The liquidation of Carillion continues to feature prominently in the news.
Last week, the story was the fees being charged by PwC, the accountancy firm tasked with salvaging money from the wreckage.
It emerged that PwC’s fees, which take priority in terms of being paid over the various creditors and pensioners, amounted to £20.4m for the first eight weeks’ work. The special manager with overall responsibility has a rate of £865 an hour.
The fees were described in parliament as “superhuman”.
We might reasonably ask how these rates are determined. Why are they not half their actual value? The remuneration would still be very substantial. Equally, why are they not double?
The answer from a basic economics textbook would be that it is a matter of supply and demand. The wage – if such a proletarian term is acceptable in these elevated circles – is set at a level which ensures that there are just enough bean counters to carry out the amount of work which exists.
But it is hard to sustain this argument. The Big Four accountancy firms in the UK take on around 5,000 graduates every year. They receive almost 100,000 applications. There is a long process of whittling down. Eventually, nearly 10,000 get to the final stage, an interview with a partner.
Clearly, many graduates have very strong qualifications. But the wage rate is not bid down by this over-supply.
The argument about how prices, in this case the hourly PwC rate, are set goes back a long way in economic theory.
In the decades just before the First World War, two highly accomplished mathematicians who occupied the top chairs in economics, Alfred Marshall at Cambridge and Francis Edgeworth at Oxford, wrangled over the issue.
Appropriately enough in the week following Cambridge’s triumph in both the men’s and women’s boat races, Marshall was the victor at the time. But, to employ another sporting analogy very much in the news, there was a certain amount of ball tampering along the way.
Edgeworth thought that, in most situations, there was an inherent indeterminacy about the price which emerged. He wrote: “it may be said that in pure economics there is only one theorem, but that it is a very difficult one: the theory of bargain”.
Marshall simplified matters dramatically. He assumed that there are so many economic agents in a market that no single one of them can influence the price. This enabled him to draw, in his own best-selling textbook, the supply and demand curve diagrams familiar to generations of students.
But it was a simplification too far. If no one can influence the price, how is it set?
A lot of modern economic theory is about developing Edgeworth’s view that economics is essentially about bargaining. It makes it much more difficult, but more realistic.
There is no inherent economic justification for the hourly rates which the Big Four accountants charge. They have simply got the best of the bargaining process. Companies need to wake up and start to insist on lower fees.