Monthly Archives: April 2018

Responses to some comments

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Some people insist that there is still a working class. For example,

Capitalists are those who obtain a majority of their incomes from capital (interest, dividends, capital gains, profits).

Workers are those who can reasonably expect to get a majority of their income in their lifetimes from wages, salaries, piece-work, or contract labor (1099 workers).

I am not convinced. This amounts to saying that class is determined by IRS regulations and arbitrary accounting conventions. It has very little relationship to how an economist would think about the source of income. For example, think of a doctor. To an economist, the designation of the doctor as “capitalist” or “worker” depends primarily on whether you count the doctor’s investment in medical school as an acquisition of (human) capital. Instead, if we follow the commenter’s approach, it depends on whether the doctor’s medical practice pays compensation in the form of salary or profits.

Moreover, it has very little relationship to how sociologists think of class. The “working class” will include workers with high autonomy as well as low autonomy. It will include workers with high social status and low social status. It becomes worthless as a way of predicting anything else about the person’s outlook, tastes, or norms of behavior.

On mental transaction costs, someone wrote,

There are plenty of counterpoints to this mental transaction costs model. Places where the number of choices and costs have proliferated. Fast food, and restaurants, for example. Most places offer a far larger selection with different prices than they used to. Upsize your fries or not, etc.?

I should have defined mental transaction costs more precisely. They are the costs that you incur when price is introduced as a consideration that otherwise could have been avoided. It is not a proliferation of choices, per se. Speaking of fast food restaurants, why don’t they charge for ketchup, or napkins? Why do they have three drink sizes, instead of charging by the ounce? I assume that mental transaction costs are a factor.

The Internet is not what it was

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My latest essay is on the decline of the Internet.

In 1993, I did not picture people having their online experience being “fed” to them by large corporations using mysterious algorithms. Instead, I envisioned individuals in control, creating and exploring on their own.

My theories of its decline include a snobbish view that the masses made it worse. Feel free to give me pushback after you read the whole thing.

Metrics meet the Null Hypothesis

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From a podcast with Russ Roberts and Jerry Muller:

what’s so striking when you read through a lot of this literature on pay-for-performance and standardized measurement combined with pay-for-performance is: How often the scholarly literature shows, in a variety of fields, that it doesn’t work. And yet, politicians, policy-makers, they don’t seem to get the message.

People who are determined to try central planning aren’t interested in theories or evidence that indicate that central planning does not solve the problem.

It occurs to me that among the many problems with metrics in health care or education is that often the best way to look good is to be very selective about your customer base. Schools with children of affluent, two-parent households will tend to look “good.” Doctors who see mostly-healthy, conscientious patients will look “good.” etc.

The whole interview is interesting. Also, people seemed to like my essay on Jerry’s book.

Demonizing those who disagree

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C Thi Nguyen writes,

An ‘echo chamber’ is a social structure from which other relevant voices have been actively discredited. Where an epistemic bubble merely omits contrary views, an echo chamber brings its members to actively distrust outsiders. In their book Echo Chamber: Rush Limbaugh and the Conservative Media Establishment (2010), Kathleen Hall Jamieson and Frank Cappella offer a groundbreaking analysis of the phenomenon. For them, an echo chamber is something like a cult. A cult isolates its members by actively alienating them from any outside sources. Those outside are actively labelled as malignant and untrustworthy. A cult member’s trust is narrowed, aimed with laser-like focus on certain insider voices.

It is one thing to say, “Joe said X, and X is wrong.” It is another thing to declare “You cannot trust anything Joe says.” The latter approach seems to dominate our political discussions, unfortunately.

The author suggests that you can only extract someone from cult thinking if you have first gained their trust. Not so simple. Anyway, I think that my three-axes model is in the spirit of trying to get people to detach from their echo chambers.

Were mortgage securities badly mis-rated?

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Juan Ospina and Harald Uhlig write,

AAA securities did ok: on average, their total cumulated losses up to 2013 are 2.3 percent. . .Losses for other rating segments were substantially higher, e.g. reaching above 50 percent for non-investment grade bonds. . .

Cumulative losses of 2.2% of principal on AAA-rated securities surely is a large amount, given that rating. Such losses after six years may be expected for, say, BBB securities, and not for AAA securities. AAA securities are meant to be safe securities, and losses should be extremely unlikely. From that vantage point, an average 2.2% loss rate is certainly anything but “ok”. We have chosen this label not so much in comparison to what one ought to expect from a AAA-rated security, but rather in comparison to the conventional narrative regarding the financial crisis, which would lead one to believe that these losses had been far larger. Ultimately, of course, different judgements can be rendered from different vantage points: our main goal here is to simply summarize the facts.

Authors’ emphasis. They also say,

these facts provide challenge the conventional narrative, that improper ratings of RMBS were a major factor in the financial crisis of 2008.

I object to this conclusion. The capital requirements for the securities depended on the ratings. Because of the AAA ratings, the capital requirement was less than what the loss percentage turned out to be.

As I see it, the facts in the paper support the conventional narrative. If the securities had been correctly rated, then there would have been no financial crisis. If the securities had been properly assigned BBB ratings, or any ratings below AA, banks could not have bought the securities without having at least five times the amount of capital that was required for AAA.

The charitable interpretation is that the authors do not appreciate the significance of capital regulations. The uncharitable interpretation is that they are trolls.

The solar exponential

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In his regular email, Peter Diamandis writes,

Currently, the amount of solar installed each year increases by 35 to 40 percent.

…One megawatt of solar power is estimated to require 8 acres of land. U.S. solar capacity is on the order of 3,000 megawatts (only 0.65 percent of U.S. power produced)

Total electricity demand in the U.S. has been flat in recent years. So let’s play with a 40 percent rate of increase starting from a low base of 0.65 percent of U.S. power production. At that rate, it will take about 7-1/2 years for solar to account for 10 percent of U.S. power production. But then in another 7-1/2 years, it would be 100 percent.

Of course, the solar exponential might not be that high. Still, it is an interesting illustration of the potential of compound growth.

Imperfect business management

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Alex Tabarrok writes,

management matters and it matters in systematic and fairly easy to replicate ways. If mis-measurement explained productivity differences, Lemonis would not be able to successfully turn firms around. But he can and does. How?

Mainstream economics starts with the assumption that firms are behaving optimally. This is absurd. Firms are operated by human beings, and human beings are flawed. People always make mistakes, and there are always opportunities to improve.

I am guessing that when badly-run incumbents lack regulatory protection, it has become somewhat easier to drive them out of business. Transportation costs have come down. So have communication costs. This increases the geographic reach of strong competitors. So the worst retailers and the worst companies that need software management skills have a really hard time sticking around.

The requirement to earn a profit is probably the most important check on bad management. Non-profits can be poorly run as long as donors are tolerant. Sectors in which the government is heavily involved can be inefficient, because the government can always be counted on to boost demand and restrict entry. So my guess is that it’s easier to survive as a badly-run “green energy” firm or a badly run college than as a badly-run software company or a badly-run grocery chain. Note that I mean “badly run” in relative terms, because, again, humans are flawed, so that every company is “badly run” in absolute terms. Yes, I know that some of the “green energy” firms that received government subsidies went under, but it seems reasonable to say that they lasted longer than they would have with the same strategy and execution but no government help.

What do we mean by ‘working class’?

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William Galston provides highlights from a Pew survey of how party support has shifted over the past twenty years. He writes,

Democrats’ advantage in urban counties has shot up from 18 to 31 points, while Republicans have gone from a tie with Democrats in rural areas to a 16-point lead today.

He gives many other examples. He does not say so, but most of the demographic categories that favor Democrats are growing larger, while those that favor Republicans are shrinking. I recommend the entire column.

But I was most struck by this sentence fragment:

among voters with no more than a high school diploma—the so-called working class

In 1950, if you added together manufacturing production workers and mine workers, you could get a large enough total to constitute a “class.” I would guess close to one-third of adult males, maybe more. They made the AFL-CIO a big deal.

Today, those two groups would be much less than 10 percent of all employment. So, less than 5 percent of adult males? In any case, not enough to really call a class. So Galston has to describe working class as “no more than a high school diploma,” and he has to include the qualifier “so-called.”

My point is not to knock Galston or to deny the significance of differences based on educational attainment. I’m fine talking about a social or political divide that correlates with education. I just want to get rid of the term “working class.” In the 21st century, I don’t see how it can be defined in a useful way.

Evan Williams on media business models

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He writes,

The reason quality — of content and experience — has gone down in publishing, not up, despite the power of competition and technology, is because publishers are competing for advertiser dollars, not audience dollars. Business model is gravity. Once publishers are competing for audience dollars, the product they produce will get dramatically better.

…The average thinking, reading person reads from dozens of sources per month. Even if they were very cheap, there will be subscription fatigue. Cognitively, and economically, people will be able to rationalize a handful of content subscriptions at most (in addition to their 2–3 music/TV subscriptions).

There is not much difference between what Williams is arguing for today and what I wrote in 2001. This is one of my old essays that still holds up pretty well.

Mental Transaction Costs

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I have a new essay on mental transaction costs.

Perhaps consumers are ignorant about health care prices for a reason. When it comes to relieving pain and suffering, we do not want to take on the task of deciding between treatments based on price. Imagine having to ask yourself how much pain you would be willing to endure to save an addition $500. Or trying to choose between a high-cost treatment that is certain to work and a lower-cost treatment that has only a 75 percent chance of success.

Allowing our treatment choices to be made for us by doctors, with insurance companies in the background negotiating prices and determining what will be covered, saves us on mental transaction costs. We prefer to obtain health care without having to make cost trade-offs.

Please read the whole essay before commenting.