Thursday, July 24, 2008

Several large internet service providers (ISPs) have reached an agreement to work with the music industry to deter illegal file sharing. The issue of file sharing has generated controversy over the last decade (almost), since Napster was set up in June 1999. Napster did not introduce any new principles - for many years music fans had been exchanging tapes, itself a breach of copyright law. But the arrival of digital technologies did mean that such practices could become very widespread, with each sharer making files available to millions of other computer users. At this point, the music industry clearly faced a significant new challenge.

The economics of all this are not clear cut. The creators of any intellectual or creative property need protection in order to ensure that they receive sufficient incentive to produce. On the other hand, consumers are clearly better off if they can access music at little (or no) cost than if they cannot. Once the music has been created, it is economically efficient for file sharing to take place.

The catch, of course, is that if musicians and the industry that supports them do not receive remuneration then they will not have the incentive to continue to produce new music. So there is a need for some protection. That is exactly what copyright laws (and, for inventors, patent laws) are there to do. The problem with the law, however, is that it has not kept pace with changes in technology.

Nor can it. Napster was replaced by a host of programs based on smaller *nap networks, gnutella, and torrents. The creative community of computer users is likely to remain at least one step ahead of the legislators. Yet the music industry still seems to be set on using old legislative technology to combat the new threat. Many would claim that it has also shot itself in the foot by charging too much for legal downloads and by adopting an unworkable position on digital rights management.

Now that the music industry is at last working with the ISPs, a far more effective system would be based on the recognition that file sharing happens and will continue to happen. ISPs could agree to charge their customers an additional amount per month, with this being transferred to the music industry. If ISPs do not agree, then this is a system that could be enforced by government. Better government involves itself in this way than by tinkering with laws that are doomed to fail.

It would then be for the industry itself to devise a new way of remunerating musicians using the monies they receive from the ISPs - but it would need to be one that ensures that creative talent is remunerated sufficiently well to keep it creating. Indeed a little redistribution from the superstars towards the support of new talent might well be regarded as a good thing.

This proposal might penalise internet users who do not share files. But it is already the case that light internet users pay as much as heavy users, so inequities are already there. Of course, it would be possible to iron these out by extending the use of charging per byte. That is for the ISPs to decide.

There is nothing particularly new in this proposal - something similar has been used for decades in the context of written works that can be photocopied, where the Authors' Licensing and Collecting Society has made sophisticated arrangements with users. In the context of music, it has been proposed by numerous economists over the last decade. It would be nice to think that the music industry and ISPs might at last be ready to listen.

Friday, July 18, 2008

The Treasury is considering a rewrite of its own rules on fiscal prudence, in order to allow itself to raise national debt above 40% of national income. There are two interpretations of why this relaxation of the rules is necessary. First, the government would otherwise struggle to meet its expenditure commitments, since tax revenues are falling as the economy slows down. Secondly, the slowdown itself needs to be countered by a fresh injection of government spending, and borrowing is the primary means of financing this.

It has become clear that the government has run ahead of itself in terms of its spending commitments. During the boom years it should have spent less, and paid back more of the national debt. Unfortunately, though, the time to cut back has passed. Nonetheless, when the economy starts to pull out of the downturn, it will become necessary for the government to reassess its spending. Expect some retrenchment at that time (probably after the next election) - and consequently a slow bounce-back from the downturn.

Monday, July 14, 2008

The Federal National Mortgage Association ('Fannie Mae) and Federal Home Loan Mortgage Corporation ('Freddie Mac') are two government sponsored but privately owned corporations in the United States, both of which are heavily involved in the housing market. Fannie Mae makes loans and provides loan guarantees, and thus underwrites much lending activity. Freddie Mac buys mortgage debt from banks, repackages it, and sell it as securities to investors. The consequences of either company failing would be catastrophic to the economy. The value of shares in both firms almost halved over the last week, following fears about their ability to raise sufficient funds to continue their operations - a ramification of the current credit crunch. This has led to the US government putting forward a package to support both companies that would involve huge government lending to the firms and also bolstering of their share prices.

As long as 5 years ago, Greg Mankiw highlighted the risk that comes from having such firms buoyed up by implicit subsidies. These subsidies come from the knowledge that the companies are too important to be allowed to fail, and the existence of the subsidies encourages an inappropriate degree of risk taking by the companies themselves. Now it seems that the chickens are home to roost.

Thursday, July 10, 2008

The Bank of England has held the interest rate at 5% this month. In the wake of several indications that the economy is weakening and that a recession looks increasingly likely this may seem perverse. But inflation remains well above target, and the maintenance of stable inflation is the bank's main role in setting interest rates.

So long as inflation does not get built into wage increases (and there's a big 'if' in there), it should fall back over the next few months. If this happens, there may be scope for interest rates to be cut again later in the year in order to ease the impact of the downturn. The Bank faces an unenviable quandary - they can't cut interest rates now for fear of stoking inflation, but they should not leave the next cut too late.

Tuesday, July 01, 2008

House prices fell by 0.9% in June, following a 2.5% fall in May, according to figures released by Nationwide. This is the first tentative evidence that the fall in prices is slowing down - but 0.9% is still a big fall in one month, and the fall might have been even more pronounced were it not for the fact that trading is slow, with mortgage approvals substantially down on this time last year.

When house prices adjust downwards, they can either fall dramatically for a short time, or fall more modestly for longer. They have already fallen by over 6% over the last year, and it looks as though they will keep falling until they are at least 10 or 15% lower than they were at their peak. That's a substantial fall, but even after that we might expect the recovery to be slow. Between 2000 and 2006 the average house price divided by GDP per capita rose from 4.6 to 8.0, and this suggests that the drop in house prices needs to be sustained as well as pronounced.

What does this imply for the wider economy? As the value of people's houses stagnates, wealth declines. People's access to credit declines, and so consumption is likely to be less buoyant than in the recent past. In other words, the outlook remains one of economic slowdown - despite the rising oil and food prices. We've had some good years, but at the moment economics is earning its 'dismal science' moniker.