Sunday, December 26, 2010

The Deadweight Loss of Christmas

There’s been a lot done about the deadweight loss of Christmas over the years (It really starts with Waldfogel in the 1993). We’ve all received those gives that, well, suck. You know what I’m talking about; the dancing/singing gorilla, the hideous sweater, any “executive” gift, etc. The economic argument is really simple, people would get more utility (happiness) out of the whole exercise if we gave cash and let them pick what they wanted for themselves. We could even go one step further and just do net transfers and save ourselves a lot of hassle.

Well, I got a phone call from somebody this year very apologetically saying they were sending a cheque for Christmas. This suited me just fine. I can buy whatever I want, and assuming I know myself better than they do, I can come closer to maximizing my utility. Combine this with the fact that they avoid the insanity of shopping at Christmas, and wins all around right?

If it is wins all round, and this person knows I’m a weird breed (an economist) why apologize? Why should we be embarrassed to send money as a gift? Might there be something important going on?

A gift is often an expression of how you feel about them and how well you know them. This works for somebody you know really well, but not for people you don’t know that well. This is also high risk. If you get it wrong, you reveal you don’t really know them that well. Not exactly the message you want to send.

Once upon a time, if you lived in a different city or had more free time than somebody else, gift giving would have made sense. You’d have access to different goods at different prices. Or you would have been able to devote more time to shopping than the person on the other end of the exchange. With internet shopping and research, this doesn’t hold up any more.

One of the things I’ve heard people saying about shopping for somebody (and I’ve done it myself) is you want to buy them something they wouldn’t normally get for themselves. There are two ways to interpret this. One, you’re asserting the person you’re buying for is a moron and you know better than they do what will make them happy. While this is certainly a possibility, the sentiment isn’t really a match for that ol’ Christmas spirit. While I generally think that humans aren’t the best at knowing what will lead to happiness, I’d at least like to think I have a better idea of what will make me happy than you do.

The other side of buying something for someone they wouldn’t normally get for themselves is one aspect of gift giving that does make a lot of sense, particularly for those with children or other responsibilities. Money given as a gift often (in my experience) gets spent on something boring and practical, paying down the mortgage, fixing the car, toilet paper, etc. By giving someone a gift that is purely about their own enjoyment (a day at the spa for example) is actually giving them permission to enjoy a pure luxury or to be a little bit selfish and not feel guilty about it. This can have value above and beyond the purchase price.

So instead of us exchanging gifts this next year, maybe we should just give each other permission to be selfish for a day without guilt. Just don’t ask me to wrap it.

Thursday, December 23, 2010

The Fight Over Happiness

There’s some interesting debate concerning happiness going on out there. There have been a number of studies that show self-reported happiness hasn’t increased much when a country’s GDP grows (Easterlin’s work is key in this regard). Then we look at the chart above (reproduced from the Economist’s magazine’s daily charts and at Justin Wolfers’ work) we see a pretty clear relationship between GDP per capita and happiness. So what’s going on here? Why such conflicting results?

There are, of course, the usual arguments about econometric technique and data sources and the like. This, unfortunately, is standard with results that run counter to somebody’s religiously held opinion. But let's be a little less cynical.

There could be a prospect theory style reference point problem with the time series work. People continually reset their happiness based on the income or lifestyle they are used to. While gains are adjusted to very quickly, losses may have a much greater impact on reported happiness. Having running hot water once a week would have made somebody deliriously happy 100 years ago, but now we get grumpy if we have to cut our 20 minute soak under the shower head short. I’d like to see some of these happiness studies done right about now or a year ago in the US. I’m guessing you’ll see a fall in happiness compared to when things were going great. Having the benefits of economic growth may not make us report greater happiness over time, but not having them definitely makes us unhappy.

But there’s another possible problem with both approaches. It could be that most of the people talking about this issue have got the supposed causation backward. The hypothesis being tested is that more income (GDP per capita) makes people happier. If the causation runs this way we would expect an increase in income to increase happiness within a country over time and countries with higher incomes to have higher levels of happiness, hence no conflict about what the data is saying. But what if the causation actually runs the other way?

What if what we’re actually seeing in this data is the idea that people who are happier are more productive and can generate greater levels of output, all else being equal? This would explain why we see a relationship between levels of happiness and a relationship between growth and happiness over time without showing increased levels of happiness when an economy grows.

This is a definite possibility, but I still think economic opportunity (money) is central to happiness. If you disagree, I’d be happy to accept your money. It would make me happy just to help you out.

Tuesday, December 14, 2010

The Up Side of Food Prices

Taken from the Economist’s Daily Charts

Paying more for food might be good for Saskatchewan and Canada as a whole. The price of food is on the rise again. The obvious reason why this is likely to be good for the “great flatness” is a lot of wheat and other food crops are grown here. The higher the price of agricultural output, the better the Saskatchewan economy tends to do. It also helps the price of potash (a key input into many fertilizers), again the higher the price of potash the better things tend to go for the province. The price of potash also has a major impact on the health of the government finances as potash royalties make up a huge portion of government revenue.

While both these things clearly suggest that higher food prices are good for the GDP of Saskatchewan I’m thinking about something a little less obvious. More than 1 in 5 adults in Saskatchewan rate as obese on the BMI, and more than half of Canadians are overweight, with almost 1 in 4 self-reporting obese. (And this is self-reported!). Generally, speaking an increase in the price of something reduces the amount people buy.

Now before we get too excited, the demand price elasticity of food (the sensitivity of how much people buy to the changes in the price) is fairly small. For example the Agriculture and Agri-food Canada estimate of the price elasticity of eggs is -0.35, meaning a 1% increase in price decreases the amount people purchase by 0.35%. On the plus side there is an effect. Increases in the price of food reduce consumption. An increase in the price of food generally has the potential to reduce our consumption. Remember we aren’t talking about a developing country in which people are in danger of starving to death if they eat less. A reduction in calories in developed countries like Canada is likely to improve health.

A downside might be people making a quantity for quality trade off. If this happens we might actually see an increase in obesity in response to an increase in the price of food. I don’t think this is too likely to happen for most Canadians, as other forms of entertainment will likely be substituted. Also countries with exceptionally high food prices (Japan and France for example) have relatively low rates of obesity.

Rising food prices. That’s a good thing?

Thursday, December 9, 2010

I May Need To Change My Mind

I went to a presentation by the Office of the Parliamentary Budget Officer (PBO) yesterday. (The name needs a little work, but it was likely named by committee.) I went expecting to leave annoyed by their incompetence and political hackishness, but left pleasantly surprised. This subgroup of the PBO seems to know what they’re doing.

For those not subjected to this level of minutia, the PBO was started an attempt to create a non-partisan organization to generate predictions about the Canadian economy, the federal budget, and the likely cost of government programs. It was created by the current Tory government under Steven Harper, with the stated goal of improving the transparency.

Something really interesting came up during the discussion, that didn’t really have a lot to do with their main forecasting duties. Someone, probably looking to stir things up a bit, asked how they were being treated by Finance Canada. The short answer – they weren’t getting much help from that direction. The assumption on the part of most of the audience is that this lack of help was a result of a lack of enthusiasm on the part of the Harper government. This may or not be the case, but for now let’s assume it is and try and figure out why you’d create something like the PBO and then not help it achieve its stated goal.

A former student of mine is heavily involved with the NDP in the Maritimes. When they won the Nova Scotia election he was super excited and emailed me with his good news. I congratulated him, but also warned the governing is a lot harder than winning an election. He told me a while ago that, damn it, I was right. The point is new governments don’t really know what’s involved in governing and can’t until they’re in power. The PBO was formed early in the Conservative mandate, likely when the party leadership still believed in things. The subsequent lack of cooperation maybe part of the realization that some of the things they initially believed in may be incompatible with actually running the government.

The nature of the government in its current form can make governing even more of a challenge. Minority government often means resorting to a number of tricks and stunts that would otherwise be avoided. This is done by virtually every party around the world when they are in a minority government situation. Not having the parliamentary strength to over ride objections makes you less likely to support something that can create objections.

A third possibility is that there is a severe personality conflict between the budget officer and a politician and/or high ranking civil servant. Having met the current budget officer and watched how he engages with the media, I can definitely see this happening. The PBO has no place making policy recommendations, but should be providing analysis of recommendations being generated else where.

A cynical possibility is that the current government is just giving lip service to the idea. In this case they want to do as little as possible while being able to claim to improve transparency.

Of course the assumption that the lack of cooperation is coming from the sitting government ignores another possibility. Those who’ve tried to work with the civil service will likely have identified another possible origin of resistance. The civil servants in Finance may resist working with the PBO if they believe they are going to be subjected to extra PUBLIC scrutiny or suffer a loss of authority/power. This would be particularly true if those in Finance had nothing to gain by cooperating. A quick thought about the incentives of the situation make it pretty clear that full cooperation was unlikely.

Whatever the source of the lack of cooperation, the PBO is a good idea. I fan, but I’m starting to think there’s hope for this incarnation of it.

Wednesday, December 1, 2010

The Dubious Morality of Crown Corporations

I’ve always been concerned by arguments for doing something that involve morality. The argument if often made that if profits were going to be made by providing something, it is only moral that government should capture those profits. This of course got me thinking about the moral issues associated with crown corporations. There are at least a couple of big holes in using morality as an argument in support of crown corporations.

One of the key public goods that governments provide is a common set of rules and their enforcement. This includes the rules that govern how businesses operate. An unbiased set of rules and equitable enforcement are a central part of what makes effective states like Canada so wealthy. Thus it isn’t entirely unreasonable to think of government as a referee in sports. The system only works when we can trust the ref to be impartial.

Crown corporations are like the referees deciding they wanted to play, not ref. Another way of thinking about it would be if you’ve been at a game in which the referees were closely related to one of the players. Sometimes it works out OK, but a lot of the time it doesn’t. If we can’t trust the referee to be impartial, the system starts to break down. Crown corporations may thus be more damaging to the entire system than most of us realize. Were all investors treated fairly when GM become an American “crown corp.”? Nope, some were more equal than others.

Another consideration is the nature of business itself. Most businesses don’t workout and close. Many crown corps don’t work so well either. The difference is often the scale of the failure and who loses. When we’re talking about scale, governments don’t tend to think small and have access to an incredible amount of start up capital. In case there are some that don’t recall a crown corporation of size failing I’ve got a few examples. Bricklin Motors in New Brunswick was one example, yep that’s the same guy who was responsible for North American introduction of the Yugo. Spudco in Saskatchewan (a place generally known for pretty good government) provides another example. Of course many people tend to forget that FANNIE MAE and FREDDIE MAC (a big part problem of the boom and subsequent collapse of the American housing market) were the American version of crown corps.

Private businesses fail and so do crown corps. What’s the big deal? The big deal is where the money comes from. Private firms collect money from investors voluntarily, government collect money from citizens involuntarily. Nobody (well, there are some odd folk out there) pays taxes because they want to. People pay taxes because if they don’t the government will take their stuff and possibly throw them in jail. When I think a private firm is going to do something dumb, I can choose not to invest, in many cases I can even bet against the success of the firm. If my government decides to do something dumb, as a tax payer I’m on the hook and there isn’t much I can do about it. If we were talking about public goods, I wouldn’t be as bothered by this, but we’re talking about the provision of private goods here, things like cars, potatoes, and such.

The final point I’ll make is that government activity does tend to reduce private sector activity. Crowding has a long history in economics. There are two recent papers that provide important empirical data on the topic (Furceri and Sousa 2010 and Cohen, Coval, and Malloy 2010 ). Given that government spending crowds out private sector activity we might want to think really carefully about launching more crown corporations.

There are at least 3 reasons why crown corporations aren’t necessarily moral. I’m not even talking about the effectiveness of crowns. I’m talking just about the moral implications. When governments launch crown corporations they become referees choosing to play the game they’re supposed to supervise using money collected involuntarily to supplant other economic activity. Sounds morally dubious to me.