QE, QT and interest on reserves

 The Bank of England governor has written a very good letter after a reform MP suggested not paying interest on reserves. My thoughts.

1. Paying interest on reserves

a. reserves are accounts held by banks at the Central Bank (CB).  They are an immediate source of liquidity.  they have two purposes

    i. Monetary policy. the CB pays Bank Rate on those reserves overnight.  So they are the base of the pyramid of more long-term interest rates.  As the govneor says 

"Over time, we have been able to demonstrate that this approach reduces interest rate volatility at the short-end of the interest rate curve, and thus improves the efficiency of implementation of monetary policy, with real benefits for the economy as a whole."

    ii. Financial stability.  They are "what are called High Quality Liquid Assets (HQLA). Assets such as gilts and other high-quality debt also qualify as HQLA".  So if a Bank needs cash, it can sell these assets immediately.  Remember: banks lend long and borrow short from depositors.  So they are always potentially needing short term cash if their depositors suddenly want their money.

b. What is the optimal level of reserves? The CB could hold very few, like pre-07.  But that was unstable, so for financial stability reasons, better to have large.  But it's a free country

It follows that the overall level of reserves is driven by our financial stability objective rather than the monetary policy objective. However, it also follows that, as the overall regulatory requirement for banks is set in terms of high-quality liquid assets that can be readily converted into cash if needed, there is no requirement specifically on reserves. So, in steady state banks have choices over the amount of reserves they wish to hold.

c. Thus: what determines the demand for reserves? Or, how can the CB get banks to hold reserves?  Two answers, 

    i. by paying interest. 

    ii. by mandating resserve levels.  But this in effect freezes money so bad for lending.  

d. So the Bank has to pay interest.  And in a competitive banking sector, that interest is passed onto depositors: or, depositors give commercial banks their money after which commerical banks have to decide what to do with it, one of which would be giving it to CBs.  So not paying interest is like a tax on banks which is likely ultimately a tax on depositors.  Fine, but that's a fiscal policy decision.

e. What about QE and QT? This is when the Bank holds more reserves than necessary for the above arrangements.  In the absnce of that, the costs/benefits are neutral.  Why is that?  The Bank pays interest on reserves.  But the Bank owns bonds and so gets interest in.  As Jochn Cochrane says, see link below,  usually long term debt pays more than short term debt, so this works out. 

(f. note a good Blog by John Cochrane on paying reserve interest: a few points he makes

"One reason given is that it would save the government money... In addition, interest on reserves is paid to a lot of foreign banks, and sending foreigners money so they can buy American goods is somehow out of fashion.

One answer: If you think that is a good and reasonable idea, here is a better one: stop paying interest on all Treasury debt. Reserves are just another form of government debt, so why stop there? That will generate $1 trillion per year, not in 10 years or so. And lots of foreigners hold Treasury debt too."

 

2. QE and QT

As the letter says: 

"QE involves a different state of the world, where the central bank buys financial assets, thereby increasing the prices of these assets and reducing their yield. It thus has the effect of flattening the yield curve benefitting those who borrow at long maturities." 

Let's unpack this.  If you look at the vote that the MPC votes on it is the purchase of government bonds (gilts) by the issuance of CB reserves.  That is, it is using reserves which pay a Bank Rate to buy gilts. This is swopping short dated financial assets for longer dated ones. 

As the letter then says

"You have challenged the Bank’s approach to QT and whether it represents value for money. There are two main ways to look at value for money here, and it is important to keep them distinct. One – which fits the Bank’s statutory objectives – is to look at the economic costs and benefits and how they fit the Bank’s two objectives. The other is to look at the cost in terms of cash flow and the public finances, which is outside the Bank’s objectives but something that I recognise is important" 

Then, righly it adds 

" The first test is important but challenging. It requires a full set of alternative economic scenarios going back to 2009 when QE started and modelling what would have been the state of the economy in the absence of QE and QT. We have experienced major economic shocks during this period – the aftermath of the financial crisis, Covid, Ukraine. It is easy to forget the severe problems we faced with these shocks. Although the counterfactual is unknowable with any precision, most estimates indicate that QE provided very significant support to the UK economy, protecting both jobs and tax revenues.

 

"Your focus though is on the second test. Here, it is important to consider cash flows, as you indicate, and moreover the impact on the overall public cash position. While QE was being used as an active policy tool, and interest rates remained low, the cash flow was positive, totalling £124bn that was transferred from the Bank to the Exchequer between 2013 and 2022. Once interest rates increased, the cash flow started to reverse, something the Bank had said since the start would happen. Today the net positive cash flow stands at £34bn, but we expect it to go negative over the remaining lifetime of the policies on this basis of calculation."

Remember too that timing is unimportant, which is why stable and predictable is key

" An important point to bear in mind here is that we ought to expect that the cash flow will over time be the same regardless of whether we sell the assets or hold them to maturity. This is because the price discount on an active sale is simply equal to the present discounted value of the carry cost that would be incurred were the assets held to maturity. The timing of the cashflows, but not their overall size, is affected by whether or not there are active sales. By avoiding disrupting markets, our gradual and predictable approach to QT supports this."

That's the essence of the argument, but it continues with a detail concerning the cash flow, even though this isn't part of the Bank's objectives.

"But this is not the end of the story, though it is the end in most of the accounts of the cash flows expected. An important missing element is that successive UK Governments have issued more long-term debt (gilts) than those of other major economies. The average term of outstanding UK Government debt is around 14 years, compared to around 6-7 years in, for instance, the US, Germany and Canada. The Bank’s policy throughout QE was to buy equal amounts across the maturity distribution of gilts, to ensure that our operations were neutral for the gilt market. This means that the Bank now owns more long-term gilts, something that helps to explain why we are conducting more active sales (as we have a slower path for natural maturities). A consequence is that, with an upward sloping yield curve, we do have larger discounts (and would otherwise have larger carry costs) on our long-dated gilts. This has led some commentators to suggest that the Bank’s QT programme is more expensive than those of other countries

 What does this mean? The Bank bought lots of long dated gilts.  So, the Bank has a stock of lots of low coupon paying long dated gilts, which can only be sold to the market, now that the yield curve has risen, for a very low price i.e. at a losss.  So it looks like the QT programme is "expensive" since there are lots of capital losses.

But there is a counter-argument.  

"Because it issued much more long-term debt than other countries when interest rates were low and QE had flattened the yield curve, the UK gets a longer lasting benefit in the form of lower debt costs.

I must emphasise again that these cash flows are not a part of our objectives, but I recognise that we must, and do, have regard to value for money."

 

Foreign Trade, tariffs, Dollar dominance and some helpful national income identities

 The brilliant Maurice Obstfeld has a very good explainer on  The U.S. Trade Deficit: Myths and Realities, Brookings Conference, March 2025.  Here's some useful national income identities

1. in nominal terms

NX=Y-(C+I+G)

where Y is nominal GDP.  This says NX = total output -(domestic absorption)

Implications 

a. NX might "due" to C that's "too high". but it might be due to I that's "too high" i.e. lots of promising investment projects. 

2. Now, define national income NOT as GDP but as GDP plus "net income from the net internatioal investment position".  Define as well national saving as national income (NOT GDP), less consumption.   Thus National income  = Savings S minus I =

Y+(RA-1)A-(RL-1)L 

where A denotes gross claims on foreigners (including banking claims, debt and equity securities, and direct investments) offering a gross interest and dividend yield (that is, not including capital gains) of  𝑅𝑅𝐴𝐴 and L gross liabilities to foreigners offering the yield 𝑅𝑅𝐿𝐿 to nonresident holders. 

Then the current account is 

CA balance=NX +(RA-1)A-(RL-1)L =S-I

3.  Now, let's drill into those returns.  National accounts does not include capital gains on assets as productive activity.  Thus the returns above are excluding capital gains.  Define then  total gross returns 𝑅𝑅~𝐴𝐴 ≡ 𝑅𝑅𝐴𝐴 + 𝐶𝐶𝐺𝐺𝐴𝐴 and 𝑅𝑅~𝐿𝐿 ≡ 𝑅𝑅𝐿𝐿 +𝐶𝐶𝐺𝐺𝐿𝐿.

Then we have 

 Then equation (2) implies that the level of net external assets A − 𝐿, also referred to as the net international investment position (NIIP), follows the process 𝐶 

A𝑡+1 −𝐿t+1 = 𝑁𝑋𝑡 +𝑅A~𝑡𝐴𝑡 −𝑅L�𝑡 𝐿𝑡.

which can be written 

4. what about "exorbitant privilege"? This is when a country can pay less out on its external liabilities i.e. what it owes to the world, than it earns on its external assets i.e. what it earns from the world which is R~L<R~A.  So the last term is positive which means that even with an unchanging A-L, the net exports can be negative. 

From that we have

1. An exchange rate depreciation that lowers M (imports) has to have something else change. It might be that X simply falls too (this is the Lerner point in a non-monetary economy, with M less to try to encorage more Y, then  X has to fall to get resources into domestic output Y). in a monetary economy, tariff means expansion of domestic demand, but interest rates rise, raising the ER until Y back to its former level.

2. The China "shock" was a shock rise in China imports. But since other countries could switch to China it was also a fall in US exports.

3. It is argued "that the U.S. dollar is the world’s overwhelmingly dominant reserve, invoicing, vehicle, anchor, and funding currency....One [theory] asserts that countries can gain the dollar reserves they wish to hold only by running external surpluses with the United States. In turn, as the world economy grows, growing reserve demand obliges the United States to run persistent deficits. A second class of theories focuses on asset-price effects that contribute to U.S. deficits. One of these contends that global dollar demand causes a chronically overvalued dollar. A related claim is that the dollar’s status allows the United States to borrow more cheaply abroad, creating a structural deficit."

Obstfeld says: The idea that the global demand for dollar assets can be satisfied only through U.S. current account deficits is widespread but wrong. The world could alternatively acquire those dollar assets in exchange for other assets rather than goods and services.  

Further "Stephen Miran has set out a “blueprint for restructuring the global trading system” built on a central premise that the dollar’s status will inevitably lead to growing and ultimately unsustainable current account and trade deficits. He calls this a “Triffin dilemma”".

It turns out that US reserves as a share of USGDP are falling not rising. 

Also, says Obsfelt " Moreover, the dollar’s global role – which confers aggregate gains on the United States – derives not only from preferences and needs that foreigners impose on a passive America, but from institutions of U.S. origin (such as a consistent rule of law, independent monetary policy, and deep, open financial markets) that also underpin American prosperity.  "

Even more chain drift

 I hadn't realised until now that the Johnson review has a nice box on Chain drift.

Here's the idea. 

1. Suppose the item 1 is detergent

2. "The price of item 1 halves between periods 1 and 2, causing a big jump in sales. The product returns to its original price in period 3 and sales go back to original share"

3. Good 2 remains same price

4. "Most people would agree that the price index in period 1 should be the same as period 4; after all, the price and quantity sold of both products is the same."

5. And the Laspeyes index delivers that.

6. here's teh problem. the chained index is "calculates overall price change between each pair of periods in sequence and then multiplies them together. So the chained price index in period 4 is obtained by multiplying the price changes in periods 1-2, 2-3 and 3-4 together. 

7. As you can see, the chained index does NOT return to its original value. 

    a. in the chained Laspeyres index, chain drift arises because the product 1 price fall between periods 1 and 2 has low weight (only 10 of product 1 were bought), while the increase to period 3 has high weight (5,000 products). 

b. In the chained Törnqvist index, the average expenditure share (which is what matters in the Törnqvist) is larger in periods 1 and 2 when the price is falling, than when the price recovers between periods 2 and 3. 

Here's some working: this is a problem for scanner data.

Some maths of public spending and labour costs

 From the IFS and my interpretation: 

"Staff costs account for almost half of departmental day-to-day spending.."

"At this Spending Review, departments’ day-to-day budgets are set to grow by an average of 1.2% per year in real terms between 2025–26 and 2028–29."

Assume then that non-wage costs are rising evenly, then 1.2/2=0.6%pa is "available" for real wage rises. 

"The OBR’s March 2025 forecast suggests that total employment is set to grow by an average of 0.6% each year over the same period: one scenario would be for public sector employment to grow in line with this average..."

Thus real wages can grow at 1.2/2 -0.6= 0. 

"This would keep real-terms pay roughly constant (..if inflation is 2.0% per year) ). But these pay awards would be below the OBR’s forecast for average annual economy-wide earnings growth over this period (2.2% in cash terms) and below the pay awards recently announced for 2025–26 (which were around 4% on average). "  

Slow productivity growth: lessons from the past

 I am late to this, but this article by the brilliant economic historian Joel Mokyr is fantastic. "(2018), ‘The Past and Future of Innovation: Some Lessons from Economic History’, Explorations in Economic History, 69, 13–26". https://doi.org/10.1016/j.eeh.2018.03.003 

My notes.

1. What are the lessons from economic history to understand current slow growth?
2. It might be that slow TFP growth is the wrong metric for economic transformation.  "To put it differently, students of contemporary technological progress should wean themselves of TFP-fetishism; aggregate measures such as GDP (the basis for TFP calculations) were designed for a wheat-and-steel economy, not for an information and mass-customization economy in which the service economy accounts for 70–80% of value added." 
3. Three reasons why economic growth was so slow before the industrial revolution
1. Malthusian dynamics
2. Smithian pre-1750 economic growth: "growth based on gains from trade and factor mobility, better-functioning and more integrated markets, and improved allocations due to better institutions. Most of the rise of richer regions and towns in medieval and early modern Europe can be attributed to the widening of local trade and the opening of long-distance commerce.  This was vulnerable to rent-seeking: taxes, confiscation, debt reneging"
3. The third factor that explains slow economic growth before the Industrial Revolution is the most obvious and the least discussed one, namely the simple but undeniable fact that people did not know enough about the physical world around them. 
4. Mokyr discusses more of this in the rest of the paper
1. But as I have noted elsewhere, the pre-Industrial Revolution world was limited in its ability to exploit technological advances because even though the pre-1750 world produced, and often produced well. Inventions in the pre-1700 era, however, were normally the result of serendipitous strokes of luck, flashes of brilliant intuition learning by doing, and the slow accumulation of incremental improvements of techniques in use. It was “a world of engineering without mechanics, iron-making without metallurgy, farming without soil science, mining without geology, water-power without hydraulics, dye-making without organic chemistry, and medical practice without microbiology and immunology "
2. of course, not all breakthroughs needed science. Stephenson invented the Rocket with no science training.  So scicence and tinkering were complements. 
3. The breakthrough was 
1. Scientific understanding 
2. measurement
5. what about the incentives to do science?  Essentially it needs a check on rent-seeking
1. "Mercantilism, as Ekelund and Tollison (1981) have pointed out, was a system of rent-seeking, in which resources were redistributed from some groups to others. Mercantilism came under attack from Enlightenment philosophers, and after 1815 it went into a tailspin, replaced by liberalism and a political economy that regarded free trade, open access markets, and a professional and honest civil service as desirable and just."
2. with trade mobiliy and openness "much faster than in the seventeenth century, in the twenty-first century if an idea is generated somewhere , it becomes available everywhere."
6. Measurement. 
1. "If the variety of products and services is introduced on top of the quality improvement, it seems intuitively plausible that mismeasurement has worsened in the past two decades.
2. It also seems likely that the twenty-first century productivity slow-down described by Gordon is temporary, until new Gen- eral Purpose Technologies such artificial intelligence (AI) and genetic editing have fully been incorporated into production lines
3. Moreover, the productivity gains from technological progress in the past two centuries may have been overstated because of inputs that were used and never paid for, in large part because there were no property rights and markets for those inputs. Of those, the physical environment was clearly by far the largest.
4. In many areas, technological progress should thus be seen as a constantly self-correcting process, in which new techniques have unforeseen negative consequences, which require further tweaking, but those fixes in turn will cause more bite-back effects and so on. What negative bite-back effects mean is that the true social costs of many innovations have been understated and the bill for some inputs will be paid by a future generation. If output is generated at time t while the inputs are paid for in t + 1, any comparison of TFP between t and t + 1 will be confounded. TFP growth in the past has been overstated and so its decline may be exaggerated as well, although it is not known by how much. Some portion of innovative effort in the coming decades, rather than aimed at directly raising living standards, may be directed toward maintaining what we already have and correcting the eventual costs incurred as belated bite-back effects kick in."
5. Here is a good example "Such innovations will contribute to economic output and will thus contribute to measured economic growth. But they may not show up necessarily as TFP growth. To see this, consider the following: suppose we have a fossil-burning power plant that produces electricity at, say, 15 ¢per KwH (which is about the US average). Now suppose that we scrap that plant for environmental reasons and replace it with a windmill farm that, with fixed capital amortized in the same way as the fossil plan, can produce electricity at 15.5 ¢per KwH. Using standard calculations (and relying on the dual of TFP computation), this would imply a decline in TFP as conventionally measured of about 3%. But if the windfarm has zero impact on global temperatures, it will have saved on a social cost that is not counted in the standard national accounts."
7. The impact of computers on science has gone much beyond large-scale calculations and standard statistical analysis: a new era of data-science has arrived, in which models are replaced by powerful mega-data-crunching machines, that detect patterns that human minds could not have dreamed up and cannot fathom. Such deep learning models engage in data-mining using artificial neural networks. "
8. 
   

US and UK TFP since the pandemic

 The BLS has just published an update on US labour and TFP growth.  Heres a graph of  private non-farm business. Red is TFP growth, dark blue is the contribution of capital intensity, light blue is contribution of labour composition.  Note the tremendous growth in TFP, red in the last two years.  

Lets zoom into the years since 2019: 

To get the same as possible data for the UK, I used data on UK market sector value added per hour, and market sector volume of capital services.  There is no recent labour composition that i could find. The UK labour share is about 0.59.  The UK picture since 2019 is below:

What do we see?

1. in the depths of the pandemic, 2020, both countries had high labour productivity (LP) growth, but with negative TFP in the US.

2. even in 2022, both countries had negative LP and TFP growth 

3. but it is amazing that US TFP growth in 2023 and 2024 has surged.  UK TFP and LP growth is tiny or negative over those years. 

Tariffs and the UK economy

 1. There are lots of conflicting effects of tariffs on UK inflation and activity.  They are set out by Megan Greene in a very interesting recent speech.  They can nicely be summarised in two cases.

2. Case A. Unilateral tariffs. 

a.      For a given exchange rate (ER).

    i. US demand for UK exports falls. UK activity/inflation fall. 

    ii.  but, offset by foreign producers who divert cheap goods to UK.  Inflation falls. Raises real incomes, but bad for UK firms, so activity effect not clear.

b.     But the ER might change. 

                                                              i.      U US $ should appreciate, so £ depreciates relatively.  this helps UK imports to raise. good for activity.

                                                            ii.      but falling £ raises UK import prices so raises inflation. 

3. Case B.  Responses to tariffs 

    a. more tariffs everywhere raise prices.  inflation rises

b.  but more tariffs lowers demand, so inflation falls. 

c. lower demand everywhere likely has $ depreciate.  Stronger £ means lower inflation.

4. The ECB-G model gives the outcome. 

    a. output and inflation rise initially.  This is because the ECB model has a fast-moving ER channel that dominates, so £ depreciates and there is trade diversion.  Thus import prices rise and so inflation rises.  There is also trade diversion, which lowers inflation and monetary policy reacts.

Now, the 

5. now consider the case of a response.  here all countries respond, activity falls and the US $ likely falls. 

Now we get the opposite effect

with falling output and inflation. 

6. what might happen to adjust these scenarios?  Megan considers: 

a. supply chain disruptions might lower feasible supply, pushing up on inflation

b. a flight to safety might make the $ appreciate.  This is important in the ECB model which she says is dominated by the exchange rate

c. monetary policy is endogenous and passes quickly through to inflation and output.

To summarise, my understanding of this is that it looks like:

a. the SR effects in this model are driven by ERs and a bit of trade diversion.  The longer term effects by monetary policy. 

b. in both cases, trade diversion lowers inflation and is uneven for activity.  Weaker demand lowers both.  

c. But with unilateral, $ appreciates and retailation, $ depreciates.  

There is a nice table summarising

with the ER movement row the crucial one. 

My comment would be

1. the longer run effects of supply are neutral in most models

2. the effects on goods import prices work thru most models quickly but take a time to play out. 

3. the Bank is limited in what it can do on lowering rates since core inflation is high.  If that remains high, then high goods inflation will cause the inflation target to be overshot even more.  Low goods inflation will hide this underlying service sector problem.  That low goods inflation seems likely to be fed by trade diversion.  

4. Broadly, so far this year the $ has got weaker and the £ stronger.  This bears down on UK inflation. 

How to reduce inequality: ban the National Lottery and Nobel Prizes

 The excellent and insightful Nick Oulton (https://www.lse.ac.uk/CFM/assets/pdf/CFM-Discussion-Papers-2022/CFMDP2022-05-Paper.pdf), link  has a very interesting thought.

1. People often don't want inequality. 

2. But an aversion to inequality likely comes with some moral attitudes.  One example is whether the inequality is deserved or not.  As he says if we didn't care about "deservedness"...

then social welfare would be raised by abolishing two institutions (among others): the national lotteries run in many countries and the Nobel prizes. Both increase inequality unambiguously. Indeed, Nobel prizes must be the most unequally distributed of all forms of income: only a dozen or so individuals receive one each year out of a world population of some 8 billion.

 

Nobel prizes could be justified on Rawlsian grounds: monetary incentives are needed to induce the effort required to make discoveries that benefit everyone, including the worst off. But suppose that it could be conclusively shown that the monetary rewards are not necessary, and that the prize winners (and their less-successful colleagues) would have expended the same effort in exchange for just the honour and glory alone? I suspect that most people would still be quite happy to see the winners receive a monetary reward, even if it was not economically required. This is because they are perceived to deserve it.

 

With national lotteries, a different form of desert comes into play. In the UK version, some winners receive £20 million or more, and, in one sense, no-one is worth this amount. But anyone can buy a lottery ticket and, as long as the lottery process is perceived as fair (not rigged), most people are quite happy with the outcome.

What is a log point? 100*ln(new/old).

 Nerdy. Often when doing growth in Economics, we use change in natural logs.  For a change to y from x, the log point change = 100*ln(y/x).   So a change of 1 in the natural logs, which we often call "1%" is 100 log points.  

If a dataseries rises from 100 to 100.5, then: 

a. the % change is 0.5%

b. the change in the natural log is 0.0049875

c. the change in log points is 0.49875

If a dataseries rises from 100 to 101, then: 

a. the % change is 1%

b. the change in the natural log is 0.00995

c. the change in log points is 0.995

A basis point is defined as: 1bp is 0.0001 = 1/100th of 1%.  Or 100bps are 0.01 = 1%.  One might be tempted to say 0.995 log points are 99.5 basis points, but that's not often done.

Planning again

 The brilliant Sam Dumitriu,  points us to the lunacy that is the Bristol and Portishead rail link.  from a brilliant piece by Ben Hopkinson. 

The project would reopen 3 miles of line closed by Beeching.  So lots of material is already there.  Note only 3 miles of line.  

He writes:

"The joint local transport plan reserved £1m to study the project in the late 2000s, and Network rail announced a feasibility study on re-opening the line in 2009. 

Public consultation took place in 2015, and Chris Grayling, then Transport Secretary, announced £31m of funding for the line in April 2019 (when the line was meant to open by 2021).

With this funding confirmed, the North Somerset Council began work on its planning application.

In total, the application and all the associated documents come out to 79,187 pages. 

1. If you printed that out, end to end, there’s 14.6 miles of paperwork, more than 4 ½ times the length of the line that is to be reinstated.
2. Within those nearly 80,000 pages, there are 17,912 devoted to the environmental statement. That’s 3.3 miles of paper trying to determine if rail transport is good for the environment. 
3. There’s 1,174 pages devoted to bat technical appendices, 215 to newts, and 1,810 to vegetation management.
4. It then took three years for the transport secretary to approve the planning application. This is all to replace the existing, derelict tracks with new rails and add two stations in communities that are desperate to have a rail link. "

This is what I could find on this: here. 

Here are some highlights , on a quick search

2.59 - Great Crested Newt Indicative Pond Design   (PDF, 860KB)

6.25 - ES Volume 4 - Appendix 9.4 and 9.5 - Great Crested Newt Survey Report and Reptiles   (PDF, 5MB)

6.25 - ES Volume 4 - Appendix 9.7 Dormice, 9.8 Otters and 9.9 Water Voles   (PDF, 12MB)

6.25 - ES Volume 4 - Appendix 9.2 - Bat Technical Appendix   (PDF, 19MB)

6.25 - ES Volume 4 - Appendix 9.6 - Badger Survey CONFIDENTIAL   (PDF, 72KB)

From the Bat technical appendix:

I have emboldened some of the findings.  

1. Notice there are no bats living on the line,  but they might want to live in nearby trees.  

2. Notice in particular that bats might want to travel on the line.   So it's bats above people.

Bat activity surveys recorded 13 species on the disused railway line with notable species being lesser and greater horseshoe bats (Rhinolophus hipposideros and R. ferrumequinum). The disused railway line is a prominent feature within the landscape between Portishead and Pill and provides a link between semi-natural habitats and foraging areas for bats. The study confirms that it provides an important corridor for movement by bats and a radio-tracking study of one male and one female greater horseshoe bat to Brockley Hall Stables Site of Special Scientific Interest (“SSSI”) identified use of the railway line by the North Somerset and Mendip Bats SAC bat population. Statistical analysis of greater horseshoe bat activity shows that activity was highest at the western end of the disused railway line in the Portbury Wharf area and activity peaked in June. The disused railway line is an integral part of a permeable landscape for lesser and greater horseshoe bats and provides a corridor for movement west of the Avon Gorge Woodlands SAC that is evaluated as being Regionally important.

There are no large communal roosts on the disused railway line, but three day roosts of low conservation importance for local bat populations were confirmed because low numbers of common and soprano pipistrelle bats (Pipistrellus pipistrellus and P. pygmaeus) roost in bridge structures. There are no confirmed tree roosts on the disused railway line, but evaluation of the tree roost resource identified four trees of high bat roost potential and seven trees with moderate bat roost potential. 6. Four tunnels on the Portbury Freight Line, three of which are within the Avon Gorge Woodlands SAC, have been assessed for summer, autumn and winter roost activity. Three of the tunnels have been confirmed as being used by low numbers of bats as summer day roosts and for winter hibernation, with lesser horseshoe, common pipistrelle, serotine (Eptesicus serotinus), Daubenton’s (Myotis daubentonii), brown long-eared (Plecotus auritus) and (probable) natterer’s (Myotis nattereri) recorded. Although not confirmed roosting, barbastelle bat (Barbastella barbastellus) was regularly recorded in one tunnel (Sandstone) during winter 2018, which indicates possible hibernation in, or close to the tunnel. The tunnels are not considered to be important swarming sites, but surveys in autumn recorded social activity and bats appear to use the shelter of the tunnels whilst socialising. Clifton tunnel no. 2 and Sandstone tunnel are the most important roost sites and are assessed as being local (district) value. There are also small lesser horseshoe bat roosts at Pill Station on the Portbury Freight Line that have been evaluated as local value

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