Monday, September 3, 2012

We pay for miners' impatience

Is patience a virtue? Our mothers taught us that it was, but much economic thinking treats it as a vice. And business people treat their impatience as though it's a virtue. But I'm with mum.

What isn't in doubt is that impatience is a pretty much universal human characteristic; we're all impatient, to a greater or lesser extent. I hardly think that makes impatience "rational" but, even so, conventional economics is careful to take full account of it.

The most fundamental reflection of our impatience is found in interest rates. No one is likely to lend money to a non-family member without charging a fee. Lenders want to be rewarded for doing you a favour and also for running the risk they won't be repaid.

But why not charge borrowers a flat fee? Why charge them at an annual rate for however long it is they have your money? Because you're impatient to get it back. So interest rates are a reflection of our impatience.

It's because lenders are always paid, and borrowers always charged, an amount of interest that varies with the length of the loan, that interest rates reflect "the time value of money". Allow for that value and you see why a dollar today is worth more than a dollar tomorrow (or in a year's time).

If you had a dollar today, you could lend it to someone and charge interest; if you needed a dollar today you'd have to pay interest. This being universally true, it becomes "rational" for economic calculations to take account of our impatience, as reflected in our charging of interest on the basis of time.

This is why, if someone promises to pay you $1 million a year for 10 years, it's not sensible to value that promise at $10 million. It's worth less than that because you have to wait so long for the money. How much less? That depends on how long you have to wait and your degree of impatience.

This, of course, explains the common business practice of "discounting" future flows of cash (both incoming and outgoing) to determine the "net present value" of a project. (A "discount rate" is compound interest in reverse, working from the future to the present rather than the present to the future.)

But this practice of discounting at a constant rate over time is far from foolproof. For one thing, behavioural economists have shown that, in real life, we're a lot more impatient in the near term than the longer term ("hyperbolic discounting").

For another, conventional discounting implies we care little about the distant future, which flies in the face of our concerns about the wellbeing of our children and grandchildren ("intergenerational equity") and sustainability - ecological or otherwise.

Business people treat delay as a vice - they're always on their high horse about government delays in approving their projects - but impatience may be motivated by selfishness, shortsightedness and even greed. We want to be richer - and we want to be richer now.

So we demand quarterly performance reports and structure chief executives' remuneration packages to reward them for getting quick results. Then we discover they're neglecting to invest in the longer term, not worrying about what will happen to the business in future years, and complain about "short-termism".

John Maynard Keynes said many wise things, but his most foolish (or misapplied) was that "in the long run we are all dead". It's not true - I'm still alive after first hearing it almost 50 years ago - and it's a maxim most of us will live to regret following.

People have understood the shortsightedness of short-termism for decades, but little or nothing has been done to correct it. The truth is, the business world is shackled by its uncontrollable impatience, to our long-term detriment.

It doesn't seem to have occurred to those people complaining about being in the slow lane of the resources boom that their problems are being compounded by the miners' impatience to get in for their cut while the going is good.

That's because, in business circles, impatience is seen as something to be admired. Among economists, the speed at which market participants wish to proceed is seen as a matter for them in their response to market incentives, not something the government should interfere with.

The more the dollar stays high, despite the fall back in coal and iron ore prices, the more likely it's being held up by the huge mining investment boom, as miners rush to get extra production capacity on line before prices have fallen too far.

Miners are elbowing their competitors aside, trying the grab the labour and other resources they need to get their mine built before other people's mines.

In their mad scramble they're attracting resources away from other industries - including major public infrastructure projects - creating shortages of skilled labour and bidding up wages. This explains why miners are demanding that environmental and other approval processes be speeded up. Worry about the environmental consequences later; let's just do it!

But their mad dash to get their mines built as soon as possible is causing indigestion problems for the rest of the economy.

They're bidding up wages to attract the workers they need, and for a long time the Reserve Bank was afraid they would cause an inflation surge.

It kept interest rates higher in consequence - thus probably adding a little to the dollar's strength - and, either way, making life tougher for the manufacturers and tourism operators.

And all because no one was prepared to tell the miners our minerals would come to no harm staying in the ground, so they should stop making trouble for others by being so impatient.