Have US markets become less free?

NYU economist Thomas Philippon has a new book (summarized here) out examining how a variety of goods have become more expensive in the US than in other countries at the same level of economic development.  Examples include airfares, cellphones, and internet access.  These goods were cheaper in the US than overseas twenty years ago, so what happened?

Philippon blames using monopoly power in the US and a growing commitment to free markets overseas.  The time needed to open a new business in France has shrunk from 53 days to 4.  Most US households face no more than two choices for internet service whereas consumers in France have five or more.  Philippon estimates that growing monopoly power in the US costs consumers roughly $300 a month.

Can economics explain the blackouts in California?

Power companies in California have cut off customers in an effort to prevent forest fires.  Typically we see power outages in places like Iraq or Venezuela, so why is this happening in a state with a relatively high standard of living.  I have seen five explanations that make some sense to me (see Tyler Cowan's recent column for another perspective):

1.  Climate change has increased the number and severity of forest fires:  I am no climate scientist, but this makes some sense.
2.  More people are living in housing that was built in areas with high fire risk: And if the risk is not priced properly by insurance markets, we could have a classic case of an externality where the true costs of building in these areas are underestimated.  Result: too many homes in places where they should not be.
3.  California has imposed so many constraints on utilities that they lack the resources to deal with fire prevention:  WSJ points out a number of green energy mandates along with difficulties in raising electricity prices (which are already among the highest in the nation, perhaps due in some part to the green energy mandates).
4.  A whole lot of trees would have to be cut down to mitigate the fire risk: This raises additional regulatory constraints, not to mention the cost.
5.  Liability for fires has shifted to power companies: This means they compare the cost of fire liability to the lost revenue from customers; guess which these numbers is a lot bigger than the other?

A sixth explanation cannot be totally discounted: executives at PG&E may very well be cut from the same cloth as those at Boeing, Facebook and Volkswagen in terms of the weight they have given to social responsibility.  NYT seems to think so and provides provocative evidence.

What's the way out?  Something will have to be done to spread the cost of updating PG&E equipment and cutting down gazillions of trees across a broad customer base, including areas not served by PG&E and areas not in any danger of fire risk.  I predict some combination of a rate increase and state-guaranteed bonds, but I would not be surprised if the state of California takes over PG&E.

Economics of customer service

Two great stories in last week's WSJ about management decisions regarding customer service.  One focuses on decisions in the private sector regarding "how far customers can be pushed before their heads explode."  This is a classic case of optimization using economic logic: reduce spending on customer service up until the point that the savings are offset by lost revenue from angry customers.

Specific examples: How many registers are open?  How many branches and nodes to put in the automated phone answering service?  How long does it take to talk to a real person?  Will the real person be empathetic and speak English well?  Firms are using the data they collect in real time to answer these questions.  One thing I learned is that companies are now using artificial intelligence to match the angriest customers (based on voice tone, syllables per second) with the agents who have the best conflict management skills.

The other story focuses on an institution where customer service has gone from poor to horrific: the Internal Revenue Service.  This year only 33% of calls dealing with compliance penalties got through.  The IRS budget has been cut and one of the responses under Presidents of both major political parties has been to degrade customer service.  Of course the IRS only looks at the situation from a cost standpoint; they do not have to worry about their customers going elsewhere.

Will the Fed's rate cut matter?

Yesterday the Federal Reserve cut the federal funds rate from 2.50 to 2.25 percent.  Financial markets reacted adversely, perhaps because they anticipated a larger cut or the prospect of more cuts in the future.

But what economic impact will this cut in interest rate have?  Chicago Booth economist Austan Goolsbee questions whether it will do much at all.  Lower interest rates historically stimulate household purchases of durables (furniture, appliances, cars, homes) and corporate spending on investment.  Goolsbee points out that interest rates have been at historically low levels for 10 years, so there is not likely to be much pent-up demand for durable goods.  Also, rates cannot fall much further from their current rates; zero is a lower bound!  Banks are not going to pay borrowers interest.  

Long term rates are just as low as short term rates, indicating the market expects interest rates to remain quite low.  Proponents of the rate cut argue that slower growth in Europe and China dictates stimulus in the US.  However, the rate cut also led to the dollar raising in value to its highest level in two years (not what we would have expected, by the way; lower interest rates usually imply a declining currency value).  If this holds up, expect net exports to decline which will further slow growth.  Also the interest rate cut is bad news for savers.

Two members of the Fed's Open Market Committee voted to not make any change in interest rates, believing that an economy with 3.5 percent unemployment does not need any more stimulus.  If Goolsbee is right and the rate cut does not offset the drag from trade wars and slower growth in other countries, it will be interesting to see if the Fed doubles down on yesterday's action.

Were the members of the World Cup champion women's soccer team underpaid?

The top line numbers are hard to dispute: the women's team is much more successful than the men's team and they are paid a lot less.  If pay equity decisions revolve around the principle of "equal pay for equal work," this is an open and shut case.

I spent some time recently trying to dig deeper into the question to see if there is a rational economic explanation.  Here is a quick look at the key determinants of pay for the men's and women's national soccer team:

1) Performance: Easy comparison here because the men did not even qualify for the 2018 World Cup and received no prize money at all.  The women's team received $4m for winning the cup.

2) Pay method: Women earn a base salary plus bonuses for wins in qualifying and World Cup matches.  Men get per-match bonuses for being on the active roster but they receive no base annual pay.  WP did a simulation to see what would happen under a range of win-loss scenarios.  Under a median 20 game scenario, if they both won the same number and type of games, women would receive 11 percent less than men.   Pay would be equal in only one scenario: if both teams played 20 matches and lost every match.

3) Revenue: In pure economic terms, product demand has a critical role in salary determination.  That is why the Rolling Stones will make more money than Sleater-Kinney (an all-women's band for those not in the know) for playing the same number of concerts in the same arenas, even if Sleater-Kinney has made better music over the last 20 years.   If the women's team generates more revenue than the men's team in friendly matches and tournaments outside the World Cup, that will make the pay discrimination claims much stronger.  Half of the revenue for the US Soccer Federation comes from sponsorships.  It is impossible to determine whether the women's or men's team has been the main driver of this revenue source.  As for dollars generated by paying customers at matches, the answer depends on timing.  If you include 2014 (when the men participated in the cup), WP reports the men come out $11m ahead.  If you start in a later year and include 2019, the women have generated more revenue.  Lawyers on both sides will have lots of fun making arguments here.

4) Collective bargaining: The pay scale for each team is set through separate collective bargaining agreements.  Some have argued that the women would be well served by taking a stronger stand in the next round of bargaining.   Others would argue that they should not have signed off on an agreement where lower pay is basically baked in.

Bottom line: the women should not have to depend on winning the World Cup to obtain pay equity.  The disparity in the pay scales that is built into the collective bargaining agreements is the strongest argument the women's team has in its favor.  General Motors and the UAW could not legally have one pay scale for women and another for men doing the same jobs.  My guess is that US Soccer will either settle out of court or come up with a new collective bargaining agreement before this case appears before a judge.

What is the Nordic welfare state really like?

Bernie Sanders points to the economic success of Denmark, Norway, and Sweden as proof that socialism can produce high living standards.  WP reports about a study done by JP Morgan Chase showing that these countries are not as socialist as you might think.

Granted their payroll and sales taxes are higher than those in the US.  Labor unions are stronger and income is more evenly distributed.

But these countries are anything but socialist paradises:

• Out of pocket spending on health care in the Netherlands and Sweden is the same or higher than the US.  So much for socialized medicine.  
• Companies have just as much business freedom (free trade, openness to international investment, regulations for new business creation) in the Nordics as in the US. 
• Estate tax rates are lower in the Nordics than in the US.   

Money quote from former Danish prime minister Lars Rasmussen: 

Denmark is far from a planned socialist economy.  Denmark is a market economy.   

A goldbug for the Fed?

When I teach my Essential Macroeconomics for Managers course, I spend some time on exchange rates.  I emphasize the role of trade balances, inflation, and Federal Reserve policy, reflecting the consensus of economic research.  I spend no time on the gold standard, as research has shown that it makes economic growth and inflation less stable.  

President Trump has nominated Judy Shelton for a vacant position on the Federal Reserve's Board of Governors.  Dr. Shelton (PhD in business administration from Utah) advocates a return to the gold standard.  Greg Ip has a great WSJ column explaining her views, which are based more on politics than economics.  Her core belief is that the gold standard would impose fiscal discipline on Congress and the President and monetary discipline on the Federal Reserve.  She went ballistic in the aftermath of the Great Recession when quantitative easing led to a massive increase in the money supply and, she argued, an inevitable surge in inflation.  Guess what?  She and other goldbugs were dead wrong; inflation has been at rock-bottom levels for the last 10 years.

Now she is criticizing the Fed for keeping interest rates too high, claiming it is slowing down the economy.  This is hard to swallow in a world where 10-year Treasuries yield two percent and the June jobs report showed 224k new jobs last month.  Will she make it through tough questions at her Senate confirmation hearing?  Stay tuned.

Social Security news that all Presidential candidates are ignoring

Next year is going to be a big year for politics with the Presidential elections.  It also is going to be a big year for the Social Security system.  Why?  For the first time since 1982 payroll tax revenue will not be sufficient to cover Social Security benefits, as reported by NYT earlier this week.

Retirees should not worry, yet.  There is enough money in the trust fund to keep the system whole for 15 more years.  But then the federal government would have to reduce benefits by about 20 percent.

It is unlikely that both houses of Congress and the President will come up with a solution before 2021.  Every year when the problem gets ignored makes the pain (reduced benefits, tighter benefit eligibility, higher taxes, or some combination of all of the above) that much worse.  Modest delays in retirement age and modest hikes in the payroll tax will resolve the problem if these steps are taken now.

Although today's candidates would rather talk about building a beautiful wall or launching a Green New Deal, voters should be pressing them for answers regarding how to save Social Security.

Tariff update

The Trump tariffs have now been in place long enough that economists have had time to conduct rigorous research regarding their impact.  Three recent studies of note:

Washing machines: three economists at the Federal Reserve and the University of Chicago took a deep dive into the tariffs placed on washing machines.  They found that washing machine prices rose by 12 percent across the board in the US, imported machines went up just as much as domestically produced ones.  Also drier prices went up by the same amount, even though they were not subject to the tariff.  They estimate the cost to consumers to be $1.5b a year.  Samsung and LG are opening plants in the US and Whirlpool is adding jobs as well, but this amounts to 1800 new jobs at a cost of $820k per job.  Hope your washer and dryer hold up!

Economy-wide impact: another team from Columbia, the New York Fed, and Princeton looked at the collective effect of all the Trump tariffs.  They found the tariffs were passed on to customers 100% in the form of higher prices, resulting in a loss of $1.5b per month.   In addition, the tariffs imposed by China, EU, Mexico and others as counter-measures had an adverse effect on US exports of $2.4b per month.

Yet another team from Cal-Berkeley, Columbia, UCLA, and Yale reached similar conclusions.  Imports dropped 31.5% in markets covered by the Trump tariffs and US exports dropped 11% in response to retaliatory tariffs.

Does anyone notice a pattern here?  And what will happen if tariffs on China are ratcheted up even further in the next few days?

MBA alum featured on page one Sunday NYT

MBA 2013 alum Jason Queen was the main subject of the lead front page article in Sunday's New York Times.  Jason has been a successful developer in downtown Raleigh, specializing in historic structures and blighted neighborhoods.  The article covers the changing real estate market in many parts of the country where whites are buying houses and property in primarily black or Hispanic neighborhoods.  Jason also has transformed an old bus depot into Transfer Co. Food Hall.  Great to see an alum do so well and getting recognized.

About that trade deficit report

Not sure anyone would want to be the White House messenger who had to tell the boss that the US set a trade deficit record in 2018.  The general public probably found this news surprising, given the multiple-front tariff wars going on.

Economists did not find the record deficit to be surprising at all.  The US economy has been growing more rapidly, meaning everyone has greater spending capacity.  Some of that spending is going to be for imports.

At the same time, Europe and China are slowing down, putting a damper on exports.  Put the two together and, voila, fewer exports + more imports = larger trade deficit.

Economic aspects of daylight savings time

Ready to spring forward tonight at 2 a.m.?  Today's WP reports that Congress is considering a bill called the Sunshine Protection Act that would have us observe daylight savings time for the entire year.  Supporters of the bill cite public health studies showing spikes in depression, heart attacks and sleep disorders immediately following time changes.

Economic research also is influencing the debate.  A 2015 study found that crime decreased in the spring with later sunsets (and was not offset by more crime in the morning).  Another study found that there were no energy savings resulting from daylight savings time in the summer.  Daylight savings time reduces demand for lighting, but these savings have dissipated as lights have become more energy efficient.  Also, workers come home earlier than they would have under standard time and run the air conditioning more.

I am not sure how the politics on daylight savings sort out; to my knowledge no one has yet asked Alexandria Ocasio-Cortez her opinion.

Which employment number should we believe?

Today's headline story: payroll employment increased by only 20,000 in February.  Some in the financial press have taken this as a sign that the recovery is slowing down.  Others say the numbers are off because of the recovery from the federal shutdown.

The feds track employment with two different series and they do not always tell the same story, as this WSJ piece from yesterday explains.  It turns out that the household survey of employment showed a gain of 255,000 jobs in February and a drop in the unemployment rate from 4.0 to 3.8 percent.  The household survey has been showing slower employment growth than the payroll survey over the last six months but it now appears to be catching up.

The Fed could start raising interest rates sooner if the employment numbers grow at 300k per month. Today's report indicates that the Fed will keep its powder dry for a little bit longer.

Economists' statement on carbon dividends

FT reports today that 3333 economists, including 27 Nobel Laureates and all four former Fed chairs, have signed the following statement:

Global climate change is a serious problem calling for immediate national action. Guided by sound economic principles, we are united in the following policy recommendations. 

I.          A carbon tax offers the most cost-effective lever to reduce carbon emissions at the scale and speed that is necessary. By correcting a well-known market failure, a carbon tax will send a powerful price signal that harnesses the invisible hand of the marketplace to steer economic actors towards a low-carbon future. 

II.         A carbon tax should increase every year until emissions reductions goals are met and be revenue neutral to avoid debates over the size of government. A consistently rising carbon price will encourage technological innovation and large-scale infrastructure development. It will also accelerate the diffusion of carbon-efficient goods and services. 

III.        A sufficiently robust and gradually rising carbon tax will replace the need for various carbon regulations that are less efficient. Substituting a price signal for cumbersome regulations will promote economic growth and provide the regulatory certainty companies need for long- term investment in clean-energy alternatives. 

IV.        To prevent carbon leakage and to protect U.S. competitiveness, a border carbon adjustment system should be established. This system would enhance the competitiveness of American firms that are more energy-efficient than their global competitors. It would also create an incentive for other nations to adopt similar carbon pricing. 

V.         To maximize the fairness and political viability of a rising carbon tax, all the revenue should be returned directly to U.S. citizens through equal lump-sum rebates. The majority of American families, including the most vulnerable, will benefit financially by receiving more in “carbon dividends” than they pay in increased energy prices.

This is the first such "statement by economists" that I have ever signed.  I believe that both major political parties are on the wrong side of this issue.  The Democrats are serious about global warming, but their idea of a Green New Deal will result in government micro-management of nearly the entire economy, millions of patronage jobs, and an unsustainable boost to federal debt.  The Republicans are not serious.

Fortunately neither party will be able to keep to their current positions.  A carbon tax provides both the opportunity for a political compromise that would actually work.  Given the right incentives, organizations will figure out the best path toward carbon neutrality.

Making sense of North Carolina's ABC system

No, I am not talking about the public schools.  North Carolina is one of a handful of states where hard liquor sales are restricted to state-run ABC stores.  The stores are widely dispersed, keep limited hours, and offer limited selections compared to other states where the private sector is allowed to operate more freely.  In a recent poll, a majority of 625 registered voters favored privatization.

I live in Cary, a town of 165k residents.  Cary has three ABC stores.  When I lived in Cambridge, Mass. as a graduate student, there were three liquor stores within a block of my apartment.  And they stayed open late.  And now they are open Sundays.

From an economic standpoint, the ABC system acts as an inefficient tax on alcohol consumption.  Every state taxes alcohol because demand is price insensitive (making it a great source of revenue) and excessive consumption yields some nasty negative externalities.  NC imposes an additional tax by raising the transaction cost of making alcohol purchases.

Hypothetically, the state could privatize the ABC stores and raise per gallon taxes enough so that there is no increase in alcohol consumption.  The N&O reports there have been some hearings at the NC General Assembly.   The level of economic literacy in this debate is not high.  A Charlotte legislator was concerned that privatization would result in the loss of the 2870 jobs in the ABC system across the state, apparently ignoring the offsetting creation of jobs in the private sector.

I am not counting on being able to restock my Knob Creek bourbon at Harris Teeter on Sunday any time soon.

Best music from last year

The Grammy Awards are Sunday night.  Based on my not-so-lofty credential as rock and roll critic of the Michigan State News (largest circulation paper in Lansing at the time) in the early 1970s, here are the 10 albums I enjoyed the most in 2018.  Most of them are not Grammy nominees.  My current tastes run to alternative, rock and world music, with occasional trips down the classic rock and soul memory lanes.  If you are looking for advice on the best hip-hop, stop reading.

1.  US Girls, In a Poem Unlimited; songs about women done wrong backed by a band that brings the funk
2.  Kacey Musgraves, Golden Hour; country is cool again
3.  Christine and the Queens, Chris; she sings (in French and English), dances and channels Michael Jackson
4.  Rosalia, El Mal Querer; flamenco is cool again
5.  Boygenius, Boygenius, EP; Julien Baker, Phoebe Bridgers and Lucy Dacus's supergroup
6.  Snail Mail, Lush; being an indie rock star beats going to high school
7.  Soccer Mommy, Clean; being an indie rock star beats going to NYU
8.  Boz Scaggs. Out of the Blues; best effort by an artist of my generation
9.  Beach House, 7; more dream pop from a band that keeps getting better
10.  SOPHIE, Oil of Every Pearl's Un-Insides, industrial strength electronics

Honorable mentions (multiple playlist-worthy tracks): Janelle Manae, Dirty Computer; the 1975, A Brief Inquiry into Online Relationships; Iceage, Beyondless; Hot Snakes, Jericho Sirens; Let's Eat Grandma, I'm All Ears.  

On Grammy night I'll be rooting for: Cardi B, Bad Bunny and J Balvin, "I Like It"

NC State MBA team places 1st in Krispy Kreme challenge

Kudos to the 40+ Jenkins MBA students who participated in this morning's Krispy Kreme challenge.  For the second time in three years, they brought home the gold -- first place in the Casual Team category. The KK challenge involves a five mile run from the NC State Bell Tower to the downtown Raleigh KK and back, those in the Casual Team have the option to consume a dozen donuts on the way back or to take the donuts home to their family and friends.

More importantly, the KK challenge raises over $100k each year for UNC Children's Hospital.  This is one of NC State's signature events and I am heartened that so many students came out so early in the cold to participate.

Will Trump get his wall? A look at possible outcomes

Game theory is a useful tool for examining problems where there are two or more players and each player takes into consideration the reaction of the others.  I see three possible scenarios over the next 2.5 weeks before we hit President Trump's deadline for Congressional action.
1) Congress passes a bipartisan bill on border security with protection for dreamers and over $5.7b in spending for border security.  The language on barriers is kept sufficiently vague so that Democrats can say fence and Trump can say wall.  Trump vetos the bill because he fears the loss of support from his core supporters (no wall and amnesty, all in one package).
2) Congress is unable to pass a bill.  Trump shuts down the government again.
3) Congress is unable to pass a bill.  Trump declares a national emergency so he can reallocate funds to start work on a wall.

From a game theory perspective there are two players: Congress and Trump.  The obstacles of getting a bipartisan bill through a Democratic House and a Republican Senate (with 60 votes needed to bust a filibuster) are massive.  Assuming time-consistent behavior by Trump (he has already turned down the wall-for-dreamers trade multiple times), there will be little incentive to reach an agreement and vote in favor of it.  So I put the odds of a bipartisan bill being passed as extremely low.

With no bill, Trump has to decide whether to go through another shutdown.  Well five weeks of shutdown did not work, so does Trump really think another 5+ weeks will?  Despite Trump's apparent issues with impulse control, I have trouble seeing this happening as well.  As my fellow-Kentuckian Mitch McConnell said, there is no education in the second kick of a mule.

But the emergency is the perfect solution for both sides.  Not a single brick or girder will be put in place between now and the 2020 election because the emergency wall declaration will be tied up in the court system.  Trump looks decisive to his base and can blame the Democrats in Congress and Obama judges for his failure to deliver.  Democrats are happy because (1) Trump will lose some support from his Republican base for ignoring the Constitution and (2) there won't be a wall before the election.

You can take my advice and monetize it on the betting markets.

A radically different model for higher education

In today's world expertise in data science and web development is highly rewarded.  You can learn those skills by going to private licensing programs, community colleges and universities.  In each case the learner dedicates tuition and time up front in the hope of a rewarding career.

Lambda School offers a different approach, offering 30-week courses tuition free in exchange for 17 percent of your income for two years after program completion.  Graduates have to make more than $50k before having to pay back anything and total payments are capped at $30k.

Lambda is expanding into nursing and cybersecurity in the not too distant future.  One can envision Lambda and its inevitable imitators becoming widespread in disciplines where job market prospects are strong.  I do not see Lambda getting into elementary education or philosophy, but it could be a genuine threat to universities with programs that cost more and last much longer.

This NYT quote shows how Lambda's incentives vary from the typical education provider:

The school is incentivized to only enroll motivated students who won't drop out; it is incentivized to successfully teach them the skills they will need on the job; it is incentivized to find them a job; and it is incentivized to make sure that are a success once they're on the job because the school relies on employers to keep hiring its graduates.  

Should income tax rates climb to 70 percent?

Newly elected politicians sometimes bring fresh ideas to the table.  In the case of US Rep. Alexandria Ocasio-Cortez (D-NY), we have a stale idea recycled -- raising income tax rates to 70 percent.  The top federal marginal tax rate in the US used to be 90 percent in the 1950s and early 1960s and remained at 70 percent through the early 1980s.  Ocasio-Cortez is pushing for the 70 percent rate to kick in at personal income above $10 million and would use the funds to pay for a Green New Deal.

As always, you will find some economists in support (see this summary by Matthew Yglesias) and others who are highly critical (see this Bloomberg column by Tyler Cowen and John Cochrane's blog).  The supporters back their arguments up with theoretical frameworks containing curious assumptions.  One has to do with diminishing marginal utility: an extra thousand dollars for Warren Buffett does nothing for Warren but can be life-changing for a homeless person.  (But do you trust the federal government to make these calculations?  Maybe another Congress  in 2030 decides the 70% rate should kick in at $100,000?)  Other key assumptions: 100% tax compliance and near-zero labor supply elasticities.

Eventually all income tax rates are going to have to go up because (1) the US budget deficit is not in a sustainable position and (2) the required compromise will have to include revenue enhancement along with expenditure reduction.  Although a 70 percent rate might look initially attractive from a  revenue generation standpoint, people make choices about how they get paid (cash versus benefits), how many hours they work and what professions they enter.  I doubt NC State would have as many MBA students as it does now if the top tax rate were above 50 percent.

Tough times for chain restaurants

Bloomberg predicts 2019 will be a tough year for chain restaurants with rising labor costs and falling consumer demand.  I live in a section of Cary where Carrabba's, Five Guys, Romano's Macaroni Grill, and TGI Friday's have all closed their doors within the last year.  What gives?

Overall demand for food continues to grow with population, income and other factors.  Chain restaurants are getting a smaller share of a growing market.  Also there is no evidence of a surge in visits to the fresh produce and meat aisles of groceries.

The prepared food market has become more competitive thanks to grocery store delivery, meal kits by mail and food trucks.  Food trucks have a particular competitive advantage in their lower fixed costs and ability to relocate to meet customer demand.  We also could be seeing a shift in consumer preferences away from mass-market menus.  The generation that disdains Bud Light in favor of microbrews could very well be giving the same treatment to chain restaurants.