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?