On Tuesday I was very pleased to chat with students at Iona College who were considering careers in economics. A smart group of guys who asked some very intelligent questions. The future for economics looks bright.
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Author: Craig Lawrence
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Opportunity Cost
Whenever a choice is made, something is given up. Opportunity cost values an economic resource as the value of its next highest valued alternative use. It is normally expressed in terms of a relative price. For example, if a shipwrecked sailor can catch 10 fish or harvest 5 coconuts per day. The opportunity cost of producing one coconut is two fish.
Opportunity cost is useful when the costs and benefits of choices vary. By expressing one option in terms of foregone benefits of another, marginal costs and benefits of each option can be compared. Sometimes these costs and benefits are not reflected in the price we pay for goods or services.
Is the value of the next best thing what you really give up? Opportunity cost is such a fundamental concept in economics as well as everyday life.
Can we make better decisions without it?
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This Micro Brief is part of an ongoing series provided by Lytton Advisory as a general public information service. These concepts underpin modern economic analysis. Find out more about smarter capital investment decisions using economics at www.lyttonadvisory.com.au.
A fundamental concept in economics is Scarcity. It refers to limitations in achieving desired outcomes due to insufficient resources, goods or abilities.
Scarcity creates situations where choices have to be made. Working out how to make the best use of available resources or finding alternatives to them is fundamental to economics.
Like individuals, governments and societies experience scarcity because human wants exceed what can be made from all available resources.
Even in the new, knowledge intensive economy, where the cost of providing information is low or almost zero, we still have to decide how to spend our time which is scarce.
In one way or another scarcity is likely to remain a significant issue in economics. What do you think?
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This Micro Brief is provided by Lytton Advisory as a general public information service. Find out more about smarter capital investment decisions using economics at http://www.lyttonadvisory.com.au.
Recently I have been thinking about inland freight and logistics to see how this affects Australia’s seaports. Volumes may be constrained by production factors – you can only grow what you can grow when the environment allows you to grow it – but where these volumes go can be determined by these inland costs.
Policy can have consequences as NSW’s freight and logistics strategy shows. Improvements in freight handling and inland cargo aggregation can reduce costs. Some of these improvements reduce the cost of multi modal handling, as well as reduce the cost of line haul by mode – whether that is by rail or road.
For an economist like me it is a relative comparison game. Relatively lower costs will shift the movement of commodities from one mode to another, as well as shift the direction of commodities. Subject, of course, to existing commercial agreements.
However this is not the only story. The other story is around the development of vertically and horizontally integrated businesses that develop their own end-to-end freight and logistics systems. This means they are able to profit maximize by using less profitable parts of their networks to feed the more profitable parts. These firms are also taking equity stakes in their clients.
This is different to geographically and modally constrained freight and logistics operators – they have to maximize efficiency of throughput at a single point or along the linear operation of a particular mode. They certainly do not own parts of their client’s operations. Also, singular operations cannot transfer price because the other parts of the network or system are owned by other parties, and often singular operations cannot aggregate the volumes of goods required to develop leverage over prices.
This article also provides a gratuitous opportunity to show some of the canola fields near my home town in the South West Slopes region of NSW. I took this picture last week on a visit there. Primary production remains an important part of the freight task, albeit a volatile one that is hostage to world demand, weather and yields.
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Rise of the Machines
The application of capital has seen fewer workers required to produce more physical goods than ever before. This has released labour to work in the service and knowledge sectors of the economy. Increasingly, machines are taking over large numbers of knowledge worker roles.
I think I may have dodged a bullet – at least in the short term. The BBC has noted that around 35% could be subject to automation. Actuary, economic and statistical roles have just 15% chance of becoming automated. Find out the extent your role might be taken over in the future by a robot at the following link:
http://www.bbc.com/news/technology-34066941
Answering a phone is a job at greatest risk of automation, being a publican is the least at risk!
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A Civil Society
While working recently in Kuwait, I was privileged to be invited to a diwaniya (https://en.wikipedia.org/wiki/Dewaniya) along with colleagues from my project team. This type of forum is fairly unique to Kuwait and it a key element of their civil society.
For around an hour we discussed industry policy with a number of leading lights from Kuwait’s business community. I learned a lot from them. The discussion took our project team beyond the numbers and statistics we were considering to just how the reforms might actually be implemented. The exchanges were robust but expressed in good humour and with great politeness.
I think these kinds of gatherings are extremely important in shaping consensus. Kuwait has hundreds of diwaniyas and candidates for public office often seek to turn up at as many as possible around election time. In my view, it removes a lot of the adversarial nature that characterises public discourse in Western countries. Where hard decisions are needed to effect significant change, a consensus based approach may deliver better outcomes than a crash or crash though approach.
Australia used to do evidence-based, consensus-driven public policy quite well. It was grounded in clearly explaining the need for change. I fear now that the people putting themselves forward for public office are increasingly driven more by populism and a startling touch of irrationality.
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The Rent Economy
I am currently on assignment Kuwait, one of the oil drenched Gulf states. The economic incentives at play here are unlike anything I have ever seen. At university years ago we spent a couple of hours in undergraduate economics talking about rent seeking – looking for an economic gain without a reciprocal return to society through wealth creation.
Laid out before me is a whole economy resting on this premise and driven by the distribution of oil rents. Kuwait has been pumping around 3 million barrels of oil a day and is targeting 4 million with some urgency now oil prices have collapsed. Currently this earns them an oil rent (after costs of production and depending on the price) around US$60 million a day. When oil prices were over US$100 a barrel they were getting US$300 million a day. Kuwait has one of the highest dependencies on oil – some 93% of its revenues come from oil rents.
Some indicative figures provide context. The population of Kuwait is about 3 1/2 million people. Around one third of residents are Kuwaiti citizens, the vast majority of the remainder are guest workers. Guest workers remit around A$25 billion a year to their home countries. This is equivalent to 55% of the Kuwait national budget. Nine in ten Kuwaiti citizens are employed by the government. The country rests on a cash reserve of around US$600 billion.
All businesses, with a few limited exceptions, are required to be 51% owned by Kuwaitis. So there are a range of business partnerships that are not strictly commercial but compliance-based. At any stage, the dominant partner can take control of the business.
This creates some very peculiar incentives. Lack of permanency for guest workers provides little incentive to save, spend or invest in Kuwait. So Kuwait misses out on retaining a significant proportion of their remittances.
With significant reserves in the ground – over 75 years – there is little incentive to move away from this rent-seeking model and the inherent imbalances it introduces. However in the long term that transition will be necessary.
It will be fascinating to see how this plays out over time.
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The Mouse that Roars
In the heart of the Kingdom of the Mouse at EPCOT today. Disney certainly has already created an immersive environment. It is a fully enclosed micro economy. The main point is that it is an opt-in environment. A flick of a switch, a click of a mouse and the consumer can easily be somewhere else. Disney is very shrewd with its franchises but they are only surface tales of eternal stories. Their ability is to tell them to mass markets. Coincidentally The Economist had a piece on the Magic Kingdom, here.
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American Infrastructure
Few countries epitomise individualism and free markets as much as the United States. Large swathes of the economy are given over to commercial activity. The US is a global leader in investment, innovation and infrastructure systems. Also, a lot of infrastructure in the US has been privately developed, delivered and run over a long period of time.
Which is why it might be surprising that the last Report Card (2013) by the American Society for Civil Engineers so poor. One would have thought eagle eyed investors could create assets to address infrastructure needs. The engineers actually gave America a D+ and stated that by 2020 investment of some US$3.6 trillion is required. That is around US$11,250 for every man, woman and child. The next review is in 2017.
In contrast, the Institute of Engineers in Australia gave Australia a grade of C+ in 2010 on the back of a possible deficit in infrastructure spending of A$770 billion. That is around A$32,000 for every man, woman and child in Australia. It seems we need even more than our American cousins.
So who is doing better? It is hard to tell without know what assets each country already has. I suspect the level of future investment is partly a function of increasing demand and the need to replace of existing assets. It will be good to get some first hand insights when I am in the US in December.
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