Tag Archives: economics

Perverse incentives

It’s commonly believed by right-wingers that US public radio has a left-wing bias. If you want to hear an example of a program that disproves the assertion, I suggest This American Life episode 490: Trends With Benefits. It has turned out to be somewhat controversial, though TAL are standing by the facts they reported, unlike with the Mike Daisey piece.

As most people know, the US economy has a deficit problem. Part of the reason for the problem is crazy defense spending, yes; but there are two other chunks of the federal government’s budget that are about the same size as the military budget: Social Security and Medicare.

The This American Life show gives some insight into why the Social Security budget is so huge, starting from one simple statistic: That in Hale County Alabama, a quarter of the working-age adults are receiving disability payments, because they have been declared permanently unable to work.

What counts as a permanent disability? Well, the list includes:

  • High blood pressure
  • Diabetes
  • Chronic back pain
  • Sleep apnea

Now, I’ve known people with diabetes who inject themselves with insulin and go to work every day. I have chronic back pain, but I’ve only missed a couple of days of work in the last few years. My father-in-law had high blood pressure for the last couple of decades of his working life. None of these things should be permanent disabilities that render you unable to work.

At this point, the traditional right-wing media narrative is “Look at all these scrounging parasites”. But as is generally the case, it’s a bit more complicated than that.

If you live in Hale County Alabama, and you aren’t highly qualified — which is the case for the disability recipients — then there really aren’t any jobs you can do. Even if you had the time and money to get the necessary education, there aren’t any white collar jobs in rural Alabama. The only jobs on offer involve lifting heavy objects, standing up all day, or other physical tasks. So if you have high blood pressure, well, you probably really aren’t fit to work any of those jobs. Or at least, no company will employ you, in case you drop dead.

So the problem is bad. But then things get farcical. It turns out that when someone applies for disability and is turned down, they can file for a hearing. At that hearing, they can get a lawyer to present the case for why they can’t work. On the other side, the government has … Nobody. There’s nobody whose job it is to explain why the petitioner is actually able to work, or point out jobs they could be doing. So most of the time, the lawyer will get them approved for disability. At that point, the petitioner is liable for back-payment of disability from the time they first applied. The lawyer gets a portion of that back-payment. In fact, the federal government pays the lawyer directly. So if you do a Google search for (say) ‘disability’, you’ll find lots of lawyers ready and eager to take even a pretty marginal case, on a contingency benefit.

But that’s not the worst part. See, once you get disability payments, you no longer qualify for unemployment benefit. And whereas unemployment benefits are paid by the individual states, the Social Security disability system is a Federal program. So get this: States actively hire companies to go through their lists of the unemployed, spot any who might be persuaded to qualify for disability, and encourage and assist them with the process.

But even that’s not the craziest part. It turns out that children can qualify for disability payments too, for things like learning disabilities. Dyslexic? You might be able to get your parents a nice Social Security check each month. Of course, in time your parents will come to rely on that check, and they’ll only get the check as long as you continue to do badly in school. Once you reach adulthood, well, you can either stay on disability — or you can try and get a job which might not work out, and in the mean time lose your steady disability benefits.

Because the disabled don’t get unemployment benefits, government excludes them from the unemployment figures. Which might seem reasonable enough, but unfortunately right now there are more people being added to the disability benefits list each month than there are new jobs being created. So the actual percentage of people who could be doing some sort of job, but are not doing so, could be way bigger than the official unemployment figure of 7.7%. And we’re still sliding backwards.

So, what’s the solution? Well, there’s one radical theory that has been proposed for decades, under titles like “Universal Living Wage”, “Subsistence Allowance” or “Basic Income Guarantee”. It’s pretty simple to understand: You put together a minimal subsistence payment, enough to cover basic food, shelter and other bare essentials — and you give it to absolutely everyone. You filed a tax return? Here’s your subsistence payment.

This immediately eliminates a ton of bureaucracy. No application process, no means testing, no medical tests, no appeals process, no judges needed, very little chance of fraud. It also eliminates the problem of potentially losing the steady income you need to live by risking taking a job. Hence, hopefully nobody will ever feel like it isn’t worth taking on a job. Even a part-time, temporary or seasonal job will boost your income without the risk of reducing your subsistence payment.

Obviously, there are naysayers. The most common objection is that if nobody is absolutely forced to work in order to afford a roof over their heads and food to eat, why, surely nobody will work at all? Personally, I find that argument incredibly patronizing and offensive. Nobody who has earned more than a couple of million dollars needs to work, but there are plenty of millionaires who do carry on working. And we’re not talking about a luxury subsistence here; if you want a mobile phone, TV, PlayStation or car then you’re going to have to go out and get a job to pay for it, like the rest of us. If you want your own space, rather than a run-down government-run shared apartment space, you’re going to have to work hard.

Still, many doubt that such a scheme could ever work. Except it turns out that one country tried it. From 1974 to 1979, Dauphin Manitoba ran an experimental basic income program known as “Mincome”.

Mysteriously, the Canadian government locked away all the data that was collected, and prevented it from being analyzed. The astute reader can probably guess why. When academics finally managed to get access to the documents in 2009 and analyze the results, it turned out that the whole scheme worked pretty well. Rather than everyone sitting around idle on welfare, the only people who worked less were mothers and teenagers. Graduation rates for teenagers, not surprisingly, went up. Hospital visits dropped. There were fewer work-related injuries.

So, how about it, America? The current system is clearly a disaster, and an inefficient one at that.

Regarding Rush Limbaugh and contraception

Rush Limbaugh’s comments on contraception have shown that he doesn’t understand how people respond to basic economic situations.

The contraceptive pill is something you have to take every day. You don’t only use it when you have sex. So if you think you might have sex once, you need to go on the pill and stay on it.

This means that the cost of contraceptive pills purchased by the user is what economists call a sunk cost. Humans are loss-averse, so when they are faced with a sunk cost, they tend to try and make more use of whatever incurred the cost, so as to minimize the perceived loss.

This is most often encountered when considering transport. Suppose I spend $6,000 per year to maintain an automobile so that I can commute to work. Now suppose I’m faced with the desire to go to a restaurant downtown. I could pay a couple of dollars to get the bus, but since I’ve already paid the six grand to have a car available, chances are I’ll go by car in order to get more use out of it.

So if people have to pay for contraceptive pills, then economics tells us they’re likely to view the sunk cost that way. In other words: if you have to pay a fixed amount per month for contraceptive pills, chances are you’ll want to have more sex, so as to reduce the apparent cost per sexual encounter.

On the other hand, if contraceptive pills appear to cost you nothing, because you get them covered by insurance, there’s no motivation to have more sex.

So if conservatives wanted to encourage people to have sex more, making them pay for contraceptives would be the perfect way to do so.

There are similar economic motivations around condoms, of course. If you buy a box of 12 you have an economic incentive to use them up before they expire. If you get them for free, you don’t care if they go unused.

Will oil drown the Arab spring?

A recent article by Michael L. Ross talks about how oil money may yet destroy the democratic gains of the Arab Spring:

Oil has not always been a barrier to democracy. Until the early 1970s, oil—producing countries were no less likely to be democratic than any other state. Ironically, this was because until that point, the so-called Seven Sisters, a handful of giant Western oil companies, dominated the global oil industry and collected most of its profits.

Then the Arab-Israeli war happened, and:

Eager to capture the resulting windfalls, virtually all developing countries expropriated the foreign oil companies operating on their soil. These nationalizations brought with them massive influxes of new wealth and so were hugely popular; they made the careers of many politicians.

The reason being:

Since then, control over oil revenue has helped autocrats stay in power in three main ways. First, it has allowed them to buy off citizens by providing them with many benefits and virtually no taxation.

For example, Saudi Arabia offers universal healthcare. It manages to do so without the kind of taxation required in European countries. This was pointed out to me by a libertarian expat in Saudi Arabia. I noted that the economy of Saudi Arabia probably wouldn’t be sustainable once the oil ran out in a few decades. (Nevermind the irony of a libertarian apparently proposing a socialized oil industry.)

But it’s worse than that:

Second, petroleum—based autocrats use their national oil companies to cloak their countries’ finances. Secrecy helps give oil wealth its democracy-repelling powers: citizens are satisfied with low taxes and seemingly generous benefits only when they do not realize how much of their country’s wealth is being lost to theft, corruption, and incompetence.

Finally, oil wealth allows autocrats to lavishly fund—and buy the loyalty of—their armed forces.

The full article is behind paywalls at Harper’s and Foreign Affairs, but you may be able to find a copy out there on the Internet via Google.

All Watched Over By Machines of Loving Grace

Part 2: The Use and Abuse of Vegetational Concepts

In which I continue to post my thoughts about a documentary everyone else watched six months ago.

I thought during this episode that I could see a central point being made in Adam Curtis’s series. He seemed to be attacking the myth that networks are inherently self regulating and stable. I think he’s off-base painting it as a myth promoted by computer scientists or engineers, however. People who build computers know that they only stay stable because they are so simple, with the fundamental simplification being treating everything as digital binary information. There were analog computers, such as the Norden bombsight, but they were ultimately a dead end precisely because it was so difficult to make them reliable.

Today, enormous amounts of engineering go into making computers stable, trying to make them immune to chaotic behavior triggered by noise and unexpected input in their feedback loops. CPUs have to be designed so that their circuits can filter out thermal noise, quantum effects, and other unwanted sources of randomness and unpredictability. Serious business computers use special ECC RAM designed to catch and fix errors and small divergences that would otherwise cause crashes and instability. We’re actually hitting the point where hard drive storage becomes problematic because the error rates are too high to keep big disks from chaotically losing information. Instead, companies like Google have to build their petabytes of storage using multiple distributed storage units. There are new file systems (ZFS and btrfs) which are adding data duplication and error correction techniques to try and make multi-terabyte disks and distributed disk clusters work as if they were reliable single drives.

Back in the 50s, 60s and 70s, of course, the problems were different. Then it was ferrite cores cracking, paper tape wearing out, floppy disks going bad, and so on. But the fact that computer-like systems easily end up behaving chaotically is not, I think, something that any engineer would have been unfamiliar with.

Aside #1: When it comes to music, chaotic feedback systems are very much preferred. From the electric guitar to the Moog synthesizer, feedback loops are one of the first things you implement with any new piece of music technology in order to make it sound more interesting.

Aside #2: While it seems quaint now, during the 50s it was seriously considered that the entire universe might be a feedback system that naturally tended towards a steady state.

The thing is… Economies based on perpetual growth really aren’t sustainable indefinitely. We’ve been in an anomalous period of history, effectively cheating by using up finite natural resources. However, human managed stability isn’t workable either, because we don’t have the control we think we have, or the knowledge to work out how to adjust a complex natural system to keep it stable. Wildfires are perhaps the best example. It seems obvious how to prevent forest fires; so obvious that cartoon bears tell children they can do it. But catastrophic wildfires have been getting worse and worse, precisely because the US has attempted to prevent fires.

The truth nobody likes to admit is that we need to live our lives on the assumption that change will happen, including disastrous change. We need systems which keep disaster localized. In economics and political terms, that means smaller markets, smaller countries, smaller companies, less control. Obviously, nobody in power wants to admit that that’s the case.

Not mentioned in Curtis’s documentary is that this view of the world as a place where steady states are possible, even desirable, is a very Western idea. If you look at Chinese philosophy, Taoism teaches that change is inevitable, and to be welcomed; that even catastrophe can be viewed as an opportunity for positive change. (The idea that the Chinese character for crisis is composed of the characters for change and opportunity, though—that’s a myth.) Buddhism, too, teaches that impermanence is inevitable, and that our clinging to a desire for perpetual stability is the root of what makes us unhappy—not just because we are inevitably disappointed, but because our actions in seeking permanence cause suffering.

Personally, it’s not even clear to me why a stable steady-state world would be a good thing. Looking at reality, the only things which are steady state are dead things; life is characterized by constant change and adaptation. So basically, as presented by Adam Curtis, both sides of the debate are wrong: The world can’t be treated as a dumping ground without ill effect, and it isn’t self-regulating—but equally, we can’t turn it into a regulated stable system and prevent ecological disasters.

The scary thing is that the environmental debate today is still dominated by the two same incorrect ideas: the one side insisting that we can carry on without any climate crisis, the other that we can fix the problem and avoid crisis. There’s a Woody Allen quote that’s closer to the truth:

More than any other time in history, mankind faces a crossroads. One path leads to despair and utter hopelessness. The other, to total extinction. Let us pray we have the wisdom to choose correctly.

A final note: It’s interesting that both hippies and Randian Libertarians ultimately have the same mistaken belief, that a simple system with no imposed power structures will end up egalitarian and stable.

The way the world works, and the god that sucks

How The World Works in The Atlantic is the best article on economic theory I’ve read in ages. Granted, I don’t exactly go out of my way to read articles on economic theory, but that’s largely because most of them exhibit the blindness cataloged in this article. Certain (mostly American) economic theories have somehow taken on the aura of absolute truth. It is drummed into us that free markets always optimize; what’s best for the individual is best for everyone; protectionism is bad. To question these facts makes you look like some sort of 1960s throwback quoting from a copy of Das Kapital and extoling the virtues of the Five Year Plan.

The Baffler magazine devoted an entire issue to similar topics, titling it “The God That Sucked”. The Market, it proclaimed, has become a kind of god, a divine force that may not be questioned. Its judgements are sacrosanct–and when it demands tribute, you had better pay up immediately or you will suffer. You need not concern yourself with the question of why the poor are starving; nothing can be done about it, it’s just The Market at work. Perhaps if the poor learn the ways of The Market and conduct themselves in accordance with its directives, they too shall be blessed.

The God That Sucked, by the way, was published in 2001. The divine wrath it talked about was the .com crash; but of course, re-read the articles now, and they’re still exactly as relevant to the banking meltdown, perhaps even more so. How The World Works is from even earlier, 1993, and yet we still haven’t started to ask the right questions. When you’re done reading it, I have a question, an observation, and a few annotations regarding things I think were missed.

By the logic of the Anglo-American system, if each individual does what is best for him or her, the result will be what is best for the nation as a whole.

Perhaps someone more familiar with Adam Smith and other icons of modern economic thought can fill in more detail here, or point me at the proof. I hope so, because as phrased, it’s a complete non-sequitur. It’s simply a dressed up version of the fallacy of composition. Google turns up plenty of references to said fallacy, but usually in reference to specific problems such as trade deficits (something I’ve been ranting about since the 80s), or how to get out of a recession. There must be a good argument as to why the entire free market system doesn’t rest on a fallacy, right?

Yes, indeed—ask Hong Kong. Since the end of the Second World War its policy has generally been laissez-faire. Compared with the rest of Asia, Hong Kong interferes less, plans less, and leaves market forces more on their own. What has been the result? During the 1980s the real earnings of Hong Kong’s people rose more slowly than those of the people of Korea, Singapore, Thailand, and Taiwan. It is a busy, bustling entrepot of merchants, especially those handling commerce in and out of China. But as an industrial center it is falling behind its neighbors.

I remember back in the 70s and 80s the words “Made In Hong Kong” were almost ubiquitous, to the point of being fodder for cheap comedy. I can’t recall the last time I saw those words on anything. Does Hong Kong actually make anything any more, or has it become another “advanced” economy that merely shuffles imaginary entities around?

The concepts of consumer welfare, comparative advantage, and freest possible trade now seem not like concepts but like natural laws. But these concepts are detached from historical experience.

I think the best example of how economic growth is at odds with US economic theory is the invention of intellectual property in the 1980s. In the current political climate, where the USA is trying to strongarm other countries into accepting software patents and ever increasing copyright terms, it’s easy to forget that the US didn’t even recognize copyright of overseas works until finally accepting the Berne Convention in 1988. For a full century, the US operated as a rogue state as far as intellectual property was concerned.

Copyright violation was as American as apple pie; famed invention thief and all-round douchebag Thomas Edison funded his work by pirating European movies and showing them for profit in the US.

The message wasn’t lost on developing nations. Singapore didn’t have strong copyright protection until 1987. China, some would say, still doesn’t have it.

Even though copyright is a monopoly, and conventional economic wisdom is that monopolies are bad, it has become another of those things that it seems we are expected to simply accept–even though some rogue economists are now starting to argue that our empirical knowledge of the effect of increased copyright protection is minimal, and we might have gone well past the optimum duration for copyright, given the goals set out for its existence.

America’s economic history follows the same pattern. While American industry was developing, the country had no time for laissez-faire. After it had grown strong, the United States began preaching laissez-faire to the rest of the world—and began to kid itself about its own history, believing its slogans about laissez-faire as the secret of its success.

…and the same is true for ‘intellectual property’.

DST is a waste of money

From the Wall St Journal:

 Up until two years ago, only 15 of Indiana’s 92 counties set their clocks an hour ahead in the spring and an hour back in the fall. The rest stayed on standard time all year, in part because farmers resisted the prospect of having to work an extra hour in the morning dark. But many residents came to hate falling in and out of sync with businesses and residents in neighboring states and prevailed upon the Indiana Legislature to put the entire state on daylight-saving time beginning in the spring of 2006.

Indiana’s change of heart gave University of California-Santa Barbara economics professor Matthew Kotchen and Ph.D. student Laura Grant a unique way to see how the time shift affects energy use. Using more than seven million monthly meter readings from Duke Energy Corp., covering nearly all the households in southern Indiana for three years, they were able to compare energy consumption before and after counties began observing daylight-saving time. Readings from counties that had already adopted daylight-saving time provided a control group that helped them to adjust for changes in weather from one year to the next.

Their finding: Having the entire state switch to daylight-saving time each year, rather than stay on standard time, costs Indiana households an additional $8.6 million in electricity bills. They conclude that the reduced cost of lighting in afternoons during daylight-saving time is more than offset by the higher air-conditioning costs on hot afternoons and increased heating costs on cool mornings.

“I’ve never had a paper with such a clear and unambiguous finding as this,” says Mr. Kotchen, who presented the paper at a National Bureau of Economic Research conference this month.

A 2007 study by economists Hendrik Wolff and Ryan Kellogg of the temporary extension of daylight-saving in two Australian territories for the 2000 Summer Olympics also suggested the clock change increases energy use.

So there we have it. Dicking around with the clocks twice a year and making life awkward for software developers is not only a waste of time, it’s also a waste of energy and money, at least in places where people have air conditioning in summer.

Subprime meltdown

The mainstream media coverage of the US subprime mortgage meltdown has mostly been about all the folk who have lost their homes, and various plans the government has come up with to try and ease the problem. Thinking about it more carefully, though, doesn’t it seem a little odd for the US government to interfere in the sacred free market merely in order to save a bunch of poor people from ruin?

Well, the SF Chronicle has an interesting article that explains this curious situation. It’s not about saving people from losing their houses, it’s about saving the banks.

During the housing bubble which was fueled by the subprime lending, banks sold mortgage-backed securities. For those who don’t know, mortgage-backed securities are basically in-place mortgage agreements, packaged for resell between financial organizations, or between financial organizations and investors.

The key is to view a mortgage in the abstract, as a promise by person A to pay an amount X for N years. That promise has a value, and can be sold.

For example, we arranged our mortgage through a small financial firm in the Austin area. Once all the paperwork was done, they packaged us up as an asset and sold us to GMAC. GMAC took on the business of extracting money from us over the course of years, and paid the small financial firm a lesser amount in compensation for the value of us as a customer.

This is generally a good thing. Because GMAC does administration for millions of mortgages, they can provide convenient billing and payment services, and reduce per-customer overheads. For the small firm, the benefit was immediate cashflow and no ongoing overheads.

A similar process can be used to package a mortgage and sell it to investors as a bond. The bank gets to remove the liability from their balance sheet; they can then use the cash to provide mortgage funds to more homebuyers. Hence, allowing the transfer of mortgages as mortgage-backed bonds should allow more people to buy their own houses.

For example, suppose John Smith owes the bank $1000 a month for the next 20 years. That’s a total of $1,040,000. The bank could sell that mortgage to an investor as a bond for (say) $750,000. The bank would get the $750,000 immediately, reducing their liabilities. They could use the money to finance some new homebuyer’s mortgage. Meanwhile, the investor would get $1,040,000 over the course of the next 20 years, making a nice profit. And the whole thing could be treated like a regular bond or stock market investment–the bank could continue to process the collection of the actual mortgage payments, just like it would process dividends on a mutual fund investment.

The problem is that since the banks expected to sell off the mortgages to eager investors hoping to cash in on the property boom, they didn’t really care too much about checking that the mortgages were sound; and the investors didn’t really have any way to check on the actual person paying the mortgage.

However, there’s language written into these mortgage transfer securities stating that if there’s fraud, the bank which sold the mortgage is legally obligated to offer to buy it back at the original price–which is now often ten times the actual value likely to be extractable from the homeowner. Fraud like, say, people lying on their mortgage applications, or inflated property appraisals, or e-mails on bank computers suggesting that they knew the market was a bubble that couldn’t last. Then there’s the issue of companies like S&P, who helped the banks to structure the subprime mortgage securities to look as good as possible on paper.

So if too many mortgages fail, and investors start demanding that their junk bonds be repurchased by the selling banks, those banks will go under. At that point, the FDIC and the government will have to step in, and we’ll basically have a taxpayer-funded bailout of a bunch of big corporate banks who defrauded investors. It’ll be the Savings and Loan crisis all over again.

How about pressuring the investors not to call in the cops? Well, unfortunately a lot of the investors are in foreign countries. Some of them are foreign countries. With the current state of US diplomacy, a conversation that starts with “Hey, we were wondering if you could eat a few billion dollars in losses to fraud so that we don’t have to bail out our rich corporate buddies in full public view” might not go too well.

But never mind, it may not come to that. A crack team of financial experts are trying to come up with a way to salvage the situation. We know they’re experts because, as the Chronicle points out, they’re exactly the people who got us into the mess in the first place…