Saturday, October 30, 2010

Cause or Effect?

I was recently at a conference in Cape Breton, NS. “Continental” breakfast was included with the room, so at about 8:00 AM local time I went down to get something to eat. I grabbed a copy of the Halifax Chronicle Herald to read while I swilled a cup of coffee. For those not in the know, the Chronicle Herald claims to be, and is often recognized as, the regional paper of the Maritimes.

I turned to the business section to see if I could track a couple of different developments, particularly with BHP’s bid for Potash Corp of Sask. When I found the business section I just about fell out of my chair. The entire business section was 4 pages - 2 pages front and back. One of those pages was stock listings!

This got me thinking. A regional population of around 2 million people, and yet there are only 4 pages in the business section of the regional paper? What’s going on?

As usual, two different explanations came to mind. Sorry, I am an economist, after all. They can be split between cause and effect. On the effect side, as I’m sure most people reading this blog know, the Maritimes doesn’t have a lot of business to report on. Most is concentrated into a small number of big firms, and the activities of these firms tend to make the front page, not the business section. So the tiny business section is an effect of the overall business climate.

The other possibility is that the attitude of the press and population (I’m assuming the press at some level has a positive correlation with the feelings of the populace) makes for an unhealthy business environment. So a minuscule business section corresponds with a weak business sector.

I’m not sure which is true, likely both. It’s definitely something to think about

Tuesday, October 26, 2010

Rethinking Redistribution

One of the oft cited purposes of progressive income tax systems, like the Canadian tax system, is to redistribute wealth. Assuming the wealth person doesn’t enjoy giving up their money generally means making value judgements about the relative importance of different people’s happiness. The judgement implicit in the re-distribution is that the wealthy person matters less to us than the poor person. They are made less happy than they were and the poor person is made happier than they were. At this level we can only call this an improvement by saying the happiness of the poor person is more important to us. If the wealthy person received sufficient wellbeing from equality to make this worth their while, wouldn’t they have made the transfer voluntarily?

Personally, I find making these sorts of judgement uncomfortable. What, short of a divine right, would qualify a person for making those kinds of judgements? What is the basis for deciding between people? Doesn’t this on some level dehumanize those paying taxes and somehow “uberhumanize” those receiving government payments? Isn’t such dehumanization the basis for all kinds of evil behaviours?

One response to this line of questioning that is often presented in economics is an appeal to diminishing marginal utility of income. The argument is that the extra happiness generated by another dollar of income falls as a person has more money. Therefore, if we take a dollar away from a person with high income, the loss in happiness is likely to be small. If we give that same dollar to someone with a low income, the happiness gained is likely to be large (or at least larger). The result is an increase in net happiness as the gains exceed the losses. While this ignores all the problems with trying to compare utility between individuals at least it is has the virtue of treating the two human beings involved as equally important.

As far as this goes, it isn’t a bad argument. A fly appears in the ointment when we start to think carefully about how people respond to gains and losses, however. Way back in 1979 two psychology researchers (Kahneman and Tversky) noticed that people reacted differently to hypothetical gains and hypothetical losses, a difference that has been replicated in a variety of economic experiments using real incentives. I’ve seen a difference in my own research. Most estimates estimate the relative cost of a loss to be twice the benefit of a gain. The sensitivity of a subject to a loss of $5 is the same as the sensitivity to a gain of $10.

This puts a slightly different spin on income redistribution. Taking one dollar from someone and giving it to an identical person can actually reduce the simple sum of welfare. In order for redistribution to be welfare improving on the basis of a simple sum of utilities, the marginal benefit of an extra dollar of a tax payer must be less than half the marginal benefit of an extra dollar of someone receiving transfers. While this might be the case, it isn’t a certainty.

We might want to rethink income redistribution – it might actually be welfare reducing

Friday, October 15, 2010

The Fallacy of Relative Poverty

I’ve been spending a lot of time thinking about relative poverty lately. It’s really come to the fore as people continue to want to talk about poverty in Canada. The amazing thing about Canada is that there is virtually no poverty as measured by the UN, that is people living on less than $1.25 (US) a day. About 80% of the world population lives on less than $10 a day ( Even those receiving the absolute minimum level of state support in Canada receive more. Nobody in Canada starves to death, in fact one of the biggest health issues associated with poverty in Canada is obesity.

So why is there so much concern about relative poverty? An incredibly cynical view is that there are a remarkably large number of people who benefit from “helping” the poor. There are social workers paid quite healthy incomes to help those receiving social assistance live on 20% of what a social worker earns. One quote I’ve come across and can’t source (sorry folks I tried) is a social worker is someone paid $60,000 a year to tell someone how to live on $12,000 a year. The cynicism arises when we consider that if we stopped believing that the person receiving $12,000 a year needed extra help, that person would be out of a job that pays much better than average. While this likely plays a role in the ongoing debates about relative poverty, I’d like to think it isn’t the main conscious factor.

The general objection to relative poverty is that it is somehow unfair that some people have a lot more than others. Why is it unfair? Why do we care that somebody else has more, or less, than we do? Is it reasonable to care?

In reality I suspect concern over the relative income or wealth of people dates back to the class warfare of Marx and others of that line. But I think it might be useful to take another look at why a reasonable person might care. There are only two reasons I can think of to care how much somebody else (assuming I and they have met the basic needs of life) has.

The first is simple and ugly – envy. Envy is not new; it’s arguably been with humanity since the beginning. It is not a virtue, it’s a vice. Mosst religions prohibit envy, yet some in Canada seem to be making a positive fetish of it. If I’m earning enough to live comfortably and enjoy some reasonable luxuries how does it harm me if you can have more luxuries? I currently make a decent living, but there are people around who get paid a lot more. Does that mean I should enjoy my Friday afternoon beers with my colleagues less, just because we’re having beer & nachos instead of champagne & caviar? Are we all really that petty? Maybe we are, if so, shouldn’t we be trying to reduce our pettiness?

The other reason why people might be concerned with relative poverty is a mistaken belief that we are playing a zero sum game. People think that someone else being rich automatically means that someone must be poor. That is simply false. There is not a fixed sum of wealth available to a population, we can and do create wealth all the time. In fact the absolute number of “rich” people is and has been growing for years. People move from incredibly poor to just poor all the time. Some even go from incredibly poor to incredibly rich (though that is admittedly rare). Some one becoming rich due to a new invention or becoming a rock star doesn’t knock somebody else out of the rich group. My being rich doesn’t mean you can’t be. In fact it often means the opposite.

I know what some of you are thinking – I claim to be an economist, how can I be claiming scarcity isn’t real? The simple answer is that I’m not. We’ve seen over the last 20 or 30 years that increasing trade allows increased specialization, productivity and wealth for all those involved. We aren’t yet anywhere near the amount of trade we could be engaged in. The fact that people in Canada trade raw materials to China in exchange for manufactured goods doesn’t mean that people in Africa have less of either to consume.

I’ll end with a simple thought experiment. Imagine a group of aliens lands in a sparsely inhabited area, let’s say Canada. These aliens somehow manage to raise the incomes of everyone in the country to more than twice what it was before and leaving everyone else in the world with the same real income they had. Do we really believe the world is a worse place as a result? Relative poverty has increased.