Governments behaving badly

That governments often behave badly is clear, but what would be the worst things a government has done?For the U.S. there is now an answer. The Independent Institute has recently released a new book, The Terrible 10: A Century of Economic Folly by Burton A. Abrams. In the book Abrams looks at a series of disastrous government policies that, he argues, cost trillions of dollars in wasted resources, created mass unemployment, and kept millions in poverty who otherwise could have participated in the nation's growing prosperity. Government decision-makers, regardless of political party, have tended to favour short-run benefits for friends while imposing costs on current and later generations. Interestingly Abrams's ten worst blunders divide equally among Democrats and Republicans. The book also provides key lessons to help us avoid repeating such policy mistakes in the future.

A summary of worst economic blunders of the past century is given by

Prohibition

Ratified in 1919, the 18th Amendment reflected the desire of a minority of Americans to impose their views of morality and the proper lifestyle on the majority. The effort failed miserably. In hindsight, most Americans—and especially those who lived through it—probably view Prohibition as a bizarre, foolish, and even dangerous experiment: a massive, precedent-setting governmental intervention in personal freedom, a waste of our national resources, a loss of an important source of tax revenues, a boon to criminals, a corrupting influence on public officials, and an encouragement to otherwise law-abiding citizens to disregard and disrespect the law. Prohibition produced many more costs than benefits and clearly belongs among the ranks of the worst economic interventions of the last 100 years.

The War on Drugs has had the same sort of unintended and undesirable consequences that Prohibition had, and it has failed for exactly the same reason: government officials cannot stop people from engaging in mutually agreeable exchanges. They may reduce the extent of such exchanges with harsh penalties, but they won’t stop them. Efforts to stop such exchanges will spawn many unintended and undesirable outcomes.

Monetary Policy During the Great Depression

The Federal Reserve Act of 1913 was created to resolve a problem: frequent banking panics, or widespread runs on banks, that plagued the U.S. economy. The Act created a central bank—the Federal Reserve System—which was expected to eliminate them. But the biggest banking panic in U.S. history was in the making, and the Fed did little or nothing to prevent it. What would have been a recession was turned into the Great Depression. The Fed’s failure to act decisively was one of the most costly economic policy errors to have been made in the past 100 years.

The Hawley-Smoot Act

In an unprecedented show of unanimity, over 1,000 economists from the United States signed a letter urging Congress and President Herbert Hoover to reject the Hawley-Smoot Act. Their warning went unheeded. The Act touched off a trade war, intensified the Great Depression, and helped set the stage for World War II. The Act and the story of its passage highlight Congress at its worst in pandering to special interests. More than fifty years after its passage, President Ronald Reagan referred to the Republican sponsored Act as “the most destructive trade bill in history.”

Social Security

The pay-as-you-go government program originally was designed to have a “full reserve,” but members of Congress couldn’t keep their fingers out of the cookie jar. The result is the second largest Ponzi-type scheme sponsored by the U.S. government (Medicare is the biggest). Social Security has contributed to de-capitalizing the economy by substituting government promises of retirement income obtained through taxation in lieu of income that would have been obtained from private-sector savings. The Social Security program is a non-transparent welfare program that redistributes enormous amounts of wealth, often in ways that most Americans would find undesirable.

Tax Follies

The 16th Amendment to the Constitution, passed in 1913, made the income tax a permanent fixture of the U.S. tax system. The first personal income tax was quite simple: three pages of forms and one page of instructions. Income taxes today are excessively complicated, non-transparent, and costly. There are now over 500 separate tax forms and over 7,000 pages of taxpreparation instructions. In 2009, the IRS estimated there were between 900,000 and 1.2 million paid tax-preparers to help hapless taxpayers through the morass of tax rules. Worse yet, the income tax hides over a trillion dollars in hidden subsides that distort economic decision-making and produce economic waste. Reforming our wasteful tax system remains a difficult-toachieve goal as entrenched special interests fight hard to resist change.

Medicare

The pay-as-you-go health insurance program for retirees, unlike Social Security, was not designed to have a full reserve. In fact, Bess and Harry Truman received the first Medicare cards despite never paying any taxes into the program. Today, the program is the single worst Ponzi-type scheme in the government’s arsenal. It is $20 trillion to $30 trillion dollars in the red and is in far worse shape than Social Security. This chapter sheds light on the extent of the transfers and the impending crisis in financing the program.

The Nixon-Burns Political Business Cycle

The Nixon tapes, secret recordings made in the White House, reveal how Richard Nixon pressured Federal Reserve Chairman Arthur Burns to overheat the U.S. economy prior to Nixon’s reelection bid. Acting against his better judgment, Burns caved in to Nixon’s lobbying and set the stage for a decade of inflation that required three recessions to extinguish. The tapes reveal how the Fed’s independence can be compromised for political gain and why the power of the Fed’s printing press must be kept out of the reach of politicians.

Environmental Mismanagement

The failure to take into account pollution costs in the pricing of various goods leads to the production of goods that are worth less than their costs. Economists generally agree that some type of environmental regulation is needed to correct market failures arising from producers and consumers neglecting the costs of pollution. And often they've assumed that once a market failure was identified, the government would take the appropriate corrective actions.

When they’ve investigated regulatory behavior, however, they've discovered that government regulations all too often failed to correct market failures and all too often created market failures of their own. Wasteful environmental regulations are the rule, not the exception. And usually they benefit special-interest groups while harming the society at large. This chapter highlights the problem with two case studies: a proposed “clean coal” power plant for northern Minnesota and the federal ethanol mandate.

Government Failure and the Great Recession

The busting of the real estate bubble beginning in 2006 sent the U.S. economy into a tailspin. This chapter reveals the government’s role in fostering the bubble. The Great Real Estate Bubble was nourished by paternalistic policies, fostered by both Democrats and Republicans, to engineer a better society by greatly expanding home ownership, especially to the young and lower income groups. In contrast to government’s role in Prohibition, government became a “pusher” during the housing bubble. The government’s “policy drugs” hooked millions of lower-income Americans on homeownership, indebtedness they could ill afford, and eventual bankruptcy. The economic damage done to the young and less fortunate added another cruel dimension to the economic catastrophe.

Decades of Deficits

The rapid and unprecedented peacetime run-up in the nation’s public debt, begun at the turn of the 21st century, threatens to sink the U.S. economy. Unlike the situation following World War II, paying down this debt will be much more difficult due to expected increased outlays for entitlements as the baby-boomers begin to retire. At the very least, the burden of the public debt will slow economic growth and raise the normal unemployment rate. This chapter explains why irresponsible deficit spending is one of the terrible ten.

This isn't the first book to look at government policy failures. Across the other side of the Atlantic in 2007 the IEA released a related book on They Meant Well, Government Project Disasters by D. R. Myddelton. This book, more tightly focused than the Abrams's work since Myddelton only considers quasi-commercial projects, also highlights just how wrong government policy ideas can go.

A summary of the book's argument is given by

Government officials and ministers usually mean well when they promote and manage quasi-commercial projects in the public sector, which however often turn out to be financial disasters. Any technological advances come at huge expense.

A recurring rationale for grandiose projects, from the groundnut scheme to the Millennium Dome, has been to boost ‘national prestige’, but this concept has little real value.

The costs of ventures dependent on new, untried technology, such as the R.101 airship or nuclear power, are extremely uncertain, so taxpayers have to underwrite their high risks. Initial financial estimates may often be purposely too low.

Partly due to changes in specifications, many of the projects incurred time and cost overruns of more than 100 per cent. The high speed Channel Tunnel Rail Link is still not ready more than thirteen years after the Tunnel itself opened.

The absence of market pressures in the UK’s civil nuclear power programme meant that nobody knew or cared how much it was costing. The result was total losses far exceeding those of all the other five projects together.

State projects are always liable to short-term political interference, which may increase costs, as for the Millennium Dome, or risks, as for the R.101 airship.

The government’s opaque accounting practices often disguise the true level of state spending on large projects, as with the Channel Tunnel Rail Link.

Governments do not understand markets, and on some projects, such as Concorde, made little effort to research likely customer demand.

In the market system investors bear the costs of ventures that fail, but in the political system taxpayers have to do so. As a result, governments often choose to continue projects such as the groundnut scheme and Concorde, even after it has become clear they are not commercially viable.

None of the six projects was well managed and many of the failures were down to politicians: installing inadequate or over-complex organisations, appointing incompetent managers, or insisting on excessive secrecy.

The six projects examined are:

• The R. 101 Airship (Chapter 2)
• The Tanganyika Groundnut Scheme (Chapter 3)
• Nuclear Power (Chapter 4)
• Concorde (Chapter 5)
• The Channel Tunnel (Chapter 6)
• The Millennium Dome (Chapter 7)

But what of a New Zealand list? Think Big would have to be there. The student loans scheme? Capital controls and import controls? A fixed exchange rate? Monetary policy before the Reserve Bank Act? New Zealand Railways? Air New Zealand? Car-less days! Subsidies to framing. Widespread government regulation of economic activities: bars closing at 6pm, a doctor's prescription needed for margarine, shops not permitted to open on weekends, road transportation of goods, except over short distances, prohibited to protect the railways, use of statutory marketing broads etc.

Is Bill Gates wealthier than 140 nations?

A question that its not even clear makes much sense. Jason Brennan at the Bleeding Heart Libertarians blog argues why it doesn't.

First, it’s a mistake to compare Gates’s total wealth to countries’ GDP. That would be like comparing Gates’s total wealth to Warren Buffet’s income this year. The relevant comparison is Gates’s total wealth to various countries’ total wealth (however you want to measure that).

Second, the pic means Gates compared to nations one-by-one, not as a collective.

Third, when it comes to complaining about wealth inequality, what is this meant to prove? There are questions about whether Gates earned some of his money wrongly, by violating the standards of business ethics. But, for the sake of argument, assume he did not. What then? Does this show that the world is in some way deeply unfair. Maybe.

But there’s another take on it: the fact that one dude has more wealth than many fairly large countries produce in a single year is evidence that these countries have really bad institutions and should change. Seriously, Ecuador, get your shit together.

Did slavery make economic sense?

This is a question asked at the Economist's blog Free Exchange. The profitability, or otherwise, of slavery is one of the most enduring and controversial questions in economic history. At the Free Exchange they write,

Intuitively, a business that uses slaves should be profitable. You pay your workers nothing, and reap the benefits of their labour. And some economic historians try to show just how lucrative it was.

Against this is the obvious principal-agent problem, slaves don't want to work that hard. As Adam Smith put it,

The experience of all ages and nations, I believe, demonstrates that the work done by slaves, though it appears to cost only their maintenance, is in the end the dearest of any. A person who can acquire no property can have no other interest but to eat as much and to labor as little as possible.

The Economist notes,

John Elliott Cairnes [1823 - 1875], an economist, reckoned that slavery stifled economic growth in the South [of the U.S.]. Cairnes argued that reluctant workers depleted soils more quickly. In addition, scientific agriculture was impossible. Reluctant slaves, with little interest in learning, had no interest in using new farming techniques. And this meant that Southern farms lost competitiveness to their Northern counterparts.

The Economist goes on,

Robert Fogel and Stanley Engerman made the most famous contribution to the debate. Their book, Time on the Cross, suggested that slavery in the American South was a lucrative enterprise for plantation owners. The authors reckoned that slaves were treated pretty well. And this meant that they were productive. So for the owners, slavery was:

generally a highly profitable investment which yielded rates of return that compared favourably with the most outstanding investment opportunities in manufacturing

Another study, by Alfred Conrad and John Meyer, calculated the rate of return on investing in slaves. They reckoned that “slave capital” earned at least equal returns to those from other forms of capital investment—such as railroad bonds. The rate of return on slaves could be as high as 13%—compared to a yield of 6-8% on the railroads.

So an organisational framework had to be developed to overcome the principal-agent problems. The plantation was that framework. Within slave plantations, the labour system was organised tor the purpose of maximising worker productivity while minimising disruptions of work operations and loss of property. Two major types of work systems were utilised to achieve this: the task system which was organised around the assignment of slaves by the driver (supervisor) to specific work tasks, usually related to crop production; and the gang system in which work was organised around tasks that required work performed by such groups as ploughmen, hoe-hands, and fence-repairers.

Individual plantation owners may have done well out of slavery but the effect of slavery on the wider economic development of the South is also important. Not only may have Southern farms lost competitiveness to their Northern counterparts but,

Others reckon that slavery made it difficult for the South to establish trading networks. According to Ralph Anderson and Robert Gallman, slavery forced planters to diversify their economic activities. The costs of owning a slave—such as food and shelter—were pretty constant. And so if plantations specialised in a certain crop, they left themselves open to sudden drops in income and consequently big losses. But by pursuing a range of economic activities, they had a steadier revenue flow to match their fixed costs.

Diversification posed problems. Messrs Anderson and Gallman argue that it inhibited trade within the South—and, consequently, the development of towns and villages. Slaveowners found it easier to produce something themselves, rather than buy it. And the South found it difficult to develop a manufacturing industry—instead, it depended on imports from the North. As a result, economic growth was stifled.

Slavery hindered the development of Southern capitalism in other ways. Eugene Genovese, writing in 1961, reckoned that the antebellum South was not profit-seeking. In fact, slavery was not even meant to be profitable. Slaveowners were keener on flaunting their vast plantations and huge reserves of slaves than they were about profits and investment. Rational economic decisions were sacrificed for pomp and circumstance.

The Economist ends by saying,

Of course any account of the economic effect of slavery should note the effect of treating human beings as capital equipment. The direct impact on the utility of the slaves themselves of this condition represented a terrible economic cost. And there was also an opportunity cost to the broader economy, which lost out on the potential human capital and entrepreneurial contributions slaves might have made as free workers. Abolition of involuntary servitude to say nothing of chattel slavery, was clearly a moral imperative. We can also feel pretty safe concluding that, whatever the benefit of the system to slave-owners, its abolition made as much economic sense as anything can.

Blackberry: lessons from the smartphone wars

In this video from the Mises Institute Peter G. Klein discusses the demise of Blackberry and how the market, not regulators, should pick technology winners and losers.

Did U.S. beer mergers cause a price increase?

One of the great unanswered questions in economics is, Do beer mergers cause the price of beer to increase? Well the answer, based on U.S. experience at least, is a definitive yes and no. Orley Ashenfelter, Daniel Hosken and Matthew Weinberg discuss the findings of their research into the Miller and Coors merger in a column at VoxEU.org.

They write,

Football season is here. Bud, Miller, or Coors, the classic American lagers, are the beverage of choice to accompany the big game throughout the US. Despite the recent surge of microbrews and imports, the big three brands still capture more than 60% of the market. With the recent merger of Miller and Coors only two large national brewers remain. No doubt many beer drinkers have wondered whether this merger has raised the price of their brand.

We have recently taken up the task of answering this question. We did this for two related reasons.

• We wanted to measure net price increases to beer drinkers.
• But we also wanted to see if we could sort out (a) the cost savings that might result from beer production being closer to consumers from (b) the monopolistic pressure on prices that mergers encourage.

As it turns out, breweries make a great place to study these two issues because shipping beer to markets far away is costly.

What did we find? Well, it turns out there were both anti-competitive effects of the merger and cost saving effects. What this means in practice is that whether a beer drinker faced a price increase or a price decrease depended on where the drinker lived. On average prices neither increased nor decreased, with increases in some markets being offset by decreases in others.

Mass produced beer all around the world is most of the time crap, and there are a lot of better quality substitutes out there, so I find myself asking Why do we care even if mergers do lead to price increases? After all if increases in price cause people to substitute away from the low quality mass produced beers into higher quality beers, why do we care? This looks like a good thing.

George Smith and David Friedman on defending libertarianism.

From the Bleeding Heart Libertarian blog comes this video of a 1981 debate between George Smith and David Friedman on the role of ethical and economic arguments in defending libertarianism.


In this video from a 1981 Libertarian Party of Texas event, Smith and Friedman have a debate over whether economics or ethics--whether natural rights or rule utilitarianism--forms a better basis for libertarian ideas.

Interesting blog bits

1. Gary Becker on Capitalism’s Return from the Financial Crisis
   

   Karl Marx saw every major depression in the nineteenth century as the final crisis of capitalism, due to its “ internal contradictions”, that would usher in the era of socialism and communism. Alas for Marx, each time he was proved wrong because the end of these depressions was often followed by an even stronger capitalist surge.

2. Richard Posner asks Has Capitalism Revived/Survived?

   The recent (actually current, though diminishing) depression kicked off by the worldwide financial crisis of September 2008 has not created any new communist or socialist countries. What it has done is give rise in almost all countries to a demand for more stringent regulation of banks and other financial institutions, and of some of their financial instruments, and to large public deficits; but neither of these developments is a harbinger of socialism. It’s no longer even clear what “socialism” means, or who has a coherent program of socialist administration of a modern economy.

3. Donal Curtin on How governments rort their own countries' airline passengers
   

   A while ago I had a go at the protectionist stupidity of typical bilateral inter-government airline agreements, as instanced on this occasion by Cathay Pacific having to get the Australian government's permission to increase the number of flights it would like to make between Hong Kong and Australia.
   More recently I've come across some research documenting just how much of a dead hand these agreements tend to be, and how much more airline traffic would be enabled by having more liberal arrangements.

4. William Easterly asks Are the Aid Donors Un-Developing Ethiopia?

   The World Bank, the US Agency for International Development (USAID), and the UK’s Department for International Development (DFID) have consistently failed to act on allegations of human rights abuses in Ethiopia, including ones that are tied to their aid programmes, according to new reports.

5. Peter Klein on NBER Papers of Interest

   Klein points us to 3 new NBER papers on compensation, performance, and productivity.

6. Eric Crampton on Of Free Riders and Forced Riders: America's Cup edition
   

   But there's a necessary complement to free-rider problems. If we do make payment mandatory through taxes, we'll get a forced rider problem: lots of people who get epsilon, zero, or negative utility from the yacht race are forced to pay for it through their taxes.

7. Daron Acemoglu and James Robinson ask Why Hasn’t Botswana Diversified out of Diamonds?

   Yet despite this and the fact that diamonds are running it out, Botswana has struggled to diversify out of diamonds, and it also has very high levels of inequality. There has not been a resource curse in terms of economic growth, but the economy has not diversified out of diamonds and into more modern sectors either.

8. Matt Nolan says That’s it, I’m done: RBNZ takes the path of discretion

   This seems to be saying that simply ensuring the resilience of the financial system is not enough, the central bank should be trying to exert direct, and discretionary, control over what financial markets do and where investment heads. Fine tuning at its finest. It does appear that policymakers here have been strongly influenced by Borio.

9. John Cochrane on McDonalds and the minimum wage

   Recently, on a long car trip returning from a glider contest, I did something unusual among our liberal elite: I actually went to a McDonalds and ate there.

10. Michael W Klein and Jay C. Shambaugh ask Is there a dilemma with the Trilemma

    The ‘financial trilemma’ – that open capital markets and pegged exchange rates mean a loss of monetary autonomy – has recently been challenged. Some argue that even flexible exchange rates cannot assure monetary autonomy without capital controls, while others argue even countries with fixed exchange rates can gain autonomy through temporary capital controls. This column argues that free floating exchange rates do in fact allow autonomy, and partially floating ones allow partial autonomy. For countries with fixed exchange rates, capital controls provide monetary autonomy when they are widely applied and longstanding, but not when they are temporary and narrowly targeted.

Misunderstanding Coase.

At the Forbes website Steve Denning asks Did Ronald Coase Get Economics Wrong? I would say not, but Denning does get Coase wrong.

Denning writes,

Coase’s 1937 essay set out to explain why firms exist. The article asked: given that “production could be carried on without any organization at all”, and given that “the price mechanism should give the most efficient result,” why do firms exist? Coase’s answer was that firms exist because they reduce transaction costs, such as search and information costs, bargaining costs, keeping trade secrets, and policing and enforcement costs.

The expression

production could be carried on without any organization at all

appears at the end of a paragraph in Coase's paper which begins with the sentence,

It is convenient if, in searching for a definition of a firm, we first consider the economic system as it is normally treated by the economist.

And of course the way the economic system was normally treated by the economists at the time was, implicitly but importantly, as a zero transaction cost system. As to the second expression noted by Denning

the price mechanism should give the most efficient result

I can't find it in Coase's paper and so don't know its context and thus what to make of it.

Denning continues,

These arguments were widely accepted by economists in the 20th Century and are still accepted by many today. But let’s face it: at least one of the starting assumptions of Coase’s article was flat out wrong, even in 1937. Although it’s true for simple commodities that “production could be carried on without any organization at all”, it is simply untrue that complex products and services such as airliners, smart phones or multi-disciplinary professional services “could be carried on without any organization at all.”

Here he has lost the plot entirely with regard to Coase's argument. As I noted above the expression “production could be carried on without any organization at all” occurs in a discussion of the standard, zero transaction cost, approach to the study of the economic system. In such a world production can and would be carried out without organisations such as firms since such organisations would have no reason to exist. As I have noted before, Nicolai Foss summaries the situation as,

With perfect and costless contracting, it is hard to see room for anything resembling firms (even one-person firms), since consumers could contract directly with owners of factor services and wouldn’t need the services of the intermediaries known as firms.

The zero transaction cost world is a world of perfect and costless contracting, that is, a world within which complete contracts can be written. This means that firms serve no purpose, markets can do everything.

But it wasn't a starting assumption of Coase's theory. To quote Coase,

The world of zero transaction costs has often been described as a Coaseian world. Nothing could be further from the truth.It is the world of modern economic theory, one which I was hoping to persuade economists to leave.

The starting point of Coase's theory is assumption of positive transaction costs, it is only in such a world that firms make any sense at all for Coase. That was the basic point Coase was trying to make For 80 years he was saying positive transaction costs matter, let us leave the world of zero transaction costs, - blackboard economics, as he called it - behind and study the world as it really is, a world with positive transaction costs.

Denning goes on to say,

Those products and services [complex products and services such as airliners, smart phones or multi-disciplinary professional services] require collaboration for their very existence. The economic reason that such organizations exist is that they provide value to customers that could not be produced without an organization.

Such collaboration could occur across markets if transaction costs are low compared to the costs of carrying out the transaction in a firm. If transactions are high then Coase wold say that a firm would be formed.

Following this Denning notes,

Coase’s theory did help explain the spread of big hierarchical bureaucracies of the 20th Century built on economies of scale. In the 20th Century, firms could generally succeed by pushing products and services at customers with greater efficiency than smaller firm

If economics of scale result in lower costs of management compared to transaction costs then firms would tend to be larger. As Coase said,

Other things being equal, therefore, a firm will tend to be larger :
[...]
(c) the greater the lowering (or the less the rise) in the supply price of factors of production to firms of larger size.

However in a world of low transaction cost there is no reason that things like large fixed costs can not be handled across the market. With complete contracts organising large amounts of capital present no insurmountable problems.

Denning also states,

But even in narrow economic terms, Coase’s theory was just plain wrong.

When properly understood it becomes clear that Coase's theory is fine, its Dennings arguments that are wrong.

The good news from the America's Cup

Paul Lewis writing in the New Zealand Herald points, without intending to I'm sure, to the big positive that comes from Oracle winning the next race. It could save the New Zealand taxpayer millions.

Team chief executive and fundraising power source, Grant Dalton, has already hinted that he will not do another America's Cup challenge if this one fails, though such decisions are always open to review. If he goes, there are doubts that multi-millionaire benefactor Matteo de Nora will continue either.

and

Lose, and Government money becomes harder to prise out of the public coffers. This year's nail-biting Cup match has been tremendous theatre but it will make the private fundraising job that much harder. One America's Cup lost campaign allows hope to burn. Two lost campaigns raises the issues in sponsors' minds of throwing good money after bad.

If the private money goes, the taxpayer money is, hopefully, sure to follow. Lewis also notes that,

Losing after leading 8-1 in the first-to-nine series would be bad enough. But the bigger picture is even worse. Lose, and the syndicate may fall apart.

There may be no syndicate left to waste taxpayer money on.

Sam Richardson comments at the Fair Play and Forward Passes blog,

Think about this from New Zealand's perspective. We've had the theatre, and the drama, and the world's eyes are now firmly fixed on San Francisco as Oracle seeks to finish what would be nothing short of a miracle, being virtually dead and buried a week ago. Think of the advertising this is giving this country - granted, it would be nicer if we were not on the wrong end of the comeback, but it is publicity all the same, and publicity that likely would not have occurred if we had won the Cup earlier in the regatta. Now the US have something to talk about with this regatta - and it is synonymous with New Zealand. So we get this advertising benefit (which is difficult to quantify but is nonetheless part of the package). How much has this cost the taxpayer? The Government committed about NZ$40m to the TNZ challenge - and are now reaping the rewards of that investment.

But you have to ask, What exactly are these "rewards"? Are the world's eyes really fixed on San Francisco? What coverage is the cup getting overseas? Do we really have any idea of what publicity New Zealand is getting, and if it is getting some, is backing Team New Zealand really the cheapest way to get that amount of publicity? Why on just run a (cheaper) standard advertising campaign?

Sam continues,

What happens if we win it? Several things, possibly; one of which is that there are fair questions to be asked as to whether hosting an event such as the America's Cup is the goldmine people say it could be (I blogged about this earlier in the week). We also know that the Government has in the past expressed an interest in throwing more cash at a Cup defence - for what might be considered fairly obvious reasons - and New Zealand taxpayers are not averse to more dollars being committed to a future defence. The question must be asked as to whether the return on the investment in a defence is as great as the return on the investment for a challenge? If there's one thing to be said for a challenge, it is that the Government writes a cheque for a fixed amount - end of story. A defence is more likely to be accompanied by a blank cheque - much like we had for the Rugby World Cup, where the loss was expected right from the start, on top of government spending towards stadiums, infrastructure, security and the like. Right now, we're getting great intangible mileage out of a $40m taxpayer investment - would we get such mileage if we hosted the event? Is that $40m better spent elsewhere? Important questions that need answers.

I agree that a challenge, should one occur, would be cheaper than a defense given that as Sam says a defence would be, most likely, a blank cheque job. But I'm not sure what to make of the idea that

Right now, we're getting great intangible mileage out of a $40m taxpayer investment".

For $40m I think we need more than just some supposed "intangibles". This amount of money should be buying something very tangible. Also, you could justify any amount of spending on anything if you allow the benefits to be some "intangibles" .You can always come up with a huge amount of "intangible". Policy based on "intangibles" is policy based on nothing. And what does this say about evidence based policy. What evidence can you have for intangibles?

And what else could be done with any money spent on a defence/challenge? How many hip operations could be done with that money? How many child cancer patients would receive quicker treatment if that money went to them? How many schools could be kept open with that money? Opportunity costs are real costs.

Cause and effect: ancient trade and development

In a previous post on the history of globalisation I quoted from Elhanan Helpman's book Understanding Global Trade. With regard to long-distance trade Helpman noted just how ancient trade is,

While long-distance trade plays an essential role in modern economies, it was also a salient feature of economic development after the Neolithic Revolution, as hunter-gatherers evolved into sedentary societies that specialized in food crops. The importance of trade further increased with the emergence of cities and early civilizations. Caravans traveled along the Fertile Crescent, trading between Mesopotamia and the Levant, and trading routes expanded over time to distant parts of Asia and Europe.

With regard to a later period Silver (1995: 67) notes that

“Large commercial houses flourished in Babylonia from the seventh to the fourth century. The House of Egibi, for example, bought and sold houses, fields, and slaves, took part in domestic and international trade, and participated in a wide variety of banking activities."

Thus trade is an old human activity. But given that it is, what is the relationship between trade and economic development even in the earliest times. Did hunter-gathers become farmers because of trade or was trade the result of a more sedentary society? Did cites and civilisations cause an increase in trade or did increasing trade cause cites and civilisations? What is the cause and what is the effect?

As to the development of farming we know that farming is an ancient human activity:

“The first clear evidence for activities that can be recognized as farming is commonly identified by scholars as at about 12,000 years ago [ ...]” (Barker 2006: 1).

Tudge (1998: 3) writes

“I want to argue that from at least 40,000 years ago − the late Palaeolithic − people were managing their environments to such an extent that they can properly be called ‘proto-farmers’.”

But what was the relationship between farming and trade in these times. Ofek (2001: chapter 13) argues that agriculture developed with a symbiotic relationship with exchange/trade. There is a conflict between the fact that we specialise in production but diversify in consumption. This conflict is reconciled by redistribution, i.e. via exchange/trade. Ridley (2010: 127-30) goes further and argues there would be no farming or cities and civilisation without trade, that trade was a precursor to both:

“One of the intriguing things about the first farming settlement is that they also seem to be trading towns. [ ...] it is a reasonable guess that one of the pressures to invent agriculture was to feed and profit from wealthy traders − to generate surplus that could be exchanged for obsidian, shells or other more perishable goods. Trade came first” (Ridley 2010: 127).

and

"To argue, therefore, that emperors or agricultural surpluses made the urban revolution is to get it backwards. Intensification of trade come first. Agricultural surpluses were summoned forth by trade, which offered farmers a way of turning their produce into valuable good from elsewhere. Emperors, with their ziggurats and pyramids, were often made possible by trade. Throughout history, empires start as trade areas before they become the playthings of military plunderers from within or without. The urban revolution was an extension of the division of labour." (Ridley 2010: 163-4)

So in this line of reasoning, trade is not a result of economic development it is one of the causes of farming and civilisation. Trade extended the size of the market, a larger market makes greater specialisation and an increased division of labour possible and this, as Adam Smith would argue, leads to greater production and wealth. Smith wrote in The Wealth of Nations,

This division of labour, from which so many advantages are derived, is not originally the effect of any human wisdom, which foresees and intends that general opulence to which it gives occasion. It is the necessary, though very slow and gradual, consequence of a certain propensity in human nature which has in view no extensive utility; the propensity to truck, barter, and exchange one thing for another.

And the rest is, as they say, history.

Refs.:

• Barker,Graeme (2006). The Agricultural Revolution in Prehistory: Why did Forages Become Farmers?, Oxford: Oxford University Press.
• Ofek, Haim (2001). Second Nature: Economic Origins of Human Evolution, Cambridge: Cambridge University Press.
• Ridley, Matt (2010). The Rational Optimist: How Prosperity Evolves, New York: HarperCollins Publishers.
• Silver, Morris (1995). Economic Structures of Antiquity, Westport Connecticut: Greenwood Press.
• Tudge, Colin (1998). Neanderthals, Bandits and Farmers: How Agriculture Really Began, New Haven: Yale University Press.

Greg Mankiw makes some observations on the minimum wage (updated)

At his blog Greg Mankiw has posted some observations on the minimum wage debate. Mankiw was discussing the topic of the minimum wage with a fellow economist who supported the idea. During the conversation this economist referred to a paper "Optimal minimum wage policy in competitive labor markets" by David Lee and Emmanuel Saez in support his argument in favour of a minimum wage. Mankiw comments,

What was notable to me about this paper is the incredibly strong assumptions they need to make their case. In particular,

Assumption 1. Efficient rationing: Workers who involuntarily lose their low-skilled jobs due to the minimum wage are those with the least surplus from working in the low-skilled sector.

Later they point out:

Finally, the desirability of the minimum wage hinges again crucially on the “efficient rationing” assumption. Under “uniform rationing”, where unemployment strikes independently of surplus, the minimum wage cannot improve upon the optimal tax allocation, a point formally proven in Lee and Saez (2008). Indeed, with efficient rationing, a minimum wage effectively reveals the marginal workers to the government. Since costs of work are unobservable, this is valuable because it allows the government to sort workers into a more socially (albeit not privately) efficient set of occupations, making the minimum wage desirable. In contrast, with uniform rationing, as unemployment strikes randomly, a minimum wage does not reveal anything about costs of work. As a result, it only creates (privately) inefficient sorting across occupations without revealing anything of value to the government. It is not surprising that minimum wages would not be desirable in this context.

Rather than providing a justification for minimum wages, the paper seems to do just the opposite. It shows that you need implausibly strong assumptions, such as efficient rationing, to make the case. I cannot see any compelling reason to believe that in the presence of excess supply of workers, the market will somehow manage to efficiently ration the scarce jobs.

Note Lee and Saez admit that unemployment will be caused by the minimum wage - the standard argument against the minimum wage - but argue this is desirable if the government values redistribution toward low wage workers and if the unemployment induced by the minimum wage hits the lowest surplus workers first, as highlighted by Mankiw.

The basic idea can be seen in Figure 1 from the Lee and Saez paper. Note that the unemployed have to be the low surplus workers.

Update: David Henderson also comments on the Lee and Saez paper here and Don Boudreaux does so here.

Saving the Ludwig von Mises papers

Steve Mariotti at the Huffington Post has an article on Saving the Ludwig von Mises Papers: How the Holocaust Museum Helped Uncover a Nazi Treasure Trove in Moscow.

What is well known about Mises is that he narrowly escaped capture by the Gestapo after the Nazis occupied Vienna in March 1938. Mises had to leave his apartment so quickly that he had to leave behind this manuscripts, articles, university lectures and extensive correspondence. These were taken by the Gestapo and its was believed for many years that they had been destroyed. But economist Richard Ebeling found the long-lost papers in a secret Moscow archive in 1996. How did they get from Austria to Russia?

Mariotti explains,

During World War II, the Nazis stored literally tons of art, musical scores, manuscripts and other intellectual property on boxcars. According to Ebeling, 24 boxcars packed with documents were moved to Bohemia in western Czechoslovakia. When Bohemia was "liberated" by the Soviets in 1945, soldiers who came across the boxcars contacted Stalin's secret service.

The agents quickly grasped the incredible value of what they'd found and informed Stalin, who ordered the boxcars brought to Moscow. Over "20 million pages of captured documents, from 20 Nazi-occupied countries" were stored in a nondescript building called the Center for the Preservation of Historical Documentary Collections that Stalin had built on the outskirts of town. For decades, only the KGB and Soviet Ministry of Foreign Affairs had access to this top-secret archive, which included papers by Mises, Albert Einstein and Immanuel Kant -- even original scores by Wolfgang Mozart.

After hearing rumors that Mises's papers might have survived the war, Ebeling made inquiries at the Holocaust Museum in D.C. The museum researchers found no mention of Mises in their database, but on a hunch Ebeling asked if there could possibly be anything related to Mises in Moscow.

Museum staff member Karl Modek came over to talk to Ebeling. Modek was looking into a Soviet archive of documents that had recently been declassified, and had just received an index of the archive. In the index, Ebeling and Modek found the name "Ludwig Mises," with "Fund #623" printed next to it.

Thrilled by this discovery, Ebeling returned to Hillsdale College, where he was Ludwig von Mises Professor of Economics, and raised funds from the school to travel to Moscow to explore mysterious Fund #623.

At the Center for the Preservation of Historical Documentary Collections, Ebeling and his Russian-born wife, Anna, found Fund #623. It contained over 10,000 pages that took them 10 days to go through and photocopy. They wore out the Center's copier!

The papers prove, Ebeling says, that "Ludwig von Mises was one of the most important free-market economists and philosophers of freedom in our time."

It does seem somewhat ironic that fascists and communists should so carefully preserve the papers of Mises!

A great hopportunity

At the TVHE blog William Taylor points us to a Economics themed beer: Hopportunity cost IPA

The reason for this post is that an NZ Brewery is releasing an economics themed beer! If you read this blog and don’t find that exciting I am confused….The beer is called Hopportunity Cost IPA(as brewer/economist myself, I’m gutted I didn’t think of the name first!!) and the brewery isBehemoth Brewing Company. Behemoth is the brand of lawyer-turned-brewer Andrew Childs, who is “famous” for a winning “Wellington in a Pint” with coffee flavoured beer named after the mayor of Wellington, the Celia Wade-Brown Ale (dom post write up here). I’ve had a sneak peak of the beer and it is delicious!

The launch parties in Auckland/Wellington/ChCh are coming up soon, so you should get along and support economics themed beers! Plus it will widen the pool of people who get the economics puns on the posters that will be at the venues:)

• Auckland = This Friday @ O’Carrols on Vulcan Lane (FB event page)

• Wellington = Wedsneday 2 October @ Malthouse (FB event page)

• Christchurch = Thursday 10 October @ The Twisted Hop (FB event page)

Beer and economics, what's not to love?!

When did globalisation start?

A good question. But is there a good answer? The Free Exchange blog at the Economist website has asked this question and as part of their answer they write,

However, economic historians reckon the question of whether the benefits of globalisation outweigh the downsides is more complicated than this. For them, the answer depends on when you say the process of globalisation started. But why does it matter whether globalisation started 20, 200, or even 2,000 years ago? Their answer is that it is impossible to say how much of a “good thing” a process is in history without first defining for how long it has been going on.

Early economists would certainly have been familiar with the general concept that markets and people around the world were becoming more integrated over time. Although Adam Smith himself never used the word, globalisation is a key theme in the Wealth of Nations. His description of economic development has as its underlying principle the integration of markets over time. As the division of labour enables output to expand, the search for specialisation expands trade, and gradually, brings communities from disparate parts of the world together. The trend is nearly as old as civilisation. Primitive divisions of labour, between “hunters” and “shepherds”, grew as villages and trading networks expanded to include wider specialisations. Eventually armourers to craft bows and arrows, carpenters to build houses, and seamstress to make clothing all appeared as specialist artisans, trading their wares for food produced by the hunters and shepherds. As villages, towns, countries and continents started trading goods that they were efficient at making for ones they were not, markets became more integrated, as specialisation and trade increased. This process that Smith describes starts to sound rather like “globalisation”, even if it was more limited in geographical area than what most people think of the term today.

and

The German historical economist, Andre Gunder Frank, has argued that the start of globalisation can be traced back to the growth of trade and market integration between the Sumer and Indus civilisations of the third millennium BC. Trade links between China and Europe first grew during the Hellenistic Age, with further increases in global market convergence occuring when transport costs dropped in the sixteenth century and more rapidly in the modern era of globalisation, which Mssrs O’Rourke and Williamson describe as after 1750. Global historians such as Anthony Hopkins and Christopher Bayly have also stressed the importance of the exchange of not only trade but also ideas and knowledge during periods of pre-modern globalisation.

That long-distance trade, one aspect of globalisation, is ancient is noted by Elhanan Helpman in this book Understanding Global Trade:

While long-distance trade plays an essential role in modern economies, it was also a salient feature of economic development after the Neolithic Revolution, as hunter-gatherers evolved into sedentary societies that specialized in food crops. The importance of trade further increased with the emergence of cities and early civilizations. Caravans traveled along the Fertile Crescent, trading between Mesopotamia and the Levant, and trading routes expanded over time to distant parts of Asia and Europe.

The Economist concludes by saying,

But it is clear that globalisation is not simply a process that started in the last two decades or even the last two centuries. It has a history that stretches thousands of years, starting with Smith’s primitive hunter-gatherers trading with the next village, and eventually developing into the globally interconnected societies of today. Whether you think globalisation is a “good thing” or not, it appears to be an essential element of the economic history of mankind.

In other words, globalisation (or at least some aspects of globalisation) is a lot older than most people would have thought.

Offshoring and its effects on innovation in emerging economies

Outsourcing is still a controversial practice in most countries around the world. This is just as true for emerging markets as it is for the industrialised economies. The effects of outscouring are increasingly understood for industrialised countries but what of emerging markets? A new column at VoxEU.org looks at the effects of outsourcing on firm-level innovation in emerging markets. The authors find robust evidence that outsourcing is positively related to various innovation measures. However, outsourcing only leads to increased R&D spending in countries where intellectual-property rights are well-protected.

Most of the empirical work that has been done on the effects of outsourcing on firms has looked at firms in the industrialised countries. However outsourcing is not just an industrialised country phenomena, it is also common in emerging economies. Firms in middle-income countries split up their production processes similarly to firms in developed countries. Recent research analyses the benefits to emerging market firms from outsourcing, focusing mainly on productivity and innovation effects. The latter are particularly important, since innovation is a key determinant of productivity improvements and – ultimately – growth.

The VoxEU column, Offshoring and its effects on innovation in emerging economies, summaries the research contained in a recent paper Fritsch and Gorg (2013). This paper finds robust evidence that outsourcing is associated at the firm level with:

• Spending on research and development.
• The introduction of new products.
• Upgrading existing products.

But, significantly, Fritsch and Gorg show that firms only increase their R&D effort after outscouring if intellectual property right are well protected.The interpretation given to this is that a lack of protection of intellectual property prevents firms from restructuring towards innovation activities.

Intellectual property rights protection does not matter for the introduction of new products or for upgrading. Since we control for R&D spending at the firm level, offshoring activity reflects access to better technology from foreign firms. Of course, protection of this external knowledge does not matter for the sourcing firm. Thus, intellectual property protection matters whenever firms engage in innovation effort through their own R&D.

Fritsch and Gorg distinguish in their analysis between domestic outsourcing - getting another local firm to supply a component of production - and offshoring – getting a foreign company involved in the supply chain. Fritsch and Gorg write,

In terms of innovation effects, we have two mechanisms in mind:

• First, outsourcing allows firms to reduce factor costs and restructure their operations towards higher value-added activities such as R&D and innovation [...] – a channel highlighted in the context of developed countries.
• Secondly, if offshoring takes place to technologically advanced countries, it may provide access to higher quality inputs [...]). This allows the firm to learn new technologies and expand its technological frontier.

While the restructuring effect is present for both outsourcing and offshoring, the technology effect is likely to be particularly important for offshoring. The use of imported inputs – in particular from industrialised countries – can provide strong learning effects for emerging-market firms, thus enhancing their technology level and innovation activities [...]. Studies for a multitude of developing economies have shown that imports enhance the productivity of firms in these countries. Thus, we would also expect to see that firms in emerging economies increase innovation as a result of engaging in offshoring, which is an alternative method of international sourcing.

Fritsch and Gorg's conclusions,

Our study shows that outsourcing and offshoring induce positive effects on innovation for firms in emerging economies. This corroborates the view that outsourcing is beneficial for firms. It also implies that outsourcing might help emerging economies to enhance their productivity and hence increase their competitiveness. Although we cannot explicitly test the complementarity of firms sourcing superior technology and upgrading their own technology, we suspect that this mechanism is at work. If this is indeed the case, then outsourcing would allow firms in these countries to offer more sophisticated products and services.

Ref.:

• Fritsch, Ursula and Holger Görg (2013), “Outsourcing, Offshoring and Innovation: Evidence from Firm-level Data for Emerging Economies”, Kiel Working Paper No. 1861, Kiel Institute for the World Economy.

EconTalk this week

David Epstein, writer for ProPublica and author of The Sports Gene, talks with EconTalk host Russ Roberts about the book. Epstein discusses a number of the ideas in the book including what we have learned about the nature vs. nurture debate, the role of practice in achieving mastery, why a small part of Kenya produces so many champion marathoners, why major league all-stars can't hit a fast-pitch softball, the strange nature of body types in the NBA and why Michael Phelps's body gives him an advantage.

Economists versus the cup 3

The first two postings on this topic are available here and here. In this third message the economist in question is Dr Sam Richardson of Massey University and, more importantly, the Fair Play and Forward Passes blog. Sam asks the question, Hosting major sporting events such as the America’s Cup – can we believe the hype? He offers a few of his thoughts on the topic.

Firstly, we have to recognise that the figures publicised whenever a major event such as the America’s Cup is announced are gross economic impacts, which are not the same thing as economic benefits. The initial economic impact figure posted for the 2013 San Francisco regatta and pre-event regattas was US$1.4b (for San Francisco – click here for the report) and was based on an estimated 15 syndicates competing for the Cup. In March of this year the figures were revised downwards to US$900m – but it is not known how many teams this figure was based on. These figures are impacts associated with the event in the absence of any alternative activity that might have occurred in the absence of the event. In isolation, they are difficult to prove or disprove. In order to determine whether the event is beneficial for a local economy, one has to compare the impact of hosting the event with the likely impact on the local economy if the event was not hosted. It does not necessarily translate that the local economy will be worse off if an event is not hosted – several studies in the scholarly literature have shown that events such as lockouts, and strikes in professional sports in the US have had no impact on host economies – that is, people find other things to spend their entertainment dollars on instead of professional sports. If US$1.4b or more (in regular tourism, for example) would have occurred in San Francisco in the absence of the America’s Cup, then the decision to host the event would be debatable if the goal is to maximise economic benefits.

In short, always keep in mind that if event A doesn't occur this doesn't mean that you lose people's spending. If A doesn't occur people will still spend their money on something.

Sam continues,

Another thing to remember is that these figures are produced by consultant reports that commonly overestimate the positive aspects (like numbers of visitors attending, the extent of their spending, etc), understate or completely omit the costs associated with the event (or, worse, include costs as part of the economic impact), and as such produce numbers that are optimistic at best and gross exaggerations at worst.

You really do need to consider both sides of the ledger - costs and benefits - when looking at the impact of an event.

The impact on tourism is a big factor in assessing the impact of a big event. We always hear about the great impact that an event will have on the number of visitors attracted to a region and on their spending.

There are many things that can affect the extent to which an event attracts visitors and their spending. There are positive and negative impacts here. Firstly, the positives. Events attract people who come specifically for the event, and they can also induce tourists to stay longer to take in the event. They can also induce locals to change their holiday plans to attend the event and spend money locally that would otherwise have been spent outside the local area. We can’t ignore the negatives, though. Events can cause visitors to put off trips to the local area – either temporarily (where the trip is displaced to another time) or permanently (known as crowding out) – due to perceptions of event-related congestion, noise, price increases, etc. These same perceptions can also induce locals to flee the area while the event is on, which adds to a possible negative impact. Questions have to be asked of the figures quoted – do they factor in all of these possibilities, and are they reasonable grounds upon which to base estimates of visitor spending?

Sam notes that estimating visitor numbers and spending is far from being an exact science. He illustrates the point with the example of the 2011 Rugby World Cup. In terms of numbers the RWC got  more visitors than expected (over 133,000 according to Statistics New Zealand), yet visitor spending was less than half ($340m) of what the Reserve Bank projected ($700m – a figure that was estimated on fewer visitors). Thus when reading about visitor numbers and spending keep in mind that there’s a lot of unknowns and the projections of impacts are very rarely (if ever) correct.

And what of the costs of hosting an event?

A report written by the Budget and Legislative Analyst for the City and County of San Francisco Board of Supervisors in November 2010 [...] determined that the hosting of the current America’s Cup regatta would result in a net cost to the city and county of US$42.1m. In other words, the revenues accruing to the city were in all likelihood more than offset by the costs to the city. This report was based on the initial $1.4b economic impact figures, and was based on the early assumptions of large numbers of syndicates competing to challenge for the Cup. Modifying this to what we have seen unfold recently, fewer syndicates meant lower event-related costs, but also meant lower revenues, so it would be fair to assume that there’d still be a substantial shortfall in the local government coffers as a result of the event. One issue that has been prevalent in San Francisco is the issue of private funding of the event. The bottom line is that the city is on the hook for any shortfall of private funding, which if eventuated would increase the cost to the city of San Francisco (i.e. the taxpayers).

Another question to ask is What can past experience teach us of the legacy of the New Zealand hosting of the America's Cup regattas in 1999/2000 and 2002/2003?

The legacy effect of events is the new buzzword in event evaluation, and is largely unknown as it occurs at some stage in the future, which is of course yet to unfold. I will have to go back to the original economic impact analyses done for the two regattas hosted in Auckland to examine the extent to which legacy played a role in these figures, but one thing in particular strikes me as ironic about the legacy of the 1999-2003 New Zealand America's Cup regattas - and it is the investment in the infrastructure associated with the event. The Viaduct Basin underwent a major transformation to host the two regattas, and Auckland now faces the prospect of developing a new location for the event, with the Viaduct reportedly out of commission for hosting syndicates in a future regatta. Some might say that the development of a new base for the event is a benefit - one which comes at a cost (likely to be borne by Auckland ratepayers) - but in actual fact is already part of a pre-existing development plan of the Auckland waterfront - one which will gain significant traction should New Zealand win the America's Cup off San Francisco in the coming days. As such, the development of a new base is a classic case of a future investment brought forward. As such, calling it a benefit associated with hosting the America's Cup is a little misleading. Then again, is it not unfair to label one legacy of the America's Cup regattas in Auckland as a cost, not a benefit, in the form of further taxpayer funding? After all, the past two unsuccessful America's Cup campaigns have received central government funding. A future defense, should things go to plan, has already reportedly drawn support from the Prime Minister towards some contribution from the public purse. This is all part of a legacy, is it not?

So New Zealand's taxpayers could be on the hook for many millions of dollars and if you live in Auckland you will also be on the hook as a ratepayer, so you get a double whammy.

What is the takeaway message from all of this? To my mind the basic point is that you should approach any report on the economic impact of the America's Cup with great scepticism and trepidation.

Do men and women react differently to advertising?

The short answer, at least for political advertisements, seems to be yes.

A recent article at VoxEU.org looks at Heterogeneous response across genders to tonal variation in messaging: Experimental evidence. The column by Vincenzo Galasso and Tommaso Nanni looks at how the perceived tone of a product or political advertisement affects public response – even holding constant the content of the message. The column provides evidence that men and women react differently to positive and negative tones in electoral advertisements. Negative advertising increases voter turnout among men but not women; positive advertising tends to win women’s sympathy but alienates men. This should inform gender-specific tailoring of targeted advertisements.

Given that Galasso and Nanni run experiments the first question has to do with their experiment design.

We implemented our experiment by providing four surveys to an online sample of about 1,500 eligible voters. Respondents to the initial profiling survey – conducted at the end of March 2011 – were randomly assigned
to two treatment groups and a control group exposed to neither campaign. There was one treatment group each for the positive and negative campaigns.

Individuals in the positive group were exposed to an electoral campaign with a positive tone by the main opponent, and those in the negative group to a campaign with a negative tone. Both treatment groups, as well as the
control group, were exposed to the actual (non-randomised) campaign by the incumbent. The incumbent’s campaign was mainly perceived to be negative in tone by subjects in the control group.

Since actual political campaigns consist of various communication tools which potentially reinforce each other, we expose individuals in our sample to four devices of political persuasion:

• A video interview with the candidate.
• An electoral slogan.
  
• An open letter to the voters; and
• A video ad endorsed by the candidate.
• Each of these items was presented to the two treatment groups in a positive or in a negative tone. Both positive and negative ads addressed the same issue, with the same format, and in the same setting (i.e. video images,
  length of the letter).

The initial two treatment tools (the video interview and campaign slogan) were provided with our second survey, run at the end of April 2011. The last two tools (the open letter and video ad) were provided with our third survey, run in the week before the election. After administering each of the four tools, we used the corresponding survey to measure their instantaneous effect on the perceived credibility and approval rate of the candidates, as in a standard survey experiment. All campaign ads and videos can be watched on the experiment website. The ’in the field‘ component of our experimental design comes from collecting (self-declared) turnout and voting choices through a fourth survey, run in the days immediately after the 15-16 May election. These responses enable us to evaluate the overall effect of our randomised campaigns on electoral behaviour.

What then were the results?

Our empirical results show large differences in the gender response to political persuasion strategies. In fact, male and female voters respond in opposite ways to the degree of aggressiveness of the opponent’s campaign.

• Negative advertising increases men’s turnout by about eight percentage points, but has no effect on women.

Gender differences are even stronger for electoral choices.

• Women vote more for the opponent (by eight points) and less for the incumbent (by eight points) if exposed to the opponent’s positive campaign.

Exactly the opposite happens for men.

• Men vote less for the opponent (by 11 points) and more for the incumbent (by 12.7 points) if exposed to the opponent’s positive campaign.

Overall, these effects amount to persuasion rates ranging from 21% to 24%.

Galasso and Nanni's concluding comments,

The diffusion of social networks and the ability to process the huge amount of information collected in large datasets have allowed sellers and politicians to precisely identify their preferred targets: undecided, potential buyers, and swing voters. Our results suggest that since the ads can now be targeted to the right receiver, the message should be tailored to persuade her or him.

Neuroscientist Carl Hart: science says we should decriminalize drugs

The video below comes via ReasonTV.

"We haven't had an adult conversation about drugs in America," says acclaimed neuroscientist Carl Hart, who's trying to do just that with his new book, High Price: A Neuroscientist's Journey of Self-Discovery That Challenges Everything You Know About Drugs and Society.

Hart, who is an assistant professor of clinical neurobiology at Columbia University, has both a personal and professional perspective on drugs. A former user and dealer, he's a featured character in Eugene Jarecki's The House I Live In, which explores, among other things, Hart's relationship with his son, Tobias, a drug dealer facing criminal charges. Hart's new book, which makes a case for decriminalization, is both a memoir and an exploration of the latest research on the neuroscience of drug use.

Hart spoke at an event held on June 21, 2013 at Reason's L.A. headquarters.

Walter Block on Ronald Coase

If there was a humour section to this blog I'm sure this article would appear in it. The, unintended, humour comes from an article, at Economic Journal.com, Walter Block on The Dangerous Fanatic Ronald Coase. As Block notes he has been a staunch enemy of the economics of Ronald Coase for many decades. Block writes,

Coase’s major “contribution” to the dismal science appeared first in the now very prestigious (at least among mainstream orthodox economists) Journal of Law and Economics. This 1960 publication of his was called “The Problem of Social Cost.” It is a major reason for the Nobel Prize in economics he was later awarded. It is the most heavily cited of all economics publications in the scholarly literature of the profession, and is widely and correctly I think seen as the foundation of the entire relatively new subfield of economics now called Law and Economics.

Actually I would argue that Coase's most important work was his 1937 article on "The Nature of the Firm". It is this paper, also noted as a reason for giving the Nobel Prize, that introduced the idea of "transaction costs", provided the basis for the modern approach to the theory of the firm and started the New Institutional Economics.

Block continues,

I regard Coase as a dangerous fanatic, his views as harmful to the general society and also as particularly and quintessentially evil. Worse, perhaps, so many, many people who should know better have been taken in by his siren song.

and he goes on to say,

[ ... ] For this Nobel Prize winning economist, there are two states of the world, those with zero and those with positive transactions costs. In the former case, Coase avers, it matters not one whit what the judge determines in any lawsuit between contending parties. Insofar as resource allocation is concerned, the same result will ensue either way. Suppose there are cows owned by A that wander onto B’s property and eat his grass. Posit that building a fence to prevent this trespass would cost $40, and that the harm to the latter is $100. If the court rules in favor of plaintiff B, that is the end of the matter; A will be ordered by injunction to build a fence to keep his cows to himself. Now, however, suppose that the jurist finds in behalf of the defendant A. No fence now need be built, at least not pursuant to any court order. However, B will (costlessly) approach A and offer him, say, $75 to build that fence. A will accept this suggestion (Coase reasonably assumes profit maximizing behavior), since he will earn profits of $75 – $40 = $35. B, too will benefit, since he saves $100 damages he would otherwise have to suffer at the cost of only $75, for a profit of $25. Everyone gains, and the fence is built no matter what the judge determines.

There is more wrong here than you can shake a stick at. For the full story, see my 1975 publication. Let me just say at this point that it is improper to support a scenario where B, the victim of trespass, has to pay one red dime to his victimizer, A. And, also, the scenario might fall apart unless B has enough money to finance this bribe. Coase (1960), despite Demsetz to the contrary, never disavows this possibility

But who is the victim? As Coase points out it takes two to tango. You need both the A and B for there to be a problem. That is, both A and B cause the problem so its not clear who the victim is since whoever you determine to be said victim helps cause the problem. Also any payment between A and B is just a transfer that doesn't matte for efficiency. For a discussion of "The Assignment of Rights and the Distribution of Wealth" see section IV of Coase (1988).

Block goes on the say,

Now consider the positive, very high transactions cost model. Here, Coase maintains, the judge’s decision will indeed affect resource allocation (whether or not the fence gets built), for it will be too expensive for any transfer of money to take place. What is Coase’s advice to the judge? To rule in favor of B, and to force A to erect the barrier so that his cows cannot roam. Why, because in this way wealth will be enhanced: “society” will pay $40 and gain $100, for a clear benefit of $60. This is despicable, outrageous, monstrous. Note that private property rights never, ever, not once, enter the Coasean deliberations. There is no such thing as “trespass.” For Coase, there is no “fault.” No blame is ever accorded to anyone. B has just as much responsibility for the economic loss for having his crops where he does on his own private property (there really is no such thing for this defender of free enterprise), as A has for allowing his cows to eat them. Yeah, and it is just as much fault for you having your nose there, as it is mine for punching it, with no provocation on your part. The point is, Coase does not at all look to the past to determine who is in the right and who is in the wrong. No, he looks to the future and asks, under which assignment will GDP be maximized after the decision; Coase is a fanatic about wealth maximization. However, the relative prices of grass, beef, barbed wire, etc., are continually changing. The next time such a case is heard, the very opposite decision might well be reached. This is an entire abnegation of private property rights. Coase is worse than the commies. At least they had a theory of property: all for the proletariat, none for the bourgeoisie. That is not much of a theory, but at least it is a theory. Coase is worse, he is a total nihilist. And the importance of this cannot possibly be overemphasized. Without private property rights, our entire free enterprise system disappears down a veritable sinkhole.

But its not just Coase that Block has total contempt for, economist David Henderson and lawyer Richard Epstein fare no better.

Now for Henderson. He states in the War Street Journal: “Before Coase, most economists had accepted British economist Arthur Pigou’s idea that if, say, a cattle rancher’s cows destroy his neighboring farmer’s crops, the government should stop the rancher from letting his cattle roam free or tax him for doing so. Otherwise the cattle would continue to destroy crops because the rancher would have no incentive to stop them. Coase challenged that view. The rancher, he wrote, would be ignoring an opportunity: the chance to be paid by the farmer not to destroy the crops. If transaction costs were zero—Coase was clear that he wasn’t assuming they were—the farmer and rancher could come to a mutually beneficial agreement.”

Mutually beneficial? It is to laugh. Under certain assumptions of the relative costs of beef, crops, barbed wire, the victim (B, in my example) will be forced to pay off the perpetrator (A). That is justice? We might as well ask the rape victim to pay off her rapist to stay away from her, a point I indeed elaborate upon, particularly in my publication of 1996.

Next up in the batter’s box in the War Street Journal is one Alan Van Dyke in a letter to the editor of 9/10/13. This worthy starts off on the wrong foot: “I am a great admirer of Ronald Coase.” What, you “greatly admire” a man who supports rapists, murderers, trespassers? (Hey, read my articles on this; I’m only writing an op ed here; but this is indeed the reductio ad absurdum I launch at Coase in the peer reviewed literature). However, Van Dyke is brilliant when he says in criticism of Henderson: “The rancher had no rightful ‘opportunity’ to profit by being paid to not allow his cows to destroy the farmer’s crops. The transaction that was described wasn’t a market transaction, it was extortion.” But this means that Van Dyke is an “admirer” of someone who supports extortion. Say it is not so, Van Dyke. You were so close to seeing the errors, and, yes, the evil, of Coaseanism.

Whereupon Epstein enters the fray (letter to the editor, 9/11/13), to defend Henderson against Van Dyke. Epstein has the temerity to say “in that counterfactual world (of zero transactions costs) neither extortion nor deception is possible.” Let’s give half credit to Epstein. Yes, deception is not possible in this model, which explicitly rules it out. But extortion? It is not extortion to force the victim to pay to get the trespasser to stop violating his rights? God knows what Epstein is teaching his NYU law students. But my favorite expression of Epstein’s is his reference to the: “legitimate … uses of state coercion.” This is a libertarian?

What can you say, the Walter Blocks of this world make life interesting.

Ref.:

• Coase, R.H. (1988). 'Notes on the Problem of Social Cost'. In R.H. Coase, "The Firm, the Market, and the Law" (pp. 157-86), Chicago: University of Chicago Press.

Bad housing policy is not just a New Zealand thing

Regulation of the housing market here is New Zealand causes all sort of problems but may be we should be grateful on one has, yet, put forward a policy like this one in the U.K.

Philip Booth writing at the IEA blog notes,

Last week, the Royal Institute of Chartered Surveyors (RICS) argued that there should be a limit on house price rises of 5 per cent per annum. If rises went beyond this limit, RICS suggested, the authorities should put restrictions on the mortgages banks could offer.

There would be several objections to this policy if it were to be followed in isolation. Sometimes house prices rise for good reason, and limiting price rises will make the market even less able to respond by building new houses and by turning commercial property into residential property. Secondly, if house prices are rising because incomes are rising strongly, or because of a previous recession, the only consequence of limiting rises to 5 per cent per year will be that people refuse to sell, as they will expect catch-up growth over the coming years. The UK is also not a single housing market: supply and demand conditions differ in different parts of the country. For the last 30 years, house prices have risen strongly in London and the South East, but less strongly elsewhere.

And if people are blocked from obtaining mortgages, even though banks are happy to lend, it will make it even more difficult for the young to get on the housing ladder. Further, people who are prevented from taking out mortgages may well take out more expensive and completely unsuitable forms of credit instead.

Surely the whole point of having a housing market is to signal changes in scarcity via changes in prices. It is these price changes that give incentives for the contraction or expansion of housing supply and demand. A rapid increase in prices would suggest the need for an expansion of supply, i.e. the building of more houses. If you limit price increases you limit the incentive to increase supply just when it is needed most.

But the main message here, a message with more general application, is to do with the danger that one set of bad regulations drives another set of bad regulations which ........ Booth explains,

The main problem with this proposal, however, is that its designers are looking down the wrong end of the telescope. We have the Bank of England making it more difficult for banks to lend money due to onerous capital requirements. It then responds to the problems this creates by unconventional monetary policy, inflating asset prices – including for houses.

Concerned about the extension of mortgage credit, the government then brings in the statutory regulation of mortgages – with a whopping consultation document of 500 pages. Then, worried about the difficulty people have getting mortgages, the government – seemingly oblivious to the policies in the US that caused the 2008 crash – provides mortgage guarantees (through schemes like Help to Buy) to people who can’t obtain mortgages on commercial terms. To cap it all, we have one of the most restrictive land-use planning policies in Europe. Even after a decade of stagnation of real incomes, house prices are still rising from levels far higher than in nearly all comparable countries.

In a vicious circle of regulation begetting regulation, we have a proposal to cap the house price increases caused by all the other regulations

May be a better approach would be to look at the regulatory mess we already have and pick it apart and reduce it down to those controls that are really necessary, thereby reducing the need to create new regulations to deal with the unintended consequences of the last set of regulations. Sometimes less really is more.

Economists versus the cup 2 (updated)

Previously I blogged on comments made by three economists on the economic benefits, or otherwise, of having the America's Cup defence in Auckland. Now JamesZ at the TVHE blog has also commented on the three economist's views. James tells us that The America’s Cup is not about the money. Well actually yes it is. Given the amount of money that central and local government will waste on the defence and given there is no economic justification for that spending, it really is about the money.

At one point James writes,

It’s a bit like going on holiday: it’s only a bad use of money if you don’t end up enjoying the break. The financial return is hugely negative but that’s fairly irrelevant when one’s enjoying a hike in the French Alps or lounging on the beach in Mallorca. What we really need to ask is whether the public gets sufficient enjoyment from hosting events like the America’s Cup.

To say the financial return to you holiday is hugely negative is to say the financial return to all consumption is hugely negative. Of course it is, we spend the money to gain the utility from the consumption. Going on a holiday of your choosing is about utility maximisation. You are spending your money to purchase a consumption bundle of your choosing. Having the America's Cup here is more like someone telling you that you will go on holiday, whether you want to go or not, telling you where you will go, whether or not you want to go there, and telling you how long your holiday will be, no matter how long you want it to be. And to cap it all off,  they then make you pay for it! A forced holiday isn't about maximising your utility, you get the consumption bundle whether you want it or not. You suffer a hugely negative financial return with no guarantee that you get any utility from it at all. Someone else's utility is being maximised and you, as a ratepayer and/or taxpayer, get to pay for it.

James continues,

The obvious answer is ‘yes’, nations compete to host events and have done for as long as historical records exist. Hosting is incredibly prestigious and competitive, which suggests that there is no shortage of benefit from hosting. It isn't as if the legacy of hosting large events is unknown, yet cities and nations continue to bid huge sums for them despite that.

There may be benefits to hosting such events but those benefits go to a very small group who pay very, very, little of the costs of hosting. The people who make the decisions about hosting don't pay the bill. That they may well make an inefficient decision is hardly surprising given this.

James ends by saying,

So long as people know what they’re paying for the thrill, we shouldn’t worry too much about the money.

But if you want to host on the grounds that some people will get positive utility from the "thrill" of hosting then you have to net out the negative utility that other people suffer from hosting. You must consider both sides of the ledger. It's the net-thrill that matters.

Update: Brennan McDonald makes the sensible point that If We Host The America’s Cup, Kickstarter Financing Is The Only Responsible Choice

To be or not to be. That is the question for the firm

Over at the always interesting Organizations and Markets blog Nicolai Foss writes,

Fritz Machlup famously argued that economists should not care about the specificities (e.g., internal organization) of individual firms, as this was unlikely to bring substantial additional insight in the market outcomes that were the real objects of interests for economists.

Machlup was defending the neoclassical (or marginalist as it was called then) theory against the attack of the behavioural and managerial theories.He argued that the behavioural and managerial theorists who were attacking the neoclassical model were doing so erroneously since they were working at a different level of analysis relative to that of the neoclassical model. The behavioural and managerial theories are aimed at the level of the individual firm whereas the neoclassical model concerns the industry level and thus, Machlup argued, the former are not genuine theoretical rivals to the latter.

Machlup argued that there was confusion as the role of the firm in price theory,

My charge that there is widespread confusion regarding the purposes of the “theory of the firm” as used in traditional price theory refers to this: The model of the firm in that theory is not, as so many writers believe, designed to serve to explain and predict the behavior of real firms; instead, it is designed to explain and predict changes in observed prices (quoted, paid, received) as effects of particular changes in conditions (wage rates, interest rates, import duties, excise taxes, technology, etc.). In this causal connection the firm is only a theoretical link, a mental construct helping to explain how one gets from the cause to the effect. This is altogether different from explaining the behavior of a firm. As the philosopher of science warns, we ought not to confuse the explanans with the explanandum.

Foss goes on to say,

Thus, for the purposes of price theory, firms within an industry could essentially be taken to be homogenous.

I'm not sure the problem here is that firms are homogenous, its more that firms don't exist in the neoclassical model. To quote Foss,

With perfect and costless contracting, it is hard to see room for anything resembling firms (even one-person firms), since consumers could contract directly with owners of factor services and wouldn’t need the services of the intermediaries known as firms

Or his his co-blogger Peter Klein,

In neoclassical economic theory, the firm as such does not exist at all. The “firm” is a production function or production possibilities set, a means of transforming inputs into outputs. Given the available technology, a vector of input prices, and a demand schedule, the firm maximizes money profits subject to the constraint that its production plans must be technologically feasible. That is all there is to it. The firm is modeled as a single actor, facing a series of relatively uncomplicated decisions: what level of output to produce, how much of each factor to hire, and so on. These “decisions,” of course, are not really decisions at all; they are trivial mathematical calculations, implicit in the underlying data. In the long run, the firm may also choose an optimal size and output mix, but even these are determined by the characteristics of the production function (economies of scale, scope, and sequence). In short: the firm is a set of cost curves, and the “theory of the firm” is a calculus problem.

I guess firms in the neoclassical model are homogeneous in their non-existence.

The upshot of dealing with a zero transaction cost world, as standard price theory does, is that one of its most important concepts doesn't really exist. Not that this stops anyone talking and analysing firms using neoclassical price theory.