A structural model of the retail market for illicit drugs

An interesting new paper on A Structural Model of the Retail Market for Illicit Drugs by Manolis Galenianos and Alessandro Gavazza, has appeared in the American Economic Review, March 2017, Vol. 107, No. 3: Pages 858-896.

The abstract reads,

We estimate a model of illicit drugs markets using data on purchases of crack cocaine. Buyers are searching for high-quality drugs, but they determine drugs' quality (i.e., their purity) only after consuming them. Hence, sellers can rip off first-time buyers or can offer higher-quality drugs to induce buyers to purchase from them again. In equilibrium, a distribution of qualities persists. The estimated model implies that if drugs were legalized, in which case purity could be regulated and hence observable, the average purity of drugs would increase by approximately 20 percent and the dispersion would decrease by approximately 80 percent. Moreover, increasing penalties may raise the purity and affordability of the drugs traded by increasing sellers' relative profitability of targeting loyal buyers versus first-time buyers.

So one advantage of legalising drugs would be an increase in the quality of drugs sold and a reduction if the range of quality in the market with low quality drugs being driven from the market due to more information on quality being available before  purchase. This has a obvious advantage when you consider the effects of low quality drugs on users.

But like with most repugnant markets people - and politicians - will react on emotion rather than evidence and so the war on drugs will continue to be fought and lost.

Understanding moral repugnance

Julio J. Elias, Nicola Lacetera and Mario Macis have a new column at VoxEU.org that looks at Understanding moral repugnance: The case of the US market for kidney transplantation.

In their column Elias, Lacetera and Macis note that certain 'repugnant' transactions, such as the sale of organs, are prohibited on moral grounds, despite there being substantial potential efficiency gains from having such transactions. Their column uses a survey-based experiment to explore public perceptions of the morality–efficiency trade-off in the context of the kidney procurement system in the USA. Respondents are found to accept higher levels of repugnance for higher levels of efficiency. These results suggest room for efficiency concerns alongside moral and ethical considerations.

Elias, Lacetera and Macis use a survey-based choice experiment to address questions about the morality--efficiency trade-off and quantify the trade-off between the morality and the efficiency of alternative kidney procurement systems. They find that although systems that allow for payments to donors do raise stronger moral concerns than a system with no payments, a majority of individuals would be willing to accept a more repugnant system provided that it produced a sufficiently large additional number of transplants.

The repugnance-efficiency trade-off

We recruited 2,918 US residents through Amazon Mechanical Turk. After providing an overview of the state of organ procurement and allocation in the US, we asked the participants to consider three alternative procurement systems to increase living undirected kidney donations:

• A system based on unpaid donors with allocation based on priority rules determined by the patients’ medical situation, age, time on the waiting list, etc. (corresponding to the current system).
• A system where donors would receive $20,000 from a public agency, with allocation based on the same priority algorithm.
• A system of individual, private transactions, where donors would receive $20,000 from the organ recipient (out of pocket or through privately purchased insurance, for example).

After receiving this information, respondents expressed their opinion about these systems related to their morality in terms of ethical concerns emphasised in philosophy and bioethics studies (e.g. Delmonico et al. 2002). We asked the subjects how coercive, exploitative, unfair to the patients, unfair to the donors, and against human dignity they thought each system was, and an overall assessment of how much a system was in contrast with the respondent’s values

Respondents were then asked to assume that each system would result in a given efficiency in terms of the kidneys for transplantation procured, and to choose their preferred system. The efficiency levels were randomly determined, and each participant was presented with three choice opportunities, in a sequential manner.

The unpaid-donor system received low repugnance ratings – that is, individuals, for the most part, did not express moral concerns about this system. The two paid-donor systems received, in general, higher repugnance ratings than the unpaid-donor system. However, there was a large difference according to whether the system contemplated payments by a public agency or by the recipients in private transactions, with the latter resulting as the most repugnant system.

Looking at choices, the results show that the likelihood of respondents choosing a particular combination of repugnance and efficiency increased with the level of efficiency and decreased with repugnance. Respondents thus preferred options with higher efficiency and those considered less repugnant, but also acknowledged, through their choices, a general trade-off between these two characteristics.

We estimated the size of these trade-offs employing discrete choice models. The median respondent would favour payments to organ donors made by a public agency if it increased the annual supply of kidneys by about 6 percentage points; this corresponds to about 2,000 additional kidneys, which would reduce the shortage by around 11% and would result in $250 million saved annually by taxpayers.

However, to accept a system based on private transactions, the median respondent would require about a 30 percentage point increase in supply, corresponding to 10,000 extra kidneys procured (which would reduce the shortage by more than 50%), and $1.26 billion in savings for taxpayers. This difference in the estimated trade-offs appears to derive from the fact that the public agency paid-donor system was considered less repugnant than the private transactions system along all of the morality features that we included. In particular, participants rated the public agency system as being equally ‘fair to the patients’ as the unpaid donor system (these two systems allocated organs to patients based on the same priority rules), whereas private transactions (in which the allocation is purely market-based) were considered highly unfair.

There was heterogeneity in the population, ranging from respondents with ‘deontological’ preferences who were not willing to allow payments, irrespective of the expected number of lives saved, to ‘consequentialist’ individuals who placed a large weight on efficiency over moral concerns. This heterogeneity did not generally relate to the respondents’ socio-demographic characteristics, but was correlated to broader attitudes as measured by a set of moral dilemmas typically used in psychology, thus providing further evidence that ethical views in these choices are central.

The author's conclusion is,

Alvin Roth stresses that “we need to understand better and engage more with the phenomenon of ‘repugnant transactions’, which often serves as an important constraint on markets and market design.” The prohibition on payments to kidney donors is one important example of this phenomenon. Our research suggests that individual choices based on repugnance considerations respond in a predictable ways to efficiency information, but also that ethical views play a crucial role in these preferences.

Supplying evidence and promoting studies on such sensitive topics might therefore lead to greater awareness and improved policy design based on the actual preferences of a population. In the case of introducing regulated payments for organ donors and their families in particular, the evidence is particularly strong that informing society about the potential benefits of economic incentives does impact the acceptability of this transaction.

Because individual preferences appear to depend on expected efficiency in addition to ethical considerations, pilot trials testing the outcomes of different arrangements may enhance the ability of a population to determine the preferred organ procurement and allocation system.

Incentives and ethics in the economics of body parts

Repugnant markets are an relatively new area of economics - associated with the work of Nobel winner Alvin Roth - and one that many people find strange and unsettling but it is also one that has very important implications for people's welfare. And there is no more important area than the "market" for human body parts. This is an area where demand outstrips supply in a big way and we need ways to get more people to donate. But many people don't like the idea of using monetary incentives to increase donations.

In this new NBER working paper Nicola Lacetera looks at some of the economic and moral issues involved in organ markets.

The abstract of the paper reads:

Research shows that properly devised economic incentives increase the supply of blood without hampering its safety; similar effects may be expected also for other body parts such as bone marrow and organs. These positive effects alone, however, do not necessarily justify the introduction of payments for supplying body parts; these activities concern contested commodities or repugnant transactions, i.e. societies may want to prevent certain ways to regulate a transaction even if they increased supply, because of ethical concerns. When transactions concern contested commodities, therefore, societies often face trade-offs between the efficiency-enhancing effects of trades mediated by a monetary price, and the moral opposition to the provision of these payments. In this essay, I first describe and discuss the current debate on the role of moral repugnance in controversial markets, with a focus on markets for organs, tissues, blood and plasma. I then report on recent studies focused on understanding the trade-offs that individuals face when forming their opinions about how a society should organize certain transactions.