The Government Reflex

Another case of libertarianism run amuck. Gourmet cupcakes only exist because of... zoning laws and (local) government planning! It's always hilarious when 'pro-market' folks see a type of consumer good they don't like, so let's blame it on government!

That's Jeremy Horpendahl's comment via Google Reader on this article. It's about those tiny stores--specifically cupcakes--which sell expensive gourmet treats and how they are really the engineering of government action.

Consider the cupcakes. Sure, there is clearly a market for gourmet cupcakes with high-end ingredients. But it’s probably not a viable storefront business in most locales. Except due to zoning and government planning, there are commercial districts with “excess” capacity. Simultaneously, governments strongly discourage home-based and informal businesses that promote trade outside designated “commercial” areas. Planners also want commerce concentrated in areas where customers are more likely to pay upscale prices — and thus higher sales taxes — which contributes to the appearance of economic growth.

Gourmet cupcakes are a city planner’s dream business. It’s an impulse purchase that fits into high-foot-traffic areas (no cars!) and provides the customer with the illusion of luxury. It also tends to bring attention from fad-conscious media outlets — there’s a cable television series devoted to a Washington, DC cupcake store — which also feed the illusion.

Its tortured logic. Planners want cut gourmet shops. They have the ability to make easy for some shops to open and hard for others. We have many gourmet shops. Ergo, they are they because of government.

I don't know if we have "many" of these shops or "too many" of them. I have not idea what that means. I know that once Tanya and I ducked into a gourmet cupcake one in Georgetown (not the one on the show). It's off the main street, a bit hard to find actually, and it was so crowded we could barely walk around. Yeah it was a weekend, but it was about as stuffed as a Starbucks on a Monday morning.

Is it so hard to believe that if people are willing to pay a premium for coffee (which is one of the easiest things you can make in your kitchen), they won't also pay a premium for hot dogs, ice cream, and cupcakes? That these aren't daily purchases only translates into fewer stores. A struggling Cold Stone Creamery is more likely the result of the recession, not the beginning of some sort of gourmet bubble.

I assume that, like restaurants, these stores have a high failure rate. That is hardly grounds to weave an elaborate story involving sugar, bureaucrats, and dreams of a centrally planned future. It's haphazard and sloppy. It's embarrassingly knee-jerk. It's intellectually lazy. It speaks to everything people hate about libertarians.

Sometimes a short comment says a lot more than a long article.

The Fake Helium Crisis

From MR:

Is it possible that the relative price of helium will rise in nearly unprecedented fashion? Robert Richardson voices his opinion:

[The US government should] Get out of the business and let the free market prevail. The consequence will be a rise in prices. Unfortunately party balloons will be $100 each rather than $3 but we'll have to live with that. We will have to live with those prices eventually anyway.

He notes:

There is no chemical means to make helium. The supplies we have on Earth come from radioactive alpha decay in rocks. Right now it's not commercially viable to recover helium from the air, so we have to rely on extracting it from rocks. But if we do run out altogether, we will have to recover helium from the air and it will cost 10,000 times what it does today.

Apparently the government has a giant store of helium which it built up in the 1920s for dirigible-related emergency reserves and now it's selling it off, flooding the market and depressing the price--that's the intervention Richardson is talking about. This is a problem, but not a long term problem: the goal it so sell it all off by 2015. When the reserves are gone, the price will rise. In fact I bet that people are buying helium now and storing it to sell later, when those reserves are gone. So I'm not terribly concerned about a helium crisis mostly because of a link I followed in the MR article:

On Earth, Helium is found mixed with natural gas, but few producers capture it.

In other words when the price rises, companies will start extracting it. I think we all (squeakily) breathe easy.

Obama Is a Secret...Oh Who Cares?

Matthew Yglesias suggests that an increasing share of Americans (18%, up from 11% in March 2009) believing Pres. Obama's a Muslim derives from poor economic conditions.

My best guess is that we can just chalk this up to the general dynamic of recession-induced suspicion and incumbent unpopularity.

Possibly. I have another, complementary, theory: no one cares.

When there's a lot going on in your life and you're stressed about losing your job or finding another one and the bills are piling up, you don't care what religion the President is. Spending time caring/screaming about irrelevant facts is a normal good for some: it rises as income rises. In the early days of the recession, when some thought it might be a small blip, people cared about this. They were willing to listen beyond the occasional yelp that he's a secret Muslim, sometimes onto more reasonable people that correctly point out he's Christian. But now they hear those screams, brought up again surely because of the midterms and because commentators know people aren't going to look into it as hard, and accept it. Because double-checking is a pain, thinking hurts, and they have better things to do.

Collaboration Brings Progress on Alzheimer’s

My research involves how patents make it difficult to share their knowledge which makes it harder to create derivative inventions. Suppose everyone controlled a single puzzle piece. Putting together that puzzle would involve negotiations for each piece and even if you were to get 90% of what you need to assemble it, the puzzle won't be complete and it'll show. Knowing that danger, you don't bother trying to assemble the pieces.

Patents are puzzle pieces and gathered together the right ones can make something truly amazing. But getting them together is hard, especially in the biotech world where so many crucial pieces are spread among so many people/firms. So I was thrilled when I read this in the NYT:

The key to the Alzheimer’s project was an agreement as ambitious as its goal: not just to raise money, not just to do research on a vast scale, but also to share all the data, making every single finding public immediately, available to anyone with a computer anywhere in the world.

No one would own the data. No one could submit patent applications, though private companies would ultimately profit from any drugs or imaging tests developed as a result of the effort.

Now, the effort is bearing fruit with a wealth of recent scientific papers on the early diagnosis of Alzheimer’s using methods like PET scans and tests of spinal fluid. More than 100 studies are under way to test drugs that might slow or stop the disease.

While patent pools--firms making an agreement to share each others' patents--is not new, the notion of not allowing people to patent the work in the first place is. One of the unintended consequences of patent pools is that firms patent things just so they can join the pool. This method avoids that problem, though the fact that if focuses on basic research is surely an important part of its to-date success.

My Students On Opportunity Costs II

This was on the final I gave my students last week:

Suppose a friend offers to take you bowling for your birthday, an option you value at $100. You can also spend $50 for a bus ticket so you can spend your birthday with your significant other, an option you value at $200. You cannot do both options. What is your opportunity cost of going bowling?
a. $100
b. $150
c. $200
d. $350
e. None of the above

A similar question was put before professional economists not too long ago (the scenario was different and there was no "None of the above" option). Astonishingly 78% of those economists got it wrong which is worse than if they guessed randomly (there, 75% would get it wrong).

For my class, I am proud to say, 71% got this question correct. Part of this is surely because they read about the original question in The Economic Naturalist which they read. However, that was at the beginning of the summer semester and this was on the final. Still, it likely had a big impact because I did the same trick last year for my international economic policy class. Only a quarter got it correct then (I repeated the question for the final with some tweaks to make it clearer; 52% still got it wrong). They did not have The Economic Naturalist but they did have the same question twice in a row.

Other theories:

This year I used the Modern Principles textbook (blog here, which I help write). I think having a textbook, especially this one, helped. It gave students another resource to consult and went into more detail than I could in class.

I think this is also the year when I started systematically referring to opportunity cost as the "net benefit of the next best option," not "value of the next best option." Most resources (including Modern Principles) use "value" which I think confuses students into thinking it's about how much I value the option, not how much I gain. In other words, opportunity cost includes the cost of the forgone option, which is why the answer is (b): $200-$50=$150.

In Defense of Recalculation and Capitalism

Arnold Kling's gotten some heat that the Recalculation Story suggests, as Matthew Yglesias puts it, "radical underlying flaws in the capitalist economic model that call not for small-bore government intervention but for wholesale rethinking of the way the economy functions." For those of you just joining us, the Recalculation Story attempts to explain booms and busts through fundamental changes in the landscape of the economy and the difficulties in adapting to those changes. The wrong people go to the wrong jobs as firms try to adapt. Productivity struggles until firms figure out how this brave new world functions.

Nothing in the story suggests the capitalist system is fundamentally flawed and should be scrapped. When there's massive technological change, growth is hard. This should not be surprising because growth requires time to invest in both skills and capital. It requires planning and when you can't plan, you can't grow. But once you figure out the landscape, you're much better off for it.

Think of high schoolers dating. You don't really know what you want in a partner when you're young but dating's fun and you get pretty good at it. You might happily date someone regularly for years. But then you go to college and everything changes: you're exposed to new people, new ideas, things you never considered before, couldn't consider before, because you lived your life in a world in which you had no idea how small it was. Try to return to your old ways and you'll be miserable. So you break up and spend a lot of time dating new people, trying to determine what you want in this much larger world. That's recalculation.

Technology expands our world. It makes things we thought impossible, possible. This is hard to adapt to: clearly seen in how newspapers are struggling to evolve with the Internet. And yes, the system is not perfect, but few economists will say capitalism is perfect. But trying to fix the problems derived from mere mortals by mere mortals is doomed to make a mess of things. In some countries, we still have that in dating: arranged marriages. And young people hate it.

The Shape of Things (Well, Just Taxes)

The Laffer curve is an inverted U-shaped curve which dominates the economic and policy discussions of taxes. It illustrates the relationship between tax rates (x-axis) and tax revenue (y-axis): as tax rates increase, the government gets more money until rates are so high, people leave the formal sector altogether and stop paying taxes. At both 0% and 100%, government gets no revenue.

The discussion about increasing or lowering taxes often reverts to where we are on the Laffer curve. If we're to the left of the peak, raising taxes raises revenue while on the right of the peak, lowering taxes lower revenue. Brad DeLong recently posted this graph of OECD countries' tax rates and revenue, claiming the peak is pretty far to the right.

What's bizarre about these discussion is that there's so much incentive to operate the peak. Raising taxes on everyone by just a bit (or raising taxes on unpopular people by a bit more) gives lawmakers a huge chunk of change to hand out to constituents. From the politician's perspective costs are low and benefits are high. In lowering taxes even more so: you get to lower taxes, raise revenue, and tell the truth! No politician would give up that option. So it seems pretty obvious to me that most countries operate at more or less the peak of the curve.

So why does DeLong have this graph with a clear upward sloping relationship? Because each country has a different peak. Operating in the extralegal sector means you can't operate in the legal sector. Therefore, the opportunity cost of going extralegal is higher in some countries than in others based on the quality of the legal sector. This is why developing countries, with an awful legal sector, have to depend on inflation to make ends meet. It's also why Sweden keeps a high tax rate: its government functions very well (for various demographic and cultural reasons). If you want to make a claim in favor or against taxes efficiency is much firmer ground.

Krugman on Spending

Paul Krugman argued that the Obama administration actually hasn't spent that much. When you adjust for potential GDP (as defined by the CBO), government consumption and investment is about 19% of GDP. Throw in the transfer payments--Medicare, Medicaid, Social Security, unemployment insurance--and we get a leap to almost 34% of GDP.

All interesting stuff. But then it gets weird.

In short, the giant increases in government spending we keep hearing about are a myth

Wait, what? Let's look at that chart again.

That looks like a giant increase in spending to me! Yes, Krugman's addressing the concerns about Obama going on a spending binge with policy but really the increases are coming from automatic stabilizers. But since Obama approved extending unemployment insurance, that automatic stabilizer Krugman credits for the spike, then those arguments about a spending binge stay just were you left them, though admittedly in a different form.

It seems strange to judge if someone's spending too much by basing it on GDP: you can still overpay for something if you're rich, especially when the opportunity cost is high. And since government tends to be less efficient than non governments, you can almost always bet that opportunity cost is high. A government spending 30% of a small GDP country is less damaging than a government spending 10% of a country with 100 times the GDP (ceteris paribus). The bigger country has more potential: more schools, technology, fashion, whatever that is lost. That's because the "slimmer" country is sacrificing more wealth than the bureaucratic country, even if (and possibly because) it is producing more wealth, too.

Free Riders?

I hope my micro students can answer the following:

True or False

Suppose everyone in this class got the same grade which is based on what percent of people got an answer correct. This system would lead to many free riders.

Naturalist Questions

Every time I teach microeconomics, I assign Robert Frank's The Economic Naturalist and have students come up with their own question and answer it. Most of their have their own questions ready but for those that want something different, here're some questions I've found myself asking.

Why does the Trader Joe's in Foggy Bottom (and other stores like Best Buy) use a queue system but the one in Fairfax (as well as stores like Safeway) does not?

Why do AC units and fans have the "high" option next to the "off" option which then decreases (OFF, HIGH, MED, LOW) while stoves use a gradual increase (OFF, LOW, MED, HIGH)?

Why do restaurants give away free bread, which crowds out room for a paying dessert?

Why does popcorn costs so much at the movies (and no, it's not because they have a monopoly on popcorn)?

Why do different movies cost the same amount no matter how crappy or good they are?