Anticipating the Unintended

This newsletter is really a public policy thought-letter. While excellent newsletters on specific themes within public policy already exist, this thought-letter is about frameworks, mental models, and key ideas that will hopefully help you think about any public policy problem in imaginative ways. It seeks to answer just one question: how do I think about a particular public policy problem/solution?Welcome to the mid-week edition in which we write essays on a public policy theme. The usual public policy review comes out on weekends.PS: If you enjoy listening instead of reading, we have this edition available as an audio narration courtesy the good folks at Ad-Auris. If you have any feedback, please send it to us. Listen in podcast appShinzō Abe, the longest-serving Japanese PM ever, stepped down from office last week. His second term that began in late 2012 was marked by his prescription for reviving Japanese economy. The world called it Abenomics. Through a mix of unconventional monetary policy, robust fiscal stimulus, and structural reforms to boost growth, Abenomics was seen as a marked departure from the timid response that characterised the previous regimes. Abe was determined to jolt Japan out of the economic morass it had dug itself in for over a quarter-century since 1990. We will discuss Abenomics and what lessons it holds for us in more detail later. But let’s go back to the lost decades of Japan that gave us the pejorative term ‘Japanification’ and understand what happened during that time.Bubble, Bust And No RecoveryJapan was the miracle economy following WW2, benefitting from U.S. largesse in infrastructure spending, government investments in technology and research, rise in entrepreneurship and increase in factor productivity for over three decades. Low-interest rates and all-round prosperity in the 80s led to an asset bubble. The stock market and real estate valuations went through the roof on the back of speculations and easy credit policy. There’s an urban legend (or truth?) of three sq.mts. of land near the royal palace being sold at US$ 60,000. That meant the appraisal value of the palace was more than the state of California then. In little over 25 years from 1960, the land value went up by 5000 per cent in Tokyo and other major cities. By the end of 1989, the Nikkei index was at its historic high of 39,000. This was a bubble and like all bubbles, it popped in 1990.Japan hasn’t recovered since. The obvious reasons were discerned immediately. The policy response to the bubble was to increase interest rates and quell speculation. But as the equity market and real estate prices crashed, borrowers who had overleveraged themselves were trapped. A debt crisis soon followed with widespread loan defaults. The contagion now engulfed Japanese banks who were staring at a huge pile of NPAs. The credit dried up, investments fell, and the growth slowed dramatically. The sentiment turned negative and the consumers cut down on spending. This began a deflationary cycle. The Bank of Japan (BoJ) was slow to respond and the deflation spiral set in. Why would you spend today when you know the prices would be lower in future? BoJ began cutting interest rates and brought it below 1 per cent by mid-90s to spur investment. But these actions weren’t coordinated with a fiscal response. The hike in consumption tax in 1996 meant the further dampening of consumption sentiments. The loan default crisis led to the collapse of three banks in mid-90s. By 1997, as BoJ and the government were getting their act together, the Asian financial crisis dealt a crippling blow to the economy. This set it back for another three years. What Went Wrong?Krugman in 1998 argued the lost decade of the 90s was because of monetary policy failure. His view was the BoJ should have publicly taken a high inflation target that would have avoided a deflation and prevented interest rates from going down to zero. Of course, this is supported by theory. A higher inflation target anchors inflation expectation at a higher number and this increased expectation in turn leads to higher inflation because of the forward-looking aspect of the aggregate supply equation. Further, the increase in inflation expectation would reduce the real interest rate because it takes time for nominal interest rate to reach its long-term level. In the short-term, this reduced real interest rate stimulates growth which in turn increases inflation. A kind of a virtuous cycle sets in. Anyway, this wasn’t done by BoJ. The other option was to reduce the interest rate to zero quickly and provide substantial monetary stimulus quickly to check loss in output. A combination of a high inflation target (as suggested by Krugman) and monetary easing policy could have possibly worked.Between 2001-06, the BoJ went on a quantitative easing overdrive purchasing long-term Japanese government bonds. After the global financial crisis of 2008-09, the BoJ extended this programme to purchase priv

This newsletter is really a weekly public policy thought-letter. While excellent newsletters on specific themes within public policy already exist, this thought-letter is about frameworks, mental models, and key ideas that will hopefully help you think about any public policy problem in imaginative ways. It seeks to answer just one question: how do I think about a particular public policy problem/solution?PS: If you enjoy listening instead of reading, we have this edition available as an audio narration courtesy the good folks at Ad-Auris. If you have any feedback, please send it to us. India Policy Watch #1: Consumption And The Fable Of BeesInsights on burning policy issues in India— RSJ‘The pandemic has shown us what is truly important in our lives.’‘We learnt to go slow and consume only that we need during the lockdown. That’s one lesson we should follow beyond the pandemic.’‘The earth is healing as the pandemic has forced us to slow down our lives and reduce our greed.’ Every couple of weeks I come across a column that argues on similar lines as above since the pandemic began. I guess we have a great desire to search for a silver lining in the bleakest of scenarios. But this is exactly the kind of silver lining we should avoid. The idea we learn to reduce consumption so the earth can sustain our load doesn’t have any underlying logic. Worse, such reduction will harm the vulnerable and the poor the most. But, hey, good intentions are all that matter, right?Any discussion on consumption as a vice takes me back to Mandeville and his work ‘The Fable of Bees’ which has a deserving claim of being among the most provocative and counter-intuitive texts of all time. Published in the early 18th century, it’s alternative title, Private Vices, Public(k) Benefits establishes its central thesis upfront. The book is in three parts. The first part is a poem, The Grumbling Hive, which is followed by an essay discussing the poem. The book concludes with an essay An Enquiry into the Origin of Moral Virtue that lays out his defence of vice. This essay, as we will soon see, is a proto-text for different schools of economic and moral philosophy that emerged during and after the age of enlightenment.The Wages Of VirtueThe Grumbling Hive is a simple poem of uncertain literary merit. There’s a hive of bees that live in ‘luxury and ease’ while giving virtue, moderation and restraint a short shift. Instead of being happy with this prosperity, the bees question their lack of morality and wonder (or grumble) if there wasn’t a more honest way to lead their lives. Some kind of divine power grants them their wish and their hearts are filled with virtue now. This turn to an ethical hive however comes at the cost of prosperity. Ease was a vice now, temperance a virtue and the industry that emerged from the bees competing with one another disappeared since the virtuous bees didn’t bother any further with competition. This lack of industry meant a fall in prosperity. Many thousand bees lost their lives, and society started collapsing. The bees weren’t deterred. They flew into a hollow tree that suited their new lifestyle of restraint. They were content being poor but honest. Mandeville questions the social benefit of this trade-off. What good is this virtuous life which keeps everyone poor? This leads him to make the almost blasphemous claim that vice is good so long as it is within bounds of justice. Not just that he also bats for people as a resource. People are not a burden for society. This was incendiary material then. And I guess, even now. He wrote:So Vice is beneficial found, When it’s by Justice lopt and bound; Nay, where the People would be great, As necessary to the State, As Hunger is to make ’em eat.And after having set the Thames on fire, he concludes the poem with these famous lines:Bare Virtue can’t make Nations live In Splendor; they, that would revive A Golden Age, must be as free, For Acorns, as for Honesty.With this, Mandeville earned his lifelong notoriety as a libertine of dubious morality. It didn’t bother him and his later defence of thievery and prostitution as public good suggests it possibly fuelled his desire to be more outrageous.Private Vice, Public BenefitIn his essay ‘An Enquiry into the Origin of Moral Virtue’, Mandeville explains the paradox of private vice and public benefit further. Mandeville makes three key arguments:* A virtuous act is one that’s unselfish and driven by reason. Acts that are selfish and involve raw passions were vices. Mandeville goes about looking for virtuous acts in society and draws a blank. However, he finds there are acts beneficial to the society that don’t qualify as virtues. He concludes individuals might pursue their self-interest (vice) but on an aggregated basis this might be creating a societal good. For example, members of a society might quarrel among each other pursuing their interest, but that quarrel generates employment for lawyers, clerks and judges. If they were