This Young Economist

Segmented Cheese, Price Discrimination, and Cheese Arbitrage

2012-02-26T16:51:00.006-06:00

While at the grocery store today, I noticed a new cheese product in the dairy aisle. Apart from the usual shredded, block and sliced cheese, the store now offers "cheese bars," which is something between a cheese block and a cheese slice.

Upon closer examination of my photo, the store also offers cheese sticks (a skinnier version of the cheese bar) as well. I found myself oddly attracted to these products: I like cheese, I like to snack, and sometimes I like to snack on cheese. At the same time, it is hard to understand the place of cheese chunks in the market -- especially next to the cheese block that consists of exactly the same type of cheese. After all, the only inputs you need to make cheese bars and cheese strips are a knife and a cheese block... and a little time.

It is possible that the very people who would buy cheese bars and strips are those people who place a very high value on their time (or estimate the amount of time it would take to cut the cheese to be very high). Consequently, they're willing to pay a higher markup for segmented cheese.

In economics lingo, segmenting the market by pre-cutting the cheese allows the cheese firm to screen customers into price sensitive (those who would go through the hassle to cut their own cheese) and price insensitive (those who appreciate pre-cut cheese). This is valuable to the firm because it allows for price discrimination. Charge a higher markup on pre-cut cheese (disproportionate to its additional cost) and price discrimination can be profitable.

The one technicality here is that the firm must prevent arbitrage -- resale or repackaging of the blocks into bars and strips. As long as a big enough group of people is unwilling to cut their own bars and strips, cheese arbitrage shouldn't be an issue.

For more on this topic, there's an excellent set of three (1, 2, 3) YouTube videos on Price Discrimination.

Words of a Democrat

2012-02-21T20:59:00.003-06:00

Via Freakonomics, here is a cool word cloud that visually summarizes words favored by Democrats.

Click through to see the corresponding word cloud for Republicans.

What I do

2012-02-18T20:33:00.003-06:00

In a post entitled What We Do, Greg Mankiw points to an entertaining list of caricatures of economists. For the empirically minded economist, there was one missing panel in his post:

Note: Just in case you think I am cheating on R, Stata's recognizable black background shows up in the photo, but my preferred program (R) looked like a white background with nothing on it.

After Dinner Coffee

2012-02-18T18:06:00.005-06:00

One of my hobbies is taking pictures of my food to send to relatives. Indeed, my wife (Shanna) looks forward to my almost-daily lunch photo. This evening, Shanna and I went to Piccolo Mondo for dinner. After dinner, I had a cappuccino that was so beautiful I had to take a picture and share it with the world:

Dinner was great too. Good atmosphere, knowledgeable and attentive waiters, excellent food. My only regret is that I had an appetizer instead of saving room for dessert.

On my reading list: Private Information and Insurance Rejections

2012-02-16T18:30:00.005-06:00

I recently attended a job market seminar by Nathaniel Hendren. Here is the abstract to the paper he presented:

Across a wide set of non-group insurance markets, applicants are rejected based on observable, often high-risk, characteristics. This paper explores private information as a potential cause. To do so, we develop and test a model in which agents have private information about their risk. We derive a new no-trade result that can theoretically explain how private information could cause rejections. We use the no-trade condition to generate measures of the barrier to trade private information imposes. We develop a new empirical methodology to estimate these measures that uses subjective probability elicitations as noisy measures of agents’ beliefs. We apply our approach to three non-group markets: long-term care, disability, and life insurance. Consistent with the predictions of the theory, in all three settings we ﬁnd larger barriers to trade imposed by private information for those who would be rejected relative to those who are served by the market. For those who would be rejected, private information imposes a barrier to trade equivalent to an implicit tax on insurance premiums of roughly 65-75% in long-term care, 90-130% in disability, and 65-130% in life insurance.

His intuitive summary of the results: from the standpoint of an insurance company, there's one way to be healthy, but many (unobservable) ways to be sick. Based on his presentation and a quick scan of the paper, his paper has a lot of good stuff in it.

A Golden Quote

2012-02-10T11:32:00.005-06:00

Here's an interesting article from Warren Buffett:

Today the world's gold stock is about 170,000 metric tons. If all of this gold were melded together, it would form a cube of about 68 feet per side. (Picture it fitting comfortably within a baseball infield.) At $1,750 per ounce -- gold's price as I write this -- its value would be about $9.6 trillion. Call this cube pile A.

Let's now create a pile B costing an equal amount. For that, we could buy all U.S. cropland (400 million acres with output of about $200 billion annually), plus 16 Exxon Mobils (the world's most profitable company, one earning more than $40 billion annually). After these purchases, we would have about $1 trillion left over for walking-around money (no sense feeling strapped after this buying binge). Can you imagine an investor with $9.6 trillion selecting pile A over pile B?

What is interesting to me is that we could probably conduct a similarly absurd exercise with the world stock of diamonds in Pile A. Buffett's statement is about the total value of the stock of gold relative to Pile B, but prices in a free market do and should reflect the marginal value. Phrased this way, Buffett exhibits a classic paradox in economics (the diamonds and water paradox). What Buffett means to say -- that the price of gold is too high given the marginal value of the product -- may also be true (and I think it is), but one could prefer Pile B over Pile A and the price of gold could still be "right" at the margin.

HT (Sean "Golden")

Mark Cuban on Financial Engineering

2012-02-09T13:31:00.003-06:00

Today, I am reading the Freakonomics Q&A with Mark Cuban. In response to a question that essentially asked if engineers should go into finance, here's what Mark Cuban had to say:

We have too many bright grads concentrating on “financial engineering” rather than actually making something and contributing to society. I think we will see tax and regulatory policy that will reduce the incentives and increase the friction for those who “hack” the stock market and focus on financial engineering. Which, in turn, hopefully will incentivize you and others to enter other disciplines.

He goes on to say what he thinks should be done about the problem of financial engineers. Whether or not you agree with is ideas on the topic (I'm conflicted), his interview is an interesting read. Plus, he talks about other topics, too.

Deceive Thyself

2012-02-06T22:12:00.002-06:00

There's an interesting post on self deception at Cheap Talk:

So, my explanation is really the Trivers’ explanation. I did not lie convincingly. My doubts about the answer manifested themselves somehow to the student. He investigated further and cracked the problem. In previous years, the teachers were convinced the answer was right and never even questioned it. They never had to lie because they truly believed they were telling the truth, just like the Trivers’ thesis on self-deception. Students left convinced. If they had doubts, they stifled them.

Attention is not Free: Lessons from YouTube

2012-02-04T10:31:00.008-06:00

How important is getting your audience's attention? Very. This post provides evidence using YouTube data.

In 2008, I attended a research workshop on institutional analysis put on by the Ronald Coase Institute. At the workshop, one exercise stuck with me more than most. Essentially, can you grab your reader's attention in the first 15 words? Time is scarce, and if you cannot immediately get your reader to care, they're going to move on to the next abstract.

Before the conference, we were asked to submit an abstract of our research project. To drive the point home, the workshop provided us with a list of our own abstracts truncated at 15 words. In 15 words, most abstracts couldn't communicate what the paper was about. Some did better than others (we voted on winners!), but all could have used dramatic improvement. The lesson: To set your paper and ideas apart, make the first 15 words count.

Why did I think of this today? For mostly recreational purposes, I have been pouring over data from my YouTube channel. As part of their Analytics feature, YouTube gives content providers a graphical summary of the fraction of viewers who are still watching at any given point in the video. Here's the performance of my most watched video (Marginal Rate of Substitution and Marginal Utility):

At first blush, this looks pretty abysmal, but it reflects the natural attention pattern of people on YouTube. How do I know? YouTube provides a relative audience retention view to help creators see how their videos stack up compared with videos of the same length. Here's how my most watched video stacks up to the typical video:

That's average. Until YouTube came out with their absolute measure of video retention (just recently), I thought average retention meant people were paying more attention.

Now, the graph is a little hard to read precise statistics. Fortunately, YouTube made the graphic interactive. If you hover over a particular point, it tells the point in the video as well as what fraction of the initial audience is still watching.

After 16 seconds of the video, 27 percent of viewers had left. What had I said in those 16 seconds? Here's the transcript:

In the last video, I explained how and where and why you would want to ever draw indifference curves. In this video, I want to give a little more detail about indifference curves and how to work with them. Specifica.... [cut!]

As an abstract, that's pretty bad. In retrospect, I would have rather said:

Want to learn more about marginal rate of substitution and how it relates to marginal utility? In this video, I show how the two concepts relate using some simple graphical intuition. Come along. It's time to learn.

That might have been better phrasing to keep viewers watching. That this intro had average viewer retention is a useful reminder that attention isn't free. This lesson applies much more broadly than keeping YouTube viewers interested.

Simple Pricing versus Price Discrimination

2012-01-29T10:01:00.007-06:00

On a shopping trip yesterday, I had a chance to see JC Penney's new pricing scheme. Here's a picture of one of their displays:

As a big marketing push, JC Penney is doing away with the standard complicated pricing schemes of department stores. The store had no XX% off signs and no hidden promotions, just prices that you would pay at the register. Even stranger, all prices were in whole dollar amounts, making it easy to compute the pre-tax bill before approaching the register. Is this a good idea? It certainly has its appeal, but there are reasons that complicated pricing is the norm.

Coupons, special programs and the varying percentage discount at department stores attract a particularly price-sensitive demographic of consumers. At the same time, consumers who do not respond to price will just grab whatever they want to purchase (no searching for discount racks, hence, less likely to get the deals). From this standpoint, the typical smoke-and-mirrors pricing strategy can be used for price discrimination, a classically profitable strategy that involves charging different groups of consumers different prices.

On the other hand, pricing with smoke and mirrors has costs. Just think of all of the paper and ink wasted on coupons, the resources devoted to devising the next discounting scheme and the administrative costs of implementing the markdowns (repricing racks, making sure everything scans at the register, etc.). Even if you can generate more revenue, maybe the costs of price discrimination are too great. Perhaps this is why JC Penney is going toward simpler pricing.

This discussion of price discrimination costs and benefits neglects to mention hat consumers do not necessarily like to be swindled -- and that may be how smoke and mirrors pricing feels. Alternatively, arithmetic-oriented consumers might love the numerical puzzlers that 30-20-10 pricing affords, or possibly, consumers like the excitement of not knowing the price before paying (who doesn't love a surprise discount?).

In the end, it's possible that JC Penney is just betting that more people want to shop at a store with straightforward pricing, but it is interesting to think about the economic conditions that set the table for such complicated pricing at department stores.

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UPDATE: JC Penney has coupled their in-store pricing with some rather annoying advertising.

Bleg an Assignment Bleg

2012-01-25T00:50:00.006-06:00

Greg Mankiw posted a bleg (a blog post designed to elicit feedback/advice) that started with this fantastic line:

I need some help from the growth empiricists out there. If you aren't one of them, stop reading. Continuing will be a waste of your time.

As someone who has read some of the empirical growth literature to which he refers, but has not contributed, I still found the post to be really interesting.

More to the point of the post, as someone who is currently teaching a course for undergraduates entitled Honors Econometrics (technically: Introduction to Econometrics: Honors), wouldn't a guided replication of one (or parts of all) of the papers Mankiw links in his update (one, two, three) be a cool assignment?

Romney's Taxes

2012-01-20T19:23:00.004-06:00

From my Google reader, here are two interesting perspectives on Mitt Romney's 15 percent tax rate.

First, from Steve Landsburg:

To understand Mitt Romney’s tax burden, you have to compare him to his doppelganger Timm Romney, who lives on a planet with no taxes. In the year (say) 2000, Mitt and Timm both earned (say) a million dollars. Timm invested his million dollars, saw it double over the past decade or so, and cashed out his investment this year, leaving him with two million dollars. Mitt, by contrast, paid 35% tax in 2000, leaving him with $650,000. He invested it, saw it double, and cashed out last year, paying 15% tax on the $650,000 capital gain. That leaves him $1,202,500, which is about 60% of what Timm’s got. In other words, the tax system costs Mitt almost 40% of his income.

Second, from John Cochrane:

If you made money in dollars, paid taxes, then went to Canada and got $1.20 Canadian, it would make no sense to say "you made 20 cents of income, we'll tax it." It makes no more sense to pay taxes again on money that is moved over time. We decry that Americans don't save enough, the Chinese, the trade deficit and so on. Well, if you want people to save more, stop taxing it.

-------

UPDATE:

Make it three. Here is Mankiw:

All of these calculations are static. They ignore the general-equilibrium effects that arise as the true burden of taxation is shifted by behavioral responses. In essence, these calculations are made under the implicit assumption that factors of production are supplied inelastically, so the tax stays where legislators put it. Of course, that assumption is implausible, especially in the long run. True general-equilibrium tax incidence is very hard, and as far as I know, reliable estimates on it are not readily available.

An attractive research question?

2012-01-16T21:36:00.003-06:00

Robin Hanson has an entertaining suggestion for dissertation research:

This suggests that studying how physical attractiveness varies with industry, occupation, and position could give us a window into agency failures at work. That is, it could show us where some employees are especially free to choose for their personal benefit, rather than for a larger benefit. Even when they leave clear evidence of this self-dealing. Seems like a project for an enterprising data-gathering grad student.

Of course, a confounding factor is when attractiveness contributes directly to an employee's marginal product: modeling, fundraising and pharmaceutical sales come to mind as possible industries that confound the explanation. In this respect, a job where attractiveness serves little or no useful role -- such as Hanson's government contractor example -- is an ideal setting to unveil possible agency problems.

Economics and Clairvoyance

2012-01-15T16:12:00.002-06:00

John Cochrane has an interesting post in which he concludes:

This story is embarrassing, yes. But it's most embarrassing for the Times and other believers in the idea of clairvoyant, all-powerful discretionary regulators. It's not at all embarrassing if you think Fed officials are as human as the rest of us -- and that safety comes from better rules of the game, not finding just the right soothsayer to run the show.

The rest of the post is worth reading too.

Video Relatedness

2012-01-13T16:40:00.003-06:00

Last October, I conducted an inquiry into how my YouTube channel fits into the broader YouTube econ-system. Here's what I did.

First, I compiled a list of all of the videos that were "related" to my videos through the related videos section along the right hand side of each YouTube video page. Usually, there are 20 videos that are called "related" to the one that you are watching. As I have about 95 videos, this list could get quite large (possibly but not likely reaching 95*20 different YouTube videos).

Second, I followed the links to the related videos of that list of videos. Along the way, I collected information about the number of likes and dislikes, total views to date and upload date.

Finally, I followed those loosely related videos to their related videos (one last time for good measure). Once I put everything together, I had obtained a list of 135647 "related videos" (to three levels; most of these links were in the final list; 120506).

Within this set of links, there were many duplicates. Some videos are just more central to the network of videos out there. To better understand what kinds of videos are near mine in YouTube space, I enumerated the top 50 videos (by frequency of occurrence) in this list. Links to these videos now appear in a new tab on this blog called Fifty Educational YouTube Videos.

A couple of comments about these videos.

One would think that starting this process using the videos on my channel would bias this relatedness index toward my own channel's videos. After all, my channel's videos are related in the sense that they're instructional videos made by the same person. How much more related can they be? Surprisingly, only three out of the top fifty videos were mine. In retrospect, these are three of my most popular videos as well. So, it seems that YouTube's algorithm mixes some diversity of experience with relatedness of subject matter.
For the most part, these videos are quite good for learning economics (and some statistics topics), and they are surprisingly on topic. By three levels of relatedness, I was expecting to see a gravitation toward videos that had more popular appeal (like the Boom and the Bust videos) and quirky student economics projects where students act out economics concepts (there's only one in my list of videos).

From a practical standpoint, there's a new tab on this blog devoted to linking to those top 50 videos by relatedness to my channel. They're not all great, but there are some pretty useful videos in there. If you're interested, check them out.

What is funny at the Fed? An Inside Joke

2012-01-13T09:21:00.005-06:00

A friend of mine showed me this collection of statements that induced laughter in the 2006 Federal Open Market Committee meetings. My favorite:

MR. HOENIG. Mr. Chairman, I think we have just been to North Dakota. [Laughter]

If you take this out of context, you might think that it wouldn't have been funny if they had just been to Montana. Had they been to North Dakota? Probably not, but what's the inside joke? The full transcript of the meetings provides the answer. In the December 12 meetings, there were exactly five explicit references to North Dakota. Maybe it is funnier in context.

Page 8.

MR. STOCKTON. As I worked my way through a final reading of the Greenbook this weekend, I was reminded of the old joke about the man who is told by his doctor that he has only six months to live. The doctor recommends that the man marry an economist and move to North Dakota. The man asks whether this will really help him live any longer than six months. The doctor says, “No, but it sure will feel a lot longer.” [Laughter] Part 1 of the Greenbook was its usual twenty pages, but with lengthy discussions of motor vehicle mismeasurements, PPI inventory deflator anomalies, income revisions, and footnotes [...]

Page 13.

MR. STOCKTON [still speaking]. I have so much more to say, but I’d better stop here, or you will think that we’ve begun our honeymoon together in North Dakota. Steve Kamin will continue our presentation.

Page 33.

MS. MINEHAN. It’s not fair. [Laughter] Well, to the extent that this sounds like North Dakota, let me just proceed. Despite data from the housing markets [...]

Page 112.

MR. HOENIG. Mr. Chairman, I think we have just been to North Dakota. [Laughter]
CHAIRMAN BERNANKE. I would say we crossed the border. [Laughter] Well, let me try to summarize. [Laughter]

Page 114-115

MR. KOHN. As we get ever deeper into North Dakota here, [laughter] I don’t know what President Stern thinks about this.
MR. STERN. I was going to say that I’m the only one here, on the Committee anyway, who gets there with any frequency, and people have suggested that I should defend North Dakota. But I must say that I felt the joke was apt. [Laughter]

Apparently, this is a case where boredom and tedium is funny. [Laughter]

(HT: Sean G.)

The price of killing cats: $1 million?

2012-01-09T21:42:00.003-06:00

This discussion from Robin Hanson at Overcoming Bias is an interesting comment on perception:

Now consider a new Vanity Fair survey:

Questions: Would most people you know kill their favorite pet for $1 million? What about you?
Answers: Most people: Yes (23%) No (72%); Yourself: Yes (11%) No (83%).

Matt Yglesias (Hat tip Sir Charles):

I don’t believe it for a minute. Saying you wouldn’t kill your favorite pet for $1 million is cheap talk. Actually declining an offer of $1 million in exchange for the life of your pet, by contrast, costs $1 million. How many people would really turn that offer down in these cash-strapped times?

Actually, my guess is that if no one you knew had ever taken such an offer, and if you took it you’d be in the news so that most folks you know would hear of it, most of you wouldn’t take the offer. But once a few associates had taken the offer, and such offers weren’t newsworthy anymore, most folks would take such offers.

Instead of asking the question, maybe they should do an experiment to find out how much cat owners would demand as a compensating differential to put their cats put into a slightly riskier job (high-rise construction cats?). If this is the experiment, one might have to divide by nine to adjust for the cats-have-multiple lives theory.

Note: The original article used the phrase "favorite pet," but I read "cat" even though we do not have a pet. I have no explanation for that.

What would happen if we outlawed lawyers?

2012-01-08T21:11:00.003-06:00

A couple of professors of mine from Montana State (Rob Fleck and Andy Hanssen, now both Clemson economists) have a research agenda that uses Ancient Greece as a case study to understand the capabilities and pitfalls of democratic institutions. On the second day of the annual ASSA conference, I was reminded of this research agenda and I saw Andy present their latest paper in their series in an excellent session on Endogenous Changes in Legal Institutions.

Rob and Andy's latest paper examines the case of Athens, the Greek city state that was known as the pinnacle of democracy and commerce. Rob and Andy focus their analysis on a peculiar feature of Athenian democracy: the fact that Athenians banned professional lawyers and they did so deliberately. In other words, defendants defended themselves, plaintiffs brought their own cases and public-interest cases were brought because of civic duty (and when that didn't work out, small monetary rewards were offered). Here is the abstract (paper pdf):

Legal expertise permits detailed laws to be written and enforced, but individuals with expertise may employ their special knowledge to skew decisions in privately beneficial directions. We illustrate this tradeoff in a simple model, which we use to guide our analysis of the legal system in ancient Athens. Rather than accepting the costs of expertise in return for the benefits, as do most modern societies, the Athenians designed a legal system that banned professional legal experts. And this was not because Athenian society was simple: The Athenians employed sophisticated contingent contracts and litigated frequently (to the point that the law courts featured prominently in several famous comedies). Furthermore, the Athenians recognized that forgoing expertise was costly, and where the cost was particularly high, designed institutions that made use of expertise already existing in society, employed knowledgeable individuals who were unable to engage in significant rent seeking, or increased the private returns to collecting publicly beneficial information. Although the Athenian legal system differs in many ways from modern legal systems, it nonetheless functioned very effectively. Investigation of the Athenian system serves to illustrate how important it is for institutional designers to consider legal institutions as a bundle, whose pieces must complement one another.

This is just the latest in a series of fascinating studies. For an overview of their joint research agenda, here is their own description.

First Day ASSA: Highlights

2012-01-06T19:53:00.004-06:00

Today was the first full day of the annual economics conference (this year in Chicago!). I spent a full day attending interesting talks. In case you're interested, here are the highlights from my experience (other economists' experience may differ).

At 8 am, I went to a session called New Developments in the Organization of Firms. My favorite paper of the session was a paper called, "Organization and Information: Firms' Governance Choices in Rational-Expectations Equilibrium," presented by Bob Gibbons. The main crux of the paper is that firms shape the market while the market shapes firms. The final part of the abstract sums the paper up nicely:

As in rational-expectations models, some parties may invest in acquiring information, which is then incorporated into the market-clearing price of the intermediate good by these parties' production decisions. The informativeness of the price mechanism a¤ects the returns to specic investments and hence the optimal governance structure for individual firms; meanwhile, the governance choices by individual rms a¤ect the informativeness of the price mechanism. In equilibrium the informativeness of the price mechanism can induce ex ante homogenous firms to choose heterogeneous governance structures.

Cool stuff.

At 10:30, I attended an interesting discussion on the interface between economics and other social sciences (specifically, theology), put on my the Association of Christian Economists. There were two theologian presenters who were well spoken and two economists (one of whom is Deirdre McCloskey). It was fascinating.

At 2:30, I attended a session entitled Mergers, Acquisitions and Buyouts I, put on by the American Finance Association. My favorite paper of this session was one called "Merger Synergies Along the Supply Chain," which really should have been called "Mergers: Efficiencies or Market Power?" as the discussant Gordon Phillips pointed out.

Finally at 5:00, I attended a spectacular lecture by Roger Myerson (the T.W. Schultz Lecture) on the role of local governments and democracy in promoting economic growth. He posted the slides online, but I cannot find them. In the meantime, here is a related essay on a related topic.

Discretion in the Imperfections

2012-01-02T13:15:00.005-06:00

John Cochrane has an interesting post that begins by saying:

I am often asked, "doesn't the financial crisis mean we need more regulation?" It's one of those maddening questions, because the answer is "that's the wrong question," which gets you nowhere.

For regulation is not "more" or "less," something you just pour into a cup until you've had enough like a good beer. Regulation is most of all "smart" or "dumb." Dumb regulations produce the opposite of their intended effects, have all sorts of unintended consequences, or get used for fully intended but pernicious consequences like driving out competition. Smart regulations don't.

Cochrane goes on to describe the differences between regulation by law, rules and discretion, which is an interesting discussion that shines light on how financial regulations differ. One point that Cochrane acknowledges (but does not develop in his post) is the inevitable role of discretion in regulation.

For example, take Cochrane's example of a clear-cut law: obeying the posted maximum speed limit. The law is clear cut, but enforcement of the law is not. To the extent that enforcement is (as Cochrane puts it) "imperfect," regulation of speed limits must rely on discretion.

On one level, a solitary police officer is often not able to enforce strictly the posted speed limit. Faced with two speed demons at the same time, the officer must use discretion about who to pull over (and he may favor pulling over the red car or the car that appears to be going faster). This often happens in the state of Illinois on Lake Shore Drive, for example.
On a higher level, even the police chief must use discretion about enforcing posted speed limits. Police departments must optimize the patrol of traffic crimes relative to other types of crime. Absolute and strict enforcement of one type of law is often unattainable (and usually not optimal). Hence, the remaining tool of the police chief is to delegate the discretionary enforcement of the law to officers on duty.

Cochrane's point is that regulation by discretion can go wrong because it is often too vague. I think this point is right, but unfortunately, some amount of discretion is inevitable because resources to enforce and define the law are scarce.

As a side note, another quote from Cochrane's post deserves mention.

This is really the basic problem with the Dodd-Frank approach to financial regulation. The Financial Stability Council can simply "determine" you pose a "systemic risk," and that's it. (Yes, there is an appeal process, but without an objective standard, it's hard to see how anyone will beat a "determination.") The Fed can then tell you how to run your business, in any way that it deems appropriate. Imagine what chaos would result if "speeding" were defined simply by the cop's authority to "determine" that your speed poses a "risk to the traffic system."

With regard to the regulation of traffic offenses, we actually don't need to imagine this. The State of Montana used a standard for speeding called "reasonable and prudent" on its Interstate highways from December 1995 through May 1999. Speaking from experience, driving was slightly more chaotic than when there was a posted speed limit, but this marginal increase in chaos from November 1995 to December 1995 driving in Montana pales in comparison to the difference between Montana and Chicago driving.

On The Power of Clarity

2012-01-01T13:17:00.005-06:00

Over the holiday, Roger Myerson posted an interesting proposal at the Cheap Talk blog:

So my radical proposal has two parts. First, our federal, state, and local governments should publish their annual budgets online in a form that any high-school graduate can understand. Second, our public high schools should be required to teach students how to read government budgets.

I know that this may sound impractically idealistic. But I can recommend at least one good textbook: Dall Forsythe’s Memos to the Governor. Written by a former budget director of New York state, this short book offers a good introduction to the standard tricks that have been used to make public spending more obscure.
[...]
So this is my radical proposal: Before demanding lower taxes or lower deficits, we voters should demand to be better informed about our public financial system. Then our ability to demand better use of public funds can become a stronger pillar for future growth and prosperity.

The rest of the post is interesting food for thought as is the research agenda by Besley and Persson (pdf) on which Myerson bases his proposal.

Bargaining over Sentinels

2011-12-31T10:15:00.003-06:00

Xan poses and provides an answer to an interesting question:

Now, if you were Iran, why would you tell America how you captured its drone, instead of keeping it a secret and perhaps capturing a few more or at least delaying America's progress in developing countermeasures? Maybe Iran cannot resist bragging about its conquest, like the stereotypical comic book villain. But might there be another reason?

Click through to find out why self sabotage on Iran's part might be a good idea.

Hint: the reasoning is related to why an army would prevent itself from retreating by burning a bridge before entering battle (the pictures are broken in my link, but as an exercise, see if you can draw the game tree with the right payoffs).

Raising Taxes to Raze the Rockies

2011-12-30T16:33:00.003-06:00

Don Boudreaux at Cafe Hayek has two interesting posts about the burden of debt in response to a series of posts by Paul Krugman on the matter. Here is an excerpt from his latest.

Suppose Uncle Sam hires only American workers and buys only American-owned resources to raze the Rockies. Suppose further that Uncle Sam finances this program exclusively by raising taxes. An extra $10 trillion in taxes is raised, and every cent is spent successfully leveling the Rockies.

According to Krugman, because “we” received every cent that “we” paid to level the Rockies, the net burden to “us” as a group of leveling the Rockies is zero! The program is costless! But clearly that conclusion is incorrect.

Massive quantities of valuable, real resources are used up to raze the Rockies. The workers and resource owners didn’t pay for these resources to be used in this way (as these workers and owners voluntarily contributed, for pay, to the effort). Taxpayers paid; and the cost can be reckoned in the foregone value of whatever it is those workers and resources would have produced had they not instead been used to raze the Rockies. The net cost to Americans of razing the Rockies clearly is $10 [trillion] – a cost that doesn’t disappear simply because the tax payments by some Americans of $10 [trillion] were received fully as income payments by other Americans.

Here are some other readings on the topic. Krugman 1, 2, 3. Mankiw (pdf with some macroeconomics). Boudreaux 1, 2

To the point of why I decided to come out of hiding to write this post, Boudreaux's choice of policy in his analogy (leveling the Rockies) is scarily wealth-reducing. If you haven't done so in your lifetime, take a road trip through the Rockies and you'll experience abundant consumer surplus from the beautiful scenery.

Irony Chef: When to "stir the pot"

2011-12-07T11:35:00.005-06:00

Sandeep at Cheap Talk has a delicious scoop that is one part economics, one part risk and one part delicious entertainment:

Next Iron Chef is much better than Iron Chef. The latter almost always has Bobby Flay matching his Southwestern style cuisine against some hapless contestant who usually loses. Next Iron Chef has more uncertainty, some new faces and some better chefs. Last night’s episode had fun twists and turns coming out of the mechanism design and a tragic-comic outcome.

First, the chefs had to “bid” for ingredients in a Dutch auction with time allowed for cooking as the “currency”. There were five chefs and five ingredients. The lowest bid won for each of the first four ingredients. The chef who “won” the last ingredient was by the rules of the mechanism left with a cooking time of the lowest bid on the first four ingredients minus 5 minutes.

I love Sandeep's take on the show. I'd like to add one observation on the actual outcome of the bidding (mild spoiler alert). Here's what happened. While bidding on the fourth item (tuna jerky), Chef Alex had the option to bid 20 minutes on it after Chef Elizabeth had already bid 25 minutes. Alex did not bid, essentially taking the "mystery ingredient #5" for 20 minutes, giving Elizabeth 25 minutes to cook something amazing with tuna jerky.

You might question why it stopped there (or whether it was optimal to stop there). Given the rules of the auction, Alex was guaranteed to have 20 minutes or less to cook whatever ingredient she won. If she didn't bid 20 minutes on tuna jerky, she got "mystery ingredient #5" for 20 minutes (5 minutes less than the lowest bid). If she did bid, she put the ball in Elizabeth's court, essentially saying "You have 15 minutes or less to cook whatever you win." If Alex put Elizabeth in this position, would Elizabeth bid 15 minutes on tuna jerky? Isn't there a situation where it would be optimal to bid 5 minutes (forcing the other chef into the bottom two)?

I think a lot depends on the chef's willingness to "stir the pot" by sabotaging another chef and the chef's confidence in beating the other chef in round two. Five minutes with tuna jerky might lead to a passable salad or it could lead to a rematch in the secret ingredient showdown. If I were in Chef Alex's shoes, I'm not sure what I would prefer.

Not on Sundays

2011-12-04T13:52:00.004-06:00

We saw this sign at an Indiana Costco.

Prohibiting the acquisition of alcohol on one calendar day out of the week strikes me as strange, but I am glad that Costco put out the signs. If Walmart had the same policy as Costco, I might have been saved the embarrassment of being denied the purchase of a six pack of Blue Moon at the register. I guess I'll have to stock up on Blue Moon (for me, buy a six pack) another day.