Can Queuing Theory Explain the NHS Crisis?

The NHS is always in crisis. But I think with A&E waiting times pushing 12 hours, this certainly feels like crisis territory to me.

So what is happening? Well it seems to be to do with a lack of hospital beds - you can't admit someone if there isn't a free bed spare.

I had a look at the data and it turns out that bed occupancy has increased over the last 10 years, but only from 85% to 87.5%. I was a bit puzzled by this until someone mentioned these figures only capture availability of beds at midnight - occupancy rates can frequently hit 100% within a 24-hour period.

Still, I could quite seem to get my head round why we were seeing such long waiting times. That is until, I read about queuing theory.

Queuing theory is just as it sounds, it is the study of queues. This sounds extremely boring until you read some of the results...

This seems totally implausible! How can adding just one more teller reduce the waiting times to this extent?

We have all had to wait in a queue that seems to take forever. Inevitably, just as your edging closer to the counter, the person in front of you tries to return an item. To make matters worse, the employee can't find the right code and then has to call over their manager. You stand their tutting, clutching your muesli. 

With queues, there are number of things that can increase waiting time. The first, is the amount of people that arrive in a queue. Although usually there is a nice steady flow, people arriving every few minutes or so. Sometimes lots of people arrive at the same time due to random reasons (this resembles a Poisson distribution). Yes, the average may be 1 person every minute, but it is not improbably that 10 people arrive at once.

Another thing that can affect waiting time is the person queuing. Sometimes you only have one item and others you have a whole weekly shop.

Then you have the point of service. For example, adding more servers will decrease the amount of waiting time.

But why does adding another server reduce queue time dramatically in the above tweet? Well, one reason could be that if someone is taking ages to be served, adding another person at the counter allows one line to flow more quickly. As a result, people will self-select into the fast-flowing line and fix the backlog.

If, however, you don't fix the problem quickly, it is likely that queue continues to grow which creates a huge backlog and makes things more complicated. In a way, it is very similar to the game Tetris.

Tetris is very easy when you are in control. You just rotate the shapes around, complete your lines and keep things ticking over nicely. The problem comes when you make a mistake, or a difficult shape comes out, or things get a bit faster. Suddenly, you find things getting out of control fast. You are forced to make suboptimal decisions and before you know it, it's game over.

This is exactly what happens with queues. Once you let the queue get out of hand, it is difficult to put it right again. Sure, adding extra servers can help, but they are more helpful at the start when you can put things right again quickly as you can get back to normal service faster. But if you leave it too late, the queue is extremely large, then sorting out the mess is much, much harder. 

This can be the hard round. I think the reason for this is that most people think relationships are linear. It seems logical that if one bookshelf can store 50 books, then adding another one will store another 50 books. But just because a lot of relationships in life are linear, doesn't mean they all are. Linear thinking is probably why understanding how the coronavirus can suddenly get out of control was so difficult for many people.

We can actually see this non-linear relationship occurring in healthcare. Notice, how rejection rates (which you can think of as a proxy for queuing) increase exponentially when ICU wards get closer to full capacity. You should read the full paper (which is easy to read) to understand exactly why this happens as it is really interesting.

This does raise the question as to why we didn't build a vast number of spare beds? I think it boils down to my bete noire, the anti-waste mindset. Having hundreds of unused beds does not seem like efficient use taxpayer money, especially when they will be rarely used. 

The irony is we are going to have to spend a lot more money than we would have done if we never let the problem get out of hand in the first place.

A Decade of Bizarre UK Economic Policy

If you want to beat the markets, the old adage of "buy low, sell high" is not a bad place to start. To sum up a decade of Conservative economic thinking, they appear to have gone for "sell low, buy high".

The conservative party under Cameron ran the 2010 election on the idea that Labour crashed the economy. The idea was that Labour had spent too much which led to unsustainable levels of debt. Although it was somewhat true that the debt to GDP ratio crept upwards during the New Labour years, the biggest jump occurred during the bail out of the banks as a result to a sub-prime mortgage crisis which started within the US.

"The spent too much" part is debateable and depends a lot on your politics, the "crashed the economy" part was a lie. Blaming the previous government for economic woes is nothing new. New Labour frequently referred to previous conservative government as "the boom and bust years".

Cameron's soundbite was appealing to responsible voters everywhere: we all know someone who is bad with money, gets into lots of debt and struggles to pay bills. I vaguely remember Sky news running a ticker of government debt writing it out in its full 1,500,0000,000 or whatever. 

There was a view at time that the UK could end up like Greece, which was going through a crisis of its own due to lying about the levels of government debt. In reality, this was an existential crisis of the Eurozone: why should Germany bail out the Greeks? Eventually the European central bank would step in to help Greece. But the idea that the Bank of England would not immediately be the lender of last resort to the UK was as absurd then as it is now.

In normal times, the economy is "managed" by the Bank of England who set interest rates. For example, increasing rates when inflation is high, decreases demand in the economy which should help lower prices. 

The huge recession that followed the financial crisis led to rates at extremely low levels to try and increase demand within the economy. The problem thought was that it is difficult to decrease rates lower than zero. There was, however, another way we could have increased demand in the economy...government spending.

Now many people will have certain moral and political views about austerity. From an economics point of view, austerity is simply a way for governments to reduce their budget deficits. It is now, for better or worse, associated with spending cuts. But tax rises would have the same effect. Either way, you are taking money out of the economy which will reduce demand.

So at time when demand was very low, the Cameron government decided to pursue austerity which took demand out of the economy. The rate at which the government could borrow at was extremely cheap and economic orthodoxy* would say it would have been a good time for the government to spend. Now, this "spending" didn't have to come through investment. It could have been tax cuts!

Then there was Brexit.

Brexit is a tricky one because in terms of the economic impact of Brexit, the consensus was clearly it would make the UK poorer. But economics is not just about incomes, it's also about preferences. If people were willing to trade-off sovereignty for income then so be it.

Fast forward to the present day and we are faced with a different situation. Inflation is high and the Bank of England has raised rates at the fastest we have seen for 30 years. Interest rates are no longer at zero and the debt to GDP is near 100%. 

Whether the high levels of government debt is a concern or not all depends on whether lenders think the path of debt is sustainable. There is no optimal level of debt as such but the general consensus is that it should come down. How fast this process needs to be is again something up for debate.

Truss has argued that the only way out of this mess is growth. In order to repay back the debt we need the economy to grow so we get more tax receipts and pay down the debt. This requires a bit more steps in logic from voter. It is also a complete shift in what they were told by the Cameron government 10 years earlier. It does, however, happen to be true.

Truss has gone about seeking this growth through tax cuts. Now one would think that tax cuts would simply add to demand and thus add to inflationary pressures that the UK is already seeing. But her argument is that these tax cuts increase supply. These supply-side measures are meant not only to grow the economy but also reduce the price. If you magically found a way to increase the amount of apples that would grow on trees, we would have more apples at lower prices.

The difficult here is that not many people actually believe these tax cuts will increase growth as the evidence for them is weak. Even if you an ardent supply-side supporter, will these tax cuts translate into the large increases of growth needed? I very much doubt it.

This is possibly why the markets have reacted badly to the budget - the tax cuts will do little and lead the government on an unsustainable path of debt. 

There is a case (from an economic management perspective) that it would have been much better if Cameron and Truss would have swapped places. Rather than "buy high, sell low" it would have been a lot better if we "bought low and sold high". Which is why I find the whole thing utterly bizarre. 

*I know there is some debate here over economic "orthodoxy" as some economists in the profession were concerned about debt levels. 

Vibes vs Size: Bacon, Lightbulbs and £15,000,000

Last week I was amazed to read an article in the Guardian which talked about a pub "cutting energy costs" by switching off their lights and using candles instead. Throughout the article there was absolutely no mention of the fact that this could save the pub probably no more than 1-10p (without even factoring in cost of candles). 

Why is it not well known that lightbulbs, especially LED lightbulbs, don't actually consume that much energy?* 

I recently ran a couple of workshops on statistical literacy and science communication with people from different academic backgrounds and one thing that came up was effect size.** 

When people read in the newspaper, about say bacon being linked to cancer, what do people actually do with this information? Do they eat less bacon as a result? Because even if bacon is linked to cancer, you have to eat an awful lot of bacon for there to even be a small risk and it still won't get anywhere near to the effect size of smoking.***

So one theory we came up with is that people essentially just work off vibes. That is, in order to understand the world they categorise things into simple "good" thing or bad" thing. Seeing the world this way is much simpler and easy to remember than effect sizes. We all doit. There are just so many things in the world we have to remember so we have to find some simple heuristics to help us.

For example: Fruit, fish, red meat, vegetables. I am pretty sure in your head you already categories these things into "good" and "bad". 

If you have ever been on a diet, counting calories is a real pain. To do it properly you have to not only look up the calories of each ingredient but weigh them out. This is why people often use a simple good/bad heuristic to make decision when they are on a diet. Fruit and vegetables are "good" so people on diets eat lots of them, even if that fruit is orange juice (which can have more calories than coke). 

If you think this is easy and it's just that people are stupid, how many calories would you say are in a large Domino's garlic and herb dip? And even if it is easy for you to quantify and remember effect sizes, for a large population it isn't. The thing that often happens in these sorts of situations is that the people who find it easy just say "look, it's easy" and think the people who find it hard will magically find it easy too.

This is why we need to think of ways to make heuristics as easy as possible based on the way people actually behave rather than trying to change the way they behave. If people work off vibes, then maybe think about the vibe that will be most effective. Tom Forth suggested electric things that get hot use a lot energy which is not a bad vibe to put out.

It would be good therefore if the government were to put out some simple heuristics so people would have a good grasp of effect sizes. But as my showbiz cousin pointed out, the government seemingly don't understand effect sizes themselves if it thinks £15 million is a huge amount of money to spend on an energy saving campaign (it is the equivalent of 0.0025% of the energy bills bail out). 

So in short: if people make decision based on vibes rather than size, we need to find the vibes that reflect the size.

*When you point this out to people they say "Yes, but every little helps". It is quite difficult to change someone's mind on this. To them doing a bit of good is better than doing no good at all, which is true. But in reality, it is just cope to make themselves feel better about putting on the heating rather than wearing a sweater. People like to feel good about themselves and you are just pissing on their chips.

** I think the lack of attention to effect sizes is partly down to academia. We are so concerned with establish correlation and causation that we forget the most important thing to people is often effect size. 

***I actually know someone who became a vegan for health reason and still smoked!

Why did the £ drop to its lowest ever level against the dollar?

Right, I am not going to lie. To understand what happened last week is extremely difficult to explain as you need to understand a few things before we even get to fully understand what happened. By a few things, I mean you would have to learn half of my 2nd year economics undergrad course and even then it would be hard going.

Firstly, I think it is helpful to read about how interest rates are used to control the economy, managing the trade off between inflation and unemployment. 

I then think it would be useful to understand what quantitative easing is  and money creation in general but not as important. 

These two things are hard enough as it is, before we get to the world of exchange rates and gilts.

Why do exchange rates move around in the first place? Well an exchange rate is simply the amount of one currency you would exchange for another. So at it's lowest last week, £1 would at point get you around $1.04. We tend to usually pay attention to this when we go on holiday. But primarily the exchange rate is important for trade and investment, it also works a lot like any other good.

Let's say pork pies become the must have global item and NY fashion models are demanding them on their riders along with champagne and caviar. As demand rises for pork pies from the US, they obviously can't pay the good people of Melton Mowbray in dollars, so they need to obtain pounds in order to pay for their gelatinous treat. As there is a fixed supply of pounds circulating, this leads to an increase in the price of the pound to dollars, this price is what we call the exchange rate.

What effects exchange rates frequently is interest rates. If the UK decided to raise interest rates, then people from abroad would want to take advantage of this higher rate and buy government bonds. There would be a demand for pounds which would increase the exchange rate and strengthen the pound. 

In the UK, we call government bonds "gilts" (as a result of the paper contracts having a gilded edge, apparently). These usually work a lot like the fixed-term bonds you can take out with your bank. The longer the bond, the higher the interest rate you would get. The "yield spread" is an important indicator. It measures the pay-out difference between short-term bonds and long term-bonds. A higher spread indicates the investors are more concerned about the economy in the long-run, and makes it more expensive for the government to borrow.

Now some investors will want to buy and sell currency to take advantage of small differences in price. Let's say it was suddenly announced that unemployment in the US was lower than expected, immediately the dollar would rise. The reason being is that investors think it is more likely that interest rates will rise as a result (you should now understand this if you read the first link in this blog) and people from the UK will buy US government bonds.

But why don't investors just simply wait until the Federal Reserve (the name of the US central bank) actually announce an increase in rates? Well, this is because you can lose out.

Lets say the exchange rate of pounds to dollars is 1.20. We expect the pound would get weaker against the dollar if there were a rise in interest rates in the US. As demand for dollars rises, we may think the exchange rate will end up around 1.10 in the future. So if I buy it now, I get a better deal. I can get 10 cents more for every £ I buy then if I waited (I am buying at 1.20 then 1.10). But because all investors have the same idea, the exchange rate moves extremely quickly to this new exchange rate. This is because the faster you act, the better deal you can get as you can buy closer to the old exchange rate! This process is known as arbitrage. 

Now of course this is just an expectation of the way, things work. It could turn out that interest rate rises don't actually happen in the US for various reason. The point is, these currency markets take into account future information as there is money to be made. When someone says something in the future is "price in", it means markets have already taken account of this and it is reflected in the price.

So why did the pound fall to the dollar in late September 2022? Well, trying to explain movements in the market is something we should be not overly confident about. It is quite complex to unravel everything even if the narrative sounds plausible. The first thing to note, that in the US interest rates are high and increasing, so there is already a lot of demand for dollars. 

In the UK, the trajectory of interest rates also seems high. But should this not increase demand for pounds? What's more, when the chancellor announced his new tax plans wouldn't that also add a stimulus leading to inflation, hence making it more likely interest rates would increase. Wouldn't this make the pound stronger? The simple answer is, yes. This is what we should expect. However, the markets may have been concerned that these tax cuts were unsustainable as they would be paid for by borrowing. 

This is something that George Osborne was worried about and subsequently imposed spending cuts as a result. (Although the macroeconomic conditions were very different 10 years ago  - interest rates were extremely low to the extent it was causing a problem called the zero lower bound. Oddly this resulted in not borrowing when rates were low 10 years ago and borrowing when rates are high now. Yes, this is as bad as it sounds.).

When debt is sufficiently high (and I am not sure we know how high really), markets worry that inflation will happen as a result and hence your returns are not as good, so many investors start selling off UK bonds which makes the pound weaker. 

There is a strong possibility that this is what happened to the UK. This is something that usually happens in the emerging markets when governments make unfunded fiscal promises. This perhaps wasn't helped by the governments derision of independent bodies like the Bank of England or the OBR. 

The government, however, disagree. They suggest their tax cuts are not inflationary (as in just increase demand) as they are designed to increase supply. If you increase the supply of something, you not only increase output, but you also lower the price. So supply-side policies will actually help with inflation as well as debt. This is because the economy will grow and you get more tax returns as a result. This why the government are so concerned with growth.

I actually think being concerned about growth and not just debt is a welcome move. However, I am somewhat sceptical that these can come from the tax cuts proposed, which I am also guessing the market also thought as well. I don't think they are evil or doing for their mates in the city (I wish I had friends like this). I think the government are genuine believers in supply-side logic, even if you think it is a totally mad thing to believe in.

If you have got to this point, well done. You can be rewarded by now trying to work out what happened with the pensions market, and why the Bank of England had to step in. Now, many people will say the Bank of England did QE in order to stabilise the market, but I think this is unhelpful. Especially because the Bank of England of course want to do the opposite at the moment, lower demand to control inflation. Yes, they did create money out of thin air but this is not really to increase demand. It was essentially to increase liquidity as the lender of last resort.

Liquidity is all about time. If you go to the shop and find out you have no money, you can't say to the shopkeep that you own a house so you are good for the money. You need cash to pay for it. So a liquidity problem is not necessarily about whether someone can afford it, but whether they have enough time to sell assets in something they can move on quickly like money. The more liquid something is, the more freely it moves (hence the name).

Now I must admit that I actually had no idea why the pension markets was going crazy. Higher interest rates should be good, as a lot of pensions invest in government bonds. The problem, as far as I understand it, was that pension investors "hedged" against interest rates rising so quickly. A hedge is a way of insuring yourself against something happening, hence the phrase hedging your bets. For reasons, I am not au fait with (finance is boring), this created a liquidity problem. If the Bank of England failed to act, a financial crisis was well on the cards and deep recession would follow.

Anyway, I hope this blog has made things a little clearer. But I can totally understand if you want to never think about these things ever again. 

No, QE did not lead to inflation: an explainer

Inflation is always and everywhere a monetary phenomenon in the sense that it is and can be produced only by a more rapid increase in the quantity of money than in output.

Milton Friedman 

I have seen the above quote a few times recently explaining inflation. Inflation, is a bit more complicated than Friedman put it. But more importantly, I think the quote can be a bit misleading. This is because a lot of people associate inflation with printing money. 

The most famous example of this is the Weimar Republic which printed large quantities of bank notes in order to pay reparations for WW1.  As a result, a loaf of bread in Berlin that cost 160 Marks in 1922 would cost 200,000,000,000 Marks in 1923.

When QE (Quantitative Easing) was proposed in 2009, some people were worried that this would result in inflation. After all isn't QE just a fancy way of saying we created money out of thin air? Some people think as QE has continued, it is in part responsible for the inflation we are currently seeing.

To understand why this view is incorrect, we need to understand how money is created. It is a common misunderstanding that money is backed by gold. This can come as a surprise to most people (a lot of conspiracy theorists actually start out with this fact).

So what is money? Well, the best way to think about money is debt. Lets say I wrote on a signed piece of paper I.O.U 1 pint. and I gave it to my you in the pub. The next day, you wanted to pay someone else, but you don't have anything else on you other than the I.O.U. Now because I am an upstanding and trustworthy citizen, this person would trust that I make good on promise of a pint, so accepted the IOU as payment (I have another blog on why trust is important for money - even Bitcoin!). In fact, this I.O.U could keep going round and round until someone came to eventually get a pint off me. 

What we have done here, is create money out of thin air.

During the middle ages in Britain, this is essentially how money worked. They would use a stick (usually hazelwood) and split it in half, one to the debtor and one to the creditor. Once the debt was paid (you gave them a ye auld homebrewed pint of ale) then the sticks would be destroyed. But because the split sticks were unique, you could trade them with other people in the same way the I.O.U was traded in the above example.

As most of the lending these days is done via banks, it "creates" most of the money we see today. Commercial banks don't print physical paper money but it is important to note that physical paper money only accounts for 3% of all money, the rest is held electronically by commercial banks. 

A common misconception is that banks get deposits in and lend them out (some even blame economists for this misconception). Banks, however, can lend without having the exact deposits to match in the same way that I can write an I.O.U for a pint without actually having the pint on me in that moment.

Now before you go all end of Fight Club on me, this does not mean the Bank of England has no control on this process. 

Your eyes may glaze over with a lot of financial jargon here but I will try and explain everything.

When the Bank of England sets it's interest rate, what it is actually doing is setting a repurchasing agreement rate with commercial banks AKA the repo rate. Commercial banks often want to borrow over the short term because they want to stabilise their reserve ratios. A reserve ratio is the amount they lend out to what they have in reserves. These reserves need to be "liquid" meaning they can be exchanged very quickly (cash is extremely liquid and can be traded straight away whereas a house is not as it would takes time to sell)

So a reserve ratio of 20% would mean a bank will have £20 in cash say to every £100 they lend out. This is important because banks that have very low reserve ratios expose themselves to a lot of risks such as bank runs.

So when the Bank of England lowers interest rates, what they are actually doing is lowering the rate at which commercial banks can borrow over the short-term which means banks are more likely to increase loans and hence...increase the money supply.*

So where does Q.E. come into this? Well Q.E. is a way of getting banks to lend out more when interest rates can't get any lower. Economists call this the "zero-lower bound" which is a stupid name, But after the financial crisis we hit the zero-lower bound in the UK and we needed to stimulate the economy. Basically, if you put rates any lower than 0%, like -1% you are paying commercial banks to borrow from you in order to get them to lend (this has actually happened in some countries). 

An alternative method to get commercial banks to lend more is to buy bonds off them. The Bank of England would credit banks with the cash which meant the liquid cash reserves of commercial banks increased. This commercial bank an incentive to lend out more to increase economic activity. The Bank simply created the cash out of thin air here, just as I did with the I.O.U. Once the bond is due, the cash is repaid to the bank and then gets destroyed (not literally, it is all done via something like Excel).

I can understand this is lot to get your head round, and I am not saying Q.E. is perfect. But what I want you to take away from this blog is that Q.E. is not some totally weird thing in terms of money creation, we have been doing it for decades with the central bank controlling interests rates. 

The idea that Q.E. is inflationary is largely down to people not understanding how money is created in the first place. 

* John Barrdear from the Bank of England helpfully pointed out that there are other ways the interest rate affects output, so I don't want to give the impression that central banks aim is to control the money supply here (most of us have moved on from the 80s). 

The economics of unions

With the ongoing rail strikes I wanted to talk about the economics of unions. Why do some jobs have unions that you can join and others don't?

There is a simple answer to this: power.

This might sound surprising coming from an economist, but actually power is an extremely important concept for markets and we implicitly talk about it all the time.

When you hear economists talk about "competitive" markets or an increase need for "competition", the word conjures up images of John McEnroe getting in red in the face over an umpires decision. If you were to describe someone as "competitive", let's be honest here, you are saying they are a bit of a dick. The type of person who throw a monopoly board in the air if they lost.

I do think this another instance of a badly named word in economics. Competition in markets doesn't mean people actually having to be competitive in a sporting sense. All that has to happen is that no firm can have so much influence that they can determine the price alone: they do not have the power. No one can charge really high prices as there is always someone there to undercut that price. This is why we think monopolies, where we have a single producer, are bad. We think they are so bad in fact, that we have an office of fair trading that determines if markets are "competitive" enough. 

Just as there are markets for goods and services, there are also markets for work which we call the labour market. The question as to whether or not the labour market is competitive depends on a simple question: if you lost your job, how easy would it be to find another one? That is, how much power does your employer have over you. 

The reason why this is a problem, is that if an employer has a lot of power, they can give you lower wages then you would have in a competitive market. If there were a single provider of jobs, we would call this situation a monopsony.

If you think about the last time you got a raise at work, it might have been because you threatened to leave or even had an outside offer. But if you have a single employer, say you work for the NHS, how can you get an outside offer?* Unions are an attempt to rebalance this power, between the employer and workers. It is why public sectors has many unions for teachers, nurses and rail workers have unions. 

The slightly annoying thing about this is that public sector pay debates seem to come up time and time again. I would like the UK to follow a policy by economist Pedro Gomez who proposes two rules. 1) That the level of pay in the public sector should be slightly lower than the private sector due to higher job security. 2) That the rate of public sector pay should be the same over time. That is, if the average private sector pay rises by 2%, that public sector pay should increase by 2% too. This means that incentives to join the private sector over the public don't diverge over time. 

Of course you will have some debate about levels of pay in the public sector, if job conditions change or we need more nurses, for example. But talking about levels is a much better way to doit than talking about rates and avoids strikes like we are currently seeing.

Now I am not arguing that all unions and strikes correctly address this balance of power in either direction. But I wanted to highlight the economic justification for them.

What I do find slightly annoying, however, is when people give the helpful advice of "join a union" to any issue arising in the labour market. About 25% of those that are employed are currently in a union. Obviously not everyone who has the option of joining a union, does, but it won't make that figure much higher if everyone who could join a union, did.

Although decline in labour market power is one reason for bad jobs with low wages in high-income countries, it isn't the only. There are all sorts of other reasons these wages have declined such as globalisation and low productivity to name but two. Unions are not panaceas to low pay, but are certainty helpful in rebalances market power in some industries.

*Perhaps one of the most famous unions in the UK are in mining. The reason why the employer had power over workers here was due to the fact that if you lost your job in Durham say, you could not easily move to a Welsh mine. 

Why the value of Bitcoin is falling: an explainer

When I was young, before I even knew what economics was, I would stare at the pink front page of the Financial Times, wondering why anyone would be interested in the merger of two companies that no one has ever heard of.*

But sometimes, there is some financial news that I think people are genuinely interested in, they just have no idea what is going on. And because most of what is written about finance is for those in the know, it will forever remain a mystery to them.

There are a lot of things in life that are near impossible to enjoy unless you have some background understanding. It is why most lay people think cricket is dull or ballet boring. What makes matters worse is that when asking fans of a particular niche how to get into it, they usually say that you will just pick it up. I was once told by a poetry buff friend to just read poetry and I will pick it up. I read it, didn't get it, and put it down.  

It takes quite a lot of willpower to get through the early phases of a hobby, so I think any way you can make this learning curve less steep is great. This is why I started writing this blog, to help people understand economics. And who knows, some of you may even go on to to read an article... in the Financial Times.

*

The value of Bitcoin is going down. The reason it is going down, is because of inflation. To understand why this is interesting we need to look at what usually happens with two other types of investments when inflation happens: stocks and gold.

Inflation is the average rise in prices. So if inflation was 100%, a pint that was previously £5 would now cost £10. If you had £10 in your pocket, it would only buy 1 pint rather than 2.

In order to control increasing inflation, central banks will raise interest rates that ultimately determine the interest rate you get from your bank. You can read a brief explainer on the theory behind this here, but the upshot is that raising interest rates make saving more attractive.

If you looked at the interest rate you could get on your savings account over the last few years, whether it is an ISA or bond, you would be lucky to get anywhere near 1%. This meant that most people would try and look for higher returns elsewhere. In order to get higher investment returns, you usually need to invest in something more risky, like the stock market. 

If you put your saving into a bond, they are pretty much risk free - a safe asset. Usually you just have to give the bank your money for a set amount of time (1 or 2 years, say) and you are guaranteed a return. A share in a company, however, is a risky asset. It may give you much higher returns but it's not for certain. The fact that returns to safe assets have been so poor over the years is one reason why the stock market has been so high. 

So when inflation happens, people move their assets away from risky assets like the stocks into safe assets like saving bonds. This is why the stock market isn't doing so well now.

Another thing that happens with inflation is that gold increases with value. Traditionally, gold has been viewed as a "hedge" against inflation. A "hedge" is just something that protects yourself against a financial loss. This is because with inflation, the purchasing power of currency goes down (you can only buy 1 pint instead of 2). Gold is a precious metal and has a value of its own so won't necessarily lose value due to inflation. Why it has a particular value is difficult to get your head round but the easiest (and best?) answer is that gold is shiny and people like it. 

So what does all this have to do with Bitcoin? Well Bitcoin was invented to be an alternative currency to regular old pounds and dollars. Fan of Bitcoin's say that you cannot completely trust government controlled "fiat" currencies: governments can simply print money out of thin air (unlike crypto) and you will just get inflation. I don't buy this argument, but it is an argument nonetheless.

So given that cryptocurrency is an alternative currency, you would expect Bitcoin to be a hedge against inflation. So you would expect more people to invest in Bitcoin when inflation happens. But this has not been the case. In fact, the opposite has happened. 

This is because many investors think Bitcoin resembles a risky asset (like a stock) rather than a safe asset (like gold). This also suggests that part of the dramatic rise in Bitcoin was due to the fact that returns on savings bonds have been so poor. Even if there was a a 1 in 1000 chance of Bitcoin becoming a global currency, it might be worth a punt as the returns could be huge! But this becomes a less attractive bet when the return on safe assets, such as savings bonds, are rising.

This may or may not be particularly good news for crypto fans. It suggests that most investors are not massively convinced by the overall claims of it being an alternative currency. However, part of of what makes a good currency is stability - you are less likely to spend your Bitcoin if you believe that it will be worth twice as much tomorrow! Perhaps this crash brings a period of stability that makes it more usable as a currency. So the crash might be bad news if you invest in crypto but good news if you believe in the overall project of it being an alternative currency. 

  

*I love reading the FT now, but I still think mergers are extremely boring.

Doves, Hawks and the Politics of Interest Rates

Everything is political. 

This phrase annoys me. It is often used as a way for people to steer the direction of an argument towards something they would prefer to talk about: politics. 

For example, how do interest rates affect inflation and unemployment? Of course this question has political ramifications, how can it not? And yes, people's views on this will be affected by political bias. But at some point, moving interest rates up or down may actually do something to these variables and maybe, just maybe, that is an interesting question in itself?*

But in this case I actually want to talk about the politics of interest rates. I was partly inspired to write about this by the rather odd statement from Andrew Bailey suggesting workers shouldn't ask for pay rises in response to inflation. But also because I think the Left vs Right view of interest rates is misguided.

I have written a brief explainer about how we think interest rates work but feel free to skip the next section if you are au fait with monetary policy.

Intro to Interest Rates

Interest rates are the tool most modern economies use to control inflation and unemployment. You may be aware that the UK has a target rate of inflation of 2%. What you may not realise is that they also target unemployment implicitly (the US they are explicit about this in the Fed's target and state it as a 5% unemployment rate).

This is due to the view that there is a trade-off between inflation and unemployment, AKA the Phillips curve. 

Imagine an economy where unemployment is high that there is a surge in demand for new goods. Firms will hire people who are unemployed to meet this extra demand and so there is no real pressure for prices to increase.

But what if very few people were unemployed and demand increased? Prices are likely to increase in this case. The only way firms could get people to make these new products is by hiring from other firms or ask people to work more hours. But in order to do this, you need to increase wages. But increasing wages means people have more money to spend and this increases demand for products further, so firms increase prices again. This is the so called wage-price spiral.

So in order to control inflation, central banks increase interest rates in order to encourage saving rather than spending. This takes some of the demand out of the economy and so firms won't need to find workers and raise prices to meet this demand. 

If unemployment is high, however, we don't expect much demand in the economy and so expect inflation to be low. The central bank would seek to cut interest rates to discourage saving and increasing spending so that firms will employ more workers.

Doves vs Hawks

Being a "Dove" on interest rates entails caring more about unemployment than inflation, so you would be less likely to increase interest rates with signs of inflation. This is often associated with being more Left-wing. Being a "Hawk", is the opposite, caring more about inflation than unemployment and is usually associated with being more Right-wing. 

The historical reason for this political alignment is probably easiest to think about in a rich class (Right-wing) vs poor class (Left-wing) way. 

Poorer workers are more likely to be unemployed or become unemployed, so should intrinsically care more about unemployment. They also have have very little savings or assets which is aversely affected by inflation. 

For example, if  inflation was 100% and I were on £10 an hour and had zero in savings, then due to the demand present within the economy (so the theory goes) I would be able to get a wage rise in line with inflation to £20 an hour. Capitalist get most of their income via assets rather than labour, so if they had £1 million in savings then 100% inflation would mean they would affectively lose £500,000. So in this case the rich have far more to lose from inflation than the poor.

The first issue I have with this is that (in the UK at least), wages are not currently rising with inflation. There are number of reasons for this that we know of, not least the decline in unions and bargaining power of workers. But also that inflation is being driven in quite a large way by supply-side issues, through energy prices, Covid in China and the war in Ukraine. So the standard demand side view of inflation (as described in the previous section) isn't really the dominant factor in what is happening. What this means is that inflation is hurting both poor and rich alike. And although it may affect the rich proportionally more, the poor are less able to cope with inflation - hence, the cost of living crisis.

The other issue I have is that the rich also care about unemployment (not in a benevolent sense). By this, I mean the rich care about demand in the economy. If you are a big fat cat capitalist, you actually want people to go out and buy your wares. Unemployed people tend to not have very much money, so from a purely selfish point of you, the rich want you to be employed. So even though they may care about inflation more than unemployment, economy-wide unemployment is still bad for the rich.

I have only touched upon the politics of interest rates in so far as how they affect inflation and unemployment. But interest rates have a politics of their own. Home-owners (who tend to be richer) would want to keep interest rates low so they don't have to fork out so much in your monthly mortgage repayments. If you are saving up for a deposit for a house you would most likely benefit from higher interest rates in your savings account. 

The thing is, people don't always fall neatly into the above classes. Each individual will likely have their preferences depending on the make up of their wealth, the type of job they do and age etc. It might be true that on average that a Doveish stance may be slightly more pro poor and Hawkish more pro rich. But I would say this average has a lot of variability. I would also argue that these preferences are not absolute e.g. I may care more about unemployment than inflation, but this all depends on how high inflation is!

Andrew Bailey's Political Intervention

Saying all this, I do find it rather odd that Andrew Bailey suggested you shouldn't ask for a wage rise in response to inflation. What he implicitly said here was don't ask for raise or else we will have to increase interest rates further. If he said that a rare rise would be a consequence of increasing wages then fine (even though increasing wages isn't the main cause of inflation this time around, it will not exactly help bring inflation down).

But by explicitly arguing that people should not ask for a wage rise isn't in the governors remit. I would even go as far to say that it is a political intervention**. For many people (especially those on low-income with few assets), a wage rise would be in their interest, even if it contributed to higher inflation. He needs to take what people do as given, and respond with interest rates accordingly.

* "But ignoring the politics of this question is political!" you say, steeringly.


** When Mark Carne talked about Brexit uncertainty and was also accused of political intervening. To my mind, this is quite different. He was not telling people what to do or even suggesting Brexit was wrong. You could argue his political bias affected his reasoning but then you go down the everything is political rabbithole.

Rankings, Goodhart's law and the REF

There was an old lady who swallowed a fly

I don't know why she swallowed a fly - perhaps she'll die!

I really dislike rankings. I feel they are a way to make subjective data seem objective and hide a lot of information that we care about. There is a whole chapter dedicated to why they are bad in my book.

One such ranking, the Research Excellence Framework AKA REF2021, has just been released (it was meant to come out last year but got delayed because of the pandemic, hence 2021). It basically assesses the “quality” of university research. To do this, academic panels assess research papers submitted and are awarded a score of 4* (quality that is “world-leading”) to 1* (quality that is “recognised nationally”). Quite what this means is anyone’s guess (especially as the papers being assessed have already been published in academic journals who already have a sort of quality ranking). But once you have done all that you can calculate a mean score for each subject across universities.

Quite often the results cluster around 4* and 3*, so the mean average you get usually sit around the decimal places, 3.12, 3.5 and so on. And as some departments are so small, a marginal decision (say someone judging a paper as a 4 rather than a 3) can affect your average by a few decimal points. This might not seem like much, but when it comes to rankings where everyone average is basically the same, you can easily jump up 10 places. I think due to shear amount of work involved in this, people are probably quite reluctant to admit that a lot of the variation in these rankings are random.

But I think the biggest issue with the REF is that it is a perfect example of Goodhart’s Law (another chapter in my book). It states, that when a measure becomes a target, it ceases to be a good measure. And universities certainly try and target the REF - it is government policy and in the job description of all VCs across the land. 

What this means, is that there is a large incentive to “game” the system, to try and get as highest REF score as possible. How can you game the system? Well you could potentially not include some individuals who you don’t think will score so high, or perhaps hire a few big hitters on a temporary basis. All of these things were noted when the last REF was done in 2014, so how did we respond? Well, we created more rules. 

Football is a simple game, two teams run around for a bit and try and put the ball in the oppositions net. But when the game was first invented, the problem of goal hanging made for poor games. So the offside rule came into being. In 1863, a player was considered offside if there were 3 of the opposing players in front of him. In 1925 this evolved to two players and in the 1990s this changed again, to being level with the 2^nd to last player. There have been multiple changes since and the reason is that each time a new rule is made, players try and find a way to game it. Whether it is the offside trap or interfering with the goal keepers view, no matter what rule you create people will have an incentive to try and game it.

To that end we now have VAR to enforce the offside rule. But to many people, VAR really takes the joy out of a last minute winner. Which is kind of ironic as the whole point of introducing the offside rule back in 1863, was to make the game more enjoyable to watch!   

This is perhaps the biggest problem with the REF. No matter what rules we impose, if we incentives trying to do well in it, people will try and game it. It is like the old lady who swallowed a fly. Rather than taking the L she decided that in order to fix this problem she would swallow a spider, which created a further problem because now she has to find something that will deal with the spider - so she swallows a bird. You end up getting so lost in trying to fix problems that you lose sight of the original problem you were trying to fix. So what is the REF for anyway?

Society doesn’t particularly care about relative rankings of universities or the REF per se. What it does care about, if at all, is getting universities to produce research like creating new vaccines, understanding the universe and whatever I am currently working on.  If university increased its research "quality" by 1000% it would have a much better outcome for society (although you wouldn't be able to tell from looking at rankings, another reason why they suck).

What the REF has certainly done, is increase the amount of research output by incentivising it. But does that result in scientific progress? I am very sceptical that focusing on research outputs is a good way of going about it. Spending a lot of time and recourses to create something that isn't a particularly good measure of research quality doesn't seem like a good deal to me.

What causes red tape?

Government plans to cut red tape, again. I mean, getting rid of excess bureaucracy seems like a no-brainer as by definition excess bureaucracy is well, excess. The more interesting question is why was red tape put there in the first place?

Having to wear a hard hat on a building site, even if there is clear sky above, infuriates people. It lacks “common sense”. But given the large number of people on building sites, a discretionary policy would most likely result in a tragic accident. People are more likely to forget to put them on a hardhat if it isn’t mandatory at all times. Just as in the Covid era we traded off rights for lives, there will inevitable be some debate about what the level of regulation there should be. What I find quite difficult, however, is finding examples regulations where there would be no negative consequences of getting rid of them.

It was easy under the EU to get annoyed about excess regulation, as the government can always blame someone else for its imposition and say there is nothing that can be done. But now there is no one else blame it is going to be quite difficult for the government to change anything. If they try and change any regulation there will be a backlash because some people will be unhappy (e.g. US trade deal chlorinated chicken saga).

Saying this, we often don’t introduce regulations until something bad has happened. If you ever see a sign saying “slow” on a road, it is because someone has tragically died there. Whether or not putting a sign saying “slow” actually helps save future lives, we must be seen to be doing something in response to a bad outcome. Reactionary bureaucracy is more likely to be excess as a result.

This sort of bureaucracy is especially prevalent in management. If pens go missing in the stock cupboard at work, the management invariable needs to be seen to do something about it. If not, they have to explain to their bosses why they haven’t done anything about it.

So perhaps the manager increases the amount of stock takes or makes workers fill out a detailed forms to use a pen. Regardless of whether this improves the situation, at least the manager’s arse is covered. What the company have not done, however, is think about the opportunity cost.

As I pointed out in my anti-waste blog, a lot of the red tape created by governments in the public sector is its own attitude to waste. I have even resorted to buying my own whiteboard markers as it just isn’t worth the effort trying to source them (if you are as outraged as I am you can rectify this injustice by reimbursing me on my gofundme page here).

When a new minister comes in, they invariably want to make a mark on things. For some reason, just keeping things chugging a long doesn’t seem to cut it with voters. And this is why you get policies like changing GCSEs from being graded alphabetically (A-F) to numbers (1-9). A simple enough idea to announce, but when you consider the amount of forms and systems that need changing, it just becomes a massive pain.

So rather than the government always trying to cut tape, they should reflect upon the type of policy making that creates red tape in the first place. 

Nimbyism: who has the right to decide what happens in a local area?

A Nimby is a person who opposes new developments in their local area, an acronym of Not In My Back Yard. The term has certainly taken off in recent years with debates about the amount of housing being built in Western countries.

What I find interesting about Nimbyism is that a Nimby doesn’t have to be against housing per se, they may actually think it is a good idea for more housing to be built in society in general. What they are against, however, is housing being built near where they live. You can see where this situation ends up, a sort of tragedy of the commons. If everyone is a Nimby, then there are no back yards to build in, anywhere.

Nimbyism may come from a self-interested perspective: if you own a house in an area and more housing gets built, it could potentially lower your house price. And adding more people will mean more congestion on local roads and longer waiting times at the hospital, if no more infrastructure gets built. It could even be you just don’t like the look of new developments. The fact of the matter is, a lot of these new developments benefit other people and so it doesn’t take much to tip you over the edge into Nimbyism.

What would a Steelman case for Nimbyism be? I think there are actual reasons why you may want to be against certain things being built in your locality if you think it would have a negative impact - not just for those currently living in the area, but for future generations as well.

As a relatively recent resident of Durham I would like to say I now feel part of the city. But I am still aware that I haven’t been here all that long and I don’t know how long I will stay. Do I have the same vested interest in the city as someone whose family as lived here generations? I would like to think so, but it is not a straight-forward question to answer.

One of the most interesting documentaries I have seen in a while is Wild Wild Country on Netflix. The documentary is about an Indian Guru, Bhagwan Shree Rajneesh. He moves to the US and buys some land for him and his many followers near the town of Antelope, Oregon, which has a population of about 50 people. Tensions rise between the locals and the new settlers. Eventually Rajnessh has enough followers in the area to outvote the locals to the extent of changing the name of the town from Antelope to Rajneesh. All sorts of weird things happen after that and its certainly worth a watch (if you have seen the “joy of sect” episode of the Simpsons, Rajnessh is who the cult leader was based on). But I think this documentary highlights an interesting facet about the morality of Nimbyism.

Does the fact that the local residents of Antelope, having been there for a long time, mean they have a greater right to have say in their locality? Or does Rajnessh and his followers have the right to be there and make changes to the town through democratic means?

Although this is an extreme example, I do think we have something to learn from thinking about who has the right to decide what happens in a local area. Taking a strong position either way can get you into difficulty. For example, some people are concerned that building new houses will create gentrification: rich people moving into poor neighbourhoods. But if you give more powers to local areas, it may lead to rich neighbourhoods preventing poor people from moving there. Gentrifstation, if you will.

So I think if we are going to solve a problem like, Nimbyism it will need to involve a larger discussion about the politics of the local.

The problem with being anti-waste

Finish your dinner, some people are starving in the world. Although this phrase is often used by parents to try and emotionally manipulate their children into eating vegetables, it reflects a deeper societal concern about our attitudes to waste.

If you do not have enough of something you need then waste is a serious problem, a matter of survival. Perhaps this is why we react so negatively to waste when we have abundance, to waste is to forget how privileged we are.

But defining waste isn’t as straightforward as it seems.

How do you peel a potato? Well, arguably the fastest way is to simply turn the potato into a cube as you only have to make 6 cuts with a knife. Granted you will lose a lot of perfectly edible potato this way, but it is a lot faster than the standard way of peeling which involves lots of movements to remove the peel.

The thought of doing this to a potato has probably filled you with deep sense of moral outrage. But I think it is important to reflect on why the potato is a valuable resource and not your time? Put another way, would you spend 10p to save you a few mins of extra peeling time? I think I probably would, but I would hesitate if it were 10 pence worth of perfectly edible potato (incidentally many people throw a way potato peels but if you put them in the oven with a bit of olive oil and they make a great snack!). I think we probably have an in-built aversion to this kind of waste for all sorts of evolutionary reasons. But what actually is waste?

Waste is an useable by-product of the production process, what’s left over. It is intrinsically tied to efficiency: the more efficient the process the less waste that occurs. The problem here is that not everything that minimises waste, leads to efficiency gains. After all, the easiest way to minimise waste when peeling potatoes, is to simply not eat potatoes in the first place.

The problem with focusing on waste is that it usually just concentrates on minimising waste in one resource, and not thinking about the process as a whole. The public sector is often viewed as wasteful as it doesn’t have the profit motive to keep costs in check. If you want to spend any money in the public sector it invariably involves filling out lots of forms to justify that this spending is absolutely necessary. This will obviously reduce the waste in the sense you will have fewer gold-plated toilet seats, but in reality it means that you are paying someone to fill out forms rather than doing their job.

This notorious example of this is the NHS getting rid of managers and getting doctors to do administrative tasks instead. You brings down the overall wage costs but in the end you are paying doctors, doctor’s salaries, to not spend time with their patients. And because quality of care is lot harder to measure, you end up seeing “waste” in all things that are easier to measure like wages. It is management by spreadsheet (but not in a good way).

Minimising waste leads you to get rid of any slack in the system – ignoring the fact that this is often the most efficient way of running things. Negative shocks happen all the time, people get ill or leave. And then more people get ill or leave because they are trying to do the jobs of people who are ill or on leave. If at work you are constantly putting out fires at work, then the system is not running as efficiently as it could be.

Now the elephant in the room when it comes to waste is climate change. Energy is something we do not want to waste as the by-product is carbon emissions. And it is because it is so important we need to be very careful when assuming something is wasteful. For example, people often think that food grown locally is more environmentally friendly because it cuts out transport costs. But transport costs are such a small component of the energy use that goes into food production that we can end up using more energy eating locally if we don’t grow things in the most productive areas.

So I guess my argument is that to be truly anti-waste, you need to focus on long-term efficiency and not make me fill out loads of forms.

Omission bias: is harmful action worse than harmful inaction?

You have probably seen the runaway trolley problem. You know the one where a trolley (not a shopping trolley in fact, but a tram) is destined to kill X amount of people. You can pull a lever and save them all, but you will end up killing someone else. It is basically trying to summarise the debate between Utilitarians and Kant.

Here is an interesting variation that is perhaps not as well known. Imagine the tram is heading towards one person, and you can pull a lever and save them but it will also kill exactly one person. Do you pull the lever?

 

For utilitarian’s, it shouldn’t make any difference whether you pull the lever or not as one life is equal to one life. For people who follow Kant’s categorical imperative, by pulling the lever entails killing someone and treating them as a means to an end. But by not pulling it, are you not doing the same thing? It really all depends whether you view inaction as an action in itself. Personally, I think it is.

In practise most people would feel more morally culpable if they pulled the lever than if they did nothing. Now I am not one of these people that bring up biases all the time, but I think this particular bias is interesting. It is called, omission bias: the tendency to view harmful actions worse than harmful inaction.

I think one reason we have this bias is partly to do with how we view causality: if you do not intervene you can always tell yourself “it would have happened anyway”. If you do intervene, however, you feel like you have personally changed the course of history and so are more responsible.

As someone who thinks a lot about causality, I find this particularly interesting. This is because most situations are not as clear cut as pulling a lever on a runaway trolley/tram. The future is uncertain and we don’t really have a counterfactual to what happens in life. What makes matters worse is we tend to judge decisions with the benefit of hindsight, rather than what was known at the time.

And even though I know all this, if I were to ask my friend to get me something from the shop on the other side of the road and she subsequently got run over, I would be racked with guilt. Yet, if she just decided to go to the shop on her own and she got run over, I would feel extremely sad but I wouldn’t feel as guilty. It would have been odd for me to say “No, don’t go to the shop, you might get run over”. 

If you were to ask the average person on the (Western) street what the biggest military mistake over the last 50 years was I am pretty sure most people would say Iraq or Afghanistan. I think it would be quite odd if you heard someone mentioning Rwanda. Rwanda was a case where military intervention was decided against and the total resulting deaths were around 1 million people.

Now I am not trying to say that any of those decisions to go (or not go) to war were right or wrong here, I am just wondering whether peoples responses to them have something to do with omission bias.

I also think omission bias can help to explain a whole load of other things, from decision to not vaccinate children to what Jeremy Drivers calls personal Cheems mindset– how we tend to favour inaction over action in our everyday lives.

So how can we combat this? Spread awareness? Teach people causality? No. The best course of action is to do nothing so we don't get the blame when things inevitably go wrong...

Vimes's boots is a good explanation of poverty: just not in the way you might think

Jack Monroe has recently highlighted how the rise in inflation can hit the poorest in the economy hardest by looking at the recent rise in food costs. Given that we all consume a different mix of things, inflation will hit us in different ways (depending on where the price rises are coming from). So it is possible that this is a real issue.

Saying this, the current inflation data does seem to suggest that current inflation rates are similar across all levels of incomes. Arguably though, even if the inflation rate were the same across incomes, poorer individuals will be hurt more by inflation. Those on lower incomes spend a larger proportion of their income on necessities, things you cannot live without.

As oa consequence, Jack Monroe is seeking to create a “Vimes’s boots index” to capture the costs of poverty. Vimes’s boots refers to a character in a Terry Pratchett novel who claimed it was more expensive to be poor: rather than being able to afford good quality boots that will last a long time, you have to continually buy bad quality boots because they break so often. The total cost of the bad quality boots will eventually exceed those of the good quality boots.

I have seen people challenge this by focussing on whether higher prices for the same thing reflect quality. Could it not simply be fashion? Would a Jimmy Choo stiletto last longer than your bog-standard, stilted shoe?

Whether this is true or not is pretty much irrelevant to what we should be learning from Vimes’s story. Vimes can actually afford to pay for these better quality shoes. The issue he is facing is credit constraints, one of the most important concepts in poverty.

Vimes needs boots now, so he cannot simply save up to buy the better quality boots. What he needs is someone to lend him the money to buy the better quality boots and then pay off the loan over time. Understanding why no one is willing to lend to him is key to understanding his destitution.

Have you ever actually thought about why you need a deposit to obtain a loan? Why it is you get a better rate on your mortgage the higher your deposit? It is probably easier to think about it from the perspective of the person supplying the loan, rather than the borrower.

Let’s say someone you don’t know well asks to borrow £100. Lending someone the full £100 is quite risky. If they don’t pay it back, you are down a full £100. But what if they were to pay you a £30 deposit to secure that £100. Well in the worst case scenario you would be down £70 if they didn’t pay you back, as you get to keep their £30 deposit. As a result you may not want to lend to the person without a deposit (or charge them a very large interest rate) because you are taking a bigger risk in lending to them.

The reason why credit constraints exist is because you cannot commit ex ante to pay for the loan. That is, I cannot guarantee that I will definitely repay all of the loan in the future. I may lose my job and be unable to keep up with payments etc. In fact, I even have an incentive to run off with your loan and not pay you back!

What you want is some way to align the borrowers and lenders incentives. This is why we create all sorts of laws around things like bankruptcy and credit checks (it is also why loan sharks will break your thumbs if you do not pay up in time). Greater assurance that lenders will get their money back is good for borrowers (well, those borrowers who do not default on their loans). This is because you are more likely to obtain a loan and get a better deal if the person lending the money has greater confidence they will get their money back.

Being poor means you lack enough cash or assets to be able to put down a deposit. What makes matters worse is that low-income countries often lack the institutions and enforcement that make it less risky for lenders to lend. So any investment that would make you richer, from a tractor that would let you farm the land more efficiently to a university education to obtain a higher paying job, becomes unobtainable.

The worst thing about not being able to access credit is not that it is more expensive to be poor, but that you cannot escape poverty at all.

Bitcoin and financial literacy

Will Bitcoin go “to the moon”? I am a bit sceptical myself. I would put it somewhere in the region of a 1-2% chance that it will break 1 million USD but I really have no idea. This doesn’t make it a bad investment necessarily, as the potential rewards are huge. There is always a risk-reward trade-off with any investment.

However, I am going to explain why I think just saying “it is going to the moon” is bad financial advice, even if it does end up getting there.

Usually whenever Bitcoin takes a dip, you see people post the meme with James Franco about to be executed with the caption “first time”. The idea being that long-term investors are jaded about price crashes and will just ride it out. You also see the term “HODL”, which stands for “hold on for dear life (I am not sure if this is genuinely benevolent investment advice or to meme others into stabilising the price).

There is nothing bad per se, about volatile investments. Stocks can be fairly volatile day to day, but on average has had good returns over the long run.

The problem with volatile investments, however, is that you might have to sell them when you don’t want to. This seems a bit odd, why can’t you just “HODL”? Well because sometimes you can’t hold on.

What if you have to drive your car to work and your car fails its MOT? What if your partner leaves you? What if you lose your job? What if your parents kick you out of their basement?

In the 2008 financial crisis, house prices dropped massively. Many people lost their jobs and so were unable to keep up with their mortgage payments. Even though house prices have pretty much recovered now, they were unable to hold on at the time. They had to sell their homes.

Most people try and have some level of “buffer” savings if they can. A pot of money set aside as insurance in case these bad things happen. Putting all your savings into a volatile asset doesn’t give you the same amount of insurance. If that bad situation happens, you will not be able to count on an exact pot of money to bail you out.

The problem, like all problems in life, are worse if you are poor. Some people have little or no savings altogether. Wealthy people are more able to have more of their savings in risky assets precisely because they are more able to weather any unforeseen hits to their income. And even then, these risky assets are often diversified to avoid putting all your eggs in one basket.

You would think, however, that this sort of stuff is just “common sense”. I am unsure how “common” this “common sense” is. Either way, I don’t buy the idea that people with low levels of financial literacy should be deserving of their fate.

There are lots of videos on YouTube hyping bitcoin as an investment but there are not many talking about basic financial literacy i.e. only invest what you can afford to lose etc.

Sometimes when people hear this, they think it is a negative comment about where crypto is eventually headed and dismiss it. But this isn’t hypothetical. Bitcoin has been highly volatile. People have bought high and been forced to sell low.

This is one of the reasons why I am a little concerned about things like crypto trading on phone apps. It gives people instant access to their savings and is not about long-term saving or investing. We also know when people “day trade” they often chase losses and lose money on average.

I wouldn’t mind so much if I thought financial literacy was higher in society. I guess right now I am worried for some people, their “first time” will also be their last.