New York Tax Hike

The New York Government is attempting to introduce nearly 100 new taxes to make up for a looming budget defecit. I have two points to make. First, most obviously, perhaps the answer is not to increase taxes but rather to reduct spending. But that ideological point aside, I think the more important point is that these taxes are likely to flop and not provide the amount of revenue expected, and in a worst case could potentially lead to an absolute reduction in revenues. When over half the state's population live extremely close to a state border (New York City accounts for nearly 40% of the state's population), these taxes could potentially induce consumers to drive a few extra miles (to New Jersey or Connecticut, say) to avoid paying taxes.

Good at predicting the past?

An epithet I've heard often in the past is that economists are simply "good at predicting the past," and in all honesty it doesn't seem like an unfair criticism. Economics is a predictive science, but it appears that economists aren't all that good at prediction. Why is this?

I think there are a number of answers to this. The first is idiology-most economists have a particular viewpoint that they are wedded to, so you don't get a lot of consensus on matters. Think about the current financial crisis...there are leftist economists arguing that the problem lies in the capitalist system and is the result of greedy rich white guys trying to profiteer from the nation's poor. On the right you might hear that it is a problem of misregulation-the necessary checks are in place but for inept bureaucrats, and that the greed isn't the problem, people committed crimes of fraud. And of course I'll tell you that the problem is entirely government created through very loose monetary policy combined with excessive subsidies in the housing market. It's not like any of us are lying-we all think we hold the truth. But it turns out that these explanations are mutually exclusive-only one can be right.

To understand this, and sort of differentiate this from a "harder" science like medicine, think about supply and demand. There is a supply of economics and a demand for economics, just as there is a supply and demand for medicine. On the supply side, you do see that occasionally doctors differ-one patient may see three different doctors about a set of symptoms and get three different diagnoses. And when it is demonstrated that one diagnosis is incorrect, that doctor can (as economists do) easily justify why their diagnosis was wrong but it was still a good diagnosis. For example, a doctor can say that their diagnosis was the best given the evidence presented, however if given another piece of evidence, they would have gotten the right answer. Economists are similar-they can make untrue predictions and blame their not coming to fruition on changing factors in the economy. This is why we always qualify statements with the phrase ceteris parebus; we are confident that if nothing changes our prediction will be right, which gives us the easy out if our prediction does not come to fruition, since something will always change. And of course, if a doctor is always wrong, he will soon lose his income stream, meaning bad doctors will tend to get weeded out by the market. I don't think that matters (at least as much) for economists because of what is happening on the demand side.

On the demand side, we see another phenomenon keeping bad predictions/explanations of the economy going, which is related to the ideology comments above. If you are sick, do what do you want? A doctor to tell you that you have disease "x" and treat disease "x" or a doctor to tell you what disease you actually have and treat that? Most people who go to a doctor simply want a correct diagnosis. It is true that there are exceptions to this, but I think that this is far less prevalent in medicine than it is in economics. If a labor union asks an economist to write a report on John Howard's Industrial Relations law reforms, and that economist writes either that they are great or that the government didn't go far enough in deregulating labour markets, what is the union going to do? Post it on their website and trumpet the benefits of free markets? Or find another economist who will argue that the IR laws will put worker rights back 50 years? I think that they will do the latter 100% of the time. Economics is unique in that the demanders of our services want us to tell them what they already "know."

Another key difference between economics and the "hard" sciences is the combination of the incredible complexity of the economy and its rapid rate of change. Yes, the physical universe is extremely complex-and yet the laws that govern the physical are immutable. The human body is incredibly complex, but human evolution occurs at a snail's pace-a drug that had a 70% success rate at curing disease "x" when it was discovered/invented in 1900 probably has the same likelihood of curing that disease today. It will probably be equally efficaceous in 3000, as would it have been in 1000 had they known about it. Sure, from time to time a new deadly disease will pop up, but for every avian influenza there are hundreds of thousands of new technologies, laws, regulations, financial/business innovations that have a huge change on the economic landscape. Every quarter in the US, there are about 7-9 million jobs that are destroyed as a result of these changes, and another 7-9 million new jobs that are created as well. I believe (and I could be wrong about this) that the rate of change in the forces that affect the economy dwarfs those of the physical world.

What drives this I think is the difference betweens the subjects of analysis in economics (and the other social sciences) and the subjects of analysis in the hard sciences. What does a white blood cell do? As a non-doctor, I may be way off here, but my understanding is that they are in your arteries and veins attacking everything that shouldn't be there. But they are not making decisions on the margin. To personify them a bit, it is as if they are hard coded to swim around in a certain way and have a list of what should be there. If they encounter an object, they check
their list to see if it should be there. If it should, they leave it alone. If not, they go Chuck Norris on it. They follow rules, never making decisions, because they are not sentient. Humans, on the other hand, are. They have the ability to choose the rules they follow, modify them if they aren't working, or be entrepreneurial and make a whole new set. If those new rules are good, they get rich. And it turns out that these rules are very private-sometimes even the people choosing them or inventing them don't know what they are exactly. It is very hard to make accurate predictions when there are no rules that we know every person will follow-however we can look at what has happened, attempt to figure out what rules were being followed, and in so doing, predict the past. Does this mean that economists have nothing to offer? If I thought that I'd have to quit my job, so I must think that we have more to offer than just being historians (not that there is anything wrong with being historian, mind you). Some things are unpredictable-new technologies, for instance. But it turns out that entrepreneurial action is quite rare, and most people roughly follow the same sets of rules most of the time. So while we can't predict WHAT will change all the time, we can predict what will happen-that is what ELSE will change-as a result. We can predict changes on the margin pretty well, we predict inframarginal changes rather poorly. And that is something.

Economic Psychobabble

The New York Magazine is concerned about Kindle:

The ultimate fear is that the Kindle could be a Trojan horse. Right now, Amazon is making little or nothing on Kindle books. Lay down your $359 and you can get most books for $9.99. Publishers list that same Kindle version for about $17.99, though, and—as with all retailers—charge Amazon roughly half that price for it. Which means that Amazon keeps only a dollar on each book, while the publishers make $9.

But Amazon may be offering a sweet deal now in order to undercut publishers later. If their low, low prices succeed in making e-books the dominant medium, they can pay publishers whatever they want. “The concern is they want to corner the market,” explains one books executive, and then force publishers to accept a genuine 50 percent discount. “If they took over as little as 10 to 20 percent of the market,” says an agent, “publishers simply would not be able to exist.”

Seriously, this "fear" is completely asinine. Let's assume, just for the moment, that Amazon is successful in making the e-book the dominant medium. Do you really think that no other company will realize this movement is going on, create their own Kindle-esque product, and compete with Amazon? Of course not...Borders or Barnes and Noble or Apple will have one long before Amazon can use their market power to "exploit" publishers. And what this competition will do is force the e-book makers to offer publishers higher prices for their products--if Amazon tries to tell a publisher that they will only pay them (say) $5 for a book, Apple will come along and offer $7, and the publisher won't sell to Amazon.

Publishing houses have absolutely nothing to worry about with regards to e-books--in fact, they should relish the e-book and embrace it.

Rent Seeking and Baby Strollers

On July 1, a new law went into effect in Australia mandating certain mandatory consumer safety standards on perambulators and strollers in Australia. Here is the writeup in The Age, and the full ACCC writeup can be found here.

In a nutshell, the new law states that any stroller or pram sold in Australia must have a safety label warning against not using the brake and of leaving strollers unattended, a red parking brake (many companies had been using other colors, and the goal is to make them more noticeable), and a safety tether (aka jogging strap). This is ostensibly in response to a pair of accidents in recent years where parents failed to apply the parking brake while the stroller was on a hill, leading to the stroller rolling away uncontrollably into a body of water and resulting in the drowning death of the babies in the strollers.

These deaths are tragic, no doubt, and are certainly avoidable. And the new requirements are likely trivial in cost. If the stroller design is already one of a molded plastic brake, changing the color of the molded plastic is probably costless. For those that use a metal bar braking mechanism, the cost of painting, powder coating, or anodizing (depending on the metal involved) what is essentially a 2 foot long tube is likely to be trivial. And a safety tether is simply a 2 to 3 foot long nylon strap. All in all, these new features are likely to amount to little more than a couple dollars in additional costs for any given stroller. In spite of this, these regulations are misguided for a number of reasons.

The first point to be made is that the mere presence of these safety features does not necessarily mandate their use. I have a stroller with a safety tether, I rarely use it. Indeed, I'm fairly certain that an "after-market" tether can be bought at most baby stores for just a few dollars, and I doubt that most people buy them at that trivial price. I have had strollers with red brakes, blue brakes, and silver metallic brakes, and have been knowledgeable of where each of them are and how to use them (aside--if the goal is to make the brakes noticeable, shouldn't the regulation be for yellow brakes, which is after all is the color in the visible spectrum that is most noticeable to the human eye?). The upshot of all this is that one would not expect to see any significant improvement in how people operate with their strollers.

More importantly, however, are the relatively hidden costs that arise when one considers the application of this standard. Hidden in the 16 page product safety guide is the following statement:

All suppliers of children’s prams and strollers (including second hand prams and strollers) are responsible for ensuring their prams and strollers meet the mandatory safety standard.

This has two very big, very inefficient effects. The first is that any stroller not meeting these standards cannot be resold and must be discarded once a family's children can no longer use them. Strollers, however, are durable goods and are quite likely to still be of considerable value once a child grows out of it. All of this value is being discarded by the new law. The second big effect is of restricting competition in the stroller market. Because strollers are consumer durables, the ability of retailers to charge extremely high prices for strollers is limited by the competition of not only other retailers (of which there are only a few in most areas of Australia), but also of the second hand market. This law has the effect of almost completely destroying, at least for the next few years, the second hand market, eliminating a huge part of their competition.

Is it any wonder, then, that the Infant and Nursery Product Association of Australia is saying that "the industry supports this initiative?" Imagine if a law was passed that said that it was illegal to sell a car built before 2008. How do you suppose Holden and Ford would feel? It's sad that the ACCC, the Australian Competition and Consumer Commission, has such little grasp of the notion of competition.

Bootleggers and Baptists

This BBC News article reminded me of Bruce Yandle's "Bootleggers and Baptists" theory, which is basically about the use of high-minded rhetoric to push an agenda to simply increase one's economic clout. Unless, of course, you really believe that a research institute funded by the Australian government showing that eating kangaroo instead of beef is truly only looking out for the environment.

Anti-Speculation Bill: Stabilizing or Destabilizing.

The US Government's new Anti-oil-speculation bill sure sounds like it will help stabilize oil prices. In actuality, however, this law is more likely to destabilize prices rather than stabilize them, and could ultimately have some very unfortunate unintended consequences.

Prices are not simply the amount of money one needs to part with in order to obtain some good or service. They are also an extremely simple, yet powerful, method of storing and conveying information. Buyers and sellers who have high quality information about the supply or demand of a particular commodity, in particular why that price may be too high or too low, can exploit this information for a profit. In the process of exploiting this information, the information they hold about that commodity becomes embodied in the market price. For example, if I am one of very people who know about an untapped oil reserve, I have high quality information that the price of oil is likely to fall. This means I could make a profit by selling oil futures.

What the new anti-speculation bill means is that people with good information will no longer be able to exploit this information to earn a profit by "speculating" on the oil market. As a result, market prices will no longer fully reflect all available information, and individuals and corporations will be more likely to make bad decisions when those decisions depend on energy prices.

Presumably the government is concerned about speculators pushing the price of oil up further, implying that the bill will lead to market prices being too low. So the likely results of the anti-speculation bill would include consumers buying less fuel efficient cars than they otherwise would, using more oil-based energy than they otherwise would, and other decisions implying an overuse of petroleum based energy sources. Ultimately, this bill will exacerbate the energy problem confronting the US economy because consumers will not face the true costs of the decisions they are making.

The Paradox of Free Trade and the Left.

What caught my eye in this particular WSJ article on McCain's free trade focus is this quote coming out of the Obama camp: "If he wants to highlight trade, he should be doing it here in Ohio and Michigan and the states that are most affected by trade." This reflects the standard, but misguided, view of international trade. We import more things, pushing some people out of jobs, and we see those jobs disappearing. And sure, this hurts those whose jobs are lost. But while the sound bytes reflect only this effect, there are many more effects that will occur, all positive, which actually create more value than is being lost when jobs disappear. Despite the left's close ties with labor, I still find it paradoxical that the left should be so anti-free trade.

The reason these jobs disappear is because Americans are importing goods that were previously produced domestically, and the shift from domestic production to imports happens because the price of the imported goods are lower. Lower prices mean American consumers are able to acquire more goods and services with their incomes than they otherwise would. Walmart has built an empire on the business model of buying inexpensive imports and selling them at dirt cheap prices to working class Americans. And herein lies the paradox. To a political ideology so centered around the plight of the poor, free trade should appear to be a good policy. The poor are able to import products that are less expensive than those produced domestically, thus allowing them to buy more stuff in total.

If they really care about the poor, shouldn't they want more free trade, not less?

Thoughts on Democracy

As I suspected months ago, Mugabe did not go gentle into that dark night. After placing second in the initial run off election, he has been accused of doing everything within his power to ensure victory in the main election, which he has won with nearly 85% of the popular vote. Rightly, most of the western world has rightfully identified this election as being pretty much a sham. The question is why.

It takes a case as extreme as the Zimbabwe election to highlight the difference between democracy as an end and democracy as a means. Properly viewed, democracy is a means. It is a device that countries can use to generate policy outcomes. Generally speaking it is a fairly good means; when elections are fair and transparent, the resultant policies have a strong tendency to be better than those chosen by other means, such as dictatorship or theocracy. This is not to say that democracies cannot generate bad results, or that other means cannot produce good results, but rather that democracy tends to be far more robust. The problem with the Zimbabwe election, then, is that means by which Mugabe was re-elected are not those means that are likely to generate good outcomes, or ends, which are the things that we as individuals or society actually want.

Of course this all seems rather obvious. But I think one of the major flaws in modern civil society is that, in cases not nearly as extreme as the Zimbabwe election, democracy is viewed as the end itself. Most people seem to have the general notion in the back of their minds that there is some inherent justice in outcomes produced by the democratic process. That is, because democratic processes generally lead to good policies, any policy chosen is inherently good. And if a policy is obviously bad (i.e. the Mugabe re-election), that policy must necessarily be the result of something other than democracy. There are obviously logical fallacies here (the appeal to probability and no true Scotsman fallacies are the ones that spring immediately to mind), but the result is that democracy becomes the end. Society could use a little more Churchill, who famously said that "democracy is the worst form of government except all those other forms that have been tried from time to time." Just because it is better than everything else doesn't make it perfect.

Please, Keep Your Money?

As free traders appear to be winning the argument over trade v.
protectionism, I think that the protectionism of the future will look a lot more like this case, where the Australian Government has put the kibosh on Chinese mining firm Sinosteel's attempt to acquire a large portion of Australian Murchison Metals. I would imagine that, to the non-economist, there would not seem to be much similarity between restricting trade in goods and services and restricting corporate ownership. I would argue that the two are one and the same.

Why would one firm buy another one? The standard intuition is that the purchaser believes he can make a greater profit than the current owner can make, and the current owner will only sell if he is offered more than he believes he can earn in profit. How can the purchasing firm take the exact same set of resources and generate more profit? By having a better plan, or a better business model, or better corporate structure. So in the case of allowing a foreign firm to take over a domestic one, we should simply view this the domestic country importing a better plan or a better model, which is good for their economy. Increased profits will generally lead to some combination of increased output, lower consumer prices, and/or higher wages for workers in the firm.

So what is the upshot of all this? We should treat foreign investment in the exact same way as we treat international trade, meaning the less restrictions on it the better.

Warden's Recommendation

Interesting tidbit here, John McCain's "warden" at the Hanoi Hilton has endorsed his candidacy for president. I was quite amused by the last line, where the jailer disputes McCain's accusations of torture, saying "He lies to American voters in order to get their support for his presidential election.”

Just on the one issue? I think it was Orwell who told us that "politics ... is a mass of lies, evasions, folly, hatred and schizophrenia."

Tobacco Villification Has Reached a New Level of Absurdity

The Netherlands government has passed a new law banning smoking indoors. I suppose that, by now, smokers are used to these sorts of laws. But this one has an interesting twist: marijuana smoke is exempt from this legislation! Now, I'm not one to argue for restrictions to be placed on either drug...but this law really drives home the notion society has gone beyond protecting the health of second hand smokers to a simple all-out war on tobacco, never mind the costs and benefits.

Boumediene

I'm amazed that people are faulting the Supreme Court's decision in the Boumediene case...how can you fault forcing the executive be able to demonstrate to someone (other than itself!) that somebody might in fact be an enemy combatant?

Alcopop Tax Folly Redux

About a month ago, I predicted that the alcopop tax would simply lead to a substitution away from premixed drinks into other alcoholic beverages. Looks like I was right. This article in the Sydney Morning Herald cites a recent industry study, finding that while alcopop sales dropped 38% as a result of the tax, the sale of 700ml bottles of spirits rose by 21%. And the industry is speculating that when one factors in other alcoholic beverages, total alcohol sales may have actually risen in the past month!

Like a Deer in Headlights

One element of the US slowdown that has been overlooked (at least I don't recall seeing it mentioned before) in the media thus far is the election--not in terms of how elected officials plan on fixing it (which is talked about), but rather, how the election itself might affect the economy. As of right now, US residents have no idea as to who will be in office in 2009, be it the neo-populist Hillary Clinton, the enigmatic John McCain, or the New Deal inspired Barack Obama. As of last night, the Iowa Electronic Markets have the Democrats trading at .513 and the Republicans at .473, pretty much a dead heat. And while Obama is currently well ahead of Clinton in terms of the Democratic nomination, it is only very recently that Hillary has fallen well behind.

The upshot of all of this is that the participants in the market are pretty much clueless as to who will win the election, and as a result, as to what direction the new leader will attempt to push the economy. Add to this the fact that the economy is one of the most salient issues in the US right now, along with the traditional "100 day honeymoon" where new presidents are pretty much given what they want in terms of policies, and you will expect to see some significant change in the American economic landscape come January-April 2009.

So maybe we should ask a different question. Is the US economy faltering? Or is it just a deer in the headlights of an 18-wheeler sized election barreling down on it, frozen due to the unpredictability the outcome? If so, we might see an economic recovery start as we get closer to the election--not because of Bush's silly stimulus package, but rather because the likelihood of each possible election outcome will become a lot more clear at that time!

Alcopop Tax Folly

The Australian Government's new Alcopop Tax Hike, in addition to being an unfortunate attempt at paternalism, suffers from an even greater shortcoming: failure to understand what economists call the substitution effect. It is fairly obvious that increasing the tax on the alcohol content of premixed drinks by 70% will reduce the consumption of these drinks, but the Rudd Government doesn't seem to have asked the question of where these consumers will now choose to spend their money. I'm pretty sure the answer is not bubble gum and soda pop. I'm willing to bet that we simply see a substitution away from premixed drinks into hard liquor, beer, or wine, and I'd be surprised if this substitution wasn't pretty much on a 1-for-1 basis.

Butter Crisis in Japan

This article from The Age was recently brought to my attention, with the attendant question of "if free markets are so good, why can't they get butter in Japan?" The article argues that it is a result of supply and demand. Supply and demand shocks in an unfettered market might lead to shortages in the very short run, but these shortages would cause prices to rise. As prices rise, domestic producers would be expected to increase output and foreign producers would export more butter to Japan. While it is true that the short run elasticity of supply is very inelastic, the price should simply rise to the point where supply equals demand. In other words, after an initial shortage of short duration, rising prices would lure more butter to Japan. Sure, prices would be higher. But there would still be butter on the shelf. Supply and demand shocks alone cannot account for this long lasting shortage. The question remains, then, what is to blame?

I will address this question by starting with a bit of history. In 2006, commentators on Japanese markets noted a large reduction in dairy demand, including butter. Accordingly, dairy prices fell dramatically, and domestic suppliers left the dairy industry. A large proportion of the Japanese dairy cows were slaughtered, leaving the domestic dairy industry incapable of increasing output in response to the recent increase in demand. However, as stated above, this shouldn't lead to a drastic shortage, as imports should enter the Japanese economy to meet the surging demand. Something else must be interfering with the market's ability to respond, and as it turns out, that something else is the Japanese government's protectionist trade policy.

Japan has set a tariff on butter at a rate of 30%, plus 1,159Y per kilogram. Evaluated at the current world butter price of approximately 350Y per kilogram, this implies an import price of around 1,600Y, an effective tariff of nearly 450%. Add on various shipping costs and retailer markups, one would expect the price of butter on the shelves at Japanese supermarkets to hit prices around 2,000Y per kilogram, which is roughly $20 per kilo (or $9 per pound). These are high prices to be sure, but even this high tariff wouldn't be expected to cause shortages.

The key to understanding the butter crisis comes toward the end of the article:

Last week, as the prices of wheat and barley continued their relentless climb, the Japanese Government discovered it had exhausted its ¥230 billion ($A2.37 billion) budget for the grains with two months remaining. It was forced to call on an emergency ¥55 billion reserve to ensure it could continue feeding the nation.

In addition to the hefty tariffs, the Japanese government has an additional layer of protectionism called the ALIC (Agriculture and Livestock Industries Corporation). The ALIC, a government agency, has exclusive importing rights to butter. It is illegal for any corporation other than ALIC to import butter. And the ALIC is a government agency, with a government budget, which effectively limits the amount of butter they can afford to import. The stiff tariff, combined with the ALIC's monopoly status and limited budget, add up to a highly prohibitive quota system. In a market with highly inelastic (perhaps perfectly inelastic, due to livestock import restrictions) domestic supply, the result is widespread and pervasive shortages.

Office Hours Poetry

Here is what I have posted on my office doors in lieu of office hours:

Office Hour Poetry

Office Hours (a Haiku)

No I will not tell
You what is on the exam
So don’t freaking ask!

Office Hours (a Sonnet)

Professor, Professor, open your door,
The syllabus says that you’re here ‘til four!
I know you are there, I saw you before!
I’ll just be a minute, that and no more!

Please open the door, I’ll be quick, you’ll see!
I just have one question, or two, or three
A small query on the economy
Just a minute or two, and you’ll be free!

He’d heard this before, this story of woe,
The student wants just a minute or so
Sometimes it’s just a quick little hello
The professor bought it once, long, long ago

But now he’s no longer quite so naive
He knows that, once they come, they’ll never leave!

Ode to Office Hours

Office hours, how do I love thee? Let me count the ways.

(this space left intentionally blank)

Communist victory in Cyprus

In an election result that surprised me, the
Communist Party has won the election for president in Cyprus. What does this mean? I think it depends on just how quickly the reunification of the island happens, and the extent to which the Communist Party honors their pre-election promise to give the right-wing party control over the economy. If the reunification takes up a considerable portion of the new regime's energy and drags out for a long time, I doubt the Communists will spend much time on domestic reform. If, however, the reunification happens quickly, and they decide to get their hands dirty in Communist reform, then I fear the reunified Cyprus will wind up looking a lot more like the north part of the island (GDP per capita around $7,000US) than the south (GDP per capita around $22,000US).

Inflation in Zimbabwe

100,000%? Can that be right? Personally, I'm betting the official figures are actually too low, but who knows. I sincerely hope he gets voted out of office next month. I just worry that he won't leave...

Did the Dead Vote Too?

I'm not sure how we all missed this, but Cyprus just had their Presidential primary elections. The current president from the left-centre party, Tassos Papadopoulos, has been eliminated by the Communist party candidate Demetris Christophias and right wing candidate Ioannis Kassoulides. The big issue in Cypriot politics is reunification of the island, as the northeastern portion is controlled by Turkey.

But the most interesting thing about the article is this statement: "Cypriots living abroad, in Britain and Greece, were flown home on specially-chartered planes to take part in the vote." To me, it doesn't really seem like this is good for democracy. It's already expected to be a close election (the primary was decided by under 800 votes--that's not very many flights!), and it appears that whoever has the most money to charter the most planes might in fact tip the balance. Sure, I know that in the US the parties hire buses to shuttle people to and from polling places, but something about chartering planes to fly people in for an election seems to go way beyond that.

But maybe that's just me.

Thank God for Government Hospitals

From BBC News:

A fully-equipped hospital that lay unused for two years has burned to the ground in northern Nigeria.

"The General Hospital in Maiduguri was built in 2006 but
the state government refused to open it until the president came to cut
the ribbon. The president was due to visit the hospital next month to open it...

Borno was recently hit by a measles outbreak that killed hundreds of children [and] existing hospitals in Borno are poorly equipped and overcrowded. Angry residents ... gathered around the burned hospital and shouted abuse at the alleged arsonists, local papers reported..."

--snip--

One question: It's understandable why they are mad at the arsonists, but why not be mad at the government? It seems to me that the politicians willing to let hundreds of people die (And in all likelihood it is probably way more than just the hundreds from the measles outbreak) in order to satisfy their demand for political grandstanding is the real problem here.

Stimulate This!

I previously blogged about the Bush Stimulus package, and it looks like a stimulus bill has just passed by a considerable margin. I just wanted to add a few comments to my initial points:

• Government induced economic stimulus can not work when the government is attempting to stimulate the economy through increased government spending, as this simply represents a future tax burden.
  
• Government induced economic stimulus is meaningless if they are simply offering temporary benefits and tax reductions--at best you can hope to push the problems of today into the future.
• Real economic stimulus occurs by permanently relaxing government intervention into the market.
  

How to "solve" the Howard Inflation

Seems like that is all that is in the news. Today, for example, Federal Treasurer Wayne Swan is using the Howard Inflation to attempt to reduce tax cuts. This follows his declaration of war on inflation. There is a lot of finger pointing going on, and Wayne Swan's answer is to return to the "dinosaur" Keynesian macroeconomic policy that everybody in the world realized was crap about 30 years ago. But, if Swan is accurate in identifying the underlying cause of the inflation, then the solution is simple--free trade!

He is implicitly describing inflation as being of the demand-push flavour (this is a bit dated, but the first paragraph sums it up on the demand-push issue). While I am not a fan of Keynes, that seems to be the framework Swan wants to use, so let's take a look. Demand-push simply means that aggregate demand is growing faster than aggregate supply. People want more stuff, markets aren't able to produce that stuff as quickly as people want to buy it, which causes them to compete the prices up. Why this is happening doesn't really matter. Swan, like any Labour politician, will blame things like lack of training and infrastructure and things of the like. But the standard Keynesian is to assume that aggregate supply takes quite a while change. Which certainly makes sense in the case of one-economy world.

But we don't live in a one-economy world. We live in Australia, replete with tariffs and import quotas and trade barriers galore. Get rid of those, and I promise you that aggregate supply will have no problem keeping up with aggregate demand.

And what if I don't like either choice?

I spoke earlier of the changes in the works at the ABC. Today, they have announced a number of changes in the services they will have on offer, including adding another channel and increasing the variety of programmes on offer. This sounds nice. After all, any free market economist will tell you that choice is good! However, markets work not just by offering you choices, but by rewarding producers who offer good choices and punishing producers who offer crappy choices, because after all, producing another option for you to choose among entails a cost. It's not the addition of more choices that drives markets to efficiency, it's the market process of entrepreneurs identifying an unmet demand that they can provide at a profit that drives markets to efficiency.

Sure, it's entirely possible that the new programming offered by the ABC could potentially earn a profit, and thus be efficient. It could be that there is an unmet demand for televised Australian ballet and opera, and the ABC is the entrepreneur that the market needs to provide this content. Or it could be that it simply is not worth the cost. My money is on the latter, and that we'll see the subsidy to the ABC rise as a result.

Centralizing the Federal Budget

At first glance, centralizing the Federal Government's technology budget seems like a good idea. After all, it follows the best practice of private industry, where firms typically rely upon procurement departments for purchasing. In so doing, firms are able to save money by streamlining purchasing processes, leveraging their position as volume purchasers to negotiate lower input prices, and take advantage of economies of specialization. This all sounds good, but I remain very skeptical of Finance Minister Lindsay Tanner's plan. Not only is it the case that what is true of firms is not necessarily true of governments, but this plan also has the ability to have a huge effect on the balance of power in Canberra.

Firms seek to cost minimize because any reduction in cost is translated directly into profit for the owners. But the profit motive that drives private procurement departments is conspicuously absent in governments. Assuming there are cost savings, then, where do they go? The obvious analogue to owners in this situation is taxpayers. If the reduction in spending was returned to taxpayers in the form of a reduced tax burden, great, that is the best outcome possible. But this overlooks an important element of human action--if you want people to engage in certain types of behaviour, you need to make sure their payoff from that behaviour is higher than if they did anything else...in this context, the question we should ask is what incentive does the Finance department have to engage in the effort required to reduce costs, when the fruits of their labour go to the taxpayer, not them? The answer is very little. The same could be said about the second best case of using the reduction in costs to fund other government projects, like education or roads or something. Unless the Finance department sees a big chunk of the cash, they are not going to do it efficiently. If this goes forward, I see two likely outcomes. Note that they are not mutually exclusive.

The first outcome is that we might see a "second best" type solution which involves significant gold plating on the part of the Finance department. Gold plating occurs when a firm or agency is limited in the amount of profit they can earn (for example, the Finance department cannot earn a profit!). This limitation obviously reduces the incentives to increase revenues and reduce costs, since the only reason they might want to expend the effort to do these things is if they can get some private benefit from those revenue increases/cost reductions. And the way to do that in this situation is through overcapitalization (on-the-job consumption). For example, say your government agency is operating efficiently with $3m in revenues but $2m in costs. You can either return $1m to the federal government at the end of the year (and get nothing out of it), or spend the extra $1m on overcapitalization (things like computer upgrades or extra workers, that add capacity that you will not need or use) or on-the-job consumption (hiring limos instead of taxis, flying first class, and hiring former playboy playmates who can't read, let alone type, as personal assistants). This, in turn, increases your costs to $3m. On the whole, this gold plating equilibrium would be more efficient than the current system. Not necessarily by much, but the benefit is there. Cost savings will be made, but most of them will be passed on to Lindsay Tanner, not the taxpayer.

The second outcome, which I think to be far more concerning, is that this change would generate a great deal of "gatekeeper" type power to the Finance department. That is to say, the Finance department, and the Finance Minister himself (Lindsay Tanner), would have oversight power over the workings of all of the various cabinet agencies. After all, these rules would "enable the Department of Finance to withhold funds until certain milestones used by agencies to justify projects have been met." And in general, adding individuals with gatekeeper power is bad news.

Really, this plan is just a power play by Lindsay Tanner. He is using the guise of adopting best practices as exist in the corporate world to consolidate power for himself and his agency.

Spygate

Arlen Specter is at it again, this time trying to use Spygate as a means to attack the NFL's anti-trust exemption. What one has to do with the other is beyond me, and it's fairly apparent that spygate is being used as yet another excuse for Specter to try and cosy up to Comcast, the cable company based in Specter's home state of Pennsylvania (and, completely coincidentally, a major contributor to Specter's previous campaigns). Despite the sham of a facade, it is worth considering to what extent the NFL should, or should not, be allowed to retain their anti-trust exemption.

Specter, in the past, has been primarily concerned with the sale of television rights (as opposed to, say, the claims of Maurice Clarett, who petitioned that the anti-trust exemption as it relates to the draft be overturned). Specter is arguing that the negotiation of television rights should be done on a team-by-team basis, rather than have the league negotiate a league-wide television package. One supposed benefit of this would be to allow regional stations to acquire rights to local games, giving local fans the ability to watch more games with their local team than otherwise.

In principle, this seems to make a lot of sense...this would benefit the fans as they could watch their local teams more often, and would force the teams to be more competitive, and surely anything that increases competition is a good thing? In the case of professional sports, I'm not so sure, because I'm pretty sure that the teams are not the products being sold, but rather the game itself is the product.

Suppose Specter's plan were initiated. One would expect to see big market teams, such as the Giants, Patriots, Bears, Redskins, and Cowboys, sign far more lucrative contracts with television stations than the Chiefs, Browns, Bengals, Bills, and Oilers. This would likely lead to greater income disparity between the teams than currently exist (Thought experiment: how much of the NFL's $24 billion contract is paying for the right to air Patriots games, and how much is for the rights to air Bengals game? Scrapping the anti-trust exemption would mean each team earns their marginal product, not equal shares of the total contract), harming the small market teams at the expense of the large market teams. This is neither good nor bad--being in a "good" market as opposed to a "bad" market is little more than a rent, and will be more or less directly capitalized into the value/price of the team. Sure, the Patriots might win more games than the Chiefs, and make more money than the Chiefs, but when somebody moves to buy the Patriots, they will have to pay more for the higher stream of profit that the Patriots bring in. In the end, owning the Patriots should be just as valuable as owning the Chiefs.

What other effects might this plan have? Well the first, and most obvious, is that we'd expect to see the playing field become a little less "level." Again, ex ante there isn't much to say about this. Big market teams win more often, but at the same time their owners pay more for their teams, so it would seem to be a wash. However, if externalities exist between teams, then the story becomes more complicated. As it turns out, there appear to be significant externalities present. Teams get more fans for games against good teams, fans would generally prefer to watch a close game than a blowout, and so forth. The Patriots, it turns out, are worth more to Robert Kraft if the Chiefs are good than if the Chiefs are bad. There are many ways to deal with the issues of externalities. One method is regulation, which Arlen Specter wishes to do. A generally more efficient means is internalization, which is exactly what the NFL league structure is doing. All of the teams, small and big market alike, are worth more if these bilateral positive externalities can be internalized.

This, in turn, should change the way we perceive professional sports. What appears to be teams competing against each other are in fact two firms engaged in the joint production of a single product. Which, in my mind, makes Arlen Specter's "competition" based argument have more holes than the Minnesota Vikings' secondary.

Coincidence? I think not!

Last week, we learned that housing prices in Melbourne rose by 25% in 2007. This week, the Victorian government is planning on raising property taxes, particularly on those individuals whose property rose in value the most.

Who didn't see that coming?

How big is too big?

When it comes to the government, anyhow, the answer seems to be that most of the developed world is experiencing economic sclerosis as a result of having a bloated government.

While I generally agree with the conclusions (and am not that surprised to see that the data show government size to be hampering economic growth), it is worth looking at some of the implications of the econometrics in more detail:

• The authors find that a 1% increase in government spending leads to a .13% reduction in economic growth. However, when they include spending squared, they find that there is at most a weakly significant effect. There are good reasons to believe that the relationship between government size and growth is nonlinear, and I'm guessing they just didn't find the right non-linearity. Nonetheless, the nonlinearity they are finding would seem to imply that reductions in government size would be less effective in stimulating growth in countries with big governments than in countries with small governments. This is not good news for those of us who are in favour of small government, as cuts in government spending will have their smallest effect in the economies that need the cuts the most! The authors only briefly mention this point in a footnote.
  
• It is very easy to look at the regression results and calculate things like "the optimal size of government is 0," or "the most inefficient size of government is 76% of GDP," or "maximal government is just as efficient as 52% of GDP," or other such interesting claims. However, all of these claims would be made out of sample, and are thus invalid. The results hold for government sizes between (roughly) 18% and 67% of GDP, but not outside those bounds. This may be a no-brainer for people with economic training, but I don't think bad statistics are generally generated for economists' consumption.
  
• One of the results that struck me as odd was where the authors examined the components of government revenue and their effect on growth. They argue that direct taxes have little effect on growth, while indirect taxes and social contributions have a negative effect. I'm not sure why this might be the case, and I sincerely doubt that the prevalence of loopholes in income tax code or the relative difficulty in evading indirect taxes relative to direct taxes holds the answer. I think the answer lies in misinterpreting the regression coefficients. Say you can raise revenue in one of 4 ways: direct taxes, indirect taxes, social contributions, and "other" (e.g. inflation, revenue from sales, plundering neighbouring states, etc) If the government wants to raise one dollar, it has to do it one of those 4 ways. This means that, for each country, the percentage of income coming from each of these 4 sources sums to 100%. This is important, because that means in order to run a regression you must omit one of the variables (in this case it is "other"), but this necessarily implies that the coefficients of the 3 reported revenue sources are to be interpreted relative to the missing variable, not on their own. So direct taxes are no worse than "other," and are not as bad as indirect taxes or social contributions, but we can't say they have no effect. In other words, you need to treat it like a dummy variable!
• On the same issue, the problem may also lie in the fact that the authors don't appear to control for government size in those regressions (note: they might in fact control for it, I just don't see it). It seems plausible that governments would increasingly rely upon revenues from indirect taxes and social contributions as they grow larger. In other words, governments can only tax income up to a certain point, and if they want more income, they need to tax something else. This would imply that the result is not in fact causation, but rather correlation. Basically, increased government size leads to using indirect taxes and contributions more as well as reduced growth. This makes it look like indirect taxes and social contributions slow growth down if you don't control for it.
  

HT: Thoughts on Freedom

Speaking Ill of the Dead

Despite the federal govenment's difficulty in issuing an apology to the Stolen Generation, they seem to have no problems offering their condolences to the people of Indonesia over the death of former dictator Suharto. This, of course, is a man who was extremely corrupt, purged nearly one million dissenters, and was responsible for the human rights violations in East Timor, arguably one of the worst genocides since the Holocaust. What of these atrocities? Well, Kevin Rudd described these as "controversial." Alexander Downer described Suharto's human rights record as "less than desirable."

My initial thoughts on these comments was that I was rather unimpressed by the lack of conviction our leaders had for such a despicable character. Granted, in a few weeks they will likely change their tune (As far as I remember, Pinochet got a similar treatment) . But it did get me thinking...when is it OK to speak ill of the recently deceased? Somehow I doubt that Hitler's treatment of the Jews in 1945 was described as "controversial," and I sure don't remember anybody in the west describing Saddam Hussein's treatment of the Kurds as being "less than desirable." True, most of the west was at war with these men when they died, but I'd guess the same is true of such figures as Idi Amin, Pol Pot, Joseph Stalin, or Slobodan Milosevic. Yet at the same time, historical figures like Mao Ze Dong or Che Guevara seem to have, to some extent anyhow, been forgiven for their transgressions.

There are a number of rulers alive today that history will likely remember as cruel despots. Fidel Castro has killed thousands of political opponents, and imprisoned tens of thousands more. Little is known of the civil rights existing within Kim Jong Il's North Korea, but I suspect there is quite a bit of information suppression going on there. Robert Mugabe is widely regarded as a generally not-nice guy. And I can see Hugo Chavez regime travelling down an even uglier path any day now. Perhaps I'm being overly morbid, but I wonder who history will forgive and who history will celebrate?

The $800,000,000 squiggle

The Australian Broadcasting Corporation has just announced that they are revamping their logo. I'm glad they issued a press release because I might never have noticed, regardless of what the new logo ultimately will be. The simple fact is that I almost never watch the ABC or the ABC2. I think in the past year my wife and I combined to watch one episode of Summer Heights High. Yet how much do I pay for it? According to their financials, the ABC lost around $800M last year (which the government chipped in to make up the difference), which makes my household bill at least $80, and probably much more. So for the pleasure of watching the ABC, I pay approximately $80 per hour. Meanwhile, I've never paid a dime to Seven, Nine, or Ten, and yet get a lot more viewing pleasure out of those channels.

There is very little justification for the government to provide goods and services that a market would provide anyhow, and markets have absolutely no problems providing the goods the ABC provides (radio, television, and internet programming). Moreover, the evidence is that the ABC does what they do rather poorly, routinely getting about half the viewership of the "big-three" channels. In the modern world, the only reason why the government should own any media outlets is that they want to be able to engage in thought control, like the third world military rulers and middle eastern theocratic dictators who control the press for that very reason.

Privatize the ABC. Not only would you save the taxpayers some money, but whoever takes over the ABC couldn't help but improve the programming, giving consumers a better variety of programs for their enjoyment

Bush's Stimulus Package

So, the venerable G W Bush has decided to launch a stimulus package to fix the U.S. economy. Anything to take the focus off of the debacle that is Iraq, I suppose. But seriously, the fact that the stimulus package is news (as opposed to the fact that Bush thinks it will work) is really an indictment of just how little the public understands of economics. First things first, the notion of economic stimulus through Keynesian mechanisms is asinine. Here's an analogy. You owe your bookie $1,000, payable today. You have that $1,000 in your pocket. Your bookie calls you and says he won't come pick that money up today, but instead will pick it up in a week. Do you spend that $1,000 now and work your butt off over the next week to get another $1,000 to pay him off, or just hold onto the original $1,000 until the bookie comes to pick it up? Bush thinks you'll choose door number 1. Most economists think you'll take door number 2. They may call it "Ricardian equivalence" or the "permanent income hypothesis," but really it simply boils down to the fact that normal people aren't going to go nuts and drop twenty large on random goods when you push the collection date of their (tax) debt into the future.

However, let's put all the foregoing to the side for a moment. Let's say you do think this sort of economic stimulus will work. You really should be irate at Bush for waiting until now to do it! If Bush just has to wave his magic wand to make the economy perform better, why is he waiting until now? Why not do it when the economy is going along just fine, so that it will perform even better? Surely if you can turn a (say) 0.5% growth rate into a 1.5% growth rate, the same economic policy will turn a 2% growth rate into a 3% growth rate. In other words, if the government can do better than markets when markets are down, why can't they do it when markets are up? Also, in a completely unrelated question, why is government size generally inversely correlated with government growth?

Oh, hey, I do know the answer to this. Markets rarely perform poorly. And when they do, we really shouldn't call the government to fix it, because the poor performance is likely attributable to the government messing something up.