Informal economics

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In a discussion on Twitter last week about the rebasing exercise that increased Nigeria’s GDP by 89%, Olumide Abimbola offered to provide a reading list in informal economic activity – and here it is, very useful.The list includes Keith Hart’s pioneering paper – Keith wrote a retrospective as the intro to a more recent (2006) book, [amazon_link id=”0199237298″ target=”_blank” ]Linking the Formal and Informal Economy: Concepts and Policies[/amazon_link], edited by Basudeb Guha-Khasnobis, Ravi Kanbur and Elinor Ostrom.

I have a couple of other suggestions to add.

For estimates of the size of the informal economy in different countries, the work of Friedrich Schneider and Dominic Enste, published by the IMF, is the most comprehensive  – initially in this 2002 publication, but there are no later estimates that I can find, although Schneider and Andreas Buehn have a working paper about methodology.

A nice general read is Robert Neuwirth’s [amazon_link id=”0307279987″ target=”_blank” ]The Stealth of Nations[/amazon_link], reviewed by me here.

[amazon_image id=”0307279987″ link=”true” target=”_blank” size=”medium” ]Stealth of Nations: The Global Rise of the Informal Economy[/amazon_image]

And, in terms of the economics literature, that’s about it. Which is extraordinary when you think about what an important phenomenon informal economic activity is. The IMF estimates put it at between 14/16% of GDP in the OECD countries (much more in some) to as high as 44% in low-income countries. Economists can be lazy about finding data, and ignoring phenomena for which there are no readily-available data. But surely this is too big to ignore? All the more so as:

  • globalization has allowed multinational criminal enterprise (as well as international finance) to flourish – see Misha Glenny’s reportage eg in [amazon_link id=”0099481251″ target=”_blank” ]McMafia[/amazon_link] or the wonderful [amazon_link id=”0099541726″ target=”_blank” ]Treasure Islands [/amazon_link]by Nicholas Shaxson on tax evasion
  • new technologies have changed the decision margin between formal and informal activity in several ways – for example, mobiles helping people in the developing world transition into the formal sector
  • in the digital world, new types of “peer production” are emerging, in a new kind of informal space the authorities don’t know how to deal with – The Umlaut had a very interesting article about this recently. And then there’s Bitcoin etc.

[amazon_image id=”0099481251″ link=”true” target=”_blank” size=”medium” ]McMafia: Seriously Organised Crime[/amazon_image]

On Twitter, @illicit_econ does sterling work linking to articles and news of interest on the subject. Which economists out there are publishing research on the informal and/or illicit economy, though? Who can add more to this resource list?

Acc-entuate the positive, eli-minate the normative?

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Some time ago, on my visit to the Manchester Statistical Society, somebody told me about the book [amazon_link id=”B0019TAFRE” target=”_blank” ]A Critique of Welfare Economics[/amazon_link] by I.M.D.Little, which was – as I confessed – previously unknown to me. Yesterday Andrew Sentance kindly lent me his battered old copy of the 2nd edition, which he’d apparently dug out of a box in the shed at the bottom of his garden. First published in 1950, Andrew’s copy is a 1973 reissue (£1.75 cover price, or just under £18 in today’s prices), and it was reissued most recently in [amazon_link id=”0198281196″ target=”_blank” ]2002[/amazon_link] (£63 for a hardback edition).

[amazon_image id=”0198281196″ link=”true” target=”_blank” size=”medium” ]A Critique of Welfare Economics[/amazon_image]

Paging through, that the book starts by taking on utilitarianism as adopted and adapted by Pigou and Marshall. What would Prof Little have made of our modern day Jeremy Bentham, Professor Richard Layard? The first chapter particularly criticizes in this version of welfare economics, “The whole Benthamite doctrine that the welfare of society was the sum total of the welfares of individuals and that the welfare of an individual was the sum total of the satisfactions he experienced….. An essential feature of the Pigovian type of welfare economics is the assumption that each individual tries to maximise his own satisfaction.” This fitted very neatly with the consumer choice theory developed by Marshall and taught to generations of bemused undergraduates. A quick scan suggests the book particularly takes issue with the way economics tries to avoid making value judgements, and instead insisting on the positive rather than the normative.

 

I’ll look forward to reading the rest at some stage. One of the blurbs on the back says: “The great value of Mr Little’s brilliant work is that economists will be much more careful in future how they choose their words.” Hmmmm.

If only he had a grave to turn in….

Thinking about capital

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It’s clear that I’m one of the slowest readers of Thomas Piketty’s [amazon_link id=”067443000X” target=”_blank” ]Capital in the 21st Century [/amazon_link]around – only a bit over half way through, when other reviews are pouring out. Most are adulatory; Paul Krugman’s in the New York Review of Books the latest (Why We’re In a New Gilded Age). The problem is the size of the book – I do most of my reading while travelling, and just can’t read long e-books, as nothing sticks.

Anyway, the process got me ferreting about in my old books looking for earlier work on wealth and inheritance, so this morning I was browsing through J.A.Hobson’s [amazon_link id=”1440087180″ target=”_blank” ]The Science of Wealth[/amazon_link] (1911) and Josiah Wedgwood’s [amazon_link id=”1245803719″ target=”_blank” ]The Economics of Inheritance[/amazon_link] (1929).

Here is Hobson on ‘unproductive surplus’:

“The plain facts of modern business show that capital like land can get a share of unproductive surplus. But while land takes its surplus by natural scarcity, capital takes its surplus by making itself scare ie. by artificially restricting the flow of free capital into certain channels of employment. These restrictions, whether maintained by securing advantages of of raw materials, power or situation, by tariffs or other State aid, by trade agreements or combinations, all signify checks upon the free entry of capital into a trade which is thus enabled to secure a scarcity rate of interest for a limited supply.”

He immediately identifies the banking industry as a key locus of unproductive surplus. No change there, then.

Wedgwood has a fascinating chapter on inheritance in which he uses probate records to trace the extent to which large fortunes are passed down the generations. The chapter sets out to test the assertion that most fortunes are self-made and quickly dissipated; “from clogs to clogs in three generations,” in the northern saying. The exercise reported in the book does not support this and in fact is entirely consistent with the results of another truly important recent book, Greg Clark’s [amazon_link id=”0691162549″ target=”_blank” ]The Son Also Rises[/amazon_link]. Wedgwood writes:

“The fortunes of the different branches were largely pre-determined by the economic position of the family at least five generations back and in to some extent by that of ancestors nine generations back.”

What Clark’s book establishes is that ‘patrimonial capitalism’ (in Piketty’s terminology) never really went away even in seemingly egalitarian societies like Scandinavia – around the world and over many different periods, advantage is passed on down the generations, and social mobility has never been all that great.

With hindsight, ignoring wealth and inheritance for a generation or two looks like another of the blind spots of 20th century economics. Even without finishing [amazon_link id=”067443000X” target=”_blank” ]Capital in the 21st Century[/amazon_link] (and I have some reservations about it), it is clear that Piketty, and his colleagues Emmanuel Saez and Tony Atkinson, have done us a great service in their careful collection of income and wealth inequality data. This VoxEUexplainer of the database is a good place to start.

[amazon_image id=”067443000X” link=”true” target=”_blank” size=”medium” ]Capital in the Twenty-First Century[/amazon_image]  [amazon_image id=”1245803719″ link=”true” target=”_blank” size=”medium” ]The Economics Of Inheritance[/amazon_image]  [amazon_image id=”1440087180″ link=”true” target=”_blank” size=”medium” ]The Science of Wealth (Classic Reprint)[/amazon_image]  [amazon_image id=”0691162549″ link=”true” target=”_blank” size=”medium” ]The Son Also Rises: Surnames and the History of Social Mobility (The Princeton Economic History of the Western World)[/amazon_image]

A footnote: Hobson’s book has a wise note about the role of economics, concerning whether or not its conception of prosperity is too narrow, when what really matters is love, joy, meaning etc: “John Ruskin and some other prophets of this wider wealth have denied the validity and the utility of the narrower Political Economy.  … Other students of society have also questioned the validity of separating the study of economic processes from that of other social processes and making of them a ‘science’ of industry. This criticism, in so far as it has a point, is applicable to all scientific specialism. The whole world of phenomena is a unity of intimately connected parts, and every breaking off of any section for separate study is of necessity an act of mutilation. But such separate studies are essential to intellectual progress, and the mutilation is not fatal to their use, provided the subject of special study is not treated as a completely rounded whole.” It’s healthy for economists to engage in interdisciplinary work as a reminder of this point. There are still too many of my fellow economists who’re dismissive of other social sciences.

Nudge, nudge

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On my train rides yesterday to the Royal Economic Society Conference at my new home institution (from September), the University of Manchester, I read [amazon_link id=”0300197861″ target=”_blank” ]Why Nudge? The politics of libertarian paternalism [/amazon_link]by Cass Sunstein. This is obviously a progression from [amazon_link id=”0141040017″ target=”_blank” ]Nudge[/amazon_link], his bestseller with Richard Thaler, and a reply to the often-made criticism about the paternalism inherent in nudge policies.

[amazon_image id=”0300197861″ link=”true” target=”_blank” size=”medium” ]Why Nudge?: The Politics of Libertarian Paternalism (The Storrs Lectures)[/amazon_image]

The book is a very good short primer on the philosophy of this kind of intervention, drawing on behavioural psychology and economics. It does not cover either how to do ‘nudges’, or the cognitive biases the policies seek to compensate for – for that, you need the predecessor book. The aim here is to argue back against the view that for all the biases in decision-making that we are learning about, it is better for people to be free to make their own mistakes than to have government bureaucrats or politicians tell them what to do.

Sunstein makes two very strong points in his counter-blast. One is that there is no avoiding ‘choice architecture’. For example, if a government decides not to make pension contribution decisions opt-out, it is thereby choosing to make them opt in. If a cafeteria puts chocolate by the check-out, it is choosing not to put fruit there.

The other is that governments make lots of interventions in individual choice, constantly. These range from declaring some activities (taking drugs, say) a crime punishable by prison or fines to regulations (how you make alterations to your house) to tax incentives (a high tax on cigarettes) all the way through to educational campaigns (pictures of diseased lungs) and advertising (pay your tax on time to avoid the fine). Nudges are indeed at the soft end of this spectrum of government actions.

So why do I, like many others with a libertarian streak, feel uneasy about nudging in general? Not the specifics; the pension opt-out is clearly sensible, and using behavioural insights in designing competition remedies similarly a no-brainer. It’s the general idea of governmental Mad Men that’s disturbing, the sense of manipulation and infantilisation of individual voters that implies. Not that I’m naive about the capacity of individuals – including me – to take sensible decisions much the time. As Sunstein points out, the work of Gerd Gigerenzer on decision-making heuristics clearly suggests people would benefit from the short-cuts well-designed choice architecture can create.

The ‘yuk factor’ I felt grew all the stronger on reading: “Personalized paternalism is likely to become increasingly feasible over time. We can imagine highly personalized default rules, attempting to specify diverse rules for people in different circumstances.” Sunstein acknowledges the huge information advantage people have about their own interests compared to any bureaucrat, but evidently thinks that the information asymmetry will reduce – and anyway argues that the structures of public sector policy-making and impact assessment guard against bad nudges.

I’m not so sure, thinking about the growing pressure of increasingly polarised and populist politics on administrative decisions. We should consider the effect of ‘soft’ behaviour-manipulation policies on how the people feel about politics and government: is nudging going to increase or decrease further the low trust voters have in their governments? And one final question is whether behavioural responses will change the more people understand the cognitive biases and the nudges intended to work around them – will we learn? Is there a Goodhart’s Law for nudge policies?

Don Draper for prime minister?

Nigeria, GDP, and all that jazz

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Mine is the kind of household where we spent Sunday afternoon eagerly waiting for the announcement about the rebasing of Nigeria’s GDP, or in other words the updating of the weights on the different components that add up to GDP to reflect their share in the economy. Like a number of other African economies, it had been more than 20 years since the construction of Nigeria’s GDP statistics was last updated in this way. It happens roughly every five years in most OECD countries – the US had a significant one last year.

The announcement was worth waiting for: taking due account of sectors like films, music and mobiles took the level of GDP up by 89%, and makes Nigeria’s economy bigger in absolute terms than South Africa’s. The rebased statistics also show a marked change in the structure of the economy, as this chart from the official presentation shows.

Nothing real has changed, the economic problems like poverty and inequality and a poorly-functioning state remain, but the confidence effects on investors and entrepreneurs could be significant. Expectations are crucially important for economic decisions.

As it happens, if you want to read more about this, my [amazon_link id=”0691156794″ target=”_blank” ]GDP: A Brief But Affectionate History [/amazon_link]has a section specifically on the subject. Razia Khan of Standard Chartered, @raziakkhan, kindly tweeted key bits of it yesterday, and is a key person to follow on the subject.

[amazon_image id=”0691156794″ link=”true” target=”_blank” size=”medium” ]GDP: A Brief but Affectionate History[/amazon_image]