Weekend reading links

1. Pointer to where India could be focusing its semiconductor chip ambitions

India already has a fifth of the world’s chip designers, but only 7 per cent of actual design facilities.

2. The US Government has announced plans to close off an old de minimis rule that allows importers to bypass US taxes and tariffs on goods as long as shipments do not exceed $800 in value. Shein, Temu, and other Chinese retailers have exploited this rule to ship cheap items directly from China to shoppers, thereby forcing other retailers including Amazon to consider the same option.

To bring goods into the United States, retailers have traditionally arranged for shipping containers full of products to arrive from China at U.S. ports. Those goods would then be trucked to a company’s warehouses and retail stores before being sold to consumers. But retailers have been increasingly bypassing that process by individually packaging and shipping items directly from China to consumers under the de minimis law. With that method, the shopper is the official importer, rather than the retailer or e-commerce platform, and the value of the shipments largely stays under an $800 threshold.

In addition to avoiding tariffs, sellers do not have to provide as much information to U.S. Customs and Border Protection as with larger shipments. That model has taken off since the Trump administration in 2018 and 2019 imposed tariffs on many Chinese goods that retailers brought to the U.S. through traditional channels. The surge in online ordering during the pandemic also helped to popularize such shipments, which now make up roughly a fifth of e-commerce orders. The number of packages entering the United States each year under the de minimis rule has ballooned to more than one billion in 2023, up from 140 million a decade ago. China is by far the biggest source for such packages, sending more than all other countries combined, according to the customs agency.

U.S. companies and trade groups have complained that those rules set up a two-tiered system, in which brands with U.S. stores and warehouses had to pay higher tariffs than those that shipped directly to consumers. For example, an importer shipping 10,000 cellphone screen protectors into the United States could save more than $7,000 in taxes and duties if it individually packaged and shipped the protectors to consumers, rather than routing them through a warehouse, according to a presentation Apex Logistics prepared for its clients. Other U.S. businesses have complained that the de minimis exception puts pressure on retailers that employ Americans in their distribution centers. Lobbying groups in favor of eliminating de minimis have said the provision has recently led to the shuttering of some of the remaining textile plants around the United States.

3. The contrasting fortunes of US and Chinese stock markets

But in the year so far, the benchmark S&P 500 index is still up by 18 per cent. China, meanwhile, is in a deep hole. The CSI 300 index has fallen by about 7 per cent this year.

4. A defining graphic that captures one of the biggest challenges in mobilising climate finance.

5. Some facts about lock-in periods and India's IPO boom

According to the regulations, for company promoters, 20% of the post-issue paid-up capital must be locked in for 18 months, while any allotment exceeding this 20% threshold is subject to a lock-in period of six months. For anchor investors, 50% of the allotted shares is locked in for 30 days from the date of allotment, with the remaining 50% locked in for 90 days. The lock-in period for non-promoters ends after six months... From an equity market perspective, the true test of such companies is when the lock-in shares are released in the market. This is where most domestic startups seem to be floundering. The report card of the startups listed over the past two years makes for a sobering read.

Out of the five startups listed in 2023, two are deep in red, one is barely in the green while only two have delivered respectable returns. Even for the last two companies, stock prices have stagnated after around six months, coinciding with the release of lock-in shares. Out of the three startups listed in 2022, Delhivery is down 25%, Tracxn Technologies has inched up 2% and DroneAcharya has delivered a modest 12% returns.

6. Some findings from a SEBI study of investor behaviour in IPOs that examined 144 IPOs listed between April 2021 and December 2023 which collectively raised Rs 2.13 lakh Cr from 21.9% allotment to retail investors and 64.6% to qualified institutional investors. 

About 54% of IPO

shares

(in value terms)

allotted to Investors

(excluding anchor investors) were sold within

a week

from listing

About 54% of IPO

shares

(in value terms)

allotted to Investors

(excluding anchor investors) were sold within

a week

from listing

Excluding anchor investors, it was observed that 53.9% of IPO shares (in value terms) were sold within a week and 72.6% within a year.... Individual Investors sold 50.2 per cent shares (in value terms) allotted to them within a week from listing. Non Institutional Investors (NIIs1) sold 63.3 per cent shares by value. Retail2 investors sold 42.7 per cent shares by value... Mutual Funds sold about 3.3 per cent of allotted value within a week, as compared to 79.8 per cent for Banks... 39.3 per cent of Retail Investors were from Gujarat, followed by Maharashtra (13.5%), and Rajasthan (10.5%)... A positive association was observed between IPO subscription, listing day returns, and exit of investors (in terms of percentage of shares sold in value terms). Higher subscription was associated with higher listing day returns and in turn higher exit by investors. For Individuals, the exit from IPOs roughly doubled from the oversubscribed IPOs in the range 5x-10x, compared to those in the range 1x-5x.

Further disaggregation reveals the following break-up of exit patterns

7. India's household non-mortgage debt is among the highest in the world at 30% (compared to 10-11% housing debt), even compared to developed countries.

8. S Korean exporters are facing heat from Chinese competitors.

South Korean exporters of products ranging from steel and petrochemicals to textiles and cosmetics are struggling to compete with a glut of goods from Chinese rivals, as the effects of overcapacity and sluggish domestic demand spill over into global markets. Even Korean makers of kimchi, the fermented vegetable product widely seen as a symbol of national identity, are feeling the heat. South Korea imported more kimchi in the first half of 2024 — almost all of it from China — than it exported, amid intensifying competition from Chinese kimchi that cost six times less than the Korean equivalent.

9. Nice description of how the US FTC and DoJ are shifting the framing of the anti-trust debate

As the FTC put it in a recent statement launching a deep investigation into algorithmic price discrimination, while the transparent use of freely given information to price products and services is normal, “now data collection has become common across devices, from smart cars to robotic vacuums to the phones in our pockets. Many consumers today are not actively aware that their devices constantly gather data about them, and that data can be used to charge them more money for products and services. An age-old practice of targeted pricing is now giving way to a new frontier of surveillance pricing.”... Jonathan Kanter, who has brought a record number of cases during his tenure. More important than the breadth is the approach. His department has pulled ahead on issues like algorithmic pricing before private actors were able to build a body of judicial victories in lower courts that would make it hard to do so. In 2022, Kanter launched what he calls Project Gretzky, named after ice hockey great Wayne Gretzky, because as he puts it, “what made Gretzky great is that he skates not to where the puck is, but to where it’s going.” When you are dealing with large technology platforms that can leverage the network effect to create competitive moats around areas entirely outside their own industries — such as healthcare, groceries, automobiles, or AI — that kind of prescience is crucial.

10. On caste inequalities in India

Two recent studies based on the panel data from Indian Human Development Survey indicate rather clearly that caste plays an important role in determining income level. The first study regresses income on a variety of determining factors and finds that the annual income of lower-caste individuals is 21.1 per cent lower than that of the rest of the population. On a more disaggregated basis, the model shows that Adivasis’ income is, on average, 28.7 per cent lower than that of upper caste groups, while the income of Dalits, Muslims, and OBCs, are 27.74 per cent, 20.17 per cent, and 19 per cent lower, respectively... The study shows that lower-caste individuals with higher education have a significantly lower disparity, which is 10.3 per cent relative to the upper caste. The reduction is even more substantial for Adivasis. As for the state-specific effect, the study shows that for every Rs 10,000 increase in the real gross domestic product (GDP) per capita at the state level, there is, on average, a 9.05 percentage points reduction in caste-based income disparity for Adivasis. For Dalits, OBCs, and Muslims, the reductions are 7.6, 4.9, and 1.8 percentage points, respectively. Note, however, that the difference, though reduced, is not eliminated. 

Another study, based on the same survey data, focuses on the differences experienced by lower and upper caste groups who are business owners. The study finds that Dalit business owners have a lower income compared to those who do not face the stigma of exclusion but who do face socio-economic disadvantage, namely, OBCs, Adivasis, and Muslims. The study takes into account what it describes as social capital, which is defined in terms of the extent of inter-personal contact that the individual has with other professionals, particularly from other castes. It finds that even when the social capital of the Dalit individual is higher, the income gap persists, indicating that caste stigma continues to play a role. This study also finds that education improves the incomes of Dalits to a similar degree as it improves the incomes of non-Dalits.

11. China steel industry facts of the day

China’s exports of steel have surged, reaching 90m tonnes in 2023, up by 35% on the previous year. That may be a fraction of China’s total production, but it is more than what America or Japan make in a year... As the commodity-intensive property sector has suffered, its steelmakers have taken a beating. In August barely 1% of the 250 steel mills in China that report their finances to the government turned a profit, according to Isha Chaudhary of Wood Mackenzie, a consultancy. The domestic price for hot-rolled coil steel, a benchmark product, has fallen by 16% over the past year. Despite the slump in prices, many of the country’s producers have been reluctant to curtail production; idling a blast furnace takes months and is often costlier than keeping it running. Facing lacklustre demand from their usual customers at home, steelmakers are looking elsewhere. The result is surging exports.

12. The first US Fed rate cut in four years.

13. Volkswagen and Wolfsburg is Europe's equivalent of Geeneral Motors and Flint, Michigan.

For decades, Wolfsburg and its car plant — the world’s largest — symbolised Germany’s miraculous post-war industrial revival. VW’s crisis, and its plan to close some German factories, has unleashed angst among the city’s 120,000 inhabitants, many of whom are employed by the carmaker... Wolfsburg was founded by the Nazi government a year before the outbreak of the second world war to house workers who were to build the Volkswagen — the people’s car. Since then, more than 48mn cars have rolled off the city’s production lines, more than anywhere else in the world. VW employs 60,000 people in Wolfsburg and just as many more in the wider central German state of Lower Saxony, where it also supports thousands of jobs at automotive suppliers that exist only because of the demands of Europe’s largest carmaker... the company’s importance to the region stretched beyond the automotive sector to “the baker around the corner, the hairdresser”.

The problems stem from cheap Chinese imports and electric vehicles (and also declining VW market share from the highly profitable Chinese markets). 

VW last week notified its worker's unions that due to growing competitiveness issues, its three-decades-old job security guarantee was now void, provoking a strong reaction from the IG Metal union.

14. Finally, the latest data point in Xi Jinping turn is the spectacular fall in Chinese startup activity and VC funding.

In 2018, at the height of VC investment, 51,302 start-ups were founded in China, according to data provider IT Juzi. By 2023, that figure had collapsed to 1,202 and is on track to be even lower this year.

The FT has an investigation that describes how the Party stifled entrepreneurship.

The crisis in the sector partly reflects the slowdown in the Chinese economy, which has been buffeted by the protracted Covid-19 lockdowns, the bursting of its property bubble and the stagnation of its equity markets. As bilateral tensions have risen, US-based investors have also largely pulled out. But it is also the direct result of political decisions taken by President Xi Jinping that have dramatically changed the environment for private business in China — including a crackdown on technology companies regarded as monopolistic or not attuned to Communist party values, and an anti-corruption crusade that continues to ripple through the business community. Desmond Shum, author of Red Roulette and a former real estate mogul, says the party “has throttled the private sector”...

Jack Ma was hauled in by the authorities for what were termed “supervisory interviews”, kicking off a wider crackdown on the technology sector that underscored the unpredictability of investing in China. Since then, the optimism that fuelled a generation of risk-taking entrepreneurs has been systematically eroded... VC firms have laid off investment professionals and in some cases replaced them with lawyers or former judges to enforce the repayment terms... The pool of capital that VCs can tap into is also shrinking. Foreign investors, wealthy Chinese, and corporate investors have been divesting or reducing their exposure to China, leaving state-backed players with an outsized role... Beijing’s efforts to cut what it views as excessive salaries in finance have also reduced the incentive for high-risk but potentially high-reward investments. State limited partners have either mandated that fund managers either cap their salaries at the Rmb2.9mn (around $407,000) annual limit that has been more rigorously enforced this year at state-backed financial institutions, or slash management fees by half, according to several people with knowledge of the matter.  

Management theory meets reality

Paul Graham listens to a speech by Brian Chesky of Airbnb and questions the conventional wisdom on managing companies (or more specifically startups that have started to scale).

As Airbnb grew, well-meaning people advised him that he had to run the company in a certain way for it to scale. Their advice could be optimistically summarized as "hire good people and give them room to do their jobs." He followed this advice and the results were disastrous… The audience at this event included a lot of the most successful founders we've funded, and one after another said that the same thing had happened to them. They'd been given the same advice about how to run their companies as they grew, but instead of helping their companies, it had damaged them…

In effect there are two different ways to run a company: founder mode and manager mode. Till now most people even in Silicon Valley have implicitly assumed that scaling a startup meant switching to manager mode… There are as far as I know no books specifically about founder mode. Business schools don't know it exists… The way managers are taught to run companies seems to be like modular design in the sense that you treat subtrees of the org chart as black boxes. You tell your direct reports what to do, and it's up to them to figure out how. But you don't get involved in the details of what they do. That would be micromanaging them, which is bad. 

Hire good people and give them room to do their jobs. Sounds great when it's described that way, doesn't it? Except in practice, judging from the report of founder after founder, what this often turns out to mean is: hire professional fakers and let them drive the company into the ground.

Coming from the likes of Paul Graham and Brian Chesky, hope this is taken seriously by management schools. 

I have a slightly nuanced take on this, drawn from leadership trends in government organisations. 

Consider the example of an officer who heads a department, a local government or a public sector unit who is passionate and committed to bringing significant change (not those interested primarily in virtue signalling to their political masters as a pathway to a better posting/opportunity). Such officers are like the founders of startups, in full ownership of their roles. 

Here I distinguish between such government leaders, and the rest - those who are not only doing virtue signalling but also the median leaders who tend to put in effort but don’t fully own up their roles. 

Management 101, as Graham writes, would have it that bureaucratic leaders should clearly define tasks (at most prescribe them in detail), allocate task responsibilities to the senior officials reporting to them, empower them, and let them implement the tasks. Then periodically review them, address co-ordination failures, guide them where required, and use rewards and punishments appropriately. I’m not sure this will work. 

The challenge that they face is that at the level just below him/her, there are a tiny few, if any, who are both self-motivated and are bought into the Department’s mission and objectives. Only such people can be entrusted with a task and be expected to take it to its conclusion. All others require varying levels of micro-management. 

Such micro-management involves prescribing tasks with their details and constantly monitoring their compliance. It would involve level-skipping to engage directly with their subordinates to give directions (already made to their unit heads) and assess progress, and periodic inspections to directly experience field realities. Finally, it would also involve opening multiple formal and informal feedback channels to assess what’s going well and more importantly, what’s failing. 

This routine must be followed with rigour and militant intensity, especially in the initial months of a posting. It’s an almost essential requirement for success within government (and as Chesky says, within private corporations too).

The challenge is with right-sizing this strategy. Not get deep enough and you lose out on valuable feedback and information. But get too much into the weeds and you are lost. This balance varies across organisational contexts and figuring it out will take time, but is time well spent. It’s also required to vary the level of such intense engagement depending on the responsiveness of the reportee officer. 

On this, a note of caution is to avoid extending this management strategy to the tiny few direct reportees who are already self-motivated and bought into the vision. That will be self-defeating for multiple reasons. For one, it demoralises the officer and the leader loses a very powerful force multiplier. Worse still, he’s demoralising an organisationally respected individual (as these officers are likely to be) whose impacts will be adversely felt across the department. This will only hurt the leader, and significantly at that. 

It’s also a challenge identifying the few self-motivated and passionate second-rung officials. It can often take time. And mission-alignment with such individuals requires the leader to spend time understanding and engaging with them. It’s an investment well worth it. 

I’m not sure that management theory can ever teach us something insightful about getting the balance right or identifying the committed officers. Instead, management schools could acknowledge the realities of the field, and clearly propose alternative frameworks like the one described here. It would be up to individuals to choose from among them, and iteratively right-size the strategy to suit their specific requirements.

The practical application of the strategy and its right-sizing is akin to an immersive problem-solving exercise, where you diagnose, choose the framework, and then iterate with it with tight feedback loops to get to the right strategy. It can appear daunting when done first. But once you internalise the process, it’s not as complicated. 

The point that Graham makes about management theories and business schools resonates with the point this blog has made on several occasions (see here and here) regarding our excessive (even blind) faith in theoretical experts for practical advice. This turns out consistently bad in areas like macroeconomic policy-making, public policy issues, and, as Paul Graham writes, management. Theory unfiltered by practical considerations generally leaves the system worse off. 

A corollary to this is the allure of ideas (among all of us) while discounting their implementability. It’s a cognitive blindspot. It’s all too common for experts offering ideas to address all the ills in the world, with scant attention to the really hard part of the details of their implementation. I blogged here highlighting that no matter how brilliant the idea or policy, what matters is its implementation. 

As I have blogged here, it’s a near-impossible task for theoretical experts to appreciate the challenges of practical implementation and the several layers of nuances and conditions required for the application of their theories. The practitioners have no option but to undertake the struggle (as with most other complex problems in life and career) to be able to get the strategy right. It’s just the same for founders of startups or corporate leaders, as it’s for bureaucratic leaders. 

They only know management who have struggled long enough with actual management! 

R&D expenses, productivity, and growth in the age of Big Tech

Econ 101 informs us that R&D investments spur innovation and productivity growth, which in turn lower production costs and create newer products, boost consumption, drive further investments, job creation and economic growth. In short, R&D investments and innovation trigger a virtuous loop.

Gillian Tett points to an interesting paradox that questions this conventional wisdom that R&D investments invariably result in innovation, productivity growth, and expansion of economic output. Sample some numbers.

On the one hand, American R&D has risen in recent decades, from 2.2 per cent of GDP in the 1980s to 3.4 per cent in 2021. That reflects a doubling of private sector R&D to 2.5 per cent of GDP. Meanwhile, the proportion of the population involved in patent production nearly doubled in this period. But there is a big catch. Although “conventional economic models” imply that increases in R&D spending on this scale “should have led to accelerated economic growth”, this has not occurred. Michael Peters, a Yale economist, lays out the grim news: while labour productivity rose on average by 2.3 per cent between 1947 and 2005, between 2005 and 2018 it fell to 1.3 per cent. This cost America a putative $11tn of output, he calculates.

Micheal Peters in the IMF’s latest F&D magazine points to the US productivity growth being on a secular decline, that has become pronounced during the digital age since the turn of the millennium.

There is growing evidence that the US economy is not as dynamic as it used to be. A key aspect of business dynamism is new business formation. It is often measured by the entry rate, or the share of enterprises that started operating in a given year. The entry rate fell from 13 percent in 1980 to 8 percent in 2018, according to the US Census Bureau. In addition, US enterprises became substantially larger, with the average number of employees rising from 20 in 1980 to 24 by 2018. Older and bigger companies thus account for a much larger share of economic activity than they used to. These trends indicate significantly declining dynamism in the US economy over almost four decades…

First, the rise in corporate concentration has been shown to go hand in hand with expanding market power. The average markup by publicly traded US companies surged from about 20 percent in 1980 to 60 percent today. Large incumbent businesses thus seem to be shielded more and more from competition, allowing them to jack up prices and widen profit margins. A second line of research shows the flip side of rising corporate market power: the weakening of workers’ bargaining position. Since 1980, labor’s share of the US economy has fallen by about 5 percentage points. The plunge was faster in industries that experienced more concentration… Third, there has been a secular decline in business-to-business reallocation since the late 1980s, as shown in a series of papers by John Haltiwanger and other researchers. This suggests that the process of workers moving from declining to expanding businesses is not as fluid and dynamic as it once was.  

Peters also explores the possible causes for this productivity decline.

The ten biggest tech companies by capitalisation in Nasdaq spent a total of $222 bn in R&D in 2022, of which Amazon alone spent $73.2 bn. 

Remarkably, these kinds of R&D expenditures have not been accompanied by job creation. As an illustration, even as Amazon, Microsoft, and Alphabet spent a record $139.3 bn on R&D, the three laid off 40,000 workers at the beginning of 2023. 

Germán Gutiérrez and Thomas Philippon measured the evolution of dominant firms in the US since 1960 (top 20 firms by global sales and top 4 firms in each 3-digit industry) and globally since 1990 (top 100 firms by global sales in a given year and the top 20 firms in 25 industries), and found that their contribution to aggregate productivity growth has fallen by more than one-third since 2000. 

In another paper Philippon writes

I estimate that markups in the United States have increased by about 12% since 2000. Such an increase in markups implies that wages and consumption are at least 10% below their potential… increasing markups in the United States have lowered labor income by about $1.44 trillion… the stars of the digital economy—Amazon, Google, Facebook, Apple, and Microsoft (GAFAMs for short)—are not as “special” as one might think… Along all qualitative dimensions, including profit margins and productivity, the stars of today are… they are smaller than market leaders of the past, and they matter less for overall GDP growth than General Motors, IBM, or AT&T did at their peak… rising market concentration since the early 2000s has produced market inefficiencies. Dominant firms have succeeded in erecting barriers to entry, which has resulted in lower investment, higher prices, and slower productivity growth.

Given the aforementioned facts, here are some observations:

1. Joel Mokyr has made the distinction of useful knowledge as one that promotes material progress. It consists of propositional knowledge (“what”) and prescriptive knowledge (“how”), with the former consisting of people who know things (savants) and the latter of people who make things (fabricants). He uses this distinction to explain why the Industrial Revolution originated in England and not in continental Europe. On the same lines, it may be useful to make the distinction within R&D investments and categorise some as useful R&D. Ditto with innovation. 

Are R&D expenditure and innovation increasing the economic output? Is it creating jobs? Or is it being used to create moats around the markets served by the big technology companies? Given the nature of the digital technology markets, with their network effects and the advantages conferred by access to large data, are the large R&D expenditures conferring an unbridgeable advantage to the large incumbents?

There’s a case for distinguishing between defensive and productive R&D, with the latter aimed at protecting the turf/market. More on this latter in the post.

2. In the last 2-3 years, there has been a surge in AI-related R&D investments. As the graph above shows, each of the US Big Tech firms - Amazon, Alphabet, Apple, Microsoft, Meta, Nvidia etc. - have been making AI-related investments in the tens of billions of dollars every year. So much so that the entire US equity market is now riding almost entirely on the AI investment boom. However several questions are being raised about the likely value generation from these investments. The vast majority of commentators view this boom as being driven by FOMO and disconnected from any value creation. 

Is it then the case that the returns from R&D investments, or their productivity, have declined? Or is it that the technology will take time to mature and start to show its benefits? Or more generally, are large firms being inefficient in their allocation of R&D expenditures? Or a combination of all three?

Ufuk Akcigit writes in the same issue of the IMF’s F&D magazine:

In earlier research, Harvard’s William Kerr and I found that small businesses are more innovative relative to their size, suggesting they use R&D resources more efficiently. As companies grow and dominate their markets, they often shift their focus from innovation to protecting their market position. In a more recent study, Salome Baslandze, Francesca Lotti, and I showed using Italian data that larger enterprises tend to innovate less and instead engage in activities that limit competition. One such activity is hiring local politicians. As businesses climb the ranks among the largest 20 players in their industry, they hire more politicians, while their patent production declines. This highlights what we call a leadership paradox, where leading companies plow resources into maintaining dominance rather than fostering innovation… As dominant players prioritize strategic moves over genuine innovation, the economy as a whole is almost certainly missing out on potential growth opportunities.

3. Most importantly, it’ll be useful to examine where these R&D investments are going. These are astronomical sums, larger than the entire R&D expenditures of several large countries combined, including those like India. Are they actually going into research and development? Or is it some accounting trick to benefit from tax rules?

The primary reason to doubt these numbers is a palpable absence of their signatures on the products and services being delivered. Has e-commerce, social media engagement experience, and internet search got so much better in say, the last five years, to justify even a small part of these expenditures? Does building and maintaining data centres (whose buildings and operations are outsourced to PE funds and their boring infrastructure contractors) demand such levels of R&D expenditures?

It’s hard to imagine or rationalise that e-commerce, social media, and internet search (and advertising) can consume anything even remotely close to the amounts being spent on R&D. One associates with R&D in digital technologies to some equipment and software costs, and considerable manpower costs. Even at the higher end of such expenditures, $73.2 bn (and similarly high numbers in earlier years) appears mind-boggling. So where is this likely coming from (or what’s it going into)? 

A comment on a discussion thread in Hacker News nails it:

This $73.2B figure was pulled directly from their 2022 10-K filing under an operating expenses line item labeled technology and content, which includes R&D and then some. The devil in the details is buried in a footnote on p. 26:

Technology and content costs include payroll and related expenses for employees involved in the research and development of new and existing products and services, development, design, and maintenance of our stores, curation and display of products and services made available in our online stores, and infrastructure costs. Infrastructure costs include servers, networking equipment, and data center related depreciation and amortization, rent, utilities, and other expenses necessary to support AWS and other Amazon businesses.

At face value, to handwave this figure as just R&D and purport that it's directly comparable to other publicly-traded companies who report disaggregated research and development strikes me as somewhere between shotgun analysis and hoodwinking.

Read this Forbes article which says the same things, and see this. 

Here is the table indicated above.

Amazon spends large amounts on its AWS data centres. All those expenditures are lumped together into the basket of technology and content. Even its prime Video content is classified under R&D. In short, it appears that Amazon lumps all its personnel, software and hardware costs under R&D. 

Is all this disingenuous accounting motivated by tax minimisation strategies adopted by these companies? Is Amazon benefiting from the greater tax benefits accorded to R&D expenses? Akcigit again

The Federal Reserve’s Sina Ates and I examined market competition trends in the US over the past several decades. Since the early 1980s, there’s been a noticeable increase in market concentration and a decline in business dynamism… This period aligns with the 1981 introduction of the R&D tax credit, a component of President Ronald Reagan’s sweeping Economic Recovery Tax Act. The credit was intended to encourage businesses to invest in research and development. Minnesota was the first state to adopt a similar state-level R&D tax credit, in 1982, and many other states followed, expecting to promote innovation and economic growth. Which companies are most likely to take advantage of the R&D tax credit? Our research with Goldschlag shows that large businesses are much more likely to benefit than smaller ones. The policy—perhaps unintentionally—favors big companies, encouraging them to dominate in R&D spending… Our research provides direct evidence that businesses actively claiming R&D tax credits are more likely to engage in stifling hiring practices. These enterprises often offer higher salaries to inventors, and the inventors become less innovative after joining.

It’s therefore clear that all the so-called R&D expenditures are mostly about the general operational and capital expenses! So after all, real R&D expenditures might not have gone up as much as we imagine, which also explains the apparent paradox of low productivity growth. 

4. In this context, it’s also worth making the distinction between the R&D expenditures of firms in digital technology and traditional economy sectors. Technology firms like those above are constantly iterating and improving their algorithms and user interfaces (and the logistics operations in the case of Amazon and advertising engine in the case of Google) as part of their regular operations. The nature of digital technologies (for example, with digital trails that serve as fuel for data analytics and AI-algorithms) ensures such iteration and refinement. 

There’s an indistinguishable line between the R&D expenditures of technology firms and their operational expenses. It’s different from the distinct role of R&D in the traditional economy where it’s about inventing new technologies, products, and services. The likes of Amazon, Meta, Alphabet, Apple etc., have not brought out any new product, but are only marginally refining their algorithms and at best moving into emerging adjacent markets (where too they have a head start due to the nature of their platform business models). They are, for all practical purposes, one trick ponies.

This raises the need for greater clarity in the accounting of R&D expenses of digital technology firms. 

5. One of the surprisingly less discussed but widely known features of technology markets today is the stifling grip exercised by the big firms. This hold covers hiring and retaining critical personnel, patent acquisition, protection of their own patents, and even protecting themselves from being gobbled up. Big Tech (and large incumbents generally) firms employ armies of lawyers to engage in the likes of patent trolling, squatting, and hoarding to copy, steal and intimidate startups. 

More from Ufuk Akcigit

Over the past two decades, there has been a notable reallocation of innovative resources toward large, established companies, Goldschlag and I documented in 2022. At the beginning of this century, roughly 48 percent of American inventors worked for these big incumbent companies—those that are more than 20 years old and employ more than 1,000 workers. By 2015, that figure had surged to 58 percent, marking a significant shift in where the nation’s innovative talent is concentrated… research shows a concerning trend: inventors that move to large firms become less innovative compared with inventors that move to young firms.

A specific practice identified in our research is innovation-stifling hiring. This occurs when big, established enterprises hire key employees from younger competitors, often by offering higher salaries. However, instead of using these new employees to drive innovation, the big businesses may place them in roles that do not fully leverage their skills. As a result, these individuals become less innovative, and the overall innovative capacity of the economy suffers. After 2000, there was a notable increase in the wage premium offered by established companies, compared with salaries paid by younger businesses. The pay differential widened by 20 percent, prompting many innovators to switch jobs and join larger, well-established companies. However, these inventors’ innovativeness dropped by 6 percent compared with that of their peers who joined younger employers… By hiring away top talent from rivals, these companies not only weaken their competitors but also prevent these individuals from contributing to potentially disruptive innovations elsewhere. This strategy may benefit the hiring business in the short term, but it poses a long-term risk to the economy’s overall innovation and growth. 

Given all these, startups stand little or no chance of competing with large incumbents. It’s an open secret that the Big Tech firms unleash their lawyers and financiers to intimidate and squeeze any startup trying to compete with them. I don’t know whether the libertarians and tech evangelists who wax eloquent about digital utopia and lose no opportunity to argue for deregulation and getting government out of the way are being ignorant or disingenuous or plain dishonest when they overlook the egregious manner in which Big Tech firms unleash their lawyers and corporate brokers to intimidate startups. 

Why are none of the economists in the big Economics Departments silent about one of the commonest market practices which is also the biggest threat to competition in digital markets?

I have written here (and here) about how Amazon uses anti-competitive practices to copy and forcibly buyout emerging startup competitors and then kill off their technologies or adopt them itself. 

The final word to Akcigit

The evidence suggests that while the US is investing more in R&D, the concentration of resources among large businesses has led to diminishing returns in terms of productivity growth. This outcome challenges the assumption that simply expanding R&D spending will automatically lead to economic growth. Instead, it highlights the need for a more nuanced approach to industrial policy—one that not only incentivizes R&D but also encourages the effective reallocation of resources. To foster a more dynamic and innovative economy, the US needs to design policies that support not just large incumbents but also smaller businesses and start-ups, which often have a greater capacity for disruptive innovation. This could include targeted tax credits for small businesses, grants for early-stage innovation, and policies that encourage competition and reduce barriers to entry for new players. 

Weekend reading links

1. Railways looks set to come the full circle back to government control in the UK. From an FT editorial last week

A bill set for a lightning third reading on Tuesday will return franchised passenger rail services to public hands when existing contracts end or reach a breakpoint — which at least means this renationalisation has little upfront cost. The government says it will produce a more centralised network, under the “directing mind” of a still-to-be-created arms-length body, Great British Railways. It touts the potential to cut costs by removing duplicative bureaucracy, and to simplify the unpopular maze of ticketing.

And this

The Labour government is set to launch legislation to nationalise the railways as a matter of priority, with takeovers of some of the UK’s busiest operators expected within months. Nearly three-quarters of train journeys in Britain are expected to be on nationalised rail services within a year under Labour’s plan... The legislation is intended to renationalise the rest of the railway after about 40 per cent of services were taken over by the previous Conservative administration as operators failed over the past decade... Under the bill, contracts to run train operators that are let to private companies will be permanently returned to the government as soon as they expire.

2. Jean Pisani Ferry has some wise words on green transition costs

The reality is that it’s a combination of supply and demand shocks. The demand shocks caused by the additional investment are obviously positive. The supply shocks are mostly negative, at least in the short term. And the reason for that is that one way or another, you’re basically paying for a resource — a stable climate — you used not to have to pay for. It is the same if the investment is triggered by regulations instead of the pricing of carbon: economic agents are compelled to spend significant amounts for capital expenditures that do not improve the efficiency of capital and labour... the overall magnitude is equivalent to the first oil shock of 1973-74. And the first oil shock isn’t remembered as something very positive...

So essentially, we are going to invest 2 to 3 per cent of GDP for 10, perhaps 25 years. Burning fossil fuels is significantly less capital intensive than investing in clean energy. And we’re substituting that with a system in which upfront investment is required to transform the energy system and to ensure it does not rely on fossil fuels. It means investment that’s normally devoted to improving overall efficiency, improving total factor productivity or saving labour, has to be diverted to saving on fossil fuels. And that’s not going to improve your economic performance. That is, unless — and it’s possible in the long term — the new technology proves to be much more efficient than the old technology. So that’s what makes me hopeful that in the long run, I mean at the 20- to 25-year horizon, it may be that the use of such technologies proves to be more efficient overall. But that does not eliminate the transition cost... job-neutral globally — which I don’t think it will be, because the labour intensity of an EV [electric vehicle] is much lower.

And he has a very good comparison

At the time of the Industrial Revolution, there were agrarian interests versus manufacturing interests: there was a fight between those two strands of capitalism. And I think it’s a bit the same. There is a green capitalism that has developed and has gained strength. It’s a war between two strands of capitalism — green and brown.

3. As the frequency, intensity, and damages from forest fires rise, state governments in the US are reviving an age-old practice of triggering small beneficial fires in an effort to prevent the accumulation of the fuel that sustains large fires. 

According to one study from researchers at Columbia and Stanford, low-intensity fires, a category that includes mild natural fires and prescribed burns, reduce wildfire risk by about 60 percent. Experts also say that prescribed burns have reduced the severity of previous wildfires, including in Yosemite National Park, where researchers found that they helped protect giant sequoias during the Washburn fire in 2022. Most of California’s ecosystems have evolved to adapt to or depend on fire, which can rejuvenate forests and help nutrients return to the soil. But federal and state land management agencies banned intentional burns for many decades, arguing that all fires were dangerous and could hurt the timber industry. This, along with aggressive efforts to suppress wildfires, allowed vegetation to accumulate, a condition that could supercharge blazes...

Federal and state agencies, as well as other groups that work with them, including private citizens and businesses, are setting fires that burn the dry grasses, small trees and other vegetation that could otherwise fuel an intense wildfire... Land managers in the state, including the California Department of Forestry and Fire Protection, and federal agencies have set a target of intentionally burning 400,000 acres annually by next year, an amount of land that when combined would be larger than the city of Los Angeles. The goal is to chip away at the 10 million to 30 million acres that officials estimate would benefit from some form of fuel reduction treatment. In 2022, the most recent year for which there is data publicly available, about 96,000 acres were burned by these land managers... Since then, intentional burn practices, including planned fires and cultural burning by Native American tribes, have been gradually reintroduced. Nowadays, these efforts are carried out by various entities across the state, including Cal Fire, the U.S. Forest Service, tribal organizations and private citizens...

In addition to the need for more funds... controlled burn programs face a number of other hurdles. Already limited in number, firefighters who would staff a prescribed fire are often called away to battle an active blaze. There are also only so many days in a year that conditions are right for a fire, and access is a challenge in some locations. And local communities may oppose a controlled burn... The U.S. Forest Service has said that over 99 percent of these fires go as planned, but mistakes can be destructive. In 2022, the agency lost control of two prescribed burns in New Mexico. The fires merged and grew to become the largest recorded fire in the state’s history, destroying hundreds of homes.

4. What has been driving Nvidia?

5. India R&D facts of the day

Notably, less than 5 per cent of Indian patent citations refer to other Indian patents, reflecting a low level of local knowledge creation and heavy reliance on foreign sources. By comparison, China and South Korea have local citation rates of 10 and 20 per cent, respectively. India also ranked 42nd out of 55 countries on the 2024 International Intellectual Property Index, with an overall score of 38.64 per cent, unchanged from the previous assessment... the ratio of big businesses to unicorns in India is just 0.1, compared to 0.9 in the US, 0.4 in China, 0.5 in Germany, 0.25 in Brazil, and 0.6 in South Korea.

6. Some numbers on ESIC and EPFO deductions

Take the example of Sarita, a (fictitious) new employee in Mumbai earning Rs 15,000 per month (Rs 1.80 lakh annually). She must pay a profession tax of Rs 2,500 annually... Next, Sarita (Rs 1,350) and her employer (Rs 5,850) must pay a total of Rs 7,200 annually to the Employees’ State Insurance Corporation (ESIC). However, getting claims from ESIC is notoriously difficult, effectively making it another tax. ESIC holds Rs 1,17,000 crore in reserves. The claims paid (Rs 14,000 crore) are 83 per cent of contributions (Rs 17,000 crore), and investment income (Rs 7,000 crore) is 41 per cent of contributions (Source: Accounts for year ended March 31, 2023). The numbers reveal a system where contributors have long given up hope of receiving claims. Then you have the Employees’ Provident Fund Organisation (EPFO) triplets. Sarita contributes Rs 1,800 monthly to her EPF, while her employer contributes Rs 600 to her account, plus Rs 75 in administrative charges. In addition, her employer contributes Rs 1,200 to her Employees’ Pension Scheme (EPS) account and Rs 900 for her life insurance (of Rs 7 lakh), under the Employees’ Deposit Linked Insurance (EDLI) scheme.

All these small deductions add up. Sarita pays Rs 25,450 per year (Rs 21,600 EPF + Rs 2,500 profession tax + Rs 1,350 ESIC), leaving her with Rs 1,54,550 from her salary of Rs 1,80,000. Meanwhile, her employer pays a total of Rs 39,250 (Rs 7,200 EPF, Rs 24,400 EPS, Rs 900 EDLI, Rs 900 administrative charges and Rs 5,850 ESI), making Sarita’s total cost to the employer Rs 2,19,250. The difference (Rs 64,700) between her employer’s cost and Sarita’s take-home pay is 42 per cent—coincidentally the same tax rate for individuals earning over Rs 5 crore annually. Effectively, the lowest-paid employees are taxed at the same rate as the highest earners.

7. Fascinating story of William Phillips, the famous economist of Phillips curve fame, who travelled from a farm in New Zealand to become the world famous economist at LSE who in 1949 demonstrated to an astounded audience of superstar economics professors "the first ever computer model of a country's economy", the Moniac. 

Phillips might have been expected to go to university — he passed every exam — but there was a problem. In 1929, a collapse in share prices... had set in motion the Great Depression. Its effects lasted for years, and reached as far as a dairy farm in Te Rehunga. Prices for agricultural commodities plummeted, and Harold and Edith simply couldn’t afford to send their son off to study. Phillips became an apprentice electrician at a hydroelectric power station instead... In 1935, the apprentice electrician left Te Rehunga to see the world. Steve Levitt, a co-author of Freakonomics, was once dubbed “the Indiana Jones of economics”, but if that swashbuckling label belongs to anyone, it’s Phillips. In between leaving New Zealand and his first brush with economics in 1946, Phillips worked in a gold mine, hunted crocodiles, busked with a violin, rode the Trans-Siberian railway and was arrested by the Japanese and accused of spying. He eventually pitched up in London and signed up for the LSE. Then the war started, and he joined the Royal Air Force, which promptly sent him back to the other side of the world. In the RAF, Phillips established himself as an outstanding engineer, working to upgrade the obsolete aeroplanes that were supposed to defend British-held Singapore from Japan. Days before Singapore surrendered, he found himself on the last convoy to flee the city, onboard the Empire Star. The cargo ship designed to carry 23 passengers had been packed with 2,000, many of them women and children. When the convoy was discovered and attacked by Japanese planes, Phillips found a new use for his talents as an engineer. He brought a machine gun up on deck and improvised a mounting for it. Then he stood there for hours, fending off the attackers as bombs fell around him. 

This extraordinary performance earned him the MBE medal, but didn’t spare him from spending more than three years in a Japanese prisoner-of-war camp. Conditions were bad. Phillips later said that the small men survived and the taller men starved. He was one of the small ones. By the end of the war, he weighed just seven stone (45kg). To keep everyone cheerful and up to date on news from the outside world, Phillips continued with his engineering improvisations. He built concealed radio sets, one of which was tiny enough to be hidden from the guards in the heel of his shoe. He would have been tortured and killed had it been discovered. He also designed and built little immersion heaters, which the inmates used every evening to make hundreds of morale-boosting cups of tea. The guards never worked out why the camp lights flickered and dimmed each evening... In the summer of 1945, he was one of thousands of men transferred to a death camp, where they watched their captors mount machine guns on the walls, pointing inwards, and were forced to dig their own mass graves... When Phillips returned to London at the war’s end, he resumed his studies at the LSE. He took up sociology, a degree that contained some basic economics modules, and became intrigued by the engineering-style mathematical equations that were becoming popular in the new subject of macroeconomics... The LSE’s establishment rushed to give Phillips a job. Within a decade, he had been made professor, then a rare honour in British academia. For a man with no honours degree and no economics qualifications of any kind, he hadn’t done so badly.

The Moniac, or Phillips machine, could solve differential equations using hydraulics and not differential calculus. It could solve nine differential equations simultaneously and within a few minutes. 

Even in the 1950s, economic models were worked out by rooms full of human “computers”, typically women armed with paper and calculators to provide the mathematical equivalent of a typing pool. It would be years before digital computers could support economic models as complex as the Moniac’s. Phillips made 14 machines in all, most Mark II Moniacs, expanded versions of the original machine. The original machine went to the University of Leeds. Others ended up at Cambridge, Harvard, Melbourne, Manchester and Istanbul. Some went to corporations or ambitious governments in developing countries, from the Ford Motor Company to the Central Bank of Guatemala... If the Moniac was the result of exquisite engineering skill, Phillips’s flash of inspiration — that hydraulics could be used to solve complex systems of equations — was close to genius...

Each equation quite literally had to be carved into the flow-control system of the Moniac, in small squares of Perspex set in a neat white frame, with a thermometer-like scale along the side. The equations themselves were slots, one in each piece of Perspex, each with a particular shape and angle, snugly holding a peg that ran smoothly on brass rails. Each peg was attached to a float and a sluice gate, so that as the water level in a tank rose, the peg would move up and — depending on the shape of the slot — would also move sideways, opening or closing the sluice gate. Phillips had calibrated his equations to what was then known about the British economy: how much income people tended to put aside as savings, for example, or the overall response of supply and demand to prices. To his surprise, he found that the machine was watertight enough to be accurate to within 2 per cent — a higher level of precision than was required given the quality of the economic statistics of the day. 

8. Some facts about housing in the US

Real prices in the US are currently 25 per cent above the pre-crisis peak in 2006... Astonishingly, the US is building no more new homes and 80 per cent fewer “entry level” homes than it was half a century ago — when the population was much smaller. And the time it takes to complete a new multi-unit dwelling has doubled, with most of that increase coming in the past two decades — as “NIMBY” resistance spread.

Since 2000, according to Zillow, the average household income has doubled but the average price for its listings has tripled to $360,000. Over that period, the time it takes to save for a 20 per cent down payment has risen by nearly half to eleven years. And the share of income that goes to mortgage and insurance payments has risen by more than a third to 35 per cent — into the unaffordable zone. Because developers are building homes much more slowly than Americans are forming new households, the shortage is growing by several hundred thousand residences a year... Housing takes up a greater and growing share.

9.  Interesting points about the need to map supply-chain risks.

Data from the US commerce department indicates that 57 per cent of industries in America would require six months to return to normal capacity if there was even a single week of transport disruption... there are unexpected areas of workforce and trade vulnerability that couldn’t have been predicted without burrowing deep into granular data down many levels of global supply chains... the department has developed the Scale Tool, a computational system which includes data from the entire American goods economy. This is identified and ranked across various industries, geographies and risk metrics (geopolitical, environmental, national security, public health, and so on). The aim is to create an extremely granular picture of where vulnerability and resiliency in the American economy actually lies. That has required Raimondo and her officials to become familiar with things as esoteric as, for example, the components that go into an AI data centre cooling system. While it’s been widely understood for some time that AI capacity was a potential point of vulnerability for the US, this was thought of mainly in terms of the large amounts of power required for data centres, and whether the grids supporting them were resilient.

10. The definitive graph that blares out China's disturbing hold on clean manufacturing technologies.

11. India textile industry fact of the day

Between 2016 and 2023 the value of Indian apparel exports fell by 15%, whereas Bangladesh’s increased by 63%.

12. Peru's spectacular rise as a blueberry exporter in a graphic.

Back in 2013 Peruvians earned about $17m exporting blueberries; by last year receipts had soared to $1.7bn. In 2019 Peru became the world’s single biggest exporter of fresh blueberries. Nowadays it sends more than twice as many berries abroad as its closest rivals... Peru’s blue revolution relies on newfangled “low chill” varieties, developed in the United States, that thrive on Peru’s coast. The International Blueberry Organisation, an industry group, says that in 2022 the yield of a typical Peruvian blueberry farm was nearly double the global average (which is nine tonnes per hectare)... it takes only about two years for a new farm in Peru to start turning a profit. In other places four years is more common... Blueberry farmers have also gained from trends that have boosted all manner of Peruvian produce. These include tax breaks and irrigation megaprojects that have opened up land along Peru’s desert coastline. Between 2000 and 2023, total annual Peruvian farm exports grew 16-fold to $10.5bn.

13. Japanese company valuations.

The price-to-book ratios of listed companies, a measure of their value relative to the worth of their assets, is a mere 1.5. By contrast, American companies are worth five times as much as the assets they hold. Japan’s non-financial firms now hold ¥372trn ($2.6trn) in cash and bank deposits, a figure that has risen by 82% in nominal terms since the end of 2012, suggesting that too many executives are resting on their laurels.

14. Developing country cities are growing upwards.

And this

This is a welcome development, most likely a reflection of having hit the limits to suburban sprawls. This process must be expedited.