Friday, August 22, 2014

Markets and Morality

Today, public trust in markets has deteriorated. Modern societies are confronted with  extreme inequality (the Occupy movement), tax avoidance, corruption and protests against the dominant system. Mainstream economists  tend to ignore these contemporary issues leaving them to other social scientists.  

The relations between economics and ethics have been developed by a number of economists drawing on welfare and development economics as well as moral philosophy.  In the classical tradition of Adam Smith, Stuart Mill or Marx, economics goes beyond issues of profit and efficiency. Amartya Sen, perhaps the most prominent 'ethical economist', looks at the relations between economic behaviour and moral sentiments and discusses how freedoms and rights are fundamental to understand them.

The arguments about 'ethical economics' are often presented as a mix of markets and morals. We look here at three different arguments. 

Some consider markets as being intrinsically 'moral'. There is wide consensus  that  markets are necessary because they allow for free choice among a variety of goods and services. The former head of the Bank of England, Professor Brian Griffiths, gave a series of lectures in 1980, collected and published in 1982 under the title 'Morality and the Market-place'. In his book, he regards businesses as a moral community and markets as "morally self-sufficient" if they respect certain Christian values such as justice and compassion. But this is not a condition for being 'moral'. The question is to ask whether the income distribution outcome  is fair. Profits are not immoral but they are not an end in itself.

For others, ethical economics is about the use of  human and natural resources. Various economists (for example, J.Attali) consider that  sustainable development is 'ethical in itself'. The reduction of carbon emissions is certainly kinder for future generations than accepting the 'diktat' of markets. However, ethical investment goes beyond the environment: for example, respecting workers rights or not supporting dictatorships. Increasing the minimum wage, in times of austerity, is an 'ethical measure' because the poorest workers will increase their purchasing power and this will increase internal demand, which is also good for producers.

Moreover, other systems of ethics call for more fundamental change beyond the the functioning of markets. In Islamic finance, for example, religious tenets forbid usury and favour risk sharing with low but safe returns of investments. There are also some systems, such as Bouddhists who reject the foundations of classical markets based on individual choice, private property and material wealth. To be ethical an individual should withdraw from the market  or even disrupt it . Marxists in turn, seek a transformation of social production relations between capitalists and workers, but socialist ideas  gave rise to original forms of organization such as cooperatives and other aspects of social economy.  

There is thus wide disagreement on the relations between markets and morality and the different systems of ethics which underpin those relations. But, there are also different views on where ethics should apply when economic agents make a decision. Adam Smith, who was regarded as the founder of  classical economics was a moral philosopher who believed sympathy for others (or empathy)was the basis of the ethical system. But one of his key ideas in the Wealth of Nations is that empathy could be counterproductive - in other words individuals would be better off if they pursue their self interest. Smith explains this by the collective outcome.

Instead of judging consequences, Aristotle argued that ethics is about having the right character, displaying virtues such as courage and honesty. We see this today between good managers or political leaders and greedy bankers and financiers in search of immediate gains. Aristotle thought there was a golden mean between the extremes and found it a matter of fine judgement. But if ethics is a matter of character, it is difficult to apply it in modern economies.

But there is another approach - instead of focusing on the consequences of actions or the character of people who act - we  may also focus on our actions. From this perspective, some things are right, some others are wrong. For example, we should buy fair trade goods and help the poor, but adverts should not tell lies. Ethics could thus result in a list of commandments of dos and dont's

Many moral dilemmas arise when these three views go in different directions and conflicts can be inevitable. Take fair trade coffee, for example: buying it might have good consequences and feed virtuous behaviour in flawed markets. This suggests, that even without an agreement on where ethics applies, ethical economics is still possible.  

The classical conception of man - rational and selfish - exists, only in limited cases, and even classical economists, such as John Stuart Mill admitted that this was a parody. This economic man is a fiction, and our brain can hardly process all the relevant information to take rational decisions. A new wave of ' behavioural economists' (such as recent Nobel prizes Fama and Schiller), aided by neuroscientists, tries to understand our psychology, both as individuals and groups, so they can anticipate our decisions in markets more accurately. But psychology can also help understand why we react with disgust toward social injustice or we accept the market laws as universal. This will not define a new ethics for us, but at least economists will be more attentive to consider ethical issues in their judgements. 

Wednesday, August 13, 2014

Austerity and children poverty

Does austerity lead to worsen children poverty ? The findings, among others, are detailed in a 357-page World Social Protection report out Tuesday (3 June) by the Geneva-based UN agency, the International Labour Organization (ILO). The report notes that “The achievements of the European social model, which dramatically reduced poverty and promoted prosperity in the period following the Second World War, have been eroded by short-term adjustment reforms”. It also argues that fiscal consolidation meant to reduce debt has failed to stimulate the kind of economic growth needed to create jobs.

The report says that families in austerity-driven nations like Ireland, Cyprus, Greece, and Portugal have seen their disposable incomes plummet, leading to lower consumption. In Greece, salaries dropped 35 percent since 2008 while unemployment increased by 28 percent. At the same time, social security reforms are being replaced with a system that limits the responsibility of the Greek state.

For comparison, the ILO estimates poverty rates in Finland in 2010 would have been over 30 percent, as opposed to around 7 percent, had the government slashed social protection transfers to those in need. The ILO notes some structural reforms imposed on governments are designed to streamline administration.But the emphasis, it says, has been disproportionally placed on the fiscal objective of balancing public budgets “without due consideration to the objective of adequate benefits to all people”.

Europe’s solution to the crisis for the past five years has instead given rise to persistent unemployment, lower wages and higher taxes. All three have boosted poverty and social exclusion rates, which now affects some 123 million people or 24 percent of the EU population. Before the start of the crisis in 2008, the figure was 116 million. Today, around 800,000 more children now live in poverty compared to five years ago. However, "some estimates foresee an additional 15-25 million people facing the prospect of living in poverty by 2025 if fiscal consolidation continues,”

The Ilo report concludes that maintaining social protection not only reduces poverty but also stimulates growth by boosting the health of the vulnerable, increasing their productivity, and by extension props up domestic demand. 

House of Debt

In their book House of DebtAtif Mian and Amir Sufi  provide evidence on the causes of the Great recession and what explains the slow recovery and structural weaknesses affecting the most advanced economies. The main argument is that "debt fueled boom artificially boosted household spending from 2000 until 2006 and the collapse of house prices forced a sharp pull back because indebted households bore the brunt of the shock"

Some may argue that the authors have overstated the importance of  housing and household debt in explaining the crisis but there is new evidence which seems to support that argument, which obviously does not explain the whole thing. As some other authors, like Piketty, inequality does play a role in triggering the debt spiral. 

See new evidence here on Mian-Sufi's thesis. 

Wednesday, August 6, 2014

Inequality dampens economic recovery

A report shows that high inequality contributes to slow down growth and therefore matters for policy makers. The interest of that research is not that it brings new advances into the study of inequality - . The authors of that report are economists of Standard & Poor"s, the rating agency which provides information and analysis for investors in financial markets. This is a recognition that unequal income distribution represents a major risk and not an asset for an economy which seeks to recover from a deep crisis.

The S&P economists write : "Our review of the data, as well as a wealth of research on this matter, leads us to conclude that the current level of income inequality in the US is dampening GDP growth, at a time when the world's biggest economy is struggling to recover from the Great recession and the government is in need of funds to support an aging population". 

The analysis which underpins that conclusion is quite straightforward. The wealthy tend to save more as a share of their income, as a growing part of the national income goes to the top-income group. As a result, there is a contraction of demand for goods and services to support strong growth. The income gap has been bridged with debt which fed a boom-bust cycle of financial crises. Therefore, high inequality becomes self reinforcing, as the wealthy use their resources to influence the political system toward policies that help maintain that privileged situation, such as low tax rates or low estate taxes and underinvestment on education and infrastructures. 

These ideas are not new, going back originally to John Maynard Keynes' theory and  recent work made by Thomas Piketty and Atif Mian and Amir Soufi. The novelty is that they go mainstream, beyond the academic debate on economic inequality and the left wing circles. But the policy prescriptions of the authors of that report are poor trying to avoid discussions about taxation and the social welfare system and focusing only on the need for higher investment in education as a key driver for growth.    

This is unfortunately just part off the problem. Tackling inequality requires bold measures, including redistribution of income and job creating investment plans to boost  sustainable growth.