Confusing macroeconomic situation

The Reserve Bank has lifted its stimulatory cash interest ratesetting and showed a willingness to continue to tighten monetary policy if required. At the same time, the Federal government continues to spend into the economy with its Nation Building Economic Stimulus Plan. The RBA started contracting their position when the Government was only half way through its rollout of fiscal stimulus. All data upon which the RBA acted was severely affected by the $25billion spent into the economy as part of the Plan. That’s not forgetting the $17billion still to go in 2010.

Unfortunately we have yet to see what is left of the ‘real economy’ once this artificial situation expires.  But at least the RBA has proved their independence.

The reason monetary policy (changing interest rates) works is because is can bring forward, or delay, consumption. Lower interest rates bring forward consumption, as the reward for saving is lowered and people choose to spend more now rather than save and then spend later time periods. The cost of borrowing is also reduced, and can stimulate debt funded current consumption. Conversely, higher interest rates encourage saving and discourage borrowing.

The Nation Building fiscal stimulus package is bringing forward government spending – the exact opposite of what the RBA is trying to do. The remaining $17billion being spent this year will offset the last 3 interest rate increases – each 0.25% rise increased the interest on Australia’s private debt by $4.8billion/annum; money which would have otherwise been spent on present consumption or investment (of course I have overlooked the impact on savings rates in this calculation).

My gut feeling is that the RBA was far more confident then it should have been, and we may see a repeat of the dramatic change in policy that we saw at the end of 2008 when the cash rate was more than halved in a few short months.  There might be some money to be made in foreign exchange - I expect the AUD to decline between now and the end of 2010.  Another forecast to be tested.

Friday quick links

A new direction for interest rates?

For risk taking behaviours, the rebound effect even has a name – The Peltzman Effect

New Mysterious Cities of Gold cartoons on the way.

Broken window fallacy or just plain old human optimism? Café Hayek is full of gems.

Ever wondered why all news is bad?  A must read on what happens to good news.
...there are huge vested interests trying to prevent good news reaching the public. That is to say, in the ruthless free-market struggle that goes on between pressure groups for media attention and funds, nobody likes to have it said that `their' problem is not urgent and getting worse.

Externalities addressed the Dutch way.
...in the Vondelpark, a delightful reserve in central Amsterdam, it is illegal to let your dog off a leash. But it’s perfectly legal to have sex in the park, so long as it is not in view of a children’s playground. The argument is that the dog may make a mess that imposes costs on the unwary walker, while the couple imposes no costs on other park users.

Steve Irwin's way: Economics of wildlife conservation

At Australia Zoo (I had a lovely time there on the weekend, thanks for asking) there are numerous signs posted to encourage visitors not to buy native animal products – crocodile, emu, and kangaroo meat for example.  I found this very odd, as crocodile and emu are farmed, and most kangaroo species are not endangered – far from it.  So what kind of conservation message was this I wondered?

Steve Irwin expressed his conservation message more clearly on the website:

"Sustainable Use" of native wildlife in so-called modern nations like Australia and the U.S.A. has inadvertently created a multi-million dollar 'bushmeat' industry, where local people kill native wildlife for meat, skins and products. Please don't blame the local people; it's not their fault! They're simply hunting for much needed money. The greatest wildlife perpetrators of today's world are those behind the driving force of "Sustainable Use." 

How are the Tiger Farms in Taiwan and China helping to save Tigers in India, SE Asia or Siberia? They are perpetuating the market in Tiger products, which is the single greatest reason for the endangerment of Tigers.

…If we can destroy the market, we'll destroy the industry. Historically the only reason spotted cats, like Leopards and Cheetahs are still found in the wild, is because of peer pressure. It became 'uncool' and controversial to wear spotted cat fur coats, so the market was destroyed and the industry suffered. Slowly, less and less Leopards and Cheetahs were being shot for their skins, and just as well or they would've been extinct 20 years ago.

The principle behind this message is that if we eliminate demand for wildlife products, we will preserve species.  But there are alternative ways to protect wildlife and biodiversity (a side note: do we really care about an individual species, or do we use iconic mammals as the canary in the coal mine of biodiversity protection?)

In addition to the ‘demand destruction’ technique, economists propose other ways to preserve threatened species – promote domesticated supply (farm threatened species), the Coase solution (give rights to the species to a group who can profit from non-consumptive use of the animals such as eco-tourism and research), and simple land conservation.

Which of these measures work?  Should we try them all, or are they mutually exclusive?

How much is this island worth?

I would appreciate some feedback on a little conundrum I face at work.  The following analogy is close enough for our purpose, and what I want to know is how much the island is worth?

Imagine a large island was discovered in Australian waters in the 1960s.  The government takes ownership of the mostly desert island.  It has little environmental value, with a surprising lack of biodiversity, some small mineral deposits that are uneconomical to extract, and otherwise is of little use. 

The government decides that they may as well put the island to some use, and offer people a licence to inhabit the island, and the rights to the minerals and any vegetation they find.  The licence is offered for free with the condition that the licence holder make use of it within 3 years (by inhabiting the island or making use of its resources in some way).  By 2010 a dozen people have licences and inhabit the island.  The government estimates that they could offer 100 more licences before the islands land is fully ‘developed’.

The government changes its licensing policy and decides that licences will be converted in title of the land in the island - much like it is on the mainland.    It now has 12 blocks of land in private hands, and 100 in government hands.

The government then decides to sell its remaining blocks of land to the market.  At what price could they sell these 100 blocks?

I see two drivers of price:

1. The previously free and seemingly non-scarce licence is replaced with a scarce piece of land, therefore people will be willing to pay something simply out of speculation of future value (because they now don’t have to inhabit the island to keep the block).

2. The price is still worth nothing if people weren’t willing to take the licences for free for 50 years.

How do we estimate the market price, if any, of these blocks of land?

iHate Steve Jobs or Why I Won’t Buy Anything Made by Apple (Yet)

Guest post by Ben today

At the moment it seems that the ascendance of Steve Jobs and the Apple Empire knows no limit. With the media player and smart-phone markets sewn up and their eyes firmly set on conquering the tablet PC market with the omnipresent iPad, it seems that Apple can do no wrong.

But not for me; I can see the Apple vision for the future and it’s a safe, bland, white-chrome corporate hell. Why do I say this? Well maybe it might have something to do with:

• Apple’s restrictive licensing conditions for the sale and development of apps which basically amounts to censorship and discourages innovation;
• Their refusal to allow 3rd parties to sell apps; iTunes is it – monopolistic price gouging anyone?
• Draconian digital rights management – installing unlicensed apps on you iProduct voids the warranty as does ‘jail-breaking’ them;
• Stupid ongoing court antics with Adobe meaning that iProducts aren’t compatible with Flash;
• Rechargeable batteries which can’t be replaced;
• And the thing that irritates me the most: requiring the use of propriety peripherals e.g. iPod shuffles are designed so that you can only use Apple headphones; USB devices or HDMI monitors can’t be plugged into an iPad - you need to purchase a Apple ‘adapter’ first etc.

But these are secondary to my main issue with Apple, which is their pricing policy.

Housing crash makes us winners and the bubble checklist

It’s no secret I am forecasting price declines (or prolonged stagnation) in the Australian residential property market. The intricacies of this topic have led many to the conclusion that the government won’t let that happen - there are simple too many people going to lose in the short run, even if we may all benefit in the long run. While I agree that the government may not let this happen (although foreign ownership rules are being tightened up again), and may produce an arsenal of economic weapons we haven’t even though of yet, I disagree that there are more losers than winners from a significant housing price correction.

The mainstream ‘more losers than winners’ message is aptly summarised in this article:

The only people who would rejoice in a house price slump, it seems, are the young and aspirational. As Willem Buiter put it in his 2008 paper for the National Bureau of Economic Research, 'Housing Wealth Isn't Wealth', “…the young and all those planning to trade up in the housing market are made better off by a decline in house prices. The old and all those planning to trade down in the housing market will be worse off.”

This view is wrong.

Suggestion box and a call for help

After more than two years of blogging I have still not run out of topics to discuss. Like the television series Mythbusters, who seem to find that humanity can produce a constant stream of urban legends, I too seem able to constantly find economic myths, political promises, and social conundrums to pick apart.

However, I would love to hear what topics are currently of interest to readers – anything from social, environmental, and political concerns to the downright nonsensical. Please post a comment if you have any suggestions and I will endeavour to investigate in future posts.

For your interest, some of my favourite topics include:
• leisure time, helmet law and sunscreen rebound effects
• the food security myth
• arguments against population growth
• unintended consequences from maternity leave and child care subsidies
• why preventative health care adds to rather than diminishes the cost of the health system (here and here)
• and of course the many myths surrounding the housing market (here, here, here, here and here)

Finally, I would very much appreciate your help promoting this blog to the world. If you have your own blog site I would appreciate a plug (and will reciprocate).

If you want to be very helpful, you could promote some of your favourite posts by email, twitter, or some other medium to your friends and family, or post a link on your Facebook page.

One final prediction.  Next week's CPI release from the ABS will come in lower than expectations.  The probability of the RBA increasing interest rates again will drop from 70%, and the AUD will drop at least 1c against the USD.

CityCycle scheme, bicycle helmet laws, and a better alternative

In my bio I promise to turn ideas on their heads to gain a better understanding. In this spirit I ask the following question of Brisbane City Council’s proposed CityCycle bicycle hire scheme – is it better for council to subsidise a bicycle hire scheme to stimulate bicycle use, or is it better for council to subsidise a car hire scheme to encourage bicycle use?

(And yes council will have to subsidise the scheme through the donation of public space, and possible contributions to ongoing costs, as has happened with such schemes in Europe, even though hire costs and advertising on bikes provide the main sources of revenue for the operator).

I suggest the latter may be preferable. Here is my logic.

Wine Equalisation Tax, microbreweries and the grape glut

Subtle examples of the unintended consequences of government intervention in markets are not hard to find. Today we follow a path from the introduction of producer rebates for the Wine Equalisation Tax on wine makers, to the grape glut of 2010, to the call for tax relief from microbrewers.

The Australian government introduced a Wine Equalisation Tax (WET) to smooth out price changes when sales tax was abolished and the GST was introduced [A New Tax System (Wine Equalisation Tax) Act 1999]. However, small wineries receive a rebate on the WET for the first $1.7 million of production (a rebate of up to $500,000). Enshrining this rebate into law sheltered small wineries from the rigours of market discipline, and could be a key contributing factor to the current grape glut. At least 1,250ha of vines were abandoned in SA in 2008-09.

Did the rebate contribute to the glut, and should we offer a similar rebate to brewers?

Friday quick links

My childhood street is famous for building cubby houses in trees on council land

Obesity epidemic growing for a century - much longer than ever thought before….
and now Jamie Oliver does his best to tackle obesity the ‘old fashioned’ way, but faces strong resistance in the US, even after success in the UK. He faced tough opposition on the Letterman show:

'I don't care how much ground up sea grass you eat or wheat germ - or stuff you find in your pocket. As long as they are selling 160 different types of cookie what hope do you have?'

Oliver appeared to become resigned to the fact he wouldn't convert Letterman to his way of thinking, turning to the audience and saying: 'As you can see ladies and gentlemen, my challenge is big.'

Does this support a 'sin tax' on junk food, or are we aware of the obesity externality and simply don't care, making obesity an optimal outcome?

China housing bubble and government intervention
Beijing recently introduced much tighter rules for home loan lending. The discount on the mortgage rate for first home buyers has been cut, while discount for second-time home buyers has been scrapped altogether. In addition, second-time home buyers have to make a deposit of 40 per cent of the value of their home, while people buying their third home have to come up with a 60 per cent deposit.

A bit of social engineering for home ownership that just might work? Would there be any major problems implementing such restrictions in Australia (we could start a company to buy the investment property, but then only have tax beenfits in the 30% corporate tax bracket, and face the costs of company reporting requirements)?

Interest rate gamble
Looks like my bet was closer to the mark than it first appeared with weak lending data (a leading indicator) pointing to house price declines. Will the RBA let that happen?

More support for a National Resources Fund (this time from RBA chairman Warwick McKibbin)
RBA board member Warwick McKibbin suggests that Australia follows Norway’s lead and sets up sovereign wealth fund that goes beyond the narrow ambition of the Future Fund to finance public service pensions. Norway’s 4 million souls now own a fund worth more than $US400 billion, throwing off a big contribution to national income every year.