Category: Economics

BetUS.com figures the odds are 20-1 that someone will get trampled
while scrambling to snag one June 29.  The site has also put odds on how
long the batteries will last and whether the devices will be recalled.

Here is the source, and thanks to John De Palma for the pointer.  There are many other odds at the link, spontaneous combustion of the phone is listed at 150-1.

It’s coming from Basel.

The May 2007 Quarterly Journal of Economics offers up a fun piece on the marginal product of capital, earlier version here.  The bottom line is startling, though it requires only a simple model:

Whether or not the marginal product of capital (MPK) differs across countries is a question that keeps coming up in discussions of comparative economic development and patterns of capital flows.  Attempts to provide an empirical answer to this question have so far been mostly indirect and based on heroic assumptions.  The first contribution of this paper is to present new estimates of the cross-country dispersion of marginal products.  We find that the MPK is much higher on average in poor countries.  However, the financial rate of return from investing in physical capital is not much higher in poor countries, so heterogeneity in MPKs is not principally due to financial market frictions.  Instead, the main culprit is the relatively high cost of investment goods in developing countries.  One implication of our findings is that increased aid flows to developing countries will not significantly increase these countries’ incomes.

The rough equality of MPKs [correction: financial rates of return] means that capital can flow to where it is most productive.  That means if a country receives some aid, and converts that aid into useful capital goods, less capital flows into your country.  A version of neutrality holds.  Of course there is no reason to focus on aid in this argument.  Most one-off improvements (or destructions) wash out in the longer run, due to subsequent adjustments in the capital stock.  The one-off improvements matter only if liquidity and credit imperfections hinder the international mobility of capital; such imperfections would mean that transfers could bring about a permanently higher level of capital.

No, I’m not ready to "press the yes button" on this model (should I be?), but it is a good example of how open economy considerations can overturn our expectations, or how easily economics can generate a counterintuitive conclusion.  You also may have noticed Borjas and Rodrik using a version of this model lately, attempting a Brad DeLong Smackdown.  I am suspicious.  It’s not a model they believe in, or if they do I am waiting for Borjas to stop warning us about capital destruction costs more generally… 

It’s just as important to give US consumers access to cheap foreign goods as it is to make real GDP bigger.

That’s Bob Hall, here is the explanation, try this too.

I usually forget to sign the back of my credit cards.  Or, with one of my cards — the one I use most frequently — the signature rubs off quickly.  Every now and then the card will be rejected because it doesn’t have my signature on it.  Or they will require ID.

I then offer to sign the card, but they never accept this possibility.  Hrrmph.

Could not a thief have signed a previously unsigned card before using it?  In fact I would expect precisely that behavior from a thief.  Wouldn’t a thief take more care to sign than would a lazy, careless card holder?  Upon seeing the unsigned credit card, their estimate of my honesty should go up not down (well, that’s not quite a stable equilibrium…).

I have wondered why it ever makes sense for cards to be signed.  If you sign a card and it is stolen, can they not forge your signature more rather than less easily?  (Imagine signing into one of those signature-reading machines.)  And if merchants were more rational, maybe the signature would carry no positive value in the first place.

Here’s today’s Op-Ed by Pat Toomey, praising private equity.  I am tracking down sources on this topic and will pass along what I learn.

I do now trust at least one result: public firms will buy up targets without much discretion, but private equity has been making acquisition decisions in a more rational fashion:

We find that the announcement gain to target shareholders from acquisitions is significantly lower if a private firm instead of a public firm makes the acquisition.  Non-operating firms like private equity funds make the majority of private bidder acquisitions.  On average, target shareholders receive 55% more if a public firm instead of a private equity fund makes the acquisition.  There is no evidence that the difference in premiums is driven by observable differences in targets.  We find that target shareholder gains depend critically on the managerial ownership of the bidder.  In particular, there is no difference in target shareholder gains between acquisitions made by public bidders with high managerial ownership and by private bidders.  Such evidence suggests that the differences in managerial incentives between private and public firms have an important impact on target shareholder gains from acquisitions and managers of firms with diffuse ownership may pay too much for acquisitions.

Here is the paper.

Lex, a loyal MR reader, asks:

My understanding of Ricardo’s theory of rents is that they are based on the least productive land used.  Shouldn’t rent be based on the most productive land not used?  Is that merely a semantic difference?

Ricardian rent theory is strange. Let’s say you have three pieces of land, yielding 3, 5, and 10. Rent will be 7, or 10-3, with apologies to Samuel Hollander. The marginal piece of land, the one yielding three, is allocated to wages and profit from capital.  (You can treat profits as an afterthought in this model.) The rest goes to landowners.

Why might that distribution result?  In the Ricardian model you can (and do) augment labor through Malthusian breeding.  So labor doesn’t have much bargaining power in the long run.  Any move in favor of wage labor creates more people and lowers the wage of labor to the return on the marginal unit of land.  If you have some extra land, even if it isn’t incredibly productive, you can always breed more people to cultivate that marginal unit.  So the value of the least valuable piece of land in essence sets the wage.

Land is inelastic in supply, and thus the landowners reap the rest of what is produced.  We can also see that the last plot of land used (and not the marginal piece of land not used) determines rent and wages, because it is the actually used piece of land which regulates population and the return to labor.

That is my quick and dirty take on Ricardo, noting that "what Ricardo really meant" became a cottage industry about one hundred and ninety years ago…

1. Read here.  Angus is (or should be?) making economic growth a central topic of that blog.

2. *How* to overcome bias, sort of.

3. Racial mismatch.

4. New incentives at BestBuy (via Kottke), let me tell you they need them.

Mullainathan worked with a bank in South Africa that wanted to make more loans. A neoclassical economist would have offered simple counsel: lower the interest rate, and people will borrow more. Instead, the bank chose to investigate some contextual factors in the process of making its offer. It mailed letters to 70,000 previous borrowers saying, “Congratulations! You’re eligible for a special interest rate on a new loan.” But the interest rate was randomized on the letters: some got a low rate, others a high one. “It was done like a randomized clinical trial of a drug,” Mullainathan explains.

The bank also randomized several aspects of the letter. In one corner there was a photo—varied by gender and race—of a bank employee. Different types of tables, some simple, others complex, showed examples of loans. Some letters offered a chance to win a cell phone in a lottery if the customer came in to inquire about a loan. Some had deadlines. Randomizing these elements allowed Mullainathan to evaluate the effect of psychological factors as opposed to the things that economists care about—i.e., interest rates—and to quantify their effect on response in basis points.

“What we found stunned me,” he says. “We found that any one of these things had an effect equal to one to five percentage points of interest! A woman’s photo instead of a man’s increased demand among men by as much as dropping the interest rate five points! These things are not small. And this is very much an economic problem. We are talking about big loans here; customers would end up with monthly loan payments of around 10 percent of their annual income. You’d think that if you really needed the money enough to pay this interest rate, you’re not going to be affected by a photo. The photo, cell phone lottery, simple or complicated table, and deadline all had effects on loan applications comparable to interest. Interest rate may not even be the third most important factor. As an economist, even when you think psychology is important, you don’t think it’s this important. And changing interest rates is expensive, but these psychological elements cost nothing.”

Mullainathan is helping design programs in developing countries, doing things like getting farmers to adopt better feed for cows to increase their milk production by as much as 50 percent. Back in the United States, behavioral economics might be able to raise compliance rates of diabetes patients, who don’t always take prescribed drugs, he says. Poor families are often deterred from applying to colleges for financial aid because the forms are too complicated. “An economist would say, ‘With $50,000 at stake, the forms can’t be the obstacle,’” he says. “But they can.” (A traditional explanation would say that the payoff clearly outweighs the cost in time and effort, so people won’t be deterred by complex forms.)

Thanks to a reader — his name mistakenly deleted from my email — for the pointer.

"How did your bake sale go?" I asked my 8-year old son. 
"Great."
"How much did you sell the chocolates for?"
"I’m not sure."
"You’re not sure?  Why not?"
"Well, I kept raising the price"
"Really?  How come?"
"Dad," he replied with exasperation, "supply and demand."

While he is willing to attribute some of the rising wage inequality of
the 1980s to trade with developing countries, the timing of the
increase in profits since 2000 does not seem to fit very neatly with
any globalization-related story.

That is from Dani Rodrik.  Mark Thoma offers related material.  Brad DeLong makes excellent points in one of his best posts.

His rentable herd of 270 Boer and Spanish goats has never been more in demand.

They are excellent at devouring unwanted foliage.  Thanks to Cris Sullivan for the pointer.

I am awaiting details but this proposal from John Edwards is not entirely crazy.

Mr. Edwards said he wanted to discourage pharmaceutical companies from
obtaining long-term patents on medicines for specific ailments like
Alzheimer’s and cancer. Instead, an upfront cash prize would be made
available to serve as an incentive for research on such drugs.

I worry, however, that the prizes will be far too small.  Since the social value of breakthrough medicines greatly exceeds the private profit, prizes of tens of billions of dollars would not be unreasonable.  In fact, optimal prizes must increase the profits of US drug companies.  Can a Democrat like Edwards sell that?  And who will decide how the prizes are handed out?  Can the US government award billions of dollars in prizes without significant rent seeking?

Partly for these reasons, I would much prefer a patent buyout as suggested by Michael Kremer (Kremer’s paper can also be found in Entrepreneurial Economics.)  Let’s at least have a few experiments to buyout say 5 years of the time remaining on some important patents.

Do keep in mind that the problem of expensive drugs is overblown – a typical new drug will go off patent in 12 years anyway.  The real issue is how best to increase the incentive to develop new and important pharmaceuticals.