Social security update

President Bush has taken special care to tell us that his social security plans will involve no new "payroll taxes" [does this mean "no new taxes"?].  Nor, supposedly, will the plan to cut the deficit be derailed.  What then will happen?  The Wall Street Journal (December 10, p.A5) writes:

While Mr. Bush has been silent, some administration officials privately acknowledge his idea is that workers who open private accounts would agree to take a smaller share of Social Security benefits.

Cryptic, yes.  Does it simply mean that putting money into a private account lowers your participation in standard old age benefits?  That, taken alone, wouldn’t ease the transition costs at all, given the pay as you go nature of the system.  Or does it mean that you pay a transfer tax on the switch to private accounts?  How much could our government raise by auctioning off the right to leave the system?  [Probably not full value, but government can reap some equity-based returns up front, without having to own the equities in the longer run.]  Of course if the transfer tax is high enough, there is not much "privatization" at all but rather we stick with the status quo.  Stay tuned…

Rock, paper, scissors — no longer just a game

The rules are simple: Two players count "1…2…3…Go!" and then offer up their hand in one of three ways: rock (clenched fist), paper (open, flat hand), or scissors (forefinger and middle finger form a ‘V’).  The winner is decided according to the rules that rock blunts scissors (rock wins), scissors cut paper (scissors win), and paper covers rock (paper wins).  If the weapons are the same, then the game is a tie.

Given the intransitive rankings, a player should try to feign randomness; a predictable strategy is beaten.  Appearing more random than your opponent is in fact the only dimension of competition.  Apparently many find this thrilling or at least humorous:

Rock Paper Scissors is evolving into something else entirely: a genuine, bona fide, almost legitimate sport…
    The World Rock Paper Scissors (RPS) Society – yep, there’s one of those, too – boasts 2,200 members. The winner of this year’s world championship was honored with a parade at Disney World. Simon & Schuster recently published an official strategy guide.
    "I can think of five bars in the Dupont [Circle] area where you can find a money game, $1 to $20," Mr. Simmons says. "It’s the equivalent of pickup basketball."
    Tonight [Friday], Fox Sports Net’s "Best Damn Sports Show Period" will feature an extended segment on October’s world championships, held in Toronto. A British-made RPS documentary film is due in January.

Read this account of gambit strategies; here are gambits in more depth, written by the reigning world champion, Master Roshambollah.  Here are some faking strategies.

Style often corresponds to personality:

Paper is subtle, the choice of intellectual, passive-aggressive types. Scissors are devious, a tool of controlled malice. Rock is between-the-eyes intimidation, preferred by beginners and players who have been backed into a corner.
    "People fall into patterns," Mr. Simmons [also known as Master R] said. "From my personal experience, women tend to open with scissors. There are some other tells I don’t want to go into. But I can see things in the shoulders and the forearm."

Here is the full story.  Here is the world championship web site, which offers T-shirts and books, and of course the exact rules.  Here is the on-line magazine.  Here is an essay on how to coach the game.  The game also has applications in evolutionary biology.

The bottom line: The game is interesting precisely because it is so difficult to be (or appear) random in critical moments.  And being random universally only brings you to the middle of the pack.  On the computational dimension of randomness, read this article.

The new plan for health care reform

Replace the tax deductibility of health insurance for the wealthy and middle class with tax credits for low-income individuals to buy health insurance.

Andrew Samwick explains here and here, try this excerpt:

Who benefits from this deductibility [of insurance]? …the average family with $100,000 or more in income receives a benefit of $2,780. Compare this to an average benefit of $1,231 for a family with $30,000 – $39,999 in income. Because tax rates are higher at higher income levels, and those with higher incomes are more likely to have coverage, the benefit goes up with income…

The portion of this disparity that is due to the progressivity of the tax system is ridiculous. Subject it all to tax, and take some portion of the $100 – $200 billion saved and use it to provide refundable tax credits to purchase health insurance, whether through an employer or an individual policy. The credits should phase out at higher income levels. 

Brad DeLong signs on as well.  R. Glenn Hubbard and co-authors endorse a related but not identical idea in Wednesday’s Wall Street Journal.

The core rationale is simple.  Employers would substitute toward plans where beneficiaries care about costs at the margin.  At the same time, the uninsured would have a greater chance of receiving coverage.

My take:  Whether I press the "yes" button depends on what we compare it to.  It sounds like a good package deal, especially if done in revenue-neutral fashion.  The distributional change is compelling.  It looks less good when broken into constituent parts.

People at the upper end will face higher insurance costs; I suspect at the margin many will be pushed out of group plans into higher-premium private plans.  (I’ve never been convinced that the tax subsidy for insurance, while costly, is the fundamental problem in the health care market.)  Why should we favor this, except as a revenue-raising measure?  On this part of the plan I vote "no."

What about the newly created benefits at the lower end of the income distribution?  Well, I can think of many worse ways for the government to spend its money.  But for me the proposal is neither a first nor a second best.

Many of the uninsured are linked to recent immigration.  But if we are willing to spend money in this fashion (I am), I would rather spend the money taking in more immigrants.  That helps the people who need it most and brings significant health benefits to many, including the recipients of remittances.  (Admittedly emergency room budgets will take a whacking.)  I also would prefer a more targeted program to address the behavioral obstacles that keep many of the poor, insured or not, from seeking preventive care.  So on this second part of the plan I vote "maybe."  It is not my favored way of spending government money, though it is an above-average way of spending the money.

Nobody has a really good health care plan.  This idea remains in the running, and might make sense as a "best politically feasible package plan."  But it is not my first or second best choice, and as a blogger I will demand license to dream.

The future of the DVD?

Mark Cuban is on the move:

Cuban and Wagner plan to buck the Hollywood system of releasing movies over many months, through separate windows for theaters, pay-per-view, DVD, and broadcast TV. Instead, Cuban said, they intend to attempt "day-and-date releases," in which their films premiere simultaneously on Landmark screens, HDNet, and DVD. "We think it’s a way of maximizing our revenues, controlling marketing costs, and adding value to our brands," he said. "And we don’t think giving people alternatives to going to the theater will hurt us at the box office. It’s just like with the Mavericks: We still sell out the games even though they’re on free TV."

Even more heretical is Cuban’s opinion of DVDs, which is that they suck — or, at least, that they’re inferior to hard drives as a medium for storing digital content. "Why would we invest in DVD," he asked, "knowing that hard drives are going to grow in capacity, shrink in size and price, and can also be erased and rewritten?" He imagines selling HD movies stored on key-chain drives — or putting multiple films on larger drives, "like software used to be packaged on PCs." Moreover, he added, "with ever-expanding storage, we can increase picture quality for years to come by taking advantage of new cameras and better compression schemes. With DVDs, we can’t."

Cuban’s bottom line?

"We’re on the brink of a war for the living room between the PC and electronics companies," he said. "And the thing we know about death wars like that is that the consumer always wins."

Here is the full story.  I’ll jump on board when a hard drive crash occurs less than every five years; I’ve never had a TV break on me.  Right now for me "convergence" would be a nightmare.  Simpler is better, it is the time constraints that bind, and all the rest is about giving me something I don’t (yet?) want.

Addendum: Here is a good short article on where the DVD is headed.

The earthquake that is Germany

…the Berliner Symphoniker, the smallest of the city’s eight official orchestras, is looking to start anew — as Germany’s first [sic] private orchestra.

Here is the full story.  Here is a previous installment on German earthquakes, here is another.  It is amazing how slowly Germany is moving in the right direction.

And here is a short piece on a strategy for revitalizing musical non-profits, podcasting is the suggested solution.

Me-Too Three

Today I tie up some loose ends (here is post 1 and post 2 in the series) beginning with an argument in favor of me-too drugs that I do not like and then moving on to an attack on Marcia Angell’s book The Truth About Drug Companies.

Many people argue that price competition is a benefit of me-too drugs.  But recall the point I made yesterday, me-too policy is patent policy.  If you think lower prices are a good idea then you really think that weaker patents are a good idea.  Indeed, as far as price competition is concerned the ultimate me-too drug is a generic so the logic suggests we should get rid of patents.  For obvious reasons, that is not a good idea.  (Our current policy is actually quite good – strong patents for about 12-15 years of effective life followed by very sharp price competition from generics.   Note that since profits are discounted the future competition doesn’t reduce R&D very much.)

I dislike Marcia Angell’s The Truth About Drug Companies not because of her conclusions but because it isn’t serious research.  She has lots of citations to newspapers, for example, but not a single citation to Frank Lichtenberg the premier researcher on the value of new drugs.  (I don’t agree with everything in Jerry Avorn’s Powerful Medicines, and he doesn’t cite Lichtenberg either, but I learned something from his book.  If you are interested in these issues I recommend it highly.)

Concerning me-too drugs, on page 90 Angell says "there is little evidence to support the notion that…if one drug causes side effects, another one won’t."  That’s odd because on page 81 when discussing the me-too statin’s (Zocor, Lipitor, Pravachol etc.) she notes "Bayer’s Baycol had to be removed from the market because, at the approved dose, it caused a deadly side effect."  Hmmm.  Similarly, early tests suggest that Celebrex may not have the same side-effects as Vioxx, despite the fact that both are Cox-2 inhibitors.

Angell is also skeptical that me-too drugs can have different effects in different people.  Frankly, I was shocked at this argument. Every clinical trial that has ever been run demonstrates that the same drugs have different effects in different people – it’s hardly a surprise that different drugs have different effects.  And me-toos are different – different enough not to violate the patent on the innovator drug almost certainly means different enough to have different effects in some people.  My local supermarket carries at least a dozen different styles of peanut butter, a fact of which I approve, but Angell thinks two angiotensin-converting-enzyme (ACE) inhibitors may be one too many (p.90).  Give me a break. 

Finally, it’s important to recognize that small changes can actually make for important improvements.  What could be more me-too than a once-a-day pill replacing a twice-a-day pill?  Yet, to dismiss this change is to overlook the people factor.  A once-a-day regime that people stick to is much better than a twice-a-day regime that people fail to follow.  Forget the chemical structure the economics says a drug that people actually take is a better drug. 

What are the best Christmas gifts?

Here is my post from last year:

Experiences, not possessions. Concerts and travel are remembered for
longer than clothes and jewelry. The result is robust to different ages
and groups, but tends to be strongest for high-income individuals.

See the above link for references and more information.  I was reminded of this post by scrolling through John Palmer’s new economics (and miscellany) blog, The Econoclast.  Here is the web site for John’s group, the Philistine Liberation Organization.  Here is John’s list of economics-related websites.

Mirror, mirror on the wall

The reason Hillary Clinton and others on the left want government provided health care is that they hate the market.  The left isn’t sincerely concerned about people without health insurance they are worried that market forces will solve the problem and take away one of their wedge issues.  The left knows that free market health care is the wellspring of  progress to which we all owe longer and better lives and that is precisely why they want to destroy it.

Who wrote the above?  A loony blogger from the right?  A red-state, meat-eating Republican?  No, it was Paul Krugman.  Ok, he didn’t write that exactly, what he said was:

…very little about the privatizers’ position is honest. They come to bury Social
Security, not to save it. They aren’t sincerely concerned about the possibility
that the system will someday fail; they’re disturbed by the system’s historic
success. For Social Security is a government program that works, a demonstration
that a modest amount of taxing and spending can make people’s lives better and
more secure. And that’s why the right wants to destroy it.

Bile to the left of me, bile to the right.  My stomach churns, but at least this junk makes me look like a centrist.

Cowen and DeLong on what makes for a good Treasury Secretary

Econoblog returns, courtesy of The Wall Street Journal, and again no subscription required.  Brad DeLong and I discuss what makes for a good Treasury Secretary, how John Snow will fare, and our current fiscal position.

What I would like to see (I am not sure whether WSJ is the appropriate forum) is a comparable yet longer dialogue on areas of major political and economic disagreement.  One contributor starts with a post on why he thinks he disagreees with the other, in the most general terms, and the other responds.  To how many or how few dimensions can we reduce extant political disagreements?  When it concerns Brad and me, I will predict that the number is four: assumptions about feasibility/willingness to be utopian, the scope of cosmopolitan obligations across borders (I don’t count Americans for more), how likely is benevolent government (not very), and the choice of social discount rate (I think it should be low, implying growth-maximizing policies at the expense of some social spending).  You might recall this earlier exchange.

Soft landing or economic Armageddon?

Stephen Roach comes around to a more optimistic point of view

The constructive developments should not be minimized.  The recent plunge in oil prices is nothing short of stunning — 13% alone, for WTI quotes in the first three trading days of December.  I have no idea if this move is sustainable, but it has opened up a $7.50 gap from the $50 threshold that I have long felt would pose great risks to the global economy.  Moreover, the dollar’s weakness — despite the angst of the headline writers — fits the rebalancing script to a tee.  While euro and yen cross-rates are raising discomfort levels in Frankfurt and Tokyo, the dollar’s descent still looks like a well-managed soft landing to me.  In real terms, the Federal Reserve’s broad trade-weighted dollar index is down 15% from Febryary 2002 through November 2004 — a pace that equates to a decline of about 5% per year.  That’s a measured and encouraging adjustment path — provided, of course, the burden of currency realignment now spreads from Europe to Asia, including China. 

Furthermore the Chinese economy appears to be slowing in the appropriate, non-implosive fashion.  Roach’s bottom line?    

Even I have to concede that a number of positives have fallen into place recently.  I am on record of assigning a 40% probability to a global recession scenario in 2005…However, given recent favorable shifts in oil, the dollar, and China, I now believe that it is appropriate to reduce this risk to 25%.   

Note, however, that in his view (and mine) the U.S. still remains on a dangerous consumption binge when for demographic reasons more saving would be in order.  In my view the big problem lies in the long run, not the short run.  Now asset markets have a remarkable ability to compress long run problems into the here and now.  But how will this play out?  Most likely U.S. taxes in twenty or thirty years time will be much higher than today. Yes this will depress current asset prices but it should not, on its own, imply a current implosion or crash. Here is my previous post on economic Armageddon.

One more reason why New Zealand is not a growth dynamo

An interview-based correlation of financial satisfaction with overall life satisfaction lists 31 countries.  Tanzania has the highest correlation, by far, coming very close to 0.7 on the bar graph.  In other words, the wealthy Tanzanians report the strongest satisfaction with their lives.  Next is Korea, Bahrain, Jordan, Kenya and Greece, roughly clustered in the 0.4 to 0.5 range.  The U.S. comes in at about 0.4, which is high for the wealthy countries in the sample.

Where is the correlation by far the weakest?  New Zealand does not even make it past a correlation of 0.1. 

I can think of at least three reasons why this correlation might be so low:

1. New Zealanders don’t think you need to be rich to be happy.

2. New Zealanders sense their economy isn’t going anywhere, and so rationalize their forthcoming failure by pretending they will be happy anyway.

3. New Zealanders find it uncouth to admit that money makes you happy.

None of these views bodes well for a country’s commercial dynamism.

Here is my earlier post on why Kiwi growth has been slow. 

See the January 2005 Scientific American, p.90, drawing on the research and E. Diener and M. Diener.

Me-Too Two

Yesterday I introduced the gold-mine model.  Today, I want to look at some solutions but also ask whether the model fits the pharmaceutical market.

Recall, the problem is that I discover a gold-mine, you undermine my profits by digging on nearby land.  Society loses because instead of searching for another gold-mine you spend resources trying to exploit what has already been discovered.  Applied to me-too drugs the idea is that firm A innovates and earns big profits, firms B,C,D try to imitate and grab some of the profits rather than search for innovations of their own. 

In the gold-mine model one solution is to give the miner who first makes the discovery the mining rights on all nearby land.  The miner won’t exploit these rights but will prevent others from wasting resources through undermining.  How does this apply to me-too drugs?  Critics of the pharmaceutical
industry will probably be upset to find that the analogous solution is to grant stronger patent rights.  In particular, the problem with me-too drugs is companies investing resources in R&D that will end up producing a drug with similar effects through somewhat different means.  If patent rights were broader then the costs of undermining would be higher and the me-too problem reduced.

Thus, me-too policy is patent policy and now we begin to see why the problem is complex.  Broader patents, for example, have costs as well as benefits.  Selden’s auto patent, for example, was originally held to be so broad that it almost finished Henry Ford.  (For more examples see my paper Patent Theory versus Patent Law (email me if you can’t get access) or the new book Innovation and Its Discontents.)

Moreover, we have been assuming that the innovating firm strikes gold and then other firms rush onto nearby land.  But that’s not the way most pharmaceutical innovation works.  More often, there is some basic research, often done in a university lab, which suggests a possible drug target or mechanism.  The research is public knowledge so a number of pharmaceutical firms begin the long slog of trying to turn an idea into a drug.  Think of the original research as a prospector shouting "there’s gold in them thar hills," – the firms then rush into the hills to start researching/digging.  One of them may strike gold first but the others are close behind.

The key point is that the R&D used to develop the me-too drugs was not spent to undermine the innovator it was spent in an effort to become the innovator.  Think about it this way.  Ten people are in a race to deliver a letter.  Critics of me-too drugs complain that the runner coming in second is wasting society’s

Now it is possible to have too many firms racing to be the innovator – perhaps we should only have 8 firms in the race not 10.  But critics of me-too drugs don’t argue that there is too much R&D, which at least would be consistent, they argue that there is too little. 

Although it is possible to have too much R&D, I find the argument especially difficult to believe in the pharmaceutical industry.  First, even in the best scenario the returns to the innovating firm are less than the social returns so "too much" R&D may simply make up for this defect.  Second, there are many positive externalities to drug research.  A substantial fraction of the increase in life expectancy over the past thirty years has been due to pharmaceuticals and the value of this reduction in mortality is in the trillions.  Third, research indicates that the R&D efforts of different firms is in fact complementary – when you drain your mine of water my costs of mining fall.   

Tomorrow I will wrap up with some final comments, Why me-too for you may not be me-too for me.

Me-Too Drugs

At Tyler’s prompting I will have several posts this week on me-too drugs.  It’s a difficult area but one that I have been thinking about.  Why are me-too drugs bad, even though competition is ordinarily good?  The reason is that when an industry is characterized by market power and price exceeds marginal cost the private returns to innovation may exceed the social returns.

Here’s a simple model.  I own a profitable gold mine.  You buy some land nearby and begin to dig but instead of finding your own gold you tunnel underneath my land and steal my gold – you undermine my profits.   Now this may be very profitable to you but as far as society is concerned your digging is wasted effort.  You expended resources not to increase production but simply to transfer profit from me to you.  The prospect of stealing my gold attracts too much entry (and the threat of this may in turn cause me to invest less in the first place).

A patent on a blockbuster drug is like a gold mine.  Me-too drugs undermine the profit from the blockbuster.  The R&D that goes into the me-toos is thus a social waste.

The gold-mine problem is the economic case against me-too drugs.

The gold-mine model leads to some surprising insights.  Me-too drugs are bad because resources are used to undermine someone else’s profits.  But a firm won’t undermine it’s own profits.  Thus, a firm’s own "me-too" drugs are not an example of the gold-mine problem.

AstraZeneca introduced Nexium just as their drug Prilosec was going off patent.  Nexium is very similar to Prilosec and for almost all patients it offers few additional benefits – it is widely cited as a me-too drug.  The Nexium problem, however, is quite different from the gold-mine problem.  The Nexium problem is, Why do people buy the expensive brand when the cheap generic would be just as good?  The Nexium problem is that customers think, or act is if they think, that Nexium is not a me-too drug. 

In contrast, in the statin market there is Zocor, Lipitor, Pravachol, Lescol and Crestor.  Even if consumers thought these drugs were me-toos, each of them would still have a market.  Here the problem is, or appears to be, the gold-mine problem.

Solutions to the Nexium problem, such as better informed patients or getting consumers to pay a larger share of their drug purchases, do not necessarily solve the gold-mine problem.    

In a future post, I will look at some solutions to the gold-mine problem.  I will also look more closely at whether the pharmaceutical market fits the assumptions of the model.