Tag Archives: economics

Entrepreneurs

At the heart of economic progress are entrepreneurs. An entrepreneur is someone who starts up a business by creating a new product of service that someone else wants to buy.

Entrepreneurship involves high levels of creativity and innovation, and is not without considerable risk. Converting a great idea into a physical prototype or beta version of a service requires managerial skills, lots of time and lots of energy. It can also require a solid approach to patenting a product. Entrepreneurs have to interact with governments, potential investors and lenders, patent attorneys, as well as identifying, recruiting and driving high performing staff.

Joseph Schumpeter was amongst the first to conceptualise entrepreneurship. He drew a clear distinction between inventions and innovations, noting entrepreneurs not only invented but also included new means of production, new products and services as well as new forms of organisation.

Today we can see this in the business models of firms as different as Amazon, Google and Facebook. In the past, innovation in production led to mass production assembly lines, lean manufacturing, and, more recently, mass customisation of industrial and consumer products. Innovation in customer service is now increasingly blurring the boundaries between producer and consumer, as some information sevrices are crown sourced, and businesses operate platforms that simply facilitate social interaction on defined topics. The consumers develop and drive the content. Innovation in the service and knowledge economies is becoming increasingly important.

However, new ideas, methods and products/services are also accompanied by high levels of risk. So the rewards need to be significant. Not all innovators capture the rewards. Entrepreneurs have to address risk, ambiguity and uncertainty in order to be successful. They employ a wide range of strategies including: continuous improvement methods, application of technology; use of business analytics/intelligence; frugal/lean approaches; optimised talent management and development of leading edge/future oriented products and services.

Is the role of entrepreneurship critical to economic growth or does public policy in many countries overemphasis it at the extpense of improving the productivity and efficiency of existing industries? What do you think?

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This Micro Brief is part of an ongoing series provided as a general public information service.  These concepts underpin modern economic analysis.  Find out more about smarter capital investment decisions using economics at http://www.lyttonadvisory.com.au.

Human Capital

human-capital

Capital in economics usually refers to assets that yield income and other useful outputs over time.  People usually of bank accounts, shares in companies, assembly lines or steel plants.

However these are not the only forms of economic capital.  Education, expenditures on medical care and training in business skills are also capital.  That is because they raise earnings, improve health or add to a person’s good habits.  Economists regard these as investments in human capital.  This is because people cannot be separated from their knowledge, skills, health or values in the way they can be separated from their financial and physical assets.

Increasingly, skills such as creativity, empathy, contextual thinking and big picture thinking are becoming increasingly important.  These provide a critical response in maintaining high standards of living in the face of low wage competition.

It is an aggregate economic view of people acting within economies.  An attempt to capital social, biological, cultural and psychological complexity as they interact in economic transactions.

Unsurprisingly many economists explicitly connect investment in human capital development to education, productivity and innovation.

So should the sum of us be simply expressed in terms of our relative merit in an economic system?

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This Micro Brief is part of an ongoing series provided 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.

Updated: 18/1/17.

Value Uplift and Capture

money_bridgeValue capture and uplift associated with infrastructure projects are often discussed but not well understood. This is because the issue sits at the crossroads of competing public and private interests, as well as institutional imperatives of project proponents.

From an economic perspective, it is a method of generating funds from economic rents – unearned private benefits from public investments – to deliver infrastructure projects. In the Australian context it is increasingly heralded as a potential new source of investment funds. However aspects of this approach have been used in both the US and the UK.

While there are over one hundred studies on value uplift around transport modes, impacts of other infrastructure types remain less well understood.

The Bureau of Transport, Infrastructure and Regional Economics has identified a range of factors assessing land value uplift challenging:

  • separating factors driving uplift to identify the infrastructure impact;
  • sampling errors in the estimation of land prices;
  • determining the catchment for beneficiaries / the project area of influence; and
  • isolating value uplift from network effects.

In essence, value uplift is where value flows from an infrastructure network are capitalised into land values. This is often observed regarding transport networks.

For the reasons outlined above, identifying value uplift is difficult in terms of identifying both who benefits and at what value. It is also why it has not been widely used to fund public infrastructure. However, there are two factors driving consideration of value capture funding:

  • economic rents accrue to landholders benefiting from economic infrastructure – in effect private, unearned returns from public investment in public assets – these are above and beyond use benefits and raises a critical equity issue; and
  • use revenues, particularly from public transport investments, are insufficient to fund infrastructure expenditures and are often complemented with significant subsidies from the public purse – value capture is seen as an alternative to increasing the general level of taxation revenue.

Overseas experience provides some guide to the types of value capture approaches, and each approach has its own pros and cons:

  • tax inventive funding – hypothecated value uplift based on an expected increase in property tax revenue. Commonly, a government issues a bond, effectively guaranteeing a return that matches the expected value uplift increment. The value at risk, however, remains with the government issuer.  This is one of the reasons most government treasuries oppose issuing these bonds – there is no transfer of financial risk associated with the value uplift increment.
  • betterment taxes – land owners thought to be direct beneficiaries of an infrastructure development – but not necessarily users themselves – pay a levy. The levey is typivally on the unimproved capital value of the land. A key challenge with this approach is achieving a correct attribution of the increase in land value from the provision of the infrastructure and related services.
  • transaction taxes – typically levied on property transfers. In this case, some of the property value increase attributed to the provision of publicly funded infrastructure will be collected by these taxes. However, this attribution is again difficult to to assess.
  • joint development – usually where a licence or concession is given to a private agency to develop surrounding land in exchange for delivering economic infrastructure and services. This is a significant model for railway development, and is currently in use for heavy rail in Asian countries.

While a range of estimation problems have been identified above, network architecture remains the most significant factor. Hierarchy, connections and density influence this. While the literature on network architecture largely focuses on transport infrastructure, specifically road and rail assets, further analysis is needed of other linear infrastructure (i.e. water, electricity and gas).

Two broad solutions emerge: either a more to a more general land tax; or further detailed investigation of each specific infrastructure project. The important point is to adopt an approach that minimises market distortions and promotes economic efficiency.

Productive Resources

factors_of_productionProductive resources are the requirements for producing goods and services in an economy.  Often economists call these ‘factors of production’.   Usually these are represented as capital, labour and land.  Entrepreneurship is increasingly included as a fourth factor.

Capital usually comprises fixed capital such as structures, buildings, physical plant, machinery and tools.  Circulating capital is often described in terms of components and raw materials.

Labour includes all aspects of human resources and may be unskilled, semi-skilled or skilled.

Land comprises naturally occurring resources where supply is inherently fixed.  These resources may be renewable or non renewable.  Examples are geographic locations, mineral deposits, forests, fisheries, air quality, geostationary orbits and parts of the electromagnetic spectrum.

Entrepreneurship is often described as the capacity and willingness to develop, organise and manage a business venture along with any of its risks in order to make a profit.  It is often closely associated with starting new businesses.

How we define what we use to supply goods and services is critical to our understanding of the economy.  How can we test if the traditional  capital-labour-land approach is still valid?  How strong or significant is entrepreneurship in the mix?

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This Micro Brief is part of an ongoing series provided 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.

Make the Casino Work for You

rouletteNothing is more hair raising than exposure to risk without a sense of the level of that exposure.  This is especially true in capital investment decisions.

Monte Carlo simulations perform risk analysis by building models of possible results by substituting a range of values—a probability distribution—for any factor that has inherent uncertainty and significant impact on the final result.

By using probability distributions, variables can have different probabilities of different outcomes occurring.  Probability distributions are a much more realistic way of describing uncertainty in variables of a risk analysis and improve the quality of sensitivity analysis.

During a Monte Carlo simulation, values are sampled at random from input probability distributions.  This is done hundreds or thousands of times, and results in a probability distribution of possible outcomes.  It provides a much more comprehensive view of what may happen.

Advantages over deterministic, or “single-point estimate” analysis include:

  • Probabilistic Results. Showing how likely each outcome is.
  • Clearer Graphical Results. Visual presentation of probabilities.
  • Improved Sensitivity Analysis. Sharper sensitivity analysis to show what counts.
  • Scenario Analysis: Model repeated variations in combinations of factors to show which scenarios need further investigation.
  • Correlation of Inputs. Represent how, in reality, when some factors goes up, others go up or down accordingly.

Done poorly or with low quality input data, the results can be potentially misleading – producing a level of certainty on the basis of some very uncertain assumptions.

Lytton Advisory holds an @Risk software licence which enable us to provide this type of probabilistic analysis to clients, helping them make better informed decisions. Examples of how we have applied this for clients include:

  • Estimating financial costs of schedule delay on a major metropolitan public transport project.
  • Assessing probability of breaching a cost contingency levels on a +$500 million infrastructure program.
  • Building probabilistic NPV profiles in cost benefit analyses given uncertainty about key economic inputs.

Contact us today to find out how we might be able to help you.

A Civil Society

kuwaitidiwaniya

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.

Building our Regions

The Queensland Government has replaced the former government’s Royalties for Regions program with its own  200 million ‘Building our Regions’ Program and is calling for applications from local councils.  See:

http://www.statedevelopment.qld.gov.au/regional-development/building-our-regions.html

A commendable aspect is the requirement to provide a cost benefit analysis on applications for funding over $500,000.  Application for amounts below that will still be subject to a benefit analysis.

There are pros and cons with this type of handout – are projects genuinely additional, will co-contributions be effective, is effective, long term infrastructure planning distorted?

However, it can hardly be argued local councils are drowning in funds to invest in infrastructure.

Recognising the Government is looking for shovel-ready projects, applications close 11 September.