Trade and the moral community

Alex Tabarrok has a brilliant post on trade and the moral community - the moral community being the people whose welfare you most care about, or alternatively the people who determine the laws and policies that govern your life.

Define 'moral community' on a continuum and add a dynamic dimension on top, and Alex's model provides a complete theory of the political economy of trade liberalisation. A must read.

Why I'm not allowed to smash plates anymore

This is an issue close to my heart, and a testament to how the rise of 'litigation culture' is threatening to wipe out our civilisation (well, maybe I'm exaggerating here, but fun levels are certainly taking the plunge).

Thanks to the excellent Overlawyered for the pointer. The Daily Telegraph story is here.

The trouble with women - part 1

The Harvard Crimson has an interesting piece on Harvard Prof. Claudia Goldin (thanks to Greg Mankiw for the pointer). Goldin, who has dedicated a significant part of her research career on documenting and explaining gender wage differentials, makes some interesting observations:

Equivalent men and women, who go to the same college, graduate from the same law school, get the same job after graduation—we see them ten years later, the guy’s making a gazillion and the woman is in a small practice making maybe 60 percent as much.

Why is that the case? Most likely, she made a conscious decision to shift into a smaller practice that didn’t have 80-hour work weeks to combine family with career and to do it in a way that was satisfying. Now, why not her husband?

An important factor behind this oft-observed pattern could be path dependence, the same reason we are stuck with the inefficient QWERTY keyboard. There was a time when sheer physical strength was the most important determinant of productivity. In order to maximise household welfare and in line with the principle of comparative advantage, men became the bread-winners: hunting, ploughing the land, trading along dangerous routes. Women adopted the less physically demanding job of raising the children and taking care of the household.

In modern economies, brains have replaced brawn as the primary means towards making a living; the comparative advantage of old has disappeared. Shouldn't then women be equally represented in the workplace and command the same wage for the same job? Note that 'equivalent men and women, who go to the same college, graduate from the same law school, get the same job after graduation' also tend to get married to each other - if my friends and acquaintances are anything to go by, couples almost always share a similar level of education and earning potential.

In such a household, an efficient allocation of resources would be achieved regardless of whether the husband or the wife stayed at home to look after the kids. Enter cultural norms: societal expectations tip the balance in favour of women taking more time off work and suffering the biggest hit on their lifetime earnings. Add to that the poisoned chalice of superior benefits offered to mothers (maternity leave is longer than paternity leave, and less frowned upon by bosses) and labour force participation as well as wage differentials can be fully explained without having to assume women have a stronger preference for taking care of the kids than men do.

Here's Goldin again:

There are still discrimination cases that we find in the newspapers that outrage us. That women working for some accounting firm are doing the same job and being paid less. I think it’s less so now than it was, possibly because we became, as a nation, far more aware that this is not just wrong but it is illegal.

While path dependence is almost certainly part of the answer to the puzzle, I believe the historical development of cultural norms is actually much less important than another, more fundamental economic reason.

Hold on tight, the second part follows after a short break.

Acronym finder

A great resource to help you figure out what an acronym stands for.

by datacharmer | Saturday, April 28, 2007
  | 0 comments | | Acronym finder @bluematterblogtwitter

Ignorance is bliss

In the spirit of my previous post, the former president of the World Bank James Wolfensohn comments on the 'anti-globalisation' protesters:

When you see someone outside a barricade attacking you vehemently because of something called globalization, you have to wonder what it is they're getting at. It enrages me when you have people who assume they have the moral high ground against a team of people here who are devoting their lives to addressing the very questions that these people claim to be addressing.

The excerpt is from PBS's video documentary Commanding Heights - The Battle for the World Economy (click here to watch the video).

So what are the protestors getting at? Self-righteous anger is beneficial to those in the barricades: they enjoy the 'warm glow' effect from feeling they are helping to make the world a better place, while bearing none of the costs of looking into the issues and trying to make sense of often mundane - but critical - realities.

While there are definitely a multitude of problems with the way the IMF, the World Bank or the G7 operate, the 'anti-globalisation lobby' seems to be protesting at little else than 'the poverty of the human condition' itself. From an individual point of view, this makes perfect sense. From the point of view of society as a whole, it is catastrophic.

The Summers memo: a story of intellectual cowardice

The Summers memo was written by Lant Pritchett and signed by Lawrence Summers when the latter held the position of Chief Economist at the World Bank. While intended for internal consumption, it was leaked to the media and sparked a fury of protest amongst environmentalists and the general public; the then Brazilian Secretary of the Environment Jose Lutzenberger labelled it a 'concrete example' of 'the arrogant ignorance of many conventional 'economists' concerning the nature of the world we live in'. Summers himself discounted it as an 'ironic aside', and claimed that the published excerpt was taken out of context.

DATE: December 12, 1991
TO: Distribution
FR: Lawrence H. Summers
Subject: GEP

'Dirty' Industries: Just between you and me, shouldn't the World Bank be encouraging MORE migration of the dirty industries to the LDCs [Least Developed Countries]? I can think of three reasons:

1) The measurements of the costs of health impairing pollution depends on the foregone earnings from increased morbidity and mortality. From this point of view a given amount of health impairing pollution should be done in the country with the lowest cost, which will be the country with the lowest wages. I think the economic logic behind dumping a load of toxic waste in the lowest wage country is impeccable and we should face up to that.

2) The costs of pollution are likely to be non-linear as the initial increments of pollution probably have very low cost. I've always thought that under-populated countries in Africa are vastly UNDER-polluted, their air quality is probably vastly inefficiently low compared to Los Angeles or Mexico City. Only the lamentable facts that so much pollution is generated by non-tradable industries (transport, electrical generation) and that the unit transport costs of solid waste are so high prevent world welfare enhancing trade in air pollution and waste.

3) The demand for a clean environment for aesthetic and health reasons is likely to have very high income elasticity. The concern over an agent that causes a one in a million change in the odds of prostate cancer is obviously going to be much higher in a country where people survive to get prostate cancer than in a country where under 5 mortality is 200 per thousand. Also, much of the concern over industrial atmosphere discharge is about visibility impairing particulates. These discharges may have very little direct health impact. Clearly trade in goods that embody aesthetic pollution concerns could be welfare enhancing. While production is mobile the consumption of pretty air is a non-tradable.

The problem with the arguments against all of these proposals for more pollution in LDCs (intrinsic rights to certain goods, moral reasons, social concerns, lack of adequate markets, etc.) could be turned around and used more or less effectively against every Bank proposal for liberalization.

Let's have a look at the individual points. As an empirical matter, people in poor countries do care less about their health than their luckier cousins in developed countries - and Emily Oster can testify to that (here's a popular account of her research on AIDS published in Esquire, and here is a recent academic paper). It makes sense too: if you are struggling to survive, life is so much less enjoyable. I would gladly accept a bit more pollution if that meant I could now put food on the table and send my children to school.

The validity of the second point should also be easy to see. If you have to bury toxic waste, you might as well do it in the middle of the Sahara rather than Manhattan. What's also true is that developing cancer is not a particular concern for the average African: destitution and lack of the absolute basics means that few get old enough to worry about dying from 'rich-man's disease'.

As for the third point, you only have to look at the history of developed nations. During the industrial revolution, British cities were amongst the most polluted and unsanitary places on earth. As economic growth pushed the masses out of the abject poverty that that had been the norm since the beginnings of time, the urban environment started improving rapidly. Air quality in London has increased dramatically since the 1950s. With strong economic growth allowing Londoners the luxury of demanding ever stricter environmental standards, things can only get better.

The real irony of it all is that Summers' suggestion need not even be made - what he is proposing is happening already. Pollution is being traded from rich to poor countries, and rightly so, despite the moralising. Just have a look at the environmental standards of the US and the EU and compare them with those of China, India and Nigeria. Whether we like it or not, poor countries have more important things than pretty air to worry about.

Let me make clear that I am not suggesting there is an unambiguous case for further promoting trade in pollution. Corrupt governments that capture the gains from trade for a small 'elite', coupled with the inability of even democratic regimes to fully take into account the interests of future generations, mean that we cannot a priori determine whether poor countries will be better off. In principle, however, and if we make sure the right institutions are in place, the idea expressed in the Summers memo is sound; pursuing it further can make everyone better off.

The moral of the story is different. I am disappointed that sloppy thinking and ideology get in the way of making life better for everyone. I am appalled that good-meaning people are so quick to be explode in self-righteous anger while not finding a second to think and question whether they are hurting the same people they are purporting to help. Natural disasters aside, ignorance and moral posturing have been behind every tragedy that has ever befell the human race. It's a shame that people who should know better remain silent when the mob starts screaming.

Quote of the day

Investing should be more like watching paint dry or watching grass grow. If you want excitement, take $800 and go to Las Vegas. - Paul Samuelson

by datacharmer | Monday, April 23, 2007
  , | 1 comments | | Quote of the day @bluematterblogtwitter

Is tax loopholing wrong?

Robin Hanson thinks so.

In the movie Bubble, a woman visiting a man's room waits until he goes to the bathroom, and then searches for cash, which she finds and keeps. Abstractly I understand why someone might do this, but I would feel completely ashamed to do it. It is not just that such theft is uncommon or illegal, or that I had a connection to the victim; I would feel ashamed even if it were legal, if most everyone did it, or if the victim were a stranger. And I suspect most people feel this way.

I feel the same strong sense of shame about tax loopholing - the act of working to find a way to present myself on my tax form so that I pay less taxes. The very idea revolts me, and I just can't bring myself to do it. But here I seem to be unusual - most people I know seem proud to find better tax loopholes.

Judge Learned Hand (arguably the bearer of the coolest name in legal history) was of a different opinion:
Any one may so arrange his affairs that his taxes shall be as low as possible; he is not bound to choose that pattern which will best pay the Treasury; there is not even a patriotic duty to increase one's taxes[. . . . ]

I will concede the point that the practice of tax loopholing is socially wasteful, however this in itself is not enough to make it morally repugnant. Driving your car during rush-hour is socially wasteful too, as is playing defensive (and thus boring) football in order to wrestle victory from a superior opponent. In free, democratic societies you are allowed, and expected, to pursue your personal interest in so far as you 'play by the rules' - and that's the way it should be. In my opinion, there's nothing natural or moral about paying more to the government than your fair share, as defined by tax law.

To take the argument a step further, does Robin think that those who opposed the Bush tax-cut and didn't donate their rebate to the government are morally bankrupt?

Measuring worth

How much would a pound buy you in 1850? What was the inflation rate in 1266? What's been happening to the Dow Jones Industrial Average since its inception?

answers these, and more, questions.

by datacharmer | Sunday, April 22, 2007
  , | 0 comments | | Measuring worth @bluematterblogtwitter

Stats abuse, part 1

Abuse of statistics is a favourite past-time of the press. Moreover, the same cliches keep coming up again and again. Courtesy of BBC Sport, here is one of my favourites:

Boxing promoter Frank Maloney reckons it [Ultimate Fighting Championship] will have "15 minutes of fame", yet it is the fastest-growing spectator sport in the United States.

Any new sport, or new anything for that matter, is almost bound to be growing faster than more established competitors. This blog is definitely amongst the fastest growing in the web: it has grown by a whopping 33% since yesterday. While the BBC will need a few years before it can increase the volume of its online content by as much, they somehow don't seem to be losing much sleep over it.

by datacharmer | Sunday, April 22, 2007
  , | 0 comments | | Stats abuse, part 1 @bluematterblogtwitter

Campaign finance reform, Pigou style

With the current Presidential election on course to becoming the most expensive in history, campaign finance is a hot topic again. I am no expert, but these are the main issues as I understand them:

1. Owing to their ability to make higher contributions, rich individuals and corporations disproportionately influence the political agenda and government decisions. On the other hand, small contributions by individuals are seen as beneficial, as they promote wider participation in the political process.

2. The bulk of campaign spending is socially wasteful, closely resembling an arms race. If there was a way to bring total spending down in a universally accepted manner, everyone would be better off.

3. The main approach in the UK and the US to rectifying problems 1 & 2 above is legislation that imposes more transparency (parties have to declare the contributions they receive) coupled with restrictions on the amount of money an individual or organisation can donate.

Here's a different idea. Why not tax campaign contributions to the extent they are deemed to be socially undesirable? I propose instituting the Undue Influence Tax (UIT), to be introduced as part of the 'Invigorating Democracy Act' and waged on individual donations (and to give it an extra bit of harmless spin, it should be paid by the political parties rather than the donors). It will start at 0% of the value of the contribution, jumping to 30% after the first $5,000 or so, 50% after $10,000 and reaching 95% beyond $50,000.

This will make 'buying' political influence much more expensive - and as we know, when the price of a good rises, quantity falls. It will increase the relative value of small contributions, making candidates reach more to 'the people', rather than the wealthy and large corporations. Suitably calibrated, it can rectify all the actual and perceived ills of the current campaign finance framework.

Furthermore, the UIT is a tax-man's dream. It could become the most popular tax in history, as it only affects a small number of citizens, while clearly contributing towards a greater public good - 'giving power to the people'. The revenue obtained should allow for cuts elsewhere in the tax system or increased spending on public services. There is no need for additional bureaucracy - parties already have to declare contributors' names and donations. Whatever the rate, avoiding the tax is an option only for candidates with a political death-wish. Finally, it can be introduced gradually and fine-tuned to desirable levels , without generating any distortionary behavioural effects.

I'm sure the membership of the (carbon) Pigou club would approve.

Ch-ch-change, change, change

Tyler Cowen (and the Economist Free Exchange) wonder why there's a shortage of small denomination coins in Italy. Here is Thomas Kaminski's letter to Tyler that sparked the debate:

There doesn’t seem to be enough currency in small denominations in circulation. Wherever I buy something, the merchant or cashier seems to ask for smaller bills or coins. Back home in Chicago, if I go into a Starbucks, I don’t give it a second thought if I give the cashier a twenty dollar bill for a $2.50 purchase. They always have plenty of change. Here, even in some supermarket chains, the cashiers constantly ask for exact change or at least for notes in smaller denominations. And when I go to a museum, they often seem to have no change at all... My wife, who is not as familiar with the currency as I am, says that she hates carrying any bill larger than a 10; she constantly gets dirty looks or has to endure sighs of frustration if she tries to buy a cup of tea and doesn’t have small change. And you should see the complications if you try to buy something from a street vendor and don’t have exact change.

Like many personal economic anecdotes, there's something amiss here. Look at what the possibilities are when we try to aggregate and see what happens to this economy at the macro level:

Possibility 1. There are hardly any small-denomination coins or notes in circulation in Italy. People never buy anything priced to two decimal places, and never buy 'small stuff' (or at least always buy them in bulk). There is no market for matches, chewing gum and bus tickets. Small shops stay open not because shop-keepers make a profit (they don't sell anything, as nobody has the appropriate change) but because they get a perverse satisfaction from telling people off when they try to pay for their purchases with 50-euro notes.

Possibility 2. There is actually enough - or at least some - amount of small-denomination currency in circulation, and local consumers (or certain sub-groups, such as kids and OAPs) somehow manage to hoard it all. They purchase all the chewing gum and matches they like with it. Note that, in the process, a lot of this small-denomination currency inevitably passes on to shop-owners. The latter, being avid coin collectors or looking for perverse satisfaction of the type described above, simply refuse to part with it when a hapless customer arriving later in the day attempts to pay for something with anything other than the exact amount.

Possibility 1 somehow doesn't seem likely - I assume that Italians consume their fair share of newspapers, espressos and mars bars. So, we have to settle for possibility number two - shopkeepers expect customers to hold change, and do not go out of their way to cater for those that don't.

Given that I was only kidding about Italian street vendors surviving on Schadenfreude, there must be some other reason why this practice persists. Here's my two cents' worth (if you haven't got the exact amount, read no further):

1. Keeping large amounts of cash in the till (large amounts of all sorts of notes and coins to be able to give exact change, as well as the large denomination notes customers use to pay with) is costly. To start with, cash in the till is not earning interest. There are shoe-leather costs as the shopkeeper has to go to the bank more frequently to exchange all the 50s and 100s for notes and coins he can use to give change. Tills with excess cash are also more attractive to all sorts of mean types, who instead of just being able to walk away with the day's revenue can now obtain some multiple thereof.

These costs are especially high when inflation is rampant and when plenty of bad guys (such as the Mafia) are around. To a large extent, Italy has got rid of the former and, arguably, the worst excesses of the latter - but the past does matter.

2. Being difficult about change is a great way to price-discriminate. People who are very price sensitive make sure they somehow obtain and carry around appropriate change with them at all times, people who are not that careful with their money have to live with paying 2 euros for a coffee priced at E1.78 or 10 euros for a souvenir worth E9.52. Alternatively, they end up buying an extra muffin or a few postcards of beautiful Italy. Both scenarios result to extra profit for the shopkeeper.

The change-less subsidise the consumption of the change-bearers, the quoted price is lower than it otherwise would be, and the shopkeeper sees an increase in sales and profits. And there are a few extra tricks to ensure customers that matter don't end up pissed off. While tourists and wanderers can do nothing about the 'rounding up' other than grin and bear it, price-sensitive frequent customers can claim the difference off future purchases (Luigi, keep tomorrow's espresso on tap!).

To sum it all up, it's unlikely there is a shortage of small denomination currency in Italy - that is, other than in shops' tills. Furthermore, don't expect this situation to change, no matter what coins are minted. Let's say a shopkeeper decides to start having, and handing out, correct change to everybody. He would end up with more cash in the till and less money in interest-bearing accounts (less profit), people not too fussed about change would receive change regardless (less profit), while quoted prices would have to be higher to make up the short-fall, driving away the locals who are aware there is a cheaper cafe a few meters down the street (you guessed it: less profit).

But wait a minute: if shopkeepers in Italy gain by following the 'no change' strategy, why are their US counterparts not adopting it? Plenty of reasons can be cited. For example, American shops have a greater tendency to be large, or part of a chain, than those in Italy - and would thus bear disproportionate reputational costs if they consistently dragged their feet when it came to change. The existence of the one dollar bill (the smaller euro note is the fiver), and potentially even greater circulation of small denomination currency might also be important factors.

I have a hunch, however, that the true answer lies in the past, and in the different economic experiences of Italy and the US. For some reason (lower historical inflation rates, greater labour mobility, etc), US customers have been receiving, and grown accustomed to receiving, exact change. Americans in Italy 'do like the locals' and shrug their shoulders when the paper vendor embezzles their twenty four cents worth of change - but try pulling that trick in a Starbucks in Chicago and the reaction will be very different.