There is much left to be understood about how economies work, but an increasing number of popular books means you no longer have to be a professional economist to get a good grasp of the subject. The distinguished British economist, Diane Coyle, recommends this year's best economics books.
Diane Coyle is a professor of economics at the University of Manchester and a fellow of the Office for National Statistics.
She also runs Enlightenment Economics, a consultancy specialising in the economic and social effects of new technologies. She was awarded the OBE in 2009.
Diane Coyle is a professor of economics at the University of Manchester and a fellow of the Office for National Statistics.
She also runs Enlightenment Economics, a consultancy specialising in the economic and social effects of new technologies. She was awarded the OBE in 2009.
Where are we at with economics in 2016? There seems to be a lot of self-flagellation going on amongst economists. Is this still because—with a few exceptions—no one predicted the financial crisis?
The financial crisis caused a lot of introspection and the internal settlement that a lot of economists reached was that there was a big problem in one area of the subject—namely macroeconomics. A lot of the critiques that you read or hear about economics are actually about macroeconomics: How does the economy behave as a whole? How does that very complex set of relationships—between businesses, individuals and fiscal and monetary policy, what happens with global flows—all hang together? Macroeconomists were the people who, on the whole, didn’t foresee the crisis coming. It turns out that a lot of them were using models that didn’t even have the possibility of crisis in them.
So there was that period of introspection and a lot of us who don’t do macroeconomics felt quite comfortable saying, ‘OK, they got it very badly wrong, we’re getting the flack for that. We think we understand what’s happened.’
“When I hear the critiques of economics I think, ‘But no! We do really interesting, insightful, real world studies! You just don’t know what it is that we’re really doing.’”
This year, it’s all been reopened by the two votes — Brexit and Trump, ‘post-truth,’ and the criticism of ‘expertise’ and ‘elites.’ In both these cases, the analysis pointed to the opposite outcome if people had been voting in their economic self-interest. In the UK, 90% of professional economists said, ‘We don’t know how quickly or how badly, but Brexit is going to harm the UK economy.’ That didn’t get popular traction. It was easily swept aside by people making all kinds of non-credible claims about what the consequences of the vote would be.
So that has made us introspect again — not so much about the content of the subject and our methodologies, but about how we engage with people and how we talk to them. That’s something I’ve always been concerned about. But now, widely amongst economists, there is this, ‘Oh my goodness, we haven’t been getting our message across about how to think about what’s going on in the world.’
“People think economics is all about money and it’s not, actually. We use money as unit of account to compare things, but it could be owls or happy smiles.”
I wonder, also, whether there’s been a bit of, ‘We haven’t thought enough about the so-called ‘Jams’, the squeezed middle, the people left behind. It’s not that there has been no analysis of it, but did we, somehow, not engage with the policy world, or not engage with voters in a way that spoke to those concerns?’
Is the problem of the squeezed middle and people getting left behind a direct consequence of globalization? It’s happening around the world — across countries with very different political systems.
It’s more that globalization and what’s happening in labour markets, and in certain regions, is the consequence of technical, structural change in the economy. That’s what’s driving it all. These are always incredibly unsettled times, in fact, in 2001, I wrote a book, The Paradox of Prosperity, which was exactly about this contradiction — between amazing technical and economic changes coming along, that, in the long run, will make lives much better off, but, in the short term, are hugely disruptive.
“In the UK, 90% of professional economists said, ‘We don’t know how quickly or how badly, but Brexit is going to harm the UK economy.’ That didn’t get popular traction.”
Economic policy has been hopeless at handling labour market disruption. We saw it in the 1980s and 90s with deindustrialization. Since that episode of economic turmoil, there have been households where people have either not been working or in horrible jobs for two to three generations now. The problem is in the interaction between what economic researchers do and think about and the policy world and the wider public. There is something that has gone wrong there.
In the case of Brexit, though, the public didn’t want to listen. There were a lot of people who were aware of the economic consequences, but decided to vote Brexit anyway. They said they were prepared to deal with the short-term economic disruption.
Although they might come to regret that. The people who I think are just reprehensible are the intelligent, pro-Brexit campaigners who said things that either they must have known to be false, or there was a willful ignorance — about how trade deals work, about complex industrial supply chains in the modern world and so on. And if they really don’t know about it, they shouldn’t be holding public office.
On a happier note, there are a lot of good economics books coming out — you said you found it difficult to choose between them. Does this mean economists are doing a better job of engaging with the public?
It’s brilliant to see a lot of very accessible economics books being published now. I get very excited when the catalogues arrive because there are so many great books to choose from. It’s demand and supply: There’s huge interest on the part of the reading public to understand what on earth is happening in the world — and it’s been like that for 10 years now. In this country, we’re seeing the number of economics students continuing to rise, because of that appetite to understand. That’s fabulous. But there is also supply, because there are all kinds of interesting things, as a researcher, to get your head around. I think more and more economists are facing up to the challenge of communicating.
So going through your book choices one at a time, on the key theme of structural change, shall we start with the Robert Gordon, The Rise and Fall of American Growth? We should probably add that it is not just relevant to the US but most developed, Western economies.
This is a fantastic book. It deserves the word magisterial — it’s a big book and it’s going to be one of the reference books about American economic history.
The first half is the history. It’s a survey of late 19th century America onwards and is absolutely peerless as an analysis, focusing on innovation, structural change and the political and social changes that go alongside that. It’s also a fantastic read, so the pages zip by. The second half takes what you learn from the history and applies it to thinking about what’s happening now and in the future.
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Robert Gordon is well known as one of the proponents of ‘secular stagnation.’ This is the idea that we’ve already enjoyed the best fruits of technological innovations and growth. He points to things like electricity, the arrival of mass entertainment, public health, improvements in the way houses were built and clean water in the home as being so fundamental that we’re never going to get those same kinds of welfare gains again.
That’s behind us, and we’ve got to face up to much slower growth in future. The innovations he talks about happening now are frivolous things: Think about Pokémon Go — is that really a life-changing innovation? Obviously not.
This is where I part company with him. It’s obviously true that you’re never going to get those public health gains again.
On page one he mentions the startling jump in life expectancy between 1870 and 1970: from 45 to 72.
That is clearly absolutely transformative. But I think he underestimates the potential of some new technologies to be transformative as well. If we have properly personalized cancer medications, or Alzheimer’s treatments, for example. That’s perhaps not going to change life expectancy, but the quality of life at the end of life, which would be amazing. If there is really the possibility of clean, low carbon emission energy coming along, that will transform our potential on this planet. So I think he underestimates those sorts of opportunities from technology.
“There have been households where people have either not been working or in horrible jobs for two to three generations now.”
Having said that, there are obviously headwinds: demographic change and addressing these distributional issues that have cropped up in votes on both sides of the Atlantic. I don’t want to say, ‘What nonsense! There’s going to be massive growth, let’s be techno-optimists about it!’ — because the social challenges of technology are huge. But the fact that it’s different and that you can’t repeat the old doesn’t mean you aren’t going to get amazing things still happening in the future.
Your excitement about the book, is that a result of his description of these past 100 years of economic history or the way it makes you think about the present?
It’s using history as a way of thinking about the present and about these big-picture structural changes. The other great thing about this book is that Robert Gordon is a brilliant, technical economist. To see someone of that stature in the profession saying, ‘You know what, economic history is really important’ is very healthy for economics.
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When I was a graduate student, we had compulsory economic history courses. But I’m old and that dropped out of graduate programmes soon after. It really ought to get back in there. A good thing about technological revolutions is that, as in any long-term trends, you have to look back at history.
Did economists think for a while, then, that it was irrelevant to read about the past — that economics is just models that hypothesize about what someone is going to do now?
Yes, not anchoring it to the real world in some way. Economics is like many other historical sciences. Like geology or evolutionary biology, it’s hard to do experiments. You’re always looking at historical evidence to provide those experiments for you, especially in macroeconomics that’s about these aggregates and where you’ve got very little information to go on — because you can’t replay history over and over again, as you can in a chemistry lab.
They are doing more experiments in economics now, though, aren’t they?
Yes, you can do them for small things. You can do them for what health intervention will make mothers get their children vaccinated, or, ‘Is it better to spend your money on mosquito nets or on some other bit of aid spending?’ That’s where they have started to be used quite substantially.
“You can’t rerun recessions to see what happens if you do something differently.””
Or in bits of social policy in all kinds of countries. You can do experiments with different groups to see which kind of intervention might work, or you can do it for a short period of time for a particular policy. They are being used much, much more in economics. But for the macroeconomy, you can’t rerun recessions to see what happens if you do something differently…
Let’s look at the next book you’ve chosen, which is The Moral Economy by Sam Bowles. Who is he?
Sam Bowles is somebody who has got a reputation, I suppose, for being an ‘outsider’ economist. He’s been at UMass Amherst for a long time, which has always had a radical economics department. He’s done a lot of work on understanding economic history, institutions and how things actually work in factories — but also thinking about complexity approaches to economics, because he’s also at the Santa Fe Institute.
What’s the Santa Fe Institute?
They do complexity science, which is about the interactions between very large numbers of entities, with non-linear relationships where they affect each other. So the economy is a really good example of what you might think of as a complex system.
He’s got a really unconventional way of thinking about economics, but also, as the title of the book suggests, he thinks of it as a social science. It’s about human relationships, it’s about social institutions, it’s about politics.
“What kind of moral universe does the global economy operate in? And how on earth would you change that from the one we’ve had that creates all those terrible losers from globalization and technology?”
So he’s got this very interesting combination of an unconventional, technical modeling approach and a very humane sensibility. Both of those are non-mainstream. But I sense that his time has come: because of all these issues we’ve been talking about, because of this sense that economics had become unrooted from the real world. This interdisciplinarity, this openness to new modeling approaches, and, above all, this awareness of the importance of moral values, which is what this book is about.
The subtitle of the book is, “Why incentives are no substitute for good citizens.”
In a way, it’s the same territory as Michael Sandel’s book about the limits of markets. Economists do what we do, we think about incentives and how those affect people’s decision-making. Bowles’s argument, in this book, is that this is not really enough when you’re thinking about economic policy. People don’t only make decisions on the basis of economic incentives, and you shouldn’t be expecting them to and analyzing the economy in that way. If you think about the morality of it, your conclusions for economic policy might be very different.
He starts with a great example, of a childcare centre in Haifa in Israel. They were having trouble with parents arriving late for pickup, so they introduced a fine. You’d have thought that would encourage parents to arrive on time, but, instead, they started arriving even later.
Because they thought they were purchasing the extra time. It’s a really interesting illustration and a great example of the fact that the analysis in terms of incentives was wrong in both senses: it was wrong morally and it was wrong factually, as it turned out.
So basically, incentives can backfire and make people behave worse, on occasion. Though not always. He also uses an example that I love because it’s one that I’m personally familiar with. This is the 5p charge for plastic bags at supermarkets, which, in the case of the UK, was introduced just over a year ago. I’m eternally shopping at Sainsbury’s and from seeing a sea of orange plastic bags at checkout before October 2015, I’m suddenly hard pressed to spot more than a couple. 5p per bag seems to have been enough to transform people’s habits.
I’ve always been intrigued by the fact that small changes can sometimes have small consequences and sometimes really big consequences. We don’t know which it will be. Another example I like is the introduction of broadband. I said to someone—who is now an economist at the University of Oxford—that this was going to be amazing, that it would absolutely transform the way we do things. He said it wouldn’t, since we’d already got the internet. Broadband was just going to make it a little bit faster, so there’s a very small change in transactions cost, and that’s not going to change anything. But of course that very small change in the transactions cost—the 3 seconds extra between dialup and broadband—had a huge effect on people’s behaviour. It’s another illustration of the way that simple-minded thinking about incentives can really lead you astray.
Where does Sam Bowles take his argument? It’s all very well to argue that policy shouldn’t just be about ‘self-interest’, but also about ‘moral sentiments’— he uses Adam Smith’s terms. But how do you set about doing that?
He doesn’t have an ABC of how to do policy this better way. It’s quite hard to do that, because it’s so context-dependent. Values will vary from time to time and society to society. So you probably can’t analytically define when you use which kind of approach. But I think the lesson to take away from it is that economic analysis is really powerful and important, but we shouldn’t repeat the mistake of thinking that only what we do is important. I see it as a reminder of the importance of interdisciplinarity and broadening public policy, of thinking about values and about what’s right. It’s really old-fashioned, but Aristotelian virtue ethics…
Yes, he talks a lot about what the ‘Aristotelian legislator’ might do, doesn’t he?
And wouldn’t it be nice if we had some Aristotelian politicians around at the moment…
Let’s move on to your next choice, Capital Without Borders by Brooke Harrington. This is about private wealth managers, who help rich people avoid taxes by managing their money effectively.
This is a fascinating book. Brooke Harrington is a sociologist, not an economist. She spent some years getting the qualification to become an asset manager and immersing herself in their world, travelling around the world and talking to clients and other asset managers. So this is real immersive academic research of a kind that is very rare. It takes so much time—you’re only going to get your one article out of it or your one book—while the incentives among academics are to do lots of little articles to get promotion and recognition. It’s an absolutely fabulous piece of scholarly research.
The insight into how private wealth managers think is completely fascinating.
They think it’s really immoral for governments to take their money. They see themselves as guardians of the assets that they have acquired, from rapacious governments who want to tax them. This massive global wealth has obviously been enabled by globalization, by policy changes, and tax changes. They don’t see there is anything immoral at all about what they’re doing.
“The global rich cannot avoid all contact with society, and at some stage, it all collapses. It would be nice if it didn’t collapse in a cataclysmic way, but I’m not sure that we’re not heading for cataclysm.”
The clash of worldviews that this book illustrated was a complete eye-opener for me. And it makes you wonder how on earth it’s going to be possible to tackle it, because it is global. This money moves around really quickly, it’s very hard to think about how you would control that without some kind of global regulatory structure. And there’s no sign of that happening, or being discussed.
She talks about the example of one country, Israel, which has apparently done something to tackle this footloose money and tax it properly. But, it seems to me, that it will take a sea change in moral worldview, not only among the global rich themselves, but also among people in general. I suppose we’ve always thought, ‘Well they’re very rich, but we’ve got other problems to worry about.’
It takes me back to that point about Aristotelian virtue ethics. What’s your moral universe? What kind of moral universe does the global economy operate in? And how on earth would you change that from the one we’ve had that creates all those terrible losers from globalization and technology? And this attitude that if you’ve got money, not only do you deserve it, but you’ve got a duty to safeguard it from contributing to the societies around which you’re flitting? I don’t know how we make that transition.
Also, because they’re very wealthy, these people have a lot of power to influence how people think.
There’s a self-reinforcing influence on economic policy. They can change the regulations that govern how the economy works. You see it more directly in the corporate sector, where very powerful companies—in tech, in banking, in the oil industry—have much greater access to policymakers. They pay lobbyists and shape regulatory structures in ways that have made Western economies much more concentrated, in terms of market power, than they were 20-25 years ago.
The latest report from the Council of Economic Advisers in the US suggested that that concentration and loss of competition in markets was one of the explanations for the much lower productivity growth than in the past. You get an increasingly parasitic economy, and what Acemoglu and Robinson would call ‘extractive institutions.’
In this very global society, it does seem like the time has come for some kind of global government. Otherwise it’s too easy for someone with lots of money to trot around having a nice life here and there without really paying taxes anywhere. Then there’s Amazon and Apple.
There have been efforts, led by the OECD and others, to plug the gaps in the global system, but there only needs to be one holdout — a holdout tolerated by the big powers. If the Americans had been more gung-ho about it, then that process of cracking down would have gone much further.
But it is, in the end, going to fall down. Because if there’s no tax base, and you don’t have public services and you don’t have infrastructure, then you get the kind of political reaction that we’ve been seeing. You get roads and airports that don’t work. The global rich cannot avoid all contact with society, and at some stage, it all collapses. It would be nice if it didn’t collapse in a cataclysmic way, but I’m not sure that we’re not heading for cataclysm.
But the book is all about the really clever lawyers and accountants they have. It’s just very easy to avoid taxes. These very clever people—people in the parasitic professions of law and accountancy—help it happen.
Donald Trump is a prime example isn’t he? It looks like he may not have paid taxes for nearly 20 years. It’s too ironic. There’s the much-maligned liberal elite who would like to see more done about inequality, and Donald Trump is the one who gets elected.
As a part-time academic, if anybody accuses me of being ‘elite’ I think, ‘Have a look at my bank account please!’
So the last two books on your list of best economics books of 2016 are both about markets. Shall we start with The Inner Lives of Markets? I really enjoyed this book because it takes you through the work of many eminent economists — people like Kenneth Arrow and Jean Tirole. It explains what some of these Nobel prize-winning economists have worked on, which has always been a mystery to me, as a non-economist. They’re not actually predicting the future of the world, but figuring out very specific things, like how best to conduct an auction.
This is my bit of economics, and to me, this is what economists do. When I hear the critiques of economics I think, ‘But no! We do really interesting, insightful, real world studies! You just don’t know what it is that we’re really doing.’ So I love this book for explaining, so clearly, a really important area of economics where there has been huge progress in the past 20 years or so.
There was a book that came out in the 1980s—called Reinventing the Bazaar, by John McMillan—which is a wonderful description of how different kinds of markets work, from the Dutch flower markets to what happens in bazaar negotiations. I see this book as a successor to that work, looking at more modern applications of understanding market structures, how the competition process works, how you can design markets so you get better outcomes out of them. It’s really well written, really clear, completely understandable to the non-economist and a beautiful description of a really important and radically advanced area of economics.
Give me an example from the book.
The Al Roth kidney exchange is one that leaps to mind. There’s an area called ‘market design.’ It’s used a lot in designing online marketplaces now, but this came about from the work of Al Roth — another Nobel prize winner.
He started looking at what he called ‘repugnant’ markets, where you don’t want to use money. Selling human organs, for example, we think of as inappropriate and immoral. Morality and the yuck factor come into it, we don’t think it should happen — even if we would get more economically efficient outcomes out of it. You’d get people who really need the money, and people who really need the kidneys.
Roth said, ‘Can we do this without the money? Can we use a market process to get a better match without using money?’ And he designed the New England kidney exchange programme. His algorithm, in effect, works out better ways to match people in need of kidneys with people who have one to donate, without involving any money. By creating these matching chains, he has increased, by quite a large number, the number of kidney transplants.
So it’s using the power of markets to convey information about what’s needed and what’s available and what kind of exchange rate you would need to get those transactions to happen: without being immoral about it, because there’s no monetary incentive distorting the ethical imperatives that are involved.
That matching process has now become widely used, and you can think of many more applications for it. It’s used to match applicants to universities or medical schools to the schools they want to go to. There’s a very nice example of how dating websites can use this kind of thing. It’s incredibly powerful.
The book’s first chapter is about how they used cigarettes to trade and survive in a German POW camp, which I think illustrates how accessible the book is.
Markets are really about information, not about money. People think economics is all about money and it’s not, actually. We use money as unit of account to compare things, but it could be owls or happy smiles. It doesn’t matter that it’s money. These sorts of markets and approaches to markets take the money out of the picture. You can think about what information is needed, and how that information flows.
Finally let’s talk about you last book, Matchmakers: the New Economics of Multi-Sided Platforms.
This is related, because these multi-sided platforms and how we understand them rely very much on market design mechanisms and the work of Jean Tirole. By platforms we mean things like Uber and AirBnB. But there are lots of other examples emerging as well. It’s becoming a very popular business model to try.
The one thing that was needed was almost always internet access, so smartphones were very important. The other thing is the matching algorithms, because rather than being a traditional business—where you have suppliers at one end, you buy the components and do something to them and then sell them to the customers at the other end—they act like an exchange, matching the suppliers on the one hand and the customers on the other. They capture what are called ‘network externalities,’ where, if you are a supplier, the more customers there are, the happier you are, and if you are a customer, the more variety there is to choose from, the happier you are.
“Obviously there are all kinds of issues raised by these platforms, but there’s a sort of hysteria on both sides about them which is, I think, unhelpful.”
So if you can bring those together, you create a lot of value. You create value for the suppliers because they’ve got more demand to meet and you create value for the customers because they’ve got much better choice and much better prices, there’s more competition. And you create a profit for the platform as well. So they’re incredible value creation machines when they work well.
But they’re very hard to get off the ground, because you’ve got to keep your supply and demand in balance. That’s quite tricky. You don’t want to sign up too many people on one side, if you don’t have enough people to buy from them and vice versa. So they all have this really difficult period, where it doesn’t look like very much is happening. Then, they get to a critical point and they can grow extremely quickly. Then, of course, they become really high profile and unpopular.
And get taken to court.
It’s really obvious that they’re fantastic for consumers and the fact they have millions of consumers speaks to that. All the concerns about ‘Is this really a good deal for the suppliers on the other side?’ — you have to think about the counterfactual. What would be happening to those suppliers otherwise?
People don’t have to drive for Uber, so how good the deal is for them depends on what outside options they have. In the UK, most Uber drivers switched from other minicab companies. They’ve got a minicab license and they could switch back. So, as long as they’re willing to drive, it seems to me they’re getting value out of it.
Obviously there are all kinds of issues raised by these platforms, but there’s a sort of hysteria on both sides about them which is, I think, unhelpful.
But there are more and more of them. It’s a very successful business model when it works. There are real challenges for non-US companies because when you’re going through that period—before which you can tell whether you’re going to be successful—you eat money. And only the US has had finance of scale to turn these into very large businesses. If you can get to be big enough, you can become global, because there are huge economies of scale in this. So there’s a challenge for companies in any other country in getting to the scale in which they can compete with the American titans.
That’s not just because of the size of the US market, it’s because of the financing that’s available for startups?
I think it’s the finance — because you can enter other markets globally. The only successful competitors have been in China, so the scale of the home market is obviously important, but they’ve also had some deep pockets behind them. In the UK, Deliveroo has been the most successful in terms of raising finance and profile. They raised something like GBP150 million, whereas Uber has raised billions of dollars.
So Matchmakers is a nice business-economics book. It describes how the business model works, it gives lots of examples, it talks about the challenges in terms of regulation and competition. If you want to start to understand the issues raised by these kinds of businesses, it’s a really good, clear place to start.
At some point they mention that the classic, Economics 101 that they studied at university didn’t cover this, because it’s all so new.
It’s all new, and that’s what Jean Tirole’s work was all about. If you use your basic Econ 101 intuition, you’ll misunderstand what’s happening in the market. For example, most often, these companies have asymmetric pricing: so the suppliers will pay the platform and the consumers will get it free. That looks like you might be doing predatory pricing, or the kind of cross-subsidy that would make competition regulators really worry in conventional markets.
But it might well be that the platform, as a whole, is very competitive and it’s just got this asymmetric pricing structure. So how you think about market definition and the signs of competition or lack of competition is different.
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