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Economists focus too little on what people really care about

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A CYNIC, says one of Oscar Wilde’s characters, is a man who knows the price of everything and the value of nothing. But, as philosophers have long known, assigning values to things or situations is fraught. Like the cynic, economists often assume that prices are all anyone needs to know. This biases many of their conclusions, and limits their relevance to some of the most serious issues facing humanity.

The problem of value has lurked in the background ever since the dismal science’s origins. Around the time Adam Smith published his “Wealth of Nations”, Jeremy Bentham laid out the basis of a utilitarian approach, in which “it is the greatest happiness of the greatest number that is the measure of right and wrong”. In the late 19th century Alfred Marshall declared the correct focus of economics to be the “attainment and…use of material requisites of well-being”. Or, as his student, Arthur Pigou, put it, “that part of social welfare that can be brought directly or indirectly into relation with the measuring rod of money”.

Equating money with value is in many cases a necessary expedient. People make transactions with money, of one form or another, rather than “utility” or happiness. But even if economists often have no choice but to judge outcomes in terms of who ends up with how many dollars, they can pay more attention to the way focusing on “material well-being”, as determined by the “measuring rod of money”, influences and constrains their work.

The measuring rod itself often causes trouble. Not every dollar is of equal value, for instance. You might think that if two economists were forced to bid on an apple, the winner would desire the apple more and the auction would thereby have found the best, welfare-maximising use for the apple. But the evidence suggests that money has diminishing marginal value: the more you have, the less you value an extra dollar. The winner might therefore end up with the apple not because it will bring him more joy, but because his greater wealth means that his bid is less of a sacrifice. Economists are aware of this problem. It features, for example, in debates about the link between income and happiness across countries. But the profession is surprisingly casual about its potential implications: for example, that as inequality rises, the price mechanism may do a worse job of allocating resources.

Equating dollar costs with value misleads in other ways. That economic statistics such as GDP are flawed is not news. In a speech in 1968 Robert Kennedy complained that measures of output include spending on cigarette advertisements, napalm and the like, while omitting the quality of children’s health and education. Despite efforts to improve such statistics, these problems remain. A dollar spent on financial services or a pricey medical test counts towards GDP whether or not it contributes to human welfare. Social costs such as pollution are omitted. Economists try to take account of such costs in other contexts, for example when assessing the harms caused by climate change. Yet even then they often focus on how environmental change will affect measurable production and neglect outcomes that cannot easily be set against the measuring rod.

Economists also generally ignore the value of non-market activity, like unpaid work. By one estimate, including unpaid work in American GDP in 2010 would have raised its value by 26% (and drawn a very different picture of the contributions of different demographic groups). As Diane Coyle of Cambridge University has argued, the decision to exclude unpaid work may reflect the value judgments of the (mostly male) officials who first ran statistical agencies. But it seems likely that economists today still treat things which cannot easily be measured as if they matter less.

Economists are at their least useful when a measuring stick should not be used at all. They have been known to calculate, for example, the financial gains from achieving gender equality. But gender equality has an intrinsic value, regardless of its impact on GDP. Similarly, species loss and forced mass migration impose psychic costs that resist dollar valuation but are nonetheless important aspects of the threat from climate change.

Such quandaries might suggest that ethical issues should be left to other social scientists. But that division of labour would be untenable. Indeed, economists often work on the basis that tangible costs and benefits outweigh subjective values. Alvin Roth, for example, suggests that moral qualms about “repugnant transactions” (such as trading in human organs) should be swept aside in order to realise the welfare gains that a market in organs would generate. Perhaps so, but to draw that conclusion while dismissing such concerns, rather than treating them as principles which might also contribute to human well-being, is inappropriate. Further, the very act of pulling out the measuring rod alters our sense of value. Though the size of the effect is disputed, psychological research suggests that nudging people to think in terms of money when they make a choice encourages a “businesslike mindset” that is less trusting and generous. Expanding the reach of markets is not just a way to satisfy preferences more efficiently. Rather, it favours market-oriented values over others.

The Pharrell Williams school

Some economists advocate the creation and use of broader measures of well-being. Several organisations, including the European Commission and the World Bank, now publish data series presenting a more comprehensive picture of social health. But the costs of the standard approach are growing. Price is a poor measure of the value of digital goods and services, which are often paid for by giving access to data. Technological progress promises to create ever more situations in which ethical considerations conflict with narrowly material ones. The question of how to increase well-being in such a world deserves greater attention.

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Japan still has great influence on global financial markets

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IT IS the summer of 1979 and Harry “Rabbit” Angstrom, the everyman-hero of John Updike’s series of novels, is running a car showroom in Brewer, Pennsylvania. There is a pervasive mood of decline. Local textile mills have closed. Gas prices are soaring. No one wants the traded-in, Detroit-made cars clogging the lot. Yet Rabbit is serene. His is a Toyota franchise. So his cars have the best mileage and lowest servicing costs. When you buy one, he tells his customers, you are turning your dollars into yen.

“Rabbit is Rich” evokes the time when America was first unnerved by the rise of a rival economic power. Japan had taken leadership from America in a succession of industries, including textiles, consumer electronics and steel. It was threatening to topple the car industry, too. Today Japan’s economic position is much reduced. It has lost its place as the world’s second-largest economy (and primary target of American trade hawks) to China. Yet in one regard, its sway still holds.

This week the board of the Bank of Japan (BoJ) voted to leave its monetary policy broadly unchanged. But leading up to its policy meeting, rumours that it might make a substantial change caused a few jitters in global bond markets. The anxiety was justified. A sudden change of tack by the BoJ would be felt far beyond Japan’s shores.

One reason is that Japan’s influence on global asset markets has kept growing as decades of the country’s surplus savings have piled up. Japan’s net foreign assets—what its residents own abroad minus what they owe to foreigners—have risen to around $3trn, or 60% of the country’s annual GDP (see top chart).

But it is also a consequence of very loose monetary policy. The BoJ has deployed an arsenal of special measures to battle Japan’s persistently low inflation. Its benchmark interest rate is negative (-0.1%). It is committed to purchasing ¥80trn ($715bn) of government bonds each year with the aim of keeping Japan’s ten-year bond yield around zero. And it is buying baskets of Japan’s leading stocks to the tune of ¥6trn a year.

Tokyo storm warning

These measures, once unorthodox but now familiar, have pushed Japan’s banks, insurance firms and ordinary savers into buying foreign stocks and bonds that offer better returns than they can get at home. Indeed, Japanese investors have loaded up on short-term foreign debt to enable them to buy even more. Holdings of foreign assets in Japan rose from 111% of GDP in 2010 to 185% in 2017 (see bottom chart). The impact of capital outflows is evident in currency markets. The yen is cheap. On The Economist’s Big Mac index, a gauge based on burger prices, it is the most undervalued of any major currency.

Investors from Japan have also kept a lid on bond yields in the rich world. They own almost a tenth of the sovereign bonds issued by France, for instance, and more than 15% of those issued by Australia and Sweden, according to analysts at J.P. Morgan. Japanese insurance companies own lots of corporate bonds in America, although this year the rising cost of hedging dollars has caused a switch into European corporate bonds. The value of Japan’s holdings of foreign equities has tripled since 2012. They now make up almost a fifth of its overseas assets.

What happens in Japan thus matters a great deal to an array of global asset prices. A meaningful shift in monetary policy would probably have a dramatic effect. It is not natural for Japan to be the cheapest place to buy a Big Mac, a latté or an iPad, says Kit Juckes of Société Générale. The yen would surge. A retreat from special measures by the BoJ would be a signal that the era of quantitative easing was truly ending. Broader market turbulence would be likely. Yet a corollary is that as long as the BoJ maintains its current policies—and it seems minded to do so for a while—it will continue to be a prop to global asset prices.

Rabbit’s sales patter seemed to have a similar foundation. Anyone sceptical of his mileage figures would be referred to the April issue of Consumer Reports. Yet one part of his spiel proved suspect. The dollar, which he thought was decaying in 1979, was actually about to revive. This recovery owed a lot to a big increase in interest rates by the Federal Reserve. It was also, in part, made in Japan. In 1980 Japan liberalised its capital account. Its investors began selling yen to buy dollars. The shopping spree for foreign assets that started then has yet to cease.

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