Monetary policy in the age of Amazon

Short-term nominal wage-price rigidity or sticky prices are a feature of New Keynesian models. It is also the basis for the prevailing wisdom on monetary policy actions.

Faced with a negative supply shock and attendant demand-pull inflation pressures, central banks raise rates so as to slow down the economy and reduce demand. The central bank action is motivated by the sticky price belief. But what if prices are not sticky and are increasingly responsive to economic signals?

In a paper presented at the Jackson Hole Symposium, Alberto Cavallo studied pricing behaviours for large multi-channel retailers in the US over the past ten years and shows that, especially for supply shocks, "online competition increases both the frequency of price changes and the degree of uniform prices across locations". He writes,

The evidence... suggests that competition with online retailers has increased the frequency of price changes in US retail markets... I find that traditional retailers that sell online tend to have a high degree of uniform pricing, which closely resembles the behavior of Amazon. In the cross section, the more a good competes with Amazon, the higher the degree of uniform pricing.

In simple terms, online competition is making prices more flexible and uniform even in the offline markets. In fact, it is now well documented that not only online retailers even offline retailers are resorting to uniform pricing across their stores, and there is convergence not only across stores within the same retail chain but between retailers. 

These trends have have implications for monetary policy,

For monetary policy and those interested in inflation dynamics, the implication is that retail prices are becoming less “insulated” from these common nationwide shocks. Fuel prices, exchange-rate fluctuations, or any other force affecting costs that may enter the pricing algorithms used by these firms are more likely to have a faster and larger impact on retail prices that in the past... For monetary models and empirical work, my results suggest that the focus needs to move beyond traditional nominal rigidities: labor costs, limited information, and even “decision costs” (related to inattention and the limited capacity to process data) will tend to disappear as more retailers use algorithms to make pricing decisions... The gas-price pass-through rate is 22% in a single quarter, and it rises from 19% to 28% for goods that can be easily found on Amazon. The short-run exchange-rate pass-through is 32%, and rises from 26% to 44% when a good can found on Amazon.

Yuriy Gorodnichenko, as a discussant to the Cavallo paper, offers more specific suggestions,

First, monetary policy should be more aggressive in combatting recessions. Second, central banks should likely... care less about inflation and... put a higher weight on volatility of output as more flexible prices lead to smaller distortions in the allocation of resources. Third, holding everything else constant, inflation will likely become more volatile and cyclically sensitive, more dominated by transitory shocks, and potentially more difficult to control in the short run. Fourth, central banks will possibly need to redefine their targets and operations to respond to the evolving nature of price setting in the retail sector. Perhaps, central banks will need to develop new tools to make their policies more targeted.

Since prices are sticky, firms, being stuck with their chosen prices for some time, incorporate more information about future inflation into their pricing decisions. Also sticky prices react to more persistent shocks and is the main driver of cross-sectional price dispersion. The objective function of central banks, by relying on a price index that overweighs sticky prices, is therefore more reliably targeting inflation expectations. But, on the contrary, if prices become more flexible, and central banks target a price index with higher-frequency changes, it may end up destabilising the economy.

At a broader macroeconomic level, this is one more evidence in support of the globalisation of inflation argument. As price transmission increases, global shocks will have a much greater impact on  domestic prices than earlier.

Equally important, flexible and uniform prices reduces the space available (for different actors) to accommodate non-uniform shocks. Sellers would not be able to lower prices in an area in response to a negative demand shock (say, a natural disaster). This can, in turn, exacerbate and prolong downturns. 

Monetary policy aside, the impact of e-commerce firms may be even greater in developing countries where the level of market fragmentation is much greater to start with. In these markets, as their penetration increases, the impact of online retailers can be far-reaching. On the one hand, lower overheads and economies of scale will provide them with the competitive advantage to supply goods at cheaper rates. On the other hand, the easily available price information from their sites will bridge information asymmetry and could create conditions that deter differential pricing and price gouging. 

Math and Economics

Two observations on Economics

1. I recently came across a political scientist stating that he is using econometrics in his research. Well, given that econometrics is the application of statistical techniques to economics data, why did he not say he was using statistical techniques to political science data? An example of the hegemony of economics over social sciences? 

2. Paul Romer triggered the debate on mathiness in Economics. For good reason. Consider the example of maximising welfare in a specific context, say, with a policy of low income housing mandates or crop-insurance subsidy for farmers or carbon tax on industries.

It is easy to select a canonical model of a concave welfare function, take the first derivative equal to zero, and test whether second derivative is negative to arrive at the optimal welfare maximising condition. You have the policy recommendation. Never mind whether the actual (real-world) welfare function is convex, or monotonic, or with multiple maxima!

Instead, imagine the difficulty of visualising the context, identifying the different stakeholders and impact/influence pathways, assessing first the likely partial equilibrium and then the general equilibrium effects, balancing the costs and benefits, and then distilling everything together to make a policy recommendation. Can you even model this? Just constructing this model after internalising the problem and its context is itself a challenge.

No wonder, Joan Robinson famously said,

“I never learned maths, so I had to think.”

The impossible dilemma - business concentration and competition cannot co-exist

John Van Reenen has a paper at the Kansas City Fed's Jackson Hole Symposium analysing the changes in market structure and contributors to business concentration. He writes,

In recent decades the differences between firms in terms of their relative sales, productivity and wages appear to have increased in the US and many other industrialized countries. Higher sales concentration and apparent increases in aggregate markups have led to the concern that product market power has risen substantially which is a potential explanation for the falling labor share of GDP, sluggish productivity growth and other indicators of declining business dynamism. I suggest that this conclusion is premature. Many of the patterns are consistent with a more nuanced view where many industries have become “winner take most/all” due to globalization and new technologies rather than a generalized weakening of competition due to relaxed anti-trust rules or rising regulation.

In simple terms, Reenen appears to be saying that business concentration may be happening due to globalisation and new technologies which have changed the nature of competition, and not weakened it, and that may not be a matter of concern.

He goes on,

There are other explanations of the increasing differences that do not rest on a generalized fall in product market competition. Indeed, an equally strong case could be made that the forces of globalization and new technologies have changed the nature of competition without necessarily diminishing it across the board. For example, if more markets are becoming “winner take all” as with digital platform competition, this will generate the dominance of “superstar firms” such as Amazon, Apple, Facebook, Google and Microsoft. The success of such firms may be as much due to intensified competition “for the market” rather than anti-competitive mergers or collusion “in the market”. Furthermore, even in lower tech markets like retail and wholesale, rapid falls in quality-adjusted ICT prices (information and communication technologies) may give larger firms - who can invest heavily in developing proprietary software - major advantages in logistics and inventory control management...

if firms differ in their productivity and markets are not perfectly competitive more productive firms will have bigger market shares. Furthermore, these large “superstar” firms will tend to have higher profit margins and lower labor shares of value added. If market competition rises (e.g. consumers become more price sensitive) then more output is allocated to the larger, most productive firms – i.e. concentration rises. This can be through the extensive margin (less productive badly managed firms exit) and the intensive margin (amongst the survivors, high productivity firms get even larger market shares). Hence an increase in competition could easily lead to rising concentration. 

In fact, far from being anti-competitive, such business concentration may be due to "intensified competition for the market". He also argues that "the fall in the labor share is due to reallocation towards large, high margin firms rather than a general increase in the markup across all firms". He dwells on the important finding of "rising firm-level productivity dispersion" and "most of the widening earnings inequality being between firms and not within firms". And isn't reallocation towards more dynamic firms in an industry to be welcomed? 

And the underlying premise of the dynamics of modern technologies and other trends favouring "superstar firms" and the fact that these firms dominate the most innovative and vibrant sectors of the economy appears to indicate a merit-based and market-driven selection of these firms. In fact, nothing could be farther from the truth.

It is here that economists would do well to ground their theories of change on priors and not just objective and logical arguments. They need to draw on historical perspectives and on other branches of social sciences to inform their theories. More than anything they need to just watch what is happening in the real world. 

Sample this logically perfect rationalisation, 

Higher competition in general will give firms with a cost or quality advantage a large share of the market. But the growth of platform competition in digital markets has led to dominance by a small number of firms such as internet search (Google), ride sharing (Uber), social media (Facebook, Twitter), operating systems for cellphones (Apple, Android), home sharing (AirBnB), etc. Network effects mean that small quality differences can tip a market to one or two players who earn very high profits. The growth of such industries does not mean that competition has disappeared, rather its nature has changed. There is more competition “for the market” rather than “in the market”.

"Growth of platform competition" driving the trends in digital markets! Really? If nothing else, read the ProMarket Blog please. There are countless articles, including nowadays in the mainstream media, which calls out this argument and describes the anti-competitive practices of these platform companies.

From a historical and inter-disciplinary perspective, intellectuals from Adam Smith to Karl Marx, not to speak of several others subsequently (Pareto, Mosca, Wright Mills, Eisenhower, Galbraith and so on), have all warned of the dangers of political capture by those who exercise economic power. And it cannot be denied that superstar firms or the largest firms, left to their own devices, will not only exercise economic power but also seek political power to entrench their economic power.

In other words business concentration and political capture invariably go together. Alternatively, competition and business concentration cannot co-exist. This is the impossible dilemma of any market structure. 

In simple terms, Reenen's line of reasoning overlooks the central issue. The problem is the reality of business concentration and all its consequences (including the fall in labour share of income). The "superstar firms" are themselves the problem. And not what causes this business concentration or their rise. Not even what is its future. Much less whether this is caused by decreasing or rising competition. 

Economists and researchers schooled in mathematical models gloss over the dynamics of real-world human interaction. Just consider access itself. It was reported that Google for example had 120 lobby meetings with a commissioner, cabinet member or director-general of the EU between 2014-16. Or the extraordinary access of Google to the Obama White House or Goldman Sachs to Hank Paulson when TARP was being formulated or the unprecedented access of corporate executives to President Obama himself. This access, even without malafide intent on any side, itself deeply questionable, marginalises incentives and logical reasoning (and attendant utility preference functions) and primes decision-makers into internalising a particular world-view or line of thinking about an issue. It is just that's the way human beings are. Call it influence, hegemony, socialisation, or whatever. It's a reality that cannot be wished away! This access has to be contrasted with the minimal or no access that the opposing and alternative points of view, which in turn amplifies the influence of business interests.

At a most basic level, if we buy into the inevitability of political capture, it is immaterial what is driving business concentration. The mere fact of business concentration raises the possibility inevitability of the exercise of economic power and political capture.

When Piketty came out, instead of embracing the central message of a world of widening inequality, economists went about detracting attention from it by hair-splitting around the inequality r > g. A similar debate is being reprised amidst the mounting evidence of the harmful effects of business concentration, irrespective of what drives it and what is its future.

Weekend reading links

1. In a generally dismal world of public and civic life, I thought that the flood relief work in Kerala was exemplary. Every one displayed remarkable and very rare maturity and dignity in their response, both words and action, not to speak of commitment. I was impressed by the local media (and not the Delhi media) and the local political leaders, not two constituencies that are expected to cover themselves in glory in our times.

This Livemint story of exemplary courage, commitment, and hardwork by different people and groups is very good. Surely something others can learn from Kerala!

2. South Korea market specialisation fact of the day,

According to the Hyundai Research Institute, semiconductors have accounted for as much as 20 per cent of exports so far this year, up from 12 per cent in 2016.

And the chaebol market power graphic

3. Rana Faroohar has a very good article on the challenges posed by the sharing economy and the need for them to share benefits with their clients,

In reality, most Uber drivers are black, Asian or Latino and making below minimum wage. And, on the whole, algorithmic management puts dramatically more power in the hands of platform companies. Not only can they monitor workers 24/7, they benefit from enormous information asymmetries that allow them to suddenly deactivate drivers with low user ratings, or take a higher profit margin from riders willing to pay more for speedier service, without giving drivers a cut. This is not a properly functioning market. It is a data-driven oligopoly that will further shift power from labour to capital at a scale we have never seen before...

Airbnb often touts its ability to open up new neighbourhoods to tourism, but research shows that in cities like New York, most of its business is done in a handful of high end areas — and the largest chunk by commercial operators with multiple listings, with the effect of raising rents and increasing the strains caused by gentrification. Officially Airbnb has a “one host, one home” policy in New York, but better enforcement is needed.

4. Last week the British Government took back control of HM Prison Birmingham, one of the country's largest prisons which had been outsourced to G4S. This followed a surprise visit to the facility early this month by the Chief Inspector of Prisons which revealed Dickensian conditions and rampant hooliganisms. 

HMP Birmingham was graded “poor” across all four categories — safety, respect, activity and resettlement... Inspectors found open drug dealing, blood and vomit left uncleaned, broken windows and leaking toilets. Some staff were found asleep, while others had locked themselves in their offices. The chief inspector told the BBC Today programme that he had had to leave one area of the prison after feeling the effect of narcotics in the air. Mr Clarke said in his report that he was “astounded” that the prison had “been allowed to deteriorate so dramatically over the 18 months since the previous inspection”. He added that he had “no confidence in the ability of the prison to make improvements”... HMP Birmingham recorded 1,434 assault incidents in the 12 months to July this year, the largest volume of any jail in Britain.

This is the first time the Government has exercised its power to strip a prison contractor since the first privatisation in 1991. Prisons have been buffeted by sharp increase in prisoner population and drastic cuts in public financing. Of UK's 123 prisons, 17 are run by private companies. 

This is bound to amplify the debate on renationalisation that had been gathering ground in recent times, and had been aided by the liquidation of outsourcing contractor Carillion in January and the nationalisation of East Coast railway line a few weeks later.

5. The current rise of the US S&P 500 stock index crossed the longest bull market in history, at 3453 days. It has soared 320% since March 2009 creating $18 trillion of wealth.

6. Has Trump managed to unsettle the Chinese as none before? Yes, it would appear so given their frenzied domestic policy responses,

Chinese officials are pushing banks to lend more and allowing indebted local governments to spend money on big projects again. They have moved to shore up the value of the country’s currency. They have also helped out the stock market... China is taking steps to make sure its companies and spenders have enough money. The central bank announced on Aug. 10 that it would make sure enough credit reached companies. China’s banking regulator announced on Aug. 11 and again over the weekend that it wanted the country’s state-controlled banking sector to provide ample credit to exporters, small and medium-size businesses and infrastructure projects. Regulators are taking other steps to give banks the financial space needed to step up lending. The official China Securities Journal reported on Tuesday that financial regulations may soon be changed to let banks keep practically limitless holdings of local government bonds without including them in their calculations of their ability to endure hard times... The authorities are also encouraging local projects. The Finance Ministry is helping deeply indebted local governments borrow far more money this autumn so that they can restart stalled infrastructure projects. China’s central planners have allowed a series of big local government projects to proceed that had previously been blocked because of debt concerns... Its banking regulator has begun encouraging the country’s four big asset management companies to aid highly speculative peer-to-peer lending schemes that have been collapsing in recent months, though the details of that help remain unclear. And the government has deferred plans for a more stringent crackdown on various kinds of informal lending, or shadow banking, including off-balance sheet lending by banks.

Unfortunately, this also means all the old practices - excess credit, shadow banking, over-building etc - are back. And the much anticipated recalibration takes two steps back.

7. Despite ample evidence on the harmful effects of business concentration and the imperative to take steps to address it, some like Robin Harding of FT think it is still a matter to debate. Selective reading of the literature is the mark of such articles. 

Consider the reference to the famous Loecker-Eckhout paper which claimed mark-ups have rise from 18% to 67% in the US since 1980, and its apparent disputation by referring to the James Traina paper which includes other costs. But leaving this debate as such without reference to this more comprehensive IMF paper on publicly traded companies across 74 countries for the 1980-2016 period is nothing but selective application of evidence. It had found that markups increased by an average of 39% in developed economies, broad based across industries and countries.

In fact Robin Harding's argument to focus at least as much on governance and corporate behaviour is a classic diversion tactic of the incumbents. As much as you may want to and may even get the system to focus on such issues, the concentration of business power makes such efforts almost invariably certain to fail.

8. Talking about business concentration, FT sets the stage for the annual Jackson Hole meeting where the issue is expected to be an important focus. Contracting competition is leading to business concentration...

... leading to higher business profits, but lower labour income share.

In fact, the Herfindhal-Hirschmann Index of business concentration has risen by 48% since 1996, and it has risen in more than three-quarters of US industries. 

Robin Harding should read more of the likes of his colleagues like Sam Fleming and Bloomberg's Noah Smith!

9. A nice snippet that captures the extent of lobbying that goes on at the highest levels, especially by the technology companies,

According to lobbyfacts.eu, Google for example had 120 lobby meetings with a commissioner, cabinet member or director-general of the EU between 2014-16.

10. Convulsions in the #MeToo movement. Asia Argento, one of the first to accuse Harvey Weinstein, stands accused of sexual harassment of a minor and paid hush money to silence her accuser. Avital Ronell, a Professor of German and Comparative Literature at NYU, who was found guilty by the University of sexual harassment   of one of her students and suspended for one academic year, has got unqualified support from some of the luminaries of the Feminist movement seeking to discredit her accuser. See this and this.

11. Finally, the Kansas Fed's annual Jackson Hole Symposium papers available here. 

The Hellenic tragedy becomes a farce

For the record Greece may be exiting eight years of international bailout programs. But only the most obtuse can celebrate this exit. It is more likely a breather, and a short one at that.

Consider these. Disposable income is 35% below and decline in employment about 20% of 2009 levels, public payroll has shrunk by 150,000 mainly through attrition and hiring squeeze, and real hourly wages are a fifth below the 2010 level. 

The country has achieve budget surplus only through savage cuts in public spending and increases in taxes. But despite the increases in taxes, total government revenues have been stagnant, pointing to declining economic activity. In fact, OECD data for 2017 informs that an average married Greek workers with two children has to pay 39% of income in tax and social security contributions, the second highest among members.

The Prime Minister recently described the country's banks as "zombie-like", an astonishing 48% of the outstanding loans being non-performing, ten times the European average! 

So we have the disastrous cocktail - government pursuing austerity and raising tax rates; consumers groaning under the burden of indebtedness, high tax rates, and declining real incomes; businesses struggling with debt repayments and anaemic long-term economic prospects. And on top of all that, banks with their credit taps shut off. 

And this not even the worst news. The country currently has government debt amounting to 178% of GDP by end of 2017. Assuming a very unrealistic 3.4% budget surplus for a decade and 2.2% thenceforth till 2060, the European Union creditors have forecast an encouraging public debt profile for the country. 

The only problem is that if we make more realistic assumptions, of 2% and 1% surplus respectively, itself highly improbable, here is what the debt profile would look like!

There is no question that the current exit is just a breather and sometime in the foreseeable future, Greece will have to either default or have to undergo debt forgiveness. And with it a return to another round of bailout programs!

Revisiting Marx and Smith

Frank Partnoy and Rupert Younger revisit The Communist Manifesto and draft The Activist Manifesto in the context of today's problems, and finds that they ended up retaining almost three-quarters of the former's prose!  They write,

In our redrafting, we have had to go far beyond merely substituting “communism” with “activism”. The “Pope and Tsar, Metternich and Guizot, French Radicals and German police-spies” and others in Marx’s and Engels’ sights have gone. We have introduced their modern counterparts: “the corporate Haves, the elites, the billionaires, the establishment politicians of the Republican and Democratic parties, Conservatives and Labour, the talking heads at Davos, the echo chambers of online media and fake news.” But we have kept much of the rhetoric along with Marx’s and Engels’ relentless focus on economic inequality. Two centuries after Marx’s birth, and however much communism has rightly been discredited, a great deal of the argument is as relevant now as it was then... We substituted “Have-Not” in place of “proletariat”... we substituted “Have” in place of “bourgeois”... the document was, fundamentally, an attack on inequality... The Haves have never in history held so much advantage over the Have-Nots.

And Paul Sagar's revisit of Adam Smith,

According to Smith, the most pressing dangers came not from the state acting alone, but the state when captured by merchant elites... Indeed, Smith’s single most famous idea – that of ‘the invisible hand’ as a metaphor for uncoordinated market allocation – was invoked in precisely the context of his blistering attack on the merchant elites... in the passage of The Wealth of Nations where he invoked the idea of the invisible hand, the immediate context was not simply that of state intervention in general, but of state intervention undertaken at the behest of merchant elites who were furthering their own interests at the expense of the public.

It is an irony of history that Smith’s most famous idea is now usually invoked as a defence of unregulated markets in the face of state interference, so as to protect the interests of private capitalists. For this is roughly the opposite of Smith’s original intention, which was to advocate for restrictions on what groups of merchants could do. When he argued that markets worked remarkably efficiently – because, although each individual ‘intends only his own gain, and he is in this, as in many other cases, led by an invisible hand to promote an end which was no part of his intention’ – this was an appeal to free individuals from the constraints imposed upon them by the monopolies that the merchants had established, and were using state power to uphold. The invisible hand was originally invoked not to draw attention to the problem of state intervention, but of state capture... Smith’s analysis implies that a free society with a healthy economy is going to need to put fetters on economic elites if the invisible hand is to have any chance of doing its paradoxical work. 

Contrary to the conventional wisdom, at least in the context of the issue of widening inequality and political capture, the similarity in the contextualised messages of both is remarkable.

Update 1 (26.08.2018)

Jesse Norman has an excellent interpretation of Smith for modern times in the FT. His nuanced suggestions are spot on,

Markets for Smith are very different to those of economists today. They are not the disembodied mathematical constructs of modern economics and policymaking, and his view of individuals is not that of a desiccated economic atomism. Rather — recalling his insights about language and ethics — markets are living institutions embedded in specific cultures and mediated by social norms and trust. They shape and are shaped by their participants, in a dynamic and evolving way. They often have common features, but they are as different from one another as individual humans are: markets for land and labour and capital, asset markets from product markets and all the innumerable rest of them... what matters is not the largely empty rhetoric of “free markets”, but the reality of effective competition. And effective competition requires mechanisms that force companies to internalise their own costs and not push them on to others, that bear down on crony capitalism, rent extraction, “insider” vs “outsider” asymmetries of information and power, and political lobbying... markets constitute a socially constructed and evolving order that exists and must exist not by divine right but because it serves the public good. It follows from this that the modern doctrine of market failure, which derives from academic models assuming perfect competition, needs to be expanded and supplemented. The truth is that outside academic models there are few if any genuinely free markets, and the imagined benefits of perfect markets disappear once any imperfections are allowed. Instead, policymakers need to start by asking two much simpler questions: What is this specific market for? How is it actually working?... both individual markets and the market order itself rely on the state. While political intervention can destroy market functioning, it can also enable it. But markets are not inviolable, and they derive their reason for being not from any supposed sanctity of capitalism itself, but from their place within modern commercial society. Ultimately, especially within democracies, it falls to the state to underwrite that legitimacy. And if the preservation of the freedoms, trust and order that make up modern commercial society requires the periodic reform of capitalism, then reform it we must.

Weekend reading links

1. The power of being Amazon, and how economic heft invariably spills over into political capture,

On May 14th the Seattle city council passed a “head tax” of $275 per employee for firms with more than $20m in annual revenue, in order to fund services for homeless people. Amazon, which employs more than 40,000 people in Seattle, promptly halted construction on one office tower and suggested it would sub-let another. A month later the city council tucked tail and repealed the tax.

2. Another less discussed feature of Chinese capitalism is its tolerance of ambiguous arrangements. The most classic example is property, which while legally owned by the government, is virtually vested with private individuals. Transactions of various kinds which effectively transfer the leases are common place, and though questionable is tolerated. Another example concerns Variable Interest Entities,

Variable interest entity (VIEs) are ubiquitous, especially among the country’s internet firms, which have a total market capitalisation of over $1trn. The structure dates back to the early 2000s, when Chinese technology companies wanted to tap global capital markets in New York and Hong Kong and to set up international holding companies domiciled outside of mainland China. Yet their sensitive internet assets, such as licences, may not be owned by foreign entities, according to Chinese law. To get around this, tech firms opted to avoid owning these mainland assets outright, and instead to bundle them into legal entities called VIEs, in turn owned by individuals in China (usually the bosses of the firms and their associates). The VIEs and these individuals sign contracts with the international holding company, handing over to it control of the VIE as well as its profits... There are three problems with VIEs. First, key-man risk. If the people with nominal title die, divorce or disappear, it is not certain that their heirs and successors can be bound to follow the same contracts. Second, it is not clear if the structure is even legal. China’s courts have set few reliable precedents on VIEs and the official position is one of toleration rather than approval. Third, VIEs allow China’s leading tech firms to be listed abroad, preventing mainlanders from easily owning their shares and participating in their success.

3. Richard Baldwin has contrasts rising inequality in developing and developed countries, 

It’s true that China is one of the places where inequality rose most rapidly, depending upon how you measure it. But it’s a totally different thing when average incomes are going up by 10 percent. The poorest people are going to be able to buy their parents’ houses. Here in America, middle-class people can’t afford the house they grew up in. That’s a completely different type of inequality. I do think inequality in the developing world will rise, but it will be all boats rising. Just some people have bigger boats.

As this blog has repeatedly pointed out, the concern is not so much the widening inequality per se, but the consequent inevitable capture of political power. 

And he has this very insightful point about the likely persistence of political-economy based resilience,

I think what people who don’t follow trade very deeply, or they follow it too theoretically, they think that tariffs are something abstract. Instead, there are always people wanting higher or lower tariffs inside every single country. The agreements we have are its balance of power. That balance of power is not fragile. It’s based on long-term, slow-moving things, and that’s what I’m confident will prevail.

4. The Economist draws attention to an unsustainable boom in property prices in developed country cities. It compares house prices with rents and median household incomes,

If prices rise faster in the long run than the revenue a property could generate or the earnings that service mortgages, they may be unsustainable. Or, at least, incomes or rents will eventually have to rise. Taking the average ratio over the past 20 years (or more if data exist) as “fair value”, national house prices in Australia, Canada and New Zealand have been more than 20% above fair value compared with income and 30% above fair value compared with rents for the past three years. They have now hit 40% above fair value for both metrics. Data for rents at the level of cities are lacking. But compared with long-run median incomes, prices appear even bubblier at city level than nationally.

5. In this context land value tax becomes attractive,

House prices there are 34% higher, on average, than five years ago, freezing young people out of home ownership. Windfall gains should be an obvious source of revenue, yet property taxes have stayed roughly constant at 6% of government revenues in rich countries, the same as before the boom.

This is the briefing article on LVT. Here is one of my first opeds making the case for Land Value Tax for India. 

6. Negative externalities from Amazon second head quarters,

Later this year Amazon is due to announce the site of its second headquarters. Cities have been competing to attract the firm. But local residents who do not own property could be forgiven for hoping that Amazon goes elsewhere. Its headquarters will employ perhaps 50,000 rich workers, who will bid up rents and land values, all the while crowding local public services and infrastructure. The chosen city will need to invest to accommodate the workers, but the costs of doing so will be unfairly spread across existing residents, because in their bid to lure the firm, cities are offering Amazon discounts on local business taxes.

7. Shang Jin-Wei and co-authors examine US imports from China and questions the conventional wisdom (David Autor etc) about its negative effects on job creation in the US,

US imports of intermediate inputs from China rose from about 1⁄4 of total imports in 2000 to more than 1/3 in 2014. Those US firms using imported inputs can improve efficiency and potentially expand their employment. Firms that use these imported inputs (e.g., computers, printers, telecommunication equipment, and parts and components of various office machinery) include those in what are traditionally labeled as “non-tradable sectors” such as banks, business services, research and educational institutions... 

this paper explicitly considers downstream and upstream effects of imports from China, and uses more precise information on how imported intermediate inputs from China are allocated across US sectors... Using a cross-regional reduced-form specification but differing from the existing literature, this paper (a) incorporates a supply chain perspective, (b) uses intermediate input imports rather than total imports in computing the downstream exposure, and (c) uses exporter-specific information to allocate imported inputs across US sectors... 

In contrast to the existing literature, we find strong evidence that the downstream effect is positive (i.e., the use of imported Chinese inputs raises US employment) and the effect is greater than the combined negative impact of a direct import competition channel and an indirect upstream channel. In addition, the US labor market is flexible enough that non-manufacturing employment is systematically stimulated by trading with China. The net employment effect from trading with China is found to be positive. As important, once a supply chain perspective is applied, we find that American workers as a group experience an increase in real wage from trading with China. The effect is not the same across all workers; most college educated workers gain substantially, whereas many non-college- educated workers experience a decline in real wage. Still, even without redistribution between capital owners and workers, every worker can be made better off if the total wage bill can be redistributed.

8. Finally, a stunning graphic which shows that the global equity market is shrinking at the fastest pace in two decades on the back of a continuing surge in share buybacks.

Even as buybacks are expected to top a record $1 trillion this year, their volume exceeds new issuances.

Reform experimentation in China slows down?

I have blogged on several occasions about "crossing the river by feeling the stones" and "let a million flowers bloom" approach to reforms by the Chinese government. Allow sub-national governments to experiment in a low stakes manner without the threat of recriminations on failure. 

Sample this,

Though it brooks no dissent and has a taste for strongman politics and centralised leadership, the Communist Party has shown an admirable willingness to let small areas of the country try out reforms before they are introduced nationwide. These local experiments with reform have been cited by some Western scholars as examples of China’s “adaptive authoritarianism”. This is a way of describing the party’s ability to avoid the fate of its counterparts in other communist-ruled countries by flexibly adjusting policy in order to satisfy public demands for greater prosperity. The pilot system has been an important means of achieving this... In the past, the central government was sometimes ready to devolve considerable power in order to promote experiments with reform. Take the “special economic zones” (SEZs), which the party set up along the southern coast in the 1980s. In these, local officials were given extraordinary leeway to approve foreign investments, grant tax breaks and waive price controls. Their experiments succeeded in producing rapid economic growth. They were, in effect, the pilot projects for the market-oriented policies that helped China become the economic giant it is today. A raft of other experimental reforms followed elsewhere, including the introduction of stock exchanges and greater tolerance of private enterprise. Xu Chenggang of the Cheung Kong Graduate School of Business in Beijing says that in the first three decades of the reform era, which was launched by Deng Xiaoping at a meeting of the party’s Central Committee in December 1978, nearly all the main economic changes began as local pilot schemes...

The decision by China’s legislature earlier this year to establish a national anti-corruption agency, for example, followed the successful piloting of such bodies in the provinces. In 2016 experiments were launched with innovative public-private ownership structures at some of the country’s largest state-run enterprises. Last year five pilot “green finance zones” were established in various parts of the country. These are intended to try out markets for the trading of water- and energy-use rights and, it is hoped, help banks to lend in an environmentally friendly way.

The Economist suggests that this permissiveness may be changing, and it blames Xi Jinping's centralisation and anti-corruption drive for this,

Even before Mr Xi took over, the pace of experimentation had been slowing. Sebastian Heilmann of the University of Trier in Germany reckons that the number of provincial-level policy pilots declined from around 500 in 2010 to about 70 in 2016 (see chart). Over the same period, the share of national regulations with experimental status dropped from nearly 20% to about 5%... Mr Xi’s ruthless crackdown on corruption and demands for unswerving loyalty to himself as the leadership’s “core” have spread fear among bureaucrats. Few want to risk the unwanted attention that might result from reforms going badly. Mr Heilmann says the central government has also become less open to input from below. “Experiences and initiatives put forward by various regions tend to be ignored” under Mr Xi’s more centralised and personality-based leadership, he says... But the growing indifference of the central leadership to feedback from the grassroots is hampering experiments.

I had blogged earlier arguing that China's Achilles Heel may not be the vast volumes of debt or its aggressive foreign policy posturing, but Xi Jinping and his authoritarian rule. It is just that the unintended consequences can be very many, impossible to predict, and deeply harmful. 

Rare industrial policy success in India

Manufacturing of mobile phones has got a boost from industrial policy pursued by Government of India,

Xiaomi, by far the top-selling Chinese smartphone brand in India, started having handsets assembled in the country by Taiwan’s Foxconn in 2015, and now says 95 per cent of those sold in India are put together there... In April Xiaomi said it had started local production of the printed circuit boards that are the heart of every smartphone. It made the announcement at a conference of dozens of international suppliers it had invited to India to discuss local investment opportunities. Xiaomi’s actions... reflect smart if belated policy moves by Narendra Modi’s government. Onshore phone assembly has boomed since the 2015 introduction of stiff tariffs on imported handsets. Crucially, the government has also taken steps to encourage domestic manufacturing of the parts inside phones. Xiaomi timed the start of printed circuit board production in India to coincide with the April introduction of an import duty on the item — part of a multiyear programme to gradually introduce tariffs on smartphone components, starting with basic accessories such as chargers in 2016 and working up to touch panels next year.

More importantly, great example of why free trade and lower duties are not always the best solutions.

Could the restrictions imposed by the Reserve Bank of India and the draft e-commerce policy on data location be another success? As part of the data protection policy, the RBI has already mandated that by October 2018, all payment firms like Visa, MasterCard, PayPal etc will have to keep their Indian data exclusively in India based servers. The draft e-Commerce policy too requires the same for social media, search engines, and e-commerce firms within two years. China already has the same policy. If all goes well, it could give a fillip to the country's IT industry.

Inequality and the financial crisis - role of housing and equity prices

The latest research in inequality studies comes from the Minneapolis Fed which draws attention to the evolution of wealth among US households.

Moritz Kuhn, Moritz Schularick, and Ulrike Steins used the Historical Survey of Consumer Finances (HSCF) and examined the distribution of household income and wealth across population groups and asset categories for the 1949-2016 period and found,

Middle-class portfolios are dominated by housing, while rich households predominantly own equity. An important consequence is that the top and the middle of the distribution are affected differentially by changes in equity and house prices. Housing booms lead to substantial wealth gains for leveraged middle-class households and tend to decrease wealth inequality, all else equal. Stock market booms primarily boost the wealth of households at the top of the distribution. This race between the equity market and the housing market shaped wealth dynamics in postwar America and decoupled the income and wealth distribution over extended periods... We estimate that until 2007, middle-class capital gains on residential real estate slowed down wealth concentration in the hands of the top 10% by about two-thirds. The housing bust of 2007-2008 was a watershed event as it hit the middle class particularly hard.

More specifically,

The HSCF data show that incomes of the top 10% more than doubled since 1971, while the incomes of middle-class households (50th to 90th percentile) increased by less than 40%, and those of households in the bottom 50% stagnated in real terms... However, when it comes to wealth, the picture is different. For the bottom 50%, wealth doubled between 1971 and 2007 despite zero income growth. For the middle class (50%-90%) and for the top 10%, wealth grew at approximately the same rate, rising by a factor of 2.5. As a result, wealth-to-income ratios increased most strongly for the bottom 90% of the wealth distribution... Importantly, price effects account for a major part of the wealth gains of the middle class and the lower middle class. We estimate that between 1971 and 2007, the bottom 50% had wealth growth of 97% only because of price effects — essentially a doubling of wealth without any saving. Also, the upper half of the distribution registered wealth gains on an order of magnitude of 60% because of rising asset prices. For the bottom 50%, virtually all wealth growth over the 1971-2007 period came from higher asset prices...

From a political economy perspective, it is conceivable that the strong wealth gains for the middle and lower middle class helped to dispel discontent about stagnant incomes... When house prices collapsed in the 2008 crisis, the same leveraged portfolio position of the middle class brought about substantial wealth losses, while the quick rebound in stock markets boosted wealth at the top. Relative price changes between houses and equities after 2007 have produced the largest spike in wealth inequality in postwar American history. Surging post-crisis wealth inequality might in turn have contributed to the perception of sharply rising inequality in recent years. 

In simple terms, the relative price of the two assets - land and equity - is the driver of wealth distribution and thereby inequality.

For the period from 1971-2007, total wealth growth from houses and stock prices and their respective  shares for different population percentile of the wealth distribution.

But since 2007, following the bursting of the housing bubble and the subsequent equity market boom, there has been a significant shift in trends.

The inequality impact of financial crises is best captured by the graphic below. It shows that the average household in the top 10% of today's wealth distribution is three times as rich as the average household in the top 10% of 1971's distribution, whereas those in the bottom half are poorer. 

Notice the dramatic wealth destruction faced by the bottom half from the financial crisis. And the reason for that being the knock-on effect on housing prices.

Alternatively, one could say that the bottom half were kept in the wealth game for the quarter century till the crisis by the booming housing market. 

Noah Smith has the graph below from the work of Edward Wolff that indicates the shares of total wealth in housing and financial assets in 2013.

The Minneapolis Fed research authors also shine light on the broader racial distribution of wealth and income in the US and associated trends,

The historical data also reveal that no progress has been made in reducing income and wealth inequalities between black and white households over the past 70 years, and that close to half of all American households have less wealth today in real terms than the median household had in 1970... In 1950, the income of the median white household was about twice as high as the income of the median black household. In 2016, black household income is still only half of the income of white households. The racial wealth gap is even wider and is still as large as it was in the 1950s and 1960s. The median black household persistently has less than 15% of the wealth of the median white household... In terms of labor market outcomes, we document that over seven decades, next to no progress has been made in closing the black-white income gap. The racial wealth gap is equally persistent and a stark fact of postwar American history. The typical black household remains poorer than 80% of white households.

Story of growth - ideas and institutions?

Andrew Haldane has a nice speech where he draws attention to the work of economic historians Steve Broadberry and John Wallis, who offer an alternative explanation for long-term economic growth. 

The conventional wisdom is that since per capita incomes were largely stagnant till it started rising from the middle of 18th century, historically the "global economy stood still in growth terms" and that industrial revolution (and associated "ideas") was the game changer for economic growth. By this argument, the subsequent versions of general purpose technologies led industrial revolution - electricity, IC engines, and sanitation (late 19th century); digitisation, computers, and internet (later part of 20th century); and AI, Big Data, automation, robotics, nano-technologies (ongoing) - have been the growth drivers. In other words, "ideas" were the drivers of growth.

But closer scrutiny questions this line of reasoning. Broadberry and Wallis use moving ten year average annual GDP per capita growth data to show that there were as many, or more and higher, growth spurts in the 1300-1750 period as in the subsequent period. But, unlike during that period, there were as many similar contractionary episodes. As Haldane writes,

Between 1300 and 1700, GDP expanded slightly more than half the time. Over these expanding periods, growth averaged 5.3% per year. The reason average growth was far-lower over this earlier period – indeed, little more than zero – was because expanding periods were almost exactly offset by contracting periods. They accounted for slightly less than half the period, during which growth averaged minus 5.4% per year.

So what has changed in the period since the Industrial Revolution? Growth during expansion periods is relatively little changed. Since 1750, it has averaged 3.2% per year. That is in fact a bit less than growth during expansion periods prior to the Industrial Revolution. This strongly implies it is not the greater incidence of ideas-fuelled booms after 1750 that accounts for the growth inflexion. The explanation lies instead in the dramatic fall in both the probability and cost of GDP contractions. Recessions have occurred only 30% of the time since 1700 and only 17% of the time since 1900. During these periods, growth has averaged minus 2.2% per year since 1700 and minus 3.4% per year since 1900. Since 1750, recessions have become far less frequent and less painful. It is the avoidance of deep recessions that differentiates the Golden Era from its Malthusian predecessor. 

And the explanation, "institutions". So "ideas" and "institutions" were responsible for the remarkable growth since industrial revolution. Haldane writes,

I will argue that it was the emergence of institutions that explains the rise in the other capitals that were essential pre-conditions for growth (human, social, infrastructural, intellectual etc.) It was the emergence of these same institutions which also cushioned the damaging effects of recessions... a rather broader set of “capitals” – not just physical capital (plant and machines) but human (skills and expertise), intellectual (ideas and technologies), infrastructural (transport and legal systems), social (co-operation and trust) and institutional (national and civic, private and public) capital.

Political upheavals and technological disruptions are the common triggers for emergence and evolution of institutions. They trigger the formation of social infrastructure or "enabling" and "insuring" institutions. As to the latter, relevant today for developing countries, there was a wide-ranging shift in the role of State in society from 17th century,

State spending as a proportion of national income rose from around 1% in the 16th century to around 12% in the 18th, 14% in the 19th and 33% in the 20th.39 It financed social infrastructure of various kinds supporting those facing greatest hardship. This ranged from social housing to healthcare to income support. Its effect was to cap the downside, recessionary risk to individuals, economies and societies.

So the takeaway,

Well, the story that better fits the facts appears to be one in which the conveyor belt of ideas and innovation has been continuous over the centuries, causing lengthy if lumpy ideas-fuelled expansions. But whereas prior to the Industrial Revolution this conveyor belt was regularly halted by recessions, more recently these interruptions have been far fewer and less costly. Put differently, the real revolution in living standards after 1750 came about not exclusively, or perhaps even mainly, from the surge in ideas and technologies. Rather, it resulted from societies having found some means of avoiding the subsequent recessionary bullets. Prior to the Industrial Revolution, these killed expansions dead. After it, societies appear to have found some effective means of dodging them... 

Joseph Schumpeter spoke powerfully about the forces of “creative destruction”. The lesson of history seems to be that we need both to “cultivate the creative” and to “disarm the destructive” if innovation is to translate into rising levels of social, human and infrastructural capital and, then, higher living standards. It is only by establishing strong institutional roots that technological fruit can subsequently be harvested... But if history is any guide, the story of growth will hinge on the interplay between the two “i”s – the disruptive forces of innovation on the one hand, the stabilising role of institutions on the other.

Black Death and Industrial Revolution

Peter Temin distils the literature that connects industrial revolution to the Great Plague,

Voitländer and Voth argue that the scarcity of labor after the Black Death led to a change in agricultural technology. Moving along the wage-rental isoproductivity line, farmers changed from growing crops to tending animals, from arable farming to husbandry... The result of this adaptation of agricultural technology changed the role of women in Medieval society. Switching from crops to husbandry reduced the demand for strength to push plows and expanded the scope of work that women could do. The result was a change in the status of women in society... The reduction in plowing reduced the demand for men’s labor and increased it for women’s labor. Women’s wages rose and their opportunity for work expanded. They delayed marriage, entered service and became more independent... It was a massive change in the structure of society...

The opportunities open to women delayed their marriage and reduced the rate of population growth. The result was the birth of the high-wage economies of England and a few neighboring countries. Voitländer and Voth... estimate that the share of pastoral production in English agricultural output rose dramatically from 47 to 70 percent between 1270 and 1450. And they show by regressions that... the extensive use of pastoral production increased the age of female marriage by more than four years... The adaptation to the initial shock led to a durable rise in people’s income. This in turn led to a demand for more meat in their diet, which of course was accommodated by more husbandry. The whole pattern fit together with the Black Death as a shock that shifted households and the economy from one equilibrium to another.

This all fits in with Allen’s view of the Industrial Revolution being the result of a high-wage economy... Allen argued that the initial innovations of the Industrial Revolution emerged from tinkering by producers to reduce the costs of expensive labor and reap the benefits of cheap power... Allen argues in more recent work that wages and energy prices in North America were close enough to the British pattern for policy initiatives like tariffs, education and infrastructure investments to create conditions hospitable to industrialization. This clearly was true of countries in Western Europe that also followed the British pattern once industrial productivity advanced from its initial level. These countries did not have the factor prices to make the initial innovations of the Industrial Revolution profitable, but further development of these innovations rendered them profitable at factor prices close to those in Britain. And, as Allen noted, policy changes helped industrialization along as it spread.

But this was all within the high-wage area described by Voitländer and Voth. They noted that the European Marriage Pattern extended only from the Atlantic to a line from St. Petersburg to Trieste. Other countries in Asia or Africa were low-wage economies subject to Malthusian pressure on wages, and their factor prices were not close to English prices. Small changes in economic policies were not sufficient to make industrialization profitable in India or Egypt. The story that links the Black Death to the Industrial Revolution therefore is also a story why Europe has industrialized most easily in the past two centuries.

Update 1 (19.06.2020)

Excellent extract by Ananth from William McNeil, Plagues and People,

A casual remark in one of the accounts of Cortez’s conquest-I no longer can tell where I saw it-suggested an answer to such questions, and my new hypothesis gathered plausibility and significance as I mulled it over and reflected on its implications afterward. For on the night when the Aztecs drove Cortez and his men out of Mexico City, killing many of them, an epidemic of smallpox was raging in the city. The man who had organized the assault on the Spaniards was among those who died on that noche trista, as the Spaniards later called it. The paralyzing effect of a lethal epidemic goes far to explain why the Aztecs did not pursue the defeated and demoralized Spaniards, giving them time and opportunity to rest and regroup, gather Indian allies and set siege to the city, and so achieve their eventual victory.

Moreover, it is worth considering the psychological implications of a disease that killed only Indians and left Spaniards unharmed. Such partiality could only be explained su­pernaturally, and there could be no doubt about which side of the struggle enjoyed divine favor. The religions, priesthoods, and way of life built around the old Indian gods could not survive such a demonstration of the superior power of the God the Spaniards worshipped. Little wonder, then, that the Indians accepted Christianity and submitted to Spanish control so meekly. God had shown Himself on their side, and each new outbreak of infectious disease imported from Europe (and soon from Africa as well) renewed the lesson.

Weekend reading links

1. Ananth points to the stunning shift in the market for leveraged loans,

Right now roughly 78% of the more than $1 trillion in outstanding U.S. leveraged loans are cov-lite, compared to just 29% in 2007, at the peak of last credit cycle (and just before the financial crisis). Cov-lite loans place fewer restrictions on a borrower than do traditionally structured credits... the average discounted recovery rate on cov-lite loans undertaken before 2010 is 78%. That figure drops to 56% for cov-lite loans originated in 2010 and after...

2. As the 5G telecommunications spectrum auctions beckon, Mobius Philippose raises the inevitable questions around winner's curse,

The recommended price for the 5G spectrum on offer is over seven times of what was discovered in a recently held auction in South Korea for 3,500 MHz spectrum. 

At the recommended reserve prices, the Telecom Regulatory Authority of India (TRAI) estimates the auctions would be worth over ₹5 trillion, or as much as $78 billion. Mobius feels that given their troubled balance sheets, the high reserve prices are likely to deter telecom providers from bidding for spectrum. 

I am inclined to agree with his view, but not the conclusion that keeping reserve prices high "shows that the regulator and the government don’t care much about the financial health of surviving telcos".

3. SEBI has a draft proposal to deepen capital markets in India by mandating corporates with outstanding long-term borrowing greater than Rs 100 Cr and with credit rating of AA and above to raise 25% of borrowings through corporate bond market. It is proposed for implementation from 1 April 2019, would be on a "comply or explain" mode for the first two years, and would have fines ranging from 0.2-0.3% of the shortfall.

Tamal Bandopadhyay has a nice article which highlights some of the concerns. 

According to a recent analysis by Care Ratings, as of March 2017, the credit limit of such borrowers was 1.5 times the amount of loans actually taken. The Care analysis finds that 106 large companies with over ₹ 10,000 crore credit limit in March 2017 sourced 47% of funds from banks and 16 of them have never entered the bond market. From a group of 42 companies with bank credit limit between ₹ 7,500 crore and ₹ 10,000 crore, 11 never raised money from the bond market...

In a rising interest rate scenario, companies prefer to borrow from banks where the cost is relatively lower than the bond market which reacts fast to rising rates. In the first quarter of current fiscal year, ₹ 66,997 crore has been raised from the market against little over ₹ 1.48 trillion in the year-ago quarter. The volume of gross issuance was ₹ 6.4 trillion in 2017 but dropped to ₹ 5.8 trillion in 2018 and will reduce further in the current year given the rising yields...

Currently, the bond market is dominated by AAA issuers and the issuances by A-rated entities are a measly 2%. The key reasons for the lack of appetite for the A and lower-rated companies’ papers (a bond is considered investment grade if its credit rating is BBB- or higher by Standard & Poor’s or Baa3 or higher by Moody’s) are that most of the investment regulations either do not permit investment in private corporate bonds with rating lower than AA and, even where it is permitted, discouraged through regulatory interventions.

4. Dani Rodrik makes the case to reform WTO to make it accommodate more diversity, 

Negotiated at a time of neoliberal triumphalism, WTO reached inside the border to constrain domestic policies in subsidies, health and safety and intellectual property. Any domestic regulation with an adverse impact on imports could now be treated as a trade restriction. Subsequent trade agreements went further, prioritising trade and foreign investment over domestic concerns. Western policymakers tend to think of today’s global trade rules as neutral and impartial, treating all participants fairly. But trade agreements are political documents, reflecting the interests of dominant coalitions. Multinational corporations, international banks and Big Pharma play a particularly important role in shaping them. It is no surprise that long-term concerns about development, or indeed labour rights and the environment, are given short shrift... When trade threatens to undermine domestic labour standards, fiscal systems, or investments in advanced technology, rich nations should be just as entitled to privilege these concerns over imports and foreign investment...  

If the WTO has become dysfunctional, it is because our trade rules have over-reached. A fair world trade regime would recognise the value of diversity in economic models. It should seek a modus vivendi among these models, rather than tighter rules.

The point being made is less about a justification of China as a case for flexibility within international  trade frameworks, but more about allowing the freedom for individual countries to respond to trends which are genuinely detrimental to their interests.

5. Global tourism has been growing at an explosive pace,

International tourism rose from fewer than 300 million trips in 1980 to some 500 million in 1995, before exploding to 1.3 billion trips in 2017—a number that’s expected to rise to 1.8 billion in 2030.

And China has been the main driver,

China also accounts for an estimated 80 percent of the growth in tourism spending over the past 10 or so years.

6. NYT chronicles Mawlynnong, the cleanest village in India.

7. One of the less discussed problem mounting up across the US and now UK (and elsewhere too) is the financial crunch faced by local governments and its impact on their ability to continue the delivery of regular civic and utility services. Sample this from UK,

Central government funding for local authorities has been reduced in real terms by 49 per cent between 2010-2011 and 2017-18, according to the National Audit Office, parliament’s spending watchdog. Nearly half of England’s 353 local authorities recorded real-terms falls in their reserves between March 2015 and March 2017, according to an FT analysis conducted earlier this year

With economic stagnation, declining or stagnant median incomes, widening inequality, rise of part-time jobs, and so on, cuts in important civic services and consequent pressure to pay for them could be adding fuel to the fire of discontent that feeds populist politics.

8. There is no bigger market failure than in the market for audit services. Talk about the illusion of competition and conflicts of interest in that market,

No fewer than 98 per cent of FTSE 350 constituents (the largest companies on the UK market) have their books vetted by one of KPMG, EY, Deloitte or PwC. In the US, the figure is 99 per cent for the S&P 500... Conflicts are often hidden discreetly beneath the surface. Accountancy firms are not required to be open about the consulting work they provide to companies, from pension and tax advice, to advising on pay policies or restructuring. These ancillary activities can often be much more lucrative than a plain audit contract (which, in addition to legal risk, also limits a firm’s ability to bid for non-audit business)... While situations where conflicts restrict large companies to considering at best two, or in some cases one, of the Big Four are rarely public knowledge, they are relatively routine.

And the conflicts can be egregious,

PwC was recently confirmed as the “delivery partner” to the regulator, Ofwat, for its next price review in 2019, This involves vetting industry business plans to determine appropriate prices. PwC undertook the previous price review in 2014, at a time when it audited or advised no fewer than nine of the UK’s 19 water companies. This time its role is more modest. But it remains statutory auditor to three firms, including the UK’s largest, Thames Water, and provides services to several more. Prem Sikka, professor of accounting at the University of Essex, said of the situation: “Such links will no doubt be exploited to attract clients and say that the firm will show you how to duck and dive and negotiate the regulatory environment. Firms can’t serve more than one master and must be banned from having their fingers in all pies.”

There are also more pernicious forces at work that deter smaller rivals from competing for audit contracts,

Across Britain’s largest listed companies, 61 of the 100 audit committee chair positions at the end of last year were held by Big Four alumni, according to Accountancy Daily. The ties that bind the Big Four to big business extend beyond the boardroom, to the worlds of politics and regulation. This creates a feedback loop that reinforces the giants’ dominance as their connections give them a powerful advantage when bidding for public or private work.

Wholesale break-up of the Big Four or separation of consulting and audit business or selection of the audit firm by a regulator, stock exchange or government are ideas under discussion to address the problem.

9. Finally, comparing China, India, and Vietnam,

“In China, the government can do everything; in India they can’t do anything,” says Huynh The Du, a lecturer at Saigon’s Fulbright University. “In Vietnam it’s somewhere in between: sometimes the government can’t do things because of the resistance of the people.”