Monday, 16 January 2017

The weather is not the climate: predicting the economic impacts of Brexit

Interviewed for ITN/Channel 4 News, I was asked – very reasonably – why anyone should listen to economists’ views on the economic impacts of Brexit, when many short-term forecasts that a Brexit vote would lead to a sharp slowing of the economy had been proved wrong.  This was my response: 
“Short-term economic forecasting is very unreliable. Just because the weatherman gets it wrong about whether it’s going to snow tomorrow doesn’t mean that the scientists have it wrong about whether climate change is going to make the planet warmer over the medium to long term”
I think it’s worth explaining this.  The forecasters – including City economists and independent research institutions like NIESR and IFS, as well as the Treasury and the IMF - who predicted economic gloom as a direct result, not of Brexit itself but of the referendum result, did so on the basis of the expected impact on financial markets, business and consumer confidence:  “Our research shows that a vote to leave would increase uncertainty and, at best, reduce growth”.  

But they were (mostly) wrong.  On the markets, while the pound did indeed fall much as expected (which is actually good for economic activity in the short-term; the exchange rate acts a shock absorber to the expected long term hit to the economy by making UK exports cheaper) market interest rates didn’t rise and the stock market didn’t collapse (although UK companies have certainly underperformed). More importantly, after an initial shock to confidence, businesses and consumers appear to have decided that nothing has happened yet and nothing much will happen for a while; so it’s business as usual. Research on uncertainty, it turns out, isn’t exactly a certainty.

We can dismiss a couple of excuses for this failure. It’s true Brexit hasn’t happened yet – but the forecasts were explicitly related not to Brexit, but to the uncertainty and expected future impact of Brexit.  It’s true some (but not all) of the forecasts assumed immediate Article 50 notification, but that was not central – and if it was uncertainty that was supposed to drive economic weakness, delaying notification merely prolongs the uncertainty.  And it's true there was a policy response from the  Bank of England - but if anything could have been forecasted it was that.

So what forecasters fundamentally got wrong was their judgement about the short-term behaviour of millions of individuals interacting in a very complex system, where (as we know from the analysis of such systems) relatively small changes in a few variables can lead to quite different outcomes.  The claim that “the flap of a butterfly’s wing in Brazil can set off a tornado in Texas” is poetic license – but the inherent difficulty of forecasting short to medium term perturbations is true both of the economy and the weather.  

Now, despite these difficulties, weather forecasting has got considerably more reliable over the last 20 years, so there’s plenty of room for economic forecasters to improve – but  explaining how the economy will do in the next few months is always likely to be very challenging. That’s true of economic forecasting in “normal” times: but it’s even more so the case when trying to assess the short-term impacts of a political event on the psychological attitudes of consumers and investors.

By contrast, predictions about the long-term impact of Brexit – like climate science  - are based on quite different reasoning, about how changing one key factor – our openness to trade, or the degree to which the earth’s atmosphere retains heat – changes the long-run properties of the system.  The methodologies used are well-established and robust – and while of course the detailed modelling of their impacts requires considerable expertise and huge amounts of data, the basic mechanisms at work are well-established and easy enough to explain.  The operation of the greenhouse effect can be demonstrated in a school lab.

Similarly, the basic insights of the “gravity model” approach to predicting international trade – that trade between two economies depends on how big each is, how far apart they are, and historical, cultural and policy factors including the existence of special trade arrangements like the EU – are common sense, and their empirical and practical validity is not seriously in question.  More CO2 will make us hotter: less trade and migration will make us poorer.  

Now, economists’ forecasts of the long-term impacts of Brexit could still be wrong – or inaccurate- just as climate scientists could be wrong about the path of climate change. First, our scenarios could be wrong; Brexit could turn out very differently from the options (hard or soft, clean or chaotic) most people are trying to analyse; similarly, sudden technological advances could change the path of CO2 emissions.  Second, the numbers are probably more uncertain even more than the models (which already incorporate some forms of uncertainty) suggest – some forms of uncertainty are simply impossible to model.

So while we can predict that Brexit will reduce growth and CO2 will warm the planet, we should take the quantitative modelling on just how large these effects are with a large pinch of salt.  In particular, feedback effects could either amplify or dampen the impacts – and it is very difficult to guess which. But the basic point - that reductions in trade and migration will reduce growth and productivity, relative to what otherwise would have occurred – is very unlikely to be disproved, any more than the greenhouse effect.

So how should that translate into how we actually make decisions?  Well, I listen to the weather forecast: but, like most Londoners, whatever it says, I always carry an umbrella.  On the other hand, that doesn’t mean I’d buy a house on a flood plain. 

Wednesday, 4 January 2017

My predictions for 2017 (from the FT Economists' survey)

The Financial Times annual survey of leading British economists' predictions, views and forecasts for the year ahead was published on January 3. Last year (that is, in January 2016) this is what I said about Brexit: 
Q2: Brexit: If the British electorate vote to leave the EU in 2016, how would that: a) change your views about prospects for next year? b) Change your views about medium-term prospects?
I'd divide this into three:
a) short-term: relatively little visible impact. No doubt there would be some turbulence in financial markets, but I doubt we'd see much impact on the real economy in the very short-term (ie next year).
b) medium-term (ie the period of the negotiation over terms of exit and post-exit relationship between the EU and the UK, lasting at least 2 years). Significantly negative. These negotiations would be protracted, complex and probably acrimonious, leading to considerable uncertainty for both UK companies trading with the EU and international investors (not to mention EU citizens resident in the UK and vice versa). All this would be likely to have a substantial and negative impact on business confidence, business investment, FDI, and possibly trade and migration.
c) longer-term (post the negotiations and any transition) — impossible to forecast with any precision at this point, given we have very little idea of what the outcome of the negotiations in b) would be. The UK could undoubtedly survive and prosper outside the EU, and in some respects (flexibility on some aspects of trade and migration policy and regulation, reduced contributions to the EU budget) might benefit; but there are obvious and serious risks, in particular to trade in services (including financial services) which are vital to the UK economy and will become even more so in the next few decades.
Below are my detailed predictions from this year.  I'm not a forecaster (and we have seen this year just how unreliable short-term forecasts can be) but they represent my best effort at providing some meaningful analysis of what we can expect over the next year.  Come back next January...
1. Economic prospects
How much, if at all, do you expect UK economic growth to slow in 2017? Please explain your answer.
I would expect it to slow somewhat in the first half of the year. What happens in the second half depends very much on developments with the Brexit negotiations (as well as events in the US and elsewhere in Europe). We could see reasonable if not spectacular growth, but downside risks are large

2. Brexit
Compared to what you thought 12 months ago about the UK's long-term economic prospects outside the EU, are you now more optimistic or more pessimistic than you were?
   

Please explain your answer.
The strong consensus amongst economists is that Brexit will make the UK significantly worse off in the medium to long term - not disastrously so, but significantly. This is backed up by a considerable body of theoretical and empirical evidence. Of course, this evidence is based on historical data, and past is not necessarily prologue; there is a high degree of uncertainty. But the probability must be that Brexit will make us worse off. It is also important to note that while economic developments since the referendum have certainly not borne out the pessimistic forecasts of some institutions, that really tells us almost nothing about long-term impacts - short-term forecasts are made using very different methodologies to those used to estimate long-term impacts, and (paradoxically) are much less reliable.

3. Inflation
Inflation has started to increase in recent months. To what extent do you expect inflation to rise in 2017?
If the exchange rate stays where it is to about 3%. However, if it falls a lot farther inflation could rise more (or conversely)

4. Monetary policy
In December, the Monetary Policy Committee said the next interest rate move could as easily be up as down. Will there be a shift in this monetary policy stance by the end of 2017? Please explain your answer.
It is difficult at the moment to see the next move being down , even if the economy worsens. Barring negative shocks (which are quite possible) I'd expect the next move to be up.

5. Immigration
Immigration is likely to be central to the Brexit negotiations in 2017. How much do you think immigration will change and what effect do you think this will have on the UK economy?
My recent research suggested that EU migration to the UK could fall by well over half over the period from now to 2020, resulting in net EU migration falling by more than 100,000. Both the state of the economy and the existence of free movement of workers are significant determinants of migration flows. In particular, free movement with the UK results in an increase of almost 500% - that is, by a factor of six. It follows any significant restrictions on free movement will reduce those flows. I also used the existing empirical research on the impact of migration on productivity, growth and wages to estimate the broader economic impacts of such a reduction. Over the period to 2020, the resulting reduction in GDP would be about 0.7 to 1.3%, with a GDP per capita reduction of 0.3 to 0.8%. By contrast, the increase in low-skilled wages resulting from reduced migration is expected to be relatively modest.

6. Fiscal policy
Philip Hammond is expecting government borrowing to fall in 2017. His new fiscal rules provide headroom for more borrowing than currently forecast. To what extent will he need to use it and why?
The OBR's fiscal forecasts look relatively pessimistic; however the economic ones may be too optimistic. Moreover, current spending plans for health and social care (and perhaps education) look unrealistic. The NHS is clearly significantly underfunded (it is basic economics that a richer, older society should, from the point of view of overall welfare or wellbeing, spend a greater proportion of GDP on health over time - the reverse has been the case over the past few years.) It is not clear that such spending increases should be financed by borrowing, but the government is unfortunately committed to a set of tax cuts that have little economic rationale and will mostly benefit the relatively better off. Some discretionary increase therefore seems likely.

7. Donald Trump
How do you think Donald Trump's presidency will affect the UK economy in 2017?
This is exceptionally uncertain, for obvious reasons. However, it does look likely that US interest rates may now begin to rise steadily. This will put some downward pressure on the pound and upward pressure on UK long-term rates, which may well be unwelcome.



Monday, 17 October 2016

Troubled Families - anatomy of a policy disaster

[IMPORTANT DISCLAIMER: This blog represents my personal view only: not that of NIESR or of the evaluation consortium led by Ecorys]

People sometimes ask me why I spend so much time correcting the inaccurate or misleading use of statistics by politicians and newspapers. After all, they say, it’s just politics and spin, mostly – a Minister getting her facts wrong doesn’t necessarily mean anything for real people or actual policy.  Perhaps I should calm down and focus on what's really happening, not the public statements.  

However, with the publication of the evaluation of the Troubled Families Programme (TFP), we have a perfect case study of how the manipulation and misrepresentation of statistics by politicians and civil servants – from the Prime Minister downwards – led directly to bad policy and, frankly, to the wasting of hundreds of millions of pounds of taxpayers’ money.The findings of the evaluation are set out here - those interested in the detail of the TFP should read the synthesis report, produced by a consortium led by Ecorys and including NIESR, or at least the Executive Summary of NIESR’s National Impact Study. But, after trawling through literally hundreds of regressions, the bottom line is quite simple:
The key finding is that across a wide range of outcomes, covering the key objectives of the Troubled Families Programme - employment, benefit receipt, school attendance, safeguarding and child welfare - we were unable to find consistent evidence that the programme had any significant or systematic impact.  The vast majority of impact estimates were statistically insignificant, with a very small number of positive or negative results.  These results are consistent with those found by the separate and independent impact analysis using survey data, also published today, which also found no significant or systemic impact on outcomes related to employment, job seeking, school attendance, or anti-social behaviour.  
In other words, as far as we can tell from extensive and voluminous analysis of tens of thousands of individual records, using data from local authorities, DWP, HMRC, the Department for Education, and the Police National Computer, the Troubled Families Programme had no impact on the key outcomes it was supposed to improve at all. It didn’t make people more (or less) likely to come off benefits .To get jobs. To commit fewer crimes. And so on. And, just to rub it in, these findings were confirmed by an entirely separate evaluation, conducted by another research organisation, which used a different data set and a different methodology to come up with essentially the same answer – no measurable impact on any of the key outcomes.


But the key point here – and the indictment of politicians and civil servants - is not that the TFP didn’t achieve what it set out to do.  That's unfortunate of course. But successful policymaking requires experimentation and risk-taking – and by definition, sometimes that results in failure. If new programmes never failed to deliver the promised results, that would show government was not taking enough risks. That is should not be the issue. Indeed, many social policy experts thought that the basic principles underlying the programme made a lot of sense.   The point is that it was the government’s deliberate misrepresentation of the data and statistics that led to badly formulated targets, which in turn translated into a funding model that could have been designed to waste money. Bad stats meant bad policy.


And yes, I (and others - I'd note in particular Ruth Levitas and Stephen Crossley) told them so.  In February 2012, I explained the fundamental flaw in the analysis – that the government was taking a set of families who were undeniably poor and disadvantaged, and redefining them – without a shred of evidence – as dysfunctional and antisocial.  I said:



What began as a shortcut taken by civil servants with the data was translated into a speech by the Prime Minister that simply misrepresented the facts. That in turn resulted in sensationalist and misleading headlines; the end result, more likely than not, will be bad policy.

Did they stop, listen, and think? No. Instead they chose to translate an obviously flawed analysis, constructed for the purposes of a speech, into local level targets and funding.  Four months later, I wrote:


Even leaving aside the morality of using the language of "stigmatising" with respect to a set of families many of whom neither deserve nor will benefit from any such thing, this is a terrible way to make policy.  Using data - and a completely arbitrary national target number - that everyone knows are simply wrong, solely because it would be embarrassing to admit a mistake, will make the programme less effective and risks wasting public money.  Not only does it reflect badly on Ministers, it also does no credit to the senior civil servants who allow the publication of information which - at the most charitable - appears to reflect a complete lack of understanding of the relevant data.   This is a clear case for the National Audit Office. 

We can now skip ahead three years.  It was at this point, in March 2015, that Ministers decided to pre-empt the result of the evaluation, claiming that:


More than 105,000 troubled families turned around saving taxpayers an estimated £1.2 billion

This was untrue.  And we – including the civil servants responsible for the press release - knew it at the time, as I pointed out:


We have, as of now, absolutely no idea whether the TFP has saved taxpayers anything at all; and if it has, how much.  The £1.2 billion is pure, unadulterated fiction.

But it was worse than that.  As Stephen Crossley observed, anyone who actually bothered to read the CLG report in detail would have realised that the TFP targeting and funding model was - just as I had predicted - resulting in huge misallocations of money:


Manchester (for example) have identified, worked with and turned around a staggering 2385 ‘troubled families’. Not one has ‘slipped through the net’ or refused to engage with the programme. Leeds and Liverpool have a perfect success rate in each ‘turning around’ over 2000 ‘troubled families. By my reckoning, over 50 other local authorities across the country have been similarly ‘perfect’ in their TF work. Not one single case amongst those 50 odd councils where more ‘troubled families’ were identified or where a ‘troubled family’ has failed to have been turned around.

Commenting on Stephen's analysis, I said:


In other words, CLG told Manchester that it had precisely 2,385 troubled families, and that it was expected to find them and “turn them around”; in return, it would be paid £4,000 per family for doing so. Amazingly, Manchester did precisely that. Ditto Leeds. And Liverpool. And so on.  And CLG is publishing these figures as fact.  I doubt the North Korean Statistical Office would have the cheek.

At this point, it should have been blindingly obvious to the most casual observer that TFP was not - as the government had claimed - a "payments by results" programme. Numbers which had absolutely no basis in any objective reality had first become the basis for targets, then for claimed "success", and then for money.  It wasn't payment by results. It was make up the results as you go along. And cash the cheques.  The results of the evaluation should hardly come as a surprise.  

As a postscript, it's worth noting the caveats in NIESR's evaluation, which state, carefully and correctly, that issues with data quality mean that:


the results cannot be taken as conclusive evidence that the programme had no impact at all

This is quite true. But CLG's attempt to use this as an excuse for their failures conforms perfectly to the classic definition of the Yiddish term "chutzpah"(cheek or audacity in English) - "the man who kills his mother and father, and asks the court for mercy because he's an orphan". The data quality issues are entirely the result of the decision by the government to press ahead with spending hundreds of millions of pounds on an untested, unpiloted programme, on the basis of little or no evidence, rather than piloting it and/or rolling it out in such a way that a more robust data collection and evaluation strategy would have been possible. 


So whose fault is this sorry saga?  The senior civil servant who directed the Troubled Families Programme, Louise Casey, once said



If No 10 says bloody 'evidence-based policy' to me one more time, I'll deck them.
With David Cameron, who appointed her to this role in 2011, we can be pretty sure no physical violence was required.  Nothing he told her interfered with her instincts to press ahead, and to ignore both the evidence and the warnings from me and from others.  


So it starts at the top. But while most of the blame rightly rests with Ministers, including the former Prime Minister, and the responsible senior civil servants at CLG - and they should be held accountable – it is also important to note that the normal checks and balances that should have picked up on all this simply failed. What on earth did the Treasury think it was doing allowing public money to be squandered like this?  Were they busy cutting core local authority budgets to notice that CLG were throwing hundreds of millions of pounds away with no serious scrutiny? 


Nor was it just civil servants. Parliament didn’t do any better. Where was the National Audit Office? As far as I can tell it produced one, frankly mediocre report, that fudged or buried the key points - which were all by this time in the public domain.  The key Parliamentary Committees - the Public Accounts Committee (PAC) and the CLG Committee? They too were asleep at the wheel. Opposition parties and MPs do not appear to have ever raised any of these points, even though they had ample opportunity to do so.


On Wednesday, when the PAC holds a hearing – Ms. Casey will be testifying – they will have a chance to redeem themselves by asking some of the questions that should have been asked years ago. You can already read the written evidence – I’d particularly highlight 

that from Stephen Crossley.

What lessons can we learn from this?  Most obvious is the one I started with. Statistics and facts do actually matter. They translate directly into policy, and hence into real outcomes for real people.  But for that to happen in the way that it should – and not be distorted by politicians on the way – then the process not just for the production but for the analysis and interpretation of statistics and evidence needs to be genuinely independent. I set out some modest proposals here.  

Sunday, 12 May 2013

The impacts of immigration: my summary of the evidence (video)

My summary of the economic evidence on immigration: labour markets, benefits, public services and the long-term impacts on growth and productivity (8 minutes): 





Monday, 6 May 2013

White flight: "600,000 have quit London in a decade". The true figure is far higher

The Daily Mail is rarely knowingly understated when it comes to a scare story, especially about immigration. However, sometimes ignorance of basic statistical concepts does the job for them. So it is for today's piece, "How rise of white flight is creating a segregated UK", which states: 
"600,000 HAVE QUIT LONDON IN A DECADE
More than 600,000 white British Londoners have left the capital in a decade"
This is nonsense. The true figure for the number of white Londoners who've left is far higher - once again, the Mail confuses net with gross figures.  Even assuming that we are only talking about Londoners moving from the capital to other parts of the UK (that is, ignoring international emigration, much of which may be non-British and/or non-white), the ONS' best estimate is that about 240,000 people moved out of London in the single year ending June 2011 - over a decade, that adds up to well over 2 million.   

Thursday, 2 May 2013

Comment on Reinhart and Rogoff's FT article

My letter to the FT responds to Ken Rogoff and Carmen Reinhart's opinion piece (2 May):

"In their article 'Austerity is not the only answer to a debt problem', Ken Rogoff and Carmen Reinhart argue:
"the debate needs to be reconnected to the facts. Let us start with one: the ratios of debt to gross domestic product are at historically high levels in many countries, many rising above previous wartime peaks."

Wednesday, 1 May 2013

Underemployment in the UK

In a new paper published today in the latest issue of the National Institute Economic Review, economists David Bell and David Blanchflower of the University of Stirling and Dartmouth College introduce a new measure of labour market slack. The conventional measure of the difference between supply and demand in the labour market is the unemployment rate. But it does not capture a phenomenon which has become increasingly important during the current recession - underemployment.