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January 2012 posts

An Artificial Shortage

Jonathan B. Wight

What do you get when you mix pharmaceutical markets with government mandates?

Answer: Don't ask—you don't want to know.

The FDA has a role of protecting consumers from harmful drugs. But as Ronald Coase pointed out, there is asymmetry in the agent's incentives: FDA administrators only get fired for letting a drug through that turns out to hurt a patient. Administrators never get punished for curtailing drugs that might have saved many lives, since consumers never know about those potential gains and only focus on the known losses.

The FDA is also in conflict with the Drug Enforcement Agency (DEA). The DEA wants to crack down on illegal users of attention-deficit (ADHD) prescriptions (e.g., college students getting high or boosting concentration). So the DEA responded to this problem by setting quantitative production limits on ADHD products in a market facing rapidly rising demand. What do you expect to happen?

Not surprisingly, the New York Times reports that "F.D.A. Finds Short Supply of Attention Deficit Drugs," especially in the generic drugs that many low-income patients rely on. If quantitative limits are placed on production output, pharma companies will make only the most profitable pills, which means they produce patent-protected name brands; generic versions will not get made. The article reports on the hardships of patients and doctors in this predictable situation.

A similar policy failure occurred in the early 1980s, when Ronald Reagan "asked" Japanese automakers to impose voluntary quantitative export limits on their cars to America. The result was that the Japanese stopped selling as many cheap cars that competed against Ford and Chevy, and began exporting more of their higher end cars. Thus began the rise of the Japanese luxury brands, to overtake Cadillac and Lincoln. Hence we see the iron rule of unintended consequences: A law designed to help American automakers… resulted in the demise of their most profitable brands. And similarly with the DEA's quantitative restrictions: a law designed to help American consumers… may end up hurting them.

A separate conversation is whether Americans' propensity to treat every problem with a pill makes sense. We are likely way over-dosed.

[Thanks to my colleague Maia Linask for recommending this article.]

Charles Murray's Coming Apart discussed by David Brooks and W. Bradford Wilcox

Mark D. White

MurrayCharles Murray's latest book, Coming Apart, gets reviewed this morning by both David Brooks in The New York Times and W. Bradford Wilcox in The Wall Street Journal. Murray's thesis is that the gaps in income and wealth in America are no more important than the gaps in culture and values between the more and less affluent. To make his point more forceful, he restricts his analysis to white people, in order to prevent critics from arguining that the decline in values he points out is an issue with racial and ethnic minorities only. These trends are certainly apparent across most if not racial and ethnic groups but it is less recognized in whites, the discussion of which may be Murray's greatest contribution to the discussion.

Of course, your opinion of Murray's thesis is going to depend on what values he chooses, and (according to Wilcox) he focuses on "four 'founding virtues'—industriousness, honesty (including abiding by the law), marriage and religion." I doubt many would have issues with the first two, but the last two will turn off a lot of people (including me, to some extent). Personally, I'd prefer that "marriage" be changed to "family" and "religion" be changed to "community" (since the ethical component of religion is already covered by "honesty," or the whole exercise, really). Perhaps Murray puts his virtues in these broader contexts--I have not yet read the book--but I would guess he chose "marriage" and "religion" because participation in them in measurable (social scientist that he is).

Wilcox, the director of the National Marrriage Project, naturally uses Murray's analysis of marriage (which echoes Kay Hymowitz's Marriage and Caste in America) as an example:

The destructive family revolution of the late 1960s and 1970s has gradually eased—at least in the nation's most privileged precincts. In the past 20 years, divorce rates have come down, marital quality (self-reported happiness in marriage) has risen and nonmarital childbearing (out-of-wedlock births) is a rare occurrence among the white upper class. Marriage is not losing ground in America's best neighborhoods.

But it's a very different story in blue-collar America. Since the 1980s, divorce rates have risen, marital quality has fallen and nonmarital childbearing is skyrocketing among the white lower class. Less than 5% of white college-educated women have children outside of marriage, compared with approximately 40% of white women with just a high-school diploma. The bottom line is that a growing marriage divide now runs through the heart of white America.

Brooks also cites the marriage gap alongside other factors (using the word "tribes" rather than "class" to emphasize the "tenuous common culture linking them"), but links them to the gap in behavior that he feels is Murray's chief contribution:

Worse, there are vast behavioral gaps between the educated upper tribe (20 percent of the country) and the lower tribe (30 percent of the country). ...

Roughly 7 percent of the white kids in the upper tribe are born out of wedlock, compared with roughly 45 percent of the kids in the lower tribe. In the upper tribe, nearly every man aged 30 to 49 is in the labor force. In the lower tribe, men in their prime working ages have been steadily dropping out of the labor force, in good times and bad.

People in the lower tribe are much less likely to get married, less likely to go to church, less likely to be active in their communities, more likely to watch TV excessively, more likely to be obese.

Wilcox points where this disparity in values and behavior cashes out:

The economic and political success of the American experiment has depended in large part on the health of these founding virtues. Businesses cannot flourish if ordinary workers are not industrious. The scope and cost of government grows, and liberty withers, when the family breaks down. As James Madison wrote: "To suppose that any form of government will secure liberty or happiness without any virtue in the people is a chimerical idea."

This is certain to prompt some heated discussion in the coming months. The statement above is too vague to draw significant conclusions, which will come only from a careful reading of Murray's book. Of course, the role of virtue, or ethics in general, among all members of society and its importance to the economy in particular is of great interest to us at this blog. (Start reading, Jonathan!)

Brooks applies Murray's results to the rhetoric from both sides of the political aisle:

Murray’s story contradicts the ideologies of both parties. Republicans claim that America is threatened by a decadent cultural elite that corrupts regular Americans, who love God, country and traditional values. That story is false. The cultural elites live more conservative, traditionalist lives than the cultural masses.

Democrats claim America is threatened by the financial elite, who hog society’s resources. But that’s a distraction. The real social gap is between the top 20 percent and the lower 30 percent. The liberal members of the upper tribe latch onto this top 1 percent narrative because it excuses them from the central role they themselves are playing in driving inequality and unfairness.

At the risk of stating the obvious, I think the most fascinating part of this discussion is how income inequality and cultural inequality interact. In particular, I wonder how much of the decline in "virtuous" behavior that Murray observes among the poor is a result of choices driven by poverty (scarcity), and how much have those behaviors perpetuated that poverty. (This is not to excuse this behavior, necessary, but to understand it better.) And by the same token, the wealthy can certainly be applauded for their virtuous behavior, but to a certain extent it is easier to be good when you have the means, and the extent to which this plays a role should be acknowledged as well.

Whether Murray discusses this issue in these exact terms remains to be seen (after I read the book!), but he does make a political statement, summarized by Roger Lowenstein in his review of the book in Businessweek:

One question I wish he had taken up: Are the “new upper class” and the problems of the lower class related? Coming Apart treats them as separate. That gets to my frustration, which arises in the concluding section. Until then, Murray had merely diagnosed the cultural divide. Now he claims to know the causes. He blames the government and the “welfare state.” This section brims with political resentments; the carefully researched facts give way to bitter generalizations such as “only a government could spend so much money so inefficiently.” The author who tactfully, and wryly, demonstrated how little readers know about the lives of working-class whites, writes of “bureaucrats” with no appreciation, or even interest, in what they actually do. He does not explain why social cohesion should be less today when the Great Society experiment peaked in the 1960s. While blaming the debilitating effect on incentives of social programs, he fails to acknowledge the idea that most Americans probably feel less coddled, less protected today than in 1970.

It's interesting that both Brooks and Wilcox left this part out of their reviews, while endorsing more activist policies on the part of the government to shore up the working class. As valuable as Murray's empirical observations are, it is crucial that we understand them, interpret them, and act on them in a way that doesn't make the situation worse--whatever that may mean.

Positive signs regarding "The Future of Economics" from Davos

Mark D. White

As pointed out by Lynne Kiesling at Knowledge Problem, Nobel laureates Peter Diamond and Joe Stiglitz, along with (this year's ASE/ASSA keynote speaker) Robert Shiller and Brian Arthur, discussed "The Future of Economics," which moderator Martin Wolf summarizes at the Financial Times' The World blog. Kiesling condenses Wolf's summary (as reproduced below):

  1. First, orthodox economics had, in the years leading up to the crisis, become more a cult than a science, particularly with the assumption that what exists in competitive markets has to be the best possible outcome, since, if it were not, it could not exist.
  2. Second, let a thousand flowers of thought bloom.
  3. Third, the sociology of the profession – the need to define and defend a core discipline that can be taught to students and so determines what it means to be an economist – militates against such heterodoxy.
  4. Fourth, human beings are not rational calculating machines.
  5. Fifth, time matters in economic processes, which are, in general, not reversible and not characterised by any sort of equilibrium.
  6. Sixth, the world is not computable.
  7. Seventh, being a study of complex human behaviour, in which the world is created by human understand [sic] and motivations, economics is hard.
  8. Eighth, in theory it is right and proper to abstract in order to focus on a specific phenomenon. In addressing policy, this is irresponsible.
  9. Ninth, even though economists get much wrong, they still have much to offer to non-economists who tend to assume that economic problems are far more simple than they actually are.
  10. Tenth, there is a great danger that in rejected the most simplistic pro-market mantras, economists and policymakers will embrace even more dangerous and naïve statism.

In my opinion, these are fantastic, especially 4, 6, 7, and 9 (concerning the complexity of economics as a social science and popular misunderstandings of that), 8 (about the responsible conduct of policy analysis), and 10 (cautioning against extreme reactions to the crisis). I just hope people are listening.

A Cozy Monopsony in Silicon Valley?

Jonathan B. Wight

But whoever imagines, upon this account, that masters rarely combine, is as ignorant of the world as of the subject. Masters are always and everywhere in a sort of tacit, but constant and uniform combination, not to raise the wages of labour above their actual rate. – Adam Smith (The Wealth of Nations, Liberty Press, 1981 [1776]), p. 84.)

Markets work by getting the prices right. When a worker's productivity exceeds her pay that provides an incentive for other firms to poach that underpaid worker. Over time, workers are rewarded for effort and contribution.

But that apparently didn't always happen in Silicon Valley. Released emails reveal an alleged tight cartel among Apple, Google, Adobe, Intel, Pixar and other execs to prohibit poaching each other's programmers. Top CEO's allegedly had a "gentleman's agreement" to hold down wages by preventing competition.

Not everyone played the game:

Ex-Palm Inc. CEO Ed Colligan wrote to [Steve] Jobs in 2007: "Your proposal that we agree that neither company will hire the other's employees, regardless of the individual's desires, is not only wrong, it is likely illegal"…

Lawsuits can—in theory—break up hiring cartels and improve market efficiency, as happened in the Ivy League admissions cartel in the early 1990s. But relying on the law may be unreliable:

Antitrust cases that revolve around hiring practices are difficult to win, said David Balto, a Washington, D.C.-based antitrust lawyer who investigated Microsoft as a staff attorney for the Federal Trade Commission in the 1990s. Among the legal challenges they face is defining who exactly makes up the class of workers harmed by the alleged violations, since people with different jobs have different employment options, he said.

"I don't think anybody at these companies is losing a nanosecond of sleep because of this lawsuit," Balto said.

So, let's summarize: Markets rely on competitive pressures to reward workers fairly. Sometimes a cozy cartel of CEO's conspires to prevent that. Workers can sue, but that is expensive, laborious, and the results are usually unreliable (in other words, the transactions costs for getting justice are very high).

Where does this leave workers? Possibly seeking direct political action, bad-mouthing markets, and joining the occupiers in parks? In this case, workers really do have a beef: the 1% at the top quite explicitly held them back.

World Congress Summer School in Social Economics – Applications for Fellowships Now Open

Jonathan B. Wight

Glasgow, Scotland

June 19-20, 2012


Applications for Fellowships Now Open

The Association for Social Economics announces an exciting Summer School workshop for graduate students and recent Ph.D.s. to be held in conjunction with the World Congress of Social Economics in Glasgow, Scotland.  Between 12-18 fellows will be selected to attend the Summer School as guests of ASE. The Summer School begins the evening of June 19 and continues on June 20, 2012.  The World Congress opens the evening of June 20 and concludes on June 22, 2012.

Aims:  The Summer School brings together a small group of fellows to discuss the central concerns of social economics as a springboard for cutting-edge research and teaching.  Social economics is centrally concerned with questions of social, cultural and ethical values in economic life and the study of these questions at philosophical, theoretical, empirical and policy-related levels.

School topics include aspects of: (1) Social economics, the history of economic thought, and frameworks for thinking about ethics and economics; (2) core topics in social-economics research (theory of the individual, the role of social and cultural values in economic life, inequality, poverty, needs, capabilities, social justice, human flourishing); (3) contemporary topics and empirical research in social economics (the social economy/third sector, social networks, fair trade, socially responsible consumption and production, experimental work on fairness, etc.); and (4) publishing outlets and strategies for graduate students and recent Ph.D.s. 

Fellows must be graduate students or recent Ph.D.s in economics or related fields. 

Awards:  Fellows accepted to the Summer School will receive complementary room and meals for the Summer School and the World Congress, complementary registration to the World Congress, plus all Summer School materials, a package worth up to $1,400.  Some travel stipends are also available on a competitive basis. 

Fellow Obligations:  Accepted fellows must become members of ASE and submit a Summer School refundable deposit of $100 (that will be returned upon completion of the World Congress).  All fellows must commit to participating in all sessions of the Summer School and to staying for the entire World Congress. 

Program: Click here for the Provisional Program

Applications: Click here for the Application Instructions and Form

Or, go to the ASE website (socialeconomics.org/), click on "Conferences" à "World Congress Summer School" à to see the Overview, Preliminary Program, and Application.

The application deadline is March 1, 2012.

For questions contact Aurelie Charles, Chair, Summer School Selection Committee, at [email protected]

Deirdre McCloskey featured in the Wall Street Journal's Cultural Conversation

Deirdre wsjMark D. White

Our dear friend Deirdre McCloskey is featured in today's Cultural Conversation in the Wall Street Journal, which briskly covers some of her background, laments the separation of ethics and economics after the latter became intensely mathematical, and covers key points from her recent books, The Bourgeois Virtues: Ethics for an Age of Commerce and Bourgeois Dignity: Why Economics Can't Explain the Modern World.

Adventures in jurisprudence: The new Kaiser poll on Obamacare

Mark D. White

Classes start for me on Monday (though our spring semester starts today--that's right, on a Friday), and my first class will be one of my favorites to teach. legal philosophy. And luckily for me (and for my students), I was given the perfect news item to start the class and motivate our discussion.

The International Business Times reported yesterday on a new Kaiser Health Tracking Poll on the Affordable Care Act (aka Obamacare). Of course, there is much confusion regarding the contents and legality of the ACA, but there seems to be just as much confusion regarding the nature of judicial decision-making.

Kaiser pieKaiser reported that 59% of those polled believed that the Supreme Court justices will let their “own ideological views influence their decision” on the ACA, and 28% said the justices will “base their decision on legal analysis without regard to ideology or politics.” The rest were undecided or refused to answer—perhaps because they realized neither choice was adequate. The justices not only will but must use ideology to make their individual decisions, but it will be ideology in the sense of a reflective legal and political philosophy developed over years of study and experience, not their own personal political preferences.

The hearings over the ACA, particularly regarding the individual mandate, will surely prove to be the most important legal case of the decade, if not longer. It is what scholars of judicial decision-making call a “hard case,” one which cannot be settled decisively by what is written in the Constitution and statutes or embodied in over two hundred years of judicial precedents. In such cases, the cynic would say that judges make new law out of thin air by indulging their personal political preferences. But we need not resort to this, when there is a better answer that both explains differences of opinion while retaining a strong sense of civic duty and impartiality among judges.

As legal philosopher Ronald Dworkin wrote, judges decide hard cases by interpreting the existing legal materials (the Constitution, statutes, and previous decisions) and arriving at the answer that best maintains the integrity of the legal system. The question then becomes not whether they interpret the law but how. This is where ideology enters the process, but not in terms of personal politics. In making hard decisions, each judge interprets the law against a legal and political philosophy that he or she feels best fits the historical materials.

It is not a matter of whether each justice supports or opposes the ACA, but whether he or she believes the ACA is consistent with their view of the  legal and political history of the United States of America. Understood this way, ideology does play an integral role in judicial decision-making, but it is a principled ideology based on a careful reading of law and history, not on a judge’s own predilections regarding the case at hand.

This is a subtle distinction, to be sure, and one that leads to tremendous confusion. Legal scholars and ordinary citizens alike are much too eager to say that judges vote their politics, whether liberal or conservative—especially when the judge is on the “other side on the aisle” from the critic. But this shows  a regrettable degree of bad faith. It is just as easy to say that each judge votes according to the principles for which he or she thinks—after years of study, reflection, and experience—that the United States stands. Will the resulting positions correspond to their personal political beliefs? Of course they will, but that doesn’t imply they are voting based on their personal politics, but rather that their personal politics are based on the same careful analysis that informs their judicial decision-making.

Will “liberal” judges likely vote in support of the ACA? Yes, but not because they support the president and his party; they will vote for it because their vision of this country is one in which the government plays an active role in ensuring the well-being of its citizens (whether the ACA will actually achieve that or not). Will “conservative” judges likely vote in opposition to the ACA? Yes, but not because they oppose the president and his party; they will vote against it because their vision of this country is one in which the government interferes in its citizens’ lives only to prevent harm (whatever their conception of harm may be).

Judging from the many arguments I’ve heard and opinion pieces I’ve read over the last several years, I believe this is how most people outside Washington think about the Affordable Care Act and the individual mandate: in terms of principle rather than politics. Why, then, is it so hard for them to believe that the justices of the Supreme Court think in the same way?

Frum on Election Follies

Jonathan B. Wight

Today's Morning Edition radio show had an insightful interview with David Frum, the former Republican strategist.

Frum notes that a politician has to be emotionally connected to his or her constituents and at the same time be intellectually capable of sifting facts and constructing policies that address problems rather than just feed the emotion about problems.

Can I say this is a "Smithian" approach—in reference to Adam Smith's moral sentiments along with his economic policies? Moral sentiments play a foundational role in the motive for laws, but individual moral sentiments have to be brought down to a lower emotional pitch—through the use of self-control. Work at lowering the emotional pitch, Smith would say, not inflaming it. Smith was very worried about mob rule, particularly brought on by religious ferver.

Newt Gingrich, according to Frum, has achieved that strong emotional connection to the base that explains his rise in popularity. But Gingrich is feeding and inflaming those emotions often by distorting facts and without providing workable solutions. Mitt Romney, according to Frum, has little ability to connect emotionally, yet he has the demeanor and temperament to come up with reasonable policy solutions.

Not coincidentally, tonight's Republican debate will encourage the audience to participate through clapping and other reactions. Gingrich reported threatened to boycott any debate that did not allow audience cheering. The TV networks have hired a stage director to "loosen up the crowd" and generate loud enthusiasm so as to generate more TV audience interest. In other words, we are creating a survival game, a Roman arena where the crowd has come to see blood. It's all about emotion, and damn the facts and policies! Forget self-control: this is an age of Twitter, IM, and Facebook, and people want to spout what's on their minds. [Well, I sure do, that's why I contribute to this blog!]

One can't help recall the downfall of Athenian democracy (led by the mobs) and the death of Socrates by a boisterous crowd. This is a reason our founding leaders did not create a democracy, they created a Republic. We do not have direct elections but the Presidency is decided by the Electoral College. In the past I have favored eliminating the Electoral College and going to a direct public election. After seeing this carnival, I may need to reconsider.

Even worse, the crowd at tonight's debate is pre-selected to be those most politically active; it will not represent anything like a cross-section of America. Do we really want mobs determining our elections? Can anyone remember 1933? In the descent into dictatorship, Hitler riled up his audience in the Reichstag with these emotionally-laded words:

By its decision to carry out the political and moral cleansing of our public life, the Government is creating and securing the conditions for a really deep and inner religious life. The advantages for the individual which may be derived from compromises with atheistic organizations do not compare in any way with the consequences which are visible in the destruction of our common religious and ethical values. The national Government sees in both Christian denominations the most important factor for the maintenance of our society.

Nothing like a little religious rant to inflame the passions?

Frum asks us instead to support candidates who can use society's passion to direct the nation in positive directions, in ways that lower the flame of negative emotions, and he cites Roosevelt during the depression and WWII and Reagan during the cold war. You may choose to hold up other presidents who showed remarkable self-control, and did not inflame the emotional wounds of the time: my candidates would be Washington and Lincoln. How about yours?

[More in a day or so on Obama's State of the Union; which some would say inflamed.]

UPDATE (1/27/12): Timothy Egan has an article "Deconstructing a Demagogue" in today's NTTimes that further develops these ideas.

“Shareholder value is the dumbest idea in the world”

Jonathan B. Wight

That's not me saying it – it's Jack Welch(!),voted the "Manager of the Century" by Fortune magazine in 1999.

Executives spend way too much time managing expectations and not enough time building long term value. To use a simile of Roger Martin's, it is like football coaches spending their week on the phone to Vegas, massaging the point spread—and then running the game on Sunday to exactly meet that spread! The game is "fixed." Would fans stand for that?

If football fans don't like it, why should stockholders? Management guru Peter Drucker provides this interesting review in Forbes of Roger L. Martin's, Fixing the Game: Bubbles, Crashes, and What Capitalism Can Learn from the NFL (Harvard Business Review Press 2011).

Drucker and Martin both attack the demon that is the reality today on Wall Street: chasing earnings expectations rather than building a customer base through service and product innovation. The demon raises management costs, fudges accounting, and distracts everyone from long term goals:

"Although Jack Welch was seen during his tenure as CEO of GE as the heroic exemplar of maximizing shareholder value, he came to be one of its strongest critics. On March 12, 2009, he gave an interview with Francesco Guerrera of the Financial Times and said, "On the face of it, shareholder value is the dumbest idea in the world. Shareholder value is a result, not a strategy… your main constituencies are your employees, your customers and your products. Managers and investors should not set share price increases as their overarching goal. … Short-term profits should be allied with an increase in the long-term value of a company."

Drucker's focus on the product and the customer as the goals, while treating shareholder return as a constraint, seems paradoxically better suited to creating long term value for shareholders. To use the phrase coined by John Kay, obliquity means getting to an end through indirect means. That is how Jack Welch accomplished his success.

Martin's book has various policy conclusions about how to spur a re-thinking, through changing tax and accounting laws. But it also will take a careful discussion about the philosophy of capitalism. The idea that maximizing shareholder value is and ought to be the only goal of a manager is, of course, an idea championed by Milton Friedman. As developed here, Marty Calkins and I argue that Friedman's exposition contains some serious internal contradictions.

I don't think Friedman would reject the idea that it is possible to maximize shareholder value in the long run by not focusing on shareholder value in the short run. There is always a danger that this thinking can lead a company down the path to oblivion; but managers hawking quarterly earnings may accomplish that even sooner.

Regulating Goods versus Speech

Jonathan B. Wight

Reading Ronald Coase – Pt III

One more post on Ronald Coase's, Essays on Economics and Economists (Chicago: University of Chicago Press, 1994).

In one essay, "The Market for Goods and the Market for Ideas," Coase tries to explain why liberals strongly support the First Amendment right to free speech -- namely, laissez-faire in selling ideas -- yet often strongly oppose laissez-faire in some goods markets.

His answer may be derived from his reading of Adam Smith, and relates to self-interest and self-esteem:

Self-esteem leads the intellectuals to magnify the importance of their own market. That others should be regulated seems natural, particularly as many of the intellectuals see themselves as doing the regulating. But self-interest combines with self-esteem to ensure that, while others are regulated, regulation should not apply to them. And so it is possible to live with these contradictory views about the role of government in these two markets. (Page 67-68.)

Coase goes on to analyze an interesting feature of the modern press: namely, that print media are almost completely unregulated whereas broadcast media are subject to extensive FCC oversight. What is interesting to Coase is that print journalists have complained so little about the abridgment of First Amendment rights of their fellow broadcasters. This is particularly obvious in Britain where the BBC historically had a monopoly on broadcasting.

Coase explains this once again in terms of self-interest: print journalists don't mind the First Amendment rights of broadcasters being restricted because that inhibits their competitors! Nice slam dunk!

As much as I tout virtue ethics, we should always remember, "No one ever went broke over-estimating the self-interest of an economic actor."