Far from a Dismal Science

blurbscontributorsDr Ferdinand Rauch (right picture) opened the first Graduate Blurbs of Term by challenging head-on Economics’ reputation as a ‘dismal science’. Modern economics, he countered, was vibrant field that addressed major problems in novel and productive ways, exerting a big impact on people’s lives, while being at the same time intellectually rewarding.

Ferdinand’s current research project addresses the problem of low incomes in African cities. In the popular mind, poverty is associated with rural communities. In reality, more than half of the World’s lowest paid (measured for example as those earnings less than a dollar a day) are urban dwellers. Deciding which policy interventions work is complicated by the shortage of good quality data and the difficulty of running a natural experiment to estimate the true effect of a particular initiative. Since the 1970s, the World Bank has deliberately run randomised trials of policies to overcome potential sources of confounding. Inhabitants in various locations are effectively allocated randomly to ‘treatment’ and ‘control’ groups. Along with other Economists at Oxford, the London School of Economics and the World Bank, Ferdinand is investigating the Spatial Development of African Cities to assess the effect of poverty reduction programme. An important strand to this research is addressing the problem of how to establish Sustainable Cities. Bad decisions taken early in a city’s development history are expensive to rectify and Economists have an important role to play as advisors to urban planners.

Satellite technology is being used to generate high quality data that provide a means to measure growth rates and optimise resource allocation and investment in development projects. Innovative uses of data include categorising households according to the cost of materials used to construct their house’s roofing tiles. Specialised geo-engineering  similarly permits high-resolution images to be used to estimate changes in the heights of commercial buildings, the density of car ownership, and the prevalence of green areas – all measures that can be used as proxies for relative affluence. Nightlight data has also been shown to serve as an excellent estimate of economic growth, frequently more accurate than official statistics.

One of Ferdinand’s own particular interests is the measurement of poverty reduction in cities. He demonstrated that a direct estimate of the prevalence of slums can be a misleading indicator of urban development since city prosperity, by widening the urban-rural wage gap, in the short term results in greater migration to the city and, therefore, a rise in slums. Evaluating the availability of public services within high density populations, however, offers a means to calibrate the effect of density as a measure of the success of a city. Oxford, for example, is heavily populated (especially during Term!) but there are many amenities for inhabitants to enjoy and the trade-off between services and population density is highly favourable.

After a short break, Federico Torracchi (a 3rd year doctoral student - left picture) gave a presentation of his doctoral research. Last year, Federico completed an internship at the Bank of England having formerly served as Treasurer of Brasenose’s graduate society, known as the Hulme Common Room. Federico’s topic was a familiar one to the audience: the impact of credit supply shocks on the UK economy, particularly the effect of credit contraction or expansion on unemployment and wages. The most recent shock, in 2007-08, was a contraction, reflecting a sudden and negative shift in the banking sector’s attitude to risk. Earlier decades had witnessed several positive shocks: for example, financial innovations (including new information technology) that had shifted the supply curve of credit to the right.

Federico’s research is designed to advise policy makers. When a credit shock occurs, an economy moves away temporarily from its long-run growth trajectory. How quickly equilibrium is restored is influenced significantly by policy choices. As with African cities, Federico faced two challenges: collecting high quality data and overcoming a potential source of confounding due to the inability of running natural experiments. He has compiled a dataset from 1993 to the present measuring economic growth, inflation, the bank rate, and changes in both the credit market and the labour market. The estimated shocks, however, are correlated with each other, confusing the impact of (for example) an oil price shock with that of a credit shock – the explanatory variable of interest. Federico described how this problem had been overcome in order to retrieve the credit shock and identify what he termed the ‘main episodes’ of credit contraction and expansion.

As an illustration of what his analysis could do, Federico estimated the impact of the 2007-08 credit shock on the transitional probability of becoming unemployed and on finding a job. The model attributes almost all of the rise in the probability of becoming unemployed  to the credit contraction and also estimates that half of the deterioration in the chances of leaving unemployment is attributable to the same cause.

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