Tag Archives: Princeton University Press

Equity without capital, twenty years later

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I received a review copy of Capitalism without Capital: The Rise of the Intangible Economy, by Jonathan Haskel and Stian Westlake, which has a 2018 copyright date.

1. My first reaction is to be a bit miffed that my name is not in the index. Nick Schulz and I wrote a book on the intangible economy, and the first edition appeared in 2009. Going back even further, in 1998 I wrote an essay called Equity without Capital. That essay is still interesting to read, and it anticipated some of the central issues in their book. But probably fewer than 200 people saw it when I wrote it.

2. Hal Varian and Carl Shapiro aren’t in the index, either. That is a less forgivable omission. Information Rules sold well.

3. I hurried through the book, and I was inclined to give it a mixed review. But when I re-read it, I only re-read the sections that I liked the first time. I decided that those sections are really good. Now I am inclined to give the book a strong recommendation.

4. The organization of the book is excellent. The good news is that you usually can skip to the end of the chapter and read its conclusion to get the main point. The bad news is, well, why not just condense the book into an extended essay? And if you left out the sections of the book that did not do much for me, the extended essay would work even better.

Gosh, I am really being hard on them, for some reason. It really is a first-rate book. I’m not sure why I keep wanting to talk about what I don’t like about it. But, here I go again:

5. They make a big deal about recent literature that arrives at measures of intangible capital. However, as they point out, such measures are fraught.

Their analysis says that intangible capital has four s’s: sunk costs (investments in assets that cannot be re-sold); scale (network effects and path dependency can bring very high returns); synergies (combinations of ideas are worth more than the ideas are worth separately); and spillovers (ideas are easily copied or imitated).

This implies, as they recognize, that intangible capital can be worth much more than what it costs to obtain, because of scale and synergies. But it can be worth much less than what it costs to obtain, because of sunk costs in non-marketable assets. In bankruptcy, you can sell off the office furniture and the fleet of trucks (tangible assets), but not the business process that proved unsustainable or the failed attempt to establish a brand (sunk costs).

But the measures of intangible capital use acquisition cost as the measure of investment in intangible capital. That may be a reasonable way to value tangible capital. But to me, their four s’s imply that intangible capital’s value cannot be reliably represented by its acquisition cost.

To get technical, Tobin’s q is the ratio of the market value of capital to its replacement cost. Think of it as the ratio of the stock price of a firm to the acquisition cost of its assets. For tangible capital, q should be close to 1. But for firms with a lot of intangible capital, like The Four, it is much, much greater than 1. Tyler Cowen’s recent column, Investors are celebrating the tech revolution, says that the current high values of q are a positive signal about future economic growth.

Of course, for many dotcom stocks in the 1990s, q shot way up before dropping to zero, which is what my essay was predicting. But by the way, one of the stocks I was skeptical about back then was Amazon, and if you held onto that, the losses on the rest of your 90’s doctcom portfolio might not trouble you.

Looking at this balance between superstar value and failure, the authors propose that, well, on average, the value of intangible capital for the whole economy ought to be somewhere close to what it costs. I thought they were just hand-waving at that point.

They understand well enough that intangible capital is not exactly like tangible capital in the neoclassical model. But I do not think that they are ready as I am to take the next step and jettison the neoclassical framework.

Best Book of the Year?

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Kevin Laland’s Darwin’s Unfinished Symphony is sure to make my top five and the early favorite to make number one. It got a mention from Tyler Cowen and a brief review from Robin Hanson. I would be curious to know what Jason Collins thinks of it. Laland is a person I would very much like to spend a few hours with batting ideas around.

Laland’s field is evolutionary neuroscience, or so I would guess. The book is focused on the co-evolution of brain capabilities and culture in humans. A central question is how culture came to be so advanced in humans relative to animals. To address that, one must try to understand how culture is developed, transmitted, and retained.

On page 7, Laland offers his definition of culture as

the extensive accumulation of shared, learned knowledge, and iterative improvements in technology over time.

Recall that my working definition of culture is “socially communicated thought patterns and behavioral tendencies.”

Late in the book, Laland uses dance as an example of culture.

The social structure of many communities. . .gain much of their cohesion from the group activity of dancing. Historically, dance has been a strong, binding influence on community life, a means of expressing social identity of the group, and participation allows individuals to demonstrate a belonging. . .there are as many types of dances as there are communities with distinct identities.

Of course, I like this choice of examples. I think that dance illustrates what I see as a trend in recent decades toward narrower, deeper, older.

One of the central scientific studies in the book is the social learning strategies tournament. In the tournament, each player faces an environment that changes gradually over a sequence of turns. To cope with this environment, at each turn the player can choose one of three moves. Quoting from the article,

INNOVATE, OBSERVE and EXPLOIT. INNOVATE represented asocial learning, that is individual learning stemming solely through direct interaction with the environment, for example, through trial-and-error. An INNOVATE move always returned accurate information about the payoff of a randomly selected behavior previously unknown to the agent. OBSERVE represented any form of social learning or copying through which an agent could acquire a behavior performed by another individual, whether by observation of or interaction with that individual An OBSERVE move returned noisy information about the behavior and payoff currently being demonstrated in the population by one or more other agents playing EXPLOIT. . . Finally, EXPLOIT represented the performance of a behavior from the agent’s repertoire

As long as the environment stays reasonably stable, you profit most from EXPLOIT. But as the environment changes, you can obtain higher payoffs by learning. In the simulation exercise conducted in the study, the social learning strategy OBSERVE worked much better than the asocial learning strategy INNOVATE. It seems to me that people who play OBSERVE get to free ride on others who are playing EXPLOIT and to free ride especially profitably on others who play INNOVATE.

Think of a factory worker in Ohio in 1999. If you just go to work every day expecting your job to last forever, you are playing EXPLOIT. If you decide to study the career choices and location decisions of people you think are similar to you, you are playing OBSERVE. If you decide to pick a new career and/or location based mostly on your own instincts, you are playing INNOVATE. The signals you get from playing OBSERVE are noisy. You could end up copying someone who develops computer network management skills and moves somewhere to run a data center. Or you could end up copying someone who goes on disability and gets addicted to opioids.

I think that this very simple model helps one to think about the PSST story for a recession. During boom times, people find patterns of specialization and trade that are rewarding, and they EXPLOIT them. But people may over-estimate the stability of that environment. They think that house prices will never go down. They think that manufacturing jobs are going to last. Then, as the environment changes and as those changes become manifest, a lot of people’s EXPLOIT strategies start to work out badly. They have to go into learning mode. They are used to having OBSERVE work out best, and that may still be the case from the perspective of the individual, but it means that the process of establishing new patterns of specialization and trade will take a long time. To speed up that process, from a social perspective we may need more people to play INNOVATE.

Anyway, there is a lot to the book, and I plan to write a fuller review.