Inconspicuous Consumption is the way ahead

Conspicuous consumption was introduced by economist and sociologist Thorstein Veblen in his 1899 book The Theory of the Leisure Class. It is a term used to describe the lavish spending on goods and services acquired mainly for the purpose of displaying income or wealth. In the mind of a conspicuous consumer, such display serves as a means of attaining or maintaining social status. Economists and sociologists often cite the 1980’s as a time of extreme conspicuous consumption. The yuppie materialised as the key agent of conspicuous consumption in the US. Yuppies didn’t need to purchase BMWs or Mercedes’ cars for example; they did so in order to show off their wealth.

Claremont Review of Books

Most developed countries cannot be dependent on private domestic consumption in excess of 60% of its GDP. Not only is the planet running out of resources to produce these goods/services but also the impact on climate change is very significant. The essay that won the 2021 Financial Times ‘Political Economy Club prize’ by Krzysztof Pelc outlines that there is a shift in attitudes of today’s consumer. He states that much of the material wealth that people generate is an expression of signalling to others ‘look at me’. In each case this signalling demands some sort of ‘conspicuous waste’ – a highly visible expenditure of resources that brings no material benefit but simply signals the purchaser’s ability and willingness to waste those resources. As there are more things to buy the greater the pressure on people to buy them and thereby increasing the waste and diluting the means of social distinction. The conspicuous consumer could be a thing of the past as loud labels become a shallow human signal with show-off status being gradually replaced by natural-face-to-face interaction and an emphasis on a sustainable planet.

Owning material things from expensive homes to luxurious cars turn out to provide less happiness than holidays, concerts and special occasions. In the long run it doesn’t matter so much about the USA, European economies and their consumption habits but those that are fast growing and with vast populations – China and India. They have a good chance to shift their trait-display systems before conspicuous consumption becomes locked in as a cultural norm.

The recent global downturn with Coivd-19 has sent out a few mixed messages. Firstly there has been the reduction in consumption as people’s credit lines have dried up but there are those that believe that you should spend more to maintain growth and employment in the economy. With household budgets being very tight smarter consumption rather than less consumption has been advocated by Geoffrey Miller in his book ‘Spent’. He refers to this as more ethical consumption where the production of produce does not involve the abuse of natural resources or the exploitation of people or animals. Furthermore a need to switch from an income tax that promotes short-term runaway consumption to a consumption tax that promotes longer-term ethical investment, charity, social capital, and neighbourly warmth.

“affluent economies such as Britain’s have already reached a point at which further advances in wellbeing are not likely to come from a single-minded focus on growth.” Krzysztof Pelc

Euro 2020 action bias and penalty kicks – is it best if the goalkeeper does nothing?

With the Euro 2020 now over and games including the final decided on penalties I thought it would be appropriate to look at the psychology of penalty kicks. Would goalkeepers be better not moving when facing a penalty?

Action bias is a situation where we would rather be seen doing something than doing nothing. This has been the case in numerous government elections as the voting population like to see some action from politicians when in some cases the best option is to let the economy run its course. President Nixon (US President 1969-74) was a great one for doing something even though it would have been better to do nothing – I refer to the wage and price controls introduced in 1971 – the controls produced food shortages, as meat disappeared from supermarket shelves and farmers drowned chickens rather than sell them at a loss. So when the economy is doing badly the government maybe tempted to intervene, even if the risks associated with the changes not necessarily outweigh the possible benefits. Furthermore if an economy is doing well policy makers may feel that they shouldn’t do anything even though the changes could improve the economy further.

According to classical assumptions in economics, when people face decision problems involving uncertainty, they should choose what to do according to their utility from the possible outcomes and the probability distribution of outcomes that follows each possible action. Bar-Eli, Azar, Ritov, Keidar-Levin, & Schein, 2007

In a 2007 study, Michael Bari-Eli at the Ben Gurion University of the Negev, Israel, analyzed 286 professional soccer penalty kicks. They discovered that goalkeepers almost always jump right or left because the norm is to jump — a preference for action (”action bias”). The goalkeepers jumped to the left 49.3% of the time, to the right 44.4% of the time, but stayed in the centre only 6.3% of the time. Analysis revealed that the kicks went to the left 32.2%, to the right 39.2% and to the centre 28.7% of the time. This means that the goalkeepers were much more likely to stop a kick if they had just stayed put – see table below.

The table above suggests that the decisions taken by the kicker and goalkeeper are made roughly simultaneously. The fact that the directions of the kick and the jump match in 43% of kicks rather than in 0% or 100% of the kicks suggests that neither kicker nor goalkeeper can clearly observe what the other chose when choosing their action.

A goalkeepers’ decision making.

In order to suggest a best option for goalkeepers it is necessary to examine the probability of stopping the ball following each combination of kick and jump directions. The table below presents the average saving chances using the formula

Number of penalty kicks saved ÷ Number of penalty kicks x 100

Jumping left = 20 ÷ 141 x 100 = 14.2%
Staying Centre = 6 ÷ 18 x 100 = 33.3%
Jumping right = 16 ÷ 127 x 100 = 12.6%

The research conclusions state that goalkeepers jump to the right or the left during penalty kicks more than they should. In analysing the 286 kicks Bar-Eli et al show that while the utility-maximising behaviour for goalkeepers is to stay in the goal’s centre during the kick, in 93.7% of the kicks the goalkeepers chose to jump to their right or left. This non-optimal behaviour suggests that a bias in goalkeeper’ decision making might be present. The reason that they suggest is ‘action bias’. However you also need to look at the psychological aspects of a goalkeeper. Former Arsenal and Chelsea goalkeeper Petr Cech said that he never liked to stay in the centre as it might look to the fans that he wasn’t trying. Although he would be in a good position to save a penalty that was kicked down the centre, he would feel a lot worse if he stayed in the centre and the ball went into the goal either side of him.

Sources:

Bar-Eli, M., Azar, O. H., Ritov, I., Keidar-Levin, Y., & Schein, G. (2007). Action Bias Among Elite Soccer Goalkeepers: The Case of Penalty Kicks. Journal of Economic Psychology, 28(5), 606-621.

Why has global inflation been on the rise?

Global inflation has been on the rise over the last year and there are various factors behind this increase:

  • Global supply chain problems – empty containers being located in the wrong ports as a result of COVID-19 and issues like a shortage of microchips impacting the supply of cars. Add to that the increase in oil prices and freight charges as many ports closed down. The Chinese port of Yantian (the world’s third busiest port behind Shanghai and Singapore) was closed for a period of time. This alludes to a huge backlog in freight which won’t be cleared until well into 2022. According to the Baltic Dry Index the cost of moving raw materials by sea has risen by 194% since December 2020.
  • Boom for consumer goods in lockdown – in order to make life more bearable there was big increase in demand for cars, furniture, household appliances and other items. This boom in durable goods coincided with a constraint in supply
  • Labour supply constraints – with the borders being closed countries found that the normal inflow of labour was not available. This was especially prevalent in the low income service sector and amongst primary industries – fruit pickers etc in New Zealand.

Central bankers have wondered why inflation has remained so low and if they can reach their targets – 1-3% RBNZ. However as America has discovered even with record low interest rates an expansionary fiscal policy (lower taxes and increased government spending) will have a desired effect on prices. The challenge is to ensure that prices don’t spiral out of control. The question now is whether the higher levels of inflation will remain when the supply chains return to normal and supply can keep up with demand. Or will we see higher inflation as the norm within the global economy.

Business cycle or volatile booms and busts? The four stages of the bubble.

I picked up this graphic and explanation from The Geography of Transport Systems by Jean-Paul Rodrigue (2020)

It is apparent that business cycles aren’t those smooth ups and downs as depicted in a lot of textbooks but more volatile with booms and busts. Central banks appear to play their part in this process with the low cost of borrowing feeding the boom phase of the cycle. Instead of economic stability regulated by market forces, monetary intervention creates long-term instability for the sake of short-term stability.

Bubbles (financial manias) unfold in several stages, an observation that is backed up by 500 years of economic history. Each mania is obviously different, but there are always similarities; simplistically, four phases can be identified:

  • Stealth – emerging opportunity for future prize appreciations of investments. Investors have better access to information and understand the wider economic context that would trigger asset inflation. Prices tend to increase but are unnoticed by the general public.
  • Awareness – many investors start to notice the momentum so money starts to push prices higher. There can be sell-offs but the smart money takes this opportunity to reinforce its existing positions. The media start to notice that this boom benefits the economy.
  • Mania – the public see prices going up and see this a great opportunity to invest with the expectations about future appreciation. This stage is not so much about reasoning but psychology as money pours into the market creating greater expectations and pushing prices up. Unbiased opinion about the fundamentals becomes increasingly difficult to find as many players are heavily invested and have every interest to keep asset inflation going. At some point, statements are made about entirely new fundamentals implying that a “permanent high plateau” has been reached to justify future price increases; the bubble is about to collapse.
  • Blow-off – everyone roughly at the same time realises that the situation has changed. Confidence and expectations encounter a paradigm shift, not without a phase of denial where many try to reassure the public that this is just a temporary setback. Many try to unload their assets, but takers are few; everyone is expecting further price declines. Prices plummet at a rate much faster than the one that inflated the bubble. Many over-leveraged asset owners go bankrupt, triggering additional waves of sales. This is the time when the smart money starts acquiring assets at low prices.

Cost-Benefit Analysis of the Auckland Harbour cycle bridge

Reading Michael Cameron’s blog this morning I was intrigued to read that New Zealand’s Transport Minister Michael Wood did not provide the cost-benefit data when he announced the new $785m Auckland harbour cycle bridge earlier this month. However it has now been revealed the initial assessment by Waka Kotahi is only 0.4 to 0.6. That meant for every dollar spent on the bridge, there would effectively be a 40 to 60 cent loss. If a project is less than 1.0, the project’s costs outweigh the benefits, and it should not be considered.

You wonder about the rationale for this amount of expenditure when there is an opportunity cost – money that could be spent on the areas that seemed to be constantly deprived of government funds e.g. Health (especially with the vaccine rollout), Education etc.

Evaluation of Cost-Benefit Analysis
It is clearly more efficient for public spending to be subject to rigorous analysis, rather than based on the whims of politicians. However, there are a number of criticisms of CBA when projects are given the green light

1. It is often very costly to undertake, though usually this forms a very small proportion of total project spending.
2. Assessing the monetary value of external costs and benefits is often very difficult. What precisely is the value of the congestion that would be reduced if a new bi-pass were built around a busy town? How much extra tourist revenue will actually be gained from a new airport? How long will the building be used as a venue, as in the case of the Viaduct area in Auckland for the 2020/21 America’s Cup. One solution to this problem is shadow pricing, where analysts attempt to place a value on the costs and benefits of a decision or a project where an actual market price does not exist.
3. Changing circumstances can make initial projections appear grossly inaccurate. The Wembley Stadium project in London went considerably over-budget, and the majority Olympic Games are far more costly than originally estimated. For instance the Montreal Olympics in 1976 was eventually paid off in December 2006. Higher interest and inflation rates, and falling exchange rates can all dramatically affect costs.
4. Actual costs can also rise above planned costs as a result of moral hazard, where project managers go over budget because they expect that those who fund the project will make extra funds available, providing an insurance against their over-spending.
5. Ultimately, decisions to go ahead with projects are only guided by CBA, leaving politicians to make the final decision. Politicians are free, of course, to ignore the results of an appraisal. It looks like they have with the cycle bridge.

Black Caps Test Champions and positive externalities

In 2019 I stayed up all night to watch the Back Caps lose the World Cup One-Day final in England in what was such a bizarre finish and one felt for Kane Williamson and the side. However two years later and all has been forgotten as the Back Caps become the first ever World Test Champions. Captain Williamson like Richie McCaw, a humble character, has led from the front and just goes about his work in a quiet manner.

Black Cap supporters will take great pleasure in talking about such a result but what all this alludes to is the fact that as part of this entertainment comes without the public paying for it, the public benefits from an externality.

Those who were able to travel to Southampton for the game and will have no doubt spent a significant amount of British pounds tonight in the bars and restaurants around town. Nevertheless the satisfaction (utility) derived in pounds from the game would have been much greater than the price they paid for the ticket. This suggest that there is a lot of consumer surplus present – the difference between the price that a consumer WOULD BE WILLING TO PAY, and the price that he or she actually HAS TO PAY. Furthermore the lead up to the game brings about a sense of delayed gratification (Behavioural Economics) especially after the disappointment in 2019 World Cup. Research (Smarter Spending – see previous post) shows that owning material things from expensive homes to luxurious cars turn out to provide less pleasure than holidays, concerts or even witnessing the Back Caps winning the first ever Test World Cup – where were you when the Black Caps beat India in Southampton? With New Zealand’s win national pride increases, along with patriotism and people feeling better about themselves. This in turn brings people together and boosts well-being of the nation.

Could there be Demand-Pull inflation in New Zealand?

The recent GDP figures the March Quarter 2021 and the Annual figure were significantly different from those predicted by the Reserve Bank. The key component of GDP is Private Consumer Expenditure which increased way above the 0.5% of the RBNZ – see table.

This no doubt encouraged more investment which saw an increase by 15.5%. This suggests that the economy is creeping towards the threat of demand-pull inflation – i.e. the economy is running hot and demand is outstripping supply – see graph.

Source: BNZ Markets Outlook.

While New Zealand’s GDP growth might pale against global comparisons this year, it’s already strong enough to be telling of rapidly diminishing economic slack and rising core inflation. Indeed, that excess demand is now arguably the order of the day in NZ, partly as the ability to supply goods and services is compromised in many ways, compared to pre-COVID times.

Furthermore the weakening NZ$ – has made exports cheaper. This is also part of the overall aggregate demand in the economy. So with C+I+G+(X-M) all increasing there is pressure on the supply-side. The NZ trade-weighted exchange is at 73.2 this morning whilst the RBNZ forecasted 75.3. However predicting anything in an economy today is very difficult considering what we have experienced with COVID 19.

TWI – An index that measures the value of $NZ in relationship to a group (or “basket”) of other currencies. The currencies included are from NZ’s major export markets i.e. Australia, USA, Japan, Euro area, UK, China. – $A, $US, ¥, €,  £, Yuan.

With this, there are cracks appearing amongst central banks around the world, as to how long they can reasonably continue with their extreme monetary policy settings. Interest rate markets have been asking the question and at least some central bankers have now given a bit of ground –notably the US Federal Reserve last week. Yes, there is still the debate about how much of the ramp-up in headline CPI inflation, globally,is transitory. However, there is also the fundamental question of whether underlying inflation is firm enough, and labour markets recovered enough, to recommend policy rates to start to normalise, whatever that means. It’s a different question, with more important implications.

Source: BNZ Markets Outlook

New Zealand looks to UK and EU for export markets

Concerned with a dependence on the Chinese market for its exports, New Zealand has agreed to the implementation of trade deals with the UK and the EU. Negotiations have been going in the background of rising tensions in the Pacific especially between China and Australia. However being too reliant on one market is a risky business as is depending on one resource to generate export income – the resource curse.

Background to New Zealand’s trade with China
On 7th April 2008 New Zealand became the first OECD country to sign a free trade deal with China. However this is not the only first with regard to the relationship between the two countries. New Zealand was the first to negotiate a WTO accession agreement with China as well as the first to recognise China as a “market economy”. With this in mind, the Chinese government have acknowledged the support of New Zealand by granting them the first bi-lateral agreement with a western nation.

Today China is New Zealand’s largest trade partner, accounting for NZ$19bn (US$13.5bn) exports in the year to the end of March, a quarter of its total exports. The deal with the UK would involve tariff cuts on New Zealand farm exports including dairy, lamb and beef but this would be a concern for UK farmers especially as they have now left the protectionist EU subsidies.

New Zealand trade destinations – March 2020 – March 2021

Source: FT

The Pound, the Exchange Rate Mechanism (ERM) and George Soros pockets $1bn

Teaching  exchange rates with my AS Level class and couldn’t get away from the events in Britain on the 16th September 1992 – known as Black Wednesday. On this day the British government were forced to pull the pound from the European Exchange Rate Mechanism (ERM). The video below explains the drama that unfolded very well.

Background

The Exchange Rate Mechanism (ERM) was the central part of the European Monetary System (EMS) and its purpose was to provide a zone of monetary stability – the ERM was like an imaginary rope (see below), preventing the value of currencies from soaring too high or falling too low in relation to one another.

It consisted of a currency band with a ‘Ceiling’ and a ‘Floor’ through which currencies cannot (or should not) pass and a central line to which they should aspire. The idea is to achieve the mutual benefits of stabel currencies by mutual assistance in difficult times. Participating countries were permitted a variation of +/- 2.25% although the Italian Lira and the Spanish Peseta had a 6% band because of their volatility. When this margin is reached the two central banks concerned must intervene to keep within the permitted variation. The UK persistently refused to join the ERM, but under political pressure from other members agreed to join “when the time is right”. The Chancellor decided that this time had come in the middle of October 1990. The UK pound was given a 6% variation

Black Wednesday

Although it stood apart from European currencies, the British pound had shadowed the German mark (DM) in the period leading up to the 1990s. Unfortunately, Britain at the time had low interest rates and high inflation and they entered the ERM with the express desire to keep its currency above 2.7 DM to the pound. This was fundamentally unsound because Britain’s inflation rate was many times that of Germany’s.

Compounding the underlying problems inherent in the pound’s inclusion into the ERM was the economic strain of reunification that Germany found itself under, which put pressure on the mark as the core currency for the ERM. Speculators began to eye the ERM and wondered how long fixed exchange rates could fight natural market forces. Britain upped its interest rates to 15% (5% in one day) to attract people to the pound, but speculators, George Soros among them, began heavy shorting* of the currency. Spotting the writing on the wall, by leveraging the value of his fund, George Soros was able to take a $10 billion short position on the pound, which earned him US$1 billion. This trade is considered one of the greatest trades of all time.

* In finance, short selling is the practice of selling assets, usually securities, that have been borrowed from a third party (usually a broker) with the intention of buying identical assets back at a later date to return to that third party. The short seller hopes to profit from a decline in the price of the assets between the sale and the repurchase, as the seller will pay less to buy the assets than it received on selling them. Wikipedia.