Results for “zero marginal product” 119 found
Are unions the saviors of workers?
Every now and then I write a deliberately obvious column, in part because the relevant points are not obvious to everybody. Here is one excerpt:
The brief for unions starts with the possibility of higher wages: Union workers enjoy a wage premium of 10% to 20% (although many of these estimates are dated, and globalization may have made the premium much lower, in some cases close to zero). Unions may also give workers a more effective medium for airing their workplace grievances, and may help them coordinate better services with their employers.
The more skeptical view of unions accepts the logic of these arguments, but questions the size of the associated benefits. The union wage premium is good for the workers that receive it, of course, but it also leads to higher prices. Other workers in turn pay those higher prices. So the net return to all workers is smaller than the wage premium would suggest.
It’s not that labor costs and retail prices move exactly in tandem. If labor costs rise by 12% but labor is a small part of the marginal cost of the product, prices may rise by much less than 12%. But if labor is only a small part of the cost, then unions are less likely to be involved. The more important the role of workers, the more likely that union wage hikes will be translated into retail price hikes.
Workers as a whole still may benefit from unions if the burden of the higher prices falls largely on the wealthy. That may be the case for fancy diamonds or expensive restaurants, but historically unions have been more common in industries that provide goods and services for the middle class, for instance automobiles…
Nonetheless it is plausible that higher union wages do harm some non-union workers, by lowering demand in the long run for labor in unionized sectors. It’s also worth noting that management tends to be hostile to unions, and part of the reason may be that unionization will lead to lower profits. And lower profits will eventually mean lower investment…
Even taking all these factors into account, it is still possible that unions benefit workers overall. But only by a modest degree. It would not be a reason to make unionization a top priority, or to put unions at the center of a theory of what makes workers better off.
Recommended for some, not all.
Will Our Military State Fail Us? II
A few years ago I reported on how the US repeatedly loses to China in war games (no indent):
David Ignatius writing in the Washington Post:
“Context is that which is scarce”
A number of you have been asking me about this maxim, so here is some background on what it means:
1. Ever try to persuade another person? Let’s say it is even of an uncontested idea such as supply and demand. You might “final exam them into admitting that the demand curve slopes downward.” But still, if they do not understand enough of the uses of supply and demand thinking, they will find it hard to think in terms of supply and demand themselves. They will not have the background context to understand the import of the idea.
2. Why did economists for so long stick with cost of production theories of value, rather than adopting the marginal revolution? They didn’t see or understand all the possibilities that would open up from bringing the marginal calculus to microeconomics, and then later to empirical work. Given the context they had, which was for performing simple comparative statics experiments on developing economies, the cost of production theory seemed good enough.
3. One correspondent from a successful company wrote me:
“- I’ve been onboarding ~5 people every two weeks for my team.
– The number of them that actually learn all the important stuff in under a month is zero. The number of them that have a self-guided strategy to learn what is relevant is almost zero.
– Remember these are people with fancy college degrees, that passed a hard interview, and are getting paid $X00k!
– I’m now spending entire days writing / maintaining an FAQ, producing diagrams, and having meetings with them to answer their questions.”
4. Ever wonder about the vast universe of critically acclaimed aesthetic masterworks, most of which you do not really fathom? If you dismiss them, and mistrust the critics, odds are that you are wrong and they are right. You do not have the context to appreciate those works. That is fine, but no reason to dismiss that which you do not understand. The better you understand context, the more likely you will see how easily you can be missing out on it.
5. I use “modern art” or “contemporary art” (both bad terms, by the way) as good benchmarks for whether a person understands “context is that which is scarce.” “Contemporary classical music” too (another bad terms, but you know what I mean). If a person is convinced that those are absurd enterprises, that is a good litmus test for that person not understanding the import of context. You may not prefer things to be this way, but in many cultural areas appreciation of the outputs demands more and more context (Adam Smith called this division of labor, by the way).
6. If you think a great deal of things are “downstream from culture and ideas,” as I do, you also have to think they are downstream of context.
7. Many attributions of bad motives to people, or attributions of conspiracy, spring from a lack of understanding of context. It is easy enough for someone to seem like he or she is “operating in bad faith.” But usually a deeper and better understanding is available.
8. Lack of context is often a serious problem on Twitter and other forms of social media, as they may deliberately truncate context. In some parts of our culture, context is growing more scarce. “When I’m Sixty-Four” makes much more sense on Sgt. Pepper than it does on Spotify.
9. So much of education is teaching people context. That is why it is hard, and also why it often does not seem like real learning.
10. When judging people for leadership positions, or for jobs that require strongly synthetic abilities, you should consider how well they are capable of generating an understanding of context across a broad range of domains, including ex nihilo, so to speak. How to test for understanding of context is itself a topic we could consider in more depth.
Addendum: MR, by the way, or at least my contributions to it, is deliberately written to give you less than full context. It is assumed that you are up to speed on the relevant discourse, and are hungering for the latest tidbit on top of where you are currently standing. Conversations with Tyler also are conducted on a “I’m just going to assume you have the relevant context and jump right in” — that is not ideal for many people, or they may like the performance art of it without it furthering their understanding optimally. But it keeps me motivated because for me the process is rarely boring. I figure that is more important than keeping you all happy. It also attracts smarter and better informed readers and listeners, which in turn helps me keep smart and alert. I view my context decisions, in particular the choice to go “minimal upfront context” in so many settings, as essential to my ongoing program of self-education.
Don’t F*ck with Big Sugar
In Modern Principles, Tyler and I analyze the economics and politics of the sugar quota which raises the US price of sugar to about twice the world level. Doug Irwin points us to a revealing passage in John Boehner’s memoir, On the House:
Sugar was never really my fight, but I always thought it was a little silly that the sugar industry has all this power in Washington. But I liked to spend my time on issues I might actually be able to change, and I knew the chances of winning a fight with Big Sugar was basically zero.
At one point in the mid-1990s, I got fed up and decided to yank their chains anyway. I was on the Agricultural Committee and were getting ready to put together the 1996 farm bill. I walked into my office while this was going on and found a sugar lobbyist hanging around, trying to stay close to the action. I felt like being a smart-ass so I made some wise-crack about the sugar industry raping the taxpayers. Without another word, I walked into my private office and shut the door. I had no real plan to go after the sugar people. I was just screwing with the guy.
My phone did not stop ringing for the next five weeks….I had no idea how many people in my district were connected to the sugar industry. People were calling all day, telling me they made pumps or plugs or boxes or some other such part used in sugar production and I was threatening their job. Mayors called to tell me about employers their towns depended on who would be hurt by a sugar downturn. It was the most organize effort I had ever seen.
And that’s why don’t fuck with sugar.
Structural adjustment for thee but not allowed for me
The economy has not bounced back to prepandemic employment levels, even as G.D.P. effectively has.
Some blame unemployment benefits for keeping workers at home, while others claim that it is the virus still holding back customers and therefore employers from adding jobs. Yet there is a third factor that is likely the labor market’s primary challenge: We are undergoing an enormous reallocation of people and jobs. People need time to find their new position in the labor market.
The early hope among policymakers and economists was that the pandemic aid offered to businesses and families would mean that once we recovered from the pandemic, workers would simply return to their old jobs, sending millions back to work each month and closing the employment gap quickly.
The problem is that old jobs are long gone for the vast majority of those who remain unemployed.
That is from Betsey Stevenson (NYT), and I am not taking issue with her arguments. Note that if you look about the debate over 2021 more broadly, pretty much everyone agrees there might be too much AD rather than too little. And yet these matching problems are still around? Hmm….once you are in a mess, supply-side labor adjustment problems just cannot be fixed so easily by nominal demand and nominal demand only. See my earlier recent post on this point, namely that business cycle recoveries tend to look the same on the labor side for supply-side reasons. During recoveries a lot of people just don’t want to go back to work or even look for a job! That was true in the last recession as well, read this paper, or this research. People hate the idea if you call them ZMP, but it’s right there in the numbers…how can someone be MP > 0 if they won’t even show up for an interview?
You might notice, by the way, I am not a huge fan of the NAIRU concept and you won’t see me cite it very often (occasionally it is useful shorthand for a less controversial concept.) The following notion, however, is well-defined: “What the rate of unemployment would be if there were no major negative shocks for a decade and people had seven, eight, or even more years to search for the right job match.” Yes that is indeed a well-defined number, and that number is pretty low. I’m just not sure that is very “natural.” What would John Gray say? The Marquis de Sade?
From the comments, on restaurant labor and UI
Dose Stretching Policies Probably *Reduce* Mutation Risk
One objection to dose-stretching policies, such as delaying the second dose or using half-doses, is that this might increase the risk of mutation. While possible, some immunologists and evolution experts are now arguing that dose-stretching will probably reduce mutation risk which is what Tyler and I concluded. Here’s Tyler:
One counter argument is that letting “half-vaccinated” people walk around will induce additional virus mutations. Florian Kramer raises this issue, as do a number of others.
Maybe, but again I wish to see your expected value calculations. And in doing these calculations, keep the following points in mind:
a. It is hard to find vaccines where there is a recommendation of “must give the second dose within 21 days” — are there any?
b. The 21-day (or 28-day) interval between doses was chosen to accelerate the completion of the trial, not because it has magical medical properties.
c. Way back when people were thrilled at the idea of Covid vaccines with possible 60% efficacy, few if any painted that scenario as a nightmare of mutations and otherwise giant monster swarms.
d. You get feedback along the way, including from the UK: “If it turns out that immunity wanes quickly with 1 dose, switch policies!” It is easy enough to apply serological testing to a control group to learn along the way. Yes I know this means egg on the face for public health types and the regulators.
e. Under the status quo, with basically p = 1 we have seen two mutations — the English and the South African — from currently unvaccinated populations. Those mutations are here, and they are likely to overwhelm U.S. health care systems within two months. That not only increases the need for a speedy response, it also indicates the chance of regular mutations from the currently “totally unvaccinated” population is really quite high and the results are really quite dire! If you are so worried about hypothetical mutations from the “half vaccinated” we do need a numerical, expected value calculation comparing it to something we already know has happened and may happen yet again. When doing your comparison, the hurdle you will have to clear here is very high.
(See my Washington Post piece for similar arguments and additional references.).
Now here are evolutionary theorists, immunologists and viral experts Sarah Cobey, Daniel B. Larremore, Yonatan H. Grad, and Marc Lipsitch in an excellent paper that first reviews the case for first doses first and then addresses the escape argument. They make several interrelated arguments that a one-dose strategy will reduce transmission, reduce prevalence, and reduce severity and that all of these effects reduce mutation risk.
The arguments above suggest that, thanks to at least some effect on transmission from one dose, widespread use of a single dose of mRNA vaccines will likely reduce infection prevalence…
The reduced transmission and lower prevalence have several effects that individually and together tend to reduce the probability that variants with a fitness advantage such as immune escape will arise and spread (Wen, Malani, and Cobey 2020). The first is that with fewer infected hosts, there are fewer opportunities for new mutations to arise—reducing available genetic variation on which selection can act. Although substitutions that reduce antibody binding were documented before vaccine rollout and are thus relatively common, adaptive evolution is facilitated by the appearance of mutations and other rearrangements that increase the fitness benefit of other mutations (Gong, Suchard, and Bloom 2013; N. C. Wu et al. 2013; Starr and Thornton 2016). The global population size of SARS-CoV-2 is enormous, but the space of possible mutations is larger, and lowering prevalence helps constrain this exploration. Other benefits arise when a small fraction of hosts drives most transmission and the effective reproductive number is low. Selection operates less effectively under these conditions: beneficial mutations will more often be lost by chance, and variants with beneficial mutations are less certain to rise to high frequencies in the population (Desai, Fisher, and Murray 2007; Patwa and Wahl 2008; Otto and Whitlock 1997; Desai and Fisher 2007; Kimura 1957). More research is clearly needed to understand the precise impact of vaccination on SARS-CoV-2 evolution, but multiple lines of evidence suggest that vaccination strategies that reduce prevalence would reduce rather than accelerate the rate of adaptation, including antigenic evolution, and thus incidence over the long term.
In evaluating the potential impact of expanded coverage from dose sparing on the transmission of escape variants, it is necessary to compare the alternative scenario, where fewer individuals are vaccinated (but a larger proportion receive two doses) and more people recover from natural infection. Immunity developing during the course of natural infection, and the immune response that inhibits repeat infection, also impose selection pressure. Although natural infection involves immune responses to a broader set of antibody and T cell targets compared to vaccination, antibodies to the spike protein are likely a major component of protection after either kind of exposure (Addetia et al. 2020; Zost et al. 2020; Steffen et al. 2020), and genetic variants that escape polyclonal sera after natural infection have already been identified (Weisblum et al. 2020; Andreano et al. 2020). Studies comparing the effectiveness of past infection and vaccination on protection and transmission are ongoing. If protective immunity, and specifically protection against transmission, from natural infection is weaker than that from one dose of vaccination, the rate of spread of escape variants in individuals with infection-induced immunity could be higher than in those with vaccine-induced immunity. In this case, an additional advantage of increasing coverage through dose sparing might be a reduction in the selective pressure from infection-induced immunity.
…In the simplest terms, the concern that dose-sparing strategies will enhance the spread of immune escape mutants postulates that individuals with a single dose of vaccine are those with the intermediate, “just right” level of immunity, more likely to evolve escape variants than those with zero or two doses (Bieniasz 2021; Saad-Roy et al. 2021)….There is no particular reason to believe this is the case. Strong immune responses arising from past infection or vaccination will clearly inhibit viral replication, preventing infection and thus within-host adaptation…. Past work on influenza has found no evidence of selection for escape variants during infection in vaccinated hosts (Debbink et al. 2017). Instead, evidence suggests that it is immunocompromised hosts with prolonged influenza infections and high viral loads whose viral populations show high diversity and potentially adaptation (Xue et al. 2017, 2018), a phenomenon also seen with SARS-CoV-2 (Choi et al. 2020; Kemp et al. 2020; Ko et al. 2021). It seems likely, given its impact on disease, that vaccination could shorten such infections, and there is limited evidence already that vaccination reduces the amount of virus present in those who do become infected post-vaccination (Levine-Tiefenbrun et al. 2021).
I also very much agree with these more general points:
The pandemic forces difficult choices under scientific uncertainty. There is a risk that appeals to improve the scientific basis of decision-making will inadvertently equate the absence of precise information about a particular scenario with complete ignorance, and thereby dismiss decades of accumulated and relevant scientific knowledge. Concerns about vaccine-induced evolution are often associated with worry about departing from the precise dosing intervals used in clinical trials. Although other intervals were investigated in earlier immunogenicity studies, for mRNA vaccines, these intervals were partly chosen for speed and have not been completely optimized. They are not the only information on immune responses. Indeed, arguments that vaccine efficacy below 95% would be unacceptable under dose sparing of mRNA vaccines imply that campaigns with the other vaccines estimated to have a lower efficacy pose similar problems. Yet few would advocate these vaccines should be withheld in the thick of a pandemic, or roll outs slowed to increase the number of doses that can be given to a smaller group of people. We urge careful consideration of scientific evidence to minimize lives lost.
Fallacies about constraints
I am reading many people claim something like “production and distribution of the vaccine is the constraint, not FDA approval.”
There are multiple mistakes in such a view, and here I wish to focus on the logic of constraints rather than debate the FDA issue.
First, there are vaccines available right now, and it helps some people (and their contacts) to have those distributed sooner rather than later.
Second, easing the FDA constraint encourages the suppliers and distributors to hurry to a greater degree. Just imagine if the FDA were to take a few months longer to approve. The more general point is that citing “x is right now the main constraint right now” does not mean “the elasticity of x is zero.”
“Sure” wrote in the comments:
On the economics side, I am not convinced that production has ramped up as full and as fast as possible. After all there is some risk premium for expanding plants, running constant shifts, etc. and the danger of delayed approval, particularly if you are in some (mostly negligible) way to the other vaccines may not warrant the investment.
After all, approvals appear to move stocks. Do we really think the market is that dumb? If approval has an impact on market value, why exactly would it not also have an impact on the cost of borrowing, expanding, etc.? Surely somebody believes that approval will result in something different will happen than was happening the day before.
Third, “FDA vaccine approval” is a complementary good for the final vaccine service, strongly complementary in fact. If the other complementary infrastructure goods have price/quality combinations that are “too disadvantageous,” the theory of the second best implies that approval processes should be speedier and more lax than you otherwise might have thought. This is just the converse of the classic result that multiple medieval princes imposing multiple tolls on a river create negative externalities for both river users and each other. Lower those tolls wherever you can.
Fourth, let’s say there were three constraints, each absolutely binding at the current margin. Speeding FDA approval, taken alone, would have absolutely no effect. We then ought to be obsessed with identifying and remedying the other two constraints (along with approval)!
But we are not. Instead we keep on citing those (supposed) constraints in defeatist fashion. This absence of obsession with easing constraints is in fact one of the biggest reasons for thinking we can do better. We need to throw more money and talent at these problems, and we are not working hard enough on how to do that. We are just citing the constraints back and forth to each other and pleading helplessness.
As a final note, I recall that my recently deceased colleague Walter E. Williams was especially good on these issues. I recall him once saying he wanted to hire a helicopter to drop a cow into the campus central quad, just to show people that supply has positive elasticity. “I’m going to call them up and say “Williams wants a cow!””
Moo.
Platform Economics in Modern Principles
Why is Facebook free? Why are credit cards less than free? Why do singles bars sometimes have women drink free nights but never men drink free nights? All of these questions are in the domain of platform economics. Platform economics is new. Tirole and Rochet practically invented the field with a seminal paper in 2003–and that paper was one of the reasons Tirole won the Nobel prize in 2014. Despite being new, platform economics deals with goods which are fundamental to the modern economy. Thus, Tyler and I thought that it was incumbent upon us to teach some of the intuition behind platform economics in Modern Principles of Economics. But students have enough new material to learn, so we set ourselves a challenge–explain the intuition of platform economics using principles that the students already know. Surprisingly, platform economics can be taught with just two principles: externalities and elasticities.
In our chapter on externalities we offer the students a puzzle. Why do some firms offer their workers free flu shots? The answer, as memorably illustrated in this video, is that the firm “internalizes the externality.” When one worker gets a flu shot, other workers at the firm are less likely to get sick. In principle, the workers could subsidize one another to achieve the efficient outcome but transactions costs makes that solution impractical (the Coase theorem). The firm, however, is already involved in transactions with all the workers and, as a result, it can subsidize flu shots and reap the benefits of workers taking fewer sick days. How much the firm should subsidize flu shots depends on the elasticity of flu shots with respect to the price and on the elasticity of sick days with respect to vaccinated workers.
Now what does this have to do with Facebook? Well think about seeing ads as a bit like getting a flu shot–seeing ads has a benefit to you but it’s also a bit of a pain so if you had a choice you might not watch that many ads. But advertisers want you to see ads–in other words, Facebook users who see ads create a positive externality for advertisers. The platform firm, Facebook, internalizes this externality and that means subsidizing ad-seeing by selling Facebook at a zero price to readers and instead charging advertisers. As we put it in Modern Principles:
Imagine that Facebook begins with a positive price for both readers and advertisers (PR>0 and PA>0). Readers, however, are likely to be sensitive to the price so a small decrease in price will cause a large increase in readers (very elastic demand). Thus, imagine that Facebook lowers the price to readers and thus increases the number of readers. With more readers, Facebook can charge its advertisers more, so PA increases. Indeed, if the demand for advertisers increases enough, it can even pay Facebook to lower the price to readers to zero! Thus, the key to Facebook’s decision is how many more readers it will get when it lowers the price (the reader elasticity), how much those readers are worth to advertisers (the externality of readers to advertisers) and how high can it increase the price to advertisers (the advertiser elasticity).
More in the textbook!
A Calculation of the Social Returns to Innovation
Benjamin Jones and Larry Summers have an excellent new paper calculating the returns to social innovation.
This paper estimates the social returns to investments in innovation. The disparate spillovers associated with innovation, including imitation, business stealing, and intertemporal spillovers, have made calculations of the social returns difficult. Here we provide an economy-wide calculation that nets out the many spillover margins. We further assess the role of capital investment, diffusion delays, learning-by-doing, productivity mismeasurement, health outcomes, and international spillovers in assessing the average social returns. Overall, our estimates suggest that the social returns are very large. Even under conservative assumptions, innovation efforts produce social benefits that are many multiples of the investment costs.
What was interesting to me is that their methods of calculation are obvious, almost trivial. It can take very clever people to see the obvious. Essentially what they do is take the Solow model seriously. The Solow model says that in equilibrium growth in output per worker comes from productivity growth. Suppose then that productivity growth comes entirely from innovation investment then this leads to a simple expression:
Where g is the growth rate of output per worker (say 1.8% per year), r is the discount rate (say 5%), and x/y is the ratio of innovation investment, x, to GDP, y, (say 2.7%). Plugging the associated numbers in we get a benefit to cost ratio of (.018/.05)/.027=13.3.
To see where the expression comes from suppose we are investing zero in innovation and thus not growing at all. Now imagine we invest in innovation for one year. That one year investment improves economy wide productivity by g% forever (e.g. we learn to rotate our crops). The value of that increase, in proportion to the economy, is thus g/r and the cost is x/y.
Jones and Summers then modify this simply relation to take into account other factors, some of which you have undoubtedly already thought of. Suppose, for example, that innovation must be embodied in capital, a new design for a nuclear power plant, for example, can’t be applied to old nuclear power plants but most be embodied in a new plant which also requires a lot of investment in cement and electronics. Net domestic investment is about 4% of GDP so if all of this is necessary to take advantage of innovation investment (2.7% of gdp), we should increase “required” to 6.7% of GDP which is equivalent to multiplying the above calculation by 0.4 (2/7/6.7). Doing so reduces the benefit to cost ratio to 5.3 which means we still get a very large internal rate of return of 27% per year.
Other factors raise the benefit to cost ratio. Health innovations, for example, don’t necessarily show up in GDP but are extremely valuable. Taking health innovation cost out of x means every other R&D investment must be having a bigger effect on GDP and so raises the ratio. Alternatively, including health innovations in benefits, a tricky calculation since longer life expectancy is valuable in itself and raises the value of GDP, increases the ratio even more. (See also Why are the Prices So Damn High? on this point). International spillovers also increase the value of US innovation spending.
Bottom line is, as Jones and Summers argue, “analyzing the average returns from a wide variety of perspectives suggests that the social returns [to innovation spending] are remarkably high.”
*The Deficit Myth* and Modern Monetary Theory
That is the new book by Stephanie Kelton and the subtitle is Modern Monetary Theory and the Birth of the People’s Economy. Here are a few observations:
1. Much of it is quite unobjectionable and well-known, dating back to the Bullionist debates or earlier yet. Yet regularly it flies off the handle and makes unsupported macroeconomic assertions.
2. Like many of the Austrians, Kelton likes to insist on special terms, such as the government spending “coming first.” You don’t have to say this is wrong, just keep your eye on the ball and don’t let it distract you.
3. “MMT has emphasized that rising interest income can serve as a potential form of fiscal stimulus.” You don’t have to believe in a naive form of Say’s Law, but discussions of demand should start with the notion of production. Then…never reason from an interest rate change! Overall, I sense Kelton has one core model of the macroeconomy, with a whole host of variables held fixed (“well…higher interest rates means printing up more money to pay for them and thus greater stimulus…”), and then applies that model to a whole series of quite general problems and questions.
4. She thinks “demand” simply puts resources to work, and in this sense the book is a nice reductio ad absurdum of the economics one increasingly sees from mainstream writers on Twitter. p.s.: The economy doesn’t have a “speed limit.” And it shouldn’t be modeled using analogies with buckets.
5. We are told that the U.S. “…can’t lose control of its interest rate”, but real and nominal interest rates are not distinguished with care in these discussions. The Fed’s ability to control real rates is fairly limited, though not zero, and those are empirical truths never countered or even confronted in this book.
6. The absence of a nominal budget constraint is confused repeatedly with the absence of a real budget constraint. That is one of the major errors in this book.
7. It still would be very useful if the MMT people would take a mainstream macro model and spell out which assumptions they wish to make different, and then solve for the properties of the new model. There is a reason why they won’t do that.
8. I don’t care what the author says or how canonical she is as a source, a federal jobs guarantee is not part of MMT.
9. Just because the economy is not at absolute full unemployment, it does not mean that free resources are on the table for the taking. Again, in this regard Kelton is a useful reductio on a lot of “Twitter macro.”
10. I am plenty well read in the “money cranks” of earlier times, including Soddy, Foster, Catchings, Kitson, Proudhon, Tucker, and many more. They got a lot of things right, but they also failed to produce coherent macro theories. I would strongly recommend that Kelton undertake a close study of their failings.
11. For all the criticisms of the quantity theory, I would like to know how the MMT people explain the Fed coming pretty close to its inflation rate target for many years in a row, under highly varying conditions, fiscal conditions too.
12. The real grain of truth here is that if monetary policy is otherwise too deflationary, monetizing parts or all of the budget deficit is not only possible, it is desirable. Absolutely, but don’t then let somebody talk loops around you.
You can order the book here.
Social distancing should never be too restrictive
That is the topic of a new paper by Farboodi, Jarosch, and Shimer, published version in here. They favor ” Immediate social distancing that ends only slowly but is not overly restrictive.” Furthermore, they test the model against data from Safegraph and also from Sweden and find that their recommendations do not depend very much on parameter values.
Here is an excerpt from the paper:
…social distancing is never too restrictive. At any point in time, the effective reproduction number for a disease is the expected number of people that an infected person infects. In contrast to the basic reproduction number, it accounts for the current level of social activity and the fraction of people who are susceptible. Importantly, optimal policy keeps the effective reproduction number above the fraction of people who are susceptible,although for a long time only mildly so. That is, social activity is such that, if almost everyone were susceptible to the disease, the disease would grow over time. That means that optimal social activity lets infections grow until the susceptible population is sufficiently small that the number of infected people starts to shrink. As the stock of infected individuals falls,the optimal ratio of the effective reproduction number to the fraction of susceptible people grows until it eventually converges to the basic reproduction number.
To understand why social distancing is never too restrictive, first observe that social activity optimally returns to its pre-pandemic level in the long run, even if a cure is never found. To understand why, suppose to the contrary that social distancing is permanently imposed, suppressing social activity below the first-best (disease-free world) level. That means that a small increase in social activity has a first-order impact on welfare. Of course, there is a cost to increasing social activity: it will lead to an increase in infections. However,since the number of infected people must converge to zero in the long run, by waiting long enough to increase social activity, the number of additional infections can be made arbitrarily small while the benefit from a marginal increase in social activity remains positive.
Recommended, one recurring theme is that people distance a lot of their own accord. That means voluntary self-policing brings many of the benefits of a lockdown. Another lesson is that we should be liberalizing at the margin.
If I have a worry, however, it has to do with the Lucas critique. People make take preliminary warnings very seriously, when they see those warnings are part of a path toward greater strictness. When the same verbal or written message is part of a path toward greater liberalization however…perhaps the momentum and perceived end point really matters?
For the pointer I thank John Alcorn.
The Consequences of Treating Electricity as a Right
In poor countries the price of electricity is low, so low that “utilities lose money on every unit of electricity that they sell.” As a result, rationing and shortages are common. Writing in the JEP, Burgess, Greenstone, Ryan and Sudarshan argue that “these shortfalls arise as a consequence of treating electricity as a right, rather than as a private good.”
How can treating electricity as a right undermine the aim of universal access to reliable electricity? We argue that there are four steps. In step 1, because electricity is seen as a right, subsidies, theft, and nonpayment are widely tolerated. Bills that do not cover costs, unpaid bills, and illegal grid connections become an accepted part of the system. In step 2, electricity utilities—also known as distribution companies—lose money with each unit of electricity sold and in total lose large sums of money. Though governments provide support, at some point, budget constraints start to bind. In step 3, distribution companies have no option but to ration supply by limiting access and restricting hours of supply. In effect, distribution companies try to sell less of their product. In step 4, power supply is no longer governed by market forces. The link between payment and supply has been severed: those evading payment receive the same quality of supply as those who pay in full. The delinking of payment and supply reinforces the view described in step 1 that electricity is a right [and leads to] a low-quality, low-payment equilibrium.
The Burgess et al. analysis coheres with my observations in India where “wire anarchy” is common (see picture). It’s obvious that electricity is being stolen but no one does anything about it because it’s considered a right and a government that did do something about it would be voted out of power.
The stolen electricity means that the utility can’t cover its costs. Government subsidies are rarely enough to satisfy the demand at a zero or low price and so the utility rations.
The consequences for electricity consumers, both rich and poor, are severe. There is only one electricity grid, and it becomes impossible to offer a higher quantity or quality of supply to those consumers who are willing and sometimes even desperate to pay for it.
Moreover,the issue is not poverty per se.
…the vast majority of customers in Bihar expect no penalty from paying a bill late, illegally hooking into the grid, wiring around a meter, or even bribing electricity officials to avoid payment. These attitudes are in stark contrast to how the same consumers view payment for private goods like cellphones. It is debatable whether cellphones are more important than electricity, but in Bihar we find that the poor spend three times more on cellphones than they do on elec-tricity (1.7 versus 0.6 percent of total expenditure).
Burgess et al. frame the issue as “treating electricity as right,” but one can can also understand this equilibrium as arising from low state capacity and corruption, in particular corruption with theft. In corruption with theft the buyer pays say a meter reader to look the other way as they tap into the line and they get a lower price for electricity net of the bribe. Corruption with theft is a strong equilibrium because buyers who do not steal have higher costs and thus are driven out of the market. In addition, corruption with theft unites the buyer and the corrupt meter reader in secrecy, since both are gaining from the transaction. As Shleifer and Vishny note:
This result suggests that the first step to reduce corruption should be to create an accounting system that prevents theft from the government.
Burgess et al. agree noting, “reforms might seek to reduce theft of electricity and nonpayment of bills” and they point to programs in India and Pakistan that allow utilities to cut off entire neighborhoods when bills aren’t paid. Needless to say, such hardball tactics require some level of trust that when the bills are paid the electricity will be provided and at higher levels of quality–this may be easier to do when there are other sources of authority such as trusted religious leaders.
In essence the problem is that the government is too beholden to electricity consumers. If the government could commit to a regime of no or few subsidies, firms would supply electricity and prices would be low and quality high. But if firms do invest in the necessary electricity infrastructure the government will break its promise and exploit the firms for temporary electoral advantage. As a result, the consumers don’t get much electricity. The government faces a time consistency problem. Independent courts would help to bind the government but those often aren’t available in developing countries. Another possibility is a conservative electricity czar who, like a conservativer central banker, doesn’t share the preferences of the government or the voters. Again that requires some independence.
In short, to ensure that everyone has access to high quality electricity the government must credibly commit that electricity is not a right.
How robust are supply chains?
That is the topic of my latest Bloomberg column, here is one excerpt:
Consider the supply chain of the Apple iPhone, which stretches across dozens of companies and several continents. Such complex cross-national supply chains generate relatively high profits, giving them a kind of immunity to small disruptions. If there is an unexpected tax, tariff or exchange movement, the supply chain can generally swallow the costs and move on. Profits will be lower within the supply chain, but production will continue, as it is too lucrative to simply shut everything down.
Do not be deceived, however: Supply chains are not indestructible. If the new costs or risks are high enough, the entire structure will be dismantled. By their nature, supply chains do not fall apart slowly, because each part of the chain relies upon other parts to add its value. It does not help much to have the circuit components of the iPhone lined up, for instance, if you cannot also produce the glass screens. In this way, these supply chains are less robust under extreme conditions.
Global supply chains have yet to come apart mostly because trade and prosperity generally have been rising. But now, for the first time since World War II, the global economy faces the possibility of a true decoupling of many trade connections.
It is not sufficiently well understood how rapid that process could be. A complex international supply chain is fragile precisely for the same reasons it is valuable — namely, it is hard to construct and maintain because it involves so many interdependencies.
The nature of the cross-national supply chain makes it especially vulnerable to shocks coming from the coronavirus. These supply chains do not adapt so well to complete cutoffs in materials or labor, as may happen if Chinese coronavirus casualties continue and workplaces find it hard to operate effectively.
Imagine that closed Chinese factories cannot produce the components of many American medicines. It is not a question of the supply chain simply losing some profits; rather, some critical pieces of the production process are missing. The medicines won’t work without these inputs. The U.S. medical establishment might try to source those components elsewhere, but it isn’t easy for other suppliers to produce enough of them at sufficient scale and quality.
U.S. medical producers might try to bid more for the Chinese medicine components, but if the workers are prohibited from even showing up at the factory, no feasible market clearing price can make this arrangement work. Production just won’t be possible. Fashionable practices of near-zero inventories can make these shortages appear all the more rapidly. About 80% of the active pharmaceutical ingredients in U.S. medicines rely on Chinese or Indian components, so this does represent a very real public health risk for the U.S., even if the coronavirus itself does not.
You will note that when it comes to ex ante planning, companies do not in general internalize the costs of a supply chain cut-off to their customers, since consumer surplus for the infra-marginal buyers exceeds market price. Supply chain are thus too fragile relative to an optimum, though that matters only under very limited circumstances, as we may be seeing right now.
Libra as a medium of exchange
I’ve already outlined the case for how Libra might be able to significantly lower the 7-8% costs and commissions currently charged for making remittances. That would make Libra a widely used means of payment. I am less optimistic, however, about Libra being widely used as a medium of exchange.
Let’s say the core rate of inflation in a country is eight percent, which is about the current rate of price inflation in Myanmar. It is still not the case that an unbanked farmer holds currency for the entire year (he is more likely to buy land or animals as a means of large-scale saving). I am not sure what monetary velocity is for this group of people (readers?), but say currency turns over four times a year on average. That is in essence a two percent tax on currency holdings, not an eight percent tax. I don’t think that individuals will switch monies for such a small gain, noting that decreasing their demand for money (i.e., increasing currency velocity) is another possible response.
If an unbanked farmer is in debt, I would think the velocity of currency would be well over 4x a year (consider monthly microcredit borrowings and repayments), although certainly some MR readers can enlighten us here.
A few decades ago, when inflation was much more common, it was generally believed that people were not very interested in switching monies until inflation rates hit about forty percent. I am not sure if that same number would hold today, but of course that is pretty high. Furthermore, the countries with the highest inflation rates, such as Venezuela, can be impossible to do business in.
Don’t forget that Libras are specified as paying zero nominal interest throughout.
You might think that Libras have some advantages over current e-monies and smart phone banking systems. It is hard to make that judgment for a product which does not exist yet, but it is unlikely those advantages will run close to the range of seven to eight percent.
For those reasons I am more optimistic about Libra as a means of payment — most of all for remittances — than as a general medium of exchange.
And Slocum chimes in:
Here is the link to the comments.