Tuesday, 11 November 2014

Various teaching links: opportunity costs

Here's a new report, November 6, 2014 The Economic Cost of the European Union's Cookie Notification Policy. It says"EU's HTTP Cookie Notification Policy is costing Europe $2.3 billion a year and needs to go".
 
How do they get that figure? Part of the costs are  costs of monitoring and software changes.  But part are the time it takes to read the notification and delete it (2 seconds per user) times their wage per hour.  This gives an EU figure of $917bn Euros per year for all the EU users (its a short time, but there are many users).

Based on this data, the projected
productivity
cost of the EU cookie policy for
Europeans
each year is just over €
72
6
million or $
917
million.

Teaching links: a sketch of Piketty from Robert Solow's book review

From the brilliant review by Solow.

Piketty's logic.

Step 1. what's the long run captial-income ratio of an economy?

"Imagine an economy with a national income of 100, growing at 2 percent a year (perhaps with occasional hiccups, to be ignored). Suppose it regularly saves and invests (that is, adds to its capital) 10 percent of national income. So, in the year in which its income reaches 100 it adds 10 to its stock of capital.

We want to know if the capital-income ratio can stay unchanged for next year, that is to say, can stabilize for the long run. For that to happen, the numerator of the capital-income ratio must grow at the same 2 percent rate as the denominator. We have already said that it grows by 10; for that to be 2 percent of capital, capital must have been 500, no more, no less. We have found a consistent story: this year national income is 100, capital is 500, and the ratio is 5. Next year national income is 102, capital is 510, the ratio is still 5, and this process can repeat itself automatically as long as the growth rate stays at 2 percent a year and the saving / investment rate is 10 percent of national income.

Careful attention to this example will show that it amounts to a general statement: if the economy is growing at g percent per year, and if it saves s percent of its national income each year, the self-reproducing capital-income ratio is s / g (10 / 2 in the example).
Step 2.  g might slowdown, and with s constant, the capital/income ratio must therefore rise.
Piketty suggests that global growth of output will slow in the coming century from 3 percent to 1.5 percent annually. (This is the sum of the growth rates of population and productivity, both of which he expects to diminish.) He puts the world saving / investment rate at about 10 percent. So he expects the capital-income ratio to climb eventually to something near 7 (or 10 / 1.5).

Step 3. Inequality in the sense of capital income to total income

The key thing about wealth in a capitalist economy is that it reproduces itself and usually earns a positive net return. That is the next thing to be investigated. Piketty develops estimates of the “pure” rate of return (after minor adjustments) in Britain going back to 1770 and in France going back to 1820, but not for the United States. He concludes: “[T]he pure return on capital has oscillated around a central value of 4–5 percent a year,

Now if you multiply the rate of return on capital by the capital-income ratio, you get the share of capital in the national income. For example, if the rate of return is 5 percent a year and the stock of capital is six years worth of national income, income from capital will be 30 percent of national income, and so income from work will be the remaining 70 percent.
Step 4.  Since the captial/income ratio is going to rise, then if the return on capital stays the same, the share of capital in the economy (an "inequality" measure called the "functional" distribution of income) will rise.

Solow's critique:
Suppose we accept Piketty’s educated guess that the capital-income ratio will increase over the next century before stabilizing at a high value somewhere around 7. Does it follow that the capital share of income will also get bigger? Not necessarily: remember that we have to multiply the capital-income ratio by the rate of return, and that same law of diminishing returns suggests that the rate of return on capital will fall. As production becomes more and more capital-intensive, it gets harder and harder to find profitable uses for additional capital, or easy ways to substitute capital for labor. Whether the capital share falls or rises depends on whether the rate of return has to fall proportionally more or less than the capital-income ratio rises.
There has been a lot of research around this question within economics, but no definitely conclusive answer has emerged. This suggests that the ultimate effect on the capital share, whichever way it goes, will be small. Piketty opts for an increase in the capital share, and I am inclined to agree with him. Productivity growth has been running ahead of real wage growth in the American economy for the last few decades, with no sign of a reversal, so the capital share has risen and the labor share fallen. Perhaps the capital share will go from about 30 percent to about 35 percent, with whatever challenge to democratic culture and politics that entails.

Step 5.   What if growth slows down so that the rate of return is greater than the growth rate?  Then we get inequality in the sense that owners of capital just rack up returns just by sitting on their capital and waiting for the effects of compound interest

Suppose it has reached a “steady state” when the capital-income ratio has stabilized. Those whose income comes entirely from work can expect their wages and incomes to be rising about as fast as productivity is increasing through technological progress. That is a little less than the overall growth rate, which also includes the rate of population increase.

Now imagine someone whose income comes entirely from accumulated wealth. He or she earns r percent a year. (I am ignoring taxes, but not for long.) If she is very wealthy, she is likely to consume only a small fraction of her income. The rest is saved and accumulated, and her wealth will increase by almost r percent each year, and so will her income. If you leave $100 in a bank account paying 3 percent interest, your balance will increase by 3 percent each year.

This is Piketty’s main point, and his new and powerful contribution to an old topic: as long as the rate of return exceeds the rate of growth, the income and wealth of the rich will grow faster than the typical income from work. This interpretation of the observed trend toward increasing inequality, and especially the phenomenon of the 1 percent, is not rooted in any failure of economic institutions; it rests primarily on the ability of the economy to absorb increasing amounts of capital without a substantial fall in the rate of return. This may be good news for the economy as a whole, but it is not good news for equity within the economy.

Step 6. Policy: to tax wealth
So Piketty’s foreboding vision of the twenty-first century is slower growth of population and productivity, a rate of return on capital distinctly higher than the growth rate, the wealth-income ratio rising back to nineteenth-century heights, probably a somewhat higher capital share in national income, an increasing dominance of inherited wealth over earned wealth, and a still wider gap between the top incomes and all the others.

Piketty’s strong preference is for an annual progressive tax on wealth, worldwide if possible, to exclude flight to phony tax havens. He recognizes that a global tax is a hopeless goal, but he thinks that it is possible to enforce a regional wealth tax in an area the size of Europe or the United States. An example of the sort of rate schedule that he has in mind is 0 percent on fortunes below one million euros, 1 percent on fortunes between one and five million euros, and 2 percent above five million euros. (A euro is currently worth about $1.37.) Remember that this is an annual tax, not a onetime levy.

He estimates that such a tax applied in the European Union would generate revenue equal to about 2 percent of GDP, to be used or distributed according to some agreed formula. He seems to prefer, as would I, a slightly more progressive rate schedule. Of course the administration of such a tax would require a high degree of transparency and complete reporting on the part of financial institutions and other corporations.


A formal critique of Piketty is here by Rognlie.  My summary
  1. More capital has in the past lowered the return to capital so that the share of capital will not rise.
  2. Trends in wealth are driven mostly by housing, rather than the compounding effect of wealth. 
  3. The key issue is not therefore inequality in the sense of capital to labour income, but inequality within labour income.  That is likely driven a combination of trade, technology and schooling being the factors that determine the competitive pressure and technical demand for workers of different skills.   That is set out in David Autor, "Polanyi's Paradox and the Shape of Employment Growth," MIT, September 3, 2014.  

Thursday, 6 November 2014

Various teaching links

http://www.bloombergview.com/articles/2014-11-05/economics-for-masters-of-the-universe
Economics teaching to MBAs. 

2.  A primer on bank capital and stress tests
http://www.moneyandbanking.com/commentary/2014/11/3/a-primer-on-bank-capital

3.  How cartels lower quality
http://conversableeconomist.blogspot.co.uk/2014/10/the-light-bulb-cartel-and-planned.html

4.  Marginal cost in action; google ads

Various teaching links: two-sided markets

 Lots of news on platform economics and two-sided markets

1. The CMA is going to have an inquiry into banks.

Analysis: Kamal Ahmed, BBC business editor


When the Competition and Markets Authority talks about lack of "transparency" in banking, they are highlighting one of the key anomalies of the banking market - that current accounts are ostensibly free.

A "free" upfront product raises all sorts of tensions in any market as commercial operators have to make their profits elsewhere. This is often in hidden charges and - in the case of banking - what is called forgone interest (that is interest not paid on deposits).
I am sure the issue of "free in-credit banking" will be part of this review. If customers paid up front for accounts would they demand a better service? Would they be more likely to switch if they were not satisfied with their bank? If customers are charged for bank accounts, what does that mean for people on lower incomes, would they be priced out of full service banking?
These are difficult issues, and ones which the CMA will be looking to answer.

2. Taylor Swift does not like Spotify 
2a. some analytics


Taylor Swift, Spotify and an industry unsure how to make money


Many people are puzzled: why would Taylor Swift, one of the world’s biggest pop stars, remove her entire catalogue of music from Spotify, a streaming service that pays her millions of dollars each year?

What is clear is that Ms Swift and Big Machine, her Nashville-based record label, believe they can make more money by withdrawing from Spotify and focusing on sales of CDs and downloads.

The decision goes to the heart of a long-running debate in the entertainment business: what is the best way to make money out of recorded music?
“The music industry has still not figured out the best way to extract value in the digital era,” said Jeremy Silver, a digital media consultant.
Consumers are increasingly using streaming services such as Spotify and Deezer, which last year accounted for about 10 per cent of the $15bn global recorded music market.
Spotify charges $9.99 a month for unrestricted access to millions of songs, and passes almost 70 per cent of its revenues back to rights holders. But to encourage users to sign up in the first place, it also has a free tier, which includes advertising.

It is this free tier that drags down the royalty rate the company is able to pay record labels. Each individual stream of a song generates a fraction of a cent in revenue, on average, compared with as much as $1 for the sale of an individual download and even more for a CD sale.

Ms Swift and other big artists such as BeyoncĂ© and Coldplay have long pursued a strategy of keeping new albums off streaming services in the initial period after launch. But the decision to pull Ms Swift’s entire catalogue from Spotify is unprecedented.
According to a person familiar with the matter, it was the two-tier model that proved problematic. Big Machine wanted to keep Ms Swift’s songs on Spotify’s paid tier and remove it from the free service. But Spotify requires rights holders to be on both tiers or none at all, so the label pulled the whole catalogue.


2b. some song lyrics about it.

Wednesday, 15 October 2014

Various teaching links

1.  As things go a clear definition of R&D from ESA10

Research and development (R&D) is creative work undertaken on a systematic basis to increase the stock of knowledge and use of this stock of knowledge for the purpose of discovering or developing new products, including improved versions or qualities of existing products, or discovering or developing new or more efficient processes of production”.

2. A lovely explanation of intrinsic and extrinsic motivation from  Alex Tabbarrok.




that focuses on the idea that an incentive scheme does not clash with intrinsic motivation, but gives information about the task to the person presented with it.


Although not central to his work, one of my favorite papers of today’s Nobel prize winner, Jean Tirole, is Extrinsic and Intrinsic Motivation (written with Roland Benabou). In this paper, Tirole and Benabou try to resolve the economist’s intuition that incentives motivate with the idea from psychology that incentive schemes can sometimes demotivate. The psychologists argue that extrinsic motivation can reduce intrinsic motivation (but they are not at all clear on why this should be the case). Tirole and Benabou try to produce a similar finding by arguing that in addition to providing motivation an incentive scheme gives the agent, the one being incentivized, some information and the information may undermine the motivation. - See more at: http://marginalrevolution.com/marginalrevolution/2014/10/jean-tirole-and-intrinsic-and-extrinsic-motiviation.html#sthash.Pq6RExe2.dpuf
Although not central to his work, one of my favorite papers of today’s Nobel prize winner, Jean Tirole, is Extrinsic and Intrinsic Motivation (written with Roland Benabou). In this paper, Tirole and Benabou try to resolve the economist’s intuition that incentives motivate with the idea from psychology that incentive schemes can sometimes demotivate. The psychologists argue that extrinsic motivation can reduce intrinsic motivation (but they are not at all clear on why this should be the case). Tirole and Benabou try to produce a similar finding by arguing that in addition to providing motivation an incentive scheme gives the agent, the one being incentivized, some information and the information may undermine the motivation. - See more at: http://marginalrevolution.com/marginalrevolution/2014/10/jean-tirole-and-intrinsic-and-extrinsic-motiviation.html#sthash.Pq6RExe2.dpuf



Although not central to his work, one of my favorite papers of today’s Nobel prize winner, Jean Tirole, is Extrinsic and Intrinsic Motivation (written with Roland Benabou). In this paper, Tirole and Benabou try to resolve the economist’s intuition that incentives motivate with the idea from psychology that incentive schemes can sometimes demotivate. The psychologists argue that extrinsic motivation can reduce intrinsic motivation (but they are not at all clear on why this should be the case). Tirole and Benabou try to produce a similar finding by arguing that in addition to providing motivation an incentive scheme gives the agent, the one being incentivized, some information and the information may undermine the motivation. - See more at: http://marginalrevolution.com/marginalrevolution/2014/10/jean-tirole-and-intrinsic-and-extrinsic-motiviation.html#sthash.Pq6RExe2.dpuf
Although not central to his work, one of my favorite papers of today’s Nobel prize winner, Jean Tirole, is Extrinsic and Intrinsic Motivation (written with Roland Benabou). In this paper, Tirole and Benabou try to resolve the economist’s intuition that incentives motivate with the idea from psychology that incentive schemes can sometimes demotivate. The psychologists argue that extrinsic motivation can reduce intrinsic motivation (but they are not at all clear on why this should be the case). Tirole and Benabou try to produce a similar finding by arguing that in addition to providing motivation an incentive scheme gives the agent, the one being incentivized, some information and the information may undermine the motivation. - See more at: http://marginalrevolution.com/marginalrevolution/2014/10/jean-tirole-and-intrinsic-and-extrinsic-motiviation.html#sthash.Pq6RExe2.dpuf

Although not central to his work, one of my favorite papers of today’s Nobel prize winner, Jean Tirole, is Extrinsic and Intrinsic Motivation (written with Roland Benabou). In this paper, Tirole and Benabou try to resolve the economist’s intuition that incentives motivate with the idea from psychology that incentive schemes can sometimes demotivate. The psychologists argue that extrinsic motivation can reduce intrinsic motivation (but they are not at all clear on why this should be the case). Tirole and Benabou try to produce a similar finding by arguing that in addition to providing motivation an incentive scheme gives the agent, the one being incentivized, some information and the information may undermine the motivation. - See more at: http://marginalrevolution.com/marginalrevolution/2014/10/jean-tirole-and-intrinsic-and-extrinsic-motiviation.html#sthash.Pq6RExe2.dpuf

Monday, 6 October 2014

Various teaching links

Some teaching cases taken from this month's CEP Centrepiece magazine.

1. Selling UK citizenship.  We will learn about how markets allocate according to willingness to pay. Here's a proposal to allocate citizenship this way.

2. Complementary goods. If you ban YouTube videos, you might cause sales of music to fall if there are inter-related demands.  Exactly this happens. 

3. Productivity spillovers.  How wikipedia content spills over to benefit others.

Friday, 26 September 2014

John cochrane explains bank capital

http://johnhcochrane.blogspot.pt/2014/09/capital-language.html

Friday, 19 September 2014

Business Survival rates

Interesting data from the ONS, read down the first column.  After 4 years, almost half new businesses have gone.

 Business survivals

The UK five-year survival rate for businesses born in 2007 and still active in 2012 was 44.6%. By region, the highest five-year survival rate was in the South West region at 48.1%, while the lowest was in London at 41.7% which mirrors the churn rate seen in the business birth and death data.  By broad industry, some notably high five-year survival rates include health with a survival rate of 56.1% and education with a survival rate of 54.5%.  Hotels & catering was the lowest with only 37.0% of businesses surviving for five years. There has been an increase in one - year survivals from 2011 births, compared with 2008-2010 births, which reflects improving economic conditions.

Survival rates are available from one-year to five-year in greater geographical and industrial detail via the tables  (1.88 Mb Excel sheet)  published on the Office for National Statistics website.

Table 4: Survival rates of businesses born between 2007 and 2011

  Rate (%)
Births 2007 Births 2008 Births 2009 Births 2010 Births 2011
One year survival 95.4 92.0 90.8 86.7 93.1
Two year survival 81.1 74.0 73.8 72.5 ..
Three year survival 63.0 58.0 59.6 .. ..
Four year survival 52.0 48.9 .. .. ..
Five year survival 44.6

Wednesday, 17 September 2014

Internalised externalities in shopping malls

As we will see in our Economics course, externalities are when actions of one party affect another. Smoking is an example or pollution or global warming.  That's not a problem, Coase taught us, if the parties can negotiate over the problem and so "internalise the externality": ask someone else to stop smoking or pay them not to pollute (global warming seems like a problem here).  But one would expect shopping malls to be able to do this, a question taken up by Gould, Pashigian, Prendergast. REcStat, 2005.

In their shopping mall data, anchor stores are 60% of the floor space. But they pay $4.13 rent per square foot, against $29.37 for the non-anchor stores.  Meanwhile average sales per sq foot are $185.34 adn $317.68.  All this is in table 1 of their paper, below.




Is this sensible?  Let's assume the Mall owners want to maximise total sales in the Mall (they will want to maximise their profits, but suppose they are related to total sales), and they have some spare space.  What would a price discriminating monopolist do?  Answer: equalise marginal revenue in each sub market (for constant marginal costs).  In this context, this means setting rents so that an extra square foot rented to an Anchor generates the same sales to that rented to a non-Anchor.

It looks like they are failing, see Table 1 since the non-Anchors generate much more sales.  So what is happening?  It's like that the presence of the anchors adds demand to the non-Anchors.  So another anchor square foot does not just generate $185 but an additional effect on the non-Anchors.  Their statistical analysis, using variation in sales and presence of different store types, suggests another Anchor square foot generates additional sales for non-Anchors of $116 per sq ft.  Thats a total of 185+116=$301, which is very close to $317.  The externality is internalised.

Price discrimination in the car industry

Here's a fantastic demonstration of price discrimination in the light vehicles industry from  Ana Aizcorbe, Benjamin Bridgman, and Jeremy Nalewai

Prices for light vehicles tend
to fall over their model year, and retrace those declines
when next year’s models are introduced.
Using a new dataset, we document that the
characteristics of car buyers vary significan
tly over the model year as well: as average
prices of vehicles fall over the model year,
so does the average income of the buyers.
Under the assumption that income is negativ
ely correlated with price sensitivity, our
results show that price-insensitive consumer
s buy early in the model year, with more
price-sensitive consumers waiting until prices fall.
This empirical result suggests car de
alers engage in price skimming (i.e.
intertemporal price discrimination), introduci
ng new models at a high price, selling to
those willing to pay top dollar, and then loweri
ng the price to sell to the remaining market
segments.

What do they do?

1.  they have detailed prices for light cars (for example a Honda Accord) in the U.S. from late 1999 to 2003. The price data gives average transaction prices, net of cash rebates and
financing incentives across all buyers in a month (consumers, firms and government).
 
2. this is then matched with data on on the characteristics of car buyers from surveys compiled by market data vendor NOPworld, including income surveys per buyer.
 
3. here's the key diagram.  Prices fall for each model over the year until a new model is introduced. What happens to the buyer type? High income people buy first, price discrimination by income.  Note they check that the early models are not the best appointed etc. so it really is the same car.