Understanding innovation and growth

I’ve been dipping into the truly fascinating World Intellectual Property Report from WIPO, published last week. The overview chapter has a beautifully clear overview of economic growth, and the role of innovation and IP rights. The rest of the report falls into two sections: case studies of historical breakthrough innovations (airplanes, antibiotics, semiconductors); and case studies of newer innovations with breakthrough potential (3D printing, nanotechnology and robotics).

The lessons drawn should not be surprising but seem hard for people looking at future growth prospects to absorb. For example, big innovations can affect growth through several routes (for example with antibiotics by the impact on human capital); their economic transformations are far-reaching, unpredictable and can take a long time; all breakthough innovations require continuous follow-on innovations, both technical and organizational; the specifics of the innovation ecosystem matter greatly, and have a geographical dimension; the structure of the ecosystem will change as the technology matures, steadily involving more professional and formal structures. Interestingly, the historical examples suggest that the IP system made far less difference to the wide dissemination of the technologies than the absorptive capacity of each country.

The report is free to download and – unusually for such official reports – a very good read. Its case study approach is illuminating and I learned a lot about the technologies I’m less familiar with.

200 years of innovation

200 years of innovation


Economics, meet reality

I was reading some of the essays in the volume on The Philosophy of Economics edited by Daniel Hausman, and was struck by the echo in a terrific comment by Herbert Simon of something Dani Rodrik says in Economics Rules. (The Simon paper was originally in the AER P&P volume for 1963, Vol 53 (1963): 229-231.)

Simon, like Rodrik, points out the logical fallacy of using an empirical observation to validate the assumptions of a theoretical model devised to explain – or at least for consistency with –  that empirical observation. The assumptions must also be empirically valid, or validated, Simon argues. “The remedy for the difficulty is straightforward, although it may involve more empirical work at the level of the individual actors than ost conventionally-trained economists find comfortable.”

Market theories, and macro theories, do need micro-foundations, but empirical ones, foundations based on how people or firms behave. Do businesses maximize profits? Of course not, or at least, economists do not test the assumption before they build models on it. In my years on the Competition Commission taught me, many businesses can be blithely unaware of which of their activities make the most profit. As I’ve complained about macro models before, they might indeed have theoretically rigorous micro foundations but are ad hoc with respect to reality.


Simon goes on to suggest that economics adopts the scientific practice of making sure assumptions simplify but approximate sufficiently closely to the real world. He, like Deirdre McCloskey and Steven Zilliak, bemoans the tyranny of statistical significance rather than maningfully significant: in hypothesis testing, “We do not primarily want to know whether there are deviations of observation from theory which are ‘significan’ in this [statistical] sense. It is far more important to know whether they are significant in the sense that the approximation of theory to reality is beyond the limits of our tolerance.” Unfortunately, it is much easier to read a t-statistic from a software package than to think (and apparently also too hard to consider the statistical power of regression results) so the tyranny of statistical significance continues.

American exceptionalism, inequality version

Yesterday on my travels I read a short book, Income Inequality: why it matters and why most economists didn’t notice, by Matthew Drennan. Professor Drennan is an urban planning expert, so having read the book’s blurb, I expected it to be a critique of the economics profession, and braced myself.

It ended up not being what I expected. In fact, the book repeats Raghuram Rajan’s argument in Fault Lines – that low-income Americans went into debt to increase their consumption levels as well as buy homes, keeping up somewhat with the rich thanks to easy credit. One of the central chapters has a long appendix reporting some econometric work claiming to establish causality between higher income inequality and higher debt. However, it is not sufficiently detailed to be able to assess the empirical work, while too technical to be of interest to the general reader. So the central section of the book is a bit odd.

It’s a fair cop to say the generality of the economics profession did not pay enough attention to rising income inequality. The biggest lasting impact of Piketty’s Capital in the 21st Century, and the work with Atkinson and Saez on which it was based, will turn out to have been consciousness raising. Nobody is ignoring it now. However, there are now several important books on this subject: as well as Faultlines and Capital in the 21st Century, Mian and Sufi’s House of Debt, Atkinson’s Inequality, Francois Bourguignon’s The Globalization of Inequality and Branko Milanovic’s forthcoming Global Inequality: a new approach for the age of globalisation. I didn’t find much novelty in Drennan’s Income Inequality, although it is at least a short introduction.

Above all, though, my reaction to the book wasn’t that it was about economics, more that it was about America. We do tend to forget that inequality is greater in the US than most other OECD countries, and has risen more. Perhaps it can act as the canary in the cage for the rest of us, but a good part of the story lies in US politics and institutions. After all, just look at the Republican primary contenders.

OECD income inequality

OECD income inequality

Authors at the Festival of Economics

The annual Bristol Festival of Economics is under way and seems to be contining to build in popularity. As ever, there is a terrific roster of books by the participants. Adair Turner kicked things off with a discussion of his new book Between Debt and the Devil: Money, Credit and Fixing Global Finance.

Also featured are:

Robert Shiller, Phishing for Phools (co-authored with George Akerlof)

Vince Cable, After the Storm

Joris Luydendijk, Swimming with Sharks: My journey into the world of bankers

Cameron Hepburn, Nature in the Balance (with Dieter Helm) and The Economics and Politics of Climate Change.


Martin Sandbu, Europe’s Orphan: The future of the Euro

Katrine Marcal, Who Cooked Adam Smith’s Dinner?

Who Cooked Adam Smith’s Dinner?: A Story About Women and Economics by Katrine Marcal (5-Mar-2015) Paperback

Martin Ruhs, The Price of Rights: regulating international labour migration

Francois Bourguignon, The Globalization of Inequality

Emran Mian, The Banker’s Daughter

Julian LeGrand and Sarah Smith, The Economics of Social Problems (with Carol Propper)

Alex Bowen, The Global Development of Regimes to Combat Climate Change

and my own – newly out in paperback

Diane Coyle, GDP: A brief but affectionate history

Adair Turner opening Bristol Festival of Economics 2015, talking debt, housing & economic recovery. #economicsfest https://t.co/461vvsUSXB
11/11/2015 18:54

Bankrupt banks

I’ve been browsing through a new book, Making Failure Feasible: How Bankruptcy Reform Can End Too Big to Fail, edited by Kenneth Scott, Thomas Jackons and John Taylor. The book is the product of a Hoover Institution project formed in 2009 to address concerns about the moral hazard that would result from bank bailouts. The project quickly concluded that a bank ‘resolution’ procedure was vital, and proposed a Chapter 14 of the US Bankruptcy Code to create a mechanism ready to be applied to restructure or liquidate any large financial institution of systemic importance that gets into trouble.

The book spells out the rationale for a bank resolution mechanism and explains in more detail how the Chapter 14 would work. It argues that the proposal would make it easier for US banks to comply with the ‘living will’ requirement of the Dodd-Frank Act. As the book notes in a later chapter, however, a domestic resolution procedure, even for the US, is only a partial answer for banks that are of global importance. The Bank of England and IMF have said there are 16 of these institutions. And there is, the cross border chapter here says, no consensus internationally about the right approach to bankruptcy. So if there is another global financial crisis in the short term, we will be in huge trouble again.

Still, it is good to see that people have been working on detailed bankruptcy proposals – although the detail will be of interest mainly to banking specialists, which I’m not. Let’s hope the regulators get on to the global complexities soon.