Economics, Model, Quick Fix

Regulation Revisited

Previously I described regulation as a regressive tax. It may not kill jobs per se, but it certainly shifts them towards people with university degrees, largely at the expense of those without. I’m beginning to rethink that position; I’m increasingly worried that many types of regulation are actually leading to a net loss of jobs. There remains a paucity of empirical evidence on this subject. Today I’m going to present a (I believe convincing) model of how regulations could kill jobs, but I’d like to remind everyone that models are less important than evidence and should only be the focus of discussion in situations like this, where the evidence is genuinely sparse.

Let’s assume that regulation has no first order effect on jobs. All jobs lost through regulation (and make no mistake, there will be lost jobs) are offset by different jobs in regulatory compliance or the jobs created when the compliance people spend the money they make, etc., on to infinity. So far, this is all fine and dandy.

Talking to members of the local start-up community, I reckon that many small sized hardware start-ups spend the equivalent of an engineer’s salary on regulatory compliance yearly. Instead of a hypothetical engineer (or marketer, or salesperson, etc.), they’re providing a salary to a lawyer, or a technician at the FCC, or some other mid-level bureaucrat.

No matter how well this person does their job, they aren’t creating anything of value. There’s no chance that they’ll come up with or contribute to a revolutionary new product that drives a lot of economic growth and ends up creating dozens, hundreds, or (in very rare cases) thousands of jobs. An engineer could.

There’s obviously many ways that even successful start-ups with all the engineers they need can fail to create jobs on net. They could disrupt an established industry in a way that causes layoffs at the existing participants (although it’s probably fallacious to believe that this will cause net job losses either, given the lump of labour fallacy). Also, something like 60% of start-ups fail. In the case of failure, money from wealthy investors is transferred to other people and I doubt most people care if the beneficiaries are engineers or in compliance.

But discounting all that, I think what this boils down to is: when you’re paying an engineer, there’s a chance that the engineer will invent something that increases productivity and drives productivity growth (leading to cheaper prices and maybe even new industries previously thought impossible). When you pay someone in sales or marketing, you get a chance to get your product in front of customers and see it really take off. When you’re paying for regulatory compliance, you get an often-useless stamp of approval, or have to make expensive changes because some rent-seeking corporation got spurious requirements written into the regulation.

Go on, tell me all million pages of this are necessary to protect consumers – I dare you. Image Credit: Coolcaesar on Wikimedia Commons

Or the regulatory agency catches a fatal flaw and averts a catastrophe. I’m not saying that never happens. Just that I think it’s much rarer than many people might believe. Seeing the grinding wheels of regulation firsthand has cured me of all my youthful idealistic approval for it. Sometimes consumers need to be protected from out of control profit-seeking, sure. But once you’ve been forced to actually do some regulatory compliance, you start to understand just how much regulation exists to prevent established companies from having to compete against new entrants. This makes everything more expensive and everyone but a few well-connected shareholders worse off.

Regulations has real trade-offs; there are definite goods, but also definite downsides. And now I think the downsides are even worse than I first predicted.

Economics, Politics

Why Don’t we Subsidize Higher Wages? Or: Public Policy is Expensive

[7 Minute Read]

Epistemic Status: Started as a reduction ad absurdum.

It used to be a common progressive grumbling point that the social safety net subsidized the low wages of McDonald’s and Walmart (and many less famous and less oft grumbled about enterprises). The logic went that employees at those companies just weren’t paid enough; they wouldn’t be able to survive – a necessary prerequisite to showing up at work – without government assistance. The obvious fix for this would be forcing these companies to pay their employees more – raising the minimum wage.

In my last piece on the minimum wage, I said the existing evidence pointed towards minimum wage hikes having few negative consequences. Recent evidence from Seattle suggests this may not be the case (although there are dueling studies, further complicated by accusations of academic misconduct against the scientists who found the hike had no effect). If my earlier prediction proves false, it will be because $15/hour is much higher – and a much larger percentage increase, then any of the past studies looked at.

If a $15/hour minimum wage “fails” [1] then we will face a choice. Do we give up on higher minimum wages? Do we accept higher unemployment (and all of its associated disconnection, wrenching poverty, and mental health costs)? Do we try something radically different?

Certainly, there exist other potential programs that we can use to accomplish some of the goals of a minimum wage increase if an increase itself proves untenable. A guaranteed basic income (GBI) [2], while expensive, would accomplish many of the same economic security goals as a higher minimum wage, but it wouldn’t fix the fact that some people see their wage as a reflection on their moral value, instead of a commentary on the supply and demand of various skills. This could become quite the sticking point; one reason that libertarians get behind a GBI is that it would allow us to abolish minimum wage laws.

Eliezer Yudkowsky (don’t groan, this really is relevant) has an interesting theory about the left. He thinks that the left doesn’t hate capitalism – they just hold it to the same ethical standards they hold people to. It might be people on the right who claim that corporations are people, but it’s the left who treat corporations like people.

If we accept Yudkowsky’s theory, there are a lot of people for whom paying someone $8/hour is an unacceptable slur on that person’s value as a human being [3]. This seems to match what I see from time to time on Facebook or in editorials. Here’s one out of Seattle; it ends with: “Finally, let’s be mindful that a minimum wage is about more than keeping the poor from starving. It’s also about attaching dignity to a person’s labor”.

Dignity being on the line changes the minimum wage debate. People can squabble over the economic pie endlessly. But make it about dignity and workers can’t back down. Even if a higher minimum wage leads to price increases or lost jobs.

And the Seattle Times article I linked is far too sanguine about price increases [4]. It is correct when it points out that well-off people can eat price increases with nary a change in behaviour, but I don’t know how it can so calmly ignore how much of a struggle it is for low-income families to deal with price increases.

Of course, raising the minimum wage might give people some breathing room. But that breathing room is wasted if prices immediately increase to match the new incomes. Have you ever watched someone on a treadmill?

The real effect of increased prices will be felt by people living on fixed incomes. Price increases are especially rough on seniors, who often can’t work even if they wanted to. Although I suppose we could use inflation to deal with the truly scary unfunded pension liabilities that many governments now have to deal with.

Raising the minimum wage will have to result in higher prices if it doesn’t lead to improved productivity (and therefore laying off the least productive workers). Retailers can absorb wages up to about $11/hour and still turn a profit. Beyond that, they can only raise prices, raise productivity, or run a charity. They won’t do the third.

But look, steadily rising wages are nice. They’re an excellent anesthetic for discontent. They alleviate poverty. If it was worth the cost, the government could make the complaints of subsidization true by literally subsidizing wages.

For the government to carry out this subsidization in Ontario, the cost would be something like $9 billion dollars [5]. This is equivalent to about 6% of the current budget – a bit less than the amount Ontario pays to service its debt. It wouldn’t be impossible to raise revenue for this – a progressive 1-5% tax increase would cover it handily [6], with the median Ontario worker seeing about $10.00 come off each paycheque with the new taxes.

There would obviously need to be some pretty strict rules in place here. What company would chip in $13 or $14 when their worker would be paid the same if they instead chipped in $11.60 (the current minimum wage)? We might get around this by making subsidization depend on the number of workers you employ (although this will tend towards monopolization and give the big retail giants quite an advantage) or their low productivity (but this has terrible incentives).

We still don’t know if the minimum wage hike will result in lost jobs. It’s also an open question how much we should (at a policy level) be aiming for full employment. But raising the minimum wage is a massive, $9 billion undertaking. Who pays for it (and if it happens at all) is deeply tied into questions about fairness, dignity, good governance and regressiveness. The least regressive way to do it is probably via subsidies; unfortunately, subsidies are the most corruptible of all options.

I previously mentioned the guaranteed basic income. My crude calculations give a (no doubt slightly high) estimate of $37 billion [7] for a GBI in Ontario, much higher than I’ve seen in the estimates from proponents. I’m personally worried that a GBI would be absorbed into raised rents [8], another example of a treadmill effect.

Economics policy is difficult enough as a scientific discipline. But tied up in ancillary questions (like “what is fair?”) as it is, it is uniquely susceptible to corruption by what people wish, rather than what is true [9]. When it can’t be corrupted, it is often ignored. Public policy has a cost. Resources are still limited. For every dollar spent, there must be a dollar raised (if not now, then eventually).

When we focus only on what we feel is fair or justified and not on what is achievable, we aren’t doing anyone any favours. Raising the minimum wage to $15/hour might cause job losses or spiralling inflation, or it might require subsidies and tax raises. These aren’t the consequences of greedy corporations. They’re the predictable results of people making reasonable decisions in a massively complicated system.

Disturb it at your own peril.

Footnotes:

[1] Failure (to me) means increased unemployment. A decrease in labour force participation would probably represent a return to single income families, unless preceded by high unemployment of the sort that drives people to give up looking for work. There’s also the failure mode of “causes spiralling inflation”, but that seems more likely to end the whole experiment prematurely. ^

[2] Unanswered questions I still have about a guaranteed minimum income include: “how can we pay for?”, “are you sure it won’t cause massive inflation in rents?”, and “no seriously, just saying it was fine when the Fed did QE isn’t good enough! Why won’t all that money chasing the same desirable housing cause the housing to become more expensive?” ^

[3] It’s weird to see the left capitulating here and more or less agreeing that a person’s value is at all tied to their wage. I think it’s important to strongly reject all attempts to link the intrinsic human value of a person with their economic value. Economic value maps to supply and demand, not intrinsic worthiness, so it’s an inherently fragile thing to base any moral worth on. ^

[4] It also makes a horrendous false equivalence between worker pay and CEO pay. Walmart’s CEO makes $21.8 million. Walmart has 2.3 million “associates”. Let’s say they average 20 hours per week, 50 weeks per year, for 2.3 billion employee hours per year. Removing the CEO’s salary would free up enough cash to pay the workers one extra cent per hour ($10/year). CEO salaries are a very tiny drop in the bucket compared to total compensation for companies with huge workforces. ^

[5] 1.7 million people make less than $15/hour. Assume they all make $11.60/hour, that they all work 40 hour weeks, 50 weeks a year and we end up with $11.6 billion. Since all of these are overestimates, this gives us an upper bound. $9 billion is my guess at a more realistic number. ^

[6] Here’s my calculations, based on the really excellent Statistics Canada data available here. I’ve made some simplifying assumptions (e.g. that everyone in each bracket makes the exact centre value of the bracket, that higher taxes won’t make people look for more ways to avoid them), but this should be broadly accurate. If you want to play around with the workbook, leave a comment with your email address and I’ll send it your way.

Note that “Total Revenue”, “Total Tax”, and “Tax as percent of income” are calculated by adding the “Tax at Midpoint” value to the “Taxes For Entire Bracket” values for all previous brackets. This is how the taxman does it. ^

[7] Calculations:

Not pictured: any adjustment for the percent of people who are married. The simplest approach (50% of Ontarians are married and couples receive 30% less, so the cost should be 15% lower) brings the cost down to a “mere” $37 billion. This is the cost I quote above. ^

[8] Rent control is the only possible solution, but it might be worse than what it seeks to cure. The economist Assar Lindbeck claimed that “In many cases rent control appears to be the most efficient technique presently known to destroy a city—except for bombing.” This was falsified by communist Vietnam, according to a speech by its onetime foreign minister: “The Americans couldn’t destroy Hanoi, but we have destroyed our city by very low rents. We realized it was stupid and that we must change policy”. ^

[9] On all sides. For every Bernie bro convinced we need socialism right now, there’s someone who believes in the explicitly anti-empirical assertions of the Austrian School. ^

Economics, Model, Politics

Meditations on Regulation, or the Case of the $10,000 Staircase

[10-minute read]

Breaking news: a retired mechanic spent one afternoon and $550 building a staircase. This is news because the City of Toronto said it would cost $65,000 for them to do it. They’ve since walked back that estimate, claiming it won’t be that expensive (instead, the final cost looks to be a mere $10,000).

Part of this is materials and labour. The city will probably go for something a bit more permeant than wood – probably concrete or metal – and will probably have higher labour costs (the mechanic hired a random guy off the street to help out, which is probably against city procurement policy). But a decent part (perhaps even the majority) of the increased costs will be driven by regulation.

First there’s the obvious compliance activities: site assessment, community consultation, engineering approval, insurance approval. Each of these will take the highly expensive time of highly skilled professionals. There’s also the less obvious (but still expensive and onerous) hoops to jump through. If the city doesn’t have a public works crew who can install the stairs, they’ll have to find a contractor. The search for a contractor would probably be governed by a host of conflict of interest and due diligence regulations; these are the sorts of thing a well-paid city worker would need to sink a significant amount of time into managing. Based on the salary information I could find, half a week of a city bureaucrat’s time already puts us over the $550 price tag.

And when the person in charge of compliance is highly skilled, the loss is worse than simple monetary terms might imply. Not only are we paying someone to waste her time, we are also paying the opportunity cost of her wasting her time. Whenever some bright young lawyer or planner is stuck reading regulatory tomes instead of creating something, we are deprived of the benefits of what they could have created.

When it comes to the stairs, regulations don’t stop with our hypothetical city worker. The construction firm they hire is also governed by regulations. They have to track how much everyone works, make sure the appropriate taxes go to the appropriate parties, ensure compliance with workplace health and safety standards and probably take care of a dozen minor annoyances that I don’t know about. When you aren’t the person doing these things, they just blend into the background and you forget that someone has to spend a decent part of their time filling out incredibly boring government forms – forms that demand accuracy under pain of perjury.

No source needed, because I stole this from a US government form and no documents produced by the US government can be copyrighted
What, you never noticed how fond government documents were of waving the p-word around? This basically says “fill this out right, or one of the state’s armed enforcers will use violence to bring you to a small room that you won’t be allowed to leave for a very long time”.

Hell, the very act of soliciting bids can inflate the cost, because each bid will require a bunch of supporting paperwork (you can’t submit these things on a sticky note). As is becoming the common refrain, this takes time, which costs money. You better bet that whichever firm eventually gets hired will roll the cost of all its failed past bids (either directly or indirectly) into the cost the city ends up paying.

It’s not just government regulations that drive up the price of stairs either. If the city has liability insurance, it will have to comply with a bunch of rules given to it by its insurer (or face higher premiums). If it chooses to self-insure, the city actuaries will come up with all sorts of internal policies designed to lessen the city’s chance of liability – or at least lessen the necessary payout when the city is inevitably sued by some drunk asshole who forgets how to do stairs and breaks a bone.

With all of this regulation (none of which seems unreasonable when taken in isolation!) you can see how the city was expecting to shell out $65,000 (at a minimum) for a simple set of stairs. That they managed to get the cost down to $10,000 in this case ­(to avoid the negative media attention of over-estimating the cost of stairs more than one hundred times over?) is probably indicative of city workers doing unpaid overtime, or other clever cost hiding measures [1].

The point here is that regulation is expensive. It’s expensive everywhere it exists. The United States has over 1,000,000 pages of federal regulation. Canada makes its federal regulation available as a compressed XML dump(!) with a current uncompressed size of 559MB. Considering XML overhead, the sum total of Canadian federal regulation is probably approximately equivalent to that of the United States.

The only thing that hates federal regulation more than libertarians is the bookshelf that has to hold it all. Image Credit: Coolcaesar on Wikimedia Commons

This isn’t it for either country; after federal regulation, there’s provincial/state and local regulations. Then there are the interactions between all three, with things becoming even worse when you want to do anything between different jurisdictions within a country or (and it’s a miracle this can even happen at all) between countries.

People who can hold a significant subset of these regulations in their head and successfully navigate them (without going mad from boredom) are a limited resource. Worse, they’re a limited resource who can be useful in a variety of fields (i.e. there has to be some overlap between the people who’d make good programmers, doctors, or administrators and the people who can parse and memorize reams of regulation). Limited supply and consistent (or increasing) demand drives the excessive cost of buying their time that I mentioned earlier.

This is the part where I’m supposed to talk about how regulation destroys jobs and how we should repeal it all if we care about the economic health of our society. But I’m not going to do that. The idea that regulation kills jobs is based on economic fallacies [2] and not borne out by evidence (although it is surprisingly poorly studied and new evidence could change my mind here).

As best we can currently tell, regulation doesn’t destroy jobs; it shifts them. In a minimally regulated environment, there will be fewer jobs requiring highly educated compliance wizards and more jobs for everyone else. As the amount of regulation increases, we should see more and more labour shift from productive tasks to compliance tasks. Really regulation is one of the best ways that elites can guarantee jobs for other elites.

Viewed through this lens, regulation is similar to a very regressive tax. It might be buying us social goods that we really want, but it does so in a way that transfers wealth from already disadvantaged workers to already advantaged workers. I think (absent offloading regulatory compliance onto specialized AI expert systems) that this might be an inherent feature of regulation.

When I see progressives talking about regulation, the tone is often that companies should whine about it less. I think it’s totally true that many companies push back against regulation that is (on the face of it at least) in the public good – and that companies aren’t pushing back primarily out of concern for their workers. However, rejecting the libertarian position doesn’t mean we should automatically support all regulation. After reading this, I hope you look at regulation as a problematically regressive tax that can have certain other benefits.

Because even taking into account its regressive effects, regulation is often a net good. Emissions standards around nitrous oxide emissions have saved thousands of lives – and Volkswagen cheating on them will lead to the “pre-mature deaths” of over one thousand people.

Corporations have no social duty beyond giving returns to their shareholders. It’s only through regulation that we can channel them away from anti-social behaviour [3]. Individuals are a bit better, motivated as they are by several things beyond money, but regulation is still sometimes needed to help us avoid the tragedy of the commons.

That said, even the best-intentioned regulation can have ruinous second order effects. Take the new French law that requires supermarkets to donate unsold, expiring produce to food banks. The law includes a provision indemnifying supermarkets against any legal action for food poisoning or other problems caused by the donated food. Without that provision, companies would be caught in a terrible bind. They’d face fines if they didn’t donate, but face the risk of huge lawsuits if they did [4][5].

Regulation isn’t just the purview of the government. If all government regulation disappeared overnight, private regulation – overseen primarily by insurance companies – would take its place. The ubiquity of liability insurance in this litigious age has already turned many insurers into surrogate regulators [6].

Insurance companies really hate paying out money. They can only make money if they make more in premiums than they pay out for losses. The loss prevention divisions of major insurers work with their clients, making sure they toe the line of the insurer’s policies and raising their premiums when they don’t.

This task has become especially important for the insurers who provide liability insurance to police departments. Many local governments lack the political will to rein in their police force when they engage in misconduct, but insurance companies have no such compunctions. Insurers have written use of force policies, provided expensive training, furnished use of force simulators, and ordered the firing of chiefs and ordinary officers alike.

When insurers make these demands, they expect to be obeyed. Cross an insurer and they’ll withdraw insurance or make the premiums prohibitively high. It isn’t unheard of for police departments to be disbanded if insurers refuse to cover them. Absent liability insurance, a single lawsuit can literally bankrupt a small municipality, a risk most councillors won’t take.

As the Colombia Law School article linked above suggested, it may be possible to significantly affect the behaviour of insurance purchasers with regulation that is targeted at insurers. I also suspect that you can abstract things even further and affect the behaviour of insurers (and therefore their clients) by making arcane changes to how liability works. This has the dubious advantage of making it possible to achieve political goals without obviously working towards them. It seems likely that it’s harder to get together a big protest when the aim you’re protesting against is hidden behind several layers of abstraction [7].

Regulation isn’t inherently good or bad. It should be able to stand on its own merits and survive a cost-benefit analysis. This will inevitably become a tricky political question, because different people weight costs and benefits differently, but it isn’t an intractable political problem.

(I know that’s what I always say. But it’s a testament to the current political climate that saying “policy should be based on cost-benefit analyses, not ideology” can feel radical [8].)

I would suggest that if you’re the type of person whose knee-jerk response to regulation is to support it, you should look at how it will displace labour from blue-collar to white-collar industries or raise prices and ponder if this is worth its benefits. If instead you oppose regulation by default, I’d suggest looking at its goals and remembering that the cost of reaching them isn’t infinite. You might be surprised at what a true cost benefit analysis returns.

Also, it probably seems true that some things are a touch over-regulated if $65,000 (or even $10,000) is an unsurprising estimate for a set of stairs.

Epistemic Status:  Model

Footnotes:

[1] Of course, even unpaid overtime has a cost. After a lot of it, you might feel justified to a rather longer paid vacation than you might otherwise take. Not to mention that long hours with inadequate breaks can harm productivity in the long run.  ^

[2] It seems to rest on the belief that regulation makes things more expensive, therefore fewer people buy them, therefore fewer people are needed to produce them. What this simple analysis misses (and what’s pointed out in the Pro Publica article I linked) is that regulatory compliance is a job. Jobs lost directly producing things are more or less offset by jobs dealing with regulations, such that increased regulation has an imperceptible effect on employment. This seems related to the lump of labour fallacy, although I’ve yet to figure out how to clearly articulate the connection. ^

[3] In Filthy Lucre, Professor Joseph Heath talks about the failures of state-run companies to create “socially inclusive growth”. Basically, managers in companies care far more about their power within the company than the company being successful (the iron law of institutions). If you give them a single goal, you can align their incentives with yours and get good results. Give them two goals and they’ll focus on building up their own little fief within the company and explaining away any failures (from your perspective) as the necessary results of balancing their dual tasks (“yes, I posted no profits, I was trying to be very socially inclusive this quarter”).

Regulation, if set up so that it seriously affects profits (or if set up so that it has high personal consequences for managers) forces the manager to avoid acting in a ruinously anti-social way without leaving them with the sort of divided loyalties that can cause companies to become semi-feudal. 

[4] The end game would quite possibly involve supermarkets setting up legally separate (with significant board overlap) charitable organizations that would handle the distribution, and compelling these shells (who would carry almost no cash so as to be judgement proof) to sign contracts indemnifying the source supermarket against all lawsuits. This would require lots and lots of lawyer time and money, which means consumers would see higher food prices. ^

[5] Actually, higher food prices are pretty much inevitable, because there’s still a bunch of new logistics that have to be worked out as a result of this law. If the logistics turn out to be more expensive then the fines, supermarkets will continue to throw out food (while passing the costs of the fines on to the consumer). If the fines are more expensive, then food will be donated (but price of donating it will still inevitably be passed on to consumers). Any government program that makes food more expensive is incredibly regressive – it’s this realization that underlies the tax-free status of unprepared food in Canada.

Supplemental nutrition programs (AKA “food stamps”) have the benefit of subsidizing food for those who need it from the general tax pool, which can be based on progressive taxation and mainly paid for by the wealthy.

It’s really easy to see a bunch of food sitting around and realize it could be better used. It’s really hard (and expensive) to actually handle the transport and preparation of that food. ^

[6] Meaning that a government that really wanted to reduce regulation would have to make it rather hard to sue anyone. This seems like an unlikely use of political capital and also probably in conflict with many notions of fundamental justice.

Anyway, you should look at changes to liability the same way you look at regulation. Ultimately, they may amount to the same thing. ^

[7] This is dubious because it’s inherently anti-democratic (the government is taking actions designed to be opaque to the governed) and also incredibly baroque. I’m not talking about simple changes to liability that will be intuitively understood. I’m talking about provisos written in solid legalese that tweak liability in ways that I wouldn’t expect anyone without a law degree and expertise in liability law to understand. If a government was currently doing this, I would expect that I wouldn’t know it and wouldn’t understand it even if it was pointed out to me. ^

[8] Note, crucially, that it feels radical, but isn’t. Most people who read my blog already agree with me here, so I’m not actually risking any consequences by being all liberal/centrist/neo-liberal/whatever we’re calling people who don’t toe the party line this week. ^

Economics, Model, Politics

Minimum Standards or Broad Access?

[5-minute read]

There are two sides to every story. Zoning and maximum occupancy regulations are exclusionary and drive up the price of housing. They are also necessary to prevent exploitative landlords from leaving their tenants in squalor. Catastrophic health insurance plans leave patients uncovered for many of the services they might need. They’re also often the only plans that are rational for younger people to buy.

Where you come down on either of these – or any similar cases where there’s a clear trade-off between maximum access and minimum standards – is probably heavily dependent on your situation. If you’re an American millennial without an employer-provided or parental health care plan, you’re probably quite incensed about the lack of catastrophic health care insurance. For healthy young adults, those plans were an excellent deal.

Similarly, workaholics in the Bay Area sometimes want to be able to stuff a house full to the bursting to save on rent. If you’re never going to be home, regulations around the number of square feet per bed feel incredibly onerous.

I like to point out that regulation is a trade-off. Unfortunately (or perhaps fortunately), it’s a trade-off made at the middle. People in the long probability tails – those who are far from the median when it comes to income or risk-tolerance often feel left out by any of the trade-offs made by the majority. This is an almost inevitable side-effect of trade-offs that I rarely see mentioned.

If you have health problems for which Obamacare didn’t mandate coverage, then you might find yourself wishing that the coverage requirements were even more expansive. If you find yourself really hating the illegal AirBnB you’re living in with twelve other programmers, you might wish that the city’s rental enforcement unit was a bit more on their game.

Most articles about people on the extremes leave out the context and leave out the satisfied middle. They don’t say “this is the best trade-off we could get, but it’s still imperfect and it still hurts people”. They say breathlessly “look at this one person hurt by a policy, the policy hurts people and is bad; the people who advocate for it are evil.”

It’s understandable to leave out the middle in the search of a better story. The problem arises when you leave out the middle and then claim all advocates are evil for failing to care about the fringes. Because most of the time, no one is being evil.

The young people skipping out on coverage because it’s not worth it for them aren’t shirking a duty. They’re making the best of their limited finances, ravaged by a tough entry-level job market and expensive university education. The NIMBYs who fight against any change to local building codes that might make housing more affordable are over-leveraged on their houses and might end up underwater if prices fall at all.

Even appeals to principles don’t do much good in situations like this. You can say “no one should live in squalor”, but that might run right up against “everyone should be able to afford a place to live”. It can be that there simply isn’t enough housing supply in desirable cities to comfortably accommodate everyone who wants to live there – and the only way to change that involves higher direct or indirect taxes (here an indirect tax might be something like requiring 15% of new rental stock to be “affordable”, which raises the price of other rental stock to compensate), taxes that will exclude yet another group of people.

When it comes to healthcare in America, you can say “young people shouldn’t be priced out of the market”, but this really does compete with “old people shouldn’t be priced out of the market” or “pre-existing conditions shouldn’t be grounds for coverage to be denied”.

The non-American way of doing healthcare comes with its own country specific trade-offs. In Germany, if you switch from the public plan to a private plan it is very hard to get back on the public plan. This prevents people from gaming the system – holding cheaper private insurance while they’re young, healthy and earning money, then trying to switch back during their retirement, but it also can leave people out in the cold with no insurance.

In Canada, each province has a single, government-run insurance provider that charges non-actuarial premiums (premiums based on how much you make, not how likely you are to use healthcare services). This guarantees universal coverage, but also results in some services (especially those without empirical backing, or where the cost-benefit is too low) remaining uncovered. Canada also prohibits mixing of public and private funds, making private healthcare much more expensive.

Canadians aren’t spared hard choices, we just have to make different trade-offs than Americans. Here we must pick (and did pick) between “the government shouldn’t decide who lives and who dies” and “care should be universal”. This choice was no less wrenching then any of those faced by Obamacare’s drafters.

Municipalities face similar challenges around housing policy. San Francisco is trying to retain the character of the city and protect existing residents with rent control and strict zoning regulations. The Region of Waterloo, where I live, has gone the other way. Despite a much lower population and much less density, it has almost as much construction as San Francisco (16 cranes for Waterloo vs. 22 for SF).

This comes at a cost. Waterloo mandated that houses converted into rental properties cannot hold more than three unrelated tenants per unit, thereby producing guaranteed renters for all the new construction (and alleviating concerns about students living in squalid conditions). The region hopes that affordability will come through densification, but this cuts down on the options student renters have (and can make it more expensive for them to rent).

Toronto is going all out building (it has about as many cranes on its skyline as Seattle, Los Angeles, New York, San Francisco, Boston, Chicago, and Phoenix combined), at the cost of displacing residents in rooming houses. There’s the hope that eventually supply will bring down Toronto’s soaring house costs, but it might be that more formal monthly arrangements are out of the reach of current rooming house residents (especially given that rent control rules have resulted in a 35-year drought on new purpose-built rental units).

In all of these cases, it’s possible to carve out a sacred principle and defend it. But you’re going to run into two problems with your advocacy. First, there’s going to be resistance from the middle of society, who have probably settled on the current trade-off because it’s the least offensive to them. Second, you’re going to find people on the other underserved extreme, convinced all the problems they have with the trade-off can be alleviated by the exact opposite of what you’re advocating.

Obamacare looked like it would be impossible to defend without Democrats controlling at least one lever of government. Republicans voted more than 50 times to repeal Obamacare. Now that they control everything, there is serious doubt that they’ll be able to change it at all. Republicans got drunk on the complaints of people on the long tails, the people worst served by Obamacare. They didn’t realize it really was the best compromise that could be obtained under the circumstances, or just how unpopular any attempt to change that compromise would be.

(To be entirely fair to Republicans, it seems like many Americans, including many of those who opposed Obamacare up until Obama left office, also just realized it was the best possible compromise.)

This is going to be another one of those posts where I don’t have a clear prescription for fixing anything (except perhaps axing rent control aka “the best way to destroy a city’s rental stock short of bombing it”). I don’t actually want to convince people – especially people left out of major compromises – not to advocate for something different. It’s only through broad input that we get workable compromises at all. Pluralistic society is built on many legitimate competing interests. People are motivated by different terminal values and different moral foundations.

Somehow, despite it all, we manage to mostly not kill each other. Maybe my prescription is simply that we should keep trying to find workable compromises and keep trying not to kill each other. Perhaps we could stand to put more effort into understanding why people ask for what they do. And we could try and be kind to each other. I feel comfortable recommending that.

Epistemic Status: Model

Economics, Politics

Whose Minimum Wage?

[Epistemic Status: I am not an economist, but…]

There’s something missing from the discussion about the $15/hour minimum wage in Ontario, something basically every news organization has failed to pick up on. I’d have missed it too, except that a chance connection to a recent blog post I’d read sent me down the right rabbit hole. I’ve climbed out on the back of a mound of government statistics and I really want to share what I’ve found.

I

Reading through the coverage of the proposed $15/hour minimum wage, I was reminded that the Ontario minimum wage is currently indexed to inflation. Before #FightFor15 really took off, indexing the minimum wage to inflation was the standard progressive minimum wage platform (as evidenced by Obama calling for it in 2013). Ontario is actually aiming for the best of both worlds; the new $15/hour minimum wage will be indexed to inflation. The hope is that it will continue to have the same purchasing power long into the future.

In Canada, inflation is also called the “consumer price index” or CPI. The CPI is based on a standard basket of goods (i.e. a list that includes such things as “children’s sneakers” and “French fries, curly”), which Statistics Canada assesses the price of every few months. These prices are averaged, weighted, and compared to the previous year’s prices to get a single number. This number is periodically reset to 100 (most recently in 2002). The CPI for 2016 is 128.4; in 2016, it cost $128.40 to buy a basket of goods that cost $100.00 in 2002.

The problem with the CPI is that it’s just an average; when you look at what goes into it category by category, it becomes clear that “inflation” isn’t really a single number.

Here’s the last few years of the CPI, with some of the categories broken out:

Table Source: The Canadian Consumer Price Index Reference Paper > Summary Tables; click the table to view the data in Google Sheets.

Every row in this table that is shaded green has decreased in price since 2002. Rows that are shaded blue have increased in price, but have increased slower than the rate of inflation. Economists would say that they’ve increased in price in nominal (unadjusted for inflation) terms, but they’ve decreased in price in real (adjusted for inflation) terms. Real prices are important, because they show how prices are changing relative to other goods on the market. As the real value of goods and services change, so too does the fraction of each paycheque that people spend on them.

The red, yellow, and orange rows represent categories that have increased in price faster than the general rate of inflation. These categories of goods and services are becoming more expensive in both real and nominal terms.

There’s no other way to look at the CPI that shows variation as large as that between categories. When you break it down by major city, the CPI for 2016 varies from 120.7 (Victoria, BC) to 135.6 (Calgary, AB). When you break it down by province, you see basically the same thing, with the CPI varying from 122.4 in BC to 135.2 in Alberta.

Looking at this chart, you can see that electronics (“Home Entertainment”) have become 45% cheaper in nominal (unadjusted for inflation) terms and a whopping 58% cheaper in real (adjusted for inflation) terms. Basically, electronics have never been less expensive.

On the other hand, you have education, which has become 60.8% more expensive in nominal terms and 25% more expensive in real terms. It costing more and more to get an education, in a way that can’t just be explained by “inflation”.

Three of the four categories with the biggest increases in prices rely on the labour of responsible people. The fourth is tobacco; prices increases there are probably driven by increased taxation and its position is a bit of a red herring. It’s potentially worrying that the categories where things are getting cheaper (e.g. electronics, clothes) are in the industries that are most amenable to automation. This might imply that tasks that cannot be automated are doomed to become increasingly expensive [1].

II

I’m certainly not the first person to make the observation that “inflation” isn’t a single number. Economists have presumably known this forever, related as it is to the important economics concept of “cost disease“. More recently, you can see this point made from two different directions in Scott Alexander’s “Considerations on Cost Disease” (which tries to get to the bottom of the price increases in healthcare and education) and Andrew Potter’s “The age of anti-consumerism has passed” (which looks at the societal changes wrought by many consumer goods becoming much cheaper). As far as I know, no one has yet tied this observation to the discussion surrounding the new Ontario minimum wage.

Like I said above, the new minimum wage will still be indexed to inflation; the “$15/hour” minimum wage won’t stay at $15/hour. If inflation follows current trends (this is a terrible assumption but it’s all I’ve got), it will rise by about 1.5% per year. In 2020 it will be (again, bad extrapolation alert) $15.25 and in 2021 it will be $15.50.

Extrapolating backwards, the current Ontario minimum wage ($11.40/hour) was equivalent to $8.88/hour in 2002 (when the CPI was last reset). If instead of tracking inflation generally, the minimum wage had tracked electronics, it would be $4.84 today. If it tracked education, it would be $14.28. Next year, the minimum wage will be $14/hour (it will take until 2019 for the $15/hour wage to be fully phased in), which will make 2018 the first time that students working minimum wage are getting paychecks that will have increased as much as the cost of education.

This won’t last of course. The divergence in prices shows no signs of decreasing. The CPI will continue to climb upwards at a steady rate (the target is 2%, last year it only rose 1.4%), buoyed up by large increases in education costs (2.8% last year) and held down by steady decreases in the price of electronics (-1.6% last year). Imagine that the $15/hour minimum wage allows a student to pay a year’s tuition with a summer’s worth of work. If current trends continue, in 15 years, it would only cover 75% of tuition. Fifteen years after that it would cover about 60%.

III

There’s a funny thing about these numbers. The stuff that’s getting more expensive more quickly is largely stuff that younger people have to pay for. If you’re 50, have more or less raised your kids, and own a house, then you’re golden even if you’re working a minimum wage job (although by this point, you probably aren’t). Assuming your wage has increased with inflation over your working lifetime, a lot of the things you’re looking to buy (travel, electronics, medical devices) will be getting cheaper relative to what you make. Healthcare service costs (e.g. the cost of seeing a doctor) might be increasing for you in theory, but in practice OHIP has you covered for all your doctor’s visits [2].

It’s younger people who are really shafted. First, they’re more likely to be earning minimum wage, with nearly 60% of minimum wage earners in Canada in the 15 to 24 age bracket. Second, the sorts of things that younger people need or aspire to (education, childcare, home ownership) are big ticket items that are increasing in cost above the rate of inflation. Like with the tuition example above, childcare and home ownership are going to slip out of the grasp of young workers even if you index their wage to inflation.

I happen to like the idea of a $15/hour minimum wage. There’s a lot of disagreement among economists as to whether they’ll be ill effects, but this meta-analysis (complete with funnel plot!) has me more or less convinced that the economy will do just fine [3]. Given that Ontario will still have an economy post wage-hike, I think increasing the minimum wage will be good for workers.

But a minimum wage increase leaves the larger problem of differing rates of inflation unsolved. Even with a minimum wage indexed to inflation, we’re going to have people waking up twenty-five years from now, realizing that their minimum wage job doesn’t pay for university/food/utilities/childcare/transit the same way their parents’ minimum wage job did. This will be a problem.

I’m game to kick the can down the road for a bit if it means we can make the lives of minimum wage workers better right now. But until we’ve solved this problem for good, it will keep coming back [4].

Footnotes:

[1] I’m not sure this is exactly a bad thing, per se. Money is a means of signalling that you’d like your preferences satisfied. It becoming more expensive to pay actual humans to do things could mean that actual humans have so many good options that they’re only going to waste their time satisfying your preferences if you really make it worth their while. Looked at this way, this means we’re steadily freeing ourselves from work.

On the other hand, this seems to apply mainly to responsible/competent/intelligent people and not everyone is responsible/competent/intelligent, so this could also imply that we have a looming crisis, with a huge number of people simply becoming economically unnecessary. This is really bad, because high-quality life should be possible for everyone, not just those who’ve lucked into economically valuable traits and under capitalism it is really hard to have a high-quality life if you aren’t economically valuable. ^

[2] For readers outside of Ontario, OHIP is the Ontario Health Insurance Plan. It covers all hospital and clinic care for all legal residents of Ontario, as well as dental and ophthalmological care for minors. OHIP is a non-actuarial insurance program; premiums come from provincial income tax and payroll tax revenues, as well as transfer payments of federal tax revenues. All Ontarians enrolled in OHIP (i.e. basically all of us) have a health card which allows us to access all covered services free of charge (beyond the taxes we’ve already paid) any time we want to. ^

[3] No effect on the unemployment rate does not mean no effect on the employment of individual people. A $15/hour minimum wage will probably tempt some people back into the labour force (I’m thinking here that this will mostly be women), while excluding others whose labour would not be valued that highly (unfortunately this will probably hit people with certain mental illnesses or disabilities the hardest). ^

[4] I think it’s especially pernicious how the difference in inflation rates between types of goods is kind of by default a source of inter-generational strife. First, it makes it more difficult for each succeeding generation to hit the same landmarks that defined adulthood and independence for the previous generation (e.g. home ownership, education, having children), with all the terrible think-pieces, conflict-ridden Thanksgiving dinners, and crushed dreams this implies. Second, it can pit the economic interests of generations against each other; healthcare for older people is subsidized by premiums from younger ones, while the increase in the cost of homes benefit existing players (who skew older) to the determinant of new market entrants (who skew younger). ^

Economics, Model, Politics, Quick Fix

On Low-Income Voters and Self-Interest

Neil McDonald’s new column points out that Trump’s low-income supporters voted against their own economic self-interest. This presents a fine opportunity for Mr. McDonald to lecture those voters about how bad Trump’s policies will be for them, as if they couldn’t have figured it out themselves.

I say: some of Trump’s supporters voted against their own self-interest? So what? Hillary Clinton’s well-off supporters, from Sam Altman, to many of my friends in the Bay Area did as well.

Back in Canada, I have even more examples of people who voted against their self-interest. They include myself, Mr. McDonald (in all likelihood), a bevy of well off technologists and programmers, and a bunch of highly educated students who expect to start high-paying jobs before the next election.

Just like Trump’s lower-income voters, we knew what we were getting into. We understood that we were voting for higher taxes for people like us. We voted for higher taxes because we like the things taxes buy – infrastructure, social services, and science funding, to name a few.

I have no doubt Mr. McDonald would understand this. But when it comes to low-income voters putting their aspirations for their country above their self-interest, he’s flabbergasted.

Americans are raised to believe that anything is possible in America if you are pure of heart and willing to work hard, which is nonsense, and that anyone can become president, which is even more foolish, and that free markets always make the right decision, which is nuts.

They are told that rugged individualism is the American way, which it isn’t, and that government is never the solution, which it sometimes most definitely is.

Mr. McDonald forgot to wonder if the people voting for Trump might desperately want these things to be true. What if the people he’s talking about really wanted everything he listed to be true and saw voting for Trump as their best chance to make them reality? What if they understood what they might lose and chose to vote anyway? Why should he believe they’re less likely to evaluate the consequence of a vote than he is? If any of these are true, are these voters still sheep led astray by right-wing politicians? Or are the politicians just responding to a real demand from their constituents?

These are the sorts of questions I’d like to see journalists who want to write about people – especially low-income people – voting against their economic self-interest grapple with.

It’s certainly unlikely that Mr. Trump will be able to deliver everything his supporters hope he will or everything he’s promised. That makes him a liar, or more charitably, overambitious. It doesn’t make his followers worthy of scorn for the simple act of voting for the type of society they wanted.

I would like to note that I view many of Trump’s policies as wrong-headed and profoundly lacking in compassion. I have no objections to someone scorning Trump voters because those voters seem to prefer fear to compassion and division to equity. I simply object to the hypocrisy of journalists mocking low-income Republicans for the same actions for which they lionize well-off Democrats (replace with Conservatives and Liberals if you’re in Canada and it still holds).

Why should people vote for their economic self-interest anyway? Sure, studies show that money totally can buy happiness, but it’s not the only thing that can. You can also become happy by living in a place that embodies your values. What left-wing think pieces criticizing the poor for voting against their interests miss is that this is true no matter how much money you make.

Here’s one theory of political consensus: if everyone votes for the policies that will be most to their own economic benefit, we’ll end up with compromise policies that tend to economically benefit everyone reasonably well. Here’s a different take: if everyone votes for the type of country they want to live in, we’ll end up with a country that fits everyone’s preferences reasonably well.

If you look at the exit poll data, it looks like people are pursuing a mix of these two strategies. Hillary Clinton won among people making less than $50,000 per year and Donald Trump won among people making more. While this may look like people are mainly voting in their economic interest, all of these margins were remarkably thin and notably much smaller than they were in the last election cycle. This could be indicative of more and more people voting aspirationally, rather than economically.

One interesting tidbit for Mr. McDonald though – if you look at the exit poll data, it turns out low income voters are the ones least likely to vote against their own self-interest.

Economics, Model

International Trade Explained with Jellybeans

Imagine that you’re a young teenager who really loves red jellybeans. You love them so much that you unabashedly call them your favourite food. It’s only the red ones though – you find all other jellybeans disgusting. For the purposes of this extended metaphor, you will have a sister. Like you, she loves one colour of jellybeans, but unlike you she only loves the green ones.

Image Credit: Larry Jacobsen on Flickr

Your parents are stingy. They long ago realized that they could save a lot of money by paying you for your chores in jellybeans, instead of with an allowance. To prop up this system, they’ve forbidden both you and your sister from buying jellybeans in any store. Both of you can only get jellybeans from your parents. You each get a few jellybeans of your preferred colour each time you complete a chore.

You keep a small horde of jellybeans in a jar in your room. Chores are irregular and you don’t want to risk having a jellybean craving but no way to get jellybeans. It’s pretty inconvenient that you and your sister like different flavours of jellybeans. If this wasn’t the case, you could use jellybeans as a sort of currency, trading them back and forth for various small things. For example, if only you liked the same jellybeans, she could give you jellybeans in exchange for using your new Nintendo Switch for a bit, while you could give her jellybeans to help you sneak out at night. You do this sometimes already, but only when you both want something of the other at the same time.

One day your sister takes the bus to a friend’s house. On the way, she happens to sit next to an economics professor. She complains to the professor about her plight and the professor offers a solution. Your sister comes home that night with a large grin splitting her face.

The scheme she proposes to you is simple. When you don’t have two things to trade at the same time, you’ll use jellybeans as your currency. If you agree to accept her jellybeans as payment, she’ll accept yours. You’ll both have the understanding that someday your sibling will trade those jellybeans back to you for some other thing. As the first trade, she offers you fifteen of her green jellybeans for one hour on your Nintendo Switch.

You think about it for a few minutes. It’s true that the fifteen green jellybeans are worthless to you. But they aren’t worthless to your sister and she will probably eventually want them back. As long as you trust that she’ll be around in the future and will still want green jellybeans, you may as well accept the trade. You’ve now realized that green jellybeans are useful to you even though you can’t eat them to feed your jellybean cravings.

You and your sister successfully trade like this for a few weeks. There are some wild fluctuations in your horde of jellybeans – some days it’s mostly red, other days it’s almost entirely green – but over the long run it tends towards red and you get to enjoy all of the benefits of trading with your sister. You’ve successfully snuck out to see your friends three times, while she’s made it halfway through the new Zelda game. It’s at this point where she comes to you with a discovery.

She’s invented a chemical that she can mix with a jellybean to double its size. She can’t make very much of it, only enough to make thirty new jellybeans a day. She makes a deal with you: she’ll use the chemical on your jellybeans in the proportion that they appear in her stash, but she’ll still own them afterwards and they’ll be worth twice as much in future trades.

Slowly the trading relationship changes. Your sister does fewer favours for you – although she doesn’t stop completely. Meanwhile, an increasing amount of your wealth of jellybeans end up with her, despite her playing your Switch very often. You don’t mind this arrangement, because you end up with many more jellybeans than you would have without her. Your sister doesn’t mind either, because it’s made playing the Switch much more accessible to her. That said, there are some negatives for her as well. She’s gotten noticeably weaker without the exercise from chores.

Eventually your parents catch on to this and confiscate your sister’s chemistry set. Furthermore, they punish her by cutting her jellybean allotment in half. Now, she’ll make half of what you do for the same chores. Worried about the effect of video games on her, they also limit the total screen time either of you is allowed (they ignore you whining that this is totally unfair) and demand that you each do one chore per day.

You still trade after this, although now things swing in the other direction. Your sister has to scrimp and save to afford time on the Switch, whereas you have an easier time hiring her as a lookout.

A few weeks later, your parents go on vacation. While they’re gone, they want you both to record the chores you do. When they get back, they’ll question you separately about the honesty of the chore log. If you both agree that it’s true (and they can see the chores actually got done), they’ll give you jellybeans for all the chores recorded on it.

They also switch up the compensation a bit. You’ve been spending more time inside these days, now that you’re lending the Switch to your sister less often, while your sister has gotten strong from all the yard-work she’s been doing. Your parents don’t really approve of this, so they’re changing the rewards that chores give.

Under the new rules, your sister still makes generally less than you, but it isn’t evenly distributed; she makes almost as much as you for chores inside of the house and much less than you for chores outside it. This is crappy for you, because now you’re the weak one. Your sister can do chores outside in half the time it would take you.

You and your sister immediately hatch a plan to do each other’s chores and later divide the spoils evenly. Your parents are too clever for this though. They tell you they’ll be watching your jellybean transactions for the next little bit. If you two split the difference and lie, they’ll know and they’ll ground both of you for a week. You’re both dejected, doomed to doing chores you aren’t good at. In a last-ditch effort to find something more palatable, your sister emails her economist friend from earlier.

She comes back a few hours later, contemplative. The economist offered a solution, but it seems odd.

The economist recommended that you lie about the chores; your sister will do all of the ones outside and you’ll do all of the ones inside. To get around your parent’s crude attempt at lie detection, you’ll do something simple. You won’t split the difference; you’ll accept payment in full for the chores you claimed to do and get to spend it as if it were yours.

Even though this seems unfair, it leaves both you and your sister better off overall. By focusing on the chores you’re both quickest at, you can maximize the number of jellybeans you earn for each unit of time you spend working. You both agree to this plan.

When they get back, your parents are suspicious of your sister’s muscles and the deep impression you’ve worn in the couch. They monitor your transactions for quite some time. But they never find any evidence that you averaged your take with your sister and eventually they give up and leave you alone.

In the fall, your sister plans to leave for the annual mother-daughter fishing trip your extended family does. The trip lasts two whole weeks. In the weeks leading up to the trip, you begin to panic. While your sister is gone, you won’t be able to get any of your jellybeans from her. Combine this with your worry that you will have fewer chances to earn jellybeans for chores with only one parent home and you start to have a problem. What if you run out of jellybeans because a bunch of the red ones are hoarded by your sister?

To counter this, you stop accepting your sister’s green jellybeans in trade for favours and only trade green jellybeans back to her when you need something done. Eventually you run out of green jellybeans. Now you can’t get her to do anything. You won’t risk your red jellybeans so close to her trip.

Unfortunately, you don’t get all of your jellybeans back this way. Your sister begins to hoard them, knowing that they’re the only thing she can use to really get you to do anything for her. Despite you trying to get all your jellybeans back, you’ve made her hold onto them even tighter.

She’s pretty annoyed with all of this, because she wants to trade with you like before. In desperation, she emails her economist friend. Once again, the economist comes through for you. Your sister offers you a deal. She currently has 100 red jellybeans. At the end of every day, you can convert up to twenty green jellybeans for red ones at a rate of one to one. Normally you wouldn’t bother with this (and sometimes one of you lacks the means to), but she’ll give you this option for the next week so that you can accept her jellybeans with confidence.

This works quite well. Your mutually beneficial trades resume. When your sister leaves for her fishing expedition, she only has ten of your jellybeans left. You’re not going to run out in her absence.


Everything that was observed between the two siblings trading with jellybeans can be observed (in one form or another) between countries trading.

For this metaphor to work, the medium of exchange (jellybeans of different colours) had to be something that was so similar as to be essentially the same thing while being treated as vastly different by the participants. This is how people in different countries treat each other’s money.

As a Canadian, I need Canadian Dollars to pay my expenses. If I walk into a grocery store or get on a bus and try to pay with Swiss Francs or Japanese Yen, I will be refused service. Because I want to eat and take the bus, if I were sell goods or services outside of Canada, I would only accept as payment:

  1. Canadian Dollars
  2. Something else I know is trivially convertible to Canadian Dollars at a stable rate

People in other countries are in the same boat as me. Even if there’s something they want to sell me, they can’t unless I can provide them something that holds stable value for them. Canadian Dollars are only valuable to them insofar as they can use them to buy things they want in Canada or, if they don’t want anything in Canada, trade them for something they want with someone who wants something in Canada.

You can’t get something for nothing. For someone to send me goods (that aren’t simply a gift) from outside of Canada, they must want something in Canada or know about someone who does. This is the principle that allowed you to trade with your sibling. Her jellybeans weren’t inherently useful to you, but they were stably convertible into things that were, which made it reasonable for you to accept them as payment.

The ease of currency conversion often hides this from us. To see it, you need to look at exchange rates. Exchange rates are nothing more than a measure of the relative demand for goods and services produced by countries and debts denominated in their currencies.

When America was in financial crisis and Canada was raking in huge oil profits, people wanted Canadian Dollars just as much as they wanted American Dollars. Now that America has recovered, people would prefer to have American Dollars (USD) and so the Canadian Dollar is only worth about $0.75 US. Had either you or your sister been able to offer much more valuable services, you might have seen an exchange rate other than 1:1, with it favouring whoever offered the better stuff.

If I’m right about this, we’d expect to see countries import as much as they export. Trade deficits shouldn’t exist. As Donald Trump might be happy to remind you, trade deficits do indeed exist. What’s going on? How is this possible?

Trade deficits can occur when trade is financed via debt. A country might borrow money denominated in another currency (which has a more stable value than its own) and use that borrowed money to purchase things. This is essentially a country promising that it will have exports of value to the lender at some point in the future. This is how developing nations can have trade deficits, but it isn’t generally how developed nations pull them off.

We can view America (and other developed nations with a trade deficit) as similar to your sister when she had the tools to create more jellybeans out of otherwise worthless chemicals. She was definitely doing less things of direct value for you than you were for her (e.g. she was standing lookout for you much less often than she was borrowing video games from you), but she was able to do this sustainably because she had a way of making the jellybeans to pay for it.

Developed nations can have a trade deficit in a sustainable way because other countries will give them raw materials or physical goods simply for the privilege of holding debt denominated in their currency or being able to buy property within their borders. The sophisticated financial systems of developed countries allow them to reliably and safely (most of the time) create money for anyone willing to invest. How do you get money to invest if you don’t live there? You trade for it!

Developed countries are still providing goods and services to their trade partners, even if they aren’t tangible or recorded on balance sheets as exports. Sometimes this does mean that trade is funded by loans, but crucially, the debt is generally denominated in the currency of the debtor country. This makes repayment much, much easier.

Countries have many more options for repaying debts denominated in their own currencies. Japan can safely have a government debt of several times its GDP because the debt is denominated in Yen. Japan controls the means to print more Yen, so is able to pay its debt just by printing more money. There are obviously problems with just printing money (i.e. inflation), but these apply less to Japan because of its overall economic situation (i.e. deflation). On the other hand, Greece’s debt burden was so bad specifically because it can’t print the Euros its debt is denominated in itself. It needs to produce things other countries want in order to raise the cash it needs to pay down its debt.

There are certainly ways that funding trade via financial products can go sour. If the financial system that provides for the trade deficit relies on high consumer debt, then a financial shock could make it all come crashing down and deprive a country of the exports they’re used to receiving. But when trade deficits are based on the security and sophistication of a nation’s financial institutions (or the value of its real estate, or something else that is relatively stable), that nation stands to benefit enormously. It can receive tangible goods just by letting other countries invest or loan with its currency.

Seen this way, Canada’s trade deficit with China (as an example) is caused because many Chinese people have been willing to ship us manufactured goods in exchange for the ability to invest in our companies, buy real estate in Toronto and Vancouver, and make loans to us.

There are trade-offs here. On one hand, foreign investment in housing has probably made living in Toronto and Vancouver less affordable. On the other hand, it has made electronics and manufactured goods available at lower prices than they would otherwise be. Whether this is good or bad for you personally depends on where you live and how often you buy manufactured goods.

There are also trade-offs around employment here. It’s not a simple matter of trade with developing nations costing us manufacturing jobs. It probably has! But I’d like to point out if trade has cost us jobs in manufacturing, it has certainly created jobs in construction and in finance. Houses aren’t built without workers and investments can’t be made without investment assistants and portfolio managers. These may not be manufacturing jobs, but they’re still jobs.

This shades into the next example from the jellybean world. When you and your sister could both work jobs at very different rates of compensation, you weren’t made worse off by letting you sister do half of the chores. You weren’t really in competition with you sister. Despite much of the rhetoric about trade being a competition, trade with another country isn’t a competition with that country.

When split up between two countries that are trading, jobs don’t get done based on who had the competitive advantage. Since trade cannot happen unless both parties benefit (remember, if no one outside Canada wants anything Canada produces, I will be unable to buy anything outside of Canada with Canadian dollars) the fact that trade is happening at all means that each country has something the other wants. Given this, what gets traded will be determined by the relative advantages industries in each country have over the industries within that country. This is the comparative advantage theory of trade.

China has the advantage of relatively cheap labour but has the disadvantage of relatively high corruption. When you compare China with Canada, China’s manufacturing sector is advantaged over their financial sector, so they will tend send Canada manufactured goods in exchange for Canadian financial instruments.

Even when your sister was making less than you for every chore, you and her were still able to trade for mutual benefit. You got to do only the chores you found easiest while still gaining enough jellybeans to trade for things you wanted from your sister. People (and countries) don’t act blindly to maximize the amount of money they make. They have other desires as well. You would have only been in competition with your sister if you wanted to blindly maximize your total haul, without a thought for how much leisure it would cost you.

Competition would also come up if your parents were looking to minimize the amount they paid for chores. In this case, your sister would have had a competitive advantage. But this isn’t a competition within your trading relationship with you sister! Here you would be competing for the business of some third party (your parents).

You are never competing with your trade partners within the context of the trading relationship. It would be impossible for the whole American economy to move to China (no matter how often Donald Trump claims it is happening) because if this happened China would refuse to sell America anything and America would again require indigenous industries. If industries get outsourced and aren’t replaced by something else that adds value, you’ll see them pop right back up in their original country. Outsourcing is only cheaper when you have things of value to buy the outsourced products with.

You can be competing with your trade partners for third party business, but the answer here isn’t to raise tariffs and abandon trade. Instead, you can reap the benefits of an integrated supply chain and the overall lower costs you see when countries focus on their comparative advantages. For example, Apple has become one of the largest companies in the world by marrying American business expertise, stability, and engineering know-how with Chinese and Taiwanese manufacturing, which allows them to compete with Samsung, a Korean company (which also makes use of Taiwanese/Chinese manufacturing).

Apple products would be more expensive if manufactured solely in the United States. They wouldn’t be a global luxury brand if they were designed and marketed from China. Apple wouldn’t be a global behemoth without trade. When the CEOs of companies stand up for international trade, they’re doing so because they understand this.

It is possible for a country to be in a state such that basically no one wants to trade with them, often because they produce very little of value to anyone else. Take North Korea as an example here. They’re able to trade some coal to China (in exchange for manufactured goods) and managed to make a one-off trade with Pakistan (swapping missiles for atomic bomb designs and materials), but by and large the rest of the world doesn’t want to trade with them. Since the government is pursuing a policy of juche (“self-reliance”), North Korea isn’t much bothered by this.

Unfortunately, lack of trade doesn’t always happen by choice. Venezuela spent more than a decade squandering oil wealth on everything but productive infrastructure. When oil prices were high this was fine. Venezuelans could trade oil to other countries and in return they received all of the food, medicine, and manufactured goods they could want. This worked while global oil demand outstripped supply. Now that demand for oil has considerably lessened, Venezuela is facing serious difficulties importing necessities.

Because there’s little of value in Venezuela, no one wants to hold on to the Venezuelan currency (the Bolivar). Currently about all its good for is buying sub-par oil. This would suggest that Venezuela should be unable to important much of anything and indeed that’s what we’re observing.

In the jellybean world, we saw something similar. When your sister was about to leave on her trip, you didn’t want to trade with her, because her currency would soon be worthless. She was able to convince you to trade by using her reserves of your jellybeans.

Venezuela is currently able import goods via a similar mechanism. During the oil boom, the government of Venezuela was able to amass a significant number of American Dollars. It is now using this stockpile to pay for imports. Venezuela actually has three official exchange rates. If you are importing key goods, the government will turn your Bolivars into USD at a very preferential rate, 10 Bolivars for 1 USD. If you’re importing less critical goods, you’ll get fewer dollars per Bolivar. If you’re just a private citizen, the government will give you a much worse deal, something like 190 Bolivars to the dollar. It will also limit the amount you can exchange at any one time.

At the time of writing, the unofficial exchange rate was 3014 Bolivars per USD. You can make a lot of money if you bring USD into Venezuela, convert it to Bolivars on the black market, then use the government to convert it back to USD. The only loser here is the Venezuelan government (and you if you’re caught – please don’t actually do this).

Propping up the value of a currency this way is very expensive. If the Bolivar loses no more purchasing power, then Venezuela can limp along like this for two more years. If oil becomes cheaper or Venezuela becomes less able to export it, then Venezuela will lose purchasing power and that grace period shrinks. Once Venezuela exhausts its currency reserves it will be essentially unable to import anything and this story will end the same way every story about socialism ends: with a horrific famine.

This of course assumes that Venezuela doesn’t attempt to seize what it needs from its neighbours using force. Throughout this post I’ve assumed that trade has been undertaken freely for the mutual benefit of all participants. This hasn’t always been the case.

Colonialism is perhaps the best example of trade where one participant was compelled to participate. In colonies Europeans used force to extract resources and labour from non-Europeans. The colonizing Europeans would then ship these raw goods back to their home country in exchange for manufactured goods they couldn’t get from in the colony.

Trade was only ever disastrous for the colonized. They were forced to produce cash crops or mine until they were nearly dead from exhaustion, all in exchange for goods that they would never receive and had little use for even if they had.

There’s one last concept to cover. Let’s return to the jellybean metaphor!


Your sister gets deeply addicted to a game on your Nintendo Switch. Unfortunately, she’s still getting far fewer jellybeans than you are. She has to do a lot of chores just to get to play it at all, many of which aren’t particularly fun or pleasant. Because of your control of the Switch, you don’t have to do any chores; you always have some of your sister’s jellybeans to trade for whatever you need. While your sister might be happy while playing her game, she’s deeply peeved about all the chores she has to do in order to be able to play it all.

Eventually, your sister’s desire for video games overcomes the number of jellybeans she can earn. You allow her to pay you in IOUs. Soon she’s racked up hundreds of them. When she finally beats the game and has free time for other things, she realizes that she’s going to have to spend weeks working and giving you all the jellybeans just to pay off the debt she owes.

She tries to default, but you go to your parents. They decide that she can’t be trusted to pay off the debt on her own, so they’ll give you red jellybeans for every chore she completes until she’s settled the account. Now your sister is stuck doing all the chores without any benefit to herself. It takes her weeks to dig herself out of her hole and start receiving green jellybeans again.


Even when trade technically makes people better off, it can be a devil’s bargain. The benefits of modern medicine and technology (like smartphones) are so overwhelming that many developing economies must set aside a significant amount of their potential productivity creating products that aren’t locally useful so that they have something developed countries want and will trade medicine and technology for.

This can lead to vast monocultures of cash crops grown only for foreign export, stifling unsafe textile factories, and vast poisonous open pit mines.

It’s not just modern necessities that cause countries to give over vast portions of their economies to export. Poor (one might even say predatory) lending practices by world financial institutions have left many nations with unsustainable foreign debts, denominated in foreign currencies.

Remember, the only way to get foreign currencies is by having something foreign countries want and being willing to sell it to them. As long as a country has foreign debts to service, it must leave aside a chunk of its productivity for foreign rather than domestic priorities. If the pie is big and the slice set aside for other countries is small, this is sustainable. But when a small pie requires a big slice, disaster can strike. Debt relief for struggling countries remains an urgent humanitarian priority.

In real life, the IMF and the World Bank have taken a role not unlike that of your parents in the metaphor. They threaten poor debtor countries with dire consequences unless they continue to pay down their (often) ridiculously large debts. This occurs even when debts were racked up by dictators, or are for money that was stolen from the public purse by corrupt administrators.

All serious advocates of international trade need to acknowledge and grapple with the negative consequences trade can have.

But I’m hopeful. I refuse to believe that there exists no way we can make essential generic medicine and essential modern technology available to all of the people of the world except through unsafe working conditions and environmental destruction. Debt write-offs can fix some of the problems, but other reforms can only occur once the narrative around trade changes.

Framing trade as an adversarial process allows business interests to push for the rollback of worker and environmental protections where they exist and fight their introduction where they don’t. Protectionist rhetoric, whether it comes from Donald Trump or Bernie Sanders, is wrong and hurts workers the world over. Trade isn’t a competition. Framing it that way may be useful for politicians when they are competing for votes, but it won’t improve the material situation of anyone, at home or abroad.

As prosperity increases, all of these problems become more tractable. International trade remains one of the best ways we have of increasing prosperity. We can’t afford to go without it. Trade is something people should be able to agree on, whether they want to meet the UN’s Sustainable Development Goals and ensure a just global society, or just plain get rich.


My primary source was Joseph Heath’s wonderful economics book, Filthy Lucre (subtitled Economics for People who Hate Capitalism). It systematically dismantles 12 common economic fallacies, 6 beloved of the left and 6 beloved by the right. Trade is covered in Chapter 5: Uncompetitive in Everything.

The rest comes from reading too many articles on Wikipedia and too many news think pieces. Some things only became clear to me as I was writing this, like the difference between Japan’s debt and Greece’s. I’m also indebted (heh) to Tessa Alexanian, who explained to me why trade can be bad for developing countries. She influenced most of the ideas laid out in that section (that said, I should get all the credit for any errors).

As usual, this blog post should only be taken as an accurate account of my own views, not the views of anyone else.

Epistemic Status: Model