How randomness rules our lives and why statistics need discipline

I have been reading Leonard Mlodino’s terrific book The Drunkard’s Walk, which is essentially an historical narrative on the development of thought around randomness and probability intertwined with modern statistical anecdotes. I would highly recommend this book to you all (especially if the inner nerd in you enjoys a little mathematical philosophy like mine does).

I feel the need to share some of the most interesting insights, and highlight some of my remaining concerns about the nature of randomness and probability. My main reason for caution is because the normally practical and insightful discussion occasionally crosses the boundary between mathematical and statistical insight and plain old common sense. These instances reiterate my stance that statistics need discipline. For now I will put these to one side – topics for future posts.  Today I want to share one of the more interesting insights into differentiating luck from skill with some basic probability theory.

Helmet law rebound effects and the success of terrorism

I write regularly about rebound effects - those unintended consequences that occur due to behavioural adjustments.   I wrote my Master’s thesis on the rebound effects from energy efficient technologies and household energy conservation behaviour (a good summary is here, my thesis is here, a draft paper on household conservation is here, and a draft paper on the effect of government environmental subsidies is here)

I have written about rebound effects from using photovoltaic panels.  The rebound effect from recycling, which enables us to use even more of the raw material we are trying to conserve. Recently, I wrote about the potential rebound effect from sunscreens – because we don’t have the immediate signal of sunburn to tell us that we have had enough sun exposure, we tend to spend more time in the sun.

One area I am particularly adamant that unexplored rebound effects exist is in preventative health care costs – by preventing one disease, we enable people to succumb to other diseases, which have potentially greater treatment costs.

But these sly rebound effects do not end there.

Population growth and the residential property market

I have been asked to develop further my ideas on population growth and residential property.  I hope to make it clear that arguments using population growth as a cause of future house price growth are probably misleading.

The first chart (above) shows the rate of population growth (RHS) and the the growth in the ABS capital city price index (LHS).  There are two important things to take away from this chart.
1. The rate of population growth can change very rapidly, and extrapolating past trends will always miss changes to this rate.
2. There is no significant relationship between these two figures over the period.

The land tax remedy

I have made  my point about the social benefits of land taxes clearly in the past.  I want to now direct the interested reader elsewhere for some informative discussion.

Here is an excellent article discussing land taxes and land price bubbles in an Australian context.  More from the same author here, and a plug for his personal blog here (take note of the CPI discussion - I want to discuss that in more detail in the future).

For those who want to digest some of the classic writings on the issue, see Progress and Poverty by Henry George (written in 1879).

Unfortunately there is a powerful political lobby working against such beneficial tax reform.  The Property Council of Australia has been pushing for reductions in land taxes, citing any increase in tax revenue from this source as a national embarrassment.  Of course, the large increase observed in Queensland (below) is partly due to the extremely low land tax base in 2007/08.  Not mention of the scale of the tax, just the increase.  Queensland's land tax revenue was just a third of the land tax revenue of NSW in 2007/08.

A little off topic now, but over drinks on the weekend I was talking to a Dutch friend of mine who also happens to be an economist.  He is thinking of moving to Australia but is very hesitant due to the exorbitant cost of living here compared to incomes.  He recently bought a new apartment in a the 'happening' part of town, and his total costs per month (including loan repayments, body corporate, rates, and his insurance for the home, car and motorbike which are a package) are 800Euro ($1300AUD). That's only $300AUD per week for all those expenses combined! That is below the median rental rate for a 2 bedroom apartment in Brisbane (including new and old stock).

There are a number of reasons for this.  In Holland, interest on loans for owner occupied dwellings is tax deductible.  The interest rate itself is just 4%.

So if the Dutch average household income is slightly higher than Australia's, and the Dutch have generally less land available, why is owning a home so affordable there?  And why is the rate of Dutch home ownership (54%) much lower than Australia's (70%)?

The sunscreen rebound effect

I’ve just returned from a few days at the beach with my family. One thing that stands out as a key function of a parent in the summer beach environment is making sure your child avoids getting sunburnt.

This got me thinking about a world without sunscreen. This cheap little cream enables us to withstand sun exposure like super-humans, avoid painful sunburn, and partake in activities that would be out of the question in a 'no sunscreen' world.

Since sunscreen allows us to tolerate so much more exposure to the sun, is it actually contributing in some way to increased incidence of skin cancer? Are the net health benefits of sunscreen actually much lower because of our change in behaviour?

 How big is the sunscreen rebound effect?

There seems to be some acceptance of the sunscreen rebound. This article states that “Sunburn may even protect against melanoma - by keeping people out of the sun.”

Again here:

The Australian experience provides the first clue. The rise in melanoma has been exceptionally high in Queensland where the medical establishment has long and vigorously promoted the use of sunscreens. Queensland now has more incidences of melanoma per capita than any other place. Worldwide, the greatest rise in melanoma has been experienced in countries where chemical sunscreens have been heavily promoted.

And here:

...sunscreen use tends to prolong the amount of time people spend in the sun while they are on vacation—and that only sunburn modifies the behavior of sun-seekers

And here:

Sunscreens suppress natural warnings of overexposure to the sun and allow excessive exposure to wavelengths ofsunlight which they do not block. Because sunscreens create a false sense of security, more effective measures to reduce sunlight exposure, such as limiting time spent in the sun or use of hats and clothing, may be ignored.

My experience suggests that all of these statements are true to some degree.

If everything was held constant - time in the sun, covered clothing, etc (notice the decline in hat wearing in the past few decades?) - then sunscreen may be quite effective at preventing skin cancer. But humans have a tendency to adjust their behaviour to take maximum advantage of such innovations.

The question that remains is whether there is still a net health benefit from sunscreen. But due to the plethora of uncontrollable variable in any longitudinal study, I'm not sure that we will ever have definitive statistical evidence for this.

Are economists cheapskates: A case study

Lately, economists have been copping it from all angles.  They have been widely acknowledged as cheapskates, following this Wall Street Journal article.


My personal view is that economists are either; (a) more aware of the satisfaction they derive from various goods, services and activities (they know their utility), or (b) studying economics makes us more aware of which choices provide more satisfaction.


I tend to agree with this point about economists, and myself in particular (from here):
They are cheap in the sense that they need to be convinced of an item's value—and be convinced of the fact that there is no cheaper way of getting that item—before paying up. They hate being wasteful, and they take a cold, scientific approach to maximizing efficiency.

GI Joe and the Market for Lemons

GI Joe is possibly the worst movie ever (see the number of goofs and plot holes here). But I still spent 2 hours watching it, even though there were plenty of better things to do with my time. Am I simply a fool?

The answer is, well, maybe. The reason I sat all the way through is that I thought the movie might redeem itself by having a nice twist at the end, or even a few cheesy lines that I could laugh at. But no.

Considering the number of terrible films made this type of situation is relatively rare. It is easy to get a number of honest reviews to narrow down the quality before watching a film.

In any case, it got me thinking that movie markets are similar to lemon markets because the quality of the good cannot be known in advance. In a true lemon market the quality cannot generally even be known after the good is consumed.

Economics of work and leisure

Recently, I cut back work to 4 days a week with a surprising result. Rather than feeling like I am enduring marginally less of a bad thing, I am actually finding work more challenging and interesting – even though I am surrounded by the same public sector circus.

I feel like a 20% cut in work has resulted in an 80% improvement in my work satisfaction, rather than merely a 20% boost.

As an economist I really shouldn’t be surprised. Economic theory suggests an optimal work time – there are decreasing marginal benefits to work (in terms of pay), and increasing marginal costs (in terms of time, level of stress, level of frustration etc).

But this experience (and the popularity of this television show) has got me thinking about how the wellbeing of society at large can be improved by working less.

Investing the easy way

If I combine the ideas of my land tax post, and my post on Tony Abbott, I end up with a generalised principle of scarce resources.  That is, that productivity gains across the economy accumulate as capital value of scarce resources that have few substitutes, with land being the ultimate example of this principle.

As we find dwindling environmental assets such as wild fish stocks, scarce rights to harvest fish begin to accumulate value due to economy wide productivity gains.  Australia is separating land and water rights as part of National Water Reform, and these finite water rights will also exhibit this general principle.

Most interestingly, and permits from the proposed Carbon Pollution Reduction Scheme will have this characteristic.

We will make a transition from a society where wealth accumulates in land, to one where wealth also accumulates in various rights to other finite resources.  I'm not saying this is bad. In fact the creation of finite rights is the best way I can think to place a value on scarce environmental assets.

I guess my point is that investing in these new finite rights to the environment is one way to invest in the protection of the environment.  Simply buying and holding these rights will accumulate wealth in much the same way that land traditionally has.  Of course, buying land and not developing (or even improving the environmental condition of the land) is a fantastic way to invest in the environment.

*Please note this idea is not yet fully developed.  Any ideas/comments are appreciated.

The Christmas gift arms race

I do like Christmas. Maybe it’s the memories of childhood where a simple water pistol was enough to keep the anticipation high for weeks, and then become an object of desire (and destruction) for months.

But these days I feel like Christmas has become more of a burden then a blessing. My experience suggests that the last decade has seen the demise of delayed gratification. Maybe it’s just because as a child you are subject to parental decisions, and so you learn about delayed gratification. Then in adulthood, you realise there is little need for that anymore and are happy to splurge whenever it suits you. But maybe it is a more widespread cultural phenomenon.

The cause of this burden I feel is what I call the Christmas arms race.