Economics – Page 4 – We Know Zero

Hope-over-Experience is a comfortable place to live in…for now

26. April 2021 · Write a comment · Categories: Climate Change, COVID-19, Economics, Prediction, Risk

There is a particular variety of We Know Zero graphs that look like this one – showing an experience of a steady increase in something (usually bad, but not always) up until now, followed by a projection of that thing falling in the future. My wife Marsha suggested I call them Hope-over-Experience graphs, which seems to suit them very well.

Such diagrams are often very comforting for those who want to maintain the status quo. Let’s look at three such curves in particular (the excellent Doughnut Economics by Kate Raworth has alerted me to the first two of these).

The Kuznets Curve

There is a considerable body of evidence, most notably from Kate Pickett and Richard Wilkinson, that inequality impacts most health and social problems adversely, to the detriment of all socio-economic groups, but what is to be done about it? Enter our first Hope-over-Experience graph. In this case the x-axis is actually income per capita, but to the extent that this is something expected to increase with time I don’t think this matters too much. The y-axis is inequality. It was originally proposed by Simon Kuznets (the inventor of GDP) in his 1955 paper Economic Growth and Income Inequality (my apologies, but you will need journal access to read this) based on data from England, Germany and the United States from 1875 onwards, and the belief that economic growth will automatically deal with inequality has been a powerful influence on economic policy at the World Bank and elsewhere since.

However, more recent data has shown the patterns suggested by this limited original data set are no longer correct, if indeed they ever were. Thomas Piketty and Emmanuel Saez, in their 2001 paper Income Inequality in the United States 1913-1998, state:

In particular, the evidence presented in this paper, together with the evidence on France by Piketty (2001a, 2001b) and the U.K. by Atkinson (2001),
strongly suggest that there was no such thing as a “spontaneous”, Kuznets-like decline of inequality in developed countries during the first half of the 20th
century. The inequality decline was to a large extent accidental (depression, inflation, wars) and amplified by political factors (progressive taxation). This does not mean that the current rise of inequality will not be followed by a mechanical downturn during the first few decades of the 21st century: this is simply saying that such a mechanical downturn apparently never occurred in the past.

Their data suggests a curve which looks like this instead:

The Environmental Kuznets Curve

This was first proposed by Gene Grossman and Alan Krueger in 1994 in their working paper Economic Growth and the Environment, which suggested that there was an eventual inverse relationship between pollution and income per capita, with a turning point mooted at around $8,000. Most of their graphs are not quite as U-shaped as the Kuznets Curve, but this nonetheless has come to be known as the Environmental Kuznets Curve.

However, in 2016, the international industrial ecology research community and United Nations Environment agreed on a comprehensive data set for global material extraction and trade covering 40 years of global economic activity and natural resource use, which led to several papers including the UNEP Global Material Flows and Resource Productivity: A Report of the International Resource Panel (again apologies but journal access needed). Their graph of material extraction instead looked like this:

The Human Development Index (HDI) is the geometric average of 3 indices: Gross National Income, Health and Education. An optimum score of 1 is achieved where life expectancy is 85 or more years, adult literacy is 100%, school enrolment is 100% and the Gross National Income is US$40 000 or more per person per year in purchasing power parity. So again, this is not very supportive of a reduction in material footprint with increased wealth.

Which brings us to the third graph, often cited as an argument for why one of the most obvious ways to reduce inequality rather than just focusing on average income per capita, ie make taxation more progressive, is pointless.

The Laffer Curve

The story of the Laffer Curve, dating from the 1970s, is recounted by Arthur Laffer himself here. It plots tax rates against tax revenues to indicate that there is a tax rate beyond which tax revenues actually reduce. As he says:

The Laffer Curve itself does not say whether a tax cut will raise or lower revenues. Revenue responses to a tax rate change will depend upon the tax system in place, the time period being considered, the ease of movement into underground activities, the level of tax rates already in place, the prevalence of legal and accounting-driven tax loopholes, and the proclivities of the productive factors. If the existing tax rate is too high…then a tax-rate cut would result in increased tax revenues. The economic effect of the tax cut would outweigh the arithmetic effect of the tax cut.

However, returning to Piketty, this time in the 2011 paper, Optimal Taxation of Top Labor Incomes: A Tale of Three Elasticities by Piketty, Saez and Stefanie Stantcheva, the evidence underpinning this curve is again highly questionable. As they point out in the abstract (bold type added by me):

This paper presents a model of optimal labor income taxation where top incomes respond to marginal tax rates through three channels: (1) standard labor supply, (2) tax avoidance, (3) compensation bargaining…The macro-evidence from 18 OECD countries shows that there is a strong negative correlation between top tax rates and top 1% income shares since 1960, implying that the overall elasticity is large. However, top income share increases have not translated into higher economic growth. US CEO pay evidence shows that pay for luck is quantitatively more important when top tax rates are low. International CEO pay evidence shows that CEO pay is strongly negatively correlated with top tax rates even controlling for firm characteristics and performance, and this correlation is stronger in firms with poor governance. All those results suggest that bargaining effects play a role in the link between top incomes and top tax rates implying that optimal top tax rates could be higher than commonly assumed.

There are a number of charts which could be used from this paper, but I have chosen the plot of economic growth against changes in top marginal tax rate to illustrate most clearly the problems with the Laffer Curve idea:

This graph should show an inverse relationship if the Laffer Curve were true.

Why do I feel the need to debunk these simple so-called economic laws which are nothing of the sort? Because you will always prioritise economic growth over everything else if you believe that:

Growth will fix inequality;
Growth will fix pollution;
Trying to fix inequality through the tax system is counter-productive.

And these beliefs will then also have policy implications when faced with a different sort of curve.

This was an explainer from Grant Sanderson at 3Blue1Brown about COVID-19 from March 2020 setting out quite simply how it was likely to spread, and how different case numbers in different countries (eg between Italy and the UK) were as likely to be due to being at different time points since the start of the pandemic as reflecting the relative success of their containment policies. We now know the UK Government locked down too late, at least partly because they prioritised economic growth over containment policies in the first few weeks:

Those attitudes changed and we have had an incredibly successful vaccine rollout in the UK, but this has been at the expense of any idea of international cooperation in vaccine supply. Wealthy countries such as the UK have bought enough vaccinations to cover our populations almost three times over, while Covax, the global vaccine procurement scheme, only aims to vaccinate 20% of the populations of recipient countries this year.

This is very short-sighted if we think there might be an international issue even more threatening to life than COVID-19 which can only be combatted by unprecedented levels of international cooperation. And of course this is exactly what we have in the form of the climate emergency and our final graph (from the National Oceanic and Atmospheric Administration (NOAA) in the US showing the relentless rise in the level of carbon dioxide in the atmosphere as global emissions continue to increase:

Living in Hope-over-Experience may be very comfortable for some people for a limited time, but if it stops us engaging with the more implacable curves of the world we actually live in then none of us will be safe.

Now and Venn

28. March 2021 · Write a comment · Categories: Climate Change, Economics

Diagram 1

We are currently behaving like this is the world we live in – because if you are a finance person it is. The Dasgupta Report on the Economics of Biodiversity does nothing substantive to challenge this, despite a foreword from David Attenborough admitting “We are totally dependent upon the natural world”, other than putting a bigger number on the Sustainability portion (Natural Capital). John Kay mentioned in his talk, as part of the Dr Patrick Poon Presidential Speaker series on Finance in the Public Interest for the Institute and Faculty of Actuaries, the habit of actuaries in particular of often “attaching meaningless numbers to data”. There would seem to be great potential for doing precisely this in putting a number on Natural Capital.

But it is worse than that. As the September 2020 InfluenceMap report on sustainability finance policy engagement makes clear, most financial institutions (bottom-right quadrant, in blue, below) have shown caution and, despite having made some high-level supportive comments, have tended not to engage in a detailed or intensive manner. A small number of financial institutions (top-right quadrant, blue) have been actively engaged in promoting sustainable finance policy. A few financial institutions (centre-left of the diagram, blue) appear to be more cautious about sustainable finance policy.

This chart plots the results of InfluenceMap’s analysis for the financial institutions and industry associations included in the analysis. Engagement Intensity refers to how actively the entity is engaging, while Organization Score measures the degree of support/opposition to policy.

Diagram 2

In the meantime, the IFRS Foundation is proposing to set up a Sustainability Standards Board with its own reporting standards. This is what Richard Murphy (who got me thinking about this in Venn diagram terms originally) is rightly complaining about as it would lead to this:

His sustainability cost accounting idea offers a plausible alternative approach in my view. As the introduction says:

…accounting has to change because we need a clear, audited, enforced and unambiguous indicator of the process of change that business must go through to support continued human life on this planet. Sustainable cost accounting can do that by indicating who can, and cannot, use capital to best effect in this changed environment. That is precisely why it is needed, however uncomfortable the consequences might be.

What is actually needed therefore is clearly an approach rooted in this:

Diagram 3

This is the long term position most working in sustainability would, I believe, like to see. However there are differences of opinion in how to get there.

Kate Raworth argues that you may need to talk within Diagram 1 to start with in order to engage the finance professionals, which of course includes the central bankers and treasury official who might limit the speed at which we could move to Diagram 3. Others disagree, saying once you start talking to finance professionals in their own language, you are condemned to a solution in Diagram 1.

What seem clear to me is that, if our arguments are between Diagram 1 and Diagram 3, perhaps we can dispense with Diagram 2.

A success made of failures

13. March 2021 · Write a comment · Categories: Climate Change, Economics, Prediction, Regulation, Risk, Science Fiction

Source: Wikimedia Commons: Shattered right-hand side mirror on a 5-series BMW in Durham, North Carolina by Ildar Sagdejev. Cropped by Nick Foster

It starts in 2025 with a description of a horrific heatwave in India which will stay with me for a very long time. As well it should as, in the book, it kills 20 million people. In response, India send thousands of aircraft up to 60,000 feet to spray aerosol particulates of sulphur dioxide into the stratosphere, in defiance of the international conventions banning such activities, to deflect some of the solar radiation with the aim of reducing the probability of future heatwaves for a period. By how much or for how long or with what other consequences is unknown.

As we build up to COP26 in Glasgow in November this year, in the book we start with the results of COP29 in Bogota, where the organisation which would come to be known as The Ministry for the Future (and the title of the book by Kim Stanley Robinson) was set up “to advocate for the world’s future generations of citizens, whose rights, as defined in the Universal Declaration of Human Rights, are as valid as our own. This new Subsidiary Body is furthermore charged with defending all living creatures present and future who cannot speak for themselves, by promoting their legal standing and physical protection.”

The Indian crisis happens a few months later. The new head of this body, Mary Murphy, is briefly held captive by, Frank, one of the survivors of the heatwave in her own flat in Zurich (the book also feels like a love letter to Zurich) and challenged to do more:

It’s not enough. Your efforts aren’t slowing the damage fast enough. They aren’t creating fixes fast enough. You can see that, because everyone can see it. Things don’t change, we’re still on track for a mass extinction event, we’re in the extinctions already. That’s what I mean by not enough. So why don’t you do something more?

This has a profound impact on Mary, who keeps in touch with Frank and his troubled suffering life throughout the book. It also leans her towards effectively endorsing the involvement of her No 2 in “black” operations to ensure certain people are “scared away from burning carbon”.

Indeed the book is suffused with eco-terrorism. Technological progress has partly displaced the state monopoly of violence, with drone technology in particular meaning that no aircraft or ship or surface navy is safe from a well-enough organised group by the end of the book. People stop flying when aircraft start being shot down regularly, and those that still do fly use carbon-negative airships, where solar panels generate more power than the ships use. Davos attendees get taken hostage and given a compulsory seminar at one point. Tax havens become obsolete when all money becomes digital and tracked.

Mary’s interactions with central bankers are probably the closest this book ever comes to comedy. In the first, she tries to argue for a “carbon coin”, a digital currency which would be paid out to organisations and people who could prove they had removed carbon from the environment. This would be the incentive to work alongside the carbon taxes. The contemptuous response from the Federal Reserve and others at first is “not our purview”, however by the end they are on board with this and many of the other ideas developed along the way.

There are so many ideas in this book, far too many to cover them all here: some of them familiar to me from economics (carbon quantitative easing, Jevons’ Paradox, Modern Monetary Theory, Gini Coefficient – these each get a short chapter among many other ideas and interspersed with riddles) and others not so. The Indian techno fix is the first of many: some successful, like sucking out the meltwater under glaciers to slow them sliding into the ocean and others not so, like the billionaire wanting to refreeze the oceans. Russia dyes parts of the Arctic yellow to reflect more sunlight back. Huge areas of land are rewilded.

What strikes me most is that the arguments we tend to have here and now about which course to take (Freud’s phrase is quoted here in the book – “the narcissism of small differences”) seem largely moot in this one imagined near-future: all of them are tried there – it’s not techno-fixes or de-carbonisation of transport and heating, it’s both. It’s not carbon QE or re-wilding, it’s both. If something doesn’t work, it’s abandoned. By far the most important determinant of which of the IPCC future scenarios we end up on seems to be how quickly we start. Economists come in for particular ridicule there – whatever course of action is planned, they can find one group who thinks it will have one effect, one who think it will have the opposite effect and one which thinks it will make no difference at all. The difference is that the economists are no longer guiding policy there, but facilitating and post hoc rationalising it.

There is a wartime feel to the book throughout, with people doing what they feel needs to be done in desperate circumstances. The choices are all different levels of bad, but bad is almost incalculably better than worst. And the overall impression is of a world changing rapidly, with one of its herd animals belatedly getting into better balance with the others. Even at 560 odd pages the impressions are inevitably just that – one chapter is just a list of different organisations working on aspects of the climate emergency in different countries, described as about 1% of the total number active. It is like the shards of a smashed wing mirror picking out details from the vanishing world behind. I have never wanted to apply the word polymesmeric (which I first saw on the cover of Catch 22 by Joseph Heller) to a book as much as I have to this one.

The hoped-for outcome of all of this? In one conversation this is described as a “success made of failures” or a “cobbling-together from less-than-satisfactory parts”, which I think sums it up nicely.

And I definitely want to visit Zurich one day. Probably by airship.

Fiscal space

05. January 2021 · Write a comment · Categories: COVID-19, Demographics, Economics, Risk

NASA, ESA, and the Hubble Heritage Team (STScI/AURA), Public domain, via Wikimedia Commons

Fiscal space is defined as the difference between a nation’s sovereign debt-to-GDP ratio and the limit beyond which the nation will default unless policymakers take fiscal steps that are outside of anything they have done historically. That limit is sometimes referred to as the fiscal cliff, just to ram home the imagery of fixed physical limits beyond which disaster beckons.

How much fiscal space does the UK have? Moody’s have an answer, which depends most heavily on when you ask the question. In September 2019 it was as follows:

This shows the UK with a fiscal space (the “dynamic” means they assume interest rates increase as borrowing does, due to “crowding out” arguments – ie government borrowing pushing up the price of borrowing for everyone – so beloved of most economists) of around 175% of GDP, with this then projected to fall over the following 5 years as rates “normalized”. While the cost of borrowing seems to be dynamic, the actual borrowing itself is not allowed to be in these calculations – it is assumed that they just add to debt without increasing the revenue components of the primary balance.

Well of course then we had 2020, at which point (June 2020) Moody’s appear to have stopped talking about fiscal space and instead are now focusing on something called “debt affordability”. What happened to dynamism and crowding out? Not explained:

However despite this triumph of debt affordability, they then produce another graph to indicate that governments still need to be bearing down on debt to GDP ratios:

As they say in the document “rating implications will depend on governments’ ability to reverse debt trajectories ahead of potential future shocks”. Remember this was in June 2020. Let’s also remind ourselves of another graph:

Requiring governments to reverse debt trajectories in this environment is insane and likely to result in more deaths if not ignored. However as recently as last month in their issuer comment for the UK they said:

However, compared to the government’s March budget (that was quickly overtaken by events), there are some initial signs that fiscal policy outside of investment is likely to be less expansive than previously announced. What remains unclear is whether this ambition will be able to withstand the political pressures that seem to be inevitable given the government’s previous commitments. Even before the Spending Review, longer-term spending commitments for health, education, and defence had already been announced. Together, these three areas account for around 60% of total expenditure.

I have been hard on Moody’s in this piece, they are most certainly not alone. But this attempt to divorce sovereign debt levels from what is actually going on in countries needs to stop as does the constant discounting of the value of any government spending at all. Political pressures to spend more on health and education are not always things that governments need to “withstand” in order to look good in a Moody’s graph. There are far more important things at stake.

Change and Innovation-Speak

03. January 2021 · Write a comment · Categories: COVID-19, Economics

Blaise Pascal, mathematician and philosopher, once said:

All of humanity’s problems stem from man’s inability to sit quietly in a room alone.

This seems to have a particular relevance at the moment, when many of us are being asked to do precisely that. I also agree that this is definitely a problem we have. However I prefer to think of it as just one consequence of our inability to think about change in any rational way. We fear change, which is why we yearn so much to go back to “normal” at the moment, even if normal life was pretty unsatisfactory for many of us before the pandemic struck. We fight against change if we think what we have is threatened from outside the room we might otherwise sit quietly in, whether that is the loss of our income or that of our influence in the world or our “sovereignty”.

The only way in which we can contemplate change is in the context of some utopian ideal of improved productivity making one aspect of our lives much better while not requiring us to change any other part of them. Hence so much resistance to any idea of redistributing what we already have in favour of “Pareto improvements” to the economy, ie those which benefit some people without making anyone else worse off, and the obsession amongst economists with the “productivity puzzle” in the UK in particular:

So we look for ways to achieve this miraculous productivity improvement while leaving everything else essentially unchanged and the magic word which promises this more than anything else is innovation. Innovation will enable us to do more with less (or, more usually, make us do a lot more much cheaper, therefore encouraging us to use even more in the process). Innovation will have spin offs in lots of other areas we have not even imagined yet, but they will all be good ones! Innovation will solve the productivity puzzle.

In The Innovation Delusion, Lee Vinsel and Andrew Russell challenge this. As we have become more and more desperate for all change to look like innovation, we have made actual innovation harder to achieve, while saddling ourselves with higher and higher maintenance costs of new “innovative” infrastructure which is increasingly unsustainable to finance, rather than maintaining what we already have better.

I therefore prefer the quote that they use, from Kurt Vonnegut:

Another flaw in the human character is that everybody wants to build and nobody wants to do maintenance.

Innovation-speak, as they call it, is not innovation at all, but presenting ideas as innovative when they are not. As they say:

It plays on our worry that we will be left behind: our nation will not be able to compete in the global economy; our businesses will be disrupted; our children will fail to find good jobs because they don’t know how to code…Innovation-speak is a dialect of perpetual worry.

No wonder we are unable to sit quietly in a room alone.

And in the coming years when we will need to make substantial changes that work well enough for all of us to be able to continue living on this planet together, this approach will not work. We need for our thinking not to be magical, but grounded in realism. We need to make new things that we can afford to maintain sustainably. Innovation-speak will not get us there.

Not now Cato

24. May 2020 · Write a comment · Categories: Economics, Risk

Burt Kwouk and Peter Sellers in 1975’s The Return of the Pink Panther. Photograph: Allstar/ITC

Stephen Fry at the Hay Festival a few nights ago regaled us with many tales from his new book Troy. They were full of people making The Tough Decisions based on The Science or, as they tended to call it then, Prophecy. The seer Aesacus interpreted a dream about a flaming torch meaning Priam and Hecuba needed to kill the son Hecuba was carrying to stop him from bringing the destruction of Troy. Noone could bring themselves to kill the baby, who grew up to be Paris, and Troy was indeed destroyed. However rather than ignore The Science, they outsourced the deed, ultimately to the random wildlife roaming Mount Ida and so it never got done. Now my question would not be why they ignored The Science, but why they felt that The Science was something to be consulted with in secret with no second opinion and then enacted in a half-hearted way because they didn’t really believe it anyway. It’s almost as if there was no actual science in existence to give them an alternative.

One of the other interesting things Stephen said was in response to the question of whether there was value in students studying the classics at school. His very strongly argued case rested on two main points:

The value of learning stories made up not by a single writer but by a people; and
The greater level of understanding of much other art if you know “the second language” of the classics.

It is of course a highly elitist argument, but as a way of understanding an Elite which are currently following The Science in a direction they don’t really believe in, perhaps more relevant than it has ever been. Because if we are ruled by a group speaking in a second language and resistant to evidence-based policy perhaps we need to start acting accordingly.

Currently we are reading a lot in the media about how terrifyingly quickly Government debt is growing and how urgently we will need to cut Government spending once the pandemic is over, even on those key workers we have realised our (by any historical standards) fantastically rich economy cannot do without. I am thinking of the Institute of Fiscal Studies of course, the Adam Smith Institute and ultimately all arguments of this sort end up including the Cato Institute too. Now I could start to rebut these claims, pointing out that Government debt is not particularly big, that it is currently very cheap and that the last thing we will need for an economic recovery from it is austerity or whatever the Johnson Government decide to rebrand such a policy to make it politically acceptable.

But I am not going to waste my ink, particularly not now. One reason would be that there is an element of Jonathan Swift’s dictum at play here, ie:

Reasoning will never make a Man correct an ill Opinion, which by Reasoning he never acquired.

But another, in my view much more powerful, reason is that we are pretty universally experiencing a trauma which has triggered fight, flight or freeze responses that have impaired our thought processes quite significantly. As Joanne Stubley from the Tavistock and Portman NHS Foundation Trust puts it so well:

Whilst the wish to be involved and to contribute clearly may have altruistic, reparative aims inherent in it, there is also a growing sense of competition that is emerging – competition for who is the expert, who will lead the research, the clinical pathways mapping or write the best paper on Covid 19. This jostling for position may be fuelled by survival anxieties both in relation to the threat of the virus (life and death anxieties that propel us to action) but perhaps also anxiety for what will occur when the threat has passed. We have lived with the reality of austerity in the NHS for many years, and services have become accustomed to the competition inherent in the marketplace economy. With the threat of serious economic downturn and recession looming, this causes further anxiety in relation to the long-term viability of services. Holding in mind a compassionate, thoughtful position that allows for cooperation becomes so much more difficult when this part of the brain is turned down when under threat – survival in the immediate threat does not make use of this more sophisticated mode of thought and behaviour.

Put simply, we don’t know what we are experiencing yet. It is too soon to say on almost any level. If someone is giving you a prognosis on what will happen economically under different exit strategies from Lockdown then they do not yet have the data to know what they are talking about. Noone does. The best thing that science (as opposed to The Science) can tell us currently is that we don’t know.

So we don’t know and we can’t think. We therefore need to be very cautious about what we do next.

Let’s stop worrying about “damaging” GDP and transfer risks back to where they belong

30. March 2020 · Write a comment · Categories: Actuarial, Climate Change, Economics, Prediction, Risk

“We won’t go back to normal, because ‘the normal’ was the problem.”

For me the turning point came on 12 March, when the FTSE 100 fell by 639 points or around 11% of its value in one day. What were the newspaper headlines that day?

Only the Times and the Financial Times had the stock market fall on their front page at all. Everyone else led with some variant on the Prime Minister saying that many families would lose loved ones. The attention switch was so complete that when KPMG published their UK Economic Outlook for March 2020 the following week – forecasting a main scenario for Gross Domestic Product (GDP) in the UK to fall by 2.6% in 2020 then grow by 1.7% in 2021, and a downside scenario for GDP to contract by 5.4% in 2020 and by another 1.4% in 2021, representing a slightly more severe recession than the downturn experienced in 2008-09 – nobody noticed that either (19 March and 20 March headlines here and here respectively), sandwiched as it was between the announcement that schools were to close and the Prime Minister saying that we had 12 weeks to turn the tide.

KPMG’s report was an example of damage function modelling of course: trying to model changes in economic activity due to some phenomenon and summarising that change in terms of a change in GDP. I have recently been quite exercised by similar considerations with regard to climate change damage functions and the inconsistencies of the ones in most current use with climate science. However it has become increasingly clear to me that I may have been missing the point. I realise I was focusing on damage functions because I felt they were leading to extreme optimism in the modelling of the impact of climate change on our economies and that it was this link which was most likely to get the attention of policymakers (and other actuaries!).

But of course GDP is only ever a proxy for some of the things we regard as important, rather than something that is important in itself, and a flawed one too. As Diane Coyle’s excellent book, GDP: A Brief But Affectionate History, makes clear. Its problems include:

It under-records growth by failing to capture fully the increase in the range of products in the economy;
It becomes a worse measure as the world economy consists less and less of material items, eg online activities; and
It can show positive growth caused by clearly unsustainable practices and those which deplete natural resources.

When KMPG released their economic outlook, it was as if they were trying to drag a weary world population away from the windows and balconies from which they are still trying to connect with each other and what is still real in the world back to the Monopoly game that they have set up in the front room.

It took a lot to get our behaviour to follow this change in attention. When Wuhan went into lockdown on 23 January, I was talking to Stuart McDonald, now a member of the COVID-19 Actuaries Response Group, about the talk he was planning to do at the University of Leicester on 18 March and deciding he would probably need to add a few slides about coronavirus. Italy went into lockdown on 9 March and yet on 12 March we had a second call where we still felt on balance that it might go ahead as long as we took sensible precautions, but by this time it was almost entirely about getting accurate messaging out about COVID-19. We called it off the following day. The UK finally went into lockdown on 23 March.

So perhaps it is no wonder that we have so far been unable to change human behaviour to anything like the same extent in response to climate change, which is a bit like COVID-19 in slow motion, progressing unseen with each stage of its development effectively locking us into the next steps in its relentless escalation. In the same way that movement restrictions may not slow down the increase in new cases for perhaps around a week, stopping carbon emissions now would still see us locked into further warming for 40 years. And even with the greater immediacy of coronavirus, it has only been when we have decided we care more about saving each other than maintaining our GDP that real progress has become possible.

My view is that some things that must be different post COVID are already clear. I think as a society we are going to demand more resilience, for example:

Resilience of our health service – this means much higher levels of spending, building deliberate over-capacity into the system in normal times;
Resilience of our food supplies, for example strengthening domestic supply chains;
Resilience of our population, so that we do not have 1.6 million food parcels needing to be given out in a year by the Trussell Trust, in the absence of a pandemic, for instance; and
Resilience of our infrastructure – to everything from floods to banking crises to pandemics to storms and heatwaves.

The Institute and Faculty of Actuaries (IFoA) has therefore shown great timing in its launch of its 2020 thought leadership campaign The Great Risk Transfer. The campaign aims to examine the trend of the transfer of risk from institutions to individuals, and how people can be better equipped to manage the financial risks they now face. I think the campaign rightly highlights the fact that risk transfer is all one way, but it clearly also goes way beyond the finance sector. Rail franchises never took on any real risk, it appears, even before the pandemic. Nor have PFI contracts, despite the price tag. By contrast the incremental removal of risk pooling by corporations for their employees and/or government for their citizens over the last 40 years has been relentless and in one direction only.

As Andrew Simms, one of the Green New Deal Group, said on Twitter yesterday about taking lessons for the climate emergency from the pandemic crisis:

Those roads with a fraction of the traffic, the drop in aviation, the economic shift to put public health & well-being first, the speed with which the brain adapts to the new normal: as someone said, these things are a postcard from the future we need to get to. Let’s take notes.

Actuaries and the Event Horizon

18. January 2020 · Write a comment · Categories: Actuarial, Climate Change, Economics

Credit:ESO, ESA/Hubble, M. Kornmesser Information extracted from IPTC Photo Metadata: This artist’s impression depicts a Sun-like star close to a rapidly spinning supermassive black hole, with a mass of about 100 million times the mass of the Sun, in the centre of a distant galaxy. Its large mass bends the light from stars and gas behind it. Despite being much more massive than the star, the supermassive black hole has an event horizon which is only 200 times larger than the size of the star. Its fast rotation has changed its shape into an oblate sphere. The gravitational pull of the supermassive black hole rips the the star apart in a tidal disruption event. In the process, the star was “spaghettified” and shocks in the colliding debris as well as heat generated in accretion led to a burst of light.

We all know the concept of an event horizon. It is the point where you move past a point of no return without realising it, as David Finkelstein theorised in 1958 would happen as you approached a black hole. Steve Keen has set out why we may have done precisely the same thing with the climate here. The language is a little fruity in places (but justifiably so, in my view, to differentiate between serious economic research and the rubbish which Nordhaus and others have polluted the field of the economics of climate change with, the first 25 minutes gives you the general idea).

What should actuaries do in an event horizon situation? Well in some ways it depends on the political climate you are working in. Can anyone imagine an equivalent of Donald Trump saying that he didn’t believe in black holes and that spaghettification was invented by Italy to support their pasta industry? This probably doesn’t seem as ridiculous as it would have done only a few years ago, which demonstrates how the political environment has changed.

What actuaries have to do in an event horizon situation, in my view, is not to give up. That means:

pushing clients hard towards decarbonisation as quickly as possible; and
offering people investment opportunities which are part of the solution rather than the problem (the FT has pointed out that there is a proliferation of green funds, however Richard Murphy (one of the Green New Deal group) and others have pointed out that there is no way currently of knowing which if these funds are truly green – actuaries could play a leading role in accrediting funds to help with this.

Steve Keen is very pessimistic about the possibilities of a Green New Deal to meet the need to keep warming below 2 degrees above pre-industrial levels. And there are many that believe that you cannot decouple economic growth from carbon emissions. But they may be wrong, and in my view it is worth pursuing the restructuring of our economy which would be required to deliver it, if only to reduce the level of carbon rationing that will be required otherwise within our lifetimes. We do not have a Government which is remotely interested in this in power at the moment, so following this path comes with considerable professional risks, particularly when short term knee jerk policies to deal with currently failing companies (eg FlyBe) are going to be dominating the headlines, with even more to follow once the long-term realities of Brexit become apparent after 31 January. Another event horizon it would seem.

A possible manifesto for the next generation

06. December 2019 · Write a comment · Categories: Climate Change, Demographics, Economics

I am an actuary. I have worked for over 22 years either in, or serving in some capacity (apart from the two years I spent learning to be a teacher), the finance industry. I spent the 12 years before that mostly either bringing up children or writing unpublishable novels, with some early career experiences in the security printing industry thrown in which I thank principally for teaching me early that no way of doing things is for ever. Seven of my former employers no longer exist, mostly swallowed up in subsequent corporate transactions. I am increasingly convinced that a “career” like mine is no longer possible for the next generation, and my most recent evidence for this is based predominantly on two excellent books.

The first is The Finance Curse by Nicholas Shaxson. This demonstrates, convincingly, that a huge part of our current malaise as a nation, whether it is the loss of control over our own affairs, or the current, Victorian, levels of inequality or the fact that we don’t appear to invest in any of things we need to prosper as a society any more, can be traced back ultimately (sometimes via very cunning circuitous routes) to the Faustian pacts the City of London have lobbied the rest of us into with the rest of the world.

The second is The Pinch by David Willetts (and link to his slides – one of which is shown above – on it from 2015 here), whose central argument is that we are not attaching sufficient value to the claims of future generations, and that this is an intellectual failure of my generation: the one that spawned both me and Boris Johnson. I will declare an interest here: David is Chancellor at the University of Leicester, where I work as an actuarial science lecturer, in addition to all of his many other achievements and will be speaking at the Leicester Actuarial Science Society on 11 March on intergenerational fairness linked to a new edition of his book.

So for any highly talented twenty-somethings looking to make his or her mark in the world (and I have been privileged to meet and teach many of you over the last few years), I would, very hesitantly (because you probably don’t need me of all people to be giving you an agenda), suggest that the following things might be a priority for your generation:

Don’t be distracted by the short term. Most people now want action on climate change, for instance, which has been delayed to a ridiculous extent by our inability to place sufficient value on the needs of future generations. Most of the things worth working towards and campaigning on are long-term problems with solutions which require long-term patient consensus-building. Our generation have been unable to do this seriously, yours cannot afford to be so distracted.
Stay focused on the big issues: What is the proper allocation of wealth between the generations? Most of the problems we fixate on, like obesity or anti-social behaviour or credit card debt are just symptoms of the breakdown of the inter-generational contract which the baby boomers (because we felt that we could do so because of our greater numbers) have visited upon our societies. We have then presumed to pass moral judgement on the generation we have so comprehensively wronged, which is of course an easier message for many in our generation to hear but is one of the main reasons we have become too distracted to deal with the big long-term issues that we face as a society.
Don’t make it all about good guys and bad guys. It is easy to vilify individuals in this great inter-generational psychodrama that we have all been living through, and it might make you feel momentarily more empowered or encouraged as a result, but in the long term the power is with you anyway and you will be more effective if you make it about good and bad systems. Good systems pursue the interests of our own people, whereas bad systems pursue the interests of people who need to be persuaded to invest in our society but have no real long term interest in doing so: ie other societies who clearly need to prioritise their own people’s needs and tax avoiding multinational companies and individuals.

I would like to finish with the concluding sentences of The Pinch:

The modern condition is supposed to be the search for meaning in a world where unreflective obligations to institutions or ways of doing things are eroded. The link between generations past, present and future is a source of meaning which is as natural as could be. It is both cultural and economic, personal and ethical. We must understand and honour those ties which bind the generations.

In the nine years since The Pinch was published we have done the very opposite of honouring the ties which bind the generations. We must hope that the generation following us have more wisdom.

Actuaries and the Green New Deal

20. September 2019 · Write a comment · Categories: Actuarial, Birmingham, Climate Change, Economics, Legal, Pensions, Regulation, Risk

Images from the Birmingham Climate Strike on 20 September 2019

On the day millions have taken to the streets across the globe to demand a more urgent response to the climate emergency, it seems a good time to write about the crossbench Decarbonisation and Economic Strategy Bill, originally tabled by Caroline Lucas and Clive Lewis in March this year, which has now been formally launched. This “Green New Deal Bill”, as it has been dubbed, sets out a legislative framework for the changes that are needed to make the Green New Deal (a programme of action neatly summarised in the Green New Deal Group’s fifth report here) a reality. The impacts of these proposals would be far-reaching and radical, changing the way our economy operates and what we value. As well as revolutionising the way we live, this would also significantly affect the current work of actuaries and provide many opportunities for people with the actuarial skill set to be centrally involved.

The main proposals which I think would impact actuaries are as follows:

Bring offshore capital back onshore to make sure that government, not markets, can make the big economic decisions. This would obviously impact all businesses operating in financial markets. There would also be large movements in the value of some businesses as a result of economic decisions which have previously been left to the market now being made by government. Modelling the impacts of such changes and helping businesses manage the transition are examples of where actuaries can add value here. We are already seeing increasing disinvestments from coal, but this would seem to be just the start of a much wider realignment (one possible view of the potential is discussed here).
Greater coordination between the Bank of England, the Treasury and the Debt Management Office. This means the end of the independence of the Bank of England by the look of it, with monetary policy and fiscal policy run in much closer cooperation with each other. It also means more regulation for banks and the supported emergence of local banks and a new national investment bank.
New bonds, nationally and locally, and new pension arrangements targeted at the green renewal of our infrastructure. For instance, tax rules on pension schemes could be changed to require a minimum percentage of assets invested in such bonds in order to continue to qualify for tax relief.
New objectives for business, and new kinds of businesses. For instance, the UK-based Corporate Accountability Network argues that the whole focus of corporate reporting will have to change, and so too then would corporate behaviour because there is very strong evidence that what is reported by any organisation is what becomes important to it. The Green New Deal Bill provides for changes to both company law and accounting to embrace the need for legally required and enforceable reporting on progress towards any company becoming carbon neutral. This will certainly lead to new business structures as a result and, I would imagine, many new business opportunities for those with actuarial skills as a result.
Replacing our measures of progress. This is something I have long supported. The main problem is that there are many possible candidates for this, but that also means that there is a great opportunity for actuaries to be involved in constructing appropriate indices which are globally respected, thereby helping to change what we value away from our current GDP and FTSE fixations.

Of course there are also opportunities for those with actuarial skills to block the transition to an economy that isn’t constructed in such a way as to make environmental destruction inevitable. Employers like these would probably make those with the actuarial skillset very lucrative offers to use their skills. I hope that most of us, and particularly those just at the start of their careers, will resist such offers. We now know that tobacco firms hid the evidence of the damage done by their products for decades and firms such as Exxon have done the same in denying the science on climate change for over 40 years. Please don’t be part of the problem when you could be such a valuable part of the solution.

At Leicester, we intend to launch a new module on our MSc Actuarial Science with Data Analytics programme next year, specifically on the ideas behind the Green New Deal and focusing on the areas where ideas still need to be developed (one of the most exciting things about the Green New Deal is that it is still an area of live discussion, with many of the policy details still being developed). I would welcome any input from members of the Green New Deal Group or those with research interests in this area who would be interested in helping us develop the detailed curriculum of this module before launch.

This is an exciting time for those who are comfortable working with data and communicating what they have found in it. Let’s make sure that those skills are applied to the needs of 99% of the global community.

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