals with big corporations rather than pursue costly legal action. They will not do the same for you and me. It makes no sense for a small company to pay an accountant to do anything but calculate the amount of tax that is properly due, or to incur legal fees resisting a challenge. The unacceptable outcome is an entirely correct perception that there is one law for the little guy and another for the big battalions. The potential effect of that perception on tax compliance is one that it is well worth spending millions of pounds to avoid.

A serious reform agenda would involve a principled reappraisal of the basis for taxing corporations both nationally and globally, and a strategy for effective enforcement of existing rules. Such a strategy would make clear that executives of companies which present accounts to tax authorities that are essentially false, and the accountants who support them, will in future run serious risks. The door they hear closing behind them might be the door of a prison cell rather than the door of 10 Downing Street.

John Kay, “Don’t blame the havens – tax dodging is everyone else’s fault“, Financial Times, 19 June 2013 (ungated link).