tag:blogger.com,1999:blog-3783575082280645992024-03-13T01:03:42.354-04:00potential economicsnew adventures in economic ideaspotenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.comBlogger39125tag:blogger.com,1999:blog-378357508228064599.post-6983140315888109802013-11-30T16:34:00.003-05:002013-11-30T16:37:34.678-05:00Production as Privilege: Markets and Non-Markets<em>I realized when starting a sort-of summary piece on all the </em><a href="http://www.potentialeconomics.com/search/label/production%20as%20privilege"><em>Production as Privilege</em></a><em> series of posts that I had skipped straight from conceptual tool 7 to conceptual tool 9. That was enough of an excuse to go back and finish up with one more idea I had been wanting to write about. Here it is.</em><br />
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<h4>
Conceptual Tool #8: Market and Non-Market Domains</h4>
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The market is not everywhere. It may affect in some way nearly every domain of our lives, but there are social domains where other forces exert far more influence, and there are also social domains where we have set up deliberate barriers to keep the market out. Some of these places are surprising; one of the most surprising to me, when I first encountered it conceived in such a fashion, was the firm.<br />
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It may seem odd to think of firms (corporations in any form) as anti-market structures, but in fact that is exactly what they are. Firms are set up to keep market forces at bay, as decades of "<a href="http://en.wikipedia.org/wiki/Theory_of_the_firm">theory of the firm</a>" literature started by the late <a href="http://en.wikipedia.org/wiki/Ronald_Coase">Ronald Coase</a> has shown us. The "interior" of a firm is not a market but typically some type of hierarchical bureaucracy.<br />
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For example, the first person on the assembly line does not sell their product to the second person. They simply pass it along; the product is owned by the firm and the workers have agreed in advance to sell their labor. Similarly, most office workers do not have to buy own their computers--they are simply assigned them. These non-market workplace setups happen for a number of reasons: it would be very inefficient if each worker had to agree on a price before they passed along the product; or businesses may be able to get a better deal on a bulk computer purchase.<br />
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Likewise the allocation of work within a firm is very different from external labor markets. Workers may compete with each other for promotions but not to get paid for the work they are assigned. Workers perform various tasks for the firm without negotiating each price.<br />
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This all serves to remind us that capitalism has always had a more complex relationship to markets than we often think. The economics discipline tends to idealize markets and assume they are ideal in any situation, but this view ignores the myriad of daily interactions and relationships that have nothing to do with markets, and are governed instead by hierarchy or other social arrangements.<br />
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Gradually, thanks to a large extent to capitalistic profit incentives, the market has come to intermediate a good deal more than the basic exchange of commodities--not just our daily labor but our nearly everything we do, from cleaning our house to keeping us in shape. It is not a one-way process, however. Markets often recede naturally when they are inconvenient: for example, my house is currently managed by a rental company, so I do not have to contact the repairman or pay for repairs when my sink stops working.<br />
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Curiously, pre-capitalist relationships of production may have been more directly tied to the market than current ones are. Braverman argues that before capitalism, the division of labor was entirely confined to divisions between products, meaning that one person was responsible for the entirety of a product that was sold on the market. Their labor was therefore expressed in the market through the market value of the commodity they produced, instead of through contractual agreement with owners of commodity-producing processes. Over time, however, economies of scale and other forces pushed workers into salaried positions in hierarchical organizations.<br />
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What does this mean for our system of production and the way it distributes wealth? By highlighting the non-market nature of the firm, it allows us to question the assumption that workers in a company earn their marginal value. When economists model labor markets, they tend to assume workers are paid the same amount of money that they help a company earn. But outside of a simple econ101 manufacturing scenario, it is much harder than you might think to figure out what the value of a worker is for a firm, because the firm is not a market--the firm exists between the labor markets and the product markets. While the cost and benefit analysis firms employ to decide whether to hire or fire workers is certainly complex, it is mediated by hierarchy that may have little to do with any "value" in an economic sense.<br />
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For example, imagine two low-level employees join an organization with the same qualifications. One of the employees is related to the boss, so he is asked to help out with some administrative duties after hours and is eventually promoted to manager and makes significantly more money than the other employee. Now, a manager may indeed provide more value to the organization than a low-level employee, because the manager is more important for the overall running of the company. From this angle it makes sense that the employee with the connections is now making more money than the other employee. However, it is difficult to argue that this outcome is in fact due to market forces. Instead, it has been shaped by personal relationships, hierarchy, and bureaucratic organization.<br />
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Ultimately what is important is that we understand ways that markets work and fail to work. Too often they are assumed to be an ideal form of relationship when in fact they are ill-suited for a particular situation. By starting to note all of the places where markets have and have not taken hold, we can get a better idea of how to design policies that use--or do not use--markets appropriately.potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com0tag:blogger.com,1999:blog-378357508228064599.post-29151788440428843222013-07-14T13:16:00.003-04:002013-07-14T13:16:38.681-04:00Public and Private and Other SimplificationsIn a society, to a certain extent, our institutions and organizations are created out of thin air: out of our beliefs about how our society works. This means the way we understand things can change their existence, and hopefully better understanding of our institutions and organizations can help them work better. I think one of our fundamental dichotomies today misses the point.<br />
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We constantly juxtapose public and private actors: Socialism and capitalism. Government and industry. Bureaucracy and markets. Citizens and customers. They form a dichotomy that we see as inherently different, if not opposed.<br />
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But is the difference more than skin deep? Both public agencies and private corporations are organizations--entities coordinating human action. Both are established as a means to an end, to serve a purpose. We have government, and we have private corporations, because they do useful things.* They are tools. Useful technologies.<br />
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This broad similarity gets lost in the convolution of various arguments and disciplines. In legal terms, public agencies are established to fulfil a number of different purposes--whatever the laws say that established them, or the government wants, or their board members agree upon. Private corporations are simply a very specific type of organization, with established ownerhip rules and purpose (make profit and minimize risk).<br />
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But these legal definitions are just ways of facilitating and motivating organization, they say nothing about what role an organization plays in the actual lives of actual people. Private corporations can provide drinking water and voting booths and go to war with your enemies. Public agencies can make money by providing value in the marketplace.<br />
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Now before you get all flustered, I'm not saying they are <em>equally good</em> at any of these things. But that is exactly the point: <strong>we have to have reasons for saying that public organizations should do some things and private ones should do others</strong>. And we tend to skip those. Frequently.<br />
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There are a lot of valid reasons, and they are interesting to think about. But we get so wrapped up in either political affiliations or theoretical crutches (markets are always good! corporations are always bad!) that we forget to think about what the actual differences are.<br />
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In terms of structure, hierarchy, and functionality, public and private organizations can be basically the same. They may attract different people, they may have different management styles, but these are variations on types, not fundamental differences.<br />
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Obviously the management of organizations is one key locus of difference, and one way to think about this is through the idea of accountability. Public organizations in democracies are ultimately accountable to voters while private organizations are accountable to shareholders (which are often synonymous with "the market"). However, the chains of accountability mean that the buck may in fact stop elsewhere, or simply get passed around ad infinitum.<br />
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Accountability is why we give more legal power to public organizations--we would rather have legislatures or judiciaries that we voted for than ones we paid for. Not that there is always a difference, but there most certainly is some sometimes.<br />
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Thinking this way puts an interesting twist on common debates about the merits of public versus private organizations, which are typically boiled down to things like efficiency versus greed. For example, the extent of public versus private organizations in a country can be understood simply as whether we want our organizations to be democratically accountable or accountable to the market. Or we can think of the issue in terms of to what degree we want our organizations to act with the force of law.<br />
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If we want to design an efficacious society--one that helps us get rich, reduce poverty, fulfill our less materialistic dreams, whatever else have you--we need to understand which organizations are needed, and we need to make sure they fulfill their intended role. If we get too stuck in simplistic ideas of which kinds of organizations should do what (what the state can or cannot organize; what the market should or should not allocate), without delving into the "why", we will not achieve our potential.<br />
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~~<br />
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*You can dispute individual cases, of course, and you can dispute entire typological existences with arguments like path dependency or new institutionalism or simply power , but I think in the end we have these institutions because they are able to convince us (or at least a sufficient subset of us) that they serve a useful purpose.potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com0tag:blogger.com,1999:blog-378357508228064599.post-77566782360807184542013-06-21T09:20:00.001-04:002013-06-21T09:25:16.383-04:00Production as Privilege: Mercantilism<em>The </em><a href="http://www.potentialeconomics.com/2013/03/production-as-privilege-rationalization.html"><em>Production as Privilege series</em></a><em> of posts here has been examining the ways that production connects to the distribution of wealth, through a series of "conceptual tools". Some of the tools are in the basic econ101 toolkit, others are a bit less conventional. Still others, like mercantilism, have been at the core of economic debate for centuries.</em><br />
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<h4>
</h4>
<h4>
Conceptual Tool #12: <a href="https://en.wikipedia.org/wiki/Mercantilism" target="_blank">Mercantilism</a></h4>
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For hundreds of years before Adam Smith bestowed his great wisdom upon the land, Mercantilism was the order of the day. In a nutshell, mercantilism was a national policy that believed selling products abroad and running a positive balance of trade was the route to national wealth. If they bought more from you than you bought from them, you got rich and they got poor, because they gave you all their gold. (Gold was better than wine or cheese because it was more fungible and stored value better. Also it glittered.)<br />
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However, the mercantilist logic holds only so far as there is a fixed amount of goods and money, and fixed exchange rate prices. Wikipedia has <a href="https://en.wikipedia.org/wiki/Mercantilism#Criticisms" target="_blank">a good summary of the flaws</a>: more modern logic emphasizes the fact that you can consume what you produce (or more accurately, what you get in exchange for what you produce or convince people to lend to you for what you might produce in the future) and that exchange rates will equalize so as to ensure that one country cannot simply take all of another country's money or stuff. This logic is not impeccable either, but it does do a better job of according with the current reality.<br />
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What traditional mercantilism gets slightly more correct is the importance of competitiveness, and if you look at the list of typical mercantilist policies at the top of the <a href="https://en.wikipedia.org/wiki/Mercantilism" target="_blank">Wikipedia page</a>, many of them look uncannily up-to-date: export subsidies, promoting manufacturing with research or direct subsidies, limiting wages, maximizing the use of domestic resources, restricting domestic consumption with non-tariff barriers to trade.<br />
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Why are we (and moreso other countries like China or Germany) following the recommendations of a "discredited" economic ideology? And what does this have to do with distribution of wealth between countries or within countries?<br />
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Partly it is a matter of confusing definition, as we might expect from a term that has been around for a few centuries. It can be helpful to think of mercantilism as not simply as competition for export share, but more generally as deliberate state intervention to bolster a nation's economy. Dani Rodrik <a href="http://www.project-syndicate.org/commentary/the-return-of-mercantilism-by-dani-rodrik">contrasts mercantilism</a> not with unrestricted trade (the simple traditional dichotomy) but with a broader economic liberalism--he frames mercantilism as a question of overall government tinvolvement in and direction of the economy, rather than simply applying tariffs with the intent of getting more gold.<br />
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From now on, for the sake of clarity, I will refer to "get all the gold", zero-sum mercantilism as "balance of payments mercantilism", and mercantilism grounded in any state action as "state action mercantilism." Balance of payments mercantilism is typically a goal or at least an effect of state action mercantilism, but they are theoretically distinct because state action mercantilism is not inherently about improving trade balances, it is about improving domestic production. State action mercantilism is also roughly synonymous to "state capitalism".<br />
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Rodrik also makes the point that <em>capitalism</em> (in the sense of having capital directed by investors) is still feasible under state action mercantilism--we don't need to wholly socialize investment for mercantilism to exist. State action mercantilism can thrive with private capital, as government can still regulate and nudge that private capital in deliberate ways.<br />
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Rodrik's definition of state action mercantilism is a bit broad but provides a useful perspective because it helps reveal the assumptions at the heart of mercantilist and free trade/liberal economic ideologies. In Rodrik's view, state action mercantilism assumes that markets can be deliberately improved while liberalism assumes that government is best establishing well-functioning markets and then getting out of the way. Really, this argument is about where to draw the line about government action in the economic sphere and what kind of government action is necessary and desirable.<br />
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Any argument about the extent of government action should be about the efficacy of that action, in both the short and the long term. The major debates about state action mercantilism in the past decades have been about the efficacy of the government encouraging certain industries: that is, is government better at anticipating profitable investment than the market?<br />
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Obviously the market has a lot of advantages: thousands of highly trained analysts and people with great incentives to make sure their money gets as high a return as possible. But the government has potential advantages of its own: size, time frame, social accountability, and the ability to shape the rules of the game. <br />
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<strong>Size: </strong>The size of the government means that it can direct investment on a scale that private investors have a difficult time doing. And in investment, scale matters. A company may not be profitable without local supplier firms, or industries may not be profitable without whole clusters of complementary industries. Scale is important, and it has gotten progressively more important in the last 200 years.<br />
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<strong>Time horizon:</strong> While some investors are focused on longer-term value, the liquidity of most investment means that many more investors are focused on shorter-term value. Governments can have a slightly longer time horizon. Although elected officials can serve for as little as two years, that is still far longer than quarterly returns. Moreover, presidents can serve for up to 8 and senators for many more than that. Civil servants, as well, may work their entire careers in government and thus have incentives to promote longer-term economic success. Government can be extremely short-sighted as well, of course. The point is that the right combination of incentives is possible.<br />
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<strong>Social accountability:</strong> While individual investors are only responsible to themselves and their clients, governments can in theory be accountable to their citizens. This means that governments have to worry about how the whole economy works as a system, instead of just individual parts.<br />
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<strong>Rule-changing ability:</strong> Finally, governments have the ability to change the rules of the economy in ways that few individual actors can. By creating subsidies, by taxing, by regulating certain procedures, or through a million other methods, the government shapes what is profitable. Perhaps the most fundamental way that the government can change the rules is by changing the price of labor by changing the share of profit that workers are willing or able to receive. Changes in the price of labor can have fundamentally powerful effects on competitiveness.<br />
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So is the question of mercantilism simply a question of when these government advantages win out against highly-informed-but-far-from-ideal private direction of capital? This is one way to see it. The argument has been made from a number of different perspectives over the years, however. One of the most interesting positions was from Frederick List.<br />
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Friedrich List is a lesser-known political economist from 19th-century Germany who also lived and worked in Pennsylvania. He was influenced, oddly enough, in part by the economic ideas of Alexander Hamilton. Although Hamilton is not primarily remembered for his contributions to economic policy, his 1791 <a href="http://en.wikipedia.org/wiki/Report_on_Manufactures"><em>Report on Manufactures</em></a><em> </em>as Secretary of the Treasury helped set the course of the US economy over the next two centuries. <em>Report on Manufactures</em> essentially laid out the state action mercantilist strategy the USA followed more or less <a href="http://en.wikipedia.org/wiki/National_System">until the 1970s</a>.<br />
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List made many of the same mercantilist arguments as Hamilton in his treatise, <a href="http://socserv2.socsci.mcmaster.ca/~econ/ugcm/3ll3/list/national.html"><em>National System of Political Economy</em></a>. Like Rodrik, he contrasts mercantilism with liberalism and broader ideas of free trade. But he does it in an interesting way, arguing that most classical (and now neoclassical) economic theory suffers from fallacies of composition. That is, economic theory failed to recognize that a whole could be something other than the sum of its parts. Arguing from historical examples, List saw that nation-states had without fail been critically powerful players in national economic development.<br />
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List further argues that most economic progress has been made through deliberate state policy to promote not simply a nation's economic strength but more specifically a strong, productive manufacturing base. This requires an understanding of both specific national context and also an ability to understand the nation as a system and affect all the moving parts. Those moving parts are not always well aligned:<br />
<blockquote>
Nor does the individual merely by understanding his own interests best, and by striving to further them, if left to his own devices, always further the interests of the community. (134)</blockquote>
How you define sound economic policy and correctly aligned incentives, in other words, may vary depending on whether you understand that society is made up of groups. This is because those groups may establish and change collective behavior. One common way this is done is through laws. List argues that, as we already have a state-facilitated market system based on laws, further state intervention can be easily rationalized on utilitarian grounds:<br />
<blockquote class="tr_bq">
In a thousand cases the power of the state is compelled to impose restrictions on private industry. [...And the state has no right to do so, as long as the actions of private industry] remain harmless and useful; that which, however, is harmless and useful in itself, in general commerce with the world, can become dangerous and injurious in national internal commerce, and vice versa.</blockquote>
The group determination of laws is an example of the rule-changing ability referenced above. However, the point about individual versus collective incentives is different. Countries, because of their aggregated scale, have actual different incentives than individuals and, if properly safeguarded against, these incentives can strongly enhance collective welfare.<br />
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As an example, in recent post I made the point that <em>competitors' own actions can shape the availability of what they are competing for</em>. That is, competitors may be competing for pieces of the pie, but the pie may expand or contract based on the actions of the competitors. This is because the fungibility of money converts many different types of competition into competition for value, and we produce value in order to exchange it for other value. This is not a trivial point, it is the crux of Adam Smith's (and all modern free trade supporters') argument against balance of payments mercantilism (see <a href="http://econospeak.blogspot.com/2013/04/of-property-and-mercantilist-fallacy.html">here</a>) and for the productive power of self-interest.<br />
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What is oddly missing from most discussions of the "mercantilist fallacy", however, is the idea of incentives. The size of the pie depends on the incentives of the producers--balance of payments mercantilism was initially successful in England and the Netherlands because it<i> incentivized the state to commission and support corporations with incentives to be competitive</i>. But economists eventually ditched balance of payments mercantilism in part because these ideas placed an arbitrary limit on the size of the pie--they failed to recognize that properly incentivized production is bounded only by technology, resources, and organization. Competition is not for resources some set quantity of gold but for the ability to accrue rents from favorable transactions and spend them on plentiful goods.<br />
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Let's return to List for a moment. List argues strongly against free trade between nations because, he argues, free trade can destroy the productive capacity of a country. In theory this make sense: if you have moderately good technology and can produce cars for $1000, but somebody else has really good technology and can produce cars for $500, then under free trade only the country with really good technology is going to produce cars. This is fine if we are talking about wine, and you can just switch to producing beer, and sell beer in exchange for wine. But if we are talking about complex industries with dense networks of suppliers and the coordination of specialized technical knowledge (cars need steel and chemicals and computers and hundreds of different parts, etc...), then free trade looks far more dangerous.<br />
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And in reality, countries that have successfully grown their economies have mostly used state action mercantilist policies. To be sure, it is not always successful--the general failure of export-led (and state-directed) industrialization was a major catalyst for the neoliberal revolution (Washington Consensus) in development policy. But the examples of successful development mostly involve deliberate state action including picking industries and nurturing them to competitiveness.<br />
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More to the point, successful economic policy has involved getting the incentives right. Successful development stories like South Korea show us that state action mercantilism can be successful <em>if</em> the increase the size of the pie domestically--aka the value that is being created in the country over the long term.<br />
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What does all this have to do with the distribution of wealth and income? Under fully liberalized trade with flexible exchange rates, the income distribution between two countries should depend wholly on each country's productivity. As we saw, however, productivity depends on having the right incentives for producers, and it can be understandably hard to achieve such a system if the incentives for producers are entirely set by foreign countries--either intentionally through foreign mercantilism or unintentionally<em> </em>through the "natural" workings of the market (this is another main point of List's). Particularly in a world with widely varying levels of productivity between states, state action mercantilism is thus an important tool states can use to "catch up" and even the distribution of wealth.<br />
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State action mercantilism, at its core, is a deliberate reshaping of the market that diverts and redirects capital or consumption flows. Mercantilist reshaping can change the current distribution of wealth, but more importantly it can preserve or increase a country's long term productive capacity by stimulating beneficial competition.<br />
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But as liberalism argues, reshaping markets not always a good thing. Using state power in markets is dangerous because when you manipulate the behavior of buyers and sellers you lose track of what an un-manipulated market would prefer, and you can inadvertently crush suppliers and demanders that might otherwise happily connect. Worse, deliberate errors (corruption, cronyism, rentierism) are all too easy to come by as state power is turned toward private interests. State power establishes markets but it can also undermine them if the right incentives are not kept in view.<br />
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In effect, reshaping markets is what private interests try to do anyway, whether it is through legal means (inventing a new product, changing consumer demand through advertising, or just bringing down prices by selling more of a product) or illegal ones as mentioned in the previous paragraph. Reshaping markets--changing the options that buyers and sellers have, changing their preferences, changing the ways that buyers and sellers interact--is how businesses make profits. States need to be able to establish firm limits on how firms are able to reshape markets and keep the playing field fair if markets are to have any kind of equitable distribution.<br />
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But even a "fair", well-functioning market may not end up with a suitable distribution of wealth (if businesses have increasing returns to scale, for example). The state's advantages--size, time horizon, social accountability, and rule-changing ability--put it in a good position to address these further equity concerns. We already do things like provide public education, which is an enormous force for equity. With a broader understanding of how the state creates markets we can hopefully find new ways to make markets fairer--and recognize when markets are simply not the best solution. We must keep List's dictum in mind, that private interests are not always the interests of the group.potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com0tag:blogger.com,1999:blog-378357508228064599.post-71714339417057373102013-05-10T14:16:00.001-04:002013-05-10T14:18:49.212-04:00Competition in Context: Workers<div dir="ltr" style="text-align: left;" trbidi="on">
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In <a href="http://www.potentialeconomics.com/2013/04/production-as-privilege-thoughts-on.html">a recent post post</a> I outlined five points about competition that tend to go overlooked in economic discourse:</div>
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<ul>
<li>The amount of things we are competing for changes over time.</li>
<li>The future amounts of things we are competing for are uncertain.</li>
<li>The things we are competing for may be created by the competitors themselves.</li>
<li>The amount of things we are competing for may be artificially constrained (this is basically a roundabout way of describing the way we often create markets using public or non-rivalrous goods).</li>
<li>The current allocation of things we are competing for may have important effects on the ability of competitors to compete for more of them (this is basically a roundabout way of describing things like economies of scale, network effects, path dependency, and first-mover advantage).</li>
</ul>
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I want to take these ideas and look at what they can mean for competition situated in various contexts. What does it mean for a <em>country</em> to be competitive as compared with a competitive <em>business</em> or a competitive <em>worker</em>? I don't want to give a full account of how competition in these areas works, rather to think about why the points I've made above are important.<br />
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In all three of these competitive arenas, competitiveness comes from offering more value than competitors are offering. Typically 'offering value' means selling similar (aka substitutable) products or services more cheaply than a rival worker, firm, or country. Although these three realms of competition are similar in the abstract, they compete to provide that value in different ways. This post looks at how workers compete.</div>
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<h4>
Workers</h4>
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Workers compete against other workers but they also compete against technologies, such as machines or more efficient processes. In other words, workers are competing against substitutes for the labor they provide, whether that means their neighbors, robots, or their department being made redundant after a merger. As part of the overall production process, however, they further compete with firm owners and managers for the value that the firm receives in exachange for its production.<br />
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Firms want workers that will provide surplus value. Firms in turn sell to consumers or other firms. Economic models assume that workers are paid the wage that is equivalent to the value workers provide for the firm, but of course firms would not hire workers if that were exactly true: workers have to provide <em>more</em> value than they are paid or else there is no point in hiring them. The amount of the "surplus" value that workers are able to capture depends on their bargaining power, and worker bargaining power depends on the availability of substitutes for labor and the demand for pay. A worker may accept less pay if it knows a robot could do its job more cheaply. A business will have to pay more if its potential workforce can easily find better pay elsewhere.<br />
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Do we overlook the same points about worker competition that we do about other types of competition? Economics does pay attention to changes in demand for workers, and to the pay that workers receive in exchange for filling that demand. Changes in labor demand can be seen through surveys of firm hiring, changes in wages, or even instruments as broad as GDP growth. All these measurements have been linked to the labor markets through extensive study. For example, it is something of a stylized fact in economics that periods of significant overall growth in the economy are the only times when wages increase for the bottom half of the income distribution--this is one common rationale for the gospel of growth. Within-industry trends are also well-studied. It is common to hear where new jobs are expected to be created and which old jobs will be destroyed.<br />
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Despite the attention that economists and the general public pay to changing worker incomes, competition is can be hard to understand in aggregate terms. A single unemployed worker might know that competition for work in their occupation is harsh, but it can be hard to see the structural and macroeconomic causes. Economists might see the effects of a bad economy, but the complex array of causes means that they may have little idea why things are bad. For example, experts are still arguing over whether the current high level of unemployment is structural or cyclical.<br />
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The idea that competitors shape the size of the pie they are competing for is perhaps most obvious when looking at individual workers, because workers are the ones actually engaging in production. If workers work hard or if they are well trained or just good at their job, they will produce more. If they are unemployed, they will produce nothing. But what determines how productive those workers are?<br />
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Competition between workers can in theory help increase productivity: if I will lose my job to someone else for not picking enough tomatoes, then I will pick more tomatoes. I might also go to school and learn things that make me productivity in order to get a better job, and if lots of people do this they may increase overall economic output significantly. Or I might work hard so I can get promoted so that my friends will respect me.<br />
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But there is also <a href="http://www.youtube.com/watch?v=u6XAPnuFjJc">good evidence</a> that many of the ways we compete --in particular, for money-- are demotivating and could therefore be hurting productivity. Inequality is another possible demotivator, if we don't think we have a fair shot at "making it". My <a href="http://www.potentialeconomics.com/2012/09/understanding-opportunity.html">earlier</a> <a href="http://www.potentialeconomics.com/2012/08/everybody-wins.html">posts</a> on opportunity address this issue from a slightly different angle.<br />
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Where competition in labor markets really gets interesting is when we think about whether or not the "size of the pie" is artificially constrained. We see this in the phenomenon of unemployment. Workers compete for jobs but if there are no jobs, on some level it is absurd that there is no work to be done. <em>Of course</em> there is work to be done--but for some reason nobody wants to pay these unemployed people to do it.<br />
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But is the opportunity for employment constrained artificially? What would that mean, exactly? Presumably it would mean restrictions on the ability of workers to produce value and receive value in return. The problem is how broadly the the word "restrictions" should be defined. We could imagine restrictions being anything from overtime laws to antitrust laws to public education: overtime laws because some workers may only be able to work a certain job if they are able to gain extra pay working overtime; antitrust laws because smaller producers may be less efficient and that inefficiency may be due to employing more workers; education because workers are only able to provide certain types of value if they have certain training, knowledge or skills.<br />
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These are just examples, but it should be apparent that the size of the pie--that is, the total output of all workers--can be constrained both intentionally and unintentionally. This flies in the face of the "<a href="http://en.wikipedia.org/wiki/Lump_of_labour_fallacy">lump of labor</a> fallacy", which (controversially!) asserts that demand for labor increases in lock step as the availability of labor increases. For the lump of labor fallacy to truly be a fallacy, you have to assume that firms employ the available workforce fairly and effectively, that supply and demand consistently and quickly match each other. But in reality often the labor supply is extremely "lumpy", as businesses do not hire enough workers to employ everyone who wants a job for many different reasons.<br />
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Moreover, we have to remember that the labor market is shaped by <a href="http://en.wikipedia.org/wiki/Labour_law">laws</a>, <a href="http://opinionator.blogs.nytimes.com/2013/05/05/how-social-networks-drive-black-unemployment/">relationships</a>, customs, technologies, and a million other things besides an ideally-responsive supply and demand equilibrium. We can do things to help that equilibrium come into existence, that harness competitive forces between workers, between workers and machines, and between workers and firm owners. But the <em>how</em> of it is never as easy as "unleashing competitive market forces" because those forces are only a byproduct of political, technological, and social forces. If we are not careful about where our competition is leading us there is no guarantee it will take us to a world we want to live in. Competition is not that simple. potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com0tag:blogger.com,1999:blog-378357508228064599.post-54260325703024628882013-05-03T17:55:00.001-04:002013-05-03T18:03:55.805-04:00Competition in Context: Firms<div dir="ltr" style="text-align: left;" trbidi="on">
<div dir="ltr" style="text-align: left;" trbidi="on">
In <a href="http://www.potentialeconomics.com/2013/04/production-as-privilege-thoughts-on.html">last week's post</a> I outlined five points about competition that tend to go overlooked in economic discourse:</div>
<div dir="ltr" style="text-align: left;" trbidi="on">
<ul>
<li>The amount of things we are competing for changes over time.</li>
<li>The future amounts of things we are competing for are uncertain.</li>
<li>The things we are competing for may be created by the competitors themselves.</li>
<li>The amount of things we are competing for may be artificially constrained (this is basically a roundabout way of describing the way we often create markets using public or non-rivalrous goods).</li>
<li>The current allocation of things we are competing for may have important effects on the ability of competitors to compete for more of them (this is basically a roundabout way of describing things like economies of scale, network effects, path dependency, and first-mover advantage).</li>
</ul>
</div>
I want to take these ideas and look at what they can mean for competition situated in various contexts. What does it mean for a <em>country</em> to be competitive as compared with a competitive <em>business</em> or a competitive <em>worker</em>? I don't want to give a full account of how competition in these areas works, rather to think about why the points I've made above are important.<br />
<br />
In all three of these competitive arenas, competitiveness comes from offering more value than competitors are offering. Typically 'offering value' means selling similar (aka substitutable) products or services more cheaply than a rival worker, firm, or country. Although these three realms of competition are similar in the abstract, they compete to provide that value in different ways. Today's post is about competition between businesses.<br />
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<h4 dir="ltr" style="text-align: left;" trbidi="on">
Firms</h4>
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Firms are more straightforwardly in competition for value than nations are. Unlike nations, there is no exchange rate for firms, so firms don't simply get poorer, they "lose"--broken apart in the messy death of bankruptcy. While nations could be said to compete for value only as a means to an end (such as citizen welfare), firms are competing solely for revenue. And by competing in more or less distinct markets for products and services, the competitive dynamics between firms are easier to see.<br />
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Those distinct markets are more volatile than the macro-level "markets" that national economies compete for, so firms face a greater degree of change in size in the markets they are competing in. A population of fish may collapse due to overfishing, or the demand for bottled water may increase exponentially--such changes are rarely so dramatic on a national scale. This uncertainty increases competitiveness between firms because it means that incumbent firms have to adapt to continue to "win".<br />
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More specifically, however, the dynamic nature of certain markets can create an interesting variety of competitive dynamics. Competition in growing markets is very different from "mature" or from shrinking markets, because firms can grow even if they might be a worse option than a competitor--witness all of the bad investments that were initially successful in the dotcom bubble. In a shrinking market, on the other hand, even competitive firms can get squeezed down to nothing. (e.g. Kodak in the consumer camera market as it lost ground to camera phones)<br />
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While firms compete in ways different from national economies, they are similar in that they are creators of the value (good and services) that they want to exchange for other value (revenue they then reinvest or pay to shareholders). As individual firms attempt to "build up" value by attracting it away from their competitors, this can increase the size of the overall pie that they are competing for. But it does not have to, as we will see below.<br />
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Firms build up value by organizing production and utilizing technology in ways that reduce costs; the firms that do this best are rewarded with more money from customers. They are rewarded with <em>less</em> money from <em>each</em> customer--because that is why the customers chose this particular firm's products--but more customers are paying so they have the potential to receive more value overall. By trying to provide the most value for the least in return, we see firms experiencing the same competitive dynamics as when national economies "race to the bottom".<br />
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In our previous posts about efficiency and costs, we discussed how some cost reductions are things we would think of as "effiency increases" while others simply shifting costs from one party to another.<br />
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This idea helps us see the two possibilities when firms reduce costs: if they truly increase their output per worker they increase the size of the pie that everyone is competing for; but if their cost reductions are based on redirecting value away from the "costs" of workers, purchasers of the product gain exactly the expense of the workers. Alternatively, businesses can inflate the "value" of their products if they are not facing adequate competition. I don't want to get into the issues associated with this pattern of loss/gain here; the point is that because of the fungibility of money, competition can incentivize increasing the size of the pie <em>or</em> it can also incentivize redirecting the value within the pie. And the latter can be problematic.<br />
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The final two misconceptions about competition are right on target here. Network effects and artificial scarcity are two important ways that firms can redirect flows of value toward themselves in defiance of what we might think of as an "ideal" market. Any attempt to use market forces for the public good needs to recognize these pitfalls.potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com0tag:blogger.com,1999:blog-378357508228064599.post-19313132243051319982013-04-30T22:44:00.001-04:002013-04-30T22:49:47.940-04:00Competition in Context: National Economies<div dir="ltr" style="text-align: left;" trbidi="on">
In <a href="http://www.potentialeconomics.com/2013/04/production-as-privilege-thoughts-on.html">last week's post</a> I outlined five points about competition that tend to go overlooked in economic discourse:</div>
<div dir="ltr" style="text-align: left;" trbidi="on">
<ul>
<li>The amount of things we are competing for changes over time.</li>
<li>The future amounts of things we are competing for are uncertain.</li>
<li>The things we are competing for may be created by the competitors themselves.</li>
<li>The amount of things we are competing for may be artificially constrained (this is basically a roundabout way of describing the way we often create markets using public or non-rivalrous goods).</li>
<li>The current allocation of things we are competing for may have important effects on the ability of competitors to compete for more of them (this is basically a roundabout way of describing things like economies of scale, network effects, path dependency, and first-mover advantage).</li>
</ul>
</div>
I want to take these ideas and look at what they can mean for competition situated in various contexts. What does it mean for a <em>country</em> to be competitive as compared with a competitive <em>business</em> or a competitive <em>worker</em>? I don't want to give a full account of how competition in these areas works, rather to think about why the points I've made above are important.<br />
<br />
In all three of these competitive arenas, competitiveness comes from offering more value than competitors are offering. Typically 'offering value' means selling similar (aka substitutable) products or services more cheaply than a rival worker, firm, or country. Although these three realms of competition are similar in the abstract, they compete to provide that value in different ways. Today I'll write about competition in national economies.<br />
<br />
<h4>
National Economies</h4>
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National economies compete with each other in a number of ways, most prominently in trying to attract international investment or run a positive balances of trade (by exporting more final and intermediate goods than they import from other countries). They also compete in other ways, by attracting immigrants or more overtly through war, but I will just consider trade and investment here.<br />
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Both investment and trade flows fluctuate significantly over time, and they do so in both net as well as gross terms. This fluctuation--the resizing of the pie the economies are competing for--can have important macroeconomic consequences for countries. These kind of changes in trade and investment are well-enough understood by economists, but they can be missing from popular rhetoric in important ways. For example, protectionist policies during the great depression are thought to have exacerbated the economic downturn, but were still pursued because lawmakers (evidently) failed to see how decreasing US imports could also eventually decrease US exports.<br />
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It is worth noting that since the 1970s competition between nations has had a sort of "equalizing" mechanism that <i>should</i> serve to dampen competition: free-floating exchange rates. In theory this means that nations are unable to trade their way into a larger stock of value--they are only able to trade for the value of what they are producing (or can convince other countries they will produce in the future). In basic neoclassical economic theory, therefore, countries are not "in competition" in the way that firms or workers are. In practice, however, trade flows can be heavily dependent on skewed terms of value exchange if exchange rates do not adjust flawlessly (or exist, in the case of Europe).<br />
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National economies also reflect the uncertainty of competition (e.g. nations may embark on ambitious industrial planning that fails to come to fruition in the long term) and the "self-determining pie" nature of the value being competed for (e.g. nations may fail to create enough domestic demand to grow internally without relying on trade export surpluses, like China). These misconceptions about competition can have important consequences, like wasted public investment or beggar-thy-neighbor pursuit of competitiveness that ignores the importance of domestic demand. Attempts to promote competitiveness need to reflect the complexities of the real world.<br />
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Finally, competition between national economies is also powerfully affected by network effects, path dependency, institutional strength, and other forces acting on markets outside of normal supply/demand issues. This has been recognized by economics but it has been a struggle to put it into practice for many countries: some countries have been successful, such as the "asian tigers" and more recently the BRICs, but others have been unable to harness these positive externalities for their competitive gain. Economics has incorporated some of these ideas into standard trade models but overall they fail to capture many ideas useful for policy.potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com0tag:blogger.com,1999:blog-378357508228064599.post-54697901374273886582013-04-22T12:15:00.001-04:002013-04-22T12:21:02.407-04:00Production as Privilege: Thoughts on Competition<div dir="ltr" style="text-align: left;" trbidi="on">
<em>I started writing a post about mercantilism, but I realized I needed to do a bit more thinking about competition first. The last post on this blog was talking specifically about the effect of competition on how people consume, but this is looking more generally at the nature of competition within market. This post is part of a <a href="http://www.potentialeconomics.com/2013/03/production-as-privilege-rationalization.html">series</a> called Production as Privilege, looking at the way that production relates to the distribution of wealth.</em><br />
<em></em><br />
<h4 style="text-align: left;">
Conceptual Tool #11: Understanding Competition</h4>
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Competition is a fundamental concept of economics but it is usually restricted to a simplistic market framework of buyers and sellers, or game theoretical choices and payoffs. Let's think a bit harder about what competition is: what we are competing for, who is doing the competing, what are we competing with, etc...<br />
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To start with, here are two basics we should be able to agree on:<br />
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<em>Competition requires at least two entities.</em> Usually these are firms or individuals, but we can also think about competition between other aggregations: classes, industries<em>,</em> cities or countries.<br />
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<em>Competition must be</em> for <em>something that is limited in some way. </em>In economics these are somewhat unhelpfully known as "rivalrous" goods. The point is that they can run out, and each competitor can't have as much as it wants. We don't have to compete for air unless we are underwater.<br />
<em></em><br />
There are several ways in which we think about competition that are misleading.<br />
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First of all, we tend to think about it in static terms, with competitors gunning for a set quantity of stuff. This is rarely true: competitors are often chasing after expanding or contracting amounts of stuff--where "stuff" can be anything from wind-generating capacity to customers who want to purchase typewriters. People have recognized this dynamic element of competition and it gets reflected in business strategies like "<a href="http://en.wikipedia.org/wiki/Blue_Ocean_Strategy" target="_blank">blue ocean</a>" strategy.<br />
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Once we recognize the dynamic nature of competition, it becomes clear that competition has a probabilistic component as well. We often compete to optimize our returns in the future, and such returns necessarily involve uncertainty. We compete for uncertain outcomes when we buy raffle tickets that might win us a new TV, or when we create <a href="http://en.wikipedia.org/wiki/Free_trade_zone" target="_blank">export-processing zones</a> that we hope will attract foreign investment.<br />
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The third thing we often fail to recognize, and this is perhaps the most interesting point I'm making, is the way that <em>competitors' own actions can shape the availability of what they are competing for</em>. That is, competitors may be competing for pieces of the pie, but the pie may expand or contract based on the actions of the competitors. This is because the fungibility of money converts many different types of competition into competition for value, and we produce value in order to exchange it for other value. This is not a trivial point: it is the crux of Adam Smith's (and all modern free trade supporters') argument against mercantilism (see <a href="http://econospeak.blogspot.com/2013/04/of-property-and-mercantilist-fallacy.html">here</a>) and for the productive power of self-interest.<br />
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Fourth, we also forget that much of competition is for things that are artificially scarce. Certainly most newer digital products are kept artificially scarce through copyrights and other legal protections. What's less commonly understood is that compound interest on loans creates scarcity as well, by asking people to pay back more than their original amount. Some bankruptcies are thus actually required because not everyone can win. (Although it's also true that new loans can be created; so I'm not sure I fully understand the implications here.)<br />
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Finally, while economics is well acquainted with problematic economies of scale and network effects, the extent to which there is free entry into markets and truly open competition is often overstated. Mass retail markets are dominated, perhaps by definition, by massive economies of scale. Many primary and non-consumer markets are basically oligopolistic--one rationale for deregulated trade is that national-level oligopolies will be replaced by more efficient international competition. And digital markets have entirely different economies of scale than the world has ever seen, where the tools of production and maintaining scarcity take almost any form we can imagine. Here is a fun <a href="http://www.youtube.com/watch?feature=player_embedded&v=4VuYiEbGQ9Q">TEDx talk</a> highlighting network effects and describing the way we misunderstand them when thinking about economics.<br />
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When we put all these ideas together we get a picture of competition that doesn't look much like the basic perfect competition/monopolistic competition/oligopoly/monopoly models. Instead there is a dynamic ecosystem of not only firms and workers, but also financers and consumer preferences, and an infinite variety of markets that defy easy classification. Economists know this, of course--they just don't know a precise, mathematical way to think about it.</div>
potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com2tag:blogger.com,1999:blog-378357508228064599.post-81843962181519832292013-04-08T10:44:00.000-04:002013-04-09T12:22:01.629-04:00Competitive ConsumptionEconomics loves competition. It's what makes the economy go 'round. Without it, markets would fall flat on their faces and buyers and sellers would have their arms twisted into horrendous deals. We'd have to pay even more for our mobile phone service than Canadians do.<o:p></o:p><br />
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Most of the attention paid to competition, though, is about competition among firms. The basic types of market competition in econ101 are types of supplier competition. We <a href="http://www.theatlantic.com/magazine/archive/2013/04/the-chartist/309271/" target="_blank"><span style="color: blue;">worry</span></a> about <a href="http://en.wikipedia.org/wiki/Monopoly" target="_blank"><span style="color: blue;">monopoly</span></a> often enough, but who ever lost sleep about <a href="http://en.wikipedia.org/wiki/Monopsony" target="_blank"><span style="color: blue;">monopsony</span></a> in a consumer market? (the standard monopsony example is a single employer in a labor market)<br />
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On the consumer side, it's just assumed that there will be many consumers and they will all want to pay as little as possible. These assumptions are generally true, of course, but they oversimplify things because they gloss over <em>why </em>we consume.<o:p></o:p><br />
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Economics 101 starts with the idea that we have unlimited wants, and then adds on some qualifying assumptions about how we prefer variety and get diminishing marginal utility from any single type of good. The idea of unlimited wants justifies not only what happens in the economy, but how we understand the whole enterprise of economic theorizing. They rationalize endless growth and the focus on consumption and tell us what economic policy is supposed to do: meet our unlimited desires with scarce resources.<o:p></o:p><br />
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This is handy logic, but it only takes you so far. You end up with a lot of consumers who want more of certain things because... well, because they want more of them. Metaphorically, we can think of this model as the "sky's the limit" model of consumption: more is always better. (And if something does start giving you decreasing marginal utility, it just means you want more of something else.) This is the common logic used by economists, but there is less explanatory power here than there might first appear. It does not explain, for example, why happiness does not increase beyond a certain income threshold.<br />
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How else are we to understand the motive behind our desires, then? The idea I'll call <em>competitive consumption</em> has some interesting explanatory power, and it also has some far-reaching implications for economic theory.<br />
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Competitive consumption is socially-motivated consumption, in a somewhat simplistic want-to-have-more-than-the-other-guy manner. We can also think of it as relative or comparative consumption, or consumption motivated by inequality. Inequality <em>is</em> a powerful motivator, as the right likes to argue. It doesn't have to be somebody getting paid 483 times more than I do, though--just a dollar an hour is enough to drive me into paroxysms of jealousy.<br />
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Standard economic theory has developed tools to represent competitive consumption, through ideas like positional goods and prestige markets. But these ideas are seen as exceptions to the norm, when in fact they can be fundamental forces in wide range of markets.<br />
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Positional goods are things that we buy because they are scarce--often artificially scarce--and their being scarce confers social status on us. Some goods, like loaves of bread perhaps, are not really positional goods, but most things have at least a positional component. Some are literally positional: a penthouse apartment or a front-row seat. Others are positional because the required expenditure of real resources keeps them scarce, such as weekend ski-trips to Vail or sailing around in giant yachts. Still others are positional because they are kept scarce artificially, like diamonds. Or, like spots in an elite school, by means of reputation and concentration of resources and attention. ?????<br />
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Most goods have a positional aspect because that aspect is what motivates, to a large degree, our consumption. Better position is often tied to a real increase in "use value", although economics has as good as given up trying to distinguish what that means. More expensive cars might drive better or more expensive fashion might look better, but these goods are also imbued with social value and that is a powerful reason they are consumed.<br />
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Mere quantity can have a powerful impact on positionality as well. Having two or three or four cars can be handy, but it can also show status. Of course, people don't go around saying "I can't believe Rupert only has one car! What a low-class person!" But your kid might hate you if you can't take him to all his after-school activities because your spouse drove the car to work, and the other parents might think you are not a good parent. Use value has its own social implications.<br />
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Producers are quite good at exploiting consumers' competitive urges and are able to extract consumer value by providing various "qualities" of a different product that are available at different prices. Alcohol is a perfect example, with quality increasing <em>almost </em>imperceptibly as prices skyrocket. Countless brands also have clearly differentiated models (of cards, computers, headphones, suits, etc...) that are less a reflection of higher costs of production than of the nice infinite ladder of consumer prestige. No matter what your budget is, you can spend it all--and it will never be enough. Part of the reason is simply because we have an extremely wacky (and malleable) <a href="http://www.potentialeconomics.com/2013/03/price-pricelessness-and-behavioral.html" target="_blank">idea of what things are worth</a>, but many expensive things have inherent value <em>purely through their expensiveness</em>.<br />
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What does it mean to take positional goods seriously and really look at the implications of competitive consumption?<br />
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First of all, competitive consumption doesn't mean that consumers are competing to buy a given good--it means that consumers consume for competitive reasons. An extreme conclusion of this idea is that demand can be infinite without increasing welfare. We can consume and consume but our utility, on the aggregate, cannot improve if utility is based on our relative position.<br />
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Second, static equilibrium analysis seems woefully inadequate. If goods are positional, then the demand for a good can (and probably does) change every time it is purchased. That is, my purchasing a new BMW might <em>raise the overall demand for BMWs </em>(or lower it, more likely)<em>. </em>This is Keynes's "animal spirits" writ large across the entire consumer economy. For marketers this idea may be common sense, but economists rarely take it seriously.<br />
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But if we do try to do static analysis, what might our market even look like? A demand curve for a given good is supposed to represent the aggregation of different individuals' "willingnesses to pay", with a few people willing to pay a lot for a good and a lot willing to pay a little for it. So it slopes downward:</div>
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<a href="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEg_tkgulkqZxpbVdiaLKFW-wfee5CWC14tF1-ZwxF1Mbql_WXwcVLGA840c-wDMHoqm5k1giB0HBAtPckqz1946yu8x2jmbQ3u7v57dvEvPAI5f0DtxmRWvfXg-HEGyNiFP5S3txEMB7Pw/s1600/demandcurve.GIF" imageanchor="1" style="margin-left: 1em; margin-right: 1em;"><img border="0" height="315" mta="true" src="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEg_tkgulkqZxpbVdiaLKFW-wfee5CWC14tF1-ZwxF1Mbql_WXwcVLGA840c-wDMHoqm5k1giB0HBAtPckqz1946yu8x2jmbQ3u7v57dvEvPAI5f0DtxmRWvfXg-HEGyNiFP5S3txEMB7Pw/s400/demandcurve.GIF" width="400" /></a></div>
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Competitive consumption, however, could drive consumers to create that downward slope <em>simply for the sake of having a downward slope. </em>That is, with no variation in preference or anything to do with <em>willingness</em>, demand would still sort itself along a curve reflecting little more than the <em>ability</em> to pay. Everybody wants to be at the top, but they can only get as far as their incomes will take them. (Note that this is looking at demand in the aggregate; assuming consumers have varied preferences, then demand with individual product markets may still be differentiated based on how much consumers want a product. But if we look at all products together we can assume people simply want "more".)</div>
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This has important implications for social welfare analysis. Economists generally just look at the area under the curve and call that the social welfare effect. (See the wikipedia article on <a href="http://en.wikipedia.org/wiki/Harberger%27s_Triangle#Harberger.27s_triangle" target="_blank">deadweight loss</a> for some nice graphs.) There are already powerful critiques against this type of analysis (Brad DeLong's "<a href="http://delong.typepad.com/sdj/2009/04/hoisted-from-the-archives-a-non-socratic-dialogue-on-social-welfare-functions.html" target="_blank">non socratic dialog</a>" is one of my favorites), but if the downward slope of the demand curve is simply an artifact of consumer competitiveness, it leaves welfare analysis on even flimsier footing. If one person's utility is another person's disutility, consumption adds no value.</div>
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As mentioned above, the constructed nature of the demand curve is not a passive phenomenon. Marketers understand the competitive nature of consumption and are happy to oblige and encourage consumers' pursuit of utility in a zero-sum game.<br />
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Competitive consumption is not the only reason for consumption, but to the extent that it does reflect real motives for consumption it can have real implications for economic theory. And thus also for economic policy. Taking competitive consumption seriously requires us to rethink our ideas about equality and welfare, and the effect of consumption on happiness and aggregate utility. We have built our thinking and our policies on assumptions about human psychology and welfare that are suspect, and we will have a difficult time escaping from our current growth patterns without a better understanding of who we are and what we need. One way to do that is to take competitive consumption seriously.</div>
potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com0tag:blogger.com,1999:blog-378357508228064599.post-87048081260923809582013-04-02T16:09:00.001-04:002013-04-02T16:09:38.369-04:00The Good, The Bad, the Optimally Efficient in a Given Environment Subject to Change<em>This is a guest post today from our friend "Blue". Enjoy!</em><br />
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<span style="font-family: Times New Roman, serif;"><span style="font-size: small;">Economists are often accused of physics envy. This is likely valid. Often the alternative suggested is meteorology, implying a limited capacity to forecast the future. That may be a useful perspective as well, but I’d like to suggest a better, and what I consider more realistic, academic brother: genetics. </span></span><br />
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<span style="font-family: Times New Roman, serif;"><span style="font-size: small;">Like the economy, genetics is concerned with the survival of entities in a competitive environment. They both attempt to explain the behavior of those entities in terms of what is efficient or useful for their success. They both use lots of statistics and game theory, so at minimum you know they are fun.</span></span><br />
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<span style="font-family: Times New Roman, serif;"><span style="font-size: small;">Let’s back up, dear reader, and discuss the motivation for this discourse. Many economists believe that what economists are doing is describing inherent laws about the way exchanges work. The Austrians often call this “<a href="http://en.wikipedia.org/wiki/Praxeology"><span style="color: blue;">praxeology</span></a>” which they roughly define as the deductive human behavior in exchanges (for “exchanges” think big markets where people are buying and selling stuff). Though they will say otherwise, the “human” part is not that all important. Rather the exchange </span></span><span style="font-family: Times New Roman, serif;"><span style="font-size: small;"><i>itself</i></span></span><span style="font-family: Times New Roman, serif;"><span style="font-size: small;"> gives rise to necessary actions a human must take. Thus the study of economics is, in their view, a study about the immutable characteristics of these markets, the laws that govern them and so on. </span></span><span style="font-family: Times New Roman, serif;"><span style="font-size: small;">We see when these exchanges/markets are functioning efficiently and say ‘this is good.’</span></span><span style="font-family: Times New Roman, serif;"><span style="font-size: small;"> Functioning well is good. The naturalness of it is right, it to behave as we are naturally intended to. While the Austrians are the easiest to pin down here, many, and in a way most, economists are sympathetic to this view, subconsciously if not explicitly. This is the physics envy, the aspiration of mathematical purity, the dogma.</span></span><br />
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<span style="font-family: Times New Roman, serif;"><span style="font-size: small;">Then there are the economists who say “whoa there buddy, ol’ pal, maybe it is not so immutable after all.” <a href="http://www.nytimes.com/2009/09/06/magazine/06Economic-t.html?pagewanted=all&_r=0"><span style="color: blue;">They suggest</span></a> that perhaps the mathematical elegance of these endeavors should be put to the test. Let’s see how all that deduction matches up with the data, which is ultimately how physicists test their theories anyways. Of course it turns out most if not all of the theory is just awful at describing the real world. Capital flowing from poor countries to rich? Deregulation leading to more stability? </span></span><br />
<span style="font-family: Times New Roman, serif;"><span style="font-size: small;"></span></span><br />
<span style="font-family: Times New Roman, serif;"><span style="font-size: small;">And these economists say, “well, maybe the immutable aspirations are a little too high, let’s just talk about what’s going on in the short run.” Here the models and theory are a little more useful. They seem to tell us how things work when everything is going fine, but of course they never see the crisis until it is upon us. Like meteorologists we know some immutable characteristics of what we are talking about, much as they know how high and low pressure systems will affect weather patterns, but when any specific storm will come is harder to say. This, to some extent is a legitimate aspiration for economists. Like detecting low pressure air, precipitation, temperatures, macroeconomists can say “ah, yes, look at all that accumulating debt, that hyper-inflated stock market and the exchange rate risk, a crisis is likely.” This seems to me useful. Though ultimately more art than science, it may at least have some claim to legitimacy. What is good then is nothing more than nice weather. We don’t want storms, we want pleasant skies and maybe the occasional breeze for kite flying.</span></span><br />
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<span style="font-family: Times New Roman, serif;"><span style="font-size: small;">But now, I’d like to turn to my proposal. Genetics. Why is this a better or more appropriate aspiration for economists? Let me first persuade you of its relevance. Both studies, economist and genetics, concern themselves with the dynamics involved in the competition of many heterogeneous entities in a given environment. Yes, genes look to replicate and businesses look to accrue profits, but exchange babies for wealth and we are starting to get there. Funny that both genes and socially constructed business strive for survival, immortality really, perhaps there is something philosophical to be said there, but I digress. </span></span><br />
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<span style="font-family: Times New Roman, serif;"><span style="font-size: small;">And what, then, if anything, can genetics teach economics? In genetics what is good in one environment may spell disaster in another. The march of evolution is not necessarily progress as much as it is adaptation. It’s contingent, conditional, contextual, the </span></span><span style="font-family: Times New Roman, serif;"><span style="font-size: small;"><i>opposite</i></span></span><span style="font-family: Times New Roman, serif;"><span style="font-size: small;"> of immutable. Indeed what evolution fosters is not necessarily good or bad; it simply creates utility at a given time and in a given environment. What is natural has no sanctity, it will save your life in the forest only to crush you on the grass lands. What is natural is neither good nor bad, it is simply happenstance, the accrual of millions of interactions between entities, their environment and randomness. </span></span><br />
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<span style="font-family: Times New Roman, serif;"><span style="font-size: small;">And so then the deep questions, the first principles of economics, are open once again for debate. What does a good economy look like? Just because something is good for an individual, does that necessarily mean it is good for society? What are meaningful metrics for these things (the average lifespan of a small business is 8.5 years)? Can a business <a href="http://www.bbc.co.uk/news/business-16611040"><span style="color: blue;">live forever</span></a>? What is similar or different about how humans and businesses interact with the giant, dynamic, evolving, idiosyncratic, instructionally contingent monetary environment we call the economy? Indeed.</span></span>potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com0tag:blogger.com,1999:blog-378357508228064599.post-72772880830430090622013-03-30T10:35:00.001-04:002013-03-30T10:55:59.241-04:00At the Root of the Matter<br />
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The acts of exchange or accumulation are the building blocks from which economics is constructed, but the building blocks themselves contain the relationships of mutuality and domination that lie within, or below, all social life. At the root of the matter lies man, but it is not man the "economic" being, but man the psychological and the social being, which we understand only imperfectly.</blockquote>
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<a href="http://en.wikipedia.org/wiki/Robert_Heilbroner" target="_blank">Robert L. Heilbroner</a> ~ <em><a href="http://en.wikipedia.org/wiki/The_Worldly_Philosophers" target="_blank">The Worldly Philosophers</a> (6th Ed.)</em>potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com0tag:blogger.com,1999:blog-378357508228064599.post-70256583720402757412013-03-29T11:59:00.000-04:002013-03-29T13:25:31.367-04:00Price, Pricelessness, and Behavioral Economics<div class="separator" style="clear: both; text-align: center;">
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<a href="http://home.williampoundstone.net/" target="_blank">William Poundstone</a><em> ~ Priceless: The Myth of Fair Value (and How to Take Advantage of It)</em><br />
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<a href="http://priceless-the-book.blogspot.com/" target="_blank">Book Blog</a> ~ <a href="http://www.amazon.com/Priceless-Myth-Fair-Value-Advantage/dp/B004HB1D6S" target="_blank">Amazon</a> ~ <a href="http://www.abebooks.com/products/isbn/9780809078813/9730364492" target="_blank">AbeBooks</a></div>
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<em>Priceless</em> is a book about price. It is pop science writing: the author is an author, not a behavioral economist. The pace is quick and most of the chapters, all of which have clever titles, are just a few pages. It eschews most pretense of grand narrative; the bulk of the book is examples of how the "prices that make our world go around are not so solid, immutable, and logically grounded as they appear." But there is enough there to tie these examples, and the stories of the social scientists that studied them, together<br />
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Poundstone opens with some eye-catching experiments and real-world examples, and then moves into section on psychophysics. I had never even heard of the discipline, but it turns out to have some revealing insights into the way we think and the way we percieve the world. From Poundstone's explanation, psychophyics is more or less dead today not because it was wrong, but because it basically exhausted its possibility for learning new things about the world.<br />
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Psychophysics established that our perceptions are based on a logarythmic (as opposed to linear) scale that, perhaps surprisingly, is the same across different people. If you think something is twice as bright, I think it is twice as bright as well. We may not think it is equally bright to begin with, but the relative change will be roughly the same.<br />
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Psychophysics established quite firmly that our perceptions are relative. You have probably seen optical illusions that convinced you something was darker or lighter than it was, based on what it was next to. All of our perceptions are that way: we judge things based on comparisons, not some absolute scale.<br />
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Psychophysics also established the phenomenon of "anchoring", which is one of the primary focuses of <em>Priceless</em>. Anchoring is when I change the way you percieve something by showing you something else first: I show you my wallet full of $100 bills and then give you $5, versus I hold up a penny and then give you $5. William Hunt was one of the first to notice the phenomenon and determined it could be influenced by "recency, frequency, intensity, area, duration, and higher-order attributes such as meaningfulness, familiarity, and ego-involvement."<br />
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Poundstone links the lessons of psychophysics directly to our perceptions of price. Part Three of the book is essentially a background on behavioral economics, and Poundstone does a nice job of tracing the development of different theories through various psychologists and economists. It's mostly a story of how the idea of an irrational individual came to be accepted by economists, culminating with Prospect Theory and the ultimatum game.<br />
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<a href="http://en.wikipedia.org/wiki/Prospect_theory" target="_blank">Prospect Theory</a> is an economic theory with a solid technical/quanitative bases, and as such it is described in more mathematical/economics terms over at Wikipedia. Poundstone summarizes it in three points:<br />
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<li>we use <em>reference points</em> to judge the value of things, so our judgements are fundamentally relativistic;</li>
<li>we have significant <em>loss aversion</em>, so we generally would rather have $10 than a 50% chance of having either $0 or $20 (typically we would only take the 50-50 bet if we were offered $30, or where the gain is double the loss);</li>
<li>and, there is a "<em>certainty effect</em>", which means that there is a big jump in value from say, 90% to 100% (much greater than, say the difference between receiving $90 or $100).</li>
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One implication of prospect theory is that we may not have consistent preferences, an important quality of the rational individual economists prefer to model.<br />
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The rest of the book is basically stories of different experiments based on the <a href="http://en.wikipedia.org/wiki/Ultimatum_game" target="_blank">ultimatum game</a>. The ultimatum game is where one player is told to divide $10 between them and the second player, and the second player can either accept the split or reject it. If the second person accepts the offer, they both get the amount the first person proposed; if the second person rejects the offer, neither player gets anything. There are hundreds of variations of this experiment and many of them are fascinating, but the last half of the book consists of little else besides bite-sized descriptions of these or related experiments. There are also a few chapters that read like an editor was encouraging the author to add some content for people who might want to read Priceless as a manual for pricing.</div>
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The book is not, however, anything like a manual. It certainly contains plenty of useful information, but the presentation is more a history of scientists and ideas than a handbook for pricing consultants. In that sense the parenthetical note in the title is a bit misleading, but it wasn't why I was reading the book so I won't complain. Overall Poundstone is an engaging writer and I enjoyed the book quite a bit. <br />
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It made me think, though.<br />
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There are two ways to understand the behavioral economics that <em>Priceless </em>is talking about. Behavioral economics is sometimes portrayed as proof of a fundamental flaw in more mainstream neoclassical economics, a set of evidence that undermines the most basic premises of rational-individual-based theory. But at other times behavioral economics appears to be just an interesting set of addenda--some lab experiments that help us fine-tune our neoclassical models, and the idea of 'bounded rationality' that advises against assuming too much about how people thing.<br />
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Which is it? Fundamental change or just smoothing out some rough patches? And how do we decide? And if it <em>is </em>fundamental change, how do we ensure that the necessary change is understood and acted upon?<br />
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Something [prominent behavioral economist] Dan Ariely said in a <a href="http://www.youtube.com/watch?v=IW5wXm9vNFg&feature=youtu.be" target="_blank">talk I was listening to</a> the other day may clear things up. Neoclassical economics is fundamentally about examining static situations where many, many things are taken as given. Behavioral economics uses two key insights from other domains of social science to push against these neoclassical assumptions. First, the idea that social forces can have far-reaching impacts on markets, and second the idea that social actors create and alter their environment--including the markets they engage in.<br />
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In some situations, ignoring these two ideas may make perfect sense. Consumers <em>do</em> act in rational ways sometimes. But in other situations, social forces and the ability of actors to change their environment can render static equilibrium modeling absurd. Of course, economists make an effort to think about whether their results make sense on the level of individual studies. The problem is that once you have too many assumptions you start to exit the real world, and you may find a significant effect that is in fact insignificant relative to other (usually less measurable) factors.<br />
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These studies, realistic or not, tend to accumulate and coagulate into simplified worldviews like "markets are self-correcting". Behavioral economics challenges these views by lending credence, in a gradual way, to complexities that belie common assumptions. They give people the ability to ask, "Why did you assume XYZ when you were trying to explain this when we know things could be X, H, or F?"<br />
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Our economy is glued together by prices: they are the information that allocates our resources and drives our labor. But prices can only be as coherent as the people that pay them. We need to pay close attention to both the vagaries of pricing and the limits of what prices can represent. Please forgive the trite ending: there are some things money can't buy.</div>
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</div>potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com1tag:blogger.com,1999:blog-378357508228064599.post-4572868901322995812013-03-21T11:29:00.002-04:002013-04-01T09:31:32.789-04:00Production as Privilege: Rationalization<em>This post continues our <a href="http://www.potentialeconomics.com/search/label/production%20as%20privilege" target="_blank">series</a> examining the connection between production and the distribution of wealth and resources. The series has grown far out of proportion and dragged on far longer than originally intended. But far more exciting than all that is the fact that we have scored an original comic from artist </em><a href="http://www.davidyoderisawesome.com/" target="_blank"><em>David Yoder</em></a><em>. He has a bunch of</em> awesome <em>comics to read or buy on his site, and you should really check them out. With a bit of luck, this will not be the last comic you see here.</em><br />
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Conceptual Tool #10: Rationalization</h4>
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One of my favorite ways to understand the last few centuries is as a process of rationalization, or as it is sometimes known, "McDonaldization". Rationalization is an important idea both in academia (particularly in sociology) and in actual <a href="http://en.wikipedia.org/wiki/Efficiency_Movement#Germany">real-world history</a>. Economics as a discipline, however, has only touched on certain aspects of rationality, and has failed to see it as a connected process.</div>
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Rationalization as an academic concept came from Max Weber, who used the Prussian buraucracy as a model. More recently, <a href="http://en.wikipedia.org/wiki/Ritzer,_George">George Ritzer</a> has repackaged the idea of rationalization in his book <em>The McDonalization of Society</em>, using (you guessed it) McDonald's as the archetype of rationality.<br />
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<em>Defining Rationality</em><br />
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So what <em>is</em> rationality? It is a concept ripe for circular definitions--we tend to use it interchangably with "reason", but what does reason mean? What does it mean to be "irrational" or to "rationalize" an idea or a process? Etymologically it is similar to "ratio", which means means to calculate or measure. But when we use the word rationality we are talking calculating or measuring a certain thing: I think the idea hinges on <em>causality</em>.<br />
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The best definition I can come up with is: thinking or acting in ways that accurately link cause and effect. By extension this implies that when we act in the world we do so coherently, in ways consistent with our intent and motivation.<br />
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In sociology, rationality has a much more specific meaning, which Ritzer describes and I will copy <a href="http://en.wikipedia.org/wiki/Rationalization_(sociology)#Consumption">from Wikipedia</a>. There are four components:<br />
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1. <strong>Efficiency</strong> - Choosing the best, quickest, or least difficult means to a given end.<br />
2. <strong>Calculability</strong> - Emphasis on the quantitative aspects of the product being sold.<br />
3. <strong>Predictability</strong> - Involves the customer knowing what to expect from a given producer of goods or services.<br />
4. <strong>Control</strong> - A way to keep a complicated system running smoothly. Rules and regulations that make efficiency, calculability, and predictability possible.</blockquote>
The theme of measurement and calculation is obviously still strong in the sociological definition, and you can understand rationalization as the process of optimizing the function of the organization--that is, making the operation as consistent with intent as possible. Optimization is achieved through the the four components above, all of which are related to measurement in a way, but which together <em>change the organization itself.</em><br />
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In practice, rationalization is a process of <em>breaking down</em> production, and <em>reconstituting</em> it in standard ways (e.g. written down and quantified) that are more successful. Success can be economic or military or anything you can measure or compare. It is not inventing new things; it is inventing new ways to do old things that are more successful beause they are able to achieve the intended ends.<br />
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<em>Rationality and Economics</em><br />
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I have been writing about efficiency and its relationship to productivity a <a href="http://www.potentialeconomics.com/2013/02/production-as-privilege-toaster.html">good</a> <a href="http://www.potentialeconomics.com/2013/01/production-as-privilege-productivity.html">deal</a> lately, so I will not elaborate much here. Suffice to say, efficiency is a well-trodden topic in economics (but it is perhaps <a href="http://www.potentialeconomics.com/2013/02/the-costs-of-efficient-thinking.html">more helpful to think in terms of cost reduction</a>). The other three aspects of rationality--calculability, predictability, and control--are concepts economics gives a short shrift.</div>
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Calculability is certainly fundamental to economics itself, and something on the mind of every economist, but the idea has a different focus in economics than in sociology. Ritzer is talking about the ability of <em>businesses</em> to quantify aspects of their own business and the world they are interacting with: measuring customers served or the time it takes to fry a burger. Economists think a good deal about what can be quantified and how to do it, but they do not think much about businesses <em>creating</em> quantifiability, which is what rationality is all about.<br />
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Similarly, the issue of predictability comes up in economics all the time (particularly in terms of risk and uncertainty for businesses) but this is only tangentially linked to the idea of predictability relevant here. The economic ideas of risk and uncertainty play into business decisions on a micro level, but only so far as the external envinronment influences the business. Ritzer is talking instead about the internal processes of the business and how similar iterations of it can be--iterations over space (McDonald's franchises that serve the same food in the same way) or over time (I want to get the same burger I ordered last time). In economics, these issues typically get lumped into the infuriatingly vague "tastes and preferences" category, or the "value and costs" category which is almost as bad.<br />
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Another aspect of predictability, however, is starting to make an impression on economics through the (re-)incorporation of institutional factors into economic models. Predictability is seen as an important feature of market regulation and the provision of public goods. "Personalistic" transactions, based on individual relationships, differ from <em>rational</em>, impersonal transactions based on standardized rules and procedures. Rationalized bureaucracies facilitate well-functioning markets.<br />
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Control in the sociological sense crops up in economics primarily through the idea of the "principal-agent" problem, which boils down to the question: "how do principals get agents do do what principals want instead of what agents want?" Principal-agent issues are typically understood as incentive issues, and more control, or control over the right things (pay, bonuses, production targets), is typically seen as the solution. If an economist is looking specifically at intra-firm dynamics, he or she might model interactions using game theory, but in most cases these dynamics are assumed away and firms are assumed to be single units.<br />
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In a sense, control can be understood as a component of technology, which economics has famously little understanding of. In years past "technology" was referred to as "technique", which hints at the more human and social aspects: teachers use classroom management "techniques", for example, to control their students.<br />
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The difference between control in economics and control in sociology is one of focus. Economics for the most part assumes away control--be it embedded in the firm organization or regulatory structure of a market. Sociology takes a more political view of control and all the ways in which different social forces can influence people's decisions and their views of the world.<br />
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<em>How Rationalization Works</em><br />
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Ritzer does not focus on the causal relationships between the different aspects of rationalization (e.g. does predictability cause control or vice versa?). Instead he emphasizes that efficiency, predictability, calculability and control are all necessary, intertwined processes. The processes work together to provide businesses with an assortment of advantages. (Given that businesses are typically controlled by shareholders or owners, however, it may be better to think of these processes as providing shareholders and owners with more advantages.)<br />
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To understand the advantages of a rationalized business, simply compare a McDonald's hamburger to a local diner or even a home-cooked meal. Cooking at home is labor intensive--you have to go the store, purchase the meat and buns, start the grill, form the patties, and grill them each yourself. If you are not too good with the grill this can be a stressful process. A local diner is more specialized in that they are making more food at once, and can benefit from the accompanying economies of scale. Where a local diner has more trouble is in ensuring that the customer's expectations are precisely met each time--a different cook on the grill might make burgers differently, or someone just passing through town and eating at the restaurant might not know if the burgers were any good. Nor are local restaurants able to benefit from the economies of scale that franchised restaurants are able to--McDonald's presumably has more clout in the beef market, more money to spend advertising at the Superbowl, and more money to pay taste consultants to formulate the ideal blend of coffee than Bob's Local Diner.<br />
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The processes at McDonald's are better established, with established routines for each part of the burger's production. A diner, you could say, does not "produce" a burger. Obviously, not all of these things about the way McDonald's works are always advantages, and a burger on your grill may have certain qualities over one from McDonald's will never match. The point is that there are rational business reasons, given the way our economy is set up and our technology and people's preferences, for a business like McDonald's to exist.<br />
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The fast food business is only one example. In government bureaucracies, rationalization also plays an important role. Look at how the government regulates the transportation market. The system is made calculable through hundreds of different measurements: speed limits, point systems for driving infractions, and minimum ages are just a few of the obvious ones. The system is made predictable through clear rules that both drivers and police officers have to follow, and it is made efficient through changes through these laws. Laws also govern control: who can arrest you and who can be arrested; who can control vehicles and must be restrained by a seat belt (everyone).<br />
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Market economies based on laws, rights, and regulations must be administered, and the administration works best if it is done by a strong, capable bureaucracy with the correct incentives. While you may scoff at anyone calling the local Department of Motor Vehicles efficient, they do their job: if you fulfill the requirements you will get the license. Success or failure does not depend on whether you know the teller or whether they think you gave them a sufficient bribe. They may piss people off with wait times, but it is a fair system.</div>
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Rationalization can help organizations understand and respond to the world they operate in, but the idea is best understood as an internal process that governs actions and relationships within the organization. We can think of entire countries as organizations as well. Constitutional republics like the USA are rational not because they are able to conduct foreign policy that accurately reflects their self interest; they are rational because authority is vested in legal documents (their constitution and laws) and not people. Legal documents are predictable (they say more or less the same thing to anyone who reads them) and create calculable situations by specifying majorities or other criteria for power. The US constitution has many deliberate <em>in</em>efficiencies, but the difficulty in creating or changing laws can reduce other costs--such as unjust imprisonment.<br />
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<em>Rationalization, Production and Distribution</em><br />
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Rationalization tends to take the productive process and break it into little pieces, because it is possible to arrange those peices in ways that better achieve the desired goals. The peices themselves might be simplified, but the simplified parts can facilitate a complex whole. (Complexity is not the goal, but a large complex system may outperform small simple ones.) The little pieces are often enhanced by mechanical technology or organizational structures.<br />
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The archetypal factory of the industrial revolution, the textile mill, is a perfect example of this. Instead of individual people spinning their own wool from their own sheep and weaving on small looms at home, large factories of workers weave processed cotton ceaselessly on giant steam-powered mechanical looms.<br />
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Rationalization is a specific way of understanding the technical improvements and cost reductions I have written about in <a href="http://www.potentialeconomics.com/2013/01/production-as-privilege-productivity.html">several</a> <a href="http://www.potentialeconomics.com/2013/02/the-costs-of-efficient-thinking.html">previous</a> <a href="http://www.potentialeconomics.com/2013/02/production-as-privilege-toaster.html">posts</a>. Once you understand the idea of rationalization you start to see it everywhere, and you start to see how reactions to many other social issues are in a sense reactions to rationalization.<br />
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But we are concentrating here on production and distribution. The idea of rationalization is powerful because it starts us thinking about <em>how</em> technological change can remake the productive process--in ways that ultimately shape distribution. What ways am I talking about? Rationalization changes the skills required by workers, often polarizing low and high-skill jobs into lower and higher-skill jobs. It changes, often increasing, the nature of control in workplaces. It increases the scale of businesses. And it lowers costs in a myriad other ways, ways that have a wide range of consequences. These effects of rationalization have been some of the most powerful forces shaping distribution in the past two centuries.<br />
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Rationalization can cause <strong>skill polarization</strong> by reducing the required skill for some jobs while increasing the required skills for others. Think of the skill gap between the McDonald's burger flipper and the McDonald's food scientist with a PhD in Mouth Feel, and how they are the rationalized evolution of your dad standing outside by the grill. Unskilled labor is easily replaceable and cheap, and thus good for the bottom line. This is particularly important because of the scale of operations--the vast majority of employees are near the unskilled end. The skilled worker can command higher prices because they are inherently scarcer (due to things like PhD admissions). The polarization is not symmetrical; rather it ends up being a pyramid without a middle with a large cohort of unskilled work and a smaller tip of skilled labor.<br />
<br />
Technology as a general concept may have an ambiguous effect on skills required of workers: it can deskill work or it can eliminate work (depending on the type of technology); it can make workers more productive or less necessary (depending on the demand for the product); and it can increase or decrease the skills required of workers. A cash register might eliminate a worker's need for math skills; but it might also increase the need for a worker to multitask, pouring drinks and assembling orders while answering a customer's question about calorie counts. Similarly, an advanced robot in an automobile factory might simplify employees' jobs to the push of a button, or it might require them, or a quarter of them, to know advanced robotic programming.<br />
<br />
But technology in the context of rationalization is less ambiguous. As noted above, <strong>control</strong> itself can be understood as a technology: the processes rationalization touches are deliberately simplified, dumbed down and subjected to more control--partly because control enhances predictability, partly for its own sake, and partly because quantified, simplified processes make control easier. Although I do not have data on this, I would expect the overall trend within industries to be that of skill polarization. <br />
<br />
Control can impact distribution of wealth and resources in ways that are not well understood by economics. Economics focuses on markets, but markets can only provide limited accountability in terms of price competition and demand. Control requires either hierarchy or some other accountability structure, which is why firms essentially shelter their internal operations from the market. As an example, pay is an important part of <a href="http://understandingsociety.blogspot.com/2012/10/how-to-think-about-work.html" target="_blank">establishing hierarchy</a>, and pay may be linked more closely to status in the hierarchy than with required effort, skill, or even supply and demand.<br />
<br />
Rationalization also tends to shift control not to people but to written rules and procedures, shrinking the amount of people who actually shape the institution. Managers may have little to do with the actual design and processes of the business, instead simply enforcing what has been written. This standardization can have enormous benefits in terms of productivity and the ability of the organization to adapt, grow, and succeed. But the powerlessness of people within an organization can also be problematic not only in term of wages but in terms of rationality itself: anyone who has ever worked for a large organization quickly realizes there are some things that do not make sense but are nevertheless done "because that's just how we do things around here."<br />
<br />
A third fundamental way in which rationalization impacts the production and distribution is through <strong>increasing scale</strong>. As somebody once said (apparently this is attributed to Stalin but no one is sure who said it first), "Quantity has a quality all its own." Scale changes many things, but it is not immediately clear what.<br />
<br />
Scale in business has the tendency to concentrate profits near the top because that is basically the point of the corporate model of control. If you have 100 different independently owned burger restaurants, those profits stay in each restaurant. But with McDonald's, a portion of those profits go back to corporate headquarters and then on to investors. McDonald's is a franchise, so in some ways the scale is actually not as large as other corporate entities. But the point is that at McDonald's, operations are standardized in cost-minimizing ways, ways that facilitate the minimization of employee wages across the board.<br />
<br />
Assuming that there are certain market sectors that become crowded with competitive entrants, we can also think of scale as prohibiting new experimentation and diversity. A national market for fast food or groceries or auto parts or anything controlled by two or three huge players is a market that is difficult for small players to enter and compete within. Larger businesses have more leverage in the labor marketplace (as well as many other markets) and are less likely to be susceptible to institutions that increase worker's ability to gain a part of the profits. For example, if the person who controls a basic wage rate for someone flipping burgers is far away at corporate headquarters, there may be less pressure to pay a living wage than if the business owner lives down the street.<br />
<br />
In the end rationalization is primarily about <strong>reducing costs </strong>in the above-mentioned ways. Scaling up, increasing control, and decreasing the skill required of workers all help lower costs to organizations. This can be a very good thing: if cars were built by hand by a single craftsman nobody would have a car. But costs can also be a zero-sum game. Institutions that have become <em>too</em> rational can end up being <em>irrational</em> for a large portion of the people they affect, because their rationality is too narrowly considered. This is a major point of Ritzer's. Rationalization may come with costly externalities, like pollution or repetitive stress injuries, or it may simply shift costs in ways that benefit some at the expense of others.<br />
<br />
~~<br />
Rationalization is not going away; if anything it is only in its infancy. Organizations like Samasource specialize in <a href="http://samasource.org/mission/how-we-work/" target="_blank">breaking down work even further</a>, rationalizing processes that were not previously economically feasible. Control over employees is also evolving, as new technologies help <a href="http://www.wired.com/wiredenterprise/2013/02/quantified-work/all/" target="_blank">quantify</a> the <a href="http://jehiah.cz/one-two/" target="_blank">previously unquantifiable</a>. And technology continues to encroach on scarce abilities.<br />
<br />
As our technologies, our workplaces and our work change, we need to use all the tools at our disposal to understand the economic as well as the social impact of those changes. The concept of rationalization helps reveal the how the forces shaping businesses can have social impacts as well as distributional consequences.potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com0tag:blogger.com,1999:blog-378357508228064599.post-53394897948109397942013-03-15T14:18:00.000-04:002013-03-15T14:18:03.896-04:00SubscribeWould you like to get post updates via email?<br />
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potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com0tag:blogger.com,1999:blog-378357508228064599.post-49312452598838064802013-03-14T11:21:00.002-04:002013-03-14T11:24:59.430-04:00Let Them Save CakeBlogger <a href="http://noahpinionblog.blogspot.com/">Noah Smith</a> has an <a href="http://www.theatlantic.com/business/archive/2013/03/how-to-fix-americas-wealth-inequality-teach-americans-to-be-cheap/273940/">article on wealth inequality</a> up in The Atlantic's business section. The article uses the excellent recent <a href="http://www.youtube.com/watch?v=QPKKQnijnsM">viral YouTube video on wealth inequality in the US</a> as a starting point to make a number of observations and recommendations. Smith has a wealth of fascinating posts on his site and a much better understanding of most things economic than I do, so the article caught me by surprise.<br />
<br />
Leading off with an unflattering photo of overweight Americans eating dinner in a house crammed with artifacts of their presumed overconsumption, the article goes on to argue that (1) wealth inequality isn't <em>quite </em>as bad as it appears in the video, (2) redistribution of income could help make the wealth gap better because poor people would save more and take more risks that would benefit them, and (3) income distribution is not enough and we need to teach poor people how to save more effectively.<br />
<br />
Strictly speaking, these ideas are well-founded in theory and evidence and I agree with them. But nonetheless the analysis ends up in a very wrong-headed place for several reasons.<br />
<br />
First of all, I really think the article is missing the point about the massive concentration of wealth at the top. Maybe saving more would help, but how much? How much of a dent in the inequality graph would it make if the lower quintiles starting saving their entire incomes, for example? Would we get back to where we thought we were? Or where we would like to be?<br />
<br />
Second, helping people save might theoretically increase their wealth, but it's a zero-sum game with their current consumption. Weighing welfare effects between present consumption and future consumption is ambiguous here because it is extremely subjective, so I suppose it makes sense to stigmatize one of the alternatives (<em>yuck! those people are fat!</em>).<br />
<br />
Instead, shouldn't we understand the problem as being too little income in the lower quintiles first, and understand the lack of savings as an effect of that unequal income? The consumers <em>would</em> save more if they had more money to save. Obviously there are countries with far lower incomes with far higher savings rates, but there is a good argument to be made that relative incomes are what matter. Or at least that<em> </em>expectations about living standards is what matters, which brings us to the next point.<br />
<br />
Third, the article ignores the idea that credit has been extended and saving decreased amid working and middle class Americans precisely <em>because of </em>the stagnation in real wages. Whether or not you see this as a deliberate political strategy as <a href="http://www.amazon.com/Fault-Lines-Fractures-Threaten-Economy/dp/0691152632/">Rajan</a> does (along with others more toward the left), the availability of consumer credit <em>has</em> increased in dramatic, important ways (housing loans, education loans, credit cards) since income inequality started rising in the 1980s. And this has kept a lot of people happy. Or fed. The availability of credit has also been a primary driver of demand, without which our economy would be at a far greater standstill today.<br />
<br />
There are certainly improvements to be made in wealth inequality through better financial literacy. But ignoring the political economic context for the drastic rise in credit, and moreover ignoring the importance that credit plays in demand, seems problematic--if not vindictive.<br />
<br />
Most frustrating, however, is the article's blithe passivity toward the workings of the market. There is no mention in the article regarding what seems to be the fundamental problem: an income distribution that is almost as revolting as the distribution of wealth. Maybe this distribution <em>is</em> simply the innocent working of a "natural" capitalist economy and we are powerless to make it better, but probably not. Probably there are plenty of <a href="http://stateofworkingamerica.org/subjects/wages/?reader">good reasons</a> why the wage gap has grown in recent years. Many of those reasons we can do something about; ignoring them just helps those at the top keep raking it in.potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com3tag:blogger.com,1999:blog-378357508228064599.post-10976956522861513652013-03-04T09:54:00.001-05:002013-03-06T16:33:53.810-05:00Charlie Munger on "24 Standard Causes of Human Misjudgement"<em>I listened to </em><a href="https://a%20talk/"><em>a talk</em></a><em> </em><em>yesterday by </em><a href="http://en.wikipedia.org/wiki/Charlie_Munger"><em>Charlie Munger</em></a><em>, a bigshot at Berkshire Hathaway (Warren Buffett's investment firm). (<a href="http://www.metafilter(via).com/125555/The-Psychology-of-Human-Misjudgement-1995-talk-by-Charlie-Munger"><em>via</em></a><em>)</em></em><br />
<em><br /></em>
<em>I took notes on the talk because it was interesting and conducive to note taking (being a list and all). They are not out of line with the content of this blog so I thought I would post them. Although I would recommend listening to the talk if you have time. In a way, most of it is common sense, but I think framing these tendencies and addressing them in this way can be very helpful.</em><br />
<br />
<h4>
24 Standard Causes of Human Misjudgement</h4>
<br />
<strong>1. Underrecognition of the power of reinforcement/incentives</strong><br />
He also talks about "Man With A Hammer Syndrome", the tendency of people look at everything through the same lens.<br />
<br />
<strong>2. Simple psychological denial</strong><br />
<br />
<strong>3. Incentive-caused bias (both in your own mind and also of trusted advisor--where it causes agency costs) (avoid cognitive dissonance)</strong><br />
This is essentially the Upton Sinclair quote: "It is difficult to get a man to understand something when his job depends on not understanding it."<br />
<br />
<strong>4. Bias from consistency and commitment tendency (particularly biased toward expressed and hard-won conclusions) </strong>(This is a particularly strong bias.)<br />
Once you think or say something you are biased toward it in the future.<br />
<br />
<strong>6. Bias from pavlovian association</strong><br />
E.g.:<br />
* coke wants to associated with lots of good things<br />
* persian messenger syndrome--still exists: bad for the messenger<br />
* raising price of alternative product often raises sales because we think higher priced is better<br />
* what causes information <br />
* bias from skinnerian conditioning--skinner created superstitious pidgeons <br />
* the accounting system here is really important--loose accounting standards are just inviting bad behavior<br />
<br />
<strong>7. Bias from reciprocation tendency (including the tendency when on a roll to act as other people expect)</strong><br />
It is easy to be a patsy for "compliance practicitioners".<br />
E.g.:<br />
Salespeople ask for a lot and then back off: experiment where people are asked to take juvenile deliquents to the zoo 2 for two days? Ok how about just one? (this technique gets way more people to sign up than just asking for one day a week)<br />
<br />
<strong>8. Bias from overinfluence from social proof (from conclusions of others)</strong><br />
"better to be roughly right than precisely wrong" ~ Keynes<br />
<br />
<strong>9. Bias from contrast-caused distortions in perception, sensation, and cognition</strong><br />
We percieve things on a contrast scale with quantum effects.<br />
E.g.:<br />
* magicians remove watches<br />
* cognition mimics sensation--people are manipulating you all day long<br />
* marriage<br />
* frog in boiling water <br />
<br />
<strong>10. Bias from over-influence from authority</strong><br />
<strong><br /></strong>
<strong>11. Bias from deprival super-reaction syndrome</strong><br />
<strong><br /></strong>
<strong>12. Bias from chemical dependency--distorts all other reality very easily</strong><br />
<strong><br /></strong>
<strong>13. Bias from gambling compulsion</strong><br />
<br />
Variable reinforcement and Skinner (he gives a gambling example--but is clear that this bias is not only reason gambling is popular--e.g. people love to pick their own numbers)<br />
<br />
<strong>14. Liking distortion</strong><br />
<strong><br /></strong>
<strong>15. Disliking distortion</strong><br />
Man with a hammer syndrome and Skinner himself: 4-5 of these tendencies combine to create this syndrome.<br />
Revised quote: "In the last analysis every profession is a [subconscious psychological tendency] against the laity"<br />
<br />
<strong>16. Bias from the non-mathematical nature of the brain and its tendency to get probability wrong</strong><br />
We have whole heuristics of misjudgement, like "availability". The availability [e.g. of coke] changes behavior. But it isn't the lack of availability that distorts your judgement.<br />
You have to train yourself to run down this list--these tendencies make thoughts unavailable because you jump to new conclusions.<br />
Example of the trusted employee that does something wrong/illegal and you don't punish them because of many combined biases.<br />
If we don't then evil behavior spreads.<br />
<br />
<strong>17. Bias from overinfluence from extra-vivid evidence</strong><br />
<strong><br /></strong>
<strong>18. Mental confusion caused by information not arrayed in the mind and theory structures creating sound generalization developed in response to the question why.</strong> Also misinfluence from information that apparently but not really answers the question why also failure to obtain deserved influence by not properly explaining why.<br />
"you've got to array facts on theory structures answering the question why"<br />
If you want to pursuade somebody you have to tell them why (show people incentives for them).<br />
<br />
<strong>19. Other normal limitations of sensation, memory, cognition, and knowledge</strong><br />
<strong><br /></strong>
<strong>22. Stress induced mental changes, small and large, temporary and permanent.</strong><br />
<br />
Pavlov's dogs had total reversal of their conditioning under stress.<br />
<br />
<strong>23. Other common mental ilnesses and declines including the tendency to lose ability through disuse.</strong><br />
<strong><br /></strong>
<strong>24. Mental and organizational confusion from "Say-Something Syndrome".</strong><br />
E.g.: honey bees do incoherent dances when the nectar is straight above the hive because they don't have a genetic program to describe that direction.<br />
You have to make sure people with "say something syndrome" don't affect decisions<br />
<br />
<strong>He provided a bit of a FAQ at the end. Questions included:</strong><br />
<br />
What happens when these tendencies combine?<br />
Answer: The combination greatly increases the power to change behavior.<br />
-Alcoholics Anonymous<br />
-Milgrim experiment<br />
-contrast principle, commitment and consistency tendency<br />
-"lollapalooza effects"<br />
-"what you should search for in life is the combination"<br />
-McDonnell Douglas airliner evacuation disaster--they did a disasterous test twice: decided to do it, authorities told you to do it, incentive-caused bias, etc... <br />
-Open-outcry auction<br />
-Institution of the board of directors<br />
<br />
Isn't this list improperly tautological?<br />
Answer: yes. And there is overlap, etc...<br />
<br />
What good is knowing these things?<br />
Answer: These tendencies are partly good--in fact, they are mostly good rather than bad and that's why they are programmed into us by physical and cultural evolution. This thought system is very useful in spreading good thinking and good conduct.<br />
Some of where these tendencies can be used to good effect:<br />
-Use of simulators in pilot training<br />
-Clinical training in medical schools. "watch one, do one, teach one"<br />
-Rules of the US constitutional convention --totally secret, no votes until the final vote<br />
-Use of "granny's rule": you don't get the ice cream unless you eat your carrots--do the unpleasant and important first<br />
-HBS's emphasis on decision trees -- looking at elementary probability<br />
-Postmortems at Johnson & Johnson<br />
-Darwin paid always extra attention to the disconfirming evidence<br />
<br />
What special-knowledge problems lie buried in the list?<br />
Answer:<br />
-Paradox<br />
"damn the paradoxes"<br />
the more people learn about it, the more attenuated the effects of the list get<br />
--the manipulation still works even though you know if you do it<br />
<br />
How should the best of psych and econ interrelate?<br />
Answer: There are two views of the relationship between psychology and economics.<br />
-thermodynamics model--some economists like thermodynamics model<br />
thermodynamics model is overstrained--knowledge from these different soft sciences has to be reconciled--behavioral economists are bending econ rules<br />
-equinoxes: the world would be much easier for climatologists if there wasn't a little wobble. in many ways psych may just add a little wobble<br />
<br />
<strong>Miscelaneous Direct and Indirect Quotes from the Talk:</strong><br />
"all reality has to respect all other reality"<br />
<br />
"the lord is subtle but not malicious"<br />
<br />
"wanted to get rich so he could be independent"<br />
<br />
people are trained to follow the ideas of others in academiapotenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com0tag:blogger.com,1999:blog-378357508228064599.post-34902029757270177112013-02-16T18:07:00.002-05:002013-02-19T10:30:26.429-05:00The Costs of Efficient Thinking<a href="http://www.blogger.com/null" name="_GoBack"></a>I have posted <a href="http://www.potentialeconomics.com/2012/09/all-kings-theories-and-all-kings.html">previously</a> about problems associated with simplification. This post continues that discussion looking at more specific problems.<br />
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One way economists simplify things is with an archaic tool known as <i style="mso-bidi-font-style: normal;">mathematics</i>. Economists use math to measure things and relate them to each other. Math helps make things easier to think about by creating new, simplified ways to understand them. For example, once you understand the concept of elasticity, it is easier to think about “elasticity of demand” than “the amount that demand will change in response to a change in price.” It is likewise easier to think about productivity than it is to think of “the ratio of output per person.”<o:p></o:p><br />
<br />
It is good when terms are precisely defined with equations, but even well-defined concepts can be problematic. First, complex concepts may fall victim to a sort of "sanitizing conflation", when a concept made up of other concepts takes on a simplified meaning that ignores one or more of its constituent factors. Concepts may be bundled into packages that distract us or focus our attention in different ways than the individual concepts might. Another way to think of this problem is that even when a model (or even an even simpler definition of an economic concept) is accurate, the way it represents the world may be misleading.<br />
<br />
Misleading representations can be seen everywhere when you start looking. Even in such a field as accounting, where relatively rigorous and standardized quantification exists for most everything, simple headline concepts such as “profit” can obscure important details about internal costs. In economics, the idea of productivity suffers from sanitizing conflation when we focus on the beneficial effects of increased output and competitiveness instead of the possibility of job losses.<br />
<br />
Santizing conflation is particularly likely when the different factors in a derivative concept have different levels of quantifiability. For example, economists generally agree that both technology and education levels are important determinates of productivity, but education is relatively quantifiable while culture is a nebulous concpt that is difficult to fit in an equation. Education therefore shows up in far more studies as a relevant variable.<br />
<br />
The second problem that concepts even very precisely defined by other concepts may face is that the original concepts themselves <a href="http://ineteconomics.org/blog/inet/economics-not-math">may not be coherent or exactly defineable</a>. If you are enjoying the fancy labels we can call this "indefinite origination". Indefinite origination is a huge problem in economics because even the most exact data on something as straightforward as, say, unemployment may in fact be problematically defined. In the USA there are <a href="https://en.wikipedia.org/wiki/Unemployment#United_States_Bureau_of_Labor_statistics">six different measures of unemployment</a>! The question of which one to use has enormous influence on anything you might use the concept of unemployment for.<br />
<br />
But one does not always need math to simplify things—if you do it right you can get along fine with hand-wavey obfuscations. Economists are often guilty of this, certainly, but economics also does a decent job in many instances of making assumptions explicit. A good economist is far better equipped to understand the full details and implications of an economic concept than, say, your average journalist or voter.<br />
<br />
One common hand-wavey simplification is “efficiency”. Efficiency has <a href="https://en.wikipedia.org/wiki/Efficiency#In_economics">several exact mathematical definitions</a> in economics, but those definitions do not have much to do with everyday usage in business or politics. Efficiency is generally assumed to mean cost reduction or increased speed or output, but it is silent on how those reductions or increases come about. Much like productivity, effiency gains can stem from improved processes and eliminated waste, or they can come from <a href="http://prospect.org/article/if-labor-dies-whats-next%20see%20section%20reduced%20pay%20and%20benefits">reduced pay and benefits</a> (scroll down to section II).<o:p></o:p><br />
<br />
Instead of efficiency, I have tried to start thinking more directly in terms of costs. This is helpful because costs—even costs that are eliminated—are easier to see than “efficiencies”. It is also clearer that many costs are two-sided: my employer’s cost is my salary, whereas efficiency for an employer does not necessarily have anything to do with me. Costs are also clearer to think about in both monetary and non-monetary terms, because they are “something” instead of “a reduction in something or an increase in something else.”<br />
<br />
I plan on writing more about efficiency and costs in a subsequent post, but for now I think I have made the points I want to make. Be careful with complex concepts because we have a hard time comprehending them in their full complexity. Math is an powerful and essential tool to help your thinking, but it structures your ideas in a rigid framework that may or may not be appropriate to the real world. And beware the multitude of these concepts that have already entered your thinking and understanding of the world.potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com1tag:blogger.com,1999:blog-378357508228064599.post-34182634932099596242013-02-07T12:45:00.001-05:002013-02-13T18:17:26.807-05:00Production as Privilege: A Toaster<span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';"><em>This post is part of a </em><a href="http://www.potentialeconomics.com/search/label/production%20as%20privilege"><em>series</em></a><em> trying to breathe new life into the connection between production and distribution. We veer off a bit here from standard economic theory, using a recent art project as a jumping-off point.</em></span><br />
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<span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';"><o:p><img alt="" class="alignleft size-full wp-image-721" height="226" src="http://www.thomasthwaites.com/folio5/wp-content/uploads/2010/10/Toaster_Project1-PhotoCredit-Daniel_Alexanderx630.jpg" title="Toaster_Project1-PhotoCredit-Daniel_Alexanderx630" width="320" /></o:p></span></div>
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<span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';"><a href="http://www.thetoasterproject.org/page2.htm"><span style="color: purple;">Project Website</span></a> ~ <a href="http://www.ted.com/talks/thomas_thwaites_how_i_built_a_toaster_from_scratch.html">Ted Talk</a><o:p></o:p></span></div>
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<span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';">(You should probably visit at least one of these links for this post to make sense.)<o:p></o:p></span></div>
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<span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';">This toaster, something of an absurdist take on the modern economy, is a striking example of the interdependent nature of production. Econ professors particularly enamored with capitalism enjoy pointing to such examples (a simple pencil, designed in the Germany, assembled in Vietnam, made with South American graphite and African cedar--miraculous!) as proof of the amazing organizing power of trade and free markets. That power <i>is</i> pretty cool, but there is another lesson to be learned from this complexity.<o:p></o:p></span></div>
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<span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';">The flip side of these miracles is that, on our own, we are incredibly inefficient. This was the lesson of Adam Smith's Pin Factory, where workers can produce far more pins if they work within a coordinated division of labor and each concentrate on a single task.<o:p></o:p></span></div>
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<span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';">But where does a pin factory come from? Or more generally, how do we achieve the organizational sophistication and capital concentration required to make pin factories work? Factories do not simply spring up spontaneously--they must be planned and built, workers must be hired and managed, and capital must be purchased. In order to create these efficiencies due to specialization we have to organize ourselves, work with others, and pool risks and resources. Our ability to do these things does not derive wholly from ourselves or from some anarchic state of nature--instead we rely on an institutional framework that renders our economic actions coherent.<o:p></o:p></span></div>
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<span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';">The case of the toaster is illustrative. To create a modern, efficient toaster--and to create the market networks that have facilitated its creation--we have built an almost incomprehensibly complex web of national and international laws enforced by armies and set by political processes. These laws enable specialization and help minimize the cost of resources, including labor.<o:p></o:p></span></div>
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<span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';">To be sure, there has been trade around the world for centuries and even millennia. But it was not hunter-gatherers or subsistence farmers producing or distributing these goods--it was complex systems of city-states, empires, and other hierarchies of power. Today, where laws do not bound and regulate markets, other forms of power do.</span><br />
<span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';"></span><br />
<span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';">Exactly how much and what type of power is required for organization and efficiency is a major economic debate of modern times, although it is rarely framed in these terms. Political ideologies from communism to libertarianism make explicit or assumed arguments as to the most efficient levels of organization and how much that efficiency is worth when weight against other values, such as individual liberty or environmental sustainability.<o:p></o:p></span></div>
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<span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';">These arguments manifest themselves in the laws, the enforcement, and structures of power governing the organization of our economy. Conservatives in the USA, generally trusting of the market and distrustful of government, take a bare-bones approach to economic policy. Their professed preference is for a smaller fiscal footprint of the government in the economy and limited government regulatory influence as well. Liberals (in the American sense) are more critical of private forms of power, such as corporations, and view the use of government power to actively shape market outcomes more favorably. These differences are substantive but nevertheless dwarfed by differences between the US system and other economic systems seen in the past century, such as Soviet-style communism or the vast variety of economic systems found in the developing world.</span></div>
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<span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';">~~<o:p></o:p></span></div>
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<span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';">What was it again that these political perspectives and associated market-shaping policies had to do with making bread brown and crispy?<o:p></o:p></span></div>
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<span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';">Presumably, the exorbitant price tag on the homemade toaster ensures that it will never be sold (at least not to be used as a normal toaster). Perhaps upon further attempts the artist/producer would improve his toaster production and bring down price somewhat, but we can assume it would never be able to compete on price or quality with the typical goods it would sit next to on the shelf at Wal-Mart or Tesco. In effect, the artist will not be able to make money producing normal toasters on his own because he is unable to produce enough value that people will pay him for. His labor costs too much, and therefore he does not possess the requisite productivity to effectively compete.<o:p></o:p></span></div>
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<span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';">Like any producer, requisite productivity for a toaster maker derives from two things. First: the costs relative to how much people value his toaster—it is unlikely he will find many buyers for £3,000 toasters. And, second: the costs for his toaster relative to his competition’s costs—if there was no-one making a cheaper toaster, he would perhaps have been able to sell one or two to rich people. As it stands, however, there are clearly <a href="http://www.amazon.com/s/ref=sr_st?keywords=toaster&qid=1359647798&rh=k%3Atoaster%2Cn%3A1055398&sort=-price">classier toasters</a> available for less price. </span></div>
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<span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';">The existence of value that people will pay someone for is a function of scarcity, which in turn is a function of both supply and demand. This is another way to think about who can sell toasters: individual producers of toasters are unable to supply goods at market prices because large, highly organized producers integrated with the world market are able to produce much more cheaply, bringing down the costs.<o:p></o:p></span></div>
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<span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';">But is it not a good thing if specialized production brings down costs? What is the problem here?<o:p></o:p></span></div>
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<span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';">One</span><span style="mso-bidi-font-family: 'Times New Roman'; mso-bidi-font-size: 12.0pt; mso-fareast-font-family: 'Times New Roman';"> potential area for problems arises from the interaction between power and cost structures. Like power, cost is often a zero-sum game: "there's no such thing as a free lunch." Organizational power leads to economic power, but this economic power may leave weaker players with the shorter end of the stick. The organizational power of corporations allows us to achieve impressive economies of scale in many markets (including the breakfast food preparation appliance market). But it also tends to concentrate economic power at a level far above the individual.</span><br />
<br />
~~<br />
<br />
We cannot make toasters from scratch for a living. If browning bread is our true passion, we can join the specialization chain at some point, designing electrical toasting circuits or stylish new chrome shapes to sit on our countertops. This chain is brilliantly inexpensive and can benefit consumers, but the organizational power required to maintain specialization also concentrates economic power within the production process.<br />
<br />
Hopefully I am being somewhat clear. The problem is not that people are getting more productive and therefore costs are going down. <em>That is good</em>. If you are more productive you can just sell more and make more money.<br />
<br />
The problem is also not that we have to specialize. Specialized producers could still trade their production for a fair market value.<br />
<br />
The problem is when the only way to be more productive is by through organization, and that organization itself exerts power in the market (or over the part of the market it shelters). This power can shape the way costs (and I am talking particularly about <a href="http://crookedtimber.org/2012/07/01/let-it-bleed-libertarianism-and-the-workplace/">labor and social costs</a> here) are distributed, squeezed, or eliminated within the chain of production.</div>
potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com0tag:blogger.com,1999:blog-378357508228064599.post-86613789063022901822013-01-23T19:59:00.001-05:002013-01-24T10:46:06.240-05:00Structlical Problems?<div class="MsoNormal" style="margin: 0in 0in 0pt;">
Unemployment in the United States is still high: it has been recovering, but very slowly. Compounding the unemployment problem is the increasing wage inequality that has been ongoing since the early 1980s. There are a number of theories floating around that try to address these issues; the simplest way to frame the unemployment debate is as a question of <em>structural</em> versus <em>cyclical</em> unemployment. Structural unemployment is when jobs cannot be filled because people do not have the right skills or access to jobs for other reasons (such as location). Cyclical unemployment is due to the business cycle and businesses laying off workers because the macroeconomy is doing poorly and businesses are not investing.<br />
<br />
Last week I <a href="http://www.potentialeconomics.com/2013/01/links-january-13th.html">linked to several papers</a> that attempted to address these issues:<br />
<br />
<a href="http://www.nber.org/papers/w18386.pdf">http://www.nber.org/papers/w18386.pdf</a><br />
~ NBER working paper arguing that unemployment is currently cyclical.<br />
<br />
<a href="http://www.epi.org/files/2012/wp295-assessing-job-polarization-explanation-wage-inequality.pdf">http://www.epi.org/files/2012/wp295-assessing-job-polarization-explanation-wage-inequality.pdf</a><br />
~ EPI paper arguing that changes in wages were not due to skill-biased technological change (SBTC); instead they were due to government policies.<br />
<br />
In the past two weeks both of these papers have gotten a bit of a reaction. Most notable is the back-and-forth between Washington Post columnist Dylan Matthews and one of the EPI paper's authors, John Schmitt. Matthews argues that the SBTC is a <a href="http://www.washingtonpost.com/blogs/wonkblog/wp/2013/01/12/inequality-is-rising-should-we-blame-robots-or-the-government-or-both/">bigger deal than the paper makes it out to be</a>. Schmitt comes replies with a <a href="http://www.cepr.net/index.php/blogs/cepr-blog/job-polarization-2000s">half-critique, half-reframing of the issue</a>. Schmitt's main argument is that <em>in the last decade</em> SBTC has been almost non-existent according to some of the original data that prompted the paper that the EPI paper was mostly critiquing. Both articles are a good read.<br />
<br />
I also came across a rather harsh <a href="http://www.innovationfiles.org/no-structural-change-in-the-economy-are-you-kidding/">critique of the NBER paper</a> by Rob Atkinson of The Innovation Files/<a href="http://itif.org/">ITIF</a>. Atkinson argues that the large (continued but increasing) slide in manufacturing employment over the past decade is clear evidence of structural change. On the other hand, EPI's <a href="http://www.epi.org/publication/unemployed-outnumber-job-openings-all-sectors/">Economic Snapshot</a> of the day looks a lot like cyclical unemployment, with a graph showing how the number of job seekers dwarfs the number of job openings in every industry.<br />
<br />
There are two points to be made.<br />
<br />
The first is to point out the somewhat tangled political allegiances and the politcal conclusions attendant to the sides of the economic debate. If unemployment is cyclical, government stimulus (fiscal or monetary) can have an impact by prompting businesses to invest more and thus hire more. If unemployment is structural, government spending intended to stimulate the economy in the Keynesian sense will not encourage businesses to invest.<br />
<br />
It's interesting to see who is arguing what here, however. The left of the political spectrum is generally pro-stimulus, and for policies that are explicitly pro-poor (welfare, etc...). Arguments for stimulus depend on cyclical unemployment being an important factor. But a focus on cyclical unemployment arguments detract from longer-term structural arguments. An example of this complexity is the way that Atkinson's post manages, somehow, to the attack the liberal wing of the neoclassical economic (basically neokeynesian) consensus, from a centrist pro-business standpoint, using arguments many leftists would be comfortable with.<br />
<br />
This argumental jujitsu leads to my other point, which is that politics has a hard time with economic complexity. Most academic economists would support a wide range of policies from a wide range of the political spectrum. Economic findings, if economists are lucky enough to find any quantitatively sound conclusions, often make claims like "30% of the increase in X can be explained by Y". Such claims are underwhelming even if extremely important because having two causes is far less convincing than having just one. We like to think in absolutes--structural or cyclical--because it's simpler for us and for anyone we are trying to get to listen to us.</div>
potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com2tag:blogger.com,1999:blog-378357508228064599.post-78503327693606910872013-01-21T11:29:00.001-05:002013-01-21T11:29:58.633-05:00Production as Privilege: Productivity<em>This post is the fourth in
a <a href="http://www.potentialeconomics.com/search/label/production%20as%20privilege">series</a>
trying to breathe new life into the connection between production and
distribution.</em><br />
<br />
<h4 class="western">
Conceptual
Tool #7: Productivity</h4>
<br />
A simple model: Three people
are catching fish using their hands. It is hard work, fish are
slippery, and they work all day to catch just enough so that they are
not not hungry. But then: they get spears they can use to catch fish
faster. With a spear they can catch bit more--enough that two of them
can produce enough food for all three people.<br />
<br />
Yay! Right?<br />
<br />
More is usually better,
especially in economics. And this situation sounds good: more free
time to frolic in the meadows, paint pictures, or raise the kids.<br />
<br />
But it is not quite so simple.
While a productivity increase may seem like an unadulterated good
thing, there are plenty of ways productivity increases can fail to
live up to their potential--or even make things worse. As I have been repeating in my last few
posts, the relationship between production (productivity) and
distribution (who gets the productivity) is a complicated one.<br />
<br />
Economics as a discipline has
a tendency to skirt around this complexity via the following logic:
perfect markets have efficient outcomes, imperfect markets can be
fixed, and any further distribution issues are political. It is
certainly not true that economists are never interested in
distribution, but there is a general tendency to assume that
increases in efficiency and productivity will nevertheless be good
for the general population. Or from a different angle, that good things cannot
happen in an economy without increases in productivity. Besides,
worrying about distribution smacks of Marx, and every economist knows
that his labor theory of value was wrong.<br />
<br />
I should mention also that
distribution is not the only potential problem with changing
productivity. If you have some time to burn this <a href="http://jeffweintraub.blogspot.com/2005/09/jared-diamond-on-why-invention-of.html">classic
essay</a> by Jared Diamond is a good example of why productivity can
be a bad thing for many more reasons than just its distributional
effects. A <a href="http://www.nakedcapitalism.com/2013/01/devolution-welcome-to-the-world-where-things-dont-work-well.html">recent
post at Naked Capitalism</a> highlights some other reasons that
productivity can be problematic, even disastrous, in more modern
societies. Distribution is the primary issue I am focusing on in this
series of posts, however, so I will not go into much detail regarding
other implications of productivity.<br />
<br />
~~<br />
<br />
Productivity, defined as
output per person (or per person-hour) and illustrated in the fishing
example above, is an important idea in modern economics. When
economists or politicians talk about economic growth--and economic
growth is generally assumed to be a fundamental prerequisite for a
well-functioning and competitive economy--they mean increasing
aggregate productivity. Productivity is important for individual
businesses on the micro level as well, although they do not always
view it in precisely these terms.<br />
<br />
The fact that productivity is
a ratio of two other things makes it a bit weird. Increasing
productivity in an economy can result from two causes: either
increasing output (the numerator) or decreasing workers (the
denominator). Individual businesses typically think in terms of
profit instead of productivity, but the connection is easy to see.
Increasing profit comes from increased revenues or decreased costs;
revenues are derived from the sales of output, and labor makes up a
large portion of business costs. Instead of a ratio, profit is a
defined using subtraction, but it can also be constructed as a ratio
in various financial metrics.<br />
<br />
In any case, if our economy
assumes continued growth and relies on increasing productivity to
fuel that growth, growth can come from either making more things, or
making things with less people. If fishers start using spears,
productivity will increase whether everyone keep fishing and catches
enough fish for 4.5 people, or one of them stops fishing and two
people catch enough fish for 3 people--in productivity terms, the
amount is the same because it is being measured per person. This may
seem trivial, but in fact it has important consequences.<br />
<br />
~~<br />
<br />
We can apply the idea of
<a href="http://www.potentialeconomics.com/2013/01/production-as-privilege-scarcity-and.html">scarcity</a>
to productivity increases. In the above model, in the beginning, the
supply of fish exactly met the demand. When the fishers started using
spears, though, it decreased the scarcity of fish by increasing
supply.<br />
<br />
How does this decreased
scarcity affect distribution? Frankly, we do not have any idea. At
this point the story could go almost anywhere, because we have not
given enough background or fleshed out enough of the model.<br />
<br />
Let's brainstorm what could
happen. The three fishermen could simply work a third less. They
could take turns fishing and get every third day off. One fisherman
could sit around all day while the others fished. One fisherman could
do other work. They could all keep fishing all day and save their
extra fish, or trade them or even throw them away. They could all
keep fishing and the biggest fisherman, or maybe the fisherman who invented
spearing, could make the others give him their extra fish. They could
fight about who gets to not fish. Two fishermen could gang up on the
other one and make him fish all of his time while they split the
remaining free time. Or the two fishers could keep fishing while
making the third do worse work that benefited them, like gutting the
fish. Their new more productive fishing techniques could deplete the
fish stock leave everyone starving. Having extra fish to throw away
could become a badge of honor and they could start fishing more and
more until until they died of exhaustion.<br />
<br />
Certainly many of these sound
contrived. When one looks back at actual human history, though, the
easy answer--that people will evenly divide the gains--appears just
as contrived as the any other story. Just because a better outcome is
<em>possible</em>,
does that make a productivity increase an inherently good thing? Does
it make sense to divorce the productivity increase from the new
economic and social forces it unleashes?<br />
<br />
~~<br />
<br />
It may be useful to use the
brainstormed scenarios to suss out the forces, dynamics, and
assumptions that contribute to different outcomes.<br />
<br />
As we noted above,
productivity can mean people working less or people making more
things (or some combination of the two). These two options are easily
seen in the scenario list: in most scenarios the fishermen are doing
less fishing.<br />
<br />
Whether they continue fishing
even though they are producing more fish than they themselves currently demand
depends on whether there is a demand for fish <em>beyond</em>
their immediate need. This additional demand can come from the
fishermen's own need in the future (if they can save the fish) or
from other people that will trade for fish. It is also possible that
their demand for fish could grow, if the fishermen started wanting
fish for more than just eating--a new kind of demand for the same
product.<br />
<br />
In the scenarios where they
stop fishing and increase productivity by decreasing the amount of
people fishing, it is clear that the fishermen value other things
more than the extra fish. "Other things" can be as simple
as "doing things with your time that are not fishing", as
complex as a house that productive fishermen built in that spare
time, or as unfair as the foot massages massages they got from the
newly subservient fisherman.<br />
<br />
One thing that seems clear
from the hypothesized scenarios is that <em>productivity
may create unfairness</em>.
If the fishermen must work all day, there is no excess
wealth--neither time nor output--to hoard. But perhaps this is simply
an artifact of how I constructed the thought experiment: is there
really a time when people's production it could be argued that people
have always profited from others because so rarely in recorded human history
have we had to spend all our time on basic necessities. At the very
least, profit is closely associated with commerce and is probably
present in any society where there is specialization and trade.<br />
<br />
~~<br />
<br />
But which is better? Three
fishermen who must fish all day, or, say, two fishermen who fish and one
who collects his fish as taxes or tribute? The typical economic
answer would be the latter--the logic being that the <em>economic</em>
situation has improved; the distribution problem is <em>political</em>.<br />
<br />
Economics tends to wash its
hands of distribution all too quickly. It is fond of statements like:
“capital owners will benefit from opening trade barriers, while the
outcome for labor is ambiguous but smaller than the benefit to capital owners. The most efficient solution will
therefore be to liberalize trade and redistribute the gains.”<br />
<br />
But society does
not simply "decide" how to distribute gains from
productivity: politics is not some alternate universe where economics
does not apply. Decreasing labor's bargaining power in the economy
may short-circuit their political power as well. Sometimes the
processes determining distribution <em>are
</em>best characterized as
wholly political; but other times they have clear economic causes.
Assuming a benevolent redistributive force is perhaps no less
presumptuous than a benevolent distributive one (a.k.a. communism).<br />
<br />
Instead of a simple net
positive for society, productivity gains should be recognized for
what they are--<em>the
restructuring of scarcity resulting in realignments of economic
power</em>. The new
structure can be beneficial: it has improved our material lives
beyond the wildest dreams of our ancestors and as a general
historical trend, productivity has trickled down. But this should not
be seen as an inevitable law: productivity gains in the USA in the
past decades have gone almost entirely to capital owners and have
been important drivers of the recent increase in inequality.<br />
<br />
We can use several of the
possible outcomes of the fishing scenario to flesh out occasions
where power might come into play and ways for ensuring that
productivity gains contribute to broad-based wealth increases. In the
scenario where one fisherman owns the spears, the
other fishermen are
willing to pay the spear owner for their use. The spear owner is thus able
to capture all of the gains from new technology. This is an example
of economic power, and is less sensical in a state-of-nature example
than it is in the real world, with our <a href="http://www.potentialeconomics.com/2012/08/fear-of-loss.html">complex system of property rights</a>.<br />
<br />
In another scenario, the
fishermen produce more because there is external demand for
fish. This is a better outcome because they get stuff in exchange for
the extra fish they catch. But if one fisherman does not have equal
access to new technology, he may be unable to sell his fish as
cheaply as the fishermen with better spears, and may have difficulty selling any at all. This is a passable
explanation for much of the unemployment in developing countries,
where workers have no way to be productive and are therefore unable to compete. Also, this example
becomes more problematic in a specialized economy where workers are
not producing for their own consumption at all—I will address this
in depth in the next post.<br />
<br />
The first way, then, to ensure
productivity gains contribute to the general welfare is to ensure
that <i>new gains are not monopolized</i>. Monopolization can depend
on the accessibility of the market to new entrants, which facilitates competition that reduces
the economic power of the initial producer. Our patent system, for
example, grants temporary monopoly rights in exchange for making
inventions public knowledge. In addition to laws, the technologies of
production themselves can structure entry into a market: the airline
industry requires advanced technology and expertise, for example. In markets with high barriers a monopoly is much more likely to form and a company is more likely to take advantage of their economic power by charging above cost for their product.<br />
<br />
The second way to ensure that
increasing productivity works for everyone is to ensure that <i>scarcity
remains in balance</i>. A
functioning economy relies on an intricate web of supply and demand
in both product and labor markets. If scarcity is restructured in a
way that eliminates demand for certain suppliers in the economy, the
demand <i>created by</i>
<span style="font-style: normal;">these
suppliers will also be eliminated. </span>In
the fishing scenarios the fishermen are self sufficient whether or
not they use a spear, but in our real economies today few people can
simply go back to their farm. Instead, those laid off due to
productivity increases may be unable to recapture a sufficient amount of
scarcity. Even though the economy has more productive potential,
output may decrease if there is no one to buy it.<br />
<br />
Economists often make similar
assumptions to ones we made about the fishermen, by assuming people
choose not to work or there is always demand for other work. Such
assumptions are not ridiculous: people do often choose not to work,
and demand for work has increased or remained relatively steady
despite continued advances in productivity over the past hundred
years.<br />
<br />
The question of whether demand will continue to emerge for new work--and whether it will
emerge in a way that truly balances scarcity in an acceptable way--is
beginning to make it back on to the radar of economists and
policymakers. In the past new scarcity has arisen from the increasing
complexity of our society: we need accountants, tech support
specialists, and hundreds of other occupations that did not exist a
hundred or even fifty years ago. Complexity can beget complexity, to
a point. People also have a way of demanding silly things--often the
exact things which are rare. These peculiarities of taste and new
demand serve to even out the market a bit and create scarcity where
no scarcity previously seemed to exist.<br />
<br />
But these forces are not a
guarantee that scarcity will continue to drive the economy forward. Even if it does, as we learned in the last post about elasticity, not
all scarcity is created equal. As difficult as it is to anticipate where our productivity gains are taking us, we need to do more to understand how we are getting there. The tools of economics are limited but can be useful, if we are looking at the right things.potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com0tag:blogger.com,1999:blog-378357508228064599.post-26430709698574293702013-01-13T18:13:00.004-05:002013-01-13T18:14:29.076-05:00January 13th LinksI have been hard at work on new posts but nothing is finished yet. Instead, here are a few articles I enjoyed recently.<br />
<br />
<strong>Politics</strong><br />
Thomas Frank with a <a href="http://www.thebaffler.com/past/to_the_precinct_station">sharp critique</a> of the Occupy Wall Street movement and its "lazy libertarianism" in The Baffler.<br />
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<strong>Finance</strong><br />
Matt Taibbi at Rolling Stone and two writers at The Atlantic write about <a href="http://www.rollingstone.com/politics/news/secret-and-lies-of-the-bailout-20130104">how badly</a> we have <a href="http://www.theatlantic.com/magazine/archive/2013/01/whats-inside-americas-banks/309196/?single_page=true">failed to fix our financial system</a>.<br />
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Fascinating history-of-ideas <a href="http://www.believermag.com/issues/201211/?read=article_cohen">comparison of finance and art</a>.</div>
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<strong>Working</strong></div>
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A thoughful look at <a href="http://www.aeonmagazine.com/being-human/julian-baggini-coffee-artisans/">automation and quality, and what they mean for our economy</a>.</div>
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A Jacobiner article from last summer about <a href="http://jacobinmag.com/2012/04/the-politics-of-getting-a-life/">work and the politics of labor</a>.</div>
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Technology Review with some <a href="http://www.technologyreview.com/review/508821/the-difference-between-makers-and-manufacturers/"> thoughts on how technology is shaping the economy</a>. </div>
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<strong>Macroeconomics</strong></div>
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An IMF paper that could <a href="http://www.washingtonpost.com/blogs/wonkblog/wp/2013/01/03/an-amazing-mea-culpa-from-the-imfs-chief-economist-on-austerity/">herald a significant change in their stance on fiscal policy and austerity more generally</a>.</div>
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[technical] Steve
Keen wrote an excellent article this week on <a href="http://www.businessspectator.com.au/bs.nsf/Article/Minksy-model-debt-economy-modelling-pd20130104-3M42P?OpenDocument&src=sph&src=rot"> modeling dynamic systems</a>.</div>
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[lots of econ jargon but not actually technical] The emminent Robert Solow on <a href="http://economistsview.typepad.com/economistsview/2009/08/solow-dumb-and-dumber-in-macroeconomics.html">the sorry state of macroeconomics--back in 2003</a>.</div>
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</div>
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<strong>Labor Markets</strong></div>
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NELP makes an important point about <a href="http://www.nelp.org/page/-/Job_Creation/LowWageRecovery2012.pdf?nocdn=1">current labor woes in the USA</a>.</div>
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[technical] Important <a href="http://www.nber.org/papers/w18386.pdf">paper from the NBER</a> looking at whether employment is structural or cyclical. (NBER access required; email me if you want a copy.) </div>
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[technical] EPI has a paper <a href="http://www.epi.org/files/2012/wp295-assessing-job-polarization-explanation-wage-inequality.pdf">arguing that skill-biased technological change is not an important driver of wage inequality</a>. </div>
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</div>
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<strong>Competition</strong></div>
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The Atlantic on <a href="http://www.theatlantic.com/magazine/archive/2013/01/the-webs-new-monopolists/309197/?single_page=true">competition and antitrust in a technological age</a>.</div>
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A depressing take on <a href="http://www.washingtonmonthly.com/magazine/november_december_2012/features/obamas_game_of_chicken041108.php">the economics and politics of agrculure in the USA</a> from Washington Monthly.</div>
potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com0tag:blogger.com,1999:blog-378357508228064599.post-10691317808798673482013-01-06T12:15:00.001-05:002013-01-06T12:30:31.101-05:00Production as Privilege: Scarcity and Elasticity<em>This post is the third in a <a href="http://www.potentialeconomics.com/search/label/production%20as%20privilege">series</a> attempting to breathe some new life into the connection between production and distribution. Each post presents a different tool for understanding the relationship; the hope is to articulate some ideas that have been furtively dwelling in my head and perhaps arrive at some new insights.</em><br />
<em></em><br />
<em>Thus far, the posts have been covering standard "econ 101" ideas. If you have a decent understanding of economics you can skip the two "tools" sections and start right after the squigglies, although I rather like my cat example.</em><br />
<br />
<h4>
Conceptual Tool #5: Scarcity</h4>
<div>
<br /></div>
Everybody knows that economics is about supply and demand, and everyone has most likely seen the ubiquitous supply and demand "X" graph. "Scarcity" is a convenient shorthand for any situation where the supply and demand curves are not simply at zero along the vertical axis. In other words, when the supply cannot costlessly meet the demand--i.e. most situations, and certainly most situations where anything is exchanged. If something is more scarce, then we can expect people will give up more for it.<br />
<br />
It may be useful to note that in common usage, "scarce" may mean simply something that is rare; in economics it connotes something that is both rare <i>and</i> desired. For example, imagine a pet cat with stripes. The exact pattern of the cat's stripes may be entirely unique, and thus extremely rare. However, if pet owners are only interested in a cat with stripes, and do not care exactly what the stripes look like, the pet cat would not be <i>scarce</i> in the economic sense. If any old stripes will do, a certain exact pattern is rare but not scarce.<br />
<br />
<h4>
Conceptual Tool #6: Elasticity</h4>
<br />
Elasticity is another foundational concept in economics, and one way to understand it is as how much "bargaining power" buyers or sellers have in a market. Technically, elasticity is the change in quantity demanded (or supplied) divided by the change in price. It represents how willing buyers are to pay more, or sellers are to sell for less, and is represented by the slope of the lines on the supply and demand "X". This technical representation amounts to "bargaining power" because it determines the range of other possible market outcomes: it shows whether a side of the market is able to reject market outcomes that are unacceptable to it, ensuring that market transactions will be more on their terms. More elastic supply or demand is associated with a stronger bargaining position.<br />
<br />
Bargaining power is largely determined by the amount of substitutes in a market. Examples of elasticity are everywhere, but to continue the cat example from above, demand for a particular striped pattern may be very inelastic because buyers (people looking to buy a cat) do not care what pattern of stripes are on the cat. No one will be willing to pay more for a certain pattern of stripes if they can buy another pattern of stripes less and they do not care what the pattern of stripes is. However, if one cat's stripes look like Jesus, demand might become more elastic, with people willing to pay more for a Jesus cat because no other cats have stripes that look like Jesus. The demand side is unable to find substitutes and therefore becomes inelastic, willing to pay any amount for the same amount of cat.<br />
<br />
Elasticity determines how each side of the market will react when either the other side of the market changes, or some other factor changes affects both sides of the market. If taxes are imposed, for example, the elasticity of each side of the market determines who pays the majority of the tax. Elasticity has a similar effect when other costs or benefits come into play, including natural "background noise"-type disruptions in a market.<br />
<br />
While it is clearly an important determinant of market outcomes, elasticity is difficult to measure. It therefore often ends up playing a muted role in economic analysis. Measuring elasticity is hard because most economic data show only the intersection of supply and demand (i.e. the sale price and quantity sold in a market), and not the range of potential other prices that buyer and seller might agree to. There are some tricks to untangle the separate supply and demand elasticities, but they typically rely on isolated incidents and do not provide a comprehensive view.<br />
<br />
~~<br />
<br />
Scarcity and elasticity provide the most fundamental rationale for the standard economic story about distribution. <span style="background-color: white;">Simply conceived, we distribute income according to the scarcity of what we produce: we are paid according to how rare and desired the things are that we are able to do. If the thing we do is not rare, we may have weak leverage because the demand for the things we produce is inelastic (it is easy for buyers to find substitutes).</span><br />
<br />
I have titled this series "Production as Privilege" because I want to think about where that scarcity comes from. "Privilege" is not necessarily the truest or clearest way of thinking about production, but it does turn the idea of production on its head, in a way, and because of that provides an interesting starting place. Work is not typically thought of as a privilege because it is a mutually agreed-upon exchange: we do something we do not like (unless we are one of the lucky love-my-jobbers) and get paid in return.<br />
<br />
Yet neither the type of work that we are able to get paid for, nor the amount of pay we are able to secure in return, is as straightforward as it may seem. Scarcity and elasticity are helpful concepts for explaining the dynamics within a market, but they are less helpful for explaining how and why scarcity exists in the first place. Economists have a few basic platitudes (limited resources and unlimited wants) and a powerful toolbox of "market failures" that explain why markets might not function as well as they could (e.g. monopoly power, a la the <a href="http://www.potentialeconomics.com/2012/12/production-as-privilege-introduction.html">previous post</a> in this series).<br />
<br />
But even these more powerful tools can explain only so much of an economy. Take the word "privilege" itself--what is privilege from an economic viewpoint? You can begin to explain privilege as economic rents--certainly we could think of rents as a type of privilege--or as exceptions to market rules. But privilege is much more. It is being born on the right side of the tracks, skipping the line, or waking up with a roof over your head. We can try to frame privilege in terms of scarcity, or even in terms of market failures, but these ideas only capture a small portion of what privilege is and means in a society.<br />
<br />
Still, we have to start somewhere, and scarcity provides a useful framework.potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com0tag:blogger.com,1999:blog-378357508228064599.post-35915405517264853162012-12-27T11:33:00.000-05:002012-12-27T11:33:53.237-05:00Production as Privilege: Circular Flow<em>This post is the second in a <a href="http://www.potentialeconomics.com/search/label/production%20as%20privilege">series</a> attempting to breathe some new life into the connection between production and distribution. Each post presents a different tool for understanding the link; the hope is to arrive at some new insights.</em><br />
<br />
<h4>
Conceptual Tool #4: The Circular Flow Model</h4>
<br />
One goal of this series of posts is to understand distribution as not simply a matter of income or wealth (accumulated income), but by examining distribution across the system as a whole: how different parts of the economy fit together and how resources, goods and money move through it. The closest serious academic papers get to this type of holistic analysis is to use "general equilibrium"-type models, which just means that they attempt to model a labor market and a product market at the same time and see how they interact. I want to rewind a bit, back to macroeconomics 101, and take a somewhat a different route into the analysis of distribution.<br />
<br />
Your average Introduction to Macroeconomics textbook is likely to feature the <a href="http://economics.about.com/od/economics-basics/ss/The-Circular-Flow-Model.htm" target="_blank">circular flow</a> model of the macroeconomy. Sometimes it may feature <a href="http://www.bized.co.uk/virtual/dc/copper/theory/th11.htm" target="_blank">more complicated flows</a> (scroll down to the 2nd chart) as well. Circular flow models barely qualify as "models" in the standard economic sense, but I have written several pages about them here because they provide a valuable perspective.<br />
<br />
Circular flow-style models are helpful because they provide us with a simple foundation for our understanding of the whole system of the economy, which serves as the groundwork for future intuition.<br />
<br />
Also, the bird's-eye view they provide reminds us that the economy is a system with individual parts that play specific roles. By extension we can see that the way these parts could, in theory, be rearranged. For example, if production was done entirely by robots and then distributed to people according to something unrelated to the consumer's productive power, we could have an economy where producers and consumers were entirely distinct.<br />
<br />
Circular flow models also help us conceptualize the two-way nature of economic transactions, where money flows in one direction and goods, services, or "utility" flows in the other.<br />
<br />
Likewise, circular flow models do a good job of capturing the dual nature of workers/consumers: any flow from a consumer has to come from a paycheck, a fact which is both obvious and confusing, and has important ramifications that may be missed by standard models.<br />
<br />
Finally, the looping nature of the circular flow model helps remind us that money (as well as everything going in the other direction) is flow that has to keep moving and does not stay put--we can see that if people or businesses or governments stop spending, even in one link of the chain, the flow dries up.<br />
<br />
Unfortunately, circular flow models have several important weaknesses--primarily because the economy is difficult to capture in its entirety. Determining causality in the model--always a difficult task--is complicated both by the two-way nature of the flows, and by the circular nature of the model. Essentially, you end up with not only a chicken-egg problem because of the circular flow, but also a chicken-grain problem because of the two-sided markets: you cannot tell whether the chicken wanted to eat the grain or the grain wanted to be consumed by the chicken.<br />
<br />
Moreover, trying to incorporate more complex connections between markets, for example including governments and financial institutions, presents too many unknowns to put meaningfully into equations (equations being a prerequisite for any pretensions toward "science"). The advantage of circular flow models, being able to see some of the economy's true complexity, makes them difficult to use for analysis quantitative analysis.<br />
<br />
But circular flow models are also far from being complex <i>enough</i>. By assuming a single, "representative" household and business (and government), circular flow models ignore distribution within households or businesses. They also gloss over the different methods of transfers, e.g. wages versus capital gains versus debt interest. Finally, they present money and goods flows as steady and given, ignoring the fact they are caused by supply and demand incentives. (this is the causality problem again)<br />
<br />
~~<br />
<br />
Despite these flaws, I still find myself attempting to conceive of a circular flow model useful for analysis, i.e. one that we could plug numbers into in a meaningful fashion, get some kind of predictive power from, or at least use to view the economy in a new light. Large think tanks, government agencies, and financial companies have attempted to create comprehensive models of the economy, probably these are useful for spitting out numbers, but they have not to my knowledge led to any obvious revelations in our understanding of economics.<br />
<br />
What could a more useful version of the circular flow model look like? I will throw out some ideas.<br />
<ul>
<li>Maybe you have seen the <a href="http://hint.fm/wind/"><b>animated visualization</b> of wind</a> developed by some clever researchers. What if we could do this with flows of money? If not using granular location data, then between states or internationally. Or, instead of using spatial locations, animate a traditional circular flow diagram in a similar fashion, showing flow strength between different sectors of the economy. Representative boxes (consumer, producers) could also change over time to depict things such as savings, indebtedness, inequality, or relative size in the economy.</li>
<li>The author/entrepreneur Martin Ford tries to develop a visual metaphor for distribution in his book <i><a href="http://www.thelightsinthetunnel.com/">The Lights in the Tunnel</a></i>, which examines the impact of technology on distribution (free e-book at the link). Ford describes a <strong>visual metaphor for individual incomes</strong>,<strong> </strong>a tunnel made of millions of lights, and describes how most get dimmer over time while a few get brighter. Basically he is describing a possible visualization of the <a href="https://en.wikipedia.org/wiki/Gini_coefficient">gini coefficient</a> (the most common measure of income inequality), but his emphasis on the change over time and the process through which those changes occur makes the metaphor interesting. If a more structural view of the economy, including product markets and other actors, were somehow incorporated into this metaphor it could get interesting.</li>
<li>There are plenty of<b> existing economic models</b> featuring winners and losers from technology or trade. These models may explain changes in income between high- and low-skill workers, or between workers and capital owners. Unfortunately, lumping everyone into two groups is not always particularly revealing. Also, the models do a poor job of explaining anything more than a simple before-after scenario for an economic shock: they do not show stocks and flows of money and they can comprehend only rudimentary structural changes. They furthermore exclude entire parts of the economy like government and savings, and typically make strong, unrealistic assumptions such as full employment. These models are good at explaining individual phenomena, but have a difficult time providing a realistic, systemic understanding of an economy.</li>
<li>There are certainly some interesting <b>bubble charts</b> to be made (and they many exist already) of sectoral distribution in our economy over time, or transfers to and from different between businesses, government, and different income groups. Two axes are limiting, however, even with the added </li>
<li>It would also be fascinating to be able to visualize <b>where and how economic rents accrue</b> in an economy--at what stages, in what individual industries, and to what type of individuals and businesses.</li>
</ul>
~~<br />
<br />
Let's take a step back and recall what we are fussing about. We are looking for better ways of understanding the connection between production and distribution, and thinking about what we can learn from one type of basic representation an economy: the circular flow diagram. The circular flow diagram teaches us that money is a flow, it flows in the opposite direction of good and services, and it connects markets and so markets influence each other (e.g. we cannot have strong demand without decent wages).<br />
<br />
What would some ideal model look like? It would show money and goods flows, not just direction but also the amount over time, and would be easy to disaggregate between not only the consumer and producer "sides" of the economy but also between industries, occupations, and different income groups. It would capture a range of "leakages and injections", as they are called, including international trade and financial flows, savings, inflation, and interest payments. It would also show stocks of wealth at various points.<br />
<br />
One possible way to organize such a model would be with the life cycle of money, following it from its creation (loans in banks) through its use and final destruction (loan payments to banks). The difficulty with this method would be that money is fungible and there is no sensible way to determine money's "age" or where it came from or went to. A similar organizing possibility would be the life cycle of goods, but this gets difficult with things such as intellectual property, services, and more abstract types of value that do not have a clear product cycle.<br />
<br />
I do not have such a model here to present to you. Merely the idea that with some hard work, lots of data, and some nifty graphics there is a lot of potential for representing our economy in revealing ways. It is important, I think, to keep as holistic a view of the economy as possible. The circular flow model is a nice format for presentation, but the complexity of flow in an economy, from money spent to money earned, is difficult to capture.potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com0tag:blogger.com,1999:blog-378357508228064599.post-59160493010029070722012-12-18T21:26:00.001-05:002012-12-20T13:28:32.785-05:00Production as Privilege: IntroductionAnyone can produce. What is harder is to get anything in return.<br />
<br />
The difficulty we have getting anything in return for our production--getting paid for our handmade tea-cozy on Etsy, for our labor stocking the small appliance section at Walmart, or working the trading desk at an investment bank--is what I want to focus on for this series of posts. If it is all work, then why are some types of production better compensated than others?<br />
<br />
The common story in economics, and our broader capitalist society, is that we are paid for our work exactly as much as the rest of the economy values that work. The infamous "invisible hand" idea argues that if we are paid for what society values, we will decide to produce what is valuable to society. This rationale serves to justify the system: it provides people with good incentives.<br />
<br />
This marginalist/invisible hand story is certainly true, but it is perhaps not the whole story. The relationship between production and distribution (or rather, who gets the fruits of production) is complex and not something economics has done a particularly good job of explaining. In this series of posts I am hoping to lay out some conceptual tools and frameworks that may be of use to construct a better understanding. Or they may not--some will doubtlessly appear divergent or tangential. Please bear with me (and help me along the way) as I hurl mud at a wall, hoping to end up with a discernable shape. And maybe a better idea of what I am even trying to figure out.<br />
<br />
I will do this as a series of posts since I have already worked on it for a while and am nowhere near done, and because serialization is the lifeblood of the web. For the first post, I am going to go over standard explanations (within economics) for economic profit as well as the concept of profit itself. Keep in mind that while I am writing about profit for <em>firms</em>, I am ultimately interested in the allocation of profit to <em>individuals</em>, whether as laborers or owners of firms. Distribution within firms is another step of the process that will be addressed later.<br />
<br />
<h4>
Conceptual Tools #1-3: Standard Explanations for Economic Rents</h4>
<div>
<br /></div>
A foundational concept of modern economics is the "perfectly" competitive market, a market that perfectly matches supply to demand in order to optimally allocates resources. In a perfect market no producer is able to collect economic rents. If you are not familiar with the concept of economic rents, also known as economic profits, the first paragraph of the Wikipedia entry is <a href="http://en.wikipedia.org/wiki/Economic_rent" target="_blank">a fine summary</a>. Basically, making economic rents means getting paid more for something than it costs you to make it.<br />
<br />
In the real world, firms <em>are</em> able to collect rents--investors invest and stocks pay dividends. Economics describes a number of reasons this happens, all centering around the idea that supply fails to meet demand, which in turn allows suppliers to charge more for their goods or services than they cost to produce.<br />
<br />
1. First Mover Advantage and the Short Run<br />
Supply often fails to meet demand because both demand and supply change frequently, and fast. If demand changes and a business is quicker to catch up than its competitors, this business gains "first mover advantage" and is able to charge more than it costs to make a product. Or if a business creates a new product that is preferable to old products on the market, they are likewise able to charge more. Businesses can also reduce costs in their production process, and if they do so faster than other firms then the market price of a product may remain above their costs.<br />
<br />
In all of these scenarios, however, competition will in the long run drive these profits to zero, because new firms will enter new markets. The next two monopoly scenarios describe causes that maintain profit in the long run.<br />
<br />
2. State Monopolies<br />
The government often creates barriers that keep firms from entering markets. One of the most well-know and politically acceptible barriers is the patent system, which stops firms from entering markets for new inventions by firms that have patented their processes. The profits that they may realize from their monopoly position in a new, patented market are supposed to give firms an incentive to develop new products, and the public nature of the patent disclosure system is supposed to provide facilitate the eventual elimination of the monopoly.<br />
<br />
3. Natural monopolies<br />
Even in the long term, markets may be uncompetitive even without government intervention. Economics 101 courses list different types of markets: perfect competition, monopolistic competition, oligopoly, and monopoly. These types are differentiated by the type of supply they tend towards. The structure of suppliers is determined by technology, regulation, consumer preference, history, and other factors.<br />
<br />
Economists typically simplify these factors primarily based on the cost structure of firms. They have a concept of "ideal firm size", which depends on the costs of production and the demand for a good at a variety of prices. Different markets and technologies are conducive to different firm sizes, depending on marginal costs of production and network effects. For a given market size, the "natural number of firms" can be determined by dividing the market size by the ideal firm size. This determines whether firms will be abundant or scarce and, accordingly, how much market power they will have and how much economic rent they will be able to appropriate.<br />
<br />
~~<br />
<br />
These are some standard explanations for economic rents on a firm level. If we are concerned about distribution to individuals, then we will need to get into the labor market side as well; I will cover that in a future post. I am also going to bring up a range of other "conceptual tools" that will hopefully be of use examining the issue. I am not trying to challenge the standard model of economic rents so much as situate it with a broader conception of production and distribution in today's economy. There is, possibly, a lot more going on.potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com3tag:blogger.com,1999:blog-378357508228064599.post-51389864661210500762012-12-16T22:14:00.001-05:002012-12-17T15:57:16.952-05:00New EraRather than actually producing any new content, I have whiled away the past few weeks making purely superficial changes to the site. The name has been changed from "Advanced Common Sense" to the rather blander "Potential Economics", the colors from orangish to bluish. I have procured a domain name (<a href="http://www.potentialeconomics.com/">www.potentialeconomics.com</a>--you should already be here) and twitter account (@potentecon).<br />
<br />
Now would be an excellent time to update your bookmarks and/or feeds, by the way. Sorry for the inconvenience.<br />
<br />
Please let me know if anything is out of whack. Or if you think something/everything is ugly.potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com0tag:blogger.com,1999:blog-378357508228064599.post-6464559925719513382012-11-09T16:53:00.000-05:002012-12-16T15:15:31.291-05:00Panacea FailureI wanted to share this excellent bit of reporting I came across in the Washington Post a few weeks ago. The <a href="http://www.propublica.org/article/rare-agreement-obama-romney-ryan-endorse-retraining-for-jobless-but-are-the" target="_blank">original, longer article</a> was done by ProPublica, and I would recommend it if you have time. If not, the <a href="http://www.washingtonpost.com/opinions/job-retraining-is-the-solution-obama-and-romney-say-but-does-it-work/2012/10/19/09c423b6-18a2-11e2-8bfd-12e2ee90dcf2_story.html" target="_blank">shorter Post version</a> should not be missed.<br />
<br />
The article is important because it opens up a black box of questions that economists and politicians typically wave away or plaster over with assumptions. Most importantly, many economic models of trade trade and technological change assume "full employment". When economist talk about the "gains from trade", these 'gains' ignore potential losses from unemployment. Or put differently, when someone is laid off because their employer cannot compete with cheaper imports from abroad, these models assume they can instantly find another job. This assumption is valid in some situations, for example when there is high growth in other industries. But in other situations it is absurd on its face. Economists, however, rely on it because modeling the impact of trade on economies without it becomes extremely difficult.<br />
<br />
A second, related assumption is that workers are able to move up the "value ladder" to find better-paying jobs than the ones they lost. Or that if this does not happen, then at least the country overall will be richer and the workers benefit via <a href="http://www.doleta.gov/tradeact/" target="_blank">Trade Adjustment Assistance</a> or some similar redistributive program.<br />
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A final reason these results are so alarming is that education is a basically the economic policy prescription of last resort. How do we compete with China? More STEM education. How do we get out of the recession? Go back to school to be more competitive. If nothing else is working, policymakers often turn to education and "skills" as the way to appease the market and bring about that illusive world where there are enough jobs and inequality is not spiraling out of control. Education is important, no question, but it should not be the only leg we attempt to stand on.<br />
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The Janesville study is an airhorn in the ears of anyone resting peacefully in these assumptions. It is not a perfect study; in fact there plenty of reasons to question the results, many noted by the authors themselves. But its results are so perfectly antithetical to common assumptions about retraining, employment, and competitiveness as to call into question the models that led us to those assumptions. We have to ask: what is the point of economic ideas that give results like these?potenteconhttp://www.blogger.com/profile/14638964804532367632noreply@blogger.com1