Index numbers and base year weights

 Crafts and Harley have a neat guide to some index number problems.

1. they imagine an economy with 

Year o: 10 bricks at 1 (io% of current value added) 

5 cakes at i 8 (90%) 

Year 2: 20 bricks at 2 (20%) 40 cakes at 4 (8o%)

2. what is growth in this economy?

3. the issue is this

a. we have physically more bricks and more cake.  you can see this with the Quantity ratios, 20/10= 2 and 40/5 = 8

b. but the relative prices of each have changed, such that shares in value added has changed.

4. weighting by the year 0 value added shares (2.7% and 97.3%), we have growth of 7.4.

5. weighting by the year 1 value added shares (50% and 50%), we have growth of 0.2. 

the former is a Laspeyres, the lattter a Paasche.  The Laspeyers is faster. 

Trade and Trump

 A brilliant podcast with Martin Wolf and Richard Baldwin.  "

Martin Wolf talks to Richard Baldwin: What’s the future of global trade?

Is technology making tariffs redundant?

 

Richard makes some brilliant points.

1.      There are three phases of globalisation: All of which are essentially the separation of the production of commodities from the consumption of commodities.  Food is an obvious example. 200 years ago a large fraction of the British population worked on the land. Now, hardly anybody works on the land yet we managed perfectly well to feed ourselves.

2.      The first phase was trade in goods.

3.      The second phase was trade in production.

a.      In the second more subtle phase what happened was there was a massive outsourcing of production mostly manufacturing to low wage countries Who were much more competitive at labour intensive tasks.  We we are now in a position as a consequence of this the China manufacturers around 30% of world manufacturing. Unscrambling this of course will be quite painful, and notice that much of this manufacturing is in turn intermediate goods which go to other countries.

b.     The fact that so much of this is intermediate goods is an important consequence for Mr trump's tariffs. In the early days of the USA The US manufactured hardly anything and imported vast quantities of goods. Tariffs on goods therefore raised an awful lot of money, at some cost of course to the living standards of American consumers.  Now with so much trade in intermediate goods putting a tariff on an import is simply punishing yourself.  Baldwins view is that ultimately this economic logic will mean that the worst of tariffs will be watered down.  He also pointed out interestingly that Biden was much more selective in his use of tariffs, for example on semiconductors, perhaps to build up US manufacturing capability for national security style reasons. Noah Smith has also put forward this interpretation.

4.      The third phase is yet to come, and that is trade in services. Or as Martin wolf puts it dramatically, we started with trade in goods, then we had trade in factories, now we have trade in offices.

a.      One point about service sector trade is that it's very difficult to put a tariff on it. If somebody in India helps me with my PowerPoint slides it's almost impossible to put a tariff on that. Likewise as they point out, since Richard Baldwin is sitting in Zurich, the podcast they were making is in fact (nonmonetary) trading services. Impossible to know how one could put a tariff on that.

b.     They then make the point that such trading services is potentially competition for a lot of middle class jobs. Martin wolf made the point that radiographers elsewhere in the world can probably look at X-rays perhaps better then native radiographers.

c.      It further follows that once machines get even better at doing all of this then trade is possibly only a secondary force.

d.     On a slightly more technical issue, Richard Baldwin made a very nice point about the OECD services trade restrictiveness index. The interesting point about this index is it shows a lot of variation across countries, when it seems very hard to actually Put tariffs on services. Richard Baldwin made the very nice point that this restrictiveness index is essentially an index of the difficulty of business to consumer trade. Much of services trade however might be business to business trade, which is not captured by the index.

Martin Wolf talks to Richard Baldwin: What’s the future of global trade?

Is technology making tariffs redundant?

Martin Wolf talks to Richard Baldwin: What’s the future of global trade?

Is technology making tariffs redundant?

"Can Keir Starmer reset relations with the EU?" the CER report

 The CER has a very interesting report.  Some points.

1. "Britain desperately needs economic growth – which the TCA is dampening. Trade in goods has suffered particularly badly since Brexit. According to the Office for National Statistics, from 2019 to 2023 goods exports dropped by 11 per cent, and goods imports by 7 per cent (services exports rose by 13 per cent, and services imports by 5 per cent in the same period). The Office for Budget Responsibility, a fiscal watchdog, says that in the long run Brexit will hit UK GDP by about 4 per cent."  

Interestingly services trade is not so hit. Perhaps due to rebadging of firm location?

2. "A deal on SPS. Sometimes called a veterinary agreement, it could reduce the most onerous border bureaucracy for importers and exporters of food, plants and animals".  But "the EU will not agree to – removing most border controls – unless the UK accepts ‘dynamic alignment’, meaning that when the EU changes its rules, the UK must follow. The EU will also insist on a role for the European Court of Justice (ECJ) in dispute settlement".  

"An SPS deal would also preclude a future free trade agreement (FTA) with the US: the Americans would not want an FTA that excluded greater access to the UK market for their farm goods. But the application of EU standards – such as the ban on hormonetreated beef and chlorine-washed chicken – would prevent the UK from opening up to American food." 

3. "A deal on energy and climate policy." "In 2023, the EU implemented a Carbon Border Adjustment Mechanism (CBAM), requiring importers of carbon-intensive goods such as steel, cement and fertiliser to disclose their carbon intensity and, starting in January 2026, to pay a CBAM fee – essentially a carbon price on imports in line with the price that EU-based producers pay under the ETS. This means that UK exports of such goods to the EU will face additional bureaucracy and perhaps charges. ...But if Britain linked its ETS to that of the EU, it would not be subject to the CBAM, and thus its exports would avoid the CBAM fees and bureaucracy"

4. "A deal on mobility. The EU is highly unlikely to agree to any revamping of the TCA without some sort of accord on youth mobility, which could include the re-entry of Britain into the Erasmus+ student exchange scheme. ....In return the UK should obtain easier travel for businesspeople, touring artists and others who need to cross the Channel for their work for a short period".  

But in return the UK would likely have to give up rights on fishing.

5. various technical fixes: VAT procedures, ("The BCC points out that many smaller companies find the post-Brexit VAT system mind-numbingly complex and a real deterrent to trading with the EU.)".  Grant also suggests rejoining the Lugano convention. 

The Chancellor's fiscal headroom in historical perspective

 There's lots of chat on the CX headroom.  Here's a striking chart, 7-3 from the October 2024 Economic and Fiscal Outlook OBR (Or here) . 

Average headroom in the past has been around £30bn. Current headroom is about £10bn.

Defence spending: getting a sense of the numbers

 1. If we have to spend more on defence, what is the scale of those numbers?

2. The ever brilliant IFS have a "what does the government spend money on" guide. 

3. The picture is this: 

4. and the (round) numbers are this. 

5. Total spending 22-23 is £1,200bn.  We have (again in round numbers)

   a. NHS spending: 200bn = 20% of total

b. Education: 100bn = 10%

c. Defence 50bn = 5% 

d. Public order = 40bn, 4%

e. Transport 40bn = 4%

f. net debt interest 100bn, = 10%.

6. Total GDP in 22-23 was 2.6tr. So 1% of GDP is 26bn, 0.1% of GDP is 2.6bn (a basis point of GDP is 260m).  If we currently spend 2.3% of GDP on defence and want to increase that to 2.5% of GDP, that is a rise of 0.2 pp of GDP whiich is about 5bn.  That's about 12% of transport or public order, or 5% of Education. 

Do monetary incentives crowd out pro-social behaviour

 1. This has always struck me as a potentially important critique of standard economic assumptions.  The ever brilliant Chris Dillow notes this is a problem with using market mechanisms.  As he says

   

This problem is exacerbated by another: motivation crowding out. Who is likely to be the better probation officer: the one drawn to the profession by a desire to rehabilitate offenders; or one who will earn a little more for hitting a contractual target? Who is likely to better look after vulnerable children: someone attracted to work in childrens' homes by a love of children; or one working for a profit-maximizing private equity firm? If the cash nexus comes to dominate, other motives such as professional pride recede not just because people change but because those with strong professional ethics simply leave the job.

2. The paper he links to is Bowles  and Reyes.  They nicely use a Lucas critique argument

"Here we extend the logic of the Lucas Critique to questions of framing, motivations, and social norms, in short, to preferences. To do this we modify the standard public economics and mechanism design assumption that taxes, subsidies, and other explicit incentives affect behavior only indirectly, that is by altering the economic costs and benefits of the targeted activities. In this conventional approach explicit incentives thus do not appear directly in the citizen's utility function and as a result, the behavioral effects of explicit economic incentives and social preferences are separable, the effects of each being independent of the levels of the other. We modify the citizen’s utility function so that this separability property need not hold and as a result the two kinds of motivations may be either complements -- social preferences being heightened by incentives appealing to self-interest -- or substitutes, when explicit incentives are said to crowd out social preferences." 

As they say there may be other reasons 

 Incentives may have counter-intuitive and counter productive effects for reasons other than non-separability (Seabright (2009)).

 

Strong monetary incentives, for example, may overmotivate an agent leading to greater than the optimal level of arousal posited by the so called Yerkes-Dodson law. This appears to be the mechanism underlying the negative effects of high incentives found in three experiments by Ariely, et al. (2005).

 

Similarly, if agents have an income target, monetary incentives may allow target attainment with less effort. Camerer, et al. (1997) suggest that this may explain why New York City taxi drivers work fewer hours when they are making more per hour. 

and they add the possiblity that just setting a target might signal how hard the achievement is:

 

the target may also infer information about the person who designed the incentive, about his or her beliefs concerning the target, and the nature of the task to be done (Benabou and Tirole (2003), Fehr and Rockenbach (2003)).

3. Dillow's earlier blog post on Ronnie O'Sullivan is a fantastic summary.  

 

Bank of England Monetary Policy Report, February 2025

 Is very downbeat.  My notes are here.

Intangibles and Industry Concentration

 Very pleased to see this article.  Why has industry concentration risen? Because of intangibles....

Intangibles and Industry Concentration: A Cross‐Country Analysis

 Matej Bajgar, Chiara Criscuolo, Jonathan Timmis

"This paper presents new evidence on the growing scale of large businesses in the United States, Japan and 11 European countries. Itdocuments a broad increase in industry concentration across the majority of countries and sectors over the period 2002–2017. Therising concentration is strongly linked to investment in intangibles—particularly innovative assets; and software and data—andthis relationship is magnified in more globalised industries. The results are consistent with intangibles disproportionately bene-fiting large firms, enabling them to scale up and increase their market shares by leveraging intangibles across multiple markets." 

Here's the key chart

UK Intangible investment: ONS data

 1. The ONS has estimates of UK intangible investment 97-02 : Investment in intangible assets in the UK: 2022 with data here: 

Investment in intangible assets in the UK. 

2. if we start by industry we have: 

Showing that these data are for what I call for short-hand the "business" sector, i.e. excluding L, real estate and O/P/Q, public admin, defence, health, educatoin.  

3. to get a sense of scale, what is GVA for these sectors? the ONS Blue Book, 2024, industry analysis, has this graph

with the underlying data here.  This gives totdal GVA= 2.265tr, Govt = 0.433tr, Real estate = 0.292tr => business sector = 1.539tr  = 68% of total GVA (govt = 20%, real estate 13%).  

4. Returning to intangibles we have in 2022: tangible investment  = 167.3£m, intangible 199.7bn, of which £77bn is capitalised and £122 is not.  That gives 5% capitalised intangible/GVA and 12% total/(GVA+uncapitalised). 

5. the industry intangible intensities are below.  ICT, Manufacturing, finance and the arts are intangible intensive.

6. Finally, in comparing with tangibles we have intangibles higher than tangibles

with the 2022 figures being 199/(1539+122) = 12% and 167/(1539 +122)=9%.  (or for capitalised, 77/1539 = 5% and 167/1539 =  11%). 

Building new infrastructure: getting a sense of scale

 The Chancellor is going it seems to announce backing for new infrastructure today.  For example, a new runway at Heathrow might cost £14bn (see Tim Leunig's excellent substack: https://timleunig.substack.com/p/how-to-fund-heathrows-expansion) .  Is that a lot or a little?

1. the official ONS capital stock data are here: Dataset Capital stocks and fixed capital consumption  and the publication using the data is here: Capital stocks and fixed capital consumption, UK:

2. Here are the data for 2023

Note to table: Some definitions are: “Other buildings consist of all buildings that are not dwellings and include commercial buildings, industrial buildings, and buildings used to provide public services (for example, schools and hospitals). Other structures include those that are not buildings; for example, transport (roads, railways, runways, ports), energy and communications infrastructure.” (https://www.ons.gov.uk/economy/nationalaccounts/uksectoraccounts/articles/improvingestimatesoflandunderlyingotherbuildingsandstructuresinthenationalbalancesheetuk/2022). 

3. As the table shows

    a. around 75% of the captial stock are buildings of various types.  

b. the total value of the UK capital is 10,751 billion.  If a third runway, which is a huge project, costs £14bn, that's an increase of 0.13% of our nation's capital stock.