Housing investment is not productive

Property spruikers are currently having a field day proclaiming the productivity of housing investment. These claims are fallacious. Housing investment does NOT improve productivity.

To clearly explain why this is the case we first need to define productivity. Productivity is a measure of output from a production process, per unit of input. A productive capital investment therefore enables more future goods and services to be produced per unit of input (such as labour, materials etc).

An example of a productive investment may be a machine that enables a new design of metal fasteners to be produced from less metal, and with less labour time, but is equally as strong. In this case we have a productivity gain in terms of materials and human labour time for the same output. This investment allows use to produce more fasteners in future periods even with no more inputs.

Housing does nothing of the sort. It simply houses more people and does nothing to improve the per capita productivity.

Let's use a little thought experiment to prove the point.

Irrational saving or rational spending?

One question economics prefer to avoid is why irrational solutions to common problems faced each day by individuals seem to work. For example, our lounge room clock is 20mins fast (yes, I know that’s a lot). But when chatting with my wife the other day about whether we should put it back to the real time we decided to keep it fast. For some reason if the clock says 8 o’clock, even though we know it’s 7.40, it seems later than it really is. I don’t know why, but it does.

Another classic example is saving. Economists assume that the savings rate is fixed by our preference for current consumption over future consumption (not only this, they assume that individual preferences are fixed over time – that’s right, from birth to death). To any person living in reality, this fixed assumption is obviously not true.

For example, there are literally millions of websites preaching new an innovative ways to implement a saving strategy. Freezing your credit card in a block of ice to overcome spending urges is one solution. Having your salary paid directly into a fixed term investment account that can’t be touched is another.

The intriguing question is why we can be rational enough to use these ideas, but not so rational as to not need them. I want to examine this point today.

Firday quick links

No need to correct my spelling.  It's my new revenue generating strategy (thanks Ben). At least it will be if current research on misspelled domain names is anything to go by.
It appears that someone has spent time investigating the potential ad revenue from websites that are misspelled variations of popular websites. Surprisingly, a viable business model is to register misspelled website domains, and simply post ads relevant to the real website (or to the real website), to ultimately generate a decent profit.

But is there anything wrong with that? The authors of the study think so, and they have launched a lawsuit seeking damages from Google for facilitating this practice with their Adsense for Domains tool.

To me, this is a classic example of market fulfilling a niche function. There is nothing stopping businesses buying the domains which are misspellings of their own if they are willing to pay more than the value of revenue generated by advertising to the current domain name owner. Further, I would suggest that typing a web address to navigate to a site is fast becoming obsolete as you can generally navigate to the site with less typing by using a search engine.

In other news, the Brisbane Young Economists Network is hosting an event in Brisbane on the 4th March.  Pecha Kucha presentations will be given by some local economics PhDs, drinks are supplied, and there will be plenty of time for socialising. 

23 things I have discovered about Singapore

A guest post today from my very good friends Yo and Matt who are currently living in Singapore.

Yo's list -

1. People buy whitening products for their skin – it is considered more beautiful – funny that a tan is beautiful in the west! No one sunbakes.

2. The people walk very slowly, they are never in a hurry.

3. No one EVER sticks to the left.

4. People always sit on the aisle seat in the bus so that no one sits next to them

5. “la” is said at the end of most sentences (I still don’t t know why this is)

6. People hold a business card with two hands when passing it to someone whom they have just met.

7. The umbrella is actually useful on a sunny day *shame* and is a must for the handbag

8. Pashmina’s are also a necessary handbag item – the air-conditioning is set to arctic wherever you go.

9. Chewing gum is not illegal

10. You get the cane for any sort of graffiti (10 lashes I believe)

11. Kids don’t play in parks, or generally for that matter...they are very academic from a young age

12. There are alot of really, really expensive cars: Ferraris, Lamborghinis, Bentleys, Aston Martins...etc etc

13. Public transport is exceptionally cheap to encourage high patronage – it really puts Australia to shame. It is also very efficient (except to Matt’s work of course).

14. Affordable housing is done well, there are very little, if any homeless people.

15. Maids (mostly from the Philippines) invade Orchard road on Sundays – it’s their day off

16. Being Caucasian, and blonde (and female), you get stared at alot...you learn to win stare-offs very well. (Phebs, prepare yourself)

17. You pay for incoming calls on your mobile

18. You don’t see many policemen.

19. Shopping is a sport. More importantly, bargain shopping.

20. It’s all about the food here. Everyone is always asking about your next meal. (Chappo will fit in just fine)

21. Taxi’s are cheap, which is odd considering a Toyota Yaris is about $50k (just imagine what the Ferrari’s cost).

22. Starting Salary for a graduate engineer is about A$20,000.

23. You can have a maid for A$400/month. They will work 6days/week.

To round out Yo’s top 23 things to a top 30, Matt adds-

24: Almost all residents who live in Singapore are not from Singapore. Most are from Malaysia, Indonesia and other surrounding countries.

25: “Can” means yes, as in yes I can do that

26: Cash for payment is received in two hands (similar to Yo’s no. 6)

27: When someone invites you out to Friday afternoon drinks, that means you leave work late, not early

28: You can pay $2 for two coffees. You can also pay $20.

29: In addition to Yo’s no. 20, people never bring lunch with them to work. We don’t even have a microwave in the kitchen. Lunch with Singaporeans is always a sit down hot meal in a restaurant or cafe.

30: A 100m walk to a Singaporean is equivalent to a 1k walk to an Australian. No one walks very far here.

Global Barefoot Marathon

I have never run a marathon.  I never considered myself a runner. But lately I have grown to enjoy the rhythm of running, the pureness, and the simplicity of putting one leg in front of the other.

It is with this in mind that I propose to run my first marathon on the 20^th June 2010.   Want to join me?

Here’s the deal.  I know there are a lot of passionate runners out there all around the world, and I want to share this run with them.  While we cannot share the run with a physical presence, we can share the spirit of the run by all running together – a global marathon, synchronised, with people participating in the experience from around the world.

Randomness and probability: quantify with caution

One of the main lessons (or reminders for those trained in statistics) found in the Drunkards Walk deals with the reliability of data. Mlodino makes the important point that people latch on to numerical values. He uses wine tasting rankings as an example of how the numerical ranking has a huge impact on price, yet under blind tests, the people ranking are next to useless at actually determining which wine they are drinking.

Let’s look at a recent example of people latching on to the quantity without thinking of the error. Lately, ABS data has shown that unemployment has fallen by 0.1% - what is the probability that in reality unemployment has actually risen?

CPI update

I was attempting to create a 'Make your own CPI' spreadsheet that uses the ABS price indexes for each commodity group and allows you to assign your own weighting.  I was also using the weighting from the German CPI as a comparison (which weights housing as 30% of the basket, while Australia's CPI has housing at 19% of the basket).

But there was a problem.

The price indexes for each commodity group were so completely manipulated by quality adjustment (and any other unknown statistical manipulation that occurs) that you could not dramatically change the final CPI figure.  Using German weightings I was within one percent (of the total change) over a 10 year period.

Have a look at the house purchase index used for the CPI against the ABS' own capital city house price index in the graph below.  The extreme magnitude of the disparity is quite shocking.  The index used for the CPI increased by 36% over the 7 year period, while the capital city median price index increased 92%.

What lesson should we take away from all this?  I for one will never trust an official statistic without first understanding the methodology behind it.

Food packaging less wasteful than none at all!

I wrote once before that the concept of waste has been distracting environmentalist for decades. Today I came across this exceptionally interesting article on food packaging. The main point is that packaging serves an important purpose - to preserve food. The longer food is preserved, the more likely it is to be eaten rather than wasted. Thus, packaging cuts down immensely on food waste.

I do however believe that some packaging, such as the excessive size of cereal boxes to ensure good shelf space, does not always result in benefits for consumers.

Fail: CPI, housing and the cost of living

This short article about inflation, and the ABS review of the Consumer Price Index (CPI), prompted me to write again on the subject.  In fact, some friends and family who recently returned from a few years abroad have also been bugging me about why Australian prices have shot up so much, yet we hear almost nothing about rapid inflation.  Housing prices in Brisbane have typically increased 200% in the past decade - around 7% per year.  If housing was just 10% of the CPI basket, it alone would contribute 0.7%pa growth to the index.

First, let's be clear about the purpose of the CPI.  In principle I believe that measuring the price level is impossible as the type and quality of goods and services in the economy changes constantly. However, some indicator about the changing cost of living is still important for determining changes to welfare payments and calculating real growth in incomes. 

Unfortunately, not many people know that the CPI does not measure the change in the cost of living (see p6 of the ABS CPI overview report here).  The ABS method, including quality adjustments and the weighting of household consumption goods, means that the CPI fails to be a useful measure for determining real incomes and purchasing power. 

Randomness and probability: can people intuit probability?

One of my concerns with the evidence on the misinterpretation of randomness and probability in The Drunkards Walk arises during the discussion of the first law of probability: The probability that two events will both occur can never be greater than the probability that each will occur individually. While the law makes intuitive sense, the evidence that people fail to apply it to their reasoning is a little flimsy.

Mlodino asks us to consider an experiment from Khaneman, Slovic and Tversky’s famous book on judgement under uncertainty. Given the brief description about the Linda below, eighty eight subject were asked to rank the statements that follow on a scale of 1 to 8 according to their probability, with 1 representing the most probable, and 8 the least. The results are in the order ranked by the participants from most probable to least probable.

See the results under the fold and why their finding, that people have poor intuition of probability, may be incorrect.

What I've found interesting lately...

There has been a lot of comment on bonuses in the banking industry since the onset of the GFC.  Read Dan Ariely's take on the effectiveness of bonuses here.

For those who believe that economics generally gets things half right, behavioural economics might be your thing.  A mix of psychology and economics, this field has been enlightening economists for the past two decades.  Some of the latest findings in behavioural economics are found here (highly recommended).

Ugly city syndrome

This article suggests that ugly cities are the result of poor political leadership. That seems like a long bow to draw. I believe the cause of ‘ugly city syndrome’ is more subtle, and maybe we just have ourselves to blame. The simple answer might be that in the modern day of cheap international travel we are comparing ourselves to a wider selection of cities.

But where are the incentives to create a beautiful city? 

The Australian property market debt gamble

Investing and gambling are often mistaken for each another.  In one, you take risks based on known probabilities, in the other, unknown probabilities.  In one, you will probably win in the long run, in the other, you are bound to lose out.  In both pursuits we are psychologically predisposed to scams.

I find it interesting that prudent advice for gamblers is to risk only your own money, while for investors it's a different story - the more leverage the better.  But there must be an optimal level of leverage, otherwise we would all simply continue to borrow and destroy the value of the currency through money creation.

Given the realities of our world, one would expect that leverage below this optimal level would not persist for an extended period, as people would begin to notice the advantages of more leverage, nor would leverage or debt beyond this optimal level be able to persist.   It is therefore interesting to ask how would we know if we are above this optimal level?