Matt Nolan

Private sector fails to take on losers …

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Interesting series of quotes on the disaster that was think big.

The years of media coverage have not been kind to the “think big” projects of the early 1980s – speculated to have cost taxpayers about $7 billion.

…

“It’s a peculiarity of New Zealand that both our main parties have been interventionist and it was partly because time and again the private sector failed to provide.”

The private sector failed to ‘provide’ by investing in projects that lost $7bn … that is fair enough in my opinion.  The question is, why did the public sector feel like we should have to throw money down the toilet as taxpayers 😉

I’m being a little facetious here of course.  Rather than evaluating the loss, we need to ask if ‘ex-ante’ – given the risks and the information at the time, and given societies preferences/taste for risk, was this a good idea.

And here we have the kicker – the fact the private sector was unwilling to do it, when they would have to face the risks, suggests that it probably wasn’t a good idea to start with.  Even if think big had “succeeded” it was still bad policy.

Nowadays, I like to think that we base policy on evidence and logical argument – lets hope that actually is the case.

Matt Nolan

More on commodity booms

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After today’s discussion on food prices, it was interesting to see a speech out of the Reserve Bank.

The speech was painting risks – so stating things that could occur that were both positive and negative (risks are not just negative things when your current forecasts “balance” risks).  It was good, it raised issues, and it gave me an idea for a post for next week.

But, who the hell picked the wording on this:

New Zealand farmers are still recovering from the last commodity boom

And I suppose employees are still recovering from the large increase in wages during 2007, and oil drillers are still recovering from the record high oil prices in 2008 …

Yes, farmers overborrowed, sure.  But it wasn’t so much the commodity boom that did it – rather the expectation that land values and high commodity prices would make highly leveraged farm buyouts economical … when some were not.

I imagine farmers are really still recovering from the commodity slump during the GFC, weakened access to credit, and a sharp decline in farm values.  The statement “recovery from” is not the first thing that comes to mind when thinking of a period when incomes were high 😀

… You might think picking up on this is pedantic – but seriously, the wording the Bank uses is analysed in detail.  And statements are constantly compared to try and get a feeling for where policy is moving.  Saying that farmers are recovering from a period of high income gives the impression that they expect farmers to expose themselves again if commodity prices stay high – which is a big call.

I can (and constantly do) mis-speak, because I am not important.  The Bank is important – it sets policy – and the train of thought that is betrayed by their language dictates how the market forms expectations of their policy

Matt Nolan

Pricey food and New Zealand: Net and distributional issues

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I have been crawling closer to writing about food prices for a while.  Originally I was going to only write about distributional issues, but now I’m going to write a little more.

A report released by NZIER yesterday afternoon suggested that New Zealand would be worse off, as a whole, if the relative price of commodities stayed high.  In truth, this result seems like an unlikely counterfactual to me in the current situation (even in the long-term) but the difference would likely stem from some of our implicit assumptions regarding the drivers of higher food prices – and as a result the net income effect and the change in domestic capacity.

However, it is not just people within New Zealand that are concerned, both Matt Yglesias, VoxEU, and the Economist are bemoaning high food prices.  To get an idea of the issues lets split ourselves into three sections:  1) short-term impact of current high food prices, 2) distributional impact of these prices in the short term (this is just for NZ, as it is an important point),  3) long-term impact of high food prices – and what it means if the relative price does stay higher.

Read more

Matt Nolan

Saving and consumers: A note

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There has been a lot of talk about savings and rebalancing.  I’m not going to touch this stuff in much detail until the Savings Working Group releases their final report.  But in any case, I do need to say a little something now.

I didn’t like the interim report from the savings group (but remain hopefully the final report will provide a more reasonable break down of events when describing any policy conclusions.  And as a result was worried to hear that the government said it would be changing policy on the basis of the interim report.  However, most of the changes they are discussing are more than reasonable – so that is good.

One descriptive factor I have to take issue with though is this:

People borrowed heavily to buy houses and farms, property prices soared and New Zealanders felt wealthier as a result. They spent a lot on consumer goods, which led to a bubble of economic activity.

Really?  I mean, GDP tells us how much stuff we can make – apart from any loss resulting from wasted investment, and changes in relative prices, when we have a certain level of “GDP” we should be able to return to it.  It is production.

And what is this “spent a lot on consumer goods” business.  Let us look at a graph:

Did our spending relative to the amount we could produce seem excessive relative to the last 20 years?

Now, I recognise that the concern could be more long term – we could have been seen to be borrowing too much to consume for 20, 30, 40 years.  But without an actual strong reason why this is the case, and why our creditors have allowed it to persist for so long, I find this difficult.  A country CAN run persist current account deficits, a country CAN hold a large stock of debt as long as it can meet interest repayments.  We can’t say that this is a problem unless we can describe specific institutional factors.

And I haven’t seen anyone do that.  The interim report most definitely didn’t, although I am looking forward to the final report because I am sure it will go into more detail explaining “why” – which is something I would like to know about before commenting on any policy recommendations.

Matt Nolan

Beware the tax-free threshold

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Judging by the fact that the “tax-free threshold” has reappeared as a policy prescription, I can tell it is election year.

I am against tax-free thresholds.  This has been discussed various times before, but the most detailed exposition of my feelings came out three years ago – during the previous election year.

If I had to summarise I would say:

  • A tax-free threshold implies that, for the same level of government spending, effective marginal tax rates must be higher for anyone earning more than the threshold amount (assuming pro-rata increases) – which implies that there is likely to be a greater efficiency cost for the same level of government spending.  [Think of it in this simplified way:  if we don’t tax the first $5,000 of someones income, but need them to pay the same amount of tax on their income, then we need to charge a higher average amount on all their income about $5,000 – if this tax was flat, this would also imply a higher marginal rate]
  • A tax-free threshold is an indirect form of redistribution – so for that level of “spending” the gains in terms of equity are more than likely to be lower than targeted spending.
  • The benefit of the tax-free threshold is that it avoids “churn” in the tax system (if the tax-free threshold replaces some benefit spending).  BUT, there is a countervailing cost from the greater level of progressivity – namely greater compliance costs and tax avoidance associated with another tax bracket.

In net terms, an increase in the progressivity of the tax system (an efficiency cost) combined with the fact that any redistribution will be poorly targeted (a relative equity cost for the same level of efficiency) appears (to me) to be far more important than the benefit of “reducing churn”.

A clear and transparent flat tax system that raises revenue, combined with benefit spending that targets social goals, is (in my view) the best way to ensure that our society achieves its preferred equity-efficiency trade-off at the lowest cost.  A zero tax threshold moves us away from this – and so just doesn’t feel right to me.

Update:  Kiwiblog (David Farrar) is also in favour of a tax-free threshold, because of the “reduction in churn”.

Again, remember that the tax-free threshold isn’t just for those who “receive benefits” – it is for all income earners.  As a result, effective marginal tax rates HAVE to rise to keep revenue constant, reducing labour supply.  This implies that there is a direct efficiency cost – which all parties seem keen to ignore.

Update 2: More points here.  And NZIER also agrees.  Clean sweep of economists are against, yet both people on the left and the right are for it – fascinating … I am going to have to post more on the issue I suspect.

Matt Nolan

“Irrationality” is not a sufficient condition for intervention

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One thing that irritates the hell out of me is the fact that many people believe the slightest sign of cognitive limitations implies that we should have government intervention.

Hell I’m centrist, I see myself as left-leaning in somethings and right-leaning in others.  But this attitude leads to ridiculous, poorly thought out, interventions.

Several things we need to think about before intervening are.

  1. What is the problem?  Compared to what other practical outcome?
  2. We have to say “why the problem is occurring” this occurs before we can figure out policy,
  3. We have to figure out if government can practically implement a scheme, given their own cognitive and institutional constraints,
  4. We need to ask if the implied problems are observable,
  5. We need to figure out what the consequences of such a policy are – how do people respond over time.

The most common area where this occurs is in the realm of saving.  More people than I care to count have told me that people are irrational, so save too little, so some form of compulsion in savings makes sense.  Some of the most intelligent, articulate, and thoughtful people I know have been known to occasionally move into this school of though.  However, lets see what needs to be ticked off for this to make any sense:

  • We need to figure out why people are saving too little relative to how much they do save.
  • We need to make a moral judgment regarding the impact on themselves (if they save too little and end up poor it is really their own problem – why do we need to intervene?)
  • If we don’t have that, we need to figure out how it impacts on “other people” – and likely make a value judgment for why this is suboptimal.
  • We need to figure out how well government can observe this issue.
  • We need to make a policy based on this observability, how well we can target “problem savers”, and the cost of implementation.
  • We need to look at the long-run implication of the choice – for example, if we make people “save” they could likely borrow on the basis of this asset … leading to no change in net savings rates.
  • We need to look at the distributional and efficiency impact of this policy, and the error bands around it – given uncertainty there would need to be a significant net positive impact for intervention.

I genuinely believe that people understate the intelligence of other people in society – there is no other explanation for how often I am told “people are stupid we need to make them save”.  It may surprise many people to find out that other people in society do think, and do make choices.  Attacking a “straw man” version of people and mentioning “irrationality” does not justify regulation.

Often I will say “it doesn’t matter if people are irrational, how is that a justification for compulsory savings” – too which people tell me I don’t understand.  I guess the failure to actually provide a logical argument does make it hard for me to understand 😉