Event Loss Swaps

In an earlier earlier post I mentioned the similarity of Social Policy Bonds to Catastrophe Bonds. Readers might be interested to hear of an initiative by Deutsche Bank which, according to the Financial Times, “has begun making two-way markets in what it calls event loss swaps (ELS), which work in a similar way to credit default swaps and allow investors to buy or sell protection against insurance industry losses from large natural catastrophes.”

These derivatives, as with catastrophe bonds themselves, do not a seek to modify behaviour, but in principle there is no reason why they need not encourage a movement toward projects aimed at preventing the losses resulting from those ‘large natural catastrophes’. With larger funds at stake, and a broader definition of catastrophe than insurance losses, cat bonds and their derivatives could be equivalent in effect to Social Policy Bonds.

Don't rely on government

One of the disadvantagess of a large public sector is that it crowds out our natural, organic, bottom-up way of doing things. Whether it be care of the elderly or the sick, maintaining our physical environment or defining our cultural identity; the temptation for many of us is to let government do the work. This is not all bad: there are things that only government can do efficiently; but it does tend to reduce our own faith in our problem-solving abilities. It’s also an excuse for laziness in the face of urgent challenges. We think that, since we are giving more than a third of our income to the government, we don’t really owe society very much more.

Unfortunately, government inefficiency is legendary, and the recipients of its largesse (wealthy landlords, multinational corporates, the military etc) are not always those in most urgent need. But if our priorities are significantly different from government, we can actually do something to solve our social and environmental problems – even if we don’t know exactly how.

Philanthropists can issue their own Social Policy Bonds to achieve a specific goal with which they identify closely. They can back the bonds with their own funds, to be placed in an escrow account. Once their objective has been achieved these funds would be used to redeem the bonds. The philanthropists, once having got the ball rolling, could solicit funds from members of the public, who could contribute directly into the escrow account, and so increase the incentive for the targeted objective to be achieved quickly.

For those interested, I have written a small handbook, taking as an example female literacy in Pakistan: click here for a pdf file on how philanthropists could issue Female Literacy Bonds. I have tried and tried to communicate with philanthropic organizations and publications directly but, understandably perhaps, they do not seem to respond to my unsolicited emails.

What politicians think of us

On the rejection of his proposed constitution for the European Union:

It was not France that said ‘no’ to the constitution, it was 55 per cent of French people. Valery Giscard d'Estaing, quoted in the Brussels Journal.

There's a lot that can be read into this that one sentence: the arrogance of a member of the French political elite; that elite's disdain for voters; the concept of a France that is not some representation of a vision shared by the French, but one that is actually in conflict with the French people's wishes. I will just say that the statement represents the logical end point of a policymaking process that has nothing to do with outcomes that are meaningful to real people. The EU constitution on which the French voted was largely incomprehensible. More generally, policymaking is an arcane excercise to the non-specialist, where decisions are about changes to institutional structures or funding arrangements, and are driven by ideological concerns or the need to buy off various interest groups. Matters, in short, that have little relevance to the outsider. Indeed, they help create and widen the distinction between outsider and insider.

Giscard is the consummate insider. The outsiders used to be those who didn't bother to vote at all. But as far as Giscard is concerned, even those who do vote should be considered outsiders if they don't agree with what he and the other members of his priesthood think is best for us.

Killing with kindness, killing with complexity

Not, in this instance, literally:

More than five million Britons now rely on state aid to live and the number of younger people claiming sickness benefit is higher than anywhere else in the industrialised world, a major new study has found. ... Around £64 billion per year — more than 10 per cent of all public spending — is handed out free of obligations. Spending on benefits, not including pensions, amounts to nearly £80 billion a year, more than is spent on education and twice as much as is spent on law and order. ... The central problem has been the way [Finance Minister] Mr Brown has structured the system to keep a strong central grip on welfare. His design for tax credits means that the UK has the highest penalties for increasing income or increasing hours worked – the poverty trap – of any developed country. Five million Britons on state aid 'Daily Telegraph', 27 November

Anybody who's been on a vacation of more than a couple of months will be familiar with the problem. We return and, after switching the power back on, we have to re-learn how to set and use the finer features of the microwave, the telephone answering machine, the VCR or DVD recorder...and so on. All this electronic equipment was designed by specialists for people (apparently) who will be using it every day and who have the time and energy to consult the voluminous instructions if they take a break.

It's similar to the composers of modern serious music, whose audience consists entirely of other musicians, or the highbrow novelists who write exclusively for the novelists on prize committees. And so it is with the welfare industry. The experts who construct welfare policy are several stages removed from their supposed beneficiaries. The econometrics is elegant, the proliferation of new features is technically impressive, but the result of all the complexity - if the policymakers but cared about it - is a fiscal, social and pyschological disaster.

Here's an idea: why not say, explicitly, what welfare policy is designed to achieve? Express your targets in terms that can be easily monitored and that are meaningful to real people. And if you don't know how to achieve your stipulated goals, don't be embarrassed: just contract the whole process out to a motivated and efficient private sector. Perhaps the UK Government is actually coming round to this way of thinking. The 'Telegraph' article continues:

The report proposes the outsourcing of welfare provision to voluntary and private sector organisations which would be paid on results, in particular for getting claimants into sustained employment.

Milton Friedman and the public sector

Since 1989, the year Ronald Reagan, the American president most in tune with Mr Friedman's ideas, left office, and the Berlin Wall came down, America's government has grown just as fast as its economy—an economy which has barrelled along for much of that time. The state's slice of GDP is forecast to be 36.6% in 2006, up from 36.1% 17 years ago. The public sector has also swollen in Europe's three biggest economies—Britain, France and Germany—and in OECD economies as a whole.

This excerpt from an editorial in the current Economist reflecting on the achievements of the late Milton Friedman. The point being made is that there is still a lot of work to be done. I don't quite share the assumption that the rising influence of the state is necessarily bad. Sure it means that people have less to spend on what they themselves want but might it not be that they want more spending on public goods and services of the type that only government can supply? Sadly, the answer is probably 'no'. Governments keep getting bigger largely through deception, obfuscation and inertia. Deception, in that it knows and has known for a long time that its subsidy programmes do nothing to help the people whom they are represented as benefiting. So massive farm subsidy programmes, sold as essential to maintain family farms, actually do no such thing: they overwhelmingly go to the largest landowners and massive agribusiness corporates. Obfuscation, in that government (with very few exceptions) does not target explicit policy outcomes, such as universal literacy, low crime rates, or basic health or employment goals. Instead it allocates public funds according to criteria that have little to do with people's considered wishes: media appeal or political expediency. Its decisions concern spending, rather than publicly accessible outcomes. Existing institutions, especially government agencies, and their ways of doing things are taken as a given.

And inertia, because many government programmes are self-entrenching. Subsidies to corporations, or protection for public sector workers, strengthens the forces of resistance to any meaningful reform. The Economist editorial goes on:

Governments are as convinced as ever that they know best how to spend their citizens' money.

But it's just as true to say that they may not be so convinced; they may see quite clearly that socially unjust, economically wasteful, and environmentally destructive subsidies (for example) are stupid. It's just that they lack the courage to end them.

It doesn't really matter...

...what is causing climate change. By the time we definitively identify the cause it may be too late to do anything about it. From a letter to the [UK] Guardian by Piers Corbyn of Weather Action:

The global warmers' claim that current extra CO2 causes warming which gets dangerously magnified through the greenhouse effect of extra water vapour in the atmosphere, consequent to the temperature rise, also fails. The sea absorbs extra CO2. Furthermore, increased transpiration-cooling by enhanced growth of plants, which is caused by extra CO2, cancels out the extra greenhouse warming of that same CO2. Increased greenhouse heating due to doubling CO2 is 3.7 watts per sq metre. This is negated by about the same amount of enhanced transpiration-cooling of plants, all of which grow faster in extra CO2. Therefore there is no CO2 driven net heat flow and surface temperature rise. Temperature and climate change in our epoch is therefore driven by other factors, especially solar particle and magnetic effects.

Fine: there appears to be reasonable doubt about whether greenhouse gas emissions cause climate change. Should we therefore wait several decades before mitigating the effects of climate change or taking steps to stabilise the climate? In general, do we have to find root causes of a problem before we try to solve it? We can do both, but allocating resources between the two courses of action needn't be done at the initial stages. We strongly suspect, for instance, that smoking causes cancer. But we don't give up all research into prevention and cure of cancer until that particular causal relationship has been proven. Similarly with climate change: let's focus on mitigating its worst effects, however caused. And let the market decide, via Climate Stability Bonds, how to allocate scarce resources between prevention and mitigation: something that the market, with its built-in incentives, can do far more adaptively and less divisively than the absurdly expensive, ineffectual bureaucratic testimony to 1990s science that is Kyoto.

Subsidising environmental destruction (continued)

A reminder: we're not just destroying the planet, but we're subsidising its destruction:

House Democrats also are shying away from tampering with more than [US]$1 billion worth of oil- and gas-related tax breaks, enacted last year. Source: Washingpost.com

Compliance costs discriminate against small business

A revealing graph from the current Economist:




I don't know about the 'tax burden' element, represented by the height of the bars. I can't imagine that Italian companies pay nearly 80 per cent of their actual profits to the government. Eighty per cent of declared profits maybe. But the figures in the rectangles, which is the number of hours per annum that businesses have to spend preparing and filing tax payments are interesting. They give some idea of how complex tax (and regulatory) regimes tend to favour large businesses over small. They range from about 80 minutes per week for businesses in New Zealand and Switzerland, to more than 11 hours per week in Spain. Time costs of compliance with other regulations, such as health and safety concerns, employment documentation etc, are likely to be equally high. Such costs obviously fall disproportionately heavily on smaller businesses. In fact most government interventions, however well meaning and high sounding in principle, tend to favour the large and global at the expense of the small and global.

Dirty energy is subsidised too

This week's 'Economist' says (Green Dreams, 16 November) that '[a]lmost all clean energy ...relies on government subsidies to make it competitive with fossil fuels.' Recent figures are hard to find, but in 1997, the World Bank estimated annual fossil-fuel subsidies at US$ 48 billion in twenty of the largest developing countries and US$10 billion in the rich countries. (Source) Add in taxpayer-financed road construction and non-pricing of the negative environmental impacts of fossil fuel consumption, and it's clear that dirty energy too is heavily subsidised.

The same article also says that 'government subsidy is a wobbly foundation on which to build a business'. I wish that were so. But subsidies on such a large scale are self-entrenching: they fund the very interest groups that are so successful in lobbying against their withdrawal.

I don't know

Every year, 35,000 children in England - 6% of all 11-year-olds - leave primary school without basic literacy skills. This casts a shadow over their own future and has huge costs for society as a whole. Rapid Response, 'The Guardian', UK, 7 November

[Christopher Monckton] has a degree in classics and a diploma in journalism and, as far as I can tell, no further qualifications. This is a dazzling debunking of climate change science. It is also wildly wrong, George Monbiot, 'The Guardian', 14 November

I know even less about education than I do about climate change. But I know that when policy is being made in both areas outcomes are almost irrelevant to the debate. Allegiances are bought and sold, insults are traded, activists use their support as a quid pro quo for more power and deep down, at the very heart, is either personal ambition or - which is very much the same thing - the drive to validate an ideological position. The losers are those of us with no input into policymaking; that is, ordinary members of the public and our children. While the politicians and think-tanks debate local control of schools, literacy standards suffer. While they debate greenhouse gas emissions, the global climate may or may not be changing catastrophically and irreversibly.

Policies and ideologies; ambitions and systems; all should be subordinated to targeted outcomes. It doesn't matter who controls schools, as long as basic educational outcomes are achieved. And it doesn't matter what happens to greenhouse gas emissions, as long as the climate is stabilised. Some sort of humility is called for: the ability of policymakers to say 'I know what I want, but I don't know how to get there. Let the private sector decide: that's what it does best.'