Industrial Revolution in Britain: it was thanks to human capital

Despite the fact that it happened about 200 years ago, we are still puzzling why the Industrial Revolution happened, why it started in Britain and it happened at that moment. A sample of previous work relevant to this has been discussed on this blog: 1, 2, 3, 4. While all this is old history, it is still kind of relevant, as we are also trying to understand how to get the least developed economies to get through a similar revolution. The circumstances are different, but lessons from two centuries ago may be useful.

Morgan Kelly, Cormac Ó Gráda and Joel Mokyr add another piece to the puzzle. British men were significantly better fed and taller than their continental counterparts. They likely had better cognitive skills, too, as we know today that they correlate positively with physical health. And, the distribution of these positive traits was such that a significant share of the population had the right characteristics to participate in the Industrial Revolution. That was not the case elsewhere. Thus, good human capital and a good distribution of it are necessary for the Industrial Revolution, but likely not sufficient.

Procrastination is a strong predictor of academic performance

I believe that perseverance and timeliness are the secret to success, and foremost so in school. And I believe these are the qualities that brought me to where I am now, and I hope these qualities have also transpired on this blog. But ,y belief may not be general wisdom or even scientifically established. Thus, I am happy to report on a study that confirms at least part of my credo.

Marco Novarese and Viviana Di Giovinazzo use data on how promptly astudents have enrolled for university to forecast their future academic performance, and the forecast is quite good. Of course, promptness likely correlates with plenty of other positive student characteristics the authors cannot measure. And of course, the result is not too surprising. But I feel comforted in my belief and my bias in selecting studies that confirm my prejudices is thus reinforced.

Give girls a bicycle

It is well known that girls from developing countries face hurdles in their schooling experience. This goes from subtle issues during their periods, curricula geared towards boys, and household work to plain denial of access to schools. While some of this has to do with cultural issues that are difficult to overcome with (economic) policy, some help could be surprisingly easy. It happened before in public health, my favorite example being telling kids to wear shoes eradicated hookworm from many parts of the world.

Karthik Muralidharan and Nishith Prakash have a recommendation, and that is to give girls a bicycle. They base this on an experiment they ran in India, where girls were offered a bicycle if they continued into secondary education. This helped overcome traditions that would not let girls out of the village and increased enrollments by 30% and closed the boy-girl gap by 40%. The authors also claim this is more cost-effective that the traditional cash transfers because bicycles have positive externalities, such as the safety of girls during commutes and more generally empowering them. As with any such experiment, one can question whether the result can be generalized, but it is interesting nonetheless.

PS: As several readers noted by email (but could have commented), this is not a randomized experiment. Rather, the authors used an initiative conducted by the government of Bihar. I apologize for the confusion.

Why Keynes dominates Hayek

I generally find debates about schools of economic thought annoying, especially when it is all about adoration of some dead economist while ignoring all the progress we have made since his contributions. Unfortunately, these dead economists keep coming up in the public debate, I think because these are the people non-economists are familiar with, from basic economics classes and popular readings.

Kristina Spanting studies the back-and-forth in popularity between Keynes and Hayek in light of the past 80 years or so of economic history. Keynes was all about shorter term solutions to crises, while Hayek had a longer term vision of things, and would not bulge from it no matter what the circumstances. Accordingly, their popularity in policy circles has oscillated depending on the need to react to a crisis. Keynes is an easy sell to politicians in such times. The electorate is asking them to do something, and Keynes provides the justification for that. And all the work economists have done since Keynes (and Hayek) is brushed aside just when you should draw the most on it. Sad.

The brain drain from financial liberalization

The financial sector is not riding high in popularity polls lately. First, compensation is deemed excessive. Second, the general public often does not perceive the benefits of a financial industry. The most common error there is the idea that finance plays a zero-sum game: anything it gains is necessarily taken away from others. Finance allows a better reallocation of resources and funds to the most productive businesses, and this raises overall productivity. But as it is well rewarded for this, it seems to be attracting perhaps an excessive number of top talents who could, at the margin, be more productive in other sectors. This brings us to a third issue: the financial sector is hiring away the best people from other sectors.

Christiane Kneer studies this inter-sectoral brain drain by looking at the consequences of financial deregulation on sectoral productivity. The assumption here is that financial deregulation attracts top talent to the financial industry because it allows the design and management of new and complex financial instruments. She finds that industries that rely the most on human capital are hurt: after an episode of financial liberalization, they have lower labor productivity, lower value added growth and lower total factor productivity. This is what happens when, for example, a software engineer moves to finance to exploit arbitrage in trade by gaining micro-second advantages over competitors. The social benefit of this arbitrage is close to zero, and some industry lost a great software engineer.

Marginal tax rates in Sweden

Whenever high marginal tax rates are discussed, the example of Sweden is brought forward. And typically the episode where they where close to 100% on labor income. But this has not always been so high, and it is certainly not the case now. What is the history of tax rates in Sweden?

Gunnar Du Rietz, Dan Johansson and Mikael Stenkula look back at 150 years and reconstruct marginal tax wedges for top and average earners. Tax wedges are different from tax rates in that they also incorporate other contributions, such as for social security and payroll taxes. I learned from this study that Sweden was in fact a very low tax country at the start of the 20th century, but this all changed with WWII, a succession of crises and the push for the welfare state that culminated in the 1960s. This change of attitude towards taxation and redistribution was relatively quick, and may have lead to excesses that have been built down since the 1990's. The paper also has a very detailed description of the tax system in Sweden over this period.

There should be more female mayors

It is well known, and I have documented it before, that women behave differently from men in politics, in particular when it comes to policy priorities. While the various examples I have discussed before are interesting, it is difficult to ascertain that they generalize. Indeed, politics is fraught with social and local norms. We need more studies.

Fernanda Brollo and Ugo Troiano look at municipal elections in Brazil and concentrate on those where the mayoral seat was hotly contested between a male and a female candidate. One can thus consider that the electorate was essentially similar whether the female or the male won. The outcomes are damning for men. Whenever a woman became the mayor, health outcomes are better, corruption is lower, and the municipality gets more federal funding. To illustrate how men are politicizing relatively more, Brollo and Troiano find that male mayors up for reelection will hire many more temporary workers, a clear sign of electoral patronage.

Why invest in cows if their return is negative?

In some developing economies, cattle are used as store of value. This is because there is no other good asset available as financial markets are not developed. Cattle has its drawbacks though, as it can die from disease or hunger, usually at the worst moment, can walk away or be stolen, and thus needs constant guard. This implies that their return could actually be negative.

Santosh Anagol, Alvin Etang and Dean Karlan find that cows and buffaloes in rural India have a negative return of a whooping 64% respectively 39%. If you take the extreme assumption that labor has no return, then their returns are minus 6% respectively plus 13%. How is that possible? The authors offer several potential explanations: measurement error, preference for home-made milk, the lack of other saving vehicles, in particular those that allow commitment to keeping those savings, improvement in social and religious standing, and preference for lotteries (small probability of striking it rich with female cattle). The one I like the most is that marginal return of labor is actually zero. Indeed, farms do not operate like firms. As they are typically family-operated, everyone "works" even if that means being idle most of the day. This idle person may have a productivity close to zero, and may thus be used to guard cattle.

Identifying monetary policy "shocks"

I have always found the empirical monetary policy literature rather frustrating. It is entirely based on the premise that one can identify monetary policy shocks. First, I am not sure what is really meant by a shock. Is it any change in a policy variable? Not changing it may be a surprise, as we recently witnessed by with the recent FOMC decision not to throttle quantitative easing. And how much a change is anticipated matters as well. The recent emphasis on forward guidance makes the interpretation of an interest change very different from the surprise actions from a few years ago. Second, the empirical identification of those shocks seems doubtful at best. Either you take a VAR and interpret residuals as shocks (never mind those will be significantly different across specifications), or you try to quantify some narrative of policy decisions, sorting out rather subjectively what was a surprise and what was expected. Third, a monetary policy shock should be measured differently under different policy regimes. There is no point on focusing on the Federal funds rates (or a Taylor rule) when the policy focuses on the money supply, for example.

The reason for this rant is that I came across a paper by Martin Kliem and Alexander Kriwoluzky who try to reconcile the VAR and narrative approaches, which of course is impossible. What they highlight though is that both are fraught with error. They find this by plugging the narrative measure into a VAR and they conclude that there is measurement error in the narrative measure and misspecification error in the VAR. That should surprise no one, but needs to be pointed up, with so many people relying blindly on these instruments.

The price of producing in a sinful sector

Many people avoid investing in certain types of firms they associate with unethical or sinful behavior. That would include tobacco companies, high polluters, alcohol, fire arms and defense industry, etc. That should lower the stock market return of these firms, but there is of course some arbitrage that negates these return differentials. Yet, is there some way in which being in a sinful sector is detrimental?

Stergios Leventis, Iftekhar Hasan and Emmanouil Dedoulis found one, and that is the cost of auditing. Auditing firms are extremely sensitive to their own reputations, and who they do business with is part of their reputation. The authors also argues that auditing firms perceive that sin firms bear higher business risk, perhaps because they deviate from social norms and require more scrutiny (risk of litigation, need for higher cash reserves). In the US, such companies end up paying a whooping 20% more in auditing and consultancy fees. I wonder where else they face higher costs (it is known they have higher capital costs). This means that their stock price should still be affected despite arbitrage.

Entrepreneurship in Liberia

I have recently mentioned that entrepreneurship cannot be taught, which implies entrepreneurship classes have little value. What should these entrepreneurship professors then do? Do research on entrepreneurship? It turns out that is also of questionable value.

Case in point, the latest paper of Johan Venter. He wants to understand how entrepreneurship emergences in post-conflict economies and lead to new jobs. To this end, he travels to Liberia and surveys ... entrepreneurship professors who, of course, testify about strong interest in entrepreneurship classes. Never mind that taking such classes has no impact on entrepreneurship outcomes, Venter concludes that entrepreneurship should get more emphasis throughout the curriculum. That came out of nowhere, or rather out of a pitiful survey with 28 respondents.

Memorable goods

In macroeconomics, one distinguishes between non-durable and durable consumption goods. This distinction is important, as the cyclical nature of the two is very different. Durables are very volatile, as households like to postpone their acquisition in recessions. Non-durables are extremely smooth, however. The later is what most models have in mind when thinking about consumption, while the first are more like investment goods, but at the household level.

Rong Hai, Dirk Krueger and Andrew Postlewaite think we should add a third category: memorable goods. These are non-durable goods that may not last long physically, but we keep good memories about them and thus they continue to provide utility in the future. In essence they are also durable goods, but they are not counted as such in national accounting. Some examples the authors provide are Christmas gifts whose memories last through the year. The same applies to vacations, going out, clothes, and jewelry. Using the consumption expenditure survey, the authors find that memorable goods lie somewhere between durables and non-durables in terms of cyclical properties. As they account for about 14% of outlays, their presence matters quantitatively. In fact, they can fully explain some observed deviations from the permanent income hypothesis. A paper to remember and cherish for a long time.

Building a reputation as online seller

A good reputation is difficult to earn and easy to lose. And reputation matters, think of monetary policy, auditing, medical doctors, restaurants, and politicians. With the Internet, online reviews and reputation have become important as well. I certainly take them into account before buying online. From the point of view of a seller, how do you build a reputations?

Ying Fan, Jiandong Ju and Mo Xiao got access to data to the major Chinese e-commerce platform to study the evolution of seller reputation. In particular, they have been able to trace the strategies and histories on sellers. They show that a good reputation is a great benefit, but that new sellers have a very hard time establishing it. Imagine you start with no reputation whatsoever and are competing with established sellers. To gain an edge, you need to resort to sales and attract attention in various ways, such as cross-listing your product all over the place. This is a lot of effort, and the authors argue that there is too much of it.

This reminds me of the early days of this blog. Being anonymous, I obviously started with no reputation and had to build it from scratch. With barely any readers, I started adding links to unrelated, but interesting stuff to attract more. That did not work, although this has worked for others (restaurant reviews come to mind). It took several years for readership to really pick up, and I thought several times about abandoning during that time.

Flying in Europe and North America, puzzling differences

I have recently had the opportunity to fly extensively across both Europe and North America, and it has struck me how different the experience was. It is also puzzling me why this is so.

Let me first highlight the differences I observed. On almost all counts, flying in Europe seems superior. The aircraft are newer, they are equipped with entertainment systems or individual monitors, they serve meals, and flight staff is attentive. Airports are not overcrowded and well-connected to cities, usually by train or subway. Security is rather smooth and security personnel seems "normal".

Contrast this with North America, where the fleet is old and noisy, nothing but a magazine is offered as entertainment, everything but non-alcoholic drinks is nickel and dimed (and the airline's credit card is constantly peddled to you), and flight staff seems tired or disgruntled. Airports are full to the brim and impractical, in particular you have to rent a car or get an expensive taxi to get anywhere. Security is obnoxious and its personnel seems quite uneducated.

Even for transatlantic flights, there is a noticeable difference on similar counts between US and European airlines.

And with that, flying is less expensive in Europe, at least in my experience. Labor and fuel costs appear to be higher there, and I do not think European airlines are saving on their aircrafts as they are newer. Personnel, in particular, seems to have much better working conditions. A Delta stewardess, for example, told me she had to take a vacation day (one of 10 a year) to get a visa to fly overseas for Delta. And she is only paid when aircraft doors are closed. The dismal situation of US pilots is well known. I heard no similar complaints in Europe.

With all this, US airlines are doing very badly. They seem to have higher prices, lower costs and provide fewer services. How is this possible? Is it because there is more competition from rail and low-cost airlines in Europe? Is it because American airlines have some liabilities in their luggage, like large pensions or large overhead? The days of state subsidies for national airlines are long gone in Europe, so that cannot be an explanation either. I am left puzzled.

What are the arguments for hosting sports mega-events?

I have argued several times already that hosting sports mega-events does not have a lasting impact and that the current impact is limited to the sectors providing directly services to the event (exhibits 1, 2, 3). Yet, politicians continue to come up with rationales why such events should be hosted locally and why public funds should be devoted to them. Is it that we economists are missing something here, or that the politicians are fooling everyone?

Marcel van den Berg and Michiel de Nooij observe that the immediate financial or economic gain from hosting is negative, thus one needs to finds arguments for hosting elsewhere. They highlights a series of biases among politicians that makes them commit to events they cannot afford. First, politicians commit early, before realities about what it implies have sunk in. Politicians thereafter rarely change opinions. Second, they are swayed by arguments about positive externalities like revitalizing areas or building otherwise useful infrastructure. But you can do all this without a mega-event. Third, they see only success stories. Fourth, the bidding process for a mega-event leads to a winner's curse like in any auction. Fifth, media are obviously biased in favor of hosting. Reporting on such events is their livelihood. Sixth, such mega-events provide excellent opportunities for "redistribution" of public funds to lobbyists. Seventh, it is all about pride. What a costly way to provide that.

Do child laborers learn less?

Child labor is frowned upon because going to school is deemed essential to the development of every child, especially in terms of giving her the essential tools to do well as an adult. It is generally recognized that parents do not want to keep their child away from school (excluding those who insist on home schooling), but that sometimes economic hardship forces them to have children help with current expenses to the detriment of their future earnings. But child labor is not a black and white outcome. It may happen that children work and go to school. To what extend does this have an impact of academic outcomes?

Patrick Emerson, Vladimir Ponczek and André Portela Souza got their hands on excellent data from the municipal schools in São Paulo, where they can track students across several years, know whether they work outside the home, what their study habits are as well as a few socio-economic characteristics of the family. They find that transitioning into child labor leads to a decline in test scores for mathematics and Portuguese in the order of 6% to 10% of a standard deviation. That may not look like much, but this adds up to a quarter to a full year of education by the time they are done with school. However, one may argue that they also learn some useful skills for the labor market while working, so one can wonder how it look like in terms of adult outcomes.

Can we measure smoking behavior?

In any survey, we must consider the issue of imperfect recall or misrepresentation in self-reported assessments. People do not remember precisely how much they spent on this or that, and they they may not recall how long they have been unemployed. For some questions, social pressure may also be a factor. For example, one may not concede on using illegal drugs or one may misreport smoking behavior. The extend of such biases can be measured though, if one has access to administrative data or some other objective measure. The results are often disappointing (Examples discussed here: 1, 2).

Vidhura Tennekoon and Robert Rosenman criticize the fact that the measures against which surveys responses are compared are taken as perfect gold standards. Specifically they look at the biochemical assessment of smoking status, whose results the literature never doubts and which makes self-reported smoking status look really unreliable. Once you use statistical methods that concede that the biochemical assessment may also include some measurement error, they realize that it may be just as bad as the self-assessment. One can thus not exclude that the self-assessment may actually be a better indicator that an independently recorded measure.

Are weak governments going to make Arab labor markets better?

I find Arab economies depressing because the amount of mismanagement is staggering and because institutions are very ill-conceived. Part of it comes from the influence of religion, and part form the legacy of the Ottoman empire. It is unclear how corrupt and incompetent governments fit into this history, but they are certainly to blame, too.

Ragui Assaad shows that the labor markets in Arab countries are seriously messed up and finds the governments as the main culprits. Government employment is particularly important and is used as a political tool. The result is a lot of nepotism and cronyism, bloated administrations doing nothing, and large sectors of the economy depending on the government's largesse. Few businesses thrive without these handouts, there is thus very little healthy competition that tries to innovate. The competition is only in getting favors from agencies. As a consequence, there is little accumulation of human capital. While there is a boom in education, not much useful is concretely learned: the education sector is just as corrupt and diplomas do not mean much. I may add that the fields of study are also driven by the corrupt environment, as rent-seeking is everyone's goal.

Is this a hopeless situation? Assaad thinks Arab economies are stuck in this equilibrium. But I think there may be a way out. Indeed, the Arab Spring has considerably weakened governments. This is usually a bad outcome, but in this case this is an opportunity. While this may lead to some chaos, this may be better than counter-productive order. We'll see.

The price of diamonds

The diamond market is really strange. The wholesale market is dominated by a single firm that basically acts like a monopolist, as it is able to control supplies with large stockpiles (and even get a bailout from the government) and thus sets the prices at will. The resale market is heavily self-regulated to limit the supply from others than the dominant firm (just try to resell your diamond and get more than half what you paid for it...). Thus, if you would want to study price setting in this market, you would want to look at it from the angle of a monopolist trying to maximizing its profit and extracting as much as possible from demand.

Nicolas Vaillant and François-Charles Wolff do none of it. They just apply a hedonic regression and blindly regress selling prices on diamond characteristics. It is interesting that they find that there are some important non-linearities at round carat sizes, but is to be expected given the marketing by the diamond industry. But what quickly put me off in this paper is that the authors do not seem to understand some basics of economics. Here is a quote from the first paragraph:

In 2003, world demand for rough diamonds (US$9.5 billion) was significantly above the diamond supply (US$8.2 billion), so that the excess demand had to be satisfied from producers’ existing stockpiles.

First, by definition, supply includes stockpiles. How one would measure supply by ignoring the stock is a mystery to me. And how could one quantify supply and demand separately like this? In addition, it is not like there is rationing going on, which would justify higher demand than supply, as I cannot imagine that a monopolistic supplier set prices below equilibrium. After this opening paragraph, I cannot trust anything in the paper.

PS: And I just realized this is the second time I criticize a paper by these two authors...

The impact of testosterone on wages

Men earn more than women, this is still rue despite much effort over the past decades. The difference in wages, of course, needs to be measured ceteribus paribus, which means we need to take into account any observable characteristic so that we really compare men and women with the same characteristics doing the same job. This could mean that there is some unobservable characteristic that still matters. Men have more testosterone, and maybe this brings an increase in productivity they are rewarded for. But we typically do not measure that in labor force surveys.

Anne Gielen, Jessica Holmes and Caitlin Myers find a way around this difficulty by looking at twins. Indeed, females with a male twin have been exposed to more testosterone than all-female twin pairs. And males with a female twin got less. Using administrative data from the Netherlands with 80,000 twins, they find that this proxy for testosterone levels has a positive impact on hourly wages for males, but not for females. This new "observable" allows thus to better explain wage dispersion among males, but cannot explain the still remaining male-female wage gap.

What kind of jobs are academic scholars looking for?

Any university ranking that is published these days features a majority of US-based schools at the top. It is clear that across every field the United States is able to attract the best talent, at least when looking at top schools. Why is that so? What attracts scholars to the US?

Jürgen Janger and Klaus Nowotny have created an interesting data set by surveying 10,000 academics across the world and letting them choose between various hypothetical jobs. Those jobs varied along a series of characteristics, which allows to understand what academics value most. The results indicate that the standard US tenure track system is pretty much close to optimal. What matters most is pay, which should have a performance component, valuable peers, internal grants and a good mix of teaching and research. Location does not matter much, presumably because academicians are so focused on their work. Those early in their careers value financial and intellectual autonomy, as well as having some prospect for internal promotion based on performance. The more senior ones do not like being bound to a particular research stream and prefer being in a departmental setup rather than a chair-like system. Given all this, it is no surprise that the US manages to attract the best talent. But one can wonder whether the responses also reflect the realization that the United States has attracted the best researchers, so its system must be better independently from personal preferences.

The Economics of Christian Reformation

The social fabric of a country has a lot of inertia. It takes generations for norms to change, in large part because people rarely change during their lifetime, and if there is any change it is towards conservatism, that is, preserving the status quo. Yet sometimes change spreads quickly, like a revolution. In some sense we see this with the Arab Spring. All it needed was a small spark, and that spark may seem irrelevant at first. Another dramatic social change was the Christian Reformation that started with a simple priest in a completely irrelevant town of Saxony. Martin Luther was a spark that somehow set on fire an existing social norm, Catholicism, and set in motion a revolution that would keep Europe busy for centuries. How could this happen?

Philipp Robinson Rössner points out that central Germany suffered at the time from economic depression and deflation, at least partly as a consequence from a decline in silver supplies. This context deeply influenced Martin Luther's thinking, which found a receptive audience throughout the region. One thing that I take away from this is that the Reformation possibly happened because currency was tied to silver. Had the region had a modern central bank with fiat money, the money supply could have adapted to economic circumstances and the Reformation may have never happened. Europe would have suffered from much fewer wars, and the world's history (and economy) would have been quite different.