Goliaths everywhere

James Bessen’s The New Goliaths is one of my books of the year so far (with a fashionably chatty subtitle). Indeed, I’d been looking forward to it because I liked his previous one, Learning By Doing, so much. Based on his impressive research on technology over a number of years, and on his prior experience as the founder of a successful early digital startup, the core of the argument is that a small number of (generally) large companies have built IT systems that can manage immense complexity in their operations. Sophisticated software and massive flows of data enable them to co-ordinate in previously unimaginable ways, delegating decisions to where the information can go. The complexity – say of a new model of software-laden car or a major retailer’s logistics system – increases the cost of entry for potential competitors. The Goliaths are to be found not just in ‘Big Tech’, but in many sectors of the economy.

What’s more, “The investment in software is only part of the total investment in these systems. The entire technology investment that firms make in these proprietary systems goes well beyond software code to include data, workforce skills and investments in alternative organizational structures.” An example used throughout the book is Walmart – which McKinsey found accounted for a substantial proportion of the US 1990s productivity boost. Somewhat counter-intuitively, at least for those who see Big Tech as the main competition problem, Bessen sees Walmart as the unassailable incumbent in US retail, whereas Amazon is the one example of successful entry, and one offering a platform to other retailers.

This dynamic, of superstar firms in many industries from retail to autos to finance with a widening productivity advantage, has consequences for income inequality: the workers in those firms are paid more because they gain invaluable experience simple by working in the superstar companies, so wages are dispersing within sectors. The skills are scarce because you have to work for a big, sophisticated complex firm to get the skills, which are thus in short supply. It has led to less dynamism – fewer entries and exits in many markets. Small firms simply can’t match the spending on R&D of the big ones: one example given is voice recognition software, where pioneer Nuance was a massive commercial success, but still couldn’t match the spending of big firms: Amazon (again) has more than 10,000 engineers working on Alexa products, more than ten times the number Nuance had at its peak. “Proprietary information technology is exacerbating economic and social devisions. It is widening the gaps between the pay of workers at different firms. It is leading to greater segregation of skill groups across firms and cities.”

The complexity dynamic has implications too for competion policy – which becomes challenging, because after all the superstars generally offer great services – and regulation more broadly – because the information asymmetry between company and regulator grows ever wider.

So what to do? The book advocates for mandating open standards, morecompulsory licensing, and for reforming IP law to tilt the incentives for big companies to do more voluntary unbundling of their services, clamping down on worker non-compete agreements to spread skills. All excellent, and ultimately inevitable policies, as the inequalities are socially and politically unsustainable. But there’s much devil in the detail, and there will be massive lobbying against change. So this is a political struggle rather than a technocratic one.

But that’s to wander off into the future. I highly recommend The New Goliaths. It synthesizes a growing body of research into how firms use technology, how that interacts with organisational structures and markets,  and what the consequences are. It’s also really well-written, with lots of examples and a grounded understanding of the realities and limits of technology policy.

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Profit and time

Avner Offer’s new, shortish book Understanding the Private-Public Divide: Markets, Governments and Time Horizons is superb. It sets out a persuasive argument for locating the boundary between private and public production in terms of the payback period for investment. The book starts: “In economics… the present is all there is. Past costs are sunk and can be ignored. The future is only what we make of it today.” What if we take seriously the need to invest for the future? As he points out, government accounts for 30-40% of GDP in most rich countries, and when you add in non-profit and household production well under half of economic welfare is produced on a for-profit basis – and that couldn’t happen without government-provided infrastructure or other support such as franchises or patents.

The central point is that for-profit investment needs to pay off in a relatively short period: “The higher the rate, the shorter the wait.” The prevailing interest rate defines a unique break-even period. Private markets can produce efficiently if the pay-off period is shorter. Otherwise, government has to act as the “commitment agent for society.” When it steps back from this, delegating to private agents, corruption is often the result, or else the enrichment of managers and shareholders at the expense of workers and consumers. There are no grounds for expecting efficiency gains – quite the contrary.

Offer writes: “There is no warrant for extending market norms to the rest of social activity, to the family, government, infrastructure, education, healthcare, science and arts, social insurance, old age, defence, protecting the environment and climate. Together, these are the source of most economic welfare.” He adds, for good measure, that much financial sector activity serves no social purpose.

Stirring stuff. The chapters set out the basic economic argument about credit time horizons, and then discuss the ethical and political consequences of governments delegating long-term activities to the private sector. Subsequent chapters discuss specific issues – housing and climate change.

When you add to the mix the well-known Herbert Simon point (in his 1991 Journal of Economic Perspectives article Organizations and Markets: “The economies of modern industrialized society can more appropriately be labeled organizational economies than market economies.”) about the limited scope of the market within private enterprises, it seems hard to understand how we’ve been through the past 40 years of markets-first political philosophy and practice.

Avner Offer has delivered a bracing counterblast to this. His main omission is non-market, non-government economic activity, civil society and the household (hence my book was Markets, State and People). But that would have been a different book. Highly recommended.

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And, not or: state and market

A holiday weekend, so I’m working my way through the book pile. I’ve raced through the absolutely excellent Privatizing Welfare Services: Lessons from the Swedish Experiment by Mårten Blix and Henrik Jordahl. This should go on any public policy course reading list in future, and is also a must-read for the policy world too. Lessons from other countries can be valuable, and in the UK we tend mainly to look at the US and to a lesser degree other Anglophone places, so this overview of Sweden’s experience is very welcome.

For Sweden has experienced a transformation in the past 4 decades from the post-war comprehensive cradle-to-grave welfare state to one where 17% of public services are provided by the private sector. This includes major services in healthcare, nurseries and schools, and elderly social care. As the book says, there has been a large amount of evaluation of the reinvention of Sweden’s welfare state, but not much of it in English. So this critical overview is invaluable.

The authors argue that without reform, the old-style welfare state would have become increasingly costly and ineffective. Citizens were by the 1980s dissatisfied with quality. The first, and controversial, steps came in the mid-1980s; for example in 1984 the first private pre-school received public funding. The economic crisis of 1992 cemented what seemed inevitable. However, service privatization has proceeded gradually if steadily rather than in a Thatcher-style ideological wave. This meant that its evident early successes, in expanding availability and improving choice, made it too popular for Social Democrat governments to reverse. In addition, different municipalities proceeded at different paces, so successes spread by imitation.

The book is organized thematically. Chapters cover quasi-markets, spending controls and efficiency, welfare reform, competition and choice, management of welfare services, and public opinion. Its conclusions are nuanced. Service privatisation has generally been effective in improving outcomes and improving the financial sustainability of the social contract, the authors conclude. But there are challenges.

One is the existence of information asymmetries between the state and private providers (I’m reminded of the excellent Hart, Schleifer and Vishny paper, which also always goes on my reading lists). Another is that the world is constantly changing, so no arrangement of collective choices is likely to stay unchanged for ever; it must respond to context. However, the other point that leaps out for me is the benefit of having both public and private service provision. This both reduces the information asymmetries (as the state is a provider too), and ensures that competition occurs along more dimensions than price alone (mitgating against cost and quality reductions for the sake of profit). All conclusions consistent with the view I set out in Markets, State and People.

The only downside – it is, alas, an expensive book. But one well worth recommending to your library.

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Wolves on the trading floor

My lockdown days have become filled with Zoom meetings at the expense of reading on tubes and trains. I’m definitely going to try to cut down on the online calls, which are exhausting (& I hope tech-land is working out why, and trying to fix it).

Meanwhile, I read a very good biography of Walter Gropius by Fiona MacCarthy, another of the wonderful Maigret novels, and also The Hour Between Dog and Wolf: risk taking, gut feelings, and the biology of boom and bust by John Coates.

It’s a really interesting book about the role biological/neurological responses in decision-making, applied to the financial market context. It will surprise nobody to learn that testosterone is one of the key players, generating bull markets (hah!) and excess risk-taking. “Traders are walking time bombs, and banks invariably light the fuse, dangling before them huge risk limits and bonus payments.” There seem some obvious regulatory interventions in the financial context eg ban bonus structures and mandate 50% female employees on trading floors. The book points out that at most 5% of traders are women, even though they outperform men over the long term.

The book braids together sections on the biology and sections tracking the various hormones and nervous impulses in a financial market boom. It’s a terrific read and super-clear. The author is a financial markets guy turned research scientist and having both sets of insights is illuminating.

The part that most interested me though – and that put me on to the book via an FT article about the impact of uncertainty on our health – was pondering what it means for a computer to think and make decisions when human decision-making is so firmly embodied, driven by our physical features, the way the chemicals in the blood stream and the nervous signals shape perception and emotion. The book I’ve now started (Economic Life in the Real World by Charles Stafford ) cites Antonio Damasio’s work in Descartes’ Error: people whose emotions are affected by brain injury are worse at making ‘rational’ decisions. Reason and emotion – involving biochemical and neurological phenomena – go hand in hand. Meanwhile, we are building AIs according to an idea of ‘reason’ modelled on homo economicus.

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Calculating the economy

One of the books I’ve read on this trip to the AEA/ASSA meetings in San Diego is The People’s Republic of Walmart by Leigh Phillips and Michael Rosworski. This is a very entertaining projection of the socialist calculation debate onto modern capitalism.

41JGcj2r26L._SX329_BO1,204,203,200_The starting point is the Simon/Coase realisation that big firms are internally planned economies – if it works for Walmart, why wouldn’t it work at larger scale? The authors’ hypothesis is that economic planning might work better now that we have so much more powerful computers and better data.

I’d recommend the book as an introduction to the socialist calculation debate for those unfamiliar with it (ideal for students). It cites some of my favourite books including Francis Spufford’s Red Plenty and Eden Medina’s Cybernetic Revolutionaries. Some chilling lines – about Stalin’s purges, for instance: “Anyone with any expertise was placed under suspicion.” It’s a great read.

Am I persuaded? Not entirely. Technology clearly will change organisational configurations, but it has just as much been decentralisation of firms and extended supply chains as it has been giant Walmart-type firms. I’m also sceptical that the data available is actually the information needed to plan an economy, or that it’s easy to access and join up. Still, it’s the right question, and a reminder that the boundary between market, state and other forms of organistaion is not set in stone but needs constant negotiation – in fact, I know a great book about this about to be published: Markets, State and People.

0FBA95F6-E1DB-4017-A90A-89A2D3C43EB7As seen at ASSA2020 in San Diego

 

 

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