George Stigler considered George Bernard Shaw to be an asute critic of the labour theory of value

Stigler explains how intellectuals and consultants ply their policy trade honestly

Stigler on one of the two political advising roles of economists

George Stigler doesn’t think much of the influence over economists over public policy

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Economically Speaking: Government Regulation with George Stigler

George Stigler replies to @rodrikdani on the first theorem of welfare economics

From Stigler, George J. (1993). “Monopoly.” In The Fortune Encyclopedia of Economics, David R. Henderson, ed. New York: Warner Books

Economically Speaking: Government Regulation – George Stigler

Economics or Ethics? (George Stigler)  

George Stigler on the value of multimethod analysis in public policy

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Is Kiwibank profitable enough to take on the big banks?

if Kiwibank is part of the competitive fringe of an oligopoly made up of the 4 Australian banks, it is not very profitable for a competitive fringe of a cartel as the chart below shows. The other New Zealand owned small banks in that competitive fringe are not that profitable at all. Undercutting an oligopoly and its high prices and above-average cost and above marginal cost pricing is not what it used to be for the competitive fringe in New Zealand banking, if there ever was a cartel.

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Source: G1 Summary information for locally incorporated banks – Reserve Bank of New Zealand.

Bank customers can choose between four major banks and a competitive fringe. If those major banks are indeed overcharging because of price-fixing by a cartel or an oligopoly, that competitive fringe which includes Kiwibank has a real opportunity to expand profitably and with little risk.

The prospect of expansion by the competitive fringe that includes Kiwibank only increases the incentives on each of the four big banks to cheat on the cartel price. The first bank to cheat on the cartel will profit the most; the other banks who are colluding know this. As George Stigler concluded in his 1964 paper “The Theory of Oligopoly” as Peltzman and Carlton explain:

…once a price is somehow agreed upon, there will be incentives for individual rivals to cheat on the [collusive] agreement. Whether cheating occurs depends on weighing the profits from not cheating against the profits from cheating and then being detected and having competition break out…

any agreement among sellers cannot ignore the incentives to cheat provided by lags in detection. So understanding when a price elevated above the competitive level can be an equilibrium requires an analysis of the dynamic consequences of cheating versus not cheating…

Collusion over retail banking services and prices faces major hurdles that will lead to most attempts at price-fixing having a short life. These barriers to successful collusion include:

  • numerous competitors,
  • expansion by the smaller banks were not part of the cartel or cheat on the cartel
  • the entry and expansion of new banks,
  • the lack of a standard product,  and
  • a rapidly changing business environment.

Implicit understandings among the colluding banks may break down owing to conflicts over the most suitable price, the complexities of co-ordinating pricing across a diverse range of banking products, or the simple presence of a maverick bank.

As time passes, destabilising pressures within a banking cartel or oligopoly will build due to long-run substitution and the threat or actuality of entry by new banks and expansion by banks In the competitive fringe, which includes Kiwibank.

The first firm in any market may charge a high price relative to costs, but the entry of one or two more firms usually results in effective competition. Once there are three to five suppliers in a market, an additional entrant has little impact on prices because pricing is already as competitive as it can be.

When ANZ sought to acquire the National Bank of New Zealand in 2003, the Commerce Commission did not oppose this merger. The Commission did not consider that a substantial lessening of competition would follow this merger. The Commission said:

…the merger is unlikely to increase the likelihood of co-ordinated market power in the supply of transaction accounts because the fringe players are likely to provide some competition, the banks have different strengths and weaknesses and in particular ASB is unlikely to have the incentive to participate in co-ordinated power at the expense of its recent growth and customer satisfaction levels.

This analysis of co-ordinated market power applies to each of the relevant markets. Therefore the Commission concludes that the merger is unlikely to result in a substantial lessening of competition in the supply of transaction accounts.

In the supply of mortgages, savings accounts and credit cards the merger is unlikely to lead to a substantial lessening of competition, as in each of these markets, ASB, Westpac and BNZ are likely to provide sufficient competition to the combined entity.

An important driver of a competition in the mortgage market in 2003 was a high incidence of fixed-rate mortgages and the tendency of these fixed rate mortgagees to reconsider all their options at the end of each fixed rate term.

The Commission Commission noted that there was a large re-mortgaging market in New Zealand. Banks offer to do all the work for customers  wishing to switch over bank accounts and direct debit arrangements.

In a very atypical move for a purported cartel, in 2010 the bank owned Payments New Zealand agreed to change over direct debits over automatically when a customer switched banks, which made switching banks even more easier.

At the time of the ANZ and National Bank merger, the Commerce Commission noted that Kiwibank was offering lower rates on its mortgages as a way of gaining a foothold in the market.

The Commerce Commission could not have been more right about the vigour in competition in retail banking with regard to re-mortgaging and switching between fixed and floating mortgages in New Zealand.

As the chart below  of fixed and floating mortgage shares  a New Zealand bank balance sheets shows, there is a rapid exodus from fixed rate mortgages at the time of the Global Financial Crisis.

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Source: S8 Banks: Mortgage lending ($m) – Reserve Bank of New Zealand.

I cannot see how any cartel or oligopoly could sustain price-fixing against such dynamic changes in market shares and product switching.

Cartels are is much more difficult to agree when there are many products about which to fix prices and market shares. At a minimum, this rapid movement of customers between mortgage products will sow suspicions that one or more rival banks is stealing customers thereby cheating on the cartel agreement. Not surprisingly, the history of cartels is a history of double-crossing. Banking is no exception.

George Stigler on the prevalence of self-interest

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What’s the difference between embedded neoliberalism and Director’s Law of public expenditure?

I learnt a new word today off the back of Jane Kelsey winning a $600,000 Marsden grant to study embedded neoliberalism and her latest transnational conspiracy theory about trade agreements.

I’ve never heard of embedded liberalism before today despite a keen interest in popular and academic news. I don’t think I’m poorer for that ignorance but let’s push on. According to that source of all knowledge and truth Wikipedia, embedded neoliberalism’s been around for about 35 years:

Embedded liberalism is a term for the global economic system and the associated international political orientation as it existed from the end of World War II to the 1970s. The system was set up to support a combination of free trade with the freedom for states to enhance their provision of welfare and to regulate their economies to reduce unemployment. The term was first used by the American political scientist John Ruggie in 1982.[1]

Mainstream scholars generally describe embedded liberalism as involving a compromise between two desirable but partially conflicting objectives. The first objective was to revive free trade. BeforeWorld War I, international trade formed a large portion of global GDP, but the classical liberal order which supported it had been damaged by war and by the Great Depression of the 1930s. The second objective was to allow national governments the freedom to provide generous welfare programmes and to intervene in their economies to maintain full employment.[2] This second objective was considered to be incompatible with a full return to the free market system as it had existed in the late 19th century—mainly because with a free market in international capital, investors could easily withdraw money from nations that tried to implement interventionist and redistributive policies.[3]

The resulting compromise was embodied in the Bretton Woods system, which was launched at the end of World War II. The system was liberal[4] in that it aimed to set up an open system of international trade in goods and services, facilitated by semi fixed exchange rates. Yet it also aimed to “embed” market forces into a framework where they could be regulated by national governments, with states able to control international capital flows by means of capital controls. New global multilateral institutions were created to support the new framework, such as the World Bank and theInternational Monetary Fund.

Source: Embedded liberalism – Wikipedia, the free encyclopedia.

Decoding Marxist rhetoric is never easy, but I think what these academic Marxists are trying to do is describe the rise of the mixed economy and the welfare state over the course of the early and middle parts of 20th century.

The welfare state was never an easy thing for your card-carrying Marxist looking forward to the immiserisation of the proletariat as the trigger for the proletarian revolution.

Embedded neoliberalism mostly all about what Aaron Director in the 1950s explained as the reasons for the growth of government in the 20th century. He put forward what George Stigler label for him Director’s Law of Public Expenditure. George Stigler published an article on this law because Aaron Director published next to nothing for reasons no one understands. Director founded law and economics through teaching law classes at the University of Chicago law school.

Sam Peltzman pointed out that most of modern public spending is supported by the median voter –  the ‘swinging’ voter. He observed that governments at the start of the 20th century were a post office and a military; at the end of the 20th century, governments are a post office, a larger military and a very large welfare state.

Studies starting from Peltzman in 1980 showed that governments grew in line with the growth in the size and homogeneity of the middle class that was organised and politically articulate enough to implement a version of Director’s Law.

Director’s Law of public expenditure is that public expenditure is used primary for the benefit of the middle class, and is financed with taxes which are borne in considerable part by the poor and the rich. Based on the size of its population and its aggregate wealth, the middle class will always be the dominant voting bloc in a modern democracy. Growth in the size of governments across the developed world took off in the mid-20th century as the middle class blossomed. Peltzman maintained that:

“The levelling of income differences across a large part of the population … has in fact been a major source of the growth of government in the developed world over the last fifty years” because the levelling created “a broadening of the political base that stood to gain from redistribution generally and thus provided a fertile source of political support for expansion of specific programs. At the same time, these groups became more able to perceive and articulate that interest … [and] this simultaneous growth of ‘ability’ served to catalyse politically the spreading economic interest in redistribution.”

After the 1970s economic stagnation, the taxed, regulated and subsidised groups had an increasing incentive to converge on new, lower cost modes of income redistribution.

  • economic reforms ensued, led by parties on the left and right, with some members of existing political and special interest groupings benefiting from joining new coalitions.
  • More efficient taxes, more efficient spending, more efficient regulation and a more efficient state sector reduced the burden on the taxed groups.
  • Most of the subsidised groups benefited as well because their needs were met in ways that provoked less political opposition from the taxpaying groups.

Sweden, Norway and Denmark could be examples of Gary Becker’s idea that political systems converge on the more efficient modes of both regulation and income redistribution as their deadweight losses grew in the 1970s and 1980s and after. Unlike some of their brethren abroad, more of the Nordic Left and, more importantly, the Nordic median voter were cognizant of the power of incentives and to not killing the goose that laid the golden egg. Taxes on income from capital are low in Scandinavia.

The rising deadweight losses of taxes, transfers and regulation all limit the political value of inefficient redistributive policies. Tax and regulatory policies that are found to significantly cut the total wealth available for redistribution by governments are avoided relative to the germane counter-factual, which are other even costlier modes of redistribution.

An improvement in the efficiency of either taxes or spending reduces political pressure from taxed and regulated groups for suppressing the growth of government and thereby increases total tax revenue and spending because there is less political opposition. Efficient taxes lead to higher taxes.

Improvements in the efficiency of taxes, regulation and in spending reduce political pressure from the taxed and regulated groups in society. This suppressed the growth of government and thus increased or prevented cuts to both total tax revenue and spending since 1980. Economic regulation lessened after 1980 and there were privatisations, but social and environmental regulation grew unabated. Certainly in New Zealand the post-1984 economic reforms followed a good 10 years of economic stagnation and regular economic crises:

In the early 1980s, New Zealand’s economy was in trouble. The country had lost its guaranteed export market when Britain joined the European Economic Union in 1973. The oil crisis that year had also taken a toll.

The post-1980 reforms of Thatcher, Reagan, Clinton, Hawke and Keating, Lange and Douglas and others saved the modern welfare state for the middle class. Most income transfer programmes in modern welfare states disproportionately benefit older people. With an aging society, that trend can only continue. That is why these reforming policies survived political competition, election after election. The political parties on the left and right that delivered efficient increments and streamlined the size of government were elected, and in turn, got thrown out from time to time because they became tired and flabby.

The rest of embedded neoliberalism is trying to explain widespread economic deregulation and liberalisation of international trade along with the continual growth of social regulation. This is something that Gary Becker, George Stigler and Sam Peltzman have written on previously.

The continued growth of social regulation is best explained by the median voter theorem. Both Bryan Caplan and Sam Peltzman pointed out that it’s hard to think of any major government program or regulation that does not enjoy widespread popular support.

As for the public been duped by neoliberal economists, George Stigler argued that ideas about economic reform need to wait for a market. As Stigler noted, when their day comes, economists seem to be the leaders of public opinion but when the views of economists are not so congenial to the current requirements of special interest groups and voting public, these economists are left to be the writers of letters to the editor in provincial newspapers. These days they would run an angry blog.

P.T. Bauer agrees with George Stigler on the demand and supply for economic advice

Source: Quotation of the Day…

George Stigler on Adam Smith’s greatest contribution

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George Stigler on the influence of economists on public policy

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