Posts
CD sales are down, and the music industry is complaining it is losing out with the online business (the legal one and the illegal file-sharing). It turns out the music industry could do much better with its online business if it just tried a little bit harder.
Benjamin Shiller and Joel Waldfogel show that price discrimination could improve profits by 10% while increasing consumer surplus, a win-win scheme. The idea is very simple. The current uniform pricing at $0.99 leaves surplus on the table for some songs were people would be willing to pay more, while a lower price for some songs would increase sales significantly. In addition, by offering various bundling scheme, it is possible to increase sales and surplus simultaneously.
Specifically, they consider component pricing (prices differentiated by song, but not consumer), pure bundling (one price for a set of songs, in particular larger sets), two-part tariff (a fixed fee plus a per song price) and nonlinear bundling (fixed fee plus a variable price). Shiller and Waldvogel use survey data on song valuation to establish optimal prices for all schemes, and find that in all cases profits and consumer surplus can be improved.
How long will iTunes maintain uniform pricing? The study show that some songs could be sold at a substantially higher price (for example $4.89 for "See You Again" by Miley Cyrus). Amazon seems to be trying such schemes, but with the competition of iTunes, only discounts will work for the moment...
Tuesday, July 22, 2008
Monday, July 21, 2008
Colleges are failing their students in economic literacy
College is supposed to teach some life skills to students apart from their major, like critical thinking, a general understanding of the world they live in, an appreciation of others and how to function like an adult citizen in our society. Part of this is some general understanding of Economics. This includes foreseeing the consequences of economic actions, understanding the role of interest and debt.
Obviously, many Americans are not very good with the concept of debt and savings. But one could think this pertains to uneducated people. Not so apparently, according to an article in the Business Week that even claims that universities team up with credit card companies in trying to lure students into shady contracts. So much for leading by example.
Given that many universities cannot sustain themselves from tuition and state grants, I fully understand that they are looking into alternative sources of funding. One important source is alumni contributions, but screwing alumni like this is no long term solution. Much better would be to actually teach them to understand basic money management skills. They be more successful in life for it, and more grateful.
Obviously, many Americans are not very good with the concept of debt and savings. But one could think this pertains to uneducated people. Not so apparently, according to an article in the Business Week that even claims that universities team up with credit card companies in trying to lure students into shady contracts. So much for leading by example.
Given that many universities cannot sustain themselves from tuition and state grants, I fully understand that they are looking into alternative sources of funding. One important source is alumni contributions, but screwing alumni like this is no long term solution. Much better would be to actually teach them to understand basic money management skills. They be more successful in life for it, and more grateful.
Friday, July 18, 2008
On-the-job search and exploding wages
Real wages have been largely stagnant over the last decades for most workers, except for huge increases for some specialists, like CEOs, athletes and even some academics. Why so? Giuseppe Moscarini offers an explanation: it is all about the corporate culture and how employers chose to match outside offers for their employees or not.
Back in the 1970s, say, it was accepted by all human resource managers that outside offers should not be matched. Knowing this, employees had little incentive to pursue on-the-job searches. If they obtained an offer, the monetary, time and psychological cost of moving jobs (and potentially living quarters) made an outside offer little attractive. As a consequence, wages followed closely productivity.
Suppose now that the employer cannot commit to not match outside offers. Employees will then seek more outside offers, thus generating wage increases through matching. Knowing this, workers are willing to accept lower initial wages, expecting future increases. Wages now are disconnected from productivity.
Note that an employer who has matched an outside offer in the past cannot credibly commit not to match in the future, as its employees are actively seeking outside jobs. Thus matching once leads to an irreversible change in equilibrium.
It remains that for most professions, matching of outside offers in unheard of. But once it happens, expect a sudden boost in wages. Expect no increases thereafter, as firms have exhausted themselves trying to outbid each other.
Back in the 1970s, say, it was accepted by all human resource managers that outside offers should not be matched. Knowing this, employees had little incentive to pursue on-the-job searches. If they obtained an offer, the monetary, time and psychological cost of moving jobs (and potentially living quarters) made an outside offer little attractive. As a consequence, wages followed closely productivity.
Suppose now that the employer cannot commit to not match outside offers. Employees will then seek more outside offers, thus generating wage increases through matching. Knowing this, workers are willing to accept lower initial wages, expecting future increases. Wages now are disconnected from productivity.
Note that an employer who has matched an outside offer in the past cannot credibly commit not to match in the future, as its employees are actively seeking outside jobs. Thus matching once leads to an irreversible change in equilibrium.
It remains that for most professions, matching of outside offers in unheard of. But once it happens, expect a sudden boost in wages. Expect no increases thereafter, as firms have exhausted themselves trying to outbid each other.
Thursday, July 17, 2008
Neuroeconomics: the nanofoundations of economics
Over the past couple of decades, microfoundations have been all the rage in Economics, and in particular in Macroeconomics. The latter relied traditionally on reduced forms, which lead to the Lucas Critique: reduced form elasticities fail to account for elasticity changes that policy shifts can induce. It is now accepted in all fields of Economics that you need to build theory from the ground up, in particular by looking at preferences and constraints.
Of course, the next question is then where those preferences come from and under what circumstances they can change. Too often, the unexplained part in economic behavior is attributed to preference shocks, in part because we do not understand preference formation. Neuroeconomics is about understanding where preferences, and behaviors, come from, and possibly rewrite decision theory from the ground up.
As its name implies, this new field combines Economics and Neurology. It conducts economic experiments, where subjects need to take some decisions while their brain is scanned. Some researchers try to formulate the neurological phenomena during decision taking into formulas, and inferring decision theory from there, or invalidating it.
For general surveys on Neuroeconomics, see Colin Camerer in the Economic Journal, Camerer, Loewenstein and Prelec in the Journal of Economic Literature, and Douglas Bernheim. There are also dedicated research centers at Claremont, Stanford and George Mason. And even a Society for Neuroeconomics. The time of economists with lab coats has come.
Of course, the next question is then where those preferences come from and under what circumstances they can change. Too often, the unexplained part in economic behavior is attributed to preference shocks, in part because we do not understand preference formation. Neuroeconomics is about understanding where preferences, and behaviors, come from, and possibly rewrite decision theory from the ground up.
As its name implies, this new field combines Economics and Neurology. It conducts economic experiments, where subjects need to take some decisions while their brain is scanned. Some researchers try to formulate the neurological phenomena during decision taking into formulas, and inferring decision theory from there, or invalidating it.
For general surveys on Neuroeconomics, see Colin Camerer in the Economic Journal, Camerer, Loewenstein and Prelec in the Journal of Economic Literature, and Douglas Bernheim. There are also dedicated research centers at Claremont, Stanford and George Mason. And even a Society for Neuroeconomics. The time of economists with lab coats has come.
Wednesday, July 16, 2008
Reforming the IMF
The International Monetary Fund was created in 1944 to encourage policies that lead to macroeconomic stabilization and in particular avert spillovers on other countries. A crucial part was the management of a sound exchange rate system. That was 64 years ago, ans since the role of the IMF has fundamentally transformed itself. As a consequence, it is time to reform it.
While the IMF was initially serving a set of countries that could need its services: countries could be borrowers or lenders. Nowadays it is only serving developing and transition economies, with the developed economies only providing funding. This means that latter cannot be disciplined by the IMF. Furthermore, developed economies can through the IMF set conditions on troubled economies that they would not put on themselves, as they would never get into such a situation. In other words, the initial IMF was working on a principle of symmetry that is lost today. Hence the need for reform.
The solution: give developing and transition economies more voting rights. Currently, they are roughly proportional to the provided funding. The formula needs to be substantially tilted against the rich countries. The latter will be then more reluctant to impose on others what they would not impose on themselves.
While the IMF was initially serving a set of countries that could need its services: countries could be borrowers or lenders. Nowadays it is only serving developing and transition economies, with the developed economies only providing funding. This means that latter cannot be disciplined by the IMF. Furthermore, developed economies can through the IMF set conditions on troubled economies that they would not put on themselves, as they would never get into such a situation. In other words, the initial IMF was working on a principle of symmetry that is lost today. Hence the need for reform.
The solution: give developing and transition economies more voting rights. Currently, they are roughly proportional to the provided funding. The formula needs to be substantially tilted against the rich countries. The latter will be then more reluctant to impose on others what they would not impose on themselves.
Tuesday, July 15, 2008
Face it: banks are illiquid
What is the role of a bank? It takes deposits and lends them to borrowers, typically on business loans or mortgages. The latter have rather long maturities, deposits can be withdrawn at any time. In other words, bank perform a maturity transformation. Doing so, they take the constant risk of not being able to satisfy sudden withdrawals from deposits. Hence the help of central banks as lenders of last resort.
What this means is that no bank is liquid enough to satisfy the withdrawals of all deposits. In fact, if any bank would be able to do so, it would lose money, as it is paying interest on deposits that just sit idle in the vault. Thus any bank risks being subject to a run.
If Senator Charles Shumer reads this, I hope he will come to realize the situation and send letters about every bank in the US, or even every bank in the world, stating that the bank cannot honor deposits. Because this is true, and has always been true.
What this means is that no bank is liquid enough to satisfy the withdrawals of all deposits. In fact, if any bank would be able to do so, it would lose money, as it is paying interest on deposits that just sit idle in the vault. Thus any bank risks being subject to a run.
If Senator Charles Shumer reads this, I hope he will come to realize the situation and send letters about every bank in the US, or even every bank in the world, stating that the bank cannot honor deposits. Because this is true, and has always been true.
Monday, July 14, 2008
Hubbard and Bernanke (II)
I posted before the video spoof by Glenn Hubbard on Bernanke. Columbia Business School students have followed up with a skit featuring Bernanke begging Hubbard to swap jobs.
Friday, July 11, 2008
On the pitfalls of institutional reform in developing economies
What is Africa's problem. Many argue it is an issue of governance. One needs proper ownership rights, in particular for land, for an economy to function efficiently and to encourage entrepreneurship. For this reason, international organization, foreign governments and some NGOs insist on a regular basis on governance reform. This is not necessarily a good idea.
William Easterly and Dani Rodrik have for quite a while highlighted that such western style reforms may be ill-suited for developing economies. The main point is that these reforms are not performed in a vacuum. For example, there is typically already a system of ownership in place. It may not use the same institutions as in a Western economy, but it somehow works. Or business contracts are honored through "informal ways", like reputation.
In the latter case, imposing a system with formal courts may backfire: as they enforcement capability may not be high, people may want to opt out of contracts they would have kept in a reputation system. In this sense, the existing system may be a second best institution that would have to be reformed from the bottom up.
William Easterly and Dani Rodrik have for quite a while highlighted that such western style reforms may be ill-suited for developing economies. The main point is that these reforms are not performed in a vacuum. For example, there is typically already a system of ownership in place. It may not use the same institutions as in a Western economy, but it somehow works. Or business contracts are honored through "informal ways", like reputation.
In the latter case, imposing a system with formal courts may backfire: as they enforcement capability may not be high, people may want to opt out of contracts they would have kept in a reputation system. In this sense, the existing system may be a second best institution that would have to be reformed from the bottom up.
Thursday, July 10, 2008
Legal corruption
Now that the presidential campaign in the US is getting really serious, and other congressional races are starting to get some interest, once more the talk is about money. Not the money that good policies could generate, but rather that money that candidates manages to raise.
While I can understand that for some trades it is useful to be a good money raiser (charities, religious organizations, i.e., organizations that have little to offer but good feelings), I fail to see how this would help in running a country. The government can finance itself by mandatory taxation, there is no need to coax people into paying. But what is worse is that contributors are expecting, and getting, influence on policy decisions.
Not only is this practice tolerated by the law, it is openly discussed in the US as something that is normal. Yes, this is normal from an economic point of view: one is willing to pay to change a policy as much as the benefit from this policy change. But it is inefficient, for two main reasons: 1) the private optimum may not coincide with the social optimum; 2) the bidding between two lobbyists for opposing may expend huge resources when they outbid each other as each bid is a sunk cost once spent.
It is well known that resources spent on corruption are taken away from productive uses. Political contributions are just the same. They are legal in the US, but that does not make them good.
While I can understand that for some trades it is useful to be a good money raiser (charities, religious organizations, i.e., organizations that have little to offer but good feelings), I fail to see how this would help in running a country. The government can finance itself by mandatory taxation, there is no need to coax people into paying. But what is worse is that contributors are expecting, and getting, influence on policy decisions.
Not only is this practice tolerated by the law, it is openly discussed in the US as something that is normal. Yes, this is normal from an economic point of view: one is willing to pay to change a policy as much as the benefit from this policy change. But it is inefficient, for two main reasons: 1) the private optimum may not coincide with the social optimum; 2) the bidding between two lobbyists for opposing may expend huge resources when they outbid each other as each bid is a sunk cost once spent.
It is well known that resources spent on corruption are taken away from productive uses. Political contributions are just the same. They are legal in the US, but that does not make them good.
Wednesday, July 9, 2008
The evil of virtual inflation
Online games are widely popular, especially MMORPGs (Massively multiplayer online role-playing games) like World of Warcraft, Everquest, Dungeons & Dragons, and Second Life. All of them simulate a virtual world with player interaction, as well as interactions with robots. In most such games, there are markets: players can buy objects, trade with each other, or participate in auctions.
One problem that can arise in such virtual environment is inflation: as players accumulate money, the amount of money in circulation may constantly increase, unless the "government" finds ways to reclaim some of that money. For example, some goods are required for continued play, and their price is preset and may fluctuate. Gaming companies hires economists to handle this (example) and prevent rampant inflation.
There are people studying the Economics withing these games (example). At Indiana University, there is even a research group dedicated to this. A new avenue for experimental economics?
One problem that can arise in such virtual environment is inflation: as players accumulate money, the amount of money in circulation may constantly increase, unless the "government" finds ways to reclaim some of that money. For example, some goods are required for continued play, and their price is preset and may fluctuate. Gaming companies hires economists to handle this (example) and prevent rampant inflation.
There are people studying the Economics withing these games (example). At Indiana University, there is even a research group dedicated to this. A new avenue for experimental economics?
Tuesday, July 8, 2008
The improper taxation of US expatriates
Typically, who pays income tax where is based on residence. The only country that I know of that does not follow this principle is the United States. As a US citizen (or green card holder), you have to pay income tax to the IRS wherever you live, and on your worldwide income.
Fortunately, many expatriates are able to benefit from some tax treaties between the US and their country of residence: they can deduct their foreign taxes, in principle. But this is by far not the case for everyone. But if you do not live where your taxes are used, what do you get in return for your taxes?
Depending where you live, the US offers protection: an embassy where one can find refuge, or repatriation to the US in case of serious trouble. This sounds like some insurance policy. If it were offered on the free market, such a policy would, however, be dirt cheap for most expatriates, for example those in Canada. This seems like a pure tax grab to me.
Note 1: many countries bill their citizens for repatriation service. Not Canada, which lead to some debates after the last war in South Lebanon. Some people were quite unhappy about subsidizing others living in dangerous places.
Note 2: an obvious solution for expatriates to avoid paying US taxes is to renounce citizenship. It is, however, illegal doing so for tax reason. And in a sly move, the Heroes Act of 2008 which increased benefits to veterans and their survivors also included a provision that anyone giving one's citizenship up voluntarily would be taxed on all assets as if their were sold.
Fortunately, many expatriates are able to benefit from some tax treaties between the US and their country of residence: they can deduct their foreign taxes, in principle. But this is by far not the case for everyone. But if you do not live where your taxes are used, what do you get in return for your taxes?
Depending where you live, the US offers protection: an embassy where one can find refuge, or repatriation to the US in case of serious trouble. This sounds like some insurance policy. If it were offered on the free market, such a policy would, however, be dirt cheap for most expatriates, for example those in Canada. This seems like a pure tax grab to me.
Note 1: many countries bill their citizens for repatriation service. Not Canada, which lead to some debates after the last war in South Lebanon. Some people were quite unhappy about subsidizing others living in dangerous places.
Note 2: an obvious solution for expatriates to avoid paying US taxes is to renounce citizenship. It is, however, illegal doing so for tax reason. And in a sly move, the Heroes Act of 2008 which increased benefits to veterans and their survivors also included a provision that anyone giving one's citizenship up voluntarily would be taxed on all assets as if their were sold.
Monday, July 7, 2008
Illegal immigrants have rights that need to be defended
A series of cases have been brought to court recently where illegal immigrants sue abusive employers. The typical reaction on the street: illegal have no right to complain, they should just be deported. Oh, how wrong this attitude is.
First, it is in the self-interest of the local (legal) labor force to see these cases go to court. If employers can continue to abuse illegals workers without impunity, they will prefer hiring illegals over legals. This reduces the demand for legal workers, and thus the number of employed legal residents and/or their wages.
Second, I hold little esteem for any policy that discriminates against the unlucky. The illegal immigrants in question were unlucky in that they were born in the wrong country. Being harassed by the lucky ones is not what I envision as a realization of human society, and specifically human right. It is not a question of an Economist having a heart, think about it an insurance against being born in the wrong place. Illegals should be helped, not discriminated against.
First, it is in the self-interest of the local (legal) labor force to see these cases go to court. If employers can continue to abuse illegals workers without impunity, they will prefer hiring illegals over legals. This reduces the demand for legal workers, and thus the number of employed legal residents and/or their wages.
Second, I hold little esteem for any policy that discriminates against the unlucky. The illegal immigrants in question were unlucky in that they were born in the wrong country. Being harassed by the lucky ones is not what I envision as a realization of human society, and specifically human right. It is not a question of an Economist having a heart, think about it an insurance against being born in the wrong place. Illegals should be helped, not discriminated against.
Thursday, July 3, 2008
Monaco set to expand
Monaco has a tiny territory and is bursting. To expand, it seems to have nowhere to go but the sea, à la the Netherlands. And this seems exactly to be the plan: filling up parts of the Mediterranean sea on the shores of Monaco at a cost of €5 billion, to deliver 275,000 square meters of land. This is about US$ 3,000 a square foot. Monaco can do better than that.
The area around Monaco is quite hilly, so I suspect the water is not shallow. This makes it particularly difficult to fill. Also, there may be environmental issues with marine life. I think it would be much simpler to simply expand into existing land, i. e., buy it from neighboring France. And France should be happy to sell.
France should be able to get a good price for it. And it is not losing much. Monaco is a tax tax haven, but not for French nationals. Indeed, after France embargoed Monaco in 1963 because of tax cheats, Monaco had to give in and let France tax its citizens living in Monaco. So no tax revenue loss for France, a apart from the non-French residents that would fall out of its jurisdiction.
The area around Monaco is quite hilly, so I suspect the water is not shallow. This makes it particularly difficult to fill. Also, there may be environmental issues with marine life. I think it would be much simpler to simply expand into existing land, i. e., buy it from neighboring France. And France should be happy to sell.
France should be able to get a good price for it. And it is not losing much. Monaco is a tax tax haven, but not for French nationals. Indeed, after France embargoed Monaco in 1963 because of tax cheats, Monaco had to give in and let France tax its citizens living in Monaco. So no tax revenue loss for France, a apart from the non-French residents that would fall out of its jurisdiction.
Wednesday, July 2, 2008
Results of the syndicating poll
Two weeks ago, I received an inquiry from Nouriel Roubini's RGE Monitor whether I would be willing to have some of my post featured integrally there. I have let the users of this blog vote on this offer and the results are in. Should I accept this offer?
What do I learn from this? First, there were actually 34 readers who bothered to vote, which is a good start. Second, there is no clear winner. A majority want me to participate (13+6), almost half seem to think serious money needs to be involved (6+10). I interpret this as: Go ahead, but make sure you get a fair cut from the deal.
So, I will now I will wait to hear from a RGE Monitor representative and see what it has to offer for me.
- Yes, anything that publicizes this blog: 13 votes, 38%
- Only if money is involved: 6 votes, 17%
- No, they want to exploit me: 10 votes, 29%
- Whatever: 5 votes, 14%
What do I learn from this? First, there were actually 34 readers who bothered to vote, which is a good start. Second, there is no clear winner. A majority want me to participate (13+6), almost half seem to think serious money needs to be involved (6+10). I interpret this as: Go ahead, but make sure you get a fair cut from the deal.
So, I will now I will wait to hear from a RGE Monitor representative and see what it has to offer for me.
Tuesday, July 1, 2008
Markets trump policy: illicit drugs
Among developed economies, the United States has the most restrictive policy relative to illicit drug. The Netherlands have a much more relaxed one. Guess where more people use drugs.
According to a study published in PLos Medecine, Americans are far ahead of anybody else. this table shows that 16.2% have tried cocaine, New Zealand is second at 4.3%, and the liberal Netherlands have 1.9%. For cannabis, it is 42.4, 41.9% and 19.8%.
So much for the war on drugs. This shows that markets are much more powerful than regulation, they find a way to circumvent rules and laws. How can one really reduce drug use, if this is the true goal? Make it legal, thus reducing its price, as the risk premium drops. Supply will then drop. If the price goes too low, tax it like tobacco and alcohol. At least revenue would then end up in the pockets of the government instead of crooks.
According to a study published in PLos Medecine, Americans are far ahead of anybody else. this table shows that 16.2% have tried cocaine, New Zealand is second at 4.3%, and the liberal Netherlands have 1.9%. For cannabis, it is 42.4, 41.9% and 19.8%.
So much for the war on drugs. This shows that markets are much more powerful than regulation, they find a way to circumvent rules and laws. How can one really reduce drug use, if this is the true goal? Make it legal, thus reducing its price, as the risk premium drops. Supply will then drop. If the price goes too low, tax it like tobacco and alcohol. At least revenue would then end up in the pockets of the government instead of crooks.
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