Russell Roberts's Blog, page 1444
June 4, 2011
Book of Letters-to-the-Editor
Sometime next year (probably in May 2012) a book of 100 of my best letters-to-the-editor will be published, in both paper and e-book form. The publisher and I (with the help of Jim Tusty and Bob Chitester at Free To Choose Network) are now in the process of winnowing down nearly 5,000 letter to 100.
The plan is to have a letter on the left-hand page and, on the right-hand page across from the letter, some new material that relates somehow to the letter – for example, a cartoon; an updating of any data that might be in the letter; an especially interesting reaction to the letter; etc.
I welcome from you any suggestions you have for which of my letters are good candidates to be included in the book.
I welcome also suggestions for the book's title.
Thanks!
MC=MR
A few commenters on this post wonder why I assume that, if BMW invents a method for reducing its costs of producing automobiles, it will therefore lower the prices it charges for its cars. Won't BMW simply enjoy lower costs on the automobiles it produces – lower costs that increase BMW's profits – rather than dissipate these higher profits by cutting the prices of its automobiles?
No. If BMW doesn't expand its output, it would earn fewer profits than it would earn by lowering its prices.
More specifically, the economist's answer (and, remember, the original question on the pop quiz is from an exam I gave to students in my Principles of Microeconomics class) is that each period each firm expands the quantity of its output up to the point at which that firm's marginal revenue becomes equal to that firm's marginal cost. Only in this way do firms maximize their profits.
Marginal cost – the cost of producing an additional unit of output – rises as quantity produced rises. (Marginal revenue – the change in the firm's total revenue that results from selling one additional unit of output – falls as the firm sells more and more output if selling these additional units of output requires the firm to lower the prices it charges for its outputs.)
The efficiency-enhancing machine lowers BMW's schedule of marginal costs; that is, use of the machine lowers BMW's marginal cost at each possible quantity of output. With a now-lower schedule of marginal costs, the (upward sloping) marginal-cost curve intersects the (generally downward sloping) marginal-revenue curve at a higher quantity of output than previously. So it pays BMW to produce and sell more automobiles even though BMW can sell these additional automobiles only by lowering its prices.
If BMW does not lower its prices in this situation it leaves money on table (or, as economists say, it doesn't maximize its profits). If BMW doesn't lower its prices in this situation it would continue to sell the same quantity of automobiles that it sold before its costs fell. So it would produce and sell some automobiles profitably (automobiles whose production and sale add more to BMW's revenues than they add to BMW's costs) but not the full quantity of automobiles whose production and sale add more to BMW's revenues than they add to its costs.
In short, because the machine lowers BMW's costs of production, the number of automobiles that it is now profitable for BMW to produce and sell is greater than it was before BMW started using the machine. But to sell this higher quantity of cars requires BMW to lower it prices. And so BMW lowers the prices it charges for its cars.
Butt Out
Here's a letter to the Boston Globe:
Critical of your argument that "cigar bars should be an exception to smoking bans in public places," Andrew Rouse writes that "The Globe ignores the fact that allowing cigar bars condones job sites where workers are expected to be exposed to carcinogens as a condition of employment. No worker should have to work in such conditions" (Letters, June 4).
News flash to Mr. Rouse: workers are intelligent beings. The existence of cigar bars does not require that any worker must work "in such conditions." Persons who wish to work in cigar bars can do so, while those who do not do not. Problem solved.
It won't do, by the way, for Mr. Rouse to reply that some people have no real choice but to work in cigar bars. Such a claim would imply that these workers' skills are so specific to cigar bars that their other employment options, if any, are judged by these workers to be even worse than toiling in cigar bars. Yet Mr. Rouse – posing as workers' champion – wants to force them to endure options that, as they see matters, are even worse than (what Mr. Rouse assumes to be) the hell of working in cigar bars.
How, exactly, would cigar-bar workers be helped by this outcome?
Sincerely,
Donald J. Boudreaux
June 3, 2011
Herbert Hoover didn't cut spending
Brad DeLong critiques Arnold Kling's view that the economy has a recalculation problem and says it's all about aggregate demand:
…when it comes to business-cycles–to recessions and depressions and downturns–we don't need to model 140 million workers, 10 million firms, and 20 million commodities: we only need to model two: (OK, four): currently-produced goods and services on the one hand, and (perhaps three types of) financial assets on the other. A business-cycle downturn comes when–for any of a number of possible reasons–there is an excess demand for financial assets and a corresponding deficient demand for currently-produced goods and services, which leads to rising inventories, falling sales, rising unemployment, falling incomes, and multiplies itself into general deficient demand for pretty much all currently-produced goods and services in the economy. The downturn comes to an end when incomes have fallen so far that households and businesses are so strapped that they cease trying to build up their stocks of financial assets, and the aggregate supply-aggregate demand balance comes to an end. The depressed state of the economy comes to an end when an excess supply of financial markets induces an excess demand for currently-produced goods and services that pushes inventories down, sales up, unemployment down, incomes up, and multiplies itself into general prosperity.
In the background the market system is trying as best as it can to find the best uses and production plans for 140 million workers, 10 million firms, and 20 million commodities given the state of aggregate demand. But that is not of the essence in understanding low capacity utilization and high unemployment. The aggregate demand shortfall is.
When you ask believers in "recalculation" what pattern of production and trade proved to be unsustainable in 2007, they answer: "building so many houses." When you ask believers why the market economy has been unable to sort out this problem in three years, they answer with nothing–silence. When you say that OK, there were $300 billion of excess houses at the start of 2007 but now construction has been so depressed for so long that there are $1 trillion fewer of houses than trend and why isn't the 2007 pattern of production and trade sustainable again, they answer once again with nothing–silence.
That annoys me.
It is possible to find in history economic catastrophes produced by the disruption of patterns of sustainable specialization and trade–the Bengal famine of 1942 comes immediately to mind. But there is literally no evidence at all that we have such a problem right now. Our problem right now is that demand is low because incomes are low, and incomes right now are low because demand is low, and demand is not rising because there is no excess supply of financial assets to goose people to spend more. If you want to argue that there is a disruption of patterns of sustainable specialization and trade, you need to point to such a disruption right now that is large enough to produce an 8% shortfall in spending. Nobody has. Nobody has because nobody can.
The other thing that annoys me is that this is presented as something new when it is actually something very old–and it is presented without acknowledgement of the arguments made against it in the 1930s and, indeed, in the 1840s when it was made before. Friedrich Hayek and Andrew Mellon claimed–and Mellon dragged Herbert Hoover along into policies of austerity, of tax increases and spending cuts during the Great Depression–that as a result of lax monetary policy in the 1920s the economy in 1930s had too much plant and equipment and too many workers employed making capital goods, and had to suffer from a "prolonged liquidation" in order to productively redeploy resources into the consumer goods industries where they really should be. Joseph Schumpeter cheered them on, claiming that without the boom-and-bust cycle the economy would die, for it was its "respiration." But if Hayek were correct we should see depressions both when the economy is switching resources from capital to consumer goods and when the economy is switching resources form consumer to capital goods, and we don't: while an economy making too little in the way of consumption goods is ripe for a downturn, an economy making too little in the way of capital goods is ripe for a boom.
There is a lot to write about here, but I want to focus on two issues raised by DeLong. The first:
When you ask believers in "recalculation" what pattern of production and trade proved to be unsustainable in 2007, they answer: "building so many houses." When you ask believers why the market economy has been unable to sort out this problem in three years, they answer with nothing–silence. When you say that OK, there were $300 billion of excess houses at the start of 2007 but now construction has been so depressed for so long that there are $1 trillion fewer of houses than trend and why isn't the 2007 pattern of production and trade sustainable again, they answer once again with nothing–silence.
Silence. Hmmm. (Arnold responds here.)
I'm not sure what exactly DeLong is saying with respect to Arnold's recalculation argument. He appears to be saying that there was an excess supply of houses and that excess supply has gotten even larger. Presumably, he thinks that's because of insufficient aggregate demand rather the challenges of creating a new pattern of sustainable specialization and trade. He presumes that Arnold has nothing to say in response. I doubt it. But let me take a shot at it. When there is excess supply of something, its price usually falls. And the price of housing has fallen since the peak. But it hasn't fallen enough, probably, because the government has been very eager to stop the price of housing from falling. Interest rates have been kept close to zero and the government has worked very hard to keep the flow of credit going by nationalizing Fannie and Freddie and keeping them in business to provide liquidity to the housing market. That in turn has made sure that the excess supply of houses is not mopped up by eager buyers. And that means that new housing starts are going to be anemic. And that means that unemployed carpenters and electricians will remain unemployed. Some have been tempted to find a new occupation. Others are going to wait, hoping the housing market will recover. It should have recovered or at least be on the path to recovery but the government has stymied the adjustment process.
Then there is this:
Friedrich Hayek and Andrew Mellon claimed–and Mellon dragged Herbert Hoover along into policies of austerity, of tax increases and spending cuts during the Great Depression–that as a result of lax monetary policy in the 1920s the economy in 1930s had too much plant and equipment and too many workers employed making capital goods, and had to suffer from a "prolonged liquidation" in order to productively redeploy resources into the consumer goods industries where they really should be.
I don't know anything about Mellon's influence on Hoover. Or Hayek's. But whatever it was, it didn't yield spending cuts. Here are the levels of federal government spending (from here, Series Y 457-465) between 1924 and 1934 in billions of dollars
1924 $2.9
1925 $2.9
1926 $2.9
1927 $2.9
1928 $3.0
1929 $3.1
1930 $3.3
1931 $3.6
1932 $4.7
1933 $4.6
Hoover took office in March of 1929. FDR took office in March of 1933. The data on spending are fiscal years, that ended in June 30 for this period. So Hoover's budgets are roughly 1930 through 1933. Of course you have to correct for inflation. Or deflation as the case may be. In those years it was deflation. Prices of government purchases of goods and services (from here, Table 41) fell between 1930 and 1933 by roughly 10%. So Hoover actually increased spending by over 50% in real terms.
Maybe I am misinterpreting the data. If so, I look forward to hearing from DeLong about the correct source for his claim that Hoover cut spending during the Great Depression. I would hate to be answered with silence.
Back from Israel
I am back from my trip to Israel. Thank you, Don, for keeping the Cafe going.
June 2, 2011
More on "Wanna Bet"
Over at Carpe Diem, Mark Perry runs the data, a bit more formally than I did, on Americans' risks of being killed, between 1940 and 2009, by tornados, floods, and hurricanes. Here's Mark's concluding paragraph:
Excluding the year 2005 for Katrina, the trend lines in the two graphs above are statistically significant at the 1% level. Adjusted for the U.S. population, the average American was more than 2.5 times more likely to get killed in a flood, hurricane or tornado between 1940 and 1979 than in the period between 1980-2009. The bottom chart shows that 2009 was the safest year ever since 1940, with fewer than 0.25 deaths per 1 million population.
As for my bet, I have two people so far who have offered to accept it. One is Roger Pielke, Jr., who was the first person to offer to accept my bet. I'm in e-mail contact with Roger and we're working out the details, such as the amount of money Roger is betting. If that sum turns out to be less than $10,000, then I'll let the other person in on the bet.
And at the risk of being too repetitive, I say again that my bet is not about the reality of climate change and it's not about climate-change's cause. My bet is that, even if the frequency of severe weather events – specifically, tornados and floods and hurricanes – increases over the next 20 years in the U.S., the number of Americans killed by these weather events will be fewer in the 2011-2030 period than was the number killed by these events in the 1991-2010 period. The official data set for the calculation and classification of these deaths will be one assembled by the National Weather Services under the rules and method that it used to classify such deaths for the 1940-2009 period. (Roger Pielke links to this data set in his blog post mentioned above.)
My prediction is that, as long as ours remains a reasonably free-market economy – and, for all of its imperfections, I'm predicting that the U.S. economy will continue to be 'reasonably free market,' and one that, despite the absurd protectionist efforts of the likes of Sens. Sherrod Brown, Lindsey Graham, and Chuck Schumer, an economy increasingly and (hence) beneficially integrated in to the global economy – our increasing prosperity and the global-economy's innovation will make Americans increasingly safe from the worst effects of tornados, floods, and hurricanes.
By the way, not only will Americans become more protected from these weather events; peoples in other market-oriented societies will, too.
UPDATE: Thanks to kyle8, here's Pat Michaels writing at Forbes.
June 1, 2011
Some Links
Cato's Dan Ikenson explains some of the craziness of "antidumping duties."
In my most recent column in the Pittsburgh Tribune-Review, I ponder what I might say were some college foolish enough to ask me to speak at its undergraduate commencement.
The Institute for Justice identifies one source of slow job growth.
Arnold Kling's idea of PSST – Patterns of Sustainable Specialization and Trade – deserves much more attention. It makes worlds of sense.
Regime uncertainty. (HT Mark Perry)
I just discovered – to my delight – that this paper by my GMU Econ colleague Dan Klein and UC-Santa Barbara history prof John Majewski on turnpikes and tollroads in 19th-century America is available on-line.
Answer to Question # 2 on Last Month's Pop Quiz
The 2nd question on the pop quiz was this:
Suppose that engineers at BMW invent a new machine that dramatically increases BMW's efficiency at producing automobiles and, thus, causes BMW's production costs to significantly fall. As a result, BMW expands its output and lowers its prices. But also, BMW patents this new machine; only BMW can use it. What is the most likely consequence of this particular invention on the prices that General Motors, Ford, Toyota, and other auto makers charge for the automobiles they produce?
a. no change in the prices of non-BMW automobiles
b. the prices of non-BMW automobiles will fall
c. the prices of non-BMW automobiles will rise
d. there's insufficient information to answer this question
…..
The correct answer is b – the prices of non-BMW automobiles will fall.
Even though BMW invented the new, cost-reducing machine and even though BMW patents it (and, hence, BMW alone is allowed to use this machine), because BMW automobiles are substitutes in many people's minds for automobiles produced by companies such as G.M. and Toyota, G.M., Toyota, and other automakers will have to reduce their prices in response to BMW's lower prices.
The economic rule in play here involves that of substitute goods, which states that good B is a substitute for good A if, as the price of good A changes, the demand for good B changes in the same direction. So if B is a substitute for A, if the price of good A falls, the demand for B will fall, causing the price of B also to fall.
When the price of A falls (in this example, because of a cost-reducing new technique used by A's producer), the quantity demanded of A rises; consumers buy more units of A than they did before the price of A fell. With consumers shifting into A, they shift away from buying other goods and services; those goods and services whose demands noticeably fall as a result of the fall in the price of A are substitutes for A.
May 31, 2011
Wanna Bet?
In today's Wall Street Journal, Julian Simon's inspiration is evident: I offer to bet up to a total of $10,000 that the number of Americans who will be killed over the next 20 years by tornados, floods, and hurricanes will be fewer than are the number who were killed in the immediately preceding 20 years. Here are my closing paragraphs:
So confident am I that the number of deaths from violent storms will continue to decline that I challenge Mr. McKibben—or Al Gore, Paul Krugman, or any other climate-change doomsayer—to put his wealth where his words are. I'll bet $10,000 that the average annual number of Americans killed by tornadoes, floods and hurricanes will fall over the next 20 years. Specifically, I'll bet that the average annual number of Americans killed by these violent weather events from 2011 through 2030 will be lower than it was from 1991 through 2010.
If environmentalists really are convinced that climate change inevitably makes life on Earth more lethal, this bet for them is a no-brainer. They can position themselves to earn a cool 10 grand while demonstrating to a still-skeptical American public the seriousness of their convictions.
But if no one accepts my bet, what would that fact say about how seriously Americans should treat climate-change doomsaying?
Do I have any takers?
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