Tuesday, 3 October 2017

End of nations: Is there an alternative to countries?

This article from the New Scientist is fantastic. Reposted here so that it can be accessed without a subscription.

Nation states cause some of our biggest problems, from civil war to climate inaction. Science suggests there are better ways to run a planet

Map: Norman Kirby; Photograph: Tatsuro Nishimura

By Debora MacKenzie

Try, for a moment, to envisage a world without countries. Imagine a map not divided into neat, coloured patches, each with clear borders, governments, laws. Try to describe anything our society does – trade, travel, science, sport, maintaining peace and security – without mentioning countries. Try to describe yourself: you have a right to at least one nationality, and the right to change it, but not the right to have none.

Those coloured patches on the map may be democracies, dictatorships or too chaotic to be either, but virtually all claim to be one thing: a nation state, the sovereign territory of a “people” or nation who are entitled to self-determination within a self-governing state. So says the United Nations, which now numbers 193 of them.

And more and more peoples want their own state, from Scots voting for independence to jihadis declaring a new state in the Middle East. Many of the big news stories of the day, from conflicts in Gaza and Ukraine to rows over immigration and membership of the European Union, are linked to nation states in some way.

Even as our economies globalise, nation states remain the planet’s premier political institution. Large votes for nationalist parties in this year’s EU elections prove nationalism remains alive – even as the EU tries to transcend it.
Yet there is a growing feeling among economists, political scientists and even national governments that the nation state is not necessarily the best scale on which to run our affairs. We must manage vital matters like food supply and climate on a global scale, yet national agendas repeatedly trump the global good. At a smaller scale, city and regional administrations often seem to serve people better than national governments.
How, then, should we organise ourselves? Is the nation state a natural, inevitable institution? Or is it a dangerous anachronism in a globalised world?
These are not normally scientific questions – but that is changing. Complexity theorists, social scientists and historians are addressing them using new techniques, and the answers are not always what you might expect. Far from timeless, the nation state is a recent phenomenon. And as complexity keeps rising, it is already mutating into novel political structures. Get set for neo-medievalism.
Before the late 18th century there were no real nation states, says John Breuilly of the London School of Economics. If you travelled across Europe, no one asked for your passport at borders; neither passports nor borders as we know them existed. People had ethnic and cultural identities, but these didn’t really define the political entity they lived in.
That goes back to the anthropology, and psychology, of humanity’s earliest politics. We started as wandering, extended families, then formed larger bands of hunter-gatherers, and then, around 10,000 years ago, settled in farming villages. Such alliances had adaptive advantages, as people cooperated to feed and defend themselves.

War and peace
But they also had limits. Robin Dunbar of the University of Oxford has shown that one individual can keep track of social interactions linking no more than around 150 people. Evidence for that includes studies of villages and army units through history, and the average tally of Facebook friends.

But there was one important reason to have more friends than that: war. “In small-scale societies, between 10 and 60 per cent of male deaths are attributable to warfare,” says Peter Turchin of the University of Connecticut at Storrs. More allies meant a higher chance of survival.
Turchin has found that ancient Eurasian empires grew largest where fighting was fiercest, suggesting war was a major factor in political enlargement. Archaeologist Ian Morris of Stanford University in California reasons that as populations grew, people could no longer find empty lands where they could escape foes. The losers of battles were simply absorbed into the enemy’s domain – so domains grew bigger.

How did they get past Dunbar’s number? Humanity’s universal answer was the invention of hierarchy. Several villages allied themselves under a chief; several chiefdoms banded together under a higher chief. To grow, these alliances added more villages, and if necessary more layers of hierarchy.
Hierarchies meant leaders could coordinate large groups without anyone having to keep personal track of more than 150 people. In addition to their immediate circle, an individual interacted with one person from a higher level in the hierarchy, and typically eight people from lower levels, says Turchin.
These alliances continued to enlarge and increase in complexity in order to perform more kinds of collective actions, says Yaneer Bar-Yam of the New England Complex Systems Institute in Cambridge, Massachusetts. For a society to survive, its collective behaviour must be as complex as the challenges it faces – including competition from neighbours. If one group adopted a hierarchical society, its competitors also had to. Hierarchies spread and social complexity grew.
Larger hierarchies not only won more wars but also fed more people through economies of scale, which enabled technical and social innovations such as irrigation, food storage, record-keeping and a unifying religion. Cities, kingdoms and empires followed.
But these were not nation states. A conquered city or region could be subsumed into an empire regardless of its inhabitants’ “national” identity. “The view of the state as a necessary framework for politics, as old as civilisation itself, does not stand up to scrutiny,” says historian Andreas Osiander of the University of Leipzig in Germany.
“The view of the state as a necessary framework for politics does not stand up”
One key point is that agrarian societies required little actual governing. Nine people in 10 were peasants who had to farm or starve, so were largely self-organising. Government intervened to take its cut, enforce basic criminal law and keep the peace within its undisputed territories. Otherwise its main role was to fight to keep those territories, or acquire more.
Even quite late on, rulers spent little time governing, says Osiander. In the 17th century Louis XIV of France had half a million troops fighting foreign wars but only 2000 keeping order at home. In the 18th century, the Dutch and Swiss needed no central government at all. Many eastern European immigrants arriving in the US in the 19th century could say what village they came from, but not what country: it didn’t matter to them.
Before the modern era, says Breuilly, people defined themselves “vertically” by who their rulers were. There was little horizontal interaction between peasants beyond local markets. Whoever else the king ruled over, and whether those people were anything like oneself, was largely irrelevant.
Such systems are very different from today’s states, which have well-defined boundaries filled with citizens. In a system of vertical loyalties, says Breuilly, power peaks where the overlord lives and peters out in frontier territories that shade into neighbouring regions. Ancient empires are coloured on modern maps as if they had firm borders, but they didn’t. Moreover, people and territories often came under different jurisdictions for different purposes.
Simple societies
Such loose control, says Bar-Yam, meant pre-modern political units were only capable of scaling up a few simple actions such as growing food, fighting battles, collecting tribute and keeping order. Some, like the Roman Empire, did this on a very large scale. But complexity – the different actions society could collectively perform – was relatively low.
Complexity was limited by the energy a society could harness. For most of history that essentially meant human and animal labour. In the late Middle Ages, Europe harnessed more, especially water power. This boosted social complexity – trade increased, for example– requiring more government. A decentralised feudal system gave way to centralised monarchies with more power.
But these were still not nation states. Monarchies were defined by who ruled them, and rulers were defined by mutual recognition – or its converse, near-constant warfare. In Europe, however, as trade grew, monarchs discovered they could get more power from wealth than war.
In 1648, Europe’s Peace of Westphalia ended centuries of war by declaring existing kingdoms, empires and other polities “sovereign”: none was to interfere in the internal affairs of others. This was a step towards modern states – but these sovereign entities were still not defined by their peoples’ national identities. International law is said to date from the Westphalia treaty, yet the word “international” was not coined until 132 years later.
By then Europe had hit the tipping point of the industrial revolution. Harnessing vastly more energy from coal meant that complex behaviours performed by individuals, such as weaving, could be amplified, says Bar-Yam, producing much more complex collective behaviours.

This demanded a different kind of government. In 1776 and 1789, revolutions in the US and France created the first nation states, defined by the national identity of their citizens rather than the bloodlines of their rulers. According to one landmark history of the period, says Breuilly, “in 1800 almost nobody in France thought of themselves as French. By 1900 they all did.” For various reasons, people in England had an earlier sense of “Englishness”, he says, but it was not expressed as a nationalist ideology.

By 1918, with the dismemberment of Europe’s last multinational empires such as the Habsburgs in the first world war, European state boundaries had been redrawn largely along cultural and linguistic lines. In Europe at least, the nation state was the new norm.

Part of the reason was a pragmatic adaptation of the scale of political control required to run an industrial economy. Unlike farming, industry needs steel, coal and other resources which are not uniformly distributed, so many micro-states were no longer viable. Meanwhile, empires became unwieldy as they industrialised and needed more actual governing. So in 19th-century Europe, micro-states fused and empires split.
These new nation states were justified not merely as economically efficient, but as the fulfilment of their inhabitants’ national destiny. A succession of historians has nonetheless concluded that it was the states that defined their respective nations, and not the other way around.
France, for example, was not the natural expression of a pre-existing French nation. At the revolution in 1789, half its residents did not speak French. In 1860, when Italy unified, only 2.5 per cent of residents regularly spoke standard Italian. Its leaders spoke French to each other. One famously said that, having created Italy, they now had to create Italians – a process many feel is still taking place.

“At the revolution in 1789, half of France’s residents did not speak French”
Sociologist Siniša Maleševic of University College Dublin in Ireland believes that this “nation building” was a key step in the evolution of modern nation states. It required the creation of an ideology of nationalism that emotionally equated the nation with people’s Dunbar circle of family and friends.

That in turn relied heavily on mass communication technologies. In an influential analysis, Benedict Anderson of Cornell University in New York described nations as “imagined” communities: they far outnumber our immediate circle and we will never meet them all, yet people will die for their nation as they would for their family.

Such nationalist feelings, he argued, arose after mass-market books standardised vernaculars and created linguistic communities. Newspapers allowed people to learn about events of common concern, creating a large “horizontal” community that was previously impossible. National identity was also deliberately fostered by state-funded mass education.
The key factor driving this ideological process, Maleševic says, was an underlying structural one: the development of far-reaching bureaucracies needed to run complex industrialised societies. For example, says Breuilly, in the 1880s Prussia became the first government to pay unemployment benefits. At first they were paid only in a worker’s native village, where identification was not a problem. As people migrated for work, benefits were made available anywhere in Prussia. “It wasn’t until then that they had to establish who a Prussian was,” he says, and they needed bureaucracy to do it. Citizenship papers, censuses and policed borders followed.
That meant hierarchical control structures ballooned, with more layers of middle management. Such bureaucracy was what really brought people together in nation-sized units, argues Maleševic. But not by design: it emerged out of the behaviour of complex hierarchical systems. As people do more kinds of activities, says Bar-Yam, the control structure of their society inevitably becomes denser.
In the emerging nation state, that translates into more bureaucrats per head of population. Being tied into such close bureaucratic control also encouraged people to feel personal ties with the state, especially as ties to church and village declined. As governments exerted greater control, people got more rights, such as voting, in return. For the first time, people felt the state was theirs.
Natural state of affairs?
Once Europe had established the nation state model and prospered, says Breuilly, everyone wanted to follow suit. In fact it’s hard now to imagine that there could be another way. But is a structure that grew spontaneously out of the complexity of the industrial revolution really the best way to manage our affairs?
According to Brian Slattery of York University in Toronto, Canada, nation states still thrive on a widely held belief that “the world is naturally made of distinct, homogeneous national or tribal groups which occupy separate portions of the globe, and claim most people’s primary allegiance”. But anthropological research does not bear that out, he says. Even in tribal societies, ethnic and cultural pluralism has always been widespread. Multilingualism is common, cultures shade into each other, and language and cultural groups are not congruent.
Moreover, people always have a sense of belonging to numerous different groups based on region, culture, background and more. “The claim that a person’s identity and well-being is tied in a central way to the well-being of the national group is wrong as a simple matter of historical fact,” says Slattery.
Perhaps it is no wonder, then, that the nation-state model fails so often: since 1960 there have been more than 180 civil wars worldwide.
Such conflicts are often blamed on ethnic or sectarian tensions. Failed states, such as Syria right now, are typically riven by violence along such lines. According to the idea that nation states should contain only one nation, such failures have often been blamed on the colonial legacy of bundling together many peoples within unnatural boundaries.

But for every Syria or Iraq there is a Singapore, Malaysia or Tanzania, getting along okay despite having several “national” groups. Immigrant states in Australia and the Americas, meanwhile, forged single nations out of massive initial diversity.
What makes the difference? It turns out that while ethnicity and language are important, what really matters is bureaucracy. This is clear in the varying fates of the independent states that emerged as Europe’s overseas empires fell apart after the second world war.
According to the mythology of nationalism, all they needed was a territory, a flag, a national government and UN recognition. In fact what they really needed was complex bureaucracy.
Some former colonies that had one became stable democracies, notably India. Others did not, especially those such as the former Belgian Congo, whose colonial rulers had merely extracted resources. Many of these became dictatorships, which require a much simpler bureaucracy than democracies.
Dictatorships exacerbate ethnic strife because their institutions do not promote citizens’ identification with the nation. In such situations, people fall back on trusted alliances based on kinship, which readily elicit Dunbar-like loyalties. Insecure governments allied to ethnic groups favour their own, while grievances among the disfavoured groups grow – and the resulting conflict can be fierce.
Recent research confirms that the problem is not ethnic diversity itself, but not enough official inclusiveness. Countries with little historic ethnic diversity are now having to learn that on the fly, as people migrate to find jobs within a globalised economy.
How that pans out may depend on whether people self-segregate. Humans like being around people like themselves, and ethnic enclaves can be the result. Jennifer Neal of Michigan State University in East Lansing has used agent-based modelling to look at the effect of this in city neighbourhoods. Her work suggests that enclaves promote social cohesion, but at the cost of decreasing tolerance between groups. Small enclaves in close proximity may be the solution.

But at what scale? Bar-Yam says communities where people are well mixed – such as in peaceable Singapore, where enclaves are actively discouraged – tend not to have ethnic strife. Larger enclaves can also foster stability. Using mathematical models to correlate the size of enclaves with the incidences of ethnic strife in India, Switzerland and the former Yugoslavia, he found that enclaves 56 kilometres or more wide make for peaceful coexistence – especially if they are separated by natural geographical barriers,
Switzerland’s 26 cantons, for example, which have different languages and religions, meet Bar-Yam’s spatial stability test – except one. A French-speaking enclave in German-speaking Berne experienced the only major unrest in recent Swiss history. It was resolved by making it a separate canton, Jura, which meets the criteria.
Again, though, ethnicity and language are only part of the story. Lars-Erik Cederman of the Swiss Federal Institute of Technology in Zurich argues that Swiss cantons have achieved peace not by geographical adjustment of frontiers, but by political arrangements giving cantons considerable autonomy and a part in collective decisions.
Similarly, using a recently compiled database to analyse civil wars since 1960, Cederman finds that strife is indeed more likely in countries that are more ethnically diverse. But careful analysis confirms that trouble arises not from diversity alone, but when certain groups are systematically excluded from power.
Governments with ethnicity-based politics were especially vulnerable. The US set up just such a government in Iraq after the 2003 invasion. Exclusion of Sunni by Shiites led to insurgents declaring a Sunni state in occupied territory in Iraq and Syria. True to nation-state mythology, it rejects the colonial boundaries of Iraq and Syria, as they force dissimilar “nations” together.
Ethnic cleansing
Yet the solution cannot be imposing ethnic uniformity. Historically, so-called ethnic cleansing has been uniquely bloody, and “national” uniformity is no guarantee of harmony. In any case, there is no good definition of an ethnic group. Many people’s ethnicities are mixed and change with the political weather: the numbers who claimed to be German in the Czech Sudetenland territory annexed by Hitler changed dramatically before and after the war. Russian claims to Russian-speakers in eastern Ukraine now may be equally flimsy.
Both Bar-Yam’s and Cederman’s research suggests one answer to diversity within nation states: devolve power to local communities, as multicultural states such as Belgium and Canada have done.
“We need a conception of the state as a place where multiple affiliations and languages and religions may be safe and flourish,” says Slattery. “That is the ideal Tanzania has embraced and it seems to be working reasonably well.” Tanzania has more than 120 ethnic groups and about 100 languages.
In the end, what may matter more than ethnicity, language or religion is economic scale. The scale needed to prosper may have changed with technology – tiny Estonia is a high-tech winner – but a small state may still not pack enough economic power to compete.
That is one reason why Estonia is such an enthusiastic member of the European Union. After the devastating wars in the 20th century, European countries tried to prevent further war by integrating their basic industries. That project, which became the European Union, now primarily offers member states profitable economies of scale, through manufacturing and selling in the world’s largest single market.

What the EU fails to inspire is nationalist-style allegiance – which Maleševic thinks nowadays relies on the “banal” nationalism of sport, anthems, TV news programmes, even song contests. That means Europeans’ allegiances are no longer identified with the political unit that handles much of their government.
Ironically, says Jan Zielonka of the University of Oxford, the EU has saved Europe’s nation states, which are now too small to compete individually. The call by nationalist parties to “take back power from Brussels”, he argues, would lead to weaker countries, not stronger ones.
He sees a different problem. Nation states grew out of the complex hierarchies of the industrial revolution. The EU adds another layer of hierarchy – but without enough underlying integration to wield decisive power. It lacks both of Maleševic’s necessary conditions: nationalist ideology and pervasive integrating bureaucracy.
Even so, the EU may point the way to what a post-nation-state world will look like.
Zielonka agrees that further integration of Europe’s governing systems is needed as economies become more interdependent. But he says Europe’s often-paralysed hierarchy cannot achieve this. Instead he sees the replacement of hierarchy by networks of cities, regions and even non-governmental organisations. Sound familiar? Proponents call it neo-medievalism.

“The future structure and exercise of political power will resemble the medieval model more than the Westphalian one,” Zielonka says. “The latter is about concentration of power, sovereignty and clear-cut identity.” Neo-medievalism, on the other hand, means overlapping authorities, divided sovereignty, multiple identities and governing institutions, and fuzzy borders.

“The future exercise of power will resemble the medieval model”
Anne-Marie Slaughter of Princeton University, a former US assistant secretary of state, also sees hierarchies giving way to global networks primarily of experts and bureaucrats from nation states. For example, governments now work more through flexible networks such as the G7 (or 8, or 20) to manage global problems than through the UN hierarchy.

Ian Goldin, head of the Oxford Martin School at the University of Oxford, which analyses global problems, thinks such networks must emerge. He believes existing institutions such as UN agencies and the World Bank are structurally unable to deal with problems that emerge from global interrelatedness, such as economic instability, pandemics, climate change and cybersecurity – partly because they are hierarchies of member states which themselves cannot deal with these global problems. He quotes Slaughter: “Networked problems require a networked response.”

Again, the underlying behaviour of systems and the limits of the human brain explain why. Bar-Yam notes that in any hierarchy, the person at the top has to be able to get their head around the whole system. When systems are too complex for one human mind to grasp, he argues that they must evolve from hierarchies into networks where no one person is in charge.
Where does this leave nation states? “They remain the main containers of power in the world,” says Breuilly. And we need their power to maintain the personal security that has permitted human violence to decline to all-time lows.

Moreover, says Dani Rodrik of Princeton’s Institute for Advanced Study, the very globalised economy that is allowing these networks to emerge needs something or somebody to write and enforce the rules. Nation states are currently the only entities powerful enough to do this.

Yet their limitations are clear, both in solving global problems and resolving local conflicts. One solution may be to pay more attention to the scale of government. Known as subsidiarity, this is a basic principle of the EU: the idea that government should act at the level where it is most effective, with local government for local problems and higher powers at higher scales. There is empirical evidence that it works: social and ecological systems can be better governed when their users self-organise than when they are run by outside leaders.
However, it is hard to see how our political system can evolve coherently in that direction. Nation states could get in the way of both devolution to local control and networking to achieve global goals. With climate change, it is arguable that they already have.
There is an alternative to evolving towards a globalised world of interlocking networks, neo-medieval or not, and that is collapse. “Most hierarchical systems tend to become top-heavy, expensive and incapable of responding to change,” says Marten Scheffer of Wageningen University in the Netherlands. “The resulting tension may be released through partial collapse.” For nation states, that could mean anything from the renewed pre-eminence of cities to Iraq-style anarchy. An uncertain prospect, but there is an upside. Collapse, say some, is the creative destruction that allows new structures to emerge.

Like it or not, our societies may already be undergoing this transition. We cannot yet imagine there are no countries. But recognising that they were temporary solutions to specific historical situations can only help us manage a transition to whatever we need next. Whether or not our nations endure, the structures through which we govern our affairs are due for a change. Time to start imagining.

Monday, 11 April 2016

The Carbon Bubble vs The Financial Crisis

There have been a slew of recent news articles reporting on a new paper published in Nature Climate Change, Dietz et al (2016) "‘Climate value at risk’ of global financial assets". This paper described modelling work on the asset value implications of both climate policy and climate change. Its calculations include the fossil fuel asset write-downs required to implement a particular emissions path, and a DICE climate-economy model is used to project a damaged global output path given this emissions path. The impact of this path on asset values is estimated assuming a constant profit share of GDP. It is found that "the expected value of global financial assets is 0.2% higher along the mitigation scenario [2oC limit] ... this reflects the reduction in asset values brought about by paying abatement costs in the economy—including, for instance, the stranded assets of fossil-fuel companies".

This paper therefore goes beyond the "Carbon Bubble" warnings of the Carbon Tracker Initiative, which are about the fossil fuel asset write-offs required to be consistent with stated climate change policy, in the dimension of also considering the damages to asset values caused by climate change itself. In forthcoming work, I consider another dimension: what about the business cycle response to writing-off all these fossil fuel assets? The financial accelerator mechanism would suggest that writing-off so many assets would induce a large recession, and impede the investment needed in alternative energy infrastructure. Katy Lederer has an article in the New Yorker describing some other work along the same lines.

The Dietz et al paper provides a couple of useful numbers to help calibrate the "bursting of the Carbon Bubble" against the 2008 Financial Crisis. They say that "the total stock market capitalization today of fossil-fuel companies has been estimated at US$5 trillion", and that the "Financial Stability Board ... puts the value of global non-bank financial assets at US$143.3 trillion in 2013". So fossil fuel company valuations represent perhaps 3.5% of total financial assets. To validate this figure we could note that fossil fuels represent 80% of energy generation[1], and that energy is around 7.4% of expenditures[2] so fossil energy assets should represent 5.9% of total assets if they have the same term as the average of other assets, and less if they are shorter duration. Further, many fossil fuel assets (e.g. the Saudi oil industry) are wholly state owned and so may not be in the $5tn figure (although likewise they also will not be in the denominator in this case too).

The financial crisis began with the realisation that the fundamental value of subprime mortgages (and the CDOs into which they were bundled) was much lower than had previously been recognised. Hellwig (2009) estimated that the total value of subprime mortgages outstanding was $1.2tn in the second quarter of 2008. Whilst this is a big number, even a complete loss of this value should represent a relatively mild adverse event to a well diversified investor. Instead we saw the financial crisis in which the stock market lost almost half its value, and corporate debt also saw negative returns (although non-PIIGS government bonds performed very well as yields collapsed). A well diversified investor lost perhaps 20% of the value of their portfolio[3], and Global GDP fell by 6%[4].

So given the financial crisis, what would the impact be of "bursting the Carbon Bubble"? The Carbon Tracker Initiative estimate "Only 20% of the total reserves can be burned unabated", while the International Energy Agency say "No more than one-third of proven reserves of fossil fuels can be consumed". Consistent with these estimates (since the financial value of resources and low quality reserves will be less than the financial value of high quality reserves, per unit carbon), let's assume that the total value that must be written-off is 60% of the value of fossil fuel companies. Assuming that the Financial Crisis was precipitated by a $1tn write-off, then we compare this to a Carbon Bubble figure of 60% of $5tn = $3tn, and we see that the balance sheet impact of the credible implementation of the climate policy needed to keep global temperatures 2oC above pre-industrial levels, may be around three times that which caused the Financial Crisis. If fossil fuel assets are 5% of the global asset base, then the Carbon Bubble necessitates writing-off 3% of assets. What will be the impact of this given that we saw total asset price falls of 20% and GDP falls of 6% in response to the Financial Crisis when investors realised that the repricing of their subprime mortgage holdings had caused a 1% fall in the value of their assets?

Without deliberate policy to recapitalise investors or to socialise investment, implementing climate policy that "bursts the carbon bubble" risks seriously damaging the economy, and specifically harming the very sector of the economy that should be investing in replacing the present fossil fuel infrastructure.

[1] See either Newell, Qian & Raimi (2016) "Global Energy Outlook 2015" or Table 1.2 Primary Energy Production by Source of http://www.eia.gov/totalenergy/data/monthly/pdf/mer.pdf

[2] The 20 year average for Energy Expenditures as Share of GDP, from Table 1.7 "Primary Energy Consumption, Energy Expenditures, and Carbon Dioxide Emissions Indicators" of http://www.eia.gov/totalenergy/data/monthly/pdf/mer.pdf is 7.4%

[3] Approximate calculation: assuming asset values are split 80% private and 20% public; public asset value proxied by government debt value which rose as yields fell (assume +10% return); funding of private assets is split by capital structure of firms: assume 40% corporate bonds (-10% return) and 60% equities (-40% return); gives overall return of -20%.

[4] Constant GDP per capita for the World, from FRED: "normal" times have real growth per capita of between 2% and 3% per annum, but this fell to less than -3% per annum during the Financial Crisis i.e. around 6% lower than normal.

Monday, 14 March 2016

Talent and/or agglomeration

Bosquet & Overman (2016) find, using data from the British Household Panel Survey clustered by local labour markets, that the elasticity of wages with respect to birthplace size is 4.6%, which is around two thirds of the 6.8% elasticity of wages with respect to current city size. So the size of place of birth “explains” most of the well-known productivity enhancing size effects.

The authors claim that their results suggest that (1) the effect of birthplace on current location (clearly a high correlation between the two); and (2) inter-generational transmission (i.e. the correlation between incomes across generations); largely explain the effect of birthplace. In contrast, they find no role for (3) human capital formation (it’s not the case that people born in a high wage location gain better school results, conditional on parental income etc). Their results “highlight the importance of intergenerational sorting in helping explain the persistence of spatial disparities”, and show that “there is a geographic component to the inheritance of inequality”.

What does this tell us? Well (1) is just the usual agglomeration story: people can be, on average, identical across locations, but in bigger locations they are more productive through greater scope for specialisation etc. Given the high correlation between where people are born and where they end up, birthplace size will statistically “explain” the extra wages that actually come from pure size effects. And (3) tells us that educational quality does not vary systematically with size.

(2) however, is about talent. Talent is heritable, and partially explains the relatively high positive correlation between the earnings of parents and their children (though advantage and privilege also play a role in explaining this correlation). This paper is measuring a geographical concentration of talent. Highly paid talented workers are clustering in larger locations, and producing talented children who, on average, also stay in these locations and go on to earn high wages.

(1) is potentially a positive sum game: on the production side, productivity is higher if everyone clusters in a single large location, rather than spreading out evenly, because the scope for specialisation is higher; and on the consumption side, product variety is higher because it is much more worthwhile to supply niche products in a large market[1]. It is easy to imagine that the consumption benefits of size may be scale invariant: city 2, twice the size of city 1, will be able to support x% more niche markets than city 1, independent of the absolute size of city 1[2]. On the production side however, it seems that the positive externalities are more highly localised and hence less scale invariant. Ahlfeldt et al (2015) find that “externalities are highly localised within the city and after around 10 minutes of travel time, … externalities fall to close to zero”. This seems to imply that once a city is big enough to support some highly productive cluster, sector or industry, then doubling the size of the city cannot be expected to further increase productivity.

Conversely, (2) is a zero sum game: talent in one location is talent that is not located anywhere else.

Further, it is not clear that increased size ends up providing benefits to the inhabitants of a location since increased size also increases congestion, pollution and land costs. Paul Cheshire claims that the current literature suggests that “doubling a city’s size produces about a 5% increase in total factor productivity, holding everything else constant”, but points to French research that suggests that the benefits from this higher productivity are entirely swallowed by increased land costs if land supply is fixed, and 40% absorbed by increased land costs if land is elastically supplied.

To the extent that large cities are exploiting potentially positive sum gains from (1), it is possible that it is worthwhile, at the margin, to have public policy that encourages the movement of people from smaller places to the largest cities (so long as we ensure open-access and freedom to build so that the land costs are more like the 40% of agglomeration benefits, rather than the 100% of agglomeration benefits under inelastic supply of housing). But to the extent that the gains from size are actually due to the zero sum game of moving talent around, then it would be stupid for public policy to encourage talent to move to large congested, expensive cities and so not be present in places where land is cheaper.

And, of course, the UK seems to take the potentially less intelligent option. The Centre for Cities 2014 report, Cities Outlook 2014, had some fascinating statistics on migration flows within the UK. The following picture was particularly striking:

And this is not the only way things can work: in Switzerland for example talented young people who want a career in finance move to Zurich, but if you want to be an engineer then Basel is likely your destination, while for diplomacy it’s Geneva, and for government it’s Bern. The highly localised production externalities created by creating a cluster of firms in a particular sector can still be exploited, but everyone does not all try to move to the same place, land price differentials and congestion can be minimised, talent is spread out, and geographical inequality is much much lower.

Update: The Paul Cheshire CityTalks episode from 23rd June is good. Don't agree with everything he says (in particular he only focuses on the benefits to the people who move, not the costs on the people who don't) but it is interesting throughout.

[1] The impact of higher productivity will show up in GVA statistics, but the gains from enhanced product variety do not show up in GVA statistics: rather £1 of expenditure on consumer goods buys more utility in a larger market because of this wider product variety.
[2] Although an individual’s utility likely increases by less when product variety rises by x% from an initial high level of product variety compared with an initial low level of product variety.

Thursday, 3 March 2016

Asymmetric thinking on Council Tax revaluation

Glenn Campbell tweets:
But there are as many winners from revaluation as losers (there are as many properties that are in currently too high a band as in too low a band). These "revaluation winners" are being "hit hard" by the decision not to revalue.

And something for the SNP to think about: the Yes vote in 2014 was correlated with levels of deprivation i.e. it was highest in precisely those areas which have not seen the big house price rises since the last revaluation in 1991. A revaluation would, on average, benefit Yes voters and cost No voters. Therefore the decision to not revalue is effectively a gift to No voters - though perhaps that's the point since the SNP still need to convince people in these areas...

Tuesday, 1 March 2016

'Helicopter Money' and 'Fee & Dividend'

Helicopter money is being increasingly discussed as the economic outlook darkens with policy rates still extremely low. Simon Wren-Lewis discusses Two related confusions about helicopter money and Miles Kimball says that Helicopter Drops of Money Are Not the Answer. Both these pieces define Helicopter Money as QE + Fiscal Policy i.e. central banks create new money and use to buy government bonds, whilst governments run deficits, effectively giving taxpayers money via reduced tax bills (SWL: "HM is a large fiscal expansion", MK: "Printing money and sending it to people is equivalent to printing money to buy Treasury bills and then selling those Treasury bills to raise funds to send to people").

I think this is too broad a view of helicopter money, which effectively incorporates the QE that we've seen over the past decade. HM could be differentiated from this QE by considering it to be new issues of central bank money that are not used to purchase any assets, but are rather given away. This would mean the exercise of a HM policy would be much more aggressive monetary policy than QE since it would be much more irreversible (the central bank would have fewer assets relative to liabilities with which to defend the value of the currency, unless it were to be recapitalised by the fiscal authorities).

If the view of helicopter money could be narrowed to: the central bank creating new money, all citizens having an account at the central bank, and the new money being deposited on an equal per capita basis in these individual accounts; then there are two further issues that such a putative HM architecture could clarify:

1) Central bank independence in terms of the output-inflation trade-off from the level of fiscal policy. Suppose the monetary authorities have lowered interest rates to zero, and still inflation is below target; the central bank decides to engage in QE, creating money to buy government bonds; demand for bonds rises. However the fiscal authorities do not change their tax and spending plans; There is a mild stimulatory impact from lowered long term borrowing rates, but there has been no "Printing money and sending it to people". Under HM = QE + Fiscal Policy, the central bank cannot decide the level of monetary stimulus without some agreement with the fiscal authorities. If instead HM was a distribution into citizens' individual accounts, then there would be a monetary expansion without any reference to the fiscal authorities. The central bank could exercise this policy lever autonomously in line with its (inflation targeting or other) mandate.

2) Central bank independence in terms of the distributional effects of monetary policy. If the fiscal policy under HM = QE + Fiscal Policy was eliminating corporation tax, capital gains tax, and higher rates of income tax, then this would meet the definition of HM as "Printing money and sending it to people". But "the people" chosen is a highly political choice (in this case the very wealthy). A technocratic monetary authority should not be making, or party to, such political choices: and it would be if monetary objectives mandated QE that gave "windfall" resources to a particular government at a particular point in time with which to make a politicised distribution of this money. Per capita distribution i.e. a lump sum transfer, would of course be a political choice as well. But if this were the instrument specified in legislation and in the political process that set up the HM architecture, then that political choice would have been made appropriately ex ante, and the exercise of the policy lever could be made entirely on grounds of meeting monetary objectives.

Anyway, those are my thoughts on helicopter money. It struck me recently though that setting up a HM architecture of this form would also enable the climate change policy advocated by James Hansen: Fee & Dividend. This is a carbon tax policy, the revenues from which are distributed on a per capita basis. This means that climate policy doesn't cost the average citizen anything (they get back all the extra money they spend) but it changes prices in a way to incorporate the carbon externalities of their consumption choices. The individual accounts at the central bank are a perfect vehicle for paying the dividends associated with the F&D policy.

Always nice to present a single proposal that solves multiple problems...

Tuesday, 1 December 2015

End November Links

# Brilliant: Northern Powerhouse relocated to London

UK’s high-wire act on power supplies laid bare says the FT. Amazing given the reductions in renewables subsidies and the end of the CCS competition, the prioritisation of new nuclear capacity which has extremely long development timescales, and the fact that the transmission charging regime is directly causing the early closure of generation capacity like Longannet.

# At some point in the near future (hopefully) the Commission on Local Tax Reform will publish it's report (cue another self-aggrandising link to my own contribution: The Opportunity for Land & Property Taxes in Scotland). On this topic, I was reiterating the political economy aspects at ScotFES which I think are backed up by the results of the survey run by the Commission which unsurprisingly shows that the general public lean towards income taxes; Brian Ashcroft, in Business rates and the Scottish economy, makes the point that Business Rates optimally should not tax the buildings element - they should face a pure land value tax - but also that lobbyists really should not be listened to!

# I love the whimsical scenarios economists use to clarify thinking. Nick Rowe has a good example this month with "Vortigern's immigration policy", and the most famous example is likely Krugman recounting the tale of the Babysitting Co-op to explain countercyclical monetary policy. I was reminded of this recently by a decent post, which was followed by a dreadful argument in the comments, on the GERS figures, on the Scot Goes Pop blog. The author tries to use analogy to explain his ideas (and does a reasonable job I think) but this is clearly laughable in the eyes of his detractors, for whom I imagine the world is a blinding mess of facts, and expertise involves knowing the detail of all these facts (rather than cutting straight through to an understanding of the main points, by being able to simplify and realise what's important and what's not).

# Interesting article in Washington Monthly on trends in American regional inequalities:
"a story of incomes converging across regions to the point that people commonly and appropriately spoke of a single American standard of living. This regional convergence of income was also a major reason why national measures of income inequality dropped sharply during this period. ... Few forecasters expected this trend to reverse, since it seemed consistent with the well-established direction of both the economy and technology. With the growth of the service sector, it seemed reasonable to expect that a region’s geographical features, such as its proximity to natural resources and navigable waters, would matter less and less to how well or how poorly it performed economically. Similarly, many observers presumed that the Internet and other digital technologies would be inherently decentralizing in their economic effects. Not only was it possible to write code just as easily in a tree house in Oregon as in an office building in a major city, but the information revolution would also make it much easier to conduct any kind of business from anywhere. Futurists proclaimed “the death of distance.” Yet starting in the early 1980s, the long trend toward regional equality abruptly switched. Since then, geography has come roaring back as a determinant of economic fortune, as a few elite cities have surged ahead of the rest of the country in their wealth and income. ... Adding to the anomaly is a historic reversal in the patterns of migration within the United States. Throughout almost all of the nation’s history, Americans tended to move from places where wages were lower to places where wages were higher. ... But over the last generation this trend, too, has reversed. Since 1980, the states and metro areas with the highest and fastest-growing per capita incomes have generally seen hardly, if any, net domestic in-migration, and in many notable examples have seen more people move away to other parts of the country than move in. Today, the preponderance of domestic migration is from areas with high and rapidly growing incomes to relatively poorer areas where incomes are growing at a slower pace, if at all."

The explanation offered in the article for these these trends is policy which either allows or restricts monopolies: "Throughout most of the country’s history, American government at all levels has pursued policies designed to preserve local control of businesses and to check the tendency of a few dominant cities to monopolize power over the rest of the country." - this rings true as the likely driver of similar trends in the UK too.
An alternative explanation, which again rings true but probably has less UK relevance (because almost everywhere in the UK is a "closed market") is that offered by Idiosyncratic Whisk: "We had two housing markets - a closed market where there was massive price appreciation, and an open market where there was healthy expansion of the real housing stock. ... the added gross income for the highest income cities frequently goes to housing expenses."

# Some more links on geographical mobility, inequality and housing
   - Housing supply, rents, and economic mobility from the Washington Centre for Equitable Growth
   - Britain's debate on social mobility is stuck. It's time for a city perspective from CityMetric/Centre for Cities
   - Low Interest Rates, the Housing Supply Constraint, and Picketty's Concern from Idiosyncratic Whisk

# In Automatic Destabilizers, Idiosyncratic Whisk makes a great point about tax design. A good system would encourage investment when factors were abundant and wages and interest rates were low. But the fact that corporate losses can be offset against tax means that corporations face their highest tax burden at the start of a downturn (when they don't have any losses to offset), exactly when expectations of future (medium term) consumer demand is falling, therefore when their investment demand even in the absence of tax disincentives is low, and at the same time as interest rates and wages are falling, and unemployment is rising. Conversely, corporations face their lowest tax burden at the start of a boom because at this point they have a deferred tax asset which offsets their tax payments - but at this point their expectations of future consumer demand is high and so their investment demand before tax incentives is is high anyway, and they are competing for relatively scarce and expensive labour and investment capital. This is a pro-cyclical, destabilising, tax design.

# I've started a new project - just to get into the habit of looking at data, even when I don't have any particular reason to. U.S.E. (Understanding the Scottish Economy) will summarise Scottish economic data, and posting will likely be on a monthly basis. The first post is now up: November 2015 Data Release Summary.