The Zig Zag

Cheating and Human Capital

From Brian Micklethwait

It was about Chinese students lying about their qualifications in order to get into British Universities.

Harry Hutton (esteemed writer of this hugely entertaining and clearly much frequented blog) added the following very interesting comment to my posting:

It's a big problem with the IELTS exam in mainland China – people turn up to do tests for other people. They also come in with live mobile phones, to record the script. But there is zero cheating in Hong Kong. I don't know why this big difference, but it is so.
Cards on the table, I do not know why there is this big different either. And never having been to – or for that matter anywhere near – Hong Kong, or mainland China, I am a lot less qualified even to guess than Harry Hutton is.

However, I choose to offer a guess nevertheless.

Hong Kong has been a rampantly capitalistic economy for the last half century, and rampantly capitalistic economies make people more honest.

Oh not in the short run, but they do in the long run. People learn, at first the hard way, and then by being eloquently taught by the people who did learn it the hard way, or who already knew it and whose experience confirmed it, that honestly pays off, in the long run. In the short run, you may get some small or even big advantage by cheating. But in the long run, the damage you risk doing to your reputation for honesty by cheating, whether at a game, in the market or in an exam, is a risk not worth taking.

The biggest single reason why someone is unemployable, if he is unemployable, is that he is dishonest. Incompetence can often be corrected, with luck and application. Ignorance, ditto. And if a basically well motivated and honest person simply cannot master the first job you give him despite days or weeks, or even months of honest effort, why then, you can find him another job, if you have one for him. If not, you can enthusiastically recommend him to someone else who can, for his honesty if not his competence. (Remember: your recommendations have to be honest too!) But dishonesty is a deal breaker. Well, it would be. Dishonesty means that you break deals, so why would anyone want to make a deal with you, if that is what you do?

To put all this in modern econmicspeak, in a society in which people are entitled to shun you and have no obligations towards you that they do not freely accept, what is now called 'human capital' grows rather than shrinks.

I vividly recall participating in a radio panel discussion in which our chairman, a prmoinent newspaper editor, said that free market capitalism was all very well at accumulating capital of the physical, steel and wheels, bricks and mortar variety, but that when it came to 'moral capital', it consumed the stuff, and eventually exhausted it. This is the direct opposite of the truth, which is: that free market capitalism is not only good at encouraging the accumulation of physical capital, but that it is especially good at encouraging the accumulation of moral capital. It is the collectivist, politically dominated societies (such as mainland China), the societies in which how you are paid is quite separate from what sort of character you are or worse, are paid according to how nasty you are willing be, that consume moral capital.

Moral capital is no triviality. It does far more than merely decorate the cake of society with an icing of decency. No moral capital means no cake to put icing on in the first place. A society where people who say that they will ring you back do ring you, in which people turn up for things when and where they say they will turn up, who declare that (for instance) a structure is safe only if they really think that it is safe, is a society that is going to function a whole lot better than one where people are not to be trusted, to keep an appointment, or to express an honest opinion regardless of how much money is being waved under their noses to say something dishonest.

Banks, to take a particularly portentous example, simply cannot work at all unless the people who run them are regarded as trustworthy, and the only way that can happen for any length of time is if they actually are trustworthy.

I know, from reading about eighteenth and nineteenth century Britain, that everyone who was involved in any sort of trade or business – not just those who could 'afford to be honest' but everyone – took their reputations for honesty and square deal very seriously. They could not, that is to say, afford not to be honest. So, why should it be different in Hong Kong now? Hong Kong, I am guessing, has recently been a very Victorian sort of place. Long may it last.

This tradition of honest dealing survives only very incompletely in Britain, and this is quite rightly regarded as a major threat to Britain's economic future. This is because, although wise enough to impose wise economic policies upon Hong Kong, we were not wise enough to impose similarly wise policies upon ourselves.

The Currency of Grades

An interesting article by Steven Schwartz on the currency of Grades and the problem of grade inflation at A level:-

“Sir Thomas Gresham, financial adviser to Elizabeth I, is remembered for his "law" of monetary economics - bad money drives out good. According to Gresham's law, if two kinds of money have the same denomination but a different value (gold coins v banknotes, for example) the paper money will drive the gold coins out of circulation because people prefer to pay their debts with the low-value paper currency and hoard the gold coins. The solution is to reform the currency so that there is only a single standard.

Academic grades also appear to be subject to Gresham's law - bad grades drive out good. The process begins with grade inflation. Academic grades are intended to be an impartial, albeit imperfect, measure of how well a student understands a subject. Good grading is careful, accurate and allows universities and employers to make meaningful distinctions among students. Good grading also allows students to assess their progress.

Grade inflation occurs when marks go up without any corresponding increase in academic achievement. Because the top grade is fixed, inflation causes grades to bunch up at the upper end. This year, more than 22% of students received an A grade at A-level. These students represent a large range of performance. Those at the top end know a lot more about their subject than students who just squeezed into an A. Unfortunately, this information is lost when all students are given the same mark. As grades continue to inflate, the amount of information they convey decreases. “

This is fine as far as it goes but it confuses the way in which “grades” circulate.

Gresham’s law is only really applicable to commodity currency, but A Levels are more like a fiat currency – their value is derived from the fact that government “decrees” that they be acceptable to universities. So Gresham’s Law does not really apply to A levels – it isn’t bad grades aren’t driving out good grades but rather the government that is imposing them on the education sector.

Thus the problem with A level grades is essentially the same problem as exist with all fiat monies – there’s always a temptation to inflate. Now with fiat money, markets and rules can remove this temptation from central banks. In the education sector. similar rules (and markets) can be imposed on grades, but only if they exams are very well defined (which often means multiple choice). This is the route typically followed by the US system.

However A-Levels by their very nature, involve a less rigid marking system which permits grading that is more reflective of students abilities. The downside of the system however is that it’s virtually impossible set enforceable and time consistent rules in governing the marking. The solution is surely therefore much same as when a banking system looses credibility – replace it with a commodity currency. In relation to grades this means a system that marks by rank i.e. the top 10% get A’s. Commodity currencies, suffer the problem that exogenous events, such as gold discoveries, can cause inflation – and in the same way, commodity grades can induce grade inflation if one year a particularly stupid cohort of students takes the exam. While this is unfair to students in other year, in the UK it’s hard to see how the pool of ability can vary by much from year to year – which makes it the ideal commodity to back a grade system.

So if you’re going to choose a flexible exam system, fiat grades are unworkable and commodity grades would seem to be the only option.

Winging Poms

Interesting:-

“Western Australia has passed legislation that allows racially charged terms such as pom, wog and ding to be used without fear of prosecution.
The word wog, while deeply offensive in Britain, in Australia refers to people of Mediterranean descent and is bandied around without embarrassment - as in the television comedy Wogs Out of Work. A ding is someone of Italian heritage.
Western Australia's attorney general, Jim McGinty, said that while the state would punish violent race crimes, it would be wrong to outlaw "light-hearted" references to a person's ethnic background..
Mr Thomason, 56, who emigrated from Birmingham to Perth in 1970, said Australians regarded pom-bashing as a joke. He added: "They can give it out, but they can't take it. They hate it if you call them convicts or Skippys."

Said Thomason, displaying a bite that would have done Oscar Wilde proud.

Time Management Tips

Here's some Time Management Tips from John Quiggin:

"My third tip is particularly relevant for people prone to distraction, which obviously includes all of us here. My core business is producing academic journal articles (and the occasional book). In this business, it’s easy to drift along, reading lots of interesting stuff, making notes, and imagining you are making progress, but not actually getting anywhere. So in homage to Taylor and Stakhanov, I discipline myself by setting word targets. I try to write 500 to 750 words of new material every day. 500 words a day might not sound much, but if you can manage it 5 days a week for 40 weeks a year, you’ve got 100 000 words, which is enough for half a dozen journal articles and a small book. So, that’s my target. If I haven’t written enough one day, I try to catch it up the next day and so on. Blog posts don’t count, of course, though occasionally I can get myself an easy day by reworking blog material into academic output. This may sound crass, and it’s not appropriate if you’re a creative genius, but it works pretty well for me, and I think would work well for others in similar circumstances. "

Excellent Advice - now I've got only 482 words to go today!

Turkey and the EU

And excellent article on Turkey’s future membership of the EU:-

“That Turkey will change the EU for the better is clear — the bigger the Union, the greater the centripetal forces within it, and the more difficult it will be to create a United States of Europe ruled from Brussels. When the former French president Valéry Giscard d’Estaing, author of the controversial new European constitution, said that Turkey’s accession would be ‘the end of Europe’, he meant the end of an introspective, protectionist, over-regulated, Franco-German-dominated Europe. That’s exactly the reason why the French — with the rather odd exception of President Jacques Chirac — continue to oppose Turkish accession, and why British prime ministers have consistently supported it.

Sadly, the deal doesn’t look so good for Turkey itself. As Daniel Hannan has so forcefully argued in these pages, countries like Iceland and Norway, which have chosen to stay on the fringes of the Union but not be in it, can reap great economic benefits. This is especially true of Turkey, which, unlike the above-mentioned countries, has the added competitive advantage of a huge, cheap labour market. Turkey has the best of both worlds — it is in Europe’s customs union, and can trade freely with the EU while remaining outside its constrictive practices such as the social chapter, the 48-hour week and the crushing raft of health and safety and environmental legislation which make it so expensive to do business inside Europe. Turkey is ideally placed to be Europe’s outsourcing paradise.”

The fact is that the countries that joined the EU late saw their rates of growth slow, as the graph below illustrates. Given that Turkey already ahs access to EU and EFTA markets beyond the carrot of structural adjustment funds, its hard to see what the EU ahs to offer Turkey beyond reproaches, regulations and meetings

Guardian Letter Writing

If you're participating in Tim Blair's Guardian letter writing campeign please feel free to use this comments thread while his is down.

It Feels Different

Morgan Stanley’s Stephen Roach has got the “feelin”:-

“It feels different in Europe. The pain of stagnation has evoked a powerful backlash that is finally driving meaningful structural reforms. Europe has nowhere to go but up, and that long and arduous journey now appears to be under way. America, by contrast, is at the top of its game -- coming off eight fat years the likes of which most leading economies have rarely seen. But now burdened with an unprecedented shortfall of national saving, a record current-account deficit, and a massive overhang of debt, it will be exceedingly difficult for the US to keep the magic alive. At work over the next several years could well be the beginning of a stunning productivity convergence between the US and Europe -- a shift that could have profound implications for the global economy, financial markets, and currencies.”

Essentially this is a just regression to the mean argument – US productivity growth was above mean for the last decade, European was below so statistically we’d expect them to converge in the future. Unfortunately Stephen over looks a couple of points – based on hourly figures, Europe has already converged to US productivity levels, or in the case of some countries such as France, exceeded them.
The real problem is the Europeans work less than Americans and so have lower GDP per capita. The reason? As Ed Prescott has argued, it is higher European taxes, not productivity, that lowers the European labor supply. For convergence in GDP per capita to occur, its labor supply that needs to increase and taxes would therefore have to fall. But an increase in the labor input would, by conventional economic theory, lower not raise European productivity levels. So Methinks Morgan Stanly has some stock it wants to unload.

Galton's Ox

Chris Betram at Crooked timber are again asking the old question whether voters are competent to decide the question of the presidency. H e basically argues that the provided voters are right by a 50 + epsilon % of the time then voting will deliver the correct solution, even for relatively small populations (less than a million). Of course the converse applies if on 50 – epsilon % get it right then we get the wrong result almost for sure.
This is just a the theortical underpinning of the example of Galton’s Ox, as told by James Surowiecki:-
“When eight hundred people submitted guesses as to the weight of an ox on exhibit, Galton ran them through a series of statistical tests. He assumed that the average guess of the group wouldn't even be close. ("After all, mix a few very smart people with some mediocre people and a lot of dumb people, and it seems likely you'd end up with a dumb answer.") But the crowd's judgment was unexpectedly accurate. The ox weighed 1,198 pounds, and the crowd's guess averaged at 1,197 pounds.”
But the real moral of the story is not that the crowd got it right but rather the surprise it gave Galton – who was in part obsessed by the idiocy of the general population. So the real question is not whether we can expect voters to get it right, but rather, why after 100 years after the theory was formulated, do intelligent academics still think that they’re smarter than a ship of fools?

Who Do Computers Appreciate?

Waste of Paper of the Week Award goes to Michael J. Geske, Valerie A. Ramey and Matthew D. Shapiro who have written a paper asking “Why Do Computers Depreciate?”. I dont know, because people use them to write rubbish?

There’s two ways we could answer this question 1) Read all 47 pages Ramey's ramblings or 2) Ask the spotty sales assistant at Computer World. But of course you won’t get a research grant for 2).

Good Bubbles

Jason Potts has written an interesting article on the benefits of bubbles. As he notes:-

“England was wracked with bubbles in the early 19th century (for example, canal bubbles in the 1810s, railway bubbles in the 1840s, holding-company bubbles in the 1860s, and many others between). But by the end of that century England was the fastest growing industrial economy in the world. The US had railway bubbles in the 1860s, technology bubbles in the 1890s and, by the 1920s, was the new fastest growing economy in the industrial world. Australia had property bubbles in the early 1980s, .nancial bubbles by the late 1980s, and a few years later entered a decade long period of structural transformation and growth that exceeded the OECD average during that same period. The dot.com bubble burst over five years ago, and maybe its real effects are only just being felt. We now know, for example, a lot more about the value of software and new business models and, moreover, about how the internet works as economic infrastructure. The surge of diversity and lessons learnt from what didn’t work, as much as from what did, has cleared up a lot of uncertainties that previously were obstacles to real long-term investment in information technology. “

And thus:-

“A bubble is good for growth because it creates a low cost environment for experimentation. The results of these experiments may continue to fuel the evolving economy for decades to come. Real bubbles cause long run growth in economic systems that can withstand them.” “

This probably doesn’t mean that government should start encouraging bubbles any time soon but rather that they should be wary about pricking them – as the Bank of Japan discovered in the 90’s. Still the article makes the point that a good theory about how “real” bubbles may benefit the real economy is long overdue.

My Portfolio for Monday's Nobel Prize

Why Subsidize Innovators?

A recent paper by William Nordhaus “Schumpeterian Profits in the American Economy: Theory and Measurement” looks at innovations and its returns to consumers and producers. Café Hayek notes that:-

“In it he estimates that innovators capture a mere 2.2% of the total “surplus” from innovation. (The total surplus of innovation is, roughly speaking, the total value to society of innovation above the cost of producing innovations.) Nordhaus's data are from the post-WWII period.

The smallness of this figure is astounding. If it is anywhere close to being an accurate estimate, the implication is that “society” pays a paltry $2.20 for every $100 worth of welfare it enjoys from innovating activities.

Why do innovators work so cheaply? One possible reason is alluded to by Nordhaus himself: excess optimism.”

But that is the problem with the article. Norhaus claims that:-

“In this study, we take a slightly restrictive definition of Schumpeterian profits. These comprise only the profits that exceed the risk-adjusted return to innovative investments.”

In fact, if, as seems likely, innovators are risk loving with respect to the returns to their innovations, this measure is going to over estimate not under estimate the super normal returns to innovation.

But the real problem with this article is the reaction it typically provokes. Tyler Cowens gut response is

“To some extent I advocate favorable tax and legal treatment for innovation.”

But this confuses fairness with efficiency. Innovators don’t capture all of the returns to their inventions – that is “unfair”. Innovators are over optimistic and so tend to “over invest in innovation” – that is economically inefficient. So perhaps we ought to be thinking about taxing rather than subsidizing innovation? More feasibly, it makes sense to think about restricting intellectual property rights in order to curb the excessive over optimism of innovators. After all most innovation registered at the patent office is an absurd waste of both the innovators and patent attorneys time

For another view see “The Case against Intellectual Property”

If it Can’t Go On It Won’t Go On.

It looks like action on the growing international imbalances in the world economy has been postponed:

“ China resisted pressure by industrialised countries to liberalise its currency regime at this weekend's meetings of the International Monetary Fund and World Bank. China resisted pressure by industrialised countries to liberalise its currency regime at this weekend's meetings of the International Monetary Fund and World Bank. Jin Renquin, China's finance minister, and Zhou Xiaochuan, the central bank governor, attended a working dinner of the Group of Seven industrialised nations on Friday, but maintained China's previous stance that it needed more time before it could consider introducing greater flexibility into its exchange rate. The dinner was the first time that China, now the world's seventh-largest economy, had attended a G7 meeting. G7 countries praised the quality of debate and the openness of the Chinese officials, but little progress was made. “

It seems that times were to good to do something

“China resisted pressure by industrialised countries to liberalise its currency regime at this weekend's meetings of the International Monetary Fund and World Bank. Jin Renquin, China's finance minister, and Zhou Xiaochuan, the central bank governor, attended a working dinner of the Group of Seven industrialised nations on Friday, but maintained China's previous stance that it needed more time before it could consider introducing greater flexibility into its exchange rate. The dinner was the first time that China, now the world's seventh-largest economy, had attended a G7 meeting. G7 countries praised the quality of debate and the openness of the Chinese officials, but little progress was made. “

Whats the saying about making hay while the sun shines? This looks like an opportunity missed.

The Political Price of PPP

Responding to a friend’s complaints about the exchange rate, where, oh where has the dollar gone ask Jane Galt.

In fact the Pound is probably normally over valued against the dollar because a strong exchange rate is a more popular policy in the UK. Why? Well if you’ve lived there you’ll understand that at least 2 foreign holidays a year are virtually de rigueur - thus the British take about 32 million foreign holidays a year while the whole of the US takes just 19 million. So an exchange rate as weak as the dollar is today, while just an interesting anecdote to most Americans might be politically unacceptable in Britain.

Another Prick in the Oil Bubble

Frank P. Leuffer thinks there may be an oil bubble too:

“Oil prices have soared from $32 a barrel at the beginning of the year to an all-time high of $50 a barrel at the end of September largely on the fear of supply outages stemming from terrorism and a series of odd events. Interestingly, virtually every fear so far has gone unrealized.” Terrorism has not removed a single barrel of oil production. Oil output in Saudi Arabia.. non-OPEC production has been higher and less volatile than in the past……….Recently, the growth in oil demand has begun to slow in response to high prices and slower economic growth…… And what will cause oil prices to fall? Three factors will put downward pressure on oil prices. First, a continued rise in inventories should justify a lower price fundamentally and reduce the fear premium. (OPEC production should exceed fourth-quarter 2004 and full-year 2004 demand by 2.55 million barrels a day and 2.75 million barrels a day, respectively.) Second, the absence of a supply shock should also reduce speculation. In other words, no news is bad news for oil prices. Third, a weakening price will feed on itself. Traders are driven by momentum. A break in the oil price could trigger a liquidation of large speculative positions which, in turn, could lead to even lower prices. These are the things that usually cause bubbles to burst.”

I’d add a fourth; the next rise interest rates may well tip the speculators into the bear camp. And this would obviously represent a win-win situation for the Fed – they get to raise interest rates to a level closer to their natural rate and also remove one of the main sources of worry about the economy. Bring on the next quarter point rise – or maybe make that a half?

IG Nobel Prize For Economics

IG Nobel Prize For Economics goes the The Vatican, for outsourcing prayers to India.

Still when it comes to the IG, Sociology beats Economics hands down – the prize this year going to Steven Sack of Wayne State University and James Gundlach of Auburn University for their 1992 article, "The Effect of Country Music on Suicide". The abstract claims that

“Sociological work on the relationship between art and society has been largely restricted to speculative, sociohistorical theories that are often mutually opposed”

And the full text doesn’t disappoint:-

“Content analyses of country songs note a number of sucidogenic themes that can foster suicide (e.g. Lewis 1989; Petersent 1991) One such theme is disharmony between the sexes especially marital strife and dissolution …….this theme might nurture pre existing suicidal thoughts ……..

Country music may nurture suicide through its theme of alcohol abuse (Chalfant & Beckley 1977; Connors & Alpher 1989, Schaefer 1988). Lyrics often portray drinking as a normal and necessary method of dealing with life's problems (Chalfant & Beckley 1977). Field research on drinking behavior has linked exposure to country music to increased levels of consumption of alcohol (Schaefer 1988). Alcohol consumption, in turn, has often been associated with increased suicide risk (e.g. Wasserman 1989).

Additional themes in country music that might nurture a suicidal mood include financial strain and exploitation at work (Peterson 1991). Often a sense of fatalism or hopelessness is conveyed in these songs. Hopelessness is considered a key psychological state underlying suicide risk (Beck et al. 1985). A sense of bitterness and hopelessness pervades many country songs about farmers, for example. Singing of a man whose farm has been auctioned off, the Nitty Gritty Dirt Band notes: "Worked this place all my life, broke my heart, took my wife. Now I got nothing to show" (Peterson 1991:8).”

But before you go an throw out those Dolly Parton CD’s you’ll be relieved that a follow-up paper by Gary W. Mauk "'An Achy Breaky Heart' May Not Kill You" “mutually opposed” the thesis :-

“Further, while Stack and Gundlach found a relationship between amount of country music airtime and suicide rates... they have not accounted adequately for directionality... Likewise, one cannot determine (1) whether whites who are divorced tend to listen to country music, (2) whether listening to country music tends to cause their noncountry music fan spouses to divorce them, or (3) whether country music makes romantic conflict and divorce seem more normal for those individuals who are contemplating suicide, thus increasing the likelihood that they will attempt suicide...”

Meanwhile over at Biology the Nobel Prize went to Ben Wilson, Lawrence Dill, Robert Batty, Magnus Whalberg and Hakan Westerberg for showing that herrings apparently communicate by farting. Mmm, maybe I'll write a paper on whether they listen to country music too?

via the virtual stoa