Tag: The Conversation

Negative interest rates – are there any positives?

From The Conversation.

Some say that economics is “the dismal science” and perhaps this is because many economic theories do not seem to work in practice. One contemporary example is negative interest rates, where instead of interest being added to their savings, individuals find that value is lost.

Negative rates have been introduced by some central banks worldwide. In theory doing so should both devalue their currency, making their exports cheaper and imports more expensive, and at the same time encourage consumer spending. It should also boost lending by financial institutions, as the value of capital being held by both individuals and banks is ever decreasing.

Sadly this theory when put into practice has been found wanting. The Bank of Japan introduced a negative interest rate of minus 0.1% in January 2016 and the yen subsequently increased in value compared to its competitor currencies. Indeed in 2016 the yen is the best performing G10 currency against the US$.

Similarly the Swiss National Bank flagged a negative interest rate of minus 0.25% to be introduced in January 2015, but the inflow of funds into the Swiss franc continued and the rate was finally reduced on its introduction to minus 0.75%, with the aim of discouraging capital inflows. However despite these moves the Swiss National Bank continued to accumulate foreign exchange reserves into the second half of 2015.

The European Central Bank (ECB) further increased its negative interest to minus 0.4%, on bank deposits held at the ECB in mid March 2016, as it attempted to manipulate downward the value of the Euro. The impact of this was undermined somewhat by allowing the European banks to borrow from their central bank at the same minus rate, depending on how much they lend to businesses and consumers. An initial dip in the value of the Euro when the minus 0.4% was announced was then followed by a sharp rise, as the implications of the whole package became clearer.

The aim of this is to lower the cost of borrowing for both consumers and corporations, as the banks borrow money from the ECB at no cost to them. This is intended to help stave of the threat of deflation in the eurozone by stimulating investment and consumption.

Recently published research from the Bank for International Settlement (BIS) found that in some cases savings accounts had been insulated from the impact of negative interest rates and that some mortgage rates in Switzerland had “perversely increased”. The conclusion from the BIS was then,“if negative interest rates do not feed into lower lending rates for households and firms, they largely lose their rationale”.

The Governor of the Bank of England has argued that if central bank policies are structured in ways that shield retail bank customers from minus interest rates, then they are unlikely to do much to stimulate domestic demand. Instead the main effect will be on exchange rates and this will result in the provoking of currency wars, as central banks attempt to out do each other in negative interest. Negative interest rates are intended to boost domestic demand by forcing banks to lend money out and encouraging consumers to both borrow and spend.

Consumer behaviour is unpredictable

Once again the “dismal science” comes up against the unpredictable behaviour of individuals and organisations, when they enter the territory of negative interest rates.

Take Japan in February 2016. One month on from the Bank of Japan’s decision to unleash negative interest rates, applications to join the loyalty clubs of Japanese department stores such as Mitsukoshi, Daimaru and Takashimaya were 100-200% higher than in the same month of 2015. The explanation is that these loyalty clubs offer a 5 to 8% annual bonus to their members, a far better return than any Japanese bank can offer, even if it encourages them to spend their money where they have their account(s).

So will negative interest rates continue to be used as a weapon from the central bank armoury, or will the unpredictable behaviour of consumers and investors undermine the intentions of the central banks?

If the weapon of negative interest rates does not work as expected on currency values or domestic consumption and investment, what else is there left to deploy to prevent deflation and a further slow down in economic actively? Economics indeed truly is dismal science.

Author: Steve Worthington, Adjunct Professor, Swinburne University of Technology

‘Command and control’ banks have got ethics and culture all wrong

From The Conversation.

The latest scandal engulfing Australia’s biggest bank has reverberated through the industry with NAB and the ANZ Bank instigating reviews of their life insurance businesses.

Earlier this year ANZ was charged with fixing its bank bill swap rate. ASIC called it “unconscionable conduct and market manipulation”.

Westpac has been implicated as well. It is understood ASIC has identified 120 of its employees as “persons on interest” in its investigations of rate rigging.

Things are getting so bad that Senator Peter Whish-Wilson quipped that the banks “should be handing out a scandal of the month award”.

A cultural solution?

Bank bosses have responded by repeating an old and tired refrain about corporate culture and ethics.

Soon after Shayne Elliot took on the job as ANZ’s CEO last October he announced that the “core purpose” and culture of the bank were his priorities.

This year ANZ has been accused of having a “toxic culture”, especially amongst its traders, alleged to have enjoyed a life of lap-dancing, drugs, booze, and enormous bonuses.

ANZ’s response? “We want to be known as a bank with a strong focus on culture, ethics and fairness,” said chief risk officer Nigel Williams.

CBA is no different. Chairman David Turner promised last year that his “will be the ethical bank, the bank others look up to for honesty, transparency, decency, good management, openness”.

With the CommInsure debacle CBA’s CEO Ian Narev defended his organisation saying “the culture that we’re building throughout the Commonwealth Bank […] is one with the customer at the centre of what we do”.

Getting ethics wrong

Bosses respond to scandals by saying they can make everything right by increasing their levels of control. Control, that is, over the values, beliefs and behaviours of their employees.

The basic mistake is to assume that ethics is about one group of people (managers) dictating ethics to another group of people (employees). This is not about individual employees making choices for which they are responsible. It is about them doing what they are told.

This completely fails to acknowledge that the reason debates over ethics in banking are occurring is because of people who have criticised dominant corporate norms, not done what the corporation expected of them, and had the courage to bring them to public attention.

The ethical breaches at CommInsure would not have come to light if it wasn’t for its former chief medical officer, Dr. Benjamin Koh, being prepared to defy the corporation’s culture by blowing the whistle.

Was ANZ being held to account for rate fixing as result of it own cultural commitment to ethics? No, it came out of an investigation by the regulator ASIC.

No room for criticism

While the banks claim to want ethical cultures, in practice they are in the business of curtailing the very forms of critical questioning that allow ethical issues to be surfaced in the first place.

One might well wonder whether the banks are serious about taking ethical responsibility for their actions, or whether this talk of culture is just trying to minimise damage after the event?

How did CBA respond when, last October, former employee Russell Phillips described how the bank was actively working to minimise compensation paid to victims of its financial planning scam?

Annabel Spring, group executive of wealth management, mounted something of a character assassination of the whistle blower. She asserted that his testimony was misleading, implying he was an unreliable witness.

When it came to the rate fixing investigation, ASIC referred to the ANZ’s behaviour as “absolutely appalling”. The bank was said to have been highly defensive and “obstructionist” as it sought to frustrate inquiries.

Holding the banks to account

The litany of scandals that have plagued the Australian financial services sector exemplify how corporations have been publicly held to account for their actions, and pressured to accept responsibility.

This is not an ethical responsibility the banks have taken on voluntarily through their “ethical cultures”. Responsibility was thrust upon them as a result of the actions of citizens, employees, regulators, and journalists.

If it wasn’t for them, the scandals would remain covered up. This shows that if we want corporations to be ethically accountable, then their conduct and behaviour needs to be open to scrutiny. Forced open where necessary.

Recent events show that the last place such scrutiny is likely to arise is within the banks themselves. Cultural control, as the proposed highroad to ethics, is an ivory tower fantasy that bears no correlation to how ethics is, in practice, brought to bear on corporate activity.

If the banks want to contribute to ethical practice they need to let go of this control, and be open to criticism, welcoming of debate, and vulnerable to dissent.

At present there is no sign that they are willing or able to do this.

Author: Carl Rhodes, Professor of Organization Studies, University of Technology Sydney

Should more of us be building our own homes?

From The Conversation.

More and more people of all ages are unable to buy their own home in Britain, and there is no denying the country is in the grip of a nationwide housing crisis.

The main “solutions” put forward by the government so far have focused on how to encourage the house building industry to build more homes, and faster. But we need to move away from these traditional notions of developer-led housing and instead encourage more self-building.

Already in Britain self-builders build more homes than the largest individual house-builder, but despite these figures, it is still considered a marginal activity and an individual choice rather than a potential large-scale policy solution.

This is short sighted because self-build is a good way to develop more appropriate housing which meets residents’ demands and desires while also being affordable.

Self building – coming to a hillside near you? Stefan Stefancik/Pexels

In European countries self-build is the norm; in France and Belgium it accounts for about 50% of all new building and in Sweden about a third of new house building is self-built – compare that with England where the figure stands at less than 10%.

We are crying out for more self-build housing in Britain, not only as a way to address the housing shortage but also as a way to deliver low carbon lifestyles – something conventional house construction has failed to do.

Close to home

What is considered self-build varies internationally, but it is generally when a resident has built all or part of their home, sometimes working with or employing others during the build. In Australia, for example, the term custom build more accurately describes how a lot of new houses are built.

With custom build, a developer offers two or three design options and the customer chooses a design and the number of different rooms they want. The difference between self-build and custom-build is the level of resident responsibility, organising and interaction. But all varieties offer useful options for the provision of more affordable housing.

How to build a house of straw. Jenny Cestnik/Flickr, CC BY-ND

Many people build their own homes with limited building experience, but are keen to get involved because they get to choose the layout, materials and aesthetics of their home – plus self-build is often a much cheaper way to get on the housing ladder.

With residents taking on all, or some of, the jobs themselves and moving away from reliance on the brick – the use of cheaper and quicker methods like prefabricated systems, reclaimed materials, or straw-bales can reduce costs and cut out the need for a company to make a profit.

The significant cost of land can be also mitigated with self-build by developing communal land ownership structures that make it available for affordable housing. And costs can be lowered even further when a collective builds homes, such as co-housing groups, who share the purchase of land, infrastructure and building.

Building for the future

Despite the low number of self-builds, Britain already has a broad variety of homes built in this way – from the large detached houses featured on programmes such as Grand Designs to numerous small homes crafted from low-cost, natural or reclaimed materials.

In an attempt to create housing for local residents some councils have started to allocate land for self-build housing, and others have created exemptions in planning legislation that allow certain forms of self-building in places normally denied building permission.

To tackle the housing crisis we need a complete rethink of the way we build houses in Britain. Self-building shouldn’t be for the reserve of the mega rich, or those looking for a project in retirement. Instead young people, families, couples, anyone should be able to build their own home.

Shipping containers: homes of the future? lorigami/Flickr, CC BY-ND

We need to look to our European neighbours to learn a thing or two about self-building and shared ownership. We need to learn how to minimise the amount of materials required by building smaller individuals houses with shared communal space for gardens, laundry, workshops and storage.

And instead of purchasing freehold we could roll out more stakeholder ownership models – just like Lilac in Leeds. At Lilac costs are linked to ability to pay and residents only pay a housing charge equivalent to 35% of their net income. Meaning the higher earners subsidise those on lower incomes.

With a rise in self-build housing we could build our way out of the current housing crisis – but maybe more importantly, we could also avoid a repeat of it in the future.

Author: Jenny Pickerill, Professor of Environmental Geography, University of Sheffield

Insurance outlook: in an era of increasing competition technology will make the difference

From The Conversation.

Volatility in financial markets globally and competition from smaller “challengers” like Youi (an Australian registered company owned by South Africa’s Rand Merchant Investment Holdings) have been driving down big insurance companies’ profits, putting pressure on these companies to find ways of cutting costs.

Figures released by the Australian Prudential Regulation Authority (APRA) reveal the performance of the Australian insurance sector as a whole.

APRA figures show that revenue is declining across the sector. For the 110 insurers in the Australian market, bottom line profit after tax declined substantially from a combined $4.1 billion to $2.4 billion in 2015, a drop of 73%.

The total cost of claims made by policyholders was effectively flat for 2015, so the main driver of the slump in profit was the downturn in global financial markets. When policyholders pay their insurance premiums, insurers don’t hold these as cash. In fact, of the $119 billion of total assets of Australian insurance companies, less than 2% is held as cash. Instead, a substantial portion – $68.4 billion (57%) – is invested, with over $50 billion held as interest bearing assets such as bonds.

For the 2014 calendar year, investment returns for the sector as a whole were slightly over $4.2 billion, whereas in 2015 investment returns nearly halved to $2.2 billion. In the year ahead there may be more of a threat to insurance companies from investments in the markets.

In the first months of 2016 in Australia, the All Ordinaries Index has fallen nearly 8% and there are indicators that returns for both global bonds and shares may not improve much in the short term. Australian insurers may have to look elsewhere for returns on investments.

Increasing competition

Insurers will need to both increase revenue and decrease expenses to ensure sustainable profitability. The major insurers have embarked on cost cutting plans, which do seem to be having the desired effect.

CC BY-ND

This is important, as challenger companies the likes of Youi and Budget Direct are taking a small, but growing, portion of the $16 billion personal insurance market (which includes home, content and motor), currently dominated by IAG and Suncorp Group. This level of competition is seen in the APRA figures, which indicate that the while total premiums increased by just under 4%, the number of policyholders also increased (by over 4%), so the premium per policyholder actually declined by 1% from $612 to $605.

This increase in competition doesn’t necessarily mean a price war in the insurance sector. Gary Dransfield, personal insurance chief executive at insurer Suncorp says his company won’t look to recover its lost market share by reducing premiums.

“We don’t think that’s the way to deal with the competitive environment.”

However, if competition continues to intensify, the ability for insurers to increase premiums is somewhat limited.

Technology

Insurers may be able to make savings by improving the use of technology that gives these companies insight into customers’ actions. These technologies include telematics and Big Data. Telematics is the use of communications devices to send, receive and store information relating to a remote object, such as a vehicle. Big Data relates to large amounts of data creation, storage, retrieval and analysis. Both of these technologies allow insurance companies to better understand their customers.

Which is important, because the purpose of insurance companies is to collect premiums for those they insure, and to pay out to those few who do have to call upon their insurance protection (i.e. for hail damage to a car, or flood damage to a house). A major impact on profitability is the ability of an insurance company to properly assess and price the risk that the company will have to pay out. This is why the premiums for younger drivers are higher, as they judged to be a higher risk of having an at-fault claim.

More detailed information about policyholders improves the ability of insurance companies to do that, and this can occur in a variety of ways. Rather than simply base the risk of the policyholder on general category information such as age, gender, or the postcode where the vehicle is garaged, factors such as the number of kilometres driven, the time of day and location of the driving, and even speed zones provide valuable insights to insurers.

AAMI’s safe driver app uses a smartphone to provide such data, while overseas Subaru is one of the first manufacturers to link inbuilt telematics to provide data.

Gathered information on customers also assists insurers in other ways. In 2013 IAG purchased Wesfarmers’ insurance business for close to $2 billion, allowing it to get a better grasp of consumer choices through rewards cards purchases and permitting it to tailor insurance products accordingly.

The insurance sector is inevitably at the mercy of natural disasters – and Australia has experienced increasingly intense storms, bushfires and cyclones in recent years. But it is also facing stormy conditions on investment markets and in the competitive landscape. Those insurers that innovate – making the best use of sophisticated data science and financial tools – will weather difficult times best.

 

Authors: David Bon, Senior Lecturer, Accounting Discipline Group, University of Technology Sydney;  Anna Wright, Senior lecturer, University of Technology Sydney.

 

Uberbanking, with limits

From The Conversation.

It’s not every day that I feel the need to fight with Martin Wolf. The Financial Times commentator is an eminently respectable analyst and most of the time makes good sense. However, last week he sort of lost the plot.

Mr Wolf has written that technology will do to finance what it has done to media, taxi companies and hotel rooms. The financial version of Twitter, Uber and Airbnb will soon emerge, taking on banks which are – his words – inefficient, costly, unethical, untrustworthy and prone to threaten global economic stability to boot.

At the end of the day, said Mr Wolf, finance is an information business. All information industries have been transformed by the internet of everything. Ergo, so too will finance.

The vision is enticing, holding forth the promise of a day when money will be democratised and flow without friction through the system. A day when bank scandals no longer make headlines, because banks themselves will be automated platforms owned by their users and not corporations owned by their shareholders.

But this vision is also unrealistic. To understand why, we need to remind ourselves what the financial sector is, and what it is not.

Contrary to Mr Wolf’s assessment, finance is not an information business. Information is important in the industry, but not its core offering. Rather, we can think of finance as a warehousing business. Bank warehouses hold mainly deposits and loans. Fund managers hold assets such as shares and bonds. Insurance companies warehouse assets against the insurance liabilities they underwrite.

It is often the case that financial firms are required to warehouse their products for a very long time. They need to ensure that they do so properly, and that their customers are aware of the risks the products entail. If the job is done correctly – and clearly that is not always the case – then financial firms collectively support economic activity by transforming savings into capital (and loans), providing liquidity to the market and helping households and firms mitigate their financial risks.

In Australia, this is huge business. The Big 4 banks together hold over A$2 trillion of financial products on their balance sheets. There is more than A$2 trillion of assets in the superannuation system (some of which is also held by banks). The three largest general insurers in Australia hold nearly A$200 billion on their balance sheets, and the list goes on.

Around this core set of financial products, financial companies offer a whole lot of services. These include the things we use every day such as PayPass, international money transfers, account verification, share trading and automatic billing. They also include activities we don’t like to think about so much, such as disputed credit card transactions, property damage payouts, security against cyber hacking and a 30-year guarantee of a payout upon death.

When fintech startups first entered the system, they focused on offering new financial services rather than products. Examples include companies like PayPal – no longer thought of as a start up – which introduced a better, cheaper and more convenient payment platform to the United States that allowed individuals and businesses to transfer payments to each other nearly anonymously.

PayPal still relies, however, on the credit cards and bank accounts of its customers. That very traditional financial system – guaranteed by highly regulated bank balance sheets – provides confidence that the buyer has an account with funds that can be received and then held by the seller’s account.

More recent examples of new fintech entrants in Australia include the many firms deploying blockchain technology in a distributed ledger system (CoinTree, CoinLoft) or using big data sets and algorithms to shorten loan approval times from days or weeks to less than 10 minutes (Kikka, Nimble). These are welcome innovations in the financial ecosystem, and are disrupting the way in which banks engage and interact with their customers in terms of the services they provide.

But at either end of this transaction, more often than not, there will be a bank sitting with a balance sheet to warehouse the payment or the loan in a way that the customer can be certain that their money will be safe over time.

Consider this against the model of Uber or Airbnb. These are outstandingly successful companies in the “sharing” economy, where individuals with something small and personal to sell are able to make that offer via a safe and secure platform and where customers can feel confident that the product will meet their requirements. Uber and Airbnb have successfully disrupted the old warehousing businesses model of taxi companies and hotels.

So why couldn’t the same be true in finance – a sharing platform that renders the financial warehouse obsolete? The main reason is in the nature of the product itself. First, financial products – money – can lose value if stored for a long period of time. That can be risky, particularly for people with low levels of financial skills or literacy. Booking a single Uber ride where the transaction will be completed in 30 minutes is low risk, even if the driver is bad or doesn’t turn up. Paying $1,000 now to book that specific driver for 20 rides scheduled to take place in 2025 is a different kettle of fish. Will the $1,000 still buy the same number of rides and will the driver accept the currency on offer?

Second, money is fungible. It is much easier to steal than, say, a hotel room. To reduce the risk of fraud and misappropriation of funds, financial regulators impose huge requirements on financial firms to verify that transactions are legitimate. This creates friction in our financial system – eg, slows down the pace at which we might otherwise undertake financial transactions. Humans have been experimenting with the “right” level of friction in the financial system ever since the time of the Medicis, and arguably we have yet get the balance right. One thing we know, however, is that a frictionless financial system would carry huge risks. In fact, it would be downright scary.

The closest concept to a frictionless, shared, Uber-like company in the world of banking is peer-to-peer and crowdfunding lending platforms. This is a credit-sharing model, where individual lenders can make their household savings available and attract higher rates of return on a platform that pools their funds into loans for people who are willing to borrow off that platform. One benefit of borrowing off a platform can be the potential for lower interest rates based upon a wider set of information (such as mobile phone payment history for example) that may allow borrowers to access more favourable interest rates.

This is a welcome development, albeit with limitations. There are commercial banks in the US and UK that now utilise peer-to-peer providers to find customers in much the same way that professional real estate firms have invaded the online shared property rental market. More worryingly, predatory lending and usurious interest rates are not the sole domain of established players, and commentators are suggesting that some elements of the PtoP market in the United States may be starting to resemble the subprime market of the noughties.

The potential emergence of high-risk lending in the PtoP space – and, for that matter, evidence of unsavoury actors exploiting the anonymity of digital currency – is a reminder as to why the financial sector remains one of the most heavily regulated in world.

Rather than “replacing” banks or other traditional financial firms, fintech start-ups seem to be developing a symbiotic relationship, utilising the balance sheets of established players while disrupting and in many ways improving the customer interface – the ways in which people and businesses engage with their money.

Last week, the headline from ANZ that it was poaching Maile Carnegie from Google to run its digital banking service captured the zeitgeist. Are banks now tech companies? The answer is no, not really. But they are looking to technology to better serve their customers. And that is something we can all agree is a good thing.

Author: Amy Auster, Executive Director, Australian Centre for Financial Studies

Is a 5.6% increase in private health insurance premiums justified?

From The Conversation.

Health Minister Sussan Ley has announced private health insurance premiums will increase by an average of 5.6% from April. This amounts to the average family paying about $300 more a year for an average policy.

This year’s increase is a little lower than increases of about 6% approved over the last two years.

The 2016 increases range from 3.8% for the Doctor’s Health Fund, to just under 9% for CUA health Fund. Increases for the largest funds, Medibank and BUPA, are just below the industry average.

Under the Private Health Insurance Act, the health minister must approve company requests for premium changes, unless she is satisfied that to do so would be contrary to the public interest.

After receiving the first round of applications, the minister requested on January 30 that health funds “resubmit lower applications for premium increases or provide any evidence of extenuating circumstances”. Twenty funds subsequently lowered their requests.

The minister’s request for funds to work with the health department to reduce premiums, while unusual, is not surprising. Since 1997, when the Howard government introduced the 30% health insurance premium rebate, the federal government is a significant stakeholder in the private health sector.

The annual cost of the premium rebate has grown markedly from about A$1 billion in 1998 to about A$6 billion currently.

In the 12 months to December 2015, the national regulator, the Australian Prudential Regulation Authority, reports that premium revenue increased by 6.9%, benefits paid by insurers by 6% and fund profits before tax by 7%.

Despite the small reduction in this year’s premium increase, the 2016 outcomes for the industry are unlikely to differ much from those of 2015.

What’s driving premium increases?

The major driver of premiums is the level of benefits paid to insured patients for hospital treatment and services covered by general insurance.

In 2015, total hospital benefits were A$13.58 billion, including A$2.13 billion for benefits to medical practitioners and A$1.95 billion for prostheses such as pacemakers, stents and artificial hips and knees.

Benefits for general cover (99% of which are for extras treatment such as dental, optical, chiropractic, natural therapies) totalled A$4.63 billion.

Health-CostsHospital benefits have increased at a faster rate than extras. This is despite the share of the population with hospital cover remaining steady at around 46% to 47% over the past five years and very limited increase in the average age of the population with hospital cover.

Even though there has been a steady increase in the share of the population with general cover (from about 52% in 2010 to 56% in 2015) premium increases are being driven by hospital benefits, of which 14.4% are for prostheses.

Insurers could use higher benefits payments to justify premium increases if there was sufficient competition in the insurance sector to promote efficiency and lower costs of private treatment.

But the Australian industry is highly concentrated. The two largest insurers, Medibank and BUPA, have 56% of the market. This suggests that inefficiency is driving premium inflation, some of it arising from a poorly designed regulatory framework.

Benefits for prostheses

In 2015, insurers paid almost A$2 billion in hospital benefits for prostheses.

The insurance cost of prostheses was raised in a submission to the Harper Competition Policy Review from Applied Medical, a manufacturer of a clip applier used in laparoscopic surgery.

The submission argued that the minimum benefits set by the government regulator, the Prostheses Listing Authority, were far higher than both prices in comparable overseas countries and those paid by public sector hospitals in Australia:

Subject to the need to consult with stakeholders, there is sufficient power to implement reforms which would bring prostheses costs to the private health system down so that they would be comparable with prices paid in other countries – reducing prices by as much as 75%.

Applied Medical estimated that hospital benefits could be reduced by about A$600 million annually if excess benefits, currently shared between the manufacturer and the private hospitals, were eliminated.

The final report of the Harper Review, released in March 2015, recommended:

The regulation of prostheses should be examined to see if pricing and supply can be made more competitive, while maintaining the policy aims of the current prostheses arrangements.

Minister Ley has raised prostheses reform as a priority this year, noting that insurers pay $26,000 more for a pacemaker for a private patient than a public patient ($43,000 compared with $17,000).

What needs to be done?

According to an online government survey in November and December of 2015, the public is concerned about the affordability of health insurance and questions its value for money.

Despite premiums continuing to increase at a rate considerably above inflation, there is little evidence that people are responding by dropping their cover.

The Lifetime Health Policy, introduced the Howard government introduced in 2000, ensured that the penalties of doing so are too high if they wish to buy insurance at some time in the future. After the age of 31, the policy adds adds a 2% loading to the premium for every year of age over 30.

One way to keep premiums down is to address regulatory failures. Reforming the inflated prostheses benefits set by the government regulator and health minister in 2006 is in urgent need of attention.

Without such reforms, patients remain worse off, paying insurance premiums which increase every year. And the federal government is faced with an ever growing cost of the insurance rebate.

Another way is for government to rethink the incentives for insurers to pursue cost reductions by health providers that will lower insurance payouts and thereby lower premiums.

In the Australian system, insurers pay the providers agreed amounts and request approval from the minister for premium increases to cover increased benefit payouts. In other countries, insurers contract with specified health providers who compete both on quality and price for patients listed with the insurer.

Encouraging insurers to be more active could reduce premiums for consumers.

Author: Elizabeth Savage, Professor of Health Economics, University of Technology Sydney

Why the sharing economy could have a hard landing in Australia

From The Conversation.

Last year Deloitte Access Economics reported the sharing economy contributes about A$504 million a year to the New South Wales economy, with about 45,000 people earning an income from the different platforms like Lyft and Uber for ride sharing, and Airbnb for accommodation.

In the initial phases of their introduction, these platforms provided good money for providers, much to the annoyance of heavily protected suppliers such as the “official” taxi industry. Some taxi drivers actually switched to Uber in the hope of greater incomes.

Though not as widespread as in the United States, activities in the sharing economy in Australia include many services such as house-sitting, car sharing, bike sharing and IT services.

But for those in the “gig economy” there is evidence emerging that markets for services like Uber and Airbnb are becoming saturated. Expectations on income prospects are being lowered.

Recently in Brisbane and on the Gold Coast, some Uber drivers have complained of making less than $A10 an hour after deducting GST, personal income tax, car and phone expenses and Uber fees from their fares. This compares to the minimum wage of A$17.29 which, although subject to income tax, is greater than the drivers claim they are getting from Uber. The company also announced it was scrapping guaranteed hours) for drivers after their first four weeks in the service.

As the profitability of activities falls we will likely see a drop in people working through these platforms or offering services. For us economists these developments are hardly surprising. As we say in Essentials of Economics: “If everyone can do it, you can’t make money at it.” By this we mean that in markets which are competitive with relatively easy entry and exit, suppliers can’t expect to make above the average return for long. In this case that means earning above the average wage, or for the less skilled, the minimum wage or even unemployment benefits. If activities are profitable then people will enter the market and drive down prices.

Everyone can do it

There are few markets that have easier entry and exit than those in the sharing economy. Anyone with a car (which is most people) can become an Uber driver. Anyone with a spare room can offer it on Airbnb. The same goes for house-sitting, car sharing and most of the other services now available in the sharing economy.

Also, the price which suppliers are willing to accept will be determined by the value of the alternative uses of their time, room or other asset they are “sharing”. So a person who has a regular job and finds it convenient to spend an hour or two of otherwise idle time, might be content with a relatively low payment from Uber. But such an hourly rate for a driver relying on Uber for a living might not.

A person who has an empty room in their house might find even a relatively low payment is better than nothing at all. But if you relied on income from the room to make a sizeable contribution to the household budget you might find Airbnb a rather unattractive proposition.

The lesson in all this is that markets will adjust to a price where people are just deciding whether to undertake the activity or not and many will be unwilling to take part at this price. The big profits to be made are in the firms which bring buyers and sellers together, usually through app-based methods. But even here these profits are subject to serious competitors not being able to enter the market.

All of these factors explain why the sharing economy has really taken off in the United States where minimum wages are low and social security payments (both the level of payment and accessibility) are relatively poor. In a country such as Australia which has relatively high wages in “mainstream” employment (even at the minimum wage) and relatively generous social security it is doubtful if for most, the sharing economy will ever compete with a full-time job as an attractive proposition. But then again, the very point of the sharing economy is that it is a part-time, somewhat casual activity compared to the “mainstream” economy.

Author: Phil Lewis, Professor of Economics, University of Canberra

Psychological tips for resisting the Internet’s grip

From The Conversation.

“22 of the Cutest Baby Animals,” the headline said. “You won’t believe number 11!”

Despite an impending deadline – not to mention my skepticism (how cute could they possibly be?) – I clicked on the story. I’m only human, after all. Yet this failure in self-regulation cost me at least half an hour of good work time – as have other clickbait headlines, bizarre images on my Twitter feed or arguments on Facebook.

The insidious, distracting suck of the Internet has become seemingly inescapable. Calling us from our pockets, lurking behind work documents, it’s merely a click away. Studies have shown that each day we spend, on average, five and a half hours on digital media, and glance at our phones 221 times.

Meanwhile, the developers of websites and phone apps all exploit human behavioral tendencies, designing their products and sites in ways that attract our gaze – and retain it. Writing for Aeon, Michael Schulson points out:

Developers have staked their futures on methods to cultivate habits in users, in order to win as much of that attention as possible.

Given the Internet’s omnipresence and its various trappings, is it even possible to rein in our growing Internet consumption, which often comes at the expense of work, family or relationships?

Psychological research on persuasion and self-control suggests some possible strategies.

Tricks for clicks

It’s important to realize some of the tricks that Internet writers and web developers use to grab our attention.

The strange number 22 in the headline is an example of the “pique” technique. Lists are usually round numbers (think of Letterman’s Top 10 lists or the Fortune 500). Unusual numbers draw our attention because they break this pattern. In a classic study, the social psychologist Anthony Pratkanis and colleagues found that passersby were almost 60 percent more likely to give money to panhandlers asking for US$0.37 compared to those who were asking for a quarter.

People in the study also asked more questions of the panhandlers who requested strange amounts, compared to those who begged for a quarter. The same thing happened when I saw the headline. In this case, the skepticism that caused me to ask the question “How cute could they possibly be?” backfired: it made me more likely to click the link.

An attention pique (such as asking for $0.37 or calling out photo #11) triggers us to halt whatever we’re doing and reorient to the puzzle. Questions demand answers. This tendency has been dubbed by psychologists as the rhetorical question effect, or the tendency for rhetorical questions to prompt us to dig deeper into an issue.

These tricks exploit built-in features of our minds that otherwise serve us well. It’s clearly advantageous that unexpected stimuli capture our attention and engage us in a search for explanation: it might stop us from getting hit by a car, or alert us to sudden and suspicious changes to the balance in our bank account.

So it wouldn’t make sense to turn off that kind of vigilance system or teach ourselves to ignore it when it sounds an alarm.

Binding ourselves to the mast

Content on the net isn’t only designed to grab our attention; some of it is specifically built to keep us coming back for more: notifications when someone replies to a posts, or power rankings based on up-votes. These cues trigger the reward system in our brains because they’ve become associated with the potent reinforcer of social approval.

Not surprisingly, Internet use is often framed in the language of addiction. Psychologists have even identified Problematic Internet Use as a growing concern.

So what can we do?

Like Odysseus’ strategy for resisting the temptation of the sirens, perhaps the best trick is to commit ourselves to a different course of action in advance – with force, if necessary.

Odysseus had his men tie him to the mast of their ship until they were out of the sirens’ range. This is an example of “precommitment,” a self-control strategy that involves imposing a condition on some aspect of your behavior in advance. For example, an MIT study showed that paid proofreaders made fewer errors and turned in their work earlier when they chose to space out their deadlines (e.g., complete one assignment per week for a month), compared to when they had the same amount of time to work, but had only one deadline at the end of a month.

John William Waterhouse’s ‘Ulysses and the Sirens’ (1891). Wikimedia Commons

The modern-day equivalent of what Odysseus did is to use technology to figuratively bind oneself to the mast. Software packages such as Cold Turkey or the appropriately named SelfControl allow you to block yourself out from certain websites, or prevent yourself from signing onto your email account for a prespecified period of time.

Researchsupports the reasoning behind these programs: the idea that we often know what’s best for our future selves – at least, when it comes to getting work done and staying free of distraction.

Coming out with your commitment

If you really must win a game of chicken, the best way is to accelerate to top speed, remove the steering wheel and brake from your car, and throw them out the window – all in view of your opponent.

In a less dramatic fashion, precommitments can be much more effective when they’re announced in public. Researchers have found that people who publicly commit to a desired course of action such as recycling or being sociable are more likely to follow through than people who keep their intentions private. We are deeply social creatures with a fundamental need to belong, and publicly declaring a plan puts one’s reputation at stake. Between the social pressure to live up to expectations and any internal sanctions we self-impose, public precommitment can be a powerful two-pronged attack against self-control failure.

More and more, scientists who study self-control are starting to see tools such as precommitment and software that blocks out websites not as “hacks” that circumvent the system but instead as integral pieces in the self-control puzzle.

For example, a recent study tracked the everyday lives of a large sample of people on a moment-by-moment basis, asking them questions about their goals, temptations and abilities to resist them.

Contrary to expectations, the people who were generally good at self-control (measured with a reliable questionnaire) were not the best at resisting temptations when the temptation presented itself. In fact, they were generally pretty bad at it.

The key is that self-control and resisting temptation are not the same thing. Odysseus had one, but not the other.

Instead, good self-control was characterized by the ability to avoid temptations in the first place. We often think of self-control as the ability to white-knuckle our way through temptation, but studies such as this one indicate that self-control can also be as simple as planning ahead to avoid those traps.

The next time you need to get something done, consider precommitting to avoiding the Internet altogether. Like Odysseus, realize that if you find yourself facing temptation directly, the battle may already be lost.

Author: Elliot Berkman, Assistant Professor, Psychology, University of Oregon

Your local train station can predict health and death

From The Conversation.

The association between life expectancy and postcodes, neighbourhood locations or train stations has been demonstrated in many different locations around the world. These include London and Glasgow in the UK and across the US including California.

These studies paint a powerful picture of health inequalities across neighbourhoods and cities. They also concisely communicate the importance of social determinants of health. More simply, they tell us that health starts where we live, work, learn and play.

In an earlier article, we have argued that the liveability of an area is closely associated with the social determinants of health. A liveable neighbourhood should include the following key ingredients:

  • is safe, socially cohesive and inclusive
  • environmentally sustainable and supported by trees and biodiversity
  • has affordable and diverse housing supported by public transport, walking and cycling
  • is linked to employment, education, public open space, local shops, health and community services, leisure, arts and culture.

So what happens if you live in an area with more or less of these key ingredients?

The answer is postcode-related differences in health outcomes. These differences can be measured by death rates and life expectancy.

This has led to the development of clever communication tools that map life expectancy to train stations. Until now, such maps have not been produced for Australian cities.

Living on the line in Melbourne

CC BY-ND

Community Indicators Victoria at the University of Melbourne seeks to translate data into action. The project has developed a map that demonstrates the existence of health inequalities across Melbourne using data from the Australian Bureau of Statistics (ABS). We have mapped area-level disadvantage using the Index of Relative Socio-Economic Disadvantage (IRSD) with age-standardised death rates and linked these data to the Melbourne metropolitan rail network.

Large cities in the UK and US have large populations that enable the development of life expectancy data for small areas. In Australian cities we don’t have the population numbers to reliably create these same life expectancy statistics at very small neighbourhood areas.

We have chosen age-standardised death rates as the best statistical approximation to life expectancy to create our map for Melbourne. The map investigates the relationship between area-level deprivation (IRSD), death rates (taking into account age differences for areas) and nearest train station as an approximation for location.

The map shows that areas with greater disadvantage (shown in darker grey) tend to have higher death rates. This is most easily seen in the western and northern areas of Melbourne, but can also be seen along the Dandenong-Pakenham train line. In comparison, the majority of areas across the eastern suburbs have both low death rates and low levels of area-based disadvantage.

Mapping other cities

With the support of publicly available ABS data, such maps can be reproduced for cities across Australia. These will no doubt produce more interesting and thought-provoking results, which should stimulate future debate about area-based health inequities across the country.

Health-based inequities occur for many reasons. They are exacerbated, however, by a lack of access to job opportunities and services – such as public transport and mental and physical health care – which determine health outcomes.

These services are harder to access in outer suburb growth areas such as those in the western, northern and southern areas of Melbourne. Without these services people’s livelihoods and health suffer as shown in the Melbourne version of the “Living on the Line” map.

Such maps are a powerful reminder that good health planning should be integrated across government portfolios. Health budgets also need to be spent on broader public health promotion and planning that extends well beyond hospital funding and basic health service provision.

Authors: Melanie Daver, Senior Research Fellow, McCaughey VicHealth Community Wellbeing Unit, and Director, Community Indicators Victoria, University of Melbourne; Lucy Gun, Research Fellow, Community Indicators Victoria, McCaughey VicHealth Community Wellbeing Unit, University of Melbourne; Rebecca Robert, Academic Specialist (GIS Analyst), Community Indicators Victoria, McCaughey VicHealth Community Wellbeing Unit, University of Melbourne

 

Subprime gets bad rap in ‘Big Short’ but is key to easing housing affordability crisis

From The Conversation.

Anyone who’s dug into the 2008 financial crisis knows the role that bundling and selling subprime housing loans played in bringing the world to the brink of economic collapse – out-of-control behaviors well-depicted in the movie “The Big Short.”

But one thing I hope “The Big Short” doesn’t do is further tarnish the image of subprime lending.

Despite their poor reputation, such loans remain a key tool in easing the housing affordability crisis and expanding the availability of mortgages to low-income Americans seeking to realize the dream of homeownership. They also can help policymakers cope with the growing ranks of the homeless.

I’ve been studying the world of subprime in recent years, and these are some of the lessons from my current and past research. First, we need to fix the subprime mortgage market, so that the ways in which it contributed to the financial crisis aren’t repeated.

Shocking levels of homelessness

Los Angeles, New York and other cities in America are struggling to cope with the problem of homelessness and the lack of affordable housing.

On a single night in January 2015, more than 560,000 people nationwide were homeless – meaning they slept outside, in an emergency shelter or in a transitional housing program. Almost a quarter were children. Meanwhile, homeownership is hovering at 20-year lows, while about half of renters struggle to pay their landlords.

Last fall, Los Angeles Mayor Eric Carcetti asked the City Council to declare “a state of emergency” on homelessness and committed US$100 million to solving the problem, suggesting that subsidies would play a role.

But a focus on rental subsidies to solve homelessness and other affordable housing issues has adverse consequences, as evidenced by New York’s experience.

Its cluster-site housing program, in which privately owned apartment buildings are used to house homeless families when the city’s shelters are full, relies on such subsidies. But because the city typically pays market rents (or more), many landlords responded by pushing out regular (and low-income) tenants in favor of this steady stream from the government.

Such programs reduce the overall supply of affordable units, crowding out other groups in need. As more affordable housing units are allotted to the homeless, there are fewer available for low-income residents who don’t qualify for those programs and are at risk of becoming homeless themselves.

Fortunately, Mayor Bill de Blasio aims to phase out the costly program over the next three years.

While there are many other approaches to tackling homelessness, they rely on addressing an important underlying problem: the housing affordability crisis. It may seem improbable, but subprime lending could help ease the housing affordability crisis.

The role of subprime lending

The relationship between homelessness and the strains in the housing rental market is well-known: when there are more rental vacancies available, homelessness decreases (I survey the academic findings on the topic here).

This suggests that if we reduce home affordability problems, we can effectively reduce homelessness.

A powerful tool to help ease the housing affordability crisis is subprime mortgage lending – defined as loans made to borrowers with credit scores below 640.

The idea is simple: by helping more low-income tenants qualified to take out a subprime mortgage become homeowners, there’ll be more affordable rental housing available for everyone else. More supply on the market helps reduce average rents, which in turns helps more of those pushed to the streets afford a roof over their heads with less government aid. Thus this makes the policies still based on rental subsidies more effective.

However, this idea cannot be implemented until we fix the subprime mortgage market. As you can see from the graph below, the market has not yet recovered from its collapse in 2008.

The subprime market has yet to recover from its collapse. Inside Mortgage Finance, Author provided

One of the reasons the market collapsed was that investors lost confidence in the ability of loan originators and regulators to use credit scoring models to accurately assess a borrower’s creditworthiness – remember the NINJA loans (no income, no job, no assets)?

This market won’t be back up and running at full strength – and able to help address the affordability crisis – until these credit-scoring models improve and mechanisms are put in place to ensure loan quality remains adequate.

The FHFA sets new goals

There has been some movement to get the subprime market moving again.

The Federal Housing Finance Agency (FHFA), an independent federal agency that regulates Fannie Mae, Freddie Mac and the 12 Federal Home Loan Banks, recently set goals for the next two years meant to expand the availability of mortgages to low-income buyers.

This policy will keep its focus on helping a small segment of borrowers with incomes no greater than 50 percent of their area’s median income to purchase or refinance a single-family home.

But many affordable housing advocates expressed concern that these targets do not go far enough. The Woodstock Institute – a leading research and policy nonprofit organization focused on fair lending, wealth creation and financial systems reform – for example, argued that the policy won’t do enough to promote affordable and sustainable home ownership for low-income families.

How to bring back subprime

Even with the FHFA embracing the idea of expanding the availability of subprime mortgages to low-income buyers, their perceived role in the 2008 crisis and bringing down the housing market may cause justifiable resistance from the general public as a means of tackling the affordability crisis.

And one cannot blame this reaction, as it was the average American taxpayer who bailed out the reckless financial system, brought down by greedy bankers and weak politicians and regulators.

So how we can encourage more subprime lending while avoiding a repeat of 2008? In my recent research, I suggest a few ways to do this.

One of the reasons subprime loans became such a problem in the run-up to the crisis is just the sheer volume (see the boom in subprime lending from 2001 to 2005 in the above graph). This expansion was fueled by the generous homeownership subsidies given to low-income households.

One way to help prevent this is to vary the size of the homeownership subsidy countercyclically to control the amount of credit flowing into the economy and prevent overborrowing during expansionary periods. It would be higher at times when the housing market contracts, and lower when it’s booming.

Another problem was that lenders had an incentive to originate mortgages to borrowers who couldn’t afford them because all the risk was passed along to banks and other investors through collateralized mortgage obligations (CMO) and other sophisticated financial instruments.

The Federal Reserve in conjunction with other regulators could reduce this risk by carefully monitoring how many mortgages lenders keep in their own portfolios. When the share lenders hold increases, they have more incentives to better screen borrowers and thus originate better mortgages.

Lastly, the so-called adverse selection problem on the part of the mortgage originator in the secondary market should also be taken into account. This problem occurs when the mortgage originator has more information about the quality of mortgages that are securitized than the secondary market investors who snap up the CMO. That allows the originator to keep the low-risk mortgages in its own portfolio while distributing the high-risk mortgages to investors.

Improving existing credit scoring models is crucial to ameliorating this problem. Also, the Fed should more carefully monitor the quality of mortgages that are sold to investors and share its information with them. At the very least, that would reduce the investors’ information disadvantage with respect to originators.

Accompanied by the right means to regulate the housing market, we can support subprime while avoiding the disastrous outcomes highlighted in “The Big Short.“ And we can create an environment in which making low-cost mortgages available to people helps resolve the problem of unaffordable housing and homelessness.

Author: Jaime Luque, Assistant Professor, Real Estate & Urban Land Economics, University of Wisconsin-Madison