Sunday, 25 March 2012

Flags for Orphans - policies that are so good, they don't need justification

My policy encourages innovation and entrepreneurship. It creates jobs, and growth. It improves the quality of people’s lives and will reward hard working people.

This is what I call a flags for orphans policy (FFO): an outcome or policy label, with positive connotations, that can be applied without having to be justified.

In the Simpsons (Mr. Spritz goes to Washington), Lisa attaches an airline route amendment to a bill that US congressmen cannot possibly be seen to vote against – the Flags for Orphans bill. Other countries may have less enthusiasm for flags, but that’s by the bye. The point is that it is a universally positive policy message, which no one could possibly object to.

If someone says that a policy will encourage innovation, my instinct now is immediate disbelief. It is very easy to say, and even to put forward a reason why something encourages innovation, but the level of rigour required to demonstrate such a statement is usually absent.

For example, one can always argue that innovation in some form will result from most policies: 
  • I will increase regulation in the building industry; innovation will result to meet the new regulatory standards efficiently. - Plenty of evidence supports this.
  • I will decrease regulation in the building industry; innovation will result as the reduction in regulation leads to greater scope for innovation. - Plenty of evidence supports this too.

In other words, innovation happens, and whether more or less innovation will occur requires some avoidable intellectual effort. It can be used as an FFO.

FFO logic can be applied to a lot of non-rigorous economic thought. A brilliant example of a negative FFO is Nigel Lawson panicking about the pound in a classic Spitting Image sketch:

Another of my favourite examples is the enterprise allowance scheme (EAS, 1983), which provided funds to unemployed would-be entrepreneurs to start businesses. The scheme was a roaring success; it created hundreds of thousands of jobs with minimal investment – a cost of about £2k/year per person.

On paper, it decreased unemployment and increased entrepreneurship at a very low cost (the FFO logic). In the long run, it may have done neither as it distorted the market, giving new entrants an advantage over more productive incumbents.

Where does that get me as someone who researches innovation and entrepreneurship policy? Well, if I ever have a policy, I’m going to say that it encourages innovation and entrepreneurship – because I can, it’s easy.  I may even be able to back it up, if I’ve done the legwork.

Friday, 9 March 2012

Save the Euro – Get Connected 2: How the Internet Delivers a Lower Cost of Borrowing

The last post here received an unexpected amount of attention, so we thought we’d do some further work on what is, and is not, linked to the government cost of borrowing within the Eurozone. We found some more surprises…

We discovered that a model of GDP per capita and use of broadband (our alternate measure for a country's internet use) was extremely successful in determining the government cost of borrowing.  

We found that it is not enough just to be a rich and productive country (as measured by GDP per capita) to have low borrowing costs. This must be matched with high quality (fast), widely adopted, and low cost broadband to have the lowest cost of borrowing possible in the Eurozone.

That is to say, the more productive the economy and the greater the country’s broadband capability, the less risky the Eurozone country's economy.
This matrix shows countries in the groupings determined by their relative scores in broadband infrastructure and GDP per capita. The numbers in the coloured boxes are the average cost of borrowing for the group over a one year period.

Readers of the previous blog will note that we have dropped the BCG e-intensity index. The e-intensity index is a closed box (to us) as we don’t know precisely what goes into it. It is also correlated strongly with gdp per capita – meaning importantly that it is a good measure of productivity and modernity, but does not necessarily separate the two.

We have replaced the BCG's measure of e-intensity with one calculated by the ITIF (Information Technology & Innovation Foundation) that transparently (and reproducibly) combines adoption, cost and speed of broadband within countries. Doing so enables us to separate out the effects of GDP per capita and those of Broadband.

It seems commonly accepted that factors such as the current account deficit and public debt as a % gdp explain bond yields. We found the relationships were nothing like as strong as those of GDP per capita and Broadband, and their inclusion added no additional significance to the analysis.

We have tried several other factors as well as those above and failed to find any that provide as strong a link to Eurozone bond yields than in our proposed model. Not being able to find significant explanatory power in the commonly accepted factors leaves us with the view that there is something substantial in our simple analysis.

Although correlation does not imply causation, it seems to us that broadband and its use plays a far bigger role in modern economies than its share of GDP might suggest.

What next? To go much further you need more data. Demonstrating a causal relationship would be extremely interesting. Part of such an analysis would be to go back 8-10 years and track the evolution of Broadband and measures of country stability, inflation and productivity – we suspect that this would also reveal insights as to how the internet-ification of countries changes their capacity to deal with shocks.

In summary, we have modified (explored) our original analysis and the message is startlingly similar: those countries with good broadband and higher GDP per capita have low cost of government borrowing for any given level of public debt.

About the Authors of this post:

David Cleevely is Founding Director of the Centre for Science and Policy at the University of Cambridge.

Matthew Cleevely is an entrepreneur pursuing a PhD in entrepreneurship, innovation and growth policy at Imperial College Business School, London