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Economics Lytton Advisory Policy

The Rent Economy

Kuwait.jpg

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.

 

Categories
Economics

Let there be lights …

For all my friends and colleagues in the transport sector, this year we celebrate the centenary of the traffic light.  What a boon that has been to orderly traffic in our major cities across the world – as well as a reliable stream of work for town planners, traffic engineers and even economists!

When Was the First Traffic Light Installed? 5 Fast Facts You Need to Know

And, yes, we economists do measure the economic benefits of traffic lights.  Particularly when you consider installing them at 1,000 intersections:

Click to access traffic-signals.pdf

Of course the big issue is whether we should follow the Europeans and switch to flashing amber during off peak periods.

When we eventually move to three dimensional traffic environments, I wonder how this nodal regulator will evolve.

More importantly, will our legions of pedallists and perambulators prevail in the design of future urban transport systems and kill off King Car?

Or, with the rise of the machines will we simply see motoring evolve through driverless cars into pod platforms?

Either way, as we move into real time, big data clipped from traffic movements will we eventually see the demise of the humble traffic light?

Categories
Economics

Decide Early for Big Impacts

Decisions made just days or weeks into an infrastructure project – assumptions of end user needs, commitments to a schedule, the shape and size of the proposed infrastructure asset – have the most significant impacts on design, feasibility and cost. This is particularly true for large infrastructure projects with complex procurement and construction processes.

As decisions are made later and later in the planning process, their influence decreases. Options to change direction are either closed or become more problematic. Consider road congestion and a decision to proceed with an expensive built infrastructure solution. Not considering demand management opportunities misses valuable benefits in being able to avoid or delay that built cost.

Some minor cost savings can still be realized through value engineering in the latter stages of design, but the biggest cost factors are embedded at the outset in a project’s DNA. Once locked in the project becomes the monster you planned.

Categories
Economics

A Crash Course in Economic Principles

There are many different approaches to understanding economics. Here is one that sets out three broad fields:

  • How people make decisions
  • How the economy works as a whole
  • How people interact

Read for yourself about ten economic principles that support this and save yourself years of study. A lot of applied economics addresses the issues below.

How People Make Decisions 

  1. People Face Tradeoffs. To get one thing, you have to give up something else. Making decisions requires trading off one goal against another.
  2. The Cost of Something is What You Give Up to Get It.  Decision-makers have to consider both the obvious and implicit costs of their actions.
  3. Rational People Think at the Margin. A rational decision-maker takes action if and only if the marginal benefit of the action exceeds the marginal cost.
  4. People Respond to Incentives. Behavior changes when costs or benefits change.

How the Economy as a Whole Works

  1. Trade Can Make Everyone Better Off. Trade allows each person to specialize in the activities he or she does best. By trading with others, people can buy a greater variety of goods or services.
  2. Markets Are Usually a Good Way to Organize Economic Activity. Households and firms that interact in market economies act as if they are guided by an “invisible hand” that leads the market to allocate resources efficiently. The opposite of this is economic activity that is organized by a central planner within the government.
  3. Governments Can Sometimes Improve Market Outcomes. When a market fails to allocate resources efficiently, the government can change the outcome through public policy. Examples are regulations against monopolies and pollution.

How People Interact

  1. A Country’s Standard of Living Depends on Its Ability to Produce Goods and Services. Countries whose workers produce a large quantity of goods and services per unit of time enjoy a high standard of living. Similarly, as a nation’s productivity grows, so does its average income.
  2. Prices Rise When the Government Prints Too Much Money. When a government creates large quantities of the nation’s money, the value of the money falls. As a result, prices increase, requiring more of the same money to buy goods and services.
  3. Society Faces a Short-Run Tradeoff Between Inflation and Unemployment. Reducing inflation often causes a temporary rise in unemployment. This tradeoff is crucial for understanding the short-run effects of changes in taxes, government spending and monetary policy.

Source: Mankiw, Principles of Economics, 2e

Categories
Economics

Q and A

At Lytton Advisory we say that providing commercially oriented economic solutions is all about ‘where infrastructure meets money’. In this Q and A, Lytton Advisory Principal Craig Lawrence explains what this means.

Q: So who are economists and what do they do?

A: Economists working with Lytton Advisory are typically postgraduate qualified professionals. We study, develop, and apply theories and concepts from applied microeconomics and write about economic policy. We study the firm and how its commercial operation affects its financial performance, as well as how groups of firms within an industry compete against one another, and how an industry meets the needs of a market.

Q: How does that relate to the development of infrastructure?

A: Because benefits are spread out over a long time and across a wide range of stakeholders. If all the benefits and costs were accrued in one year we could easily see whether the infrastructure was delivering and how risk was defined.

Q: Is it ever that simple?

A: No. Large capital costs of investing in economic infrastructure are recouped through small amounts of use by large numbers of stakeholders over a long period of time. Economic analysis helps identify where the risks are in building and operating infrastructure, ensuring risk is properly attributed to those best able to handle it. Invariably there are also significant social and environmental impacts that need to be considered.

So we help figure out:

  1. Why specific economic and social infrastructure is required and how users may benefit
  2. What infrastructure can cost to build, operate and maintain
  3. How external factors such as exchange rates, interest rates and technology impact on infrastructure project economics
  4. Whether infrastructure provides a sufficient rate of return to its owners, governing authorities and the wider community, as well as identifying in what form that return occurs – financial, economic, social, or environmental
  5. Who is best placed to bear the various risks around building and financing infrastructure

Q: When do you get involved in an infrastructure project?

A: We provide front-end advice and clarity before anybody even starts building; we do mid-project evaluation to ensure that the project remains commercially and economically valid; and we do post-project evaluation to ensure that infrastructure continues to deliver the right results.