Addition to the blog roll Sunday, Dec 26 2010 

I know it’s been a LONG time since I’ve written anything on this blog, but I would just like to inform everyone of a new blog that is out there. It’s called “Everything Else Not Being Equal” by Ming Lo, a professor of economics at SCSU. The name, which I love, is a play on the term “ceteris paribus,” which means “everything else being equal.” The term is used frequently in economics when we want to talk about how a variable affects some outcome without ever mentioning the other variables. So if we assume everything else stays the same, we can imagine how just one variable affects a particular outcome. The problem is that it’s almost never the case that “everything else stays equal.” So the concept of ceteris paribus can be abused in ways that do not accurately reflect reality, which is why I love the name of Dr. Lo’s blog, who also notes, “There is always a need to counter conventional wisdom.” I couldn’t agree more!

It should be very interesting to see the ideas posted there. More opinions and more ideas, especially from the SCSU community, is exactly what we need. Just for clarity (and I’ve mentioned it before in this blog), I did take a class with Dr. Lo while I attended SCSU. If the class is any indication of the honesty and thoughtfulness we can expect in the blog, I suspect the blog will be very good. Cheers to Dr. Lo and his new blog.

As for this blog, I really do apologize for the lack of activity. If I could have it any other way, I would. I’ve just been too busy to keep up with the research and writing time that I used to devote to this blog. I do have several unfinished posts that I at least want to get finished sometime within the near future. I’ll try to keep you guys posted. I can’t tell you how much I’ve appreciated the traffic and return readers, especially from within the SCSU community. My hope is to become active in writing again; my readers are my inspiration. So I hope to see you all again soon. Also, I am always looking for guest writers (don’t be shy!). You can be an anonymous writer if that’s what you want, but I don’t care to keep this blog focused on one particular opinion or viewpoint. The more diverse the better. Cheers to you all.

Minimum wage, again Wednesday, Jun 23 2010 

A little less than a year ago, I wrote a rather long post about the minimum wage. I explained the “textbook model” of the minimum wage, which many students just beginning to learn economics are taught. The basic neoclassical model tells us that a minimum wage set above the equilibrium wage in a market creates a surplus of labor or, in other words, unemployment. I disputed some of the assumptions on which such an argument rests, for example, elastic demand for labor, the “one-sector” model, perfectly competitive markets, equal bargaining power, etc. I also looked at empirical evidence that suggests that the minimum wage may in fact be beneficial for employment or, in the very least, may only have a modest employment effect (primarily for teenagers). Finally, I looked at some ideological or pragmatic reasons why people support the minimum wage and why it is more favorable than other redistribution policies (e.g. welfare). Rather quickly, this post became the most looked at article on this blog, and remained that way for quite some time. Today, it remains the second most-read post I’ve written.

Last month, King Banaian, a professor and chairman of the economics department of SCSU, wrote about about a study that concluded people who accept “enlightened economics” are more conservative than they are liberal. These “economically enlightened” folk were required to believe, for example, that a minimum wage necessarily decreases employment. I disputed this type “enlightened thinking.” Dr. Banaian has again made another post about the minimum wage, this time explaining why a minimum wage is bad policy (it prevents people from coming to “mutually agreed” wages below the minimum wage) and how there is a “consensus” among economists about this issue.

In the first post, I responded by saying there is quite a bit of evidence in support of a minimum wage, even if neoclassical theory provide none. One of the most famous example is research done by Card and Krueger, who found that the minimum wage had positive effects on employment. This seems quite stunning, considering the standard neoclassical model predicts just the opposite. So, quite naturally, one becomes rather suspicious of this research, but I think a careful review of the literature will show that the underlying conclusions that Card and Krueger come to are solid and are supported by additional research. Of course, one wonders how increasing wages can, in fact, increase employment levels. It seems counterintuitive. David Switzer, a professor of economics at SCSU, said it “goes against all of neoclassical economic thinking.”

Fortunately, neoclassical economics (as well as a little bit of intuition) does provide us with an answer. It isn’t, after all, beyond one’s imagination that an employer might actually pay its laborers a wage below the market clearing (i.e. equilibrium) wage. A firm seeking to maximize its profits has this incentive if it has the ability to do so. One scenario that might bring this about is one in which the labor market is oligopsonistic. Oligopsony is a fancy word to describe markets where there are few buyers and many sellers. (A related term that is perhaps more familiar is monopsony, where there is only one buyer and many sellers; this is the opposite of monopoly, which is one seller and many buyers.) In the case of oligopsony, the small number of firms can distort the wages in a market (in a similar way a monopoly can distort prices in a market), such that wages can be set below the equilibrium wage. Oligopsonistic labor markets reduce the welfare of laborers and creates deadweight loss. Under such circumstances, raising the wage that employers must pay their labor actually increases employment, reduces deadweight loss, and increases efficiency in the market. (A simplified graphical representation of monopsony can be viewed here.) So, in this case, the minimum wage has some extraordinary benefits.

The question becomes whether particular low-skilled labor markets are oligopsonistic or not. If the New Jersey fast food industry was oligopsonistic in 1992, that might explain Card and Krueger’s findings. However, as Dr. Banaian points out, the research in this area is not robust and is still “very young.” He may well be correct, in which case it would be helpful to look at empirical evidence and other areas that are more thoroughly understood. As I said earlier, a little bit of intuition might be able to help us explain why the effects of minimum wage may not be consistent with the standard model. In a 2008 study, David Metcalf explores why the minimum wage in Britain has “had little or no impact on employment.” Some of these include changes in hours, tax credits, compliance issues (part of the two sector model that Gary Fields discusses in previously noted research), productivity changes, price changes, reduced profits, and so on. He also considers the existence of “modern monopsony” (oligopsony) “very likely” in British labor markets. I defer you to Metclaf’s research for a more thorough discussion on how these variables can effect employment levels following a minimum wage hike. Suffice it to say, how these variable change does have an effect on employment, and may help explain why the minimum wage might have “minor negative effects at worst.”

In fact, that’s what most research has concluded. The conclusion that I support is that the minimum wage has a modest adverse effect on employment, primarily for teenager workers. It may even have positive employment effect for older cohorts, consistent with research by David Neumark and Olena Nizalova. (Neumark, keep in mind, is a fairly notable labor economist who opposes the minimum wage.) I think this is what a majority of the published literature out there reports (I can provide plenty of references, if needed), and the reasons explaining these findings are quite reasonable. That isn’t to say that there is a “consensus” against the minimum wage, as Dr. Banaian contends there is. He thinks I am “wrong on this point in terms of where the profession is on the literature.” A few years ago, The Economist, the main establishment journal, actually printed an interesting story on the issue. They wrote, “Overall, economists have become less worried about the job-destroying effects of a modest hike in the minimum wage. . . . Today’s consensus, insofar as there is one, seems to be that raising minimum wages has minor negative effects at worst.” There’s a wealth of research to support these views, as I stated earlier. What there is not is a consensus against the minimum wage, as Dr. Banaian contends there is.

In defense of his position, Dr. Banaian cites research by Neumark and William Wascher, which stated, in its abstract no less, “Our review indicates that there is a wide range of existing estimates and, accordingly, a lack of consensus about the overall effects on low-wage employment of an increase in the minimum wage.” Even more stunningly, Dr. Banaian readily confessed these facts in a post on his blog post he made in 2006, stating, “Both studies find a lack of consensus on the minimum wage, which I simply find shocking.” He finds the lack of consensus among economists “shocking,” but he at least acknowledges the fact. Today, he has shrunk from the issue and maintains that there, in fact, a consensus. He cites, for example, a 1996 survey by Robert Whaples, which suggested that there is a consensus among labor economists that the minimum wage decreases employment. That’s already been established. What Dr. Banaian conveniently does not do is refer to Whaples’ 2006 survey of PhD economists from the American Economic Association, which found that only less than 47% of them disagreed with a minimum wage policy. Though he readily mentioned it four years ago, perhaps the 2006 Whaples study is too inconvenient for the Minnesota House Representative hopeful in 2010.

The question, then, becomes less about the employment effects of the minimum wage, since there does seem to be some agreement on that issue. As one study by the U.S. Congress revealed, “Historically, defenders of the minimum wage have not disputed the disemployment effects of the minimum wage, but argued that on balance the working poor were better off.” That’s always been at the heart of the issue. Richard Freeman, one of the foremost labor economists and a professor at Harvard, writes in a 1994 study, “The question is not whether the minimum distorts market outcomes, but how its distortionary effects compare with those of other modes of redistribution, or with the benefits of redistribution.” He concludes that the minimum wage is a decent redistribution tool for four primary reasons that are typically ignored in the textbook models. I think his conclusion is consistent with what a majority of Americans believe. An overwhelming majority, usually over 80%, support the minimum wage. People support policies that help those who work (you need to work to earn the minimum wage), compared to those that help non-workers (e.g. welfare). They also are comfortable with redistributing their income via higher prices to help the most disadvantaged of workers. As Gary Fields keenly points out in a 1994 study, “One’s views about the desirability of a minimum wage ought to depend on more than the size of the unemployment effect alone.” I think he’s correct.

Cooperate AND Compete Saturday, Apr 17 2010 

Yesterday, in my managerial economics class with professor Komai, we talked about “co-opetition.” Coopetition is a portmanteau of “cooperation” and “competition,” and it essentially means cooperative competition. This is the first time I’ve heard of the concept being formally introduced, and the first time I’ve ever heard of the concept was when Barry Nalebuff, a professor of management at Yale University, gave a speech about it at last March’s Winter Institute. (I wrote about his speech, briefly, here.) The idea that he introduced was that firms, even if they are competitors, work together in such a fashion that they can “expand the pie,” which he argues is better for both the consumer and the firms. He is careful to note that he does not advocate collusion or anti-competitive behavior. The difference between coopetition and, say, collusion is that the former is a strategy for expanding the market whereas the latter is a strategy to divide the market. In this sense, coopetition is not anti-competitive. I’m sure there are various examples that Dr. Nalebluff offers in his book, but I have not read it. One example might be if two newspapers share their distribution systems. In this way, they are not being anti-competitive, but are acting cooperatively to expand total demand (i.e. the size of the market).

What Dr. Nalebluff does brilliantly is take microeconomic and managerial economic theory and apply it to the real world. Too often, these theories focus on competition. How can oligopolies compete? Managerial economics gives many neat theories about how firms can set prices and quantities to compete effectively with their competitors. It also tells us how anti-competitive cooperation between firms is bad for society (e.g. when firms collude). But not often spoke about is how firms can effectively cooperate with each other and still compete at the same time.

This is why, I think, King Banaian of the economics department here at SCSU got so worked up last September about a note hung up on a board on campus that read, “Cooperate, DON’T Compete.” Dr. Banaian implied that such a comment was the result of “indoctrination” and was surprised by how remarkably “economically illiterate that comment was.” (Although, as I explain in the comment section, it’s not at all clear that the writer of this message was even talking about economics.) Even if the author of this message was talking about economics, is it true that such a comment is remarkably “economically illiterate”?

Everyone in economics is taught that competition is a good thing. We’re usually told cooperation is a bad thing. We can learn something from applied managerial economics though, which is that this conception of economics is not necessarily true. Competition in economics is good, yes, but cooperation can be too. Although economists seem to focus on how competition can be used effectively, there are other aspects to consider. Firms, after all, can cooperate with suppliers, can cooperate with governmental agencies, can cooperate with their employees, and can even cooperate with competitors (hence coopetition). More aptly, the comment should read, “Cooperate AND Compete.”

First Amendment Forum, again Friday, Apr 16 2010 

Today I was able to attend one of the presentations that was a part of the First Amendment Forum on campus, put together by the SCSU Society of Professional Journalists, the Department of Mass Communications, the St. Cloud Times, and others. The topic of the presentation that I attended was “Protecting Journalism in the Era of Dying Newspapers and Social Networking.” Though the topic was about the death of newspapers and the rise of online content and social networking, most of the panelists discussed how they were using or had used social media to complement their writings as journalists, reporters, or editors. However, once the discussion was opened to those in attendance, the issue of the death of traditional media was brought up.

Namely, the issue of charging for online content was brought up. This issue is the same issue that I had addressed in an earlier blog post and letter to the University Chronicle. I didn’t bring it up, but I believe the person who did was the same person I wrote my post in response to (that is, Kyle Stevens). The person asked the panel what they thought about the media charging for online content.

A salient point that one of the panelists (Ramla Bile) brought up was that charging for the news online introduces some problems in that doing so bars certain people (namely the poor) from accessing the news. Bob Collins, who works for Minnesota Public Radio (MPR), said he really wished the Star Tribune would start charging people to read online content, because he believed doing so would drive more people to MPR. Adam Hammer of the St. Cloud Times likened it to the music industry, and the challenges they faced with the digitization of music and the piracy of said music. He explained how people became accustomed to listening to music through digital media, and it was Apple who recognized this and created iTunes to provide a legal channel through which people could access this digital music.

Of course, there’s the other side of this issue. The content wasn’t produced without a cost. How are the media supposed to make money if they can’t charge people to view their content? Both views are valid. We need to balance the ability to make a profit through producing important news and the necessity of not pricing people out of the market for this important news. In other words, we want people to get paid for doing good journalism, but we don’t want to bar people from accessing this journalism simply because they can’t afford it.

Some people might just respond that if people can’t afford something, they don’t deserve it. If you can’t pay for it, why should I give it to you? The problem with this argument, however, is that important news is not just another commodity to be bought and sold. The news, as I have always said, is a cornerstone of democracy. (In economics, it might be called a public good.) Scholars and political theorists have long recognized that a free and vibrant press is the foundation of civic society and liberal democracy. This is what differentiates online news from, say, online music in Hammer’s example. Music is important, yes, but not necessarily a requisite for a functioning democracy.

The question, thus, becomes whether we want to limit the dispersion of knowledge and important news or if we want to make it as free and vibrant as possible. This is where I disagree with Stevens. He believed we should charge for online content, which would have the effect of pricing people out of the market for important news. As I said, though, we need to consider the fact that the content was not produced for free and there is a certain necessity to generate a revenue to at least cover the costs of making such important news available. The suggestion I made, basing my argument off the work of Robert McChesney and John Nichols in their book The Death and Life of American Journalism, was that there be a public subsidy for independent journalism. Both McChesney and Nichols present several convincing arguments in support of their case. A public subsidy for independent (that is, not corporate) news would solve the aforementioned balancing issue; the cost of producing important news would be paid for, and accessing this content would be kept free, allowing for the greatest number of people to access vital information.

Ron Paul is right a lot Tuesday, Apr 13 2010 

Some readers might not believe it, but there was a period of time when I considered myself a “Ron Paul libertarian.” Paul is who inspired me to explore libertarianism and, indeed, politics in general. His run for presidency last election got me to not only explore political concepts differently but to also be actively engaged in the issues of the day, so he has always been an influential person in my political understandings. However, not long ago, I became disillusioned with Paul and suffice it to say I disagree with Paul on several key issues. There’s no need to go into the details of that transformation, but I should point out that I still agree with Paul on many things.

One thing that I particularly like about Paul is that he’s quick to criticize both of the political parties in the United States (even when he belongs to one of them). I don’t usually like to get involved in party politics, as they are usually inane, but I think Paul raises some great points that are hard to ignore. One salient point that he highlighted at last week’s Southern Republican Leadership Conference, much to the chagrin of many of the conservative Republicans in attendance, was the hypocrisy of mainstream Republicanism. He blasted them for their neoconservative tendencies. In his speech that drew both applause and ire, Paul pointed out, “The conservatives and the liberals, they both like to spend.” He condemned how “Conservatives spend money on different things.” To wit, “They like embassies, and they like occupation. They like the empire. They like to be in 135 countries and 700 bases.”

Certainly the right-wing loves to pay lip service to fiscal conservatism, balancing budgets, and keeping spending to a minimum. In practice, however, they act just the opposite, as the record clearly demonstrates. Paul, despite being a member of the Republican party, has no qualms mentioning this. Paul is right in lambasting them for their costly endeavors, which include the expansionist foreign policy, two wars in the Middle East, Wall Street bailouts, tax cuts without spending cuts, and radical spending on military. This is all okay by Republican standards, and they see no inconsistency in their rhetoric for small government and limited spending.

Republicans actually tend to outspend their Democrat counterparts. It was, after all, Bill Clinton who created a budget surplus and George W. Bush who accumulated more national debt than every other president combined (to use the words of Stephen Frank of the political science department and supported by King Banaian of the economics department). While Democrats do spend, they typically “spend money on different things,” like social programs, science, aide, education, and infrastructure. They also don’t tend go on and on about deficits, limiting spending, and so on.

The pattern is familiar. Ronald Reagan, for example, championed free markets, but very rarely ever adhered to the doctrine. Noam Chomsky refers to this as the “really existing free market doctrine,” namely because it rarely is ever consistent with “the official doctrine that is taught to and by the educated classes, and imposed on the defenceless.” George H. W. Bush railed against taxes—before he raised them. George W. Bush touted “no nation building,” before he began his senseless adventurism in the Middle East. Perhaps we shouldn’t expect anything else from politicians.

Indeed, to bring it to the present, Michele Bachmann, the congresswoman from Minnesota, claimed yesterday, “we’ve gone from the United States having 100% of the private economy private, to today the federal government effectively owns or controls 51% of the private economy” over the past 15 months of President Obama’s presidency (this is why she believes Obama is “anti-American” and “the most radical president” in U.S. history). Of course, it’s not very difficult to see how patently absurd her claims are. One of her examples is the bank bailouts. However, as FOX News’ Chris Wallace was quick to point out, it was President Bush who started those bailouts, which Bachmann responded was “unfortunate.” Certainly unfortunate for her argument. Even more unfortunate is that Obama’s actions don’t actually constitute “nationalization.”

As Ben Chabot of the Yale economics department keenly pointed out to NPR in 2008, “it’s not nationalization because they didn’t buy common stock with voting rights, so they don’t have a seat at the table.” The business press is in accord, and believe “the Obama plan is working.” But even if it was nationalization, there’s nothing “anti-American” about nationalization, as Harvard’s Richard Parker is quick to point out. He mentions our long history of government intervention and nationalization, beginning with “the Northwest Ordinance of 1789, and then the Louisiana Purchase of 1803.” He continues with mentioning the vast amount of land, airspace, roads, and valuable infrastructure that the U.S. government owns. During the two world wars, the U.S. government took over sizable portions of the economy—one reason for the U.S.’s recuperation from the Great Depression. After 9/11, Bush “effectively nationalized the private-security firms at airports, and replaced them with the federal TSA.” Needless to say, no one moaned about “anti-Americanism.” As I have always liked to mention, the United States has always been heavily involved in markets (having a Republican president or Congress makes no difference); fantasies about the “American free market system” are just that.

In my opinion, all this says something about the intellectual and moral culture of today’s Republicanism and our society in general. The underpinning assumption on which all this works is that what’s wrong for you is right for me. It’s a poor reflection that we cannot rise to even a minimal moral standard.

Is Social Security in shambles? Saturday, Apr 10 2010 

The answer to this question requires some careful examination that goes beyond the platitudes that we are supposed to take as self-evident. What we’re constantly told is that Social Security is in shambles. It’s bankrupt. The elderly on Social Security are outpacing workers who contribute to it, and we’re headed for a crisis very soon. Even King Banaian, the chairman and a professor of the economics department at SCSU, says we suffer from “cognitive dissonance”; it’s “part of the angst that grips” us, though none of us “want to hear of big changes.” Ed Morrissey from the Hot Air blog says it was foolhardy to listen to those who “assured us that Social Security was safe for decades without reform.”

The reason for this maelstrom is because, as The New York Times reports, “the system will pay out more in benefits than it receives in payroll taxes” this year. The recession has claimed millions of jobs and, as a result, tax receipts are down. At the same time, the Baby Boomer generation is beginning to retire en masse and will be collecting their Social Security benefits. By 2016, “indefinite deficits” are expected. Naturally, we should be frightened.

Indeed, Social Security looks like it is in shambles. Save some major reforms, which may very well including privatizing the system, the entire program appears to be heading for collapse. In fact, we’re probably better off getting rid of it entirely.

That much seems like common sense. If you collect less than you handout, you’re eventually going to go broke and the system cannot continue as is. This common sense is what drives the usual iterations about how Social Security is doomed. But, as with everything claimed to be common sense and self-evident, we should force ourselves to ask if it’s true. The assumption, of course, is that you don’t question it. It’s easy to parrot what the demagogues and pundits are saying on television and blogs; it requires some effort to look a bit beyond the rhetoric and platitudes.

Is it true that a fiscal disaster is on its way? As it happens, it’s not. In fact, if we bother to compare our Social Security system to the pension systems of other highly developed nations, just as the OECD has done, we find that the United States has one of the least generous pension systems for the elderly. Yet the fiscal hawks keep pushing on us “the great deficit scare,” though prominent economist such as Robert Eisner have been telling us for a long time now how absurd their claims are. Eisner’s book is over a decade old now, but we can learn some valuable lessons from it. Moreover, Dean Baker of the Center for Economic and Policy Research warns that the policies deficit hawks want to push through, which are are not based on sound economics, would be much more devastating than any projected deficit.

It’s certainly true the American population is aging, and faster than the workforce is growing (or will be soon). In economics, the technical literature refers to this as the dependency ratio. It tells us the number of dependent people (children under the age of 15 and adults over the age of 65) for every 100 productive people (people aged 16 to 64). The United States does not have the largest dependency ratio—far from it, in fact. And when we actually bother to look, the dependency ratio is not currently at the highest it’s ever been (nor will it be for a long time). That was around 1965. There was a problem in the 1960s, a more significant problem than we face today, back when real GDP was almost a quarter of what it is today (i.e. when we were much poorer).

What did they do about it? Did they say the rights to a decent life in a highly developed nation simply “are not natural rights of the people,” and therefore we should just stop helping the young and the elderly find a more decent life? Actually, that’s not what they did. They increased expenditures. That’s how they dealt with the unprecedented dependency ratio, one we won’t come close to experiencing for a long time. The solution to the current “crisis” is the same. You increase expenditures to ensure disadvantaged people can still live a life that isn’t marred by poverty, sickness, and starvation—so that people’s basic needs are met. There’s a consensus in every rich and developed nation that safety nets are a society’s moral obligation. In fact, the world came together and agreed on the Universal Declaration of Human Rights, which affirms these rights, calling them “indispensable for [a person’s] dignity and the free development of his personality.”

When we actually look at the published literature, there is an almost unanimous agreement that there is no “crisis,” that the dangers of an aging society are being way overblown (it is argued, in fact, that an aging society is beneficial), and that the problems that do lie ahead are quite manageable (in the same way the bigger problems of the 1960s were managed). What’s pointed out is that any fiscal problem that might possibly arise is easily addressed. For example, the Social Security board of trustees report that future problems (because there isn’t one currently) could be remedied with a simple increase on the payroll tax. The estimated 75-year actuarial deficit for OASDI is just 2% of taxable payroll (so you increase it from something like 14% to 16%). The OECD also came out with a major report on easy solutions for any possible future problem that might occur with the pension system, none of which included abandoning the pension system. One reason is because it’s recognized that there is a moral obligation on our part and that there is in fact something that separates us from primitive animals that might simply “let nature take its course” (one of the more repugnant euphemisms I’ve heard).

So the solution, then, is quite simple. We don’t need to get rid of Social Security. Nor is there a need for “big changes” or major reform.

Lords of Finance Monday, Apr 5 2010 

I’ve been reading a little bit of book by Liaquat Ahamed, titled Lords of Finance: The Bankers Who Broke the World. I’ve just started, but it’s an interesting book about the collapse of the world economy during the the 1930s and the four central bankers who he says are responsible for the terrible misery. Seeing as how I’m currently taking a test in my international economics class regarding international finance and the gold standard, I thought I’d share a quote that I found to be rather interesting. The quote is from William Jennings Bryan during his speech at the Democratic convention of 1896, and can be found on pages 13-14 in the book:

You came to tell us that the great cities are in favor of the gold standard; we reply that the great cities rest upon our broad and fertile plains. Burn your cities and leave our farms, and your cities will spring up again as if by magic. But destroy our farms and the grass will grow in the city. . . . You shall not press down upon the brow of labor this crown of thorns. You shall not crucify mankind upon a cross of gold.

The quote is interesting because it helps demonstrate the relationship between urban America and rural America. Bryan was very much concerned with American rurality and the farms that dominate it. Of particular concern was the gold standard. Credit growth was being restricted by the amount of gold that central banks had. This effect hurt producers and debtors, especially when prices were declining. The effect, therefore, on farmers, was quite negative. They were both producers and debtors. Credit restriction was troubling for them. It is for this reason that Bryan advocated loose monetary policy and easier credit. The quote above captures these sentiments through Bryan’s use of strong and fervid rhetoric. Though he won the Democratic nomination thrice, Bryan was never elected president.

The quote does have some relevance today. There are some on the right who today still advocate the use of a gold standard (typically euphemized by talk about “sound money”), for whatever reason (Ron Paul might be a notable example). There are benefits, but there are also significant drawbacks, one of which was highlighted by Bryan. In fact, many economists today blame, in part, the rigidity of the gold standard for the collapse of the global economic system during the 1930s. Indeed, several studies have found a strong relationship between a country’s abandonment of the gold standard and that country’s recovery from the depression. One has to wonder if those who advocate “sound money” have thought about the full consequences of reverting back to a gold standard and fixed exchange systems.

People respond to incentives Tuesday, Mar 23 2010 

Some readers might remember I wrote about obesity and wealth a couple of months ago. One of the conclusions I came to was that there is an inverse relationship between a state’s GDP and the rate of obesity in that state. In other words, richer states have fewer obese people (relative to their total population) than poorer states do. Some people may disagree with regards to how significant or even causal the relationship is, but I believe there is a general and visible trend that can be explained in part. One reason that I surmised is that poor people have fewer choices, namely because they have less money. One thing that this implies is that poor people will be forced to buy cheaper foods. The cheaper foods, however, tend to be the unhealthier foods. Of course, it’s not impossible to buy cheap and nutritious foods. However, if we look at just a few statistics regarding food and prices, we can begin to see the perversity of the current situation. For example, in my previous post, I cited the fact that the real price of vegetables and fruits have increased 40% between 1985 and 2000, while the price for soft drinks have declined 23%.

This is partly the consequence of government interference in the market. Most of this interference comes in the form of subsidies. Government subsidizes some foods to a great amount, such as corn, and subsidizes other foods to a very little amount or not at all, such as vegetables and fruits. This has an effect. One effect is that certain foods such as corn are overproduced and prices decrease. This is why soft drinks, which use a great deal of subsidized corn syrup and sugar, can remain cheap while more nutritious foods and drinks become more expensive. That’s just one example, but it holds across the board.

Effectively, this means government is subsidizing the consumption of unhealthy foods. Poor people that lack choices are thus more likely to be unhealthy due to their eating habits. The reason I’m bringing this topic up again is because of something Professor Nathan Hampton of the economics department at SCSU said. I had Dr. Hampton over last summer, but not this semester. However, my roommate currently has him for principles of macroeconomics and he forwarded Dr. Hampton this chart about government subsidies to certain foods vis-à-vis nutrition guidelines that are recommended by the government. The chart is supposed to explain why salads cost more than Big Macs. According to the chart, it’s because dairy and meat are heavily subsidized while vegetables and fruits are hardly subsidized at all. Thus, unhealthy foods like Big Macs are cheaper than healthier foods like salads.

Dr. Hampton’s response, however, was that this chart is misleading. He essentially called it a lie and told my roommate to sharpen his critical thinking skills. The reason, Dr. Hampton says, is because meat is not subsidized the U.S. government. While dairy is highly subsidized by the government, it is misleading (“pathetic” even) to group “meat and dairy” together to make it appear as if Big Macs are being subsidized by the government. Thus, the argument that Big Macs are cheap due to subsidies is “only for the simple minded and the weak.”

Perhaps Dr. Hampton’s response wouldn’t seem so berating if there were any merit to his claims, but there is none. The fact of the matter is that meat is being subsidized by the government. Though there may not be any direct subsidies, as Dr. Hampton claims, it is being subsidized indirectly. Exercising some of those critical thinking skills Dr. Hampton implored, it’s not very difficult to see that what’s being subsidized to a rather large extent is feed crops. What are feed crops like corn doing? They’re feeding livestock—the same livestock that eventually ends up in your Big Mac. The Institute for Agricultural and Trade Policy concludes in a rather interesting study, “corporately owned, vertically integrated, industrial animal factories have reaped major gains at the expense of U.S. farmers and taxpayers.” The reason? Subsidies. If you subsidize that which is necessary for the production of meat, you also (indirectly) subsidize the production of that meat. So, yes, when you subsidize feed crops like corn, you also subsidize the production of meats, which are used in Big Macs. It doesn’t take a great deal of critical thinking to see this fact.

Dr. Hampton says the first principle of economics is that everything has an opportunity cost. Maybe so, but it’s also true that people respond to incentives (according to Greg Mankiw‘s fourth principle of economics). When government subsidizes feed crops, it’s an incentive to overproduce meat and to lower the price of Big Macs. People respond to those incentives.

Innovations Tuesday, Mar 16 2010 

There’s been some talk about innovations recently. “Innovation” is defined as “The act of introducing something new” by the The American Heritage Dictionary. Not only are innovations new things, but they are also useful things. Innovation is one of the greatest sources of wealth creation and increased productivity. Thus, the importance of innovation is critical to the study of economics. In fact, there is an entire doctrine of economics, called innovation economics, that explores the relationship between innovation and economic growth. The pioneer of this doctrine was Joseph Schumpeter, author of Capitalism, Socialism and Democracy. According to innovative economics, the primary source of growth is not the accumulation of capital, but rather innovation, particularly innovation that increases productive efficiency. Thus, the incentivizing of innovation is what’s critical for an economy. In this sense, Schumpeter thought capitalism was the best mode of production because it incentivized innovation the most. Today, several prominent economists have used the theories of innovation economics to explain the growth of economies.

What is absolutely clear is that innovations are beneficial. How beneficial they are compared to other sources of growth could be debated, but it’s generally widely agreed upon that innovations provide a benefit to society. For example, King Banaian, the chairman and a professor of the economics department at SCSU, says entrepreneurship, which is a major source of innovation, is a positive externality and “may do more to relieve poverty than social organizations.” It’s a positive externality because “the value of this is not captured as much by entrepreneurs themselves as by society at large.” For example, with the invention of Windows, society was benefited far more than Bill Gates was benefited. (In other words, the price one pays for innovations does not reflect the true benefit it brings.) Basically everyone agrees innovation is great for society.

However, there are also problems with the current system of innovation, or the environment in which innovation occurs. One issue that I’ve highlighted on this blog before is that of copyrights and patents. Patents and copyrights are tools used to incentivize innovation and entrepreneurship. However, as I mention in the post, patents and copyrights create what are basically government-granted monopolies. As very elementary principles of microeconomics show, monopolies are economically inefficient. This can have significant impacts in the real world. For example, “economic inefficiency” might be translated into “hundreds of thousands of Africans dieing.” That’s precisely the consequence of patents in the medical industry, which keep prices high and poor people out of the market for life-saving drugs. Thus, I think it’s important to keep in mind the real world implications when we use technical and theoretical jargon like “market inefficiency”; it has real effects.

Essentially, the argument I made in that previous post is that government interference in the market creates an inefficiency (one that has dire effects) and that government-granted monopolies are not the solution for incentivizing innovation, particularly in the medical industry. I raised this point in Dr. Banaian’s post, and I got derided for it. I was told I was “only looking at one side of the issue.” After all, there’s a benefit that patents and copyrights bring, in that they do incentivize innovation, which we’ve all agreed is a positive thing. I’ve acknowledge that. If patents and such do lead to the creation of innovation and entrepreneurship, then that is a positive thing. We might even agree that the positives of this “intellectual property” outweigh the negatives of them. But that still doesn’t mean that patents and copyrights are the best option to choose. That’s an important point to keep in mind.

What I believe is “only looking at one side of the issue” is ignoring the more harmful consequences of this type of government interference. If some of the consequences of patents truly are harmful, even if there is a net benefit, we should ask ourselves if there is a way to mitigate the harmful aspects of our incentives for innovations without mitigating the positive aspects of our incentives. If there is, then we ought to choose that option.

Even though I do believe government-granted monopolies (i.e. the result of patents and copyrights) are quite harmful, that doesn’t mean government should necessarily get out of the way. I still agree innovation and entrepreneurship should be incentivized and rewarded. After all, if we accept the arguments coming from innovation economics, innovation is the key to economic growth. So how do we incentivize innovation without the harmful effects of patents and copyrights? There are different ways, but one idea that is proposed by Joseph Stiglitz, a Nobel laureate at Columbia University, is what he calls “prizes, not patents.” One of the problems with the current system (what I call the “profit motive“) is that it does not incentivize the allocation of scarce resources into areas that are not profitable for private, profit-maximizing firms—even when there’s a tremendous social benefit in doing so. (In other words, public goods are underproduced in free markets.) One example is in the production of life-saving drugs for illnesses and diseases that afflict much of the Third World. A majority of the populations that are afflicted by these life-threatening conditions are poor, so there’s not a lot of profit to be found in selling them drugs. A prize system, which is discussed in more detail in Stiglitz’s book Making Globalization Work, would help mitigate this problem by offering a reward or financial incentive to those who produce important innovations, like life-saving drugs. Not only would it incentivize innovation, it would direct resources into areas that would otherwise would not be profitable but are still a great benefit to society. Explains Stiglitz, “Since governments already pay the cost of much drug research directly or indirectly, through prescription benefits, they could finance the prize fund, which would award the biggest prizes for developers of treatments or preventions for costly diseases affecting hundreds of millions of people.”

There are other ways governments can be (and, in fact, are) critical in the introduction of innovation, which is through development that comes straight out of the state sector. CNN has an interesting article about the three most important “innovations that changed America.” The reader is asked to pick the most important of three, which are “1. The building of the interstate highway system, 2. The blanketing of the United States with coast-to-coast television, 3. The introduction and spread of the Internet.” Voting is now over, but 58% of readers chose the Internet, 29% picked television, and 14% picked the interstate system (numbers were rounded). I would agree, the introduction and spread of the Internet was the most important innovation that changed not only America but also the world. But where did the Internet come from? It came out of the state sector. The Internet was developed by the public, and it was later transferred to the private sector so that private firms could make a profit off it (that’s why we pay for Internet today). What about the interstate system, which is “often said to be the biggest public works project in the history of the world,” according the CNN article? It’s basically the same thing. This great innovation in logistics was created by the state, as I was quick to point out in a previous post on transportation subsidies. In television, it may be less clear, but the government still played an important role, particularly in broadcast television and the introduction of communication satellites. What this suggests is that, while (private) entrepreneurship is an important source of innovation, so too is the public sector.

In fact, a great deal innovation comes from the state sector. The Internet and the interstate system are two very important examples, but there are many others. In particular, high technology either comes from or is critically supported by the state sector. Science and innovation are symbiotic, and a lot of science is funded by the public. MIT, for example, is a source of great innovation; while a private university, MIT receives are great deal public subsidies, particularly through grants under the guise of military contracts. Public universities are also responsible for a great deal of innovation in both technology and ideas. This is what we should expect. If entrepreneurship and innovation is a positive externality, as Dr. Banaian contends it is, then we should expect that it would be underproduced in a free market. This image from Wikipedia shows this concept graphically. If private markets underproduce important innovations, then it suggests the state could play (as it currently does) an important role in either producing or incentivizing these innovations, e.g. through Pigouvian subsidies.

Are most economists against government intervention? Monday, Mar 15 2010 

Do most economists think government being involved in markets is a bad thing? The answer to that probably depends on the market. If markets are efficient, there’s probably no need for government to get involved. If markets are inefficient, there’s probably a good reason for government to interfere to attempt to increase efficiency and so there could be an economic argument in favor of government intervention. So the question now is whether markets are efficient or not.

The reason I bring up the topic is because of something professor Komai of the economics department brought up in my managerial economics class today. (Dr. Komai is definitely one of the best professors I have had at this university.) She said only a small amount of economists are totally against government intervention, but they seem like a majority (because they make a lot of noise). The reason, she says, is that most economists do agree that government probably should not be involved in perfectly competitive markets, because perfectly competitive markets are efficient. At the same time, however, perfectly competitive markets exist virtually nowhere. Thus, when markets are not perfectly competitive, there is market inefficiency and perhaps a good reason for government to get involved to try to increase the efficiency of the market.

Most markets are oligopolies and a small amount are monopolies (which are even more inefficient). Therefore, there are compelling economic reasons for government to get involved to try to increase competition or otherwise reduce inefficient behavior. This is one argument in favor of government involvement in markets—there are others as well—but this one is particularly convincing.

One example, which was brought up in class, is the Clayton Antitrust Act of 1914. It is one of the many antitrust laws passed throughout American history and is specifically aimed at preventing the rise of corporate power. The late nineteenth century and early twentieth century were interesting times. This was the time of when the Republican Party was still a fairly young party (it was formed in the middle of the nineteenth century). At some level, Republicans of this era represented the true ideals of Republicanism. William H. Taft and Theodore Roosevelt, for example, were completely against big corporations. The history of these presidents, particularly their domestic economic policy, is quite fascinating, and there is great literature and documentaries on this topic. These early Republicans are what were called “trust busters.” They saw government power as one counterweight to corporate power, which they found subversive. So they busted trusts, so to speak, and they increased regulations. Roosevelt’s Square Deal endorsed these principles and was totally supportive of progressivism. Those were the ideals of early Republicanism. And I believe many of these ideals have been lost in today’s Republican Party.

Update (3/31/2010): I just want to clarify that I do not mean to misconstrue the position of Dr. Komai. She has made it clear to me in class that she prefers to stay in the center or the middle of issues. It’s not my intention to brandish her as a leftist of some sort who is automatically in favor of government intervention in markets. That’s not my position either.

The point that I think ought to be taken here is that market fundamentalism is misguided. We often here that governments are inefficient and that we should “just let the markets work.” It might certainly be true that governments are inefficient, but less heard is the fact that markets can also be inefficient. I personally do not think this message is conveyed a lot—certainly not as much as the message of government inefficiency is. So my point isn’t to say governments are great, that we should have intervention everywhere, and so on and so forth; instead, I am pointing out that markets are not as great as they are lauded by some on the right, particularly market fundamentalists and Austrian economists. It’s simply my feeling that when people are taught about markets, especially in courses that introduce the principles of economics, they usually are not hearing the complete side of both stories. What’s being projected, I think, is skewed a bit. That’s the part I take issue with. We can, of course, always quibble about the right balance of things—but that’s not quite my objective here.

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