Solow vs. Solow

Posted on by

Robert Solow writes,

The custom is to think of value added in a corporation (or in the economy as a whole) as just the sum of the return to labor and the return to capital. But that is not quite right. There is a third component which I will call “monopoly rent” or, better still, just “rent.” It is not a return earned by capital or labor, but rather a return to the special position of the firm. . .The division of rent among the stakeholders of a firm is something to be bargained over, formally or informally.

Pointer from Mark Thoma. If this is true, and I believe it is, then the marginal product of a worker cannot be reliably measured, nor can it be proxied by a measure of the wage rate. That makes some of Solow’s early empirical work, and much that followed in its wake, somewhat problematic.

Recall what I wrote.

Separately, each worker’s contribution to the process is not marketable. It is the final product that can be sold. In a sense, there is a “production externality,” in that the finished product is worth something, even though the individual worker’s output is worth nothing by itself. The task of Coasian bargaining among the workers to come up with a way to allocate this externality is onerous, so it is handled by a manager in the context of a firm.

Also, see my post on the Alchian-Demsetz theory of the firm.

Kevin Williamson on Government Stagnation

Posted on by

He writes,

Social Security made sense in the context of 1935 demographics. It’s as obsolete as those suitcase-sized portables that Sandberg-Diment was scoffing at 50 years later. But we’re stuck with it, because there’s not much evolution in political programs. Government programs don’t die.

His point, which is obvious but ignored, is that markets evolve more rapidly than government. If you think of government programs as technology, they are hopelessly behind. We regulate communications using the FCC, which is 1930s regulatory technology. We address health care for the elderly with Medicare, which is 50-year-old technology.

In the private sector, when an enterprise becomes technologically obsolete, it falls by the wayside. In government, it gets larger.

I still like the idea of re-chartering regulatory agencies every three years.

An Uninspiring Sentence

Posted on by

With its heavy Scandinavian population, Minneapolis is a key U.S. player in the most avant-garde movement in food today: New Nordic cuisine, based on fish, dairy and cold-weather crops such as rutabagas, mushrooms and radishes.

I’ve missed many a trend in the foodie world, and I can’t wait to miss this one.

From an interesting article on nine cities that supposedly have thriving start-ups in specific industries. My comments:

1. Minneapolis is cited as an exciting place for restaurant start-ups. I call baloney sandwich. If you are an exciting place for a type of business, the business has to produce tradable goods or services. Restaurants do not count. If you want to start a restaurant, do not go to a city where the main growth industry is restaurants. Go to one of the other cities instead.

2. Baltimore and Boston are cited for New Commanding Heights businesses–education and health care, respectively.

3. How does this story affect my claim that cities will be increasingly chosen for their consumption characteristics, not for their production characteristics?

India as an Outlier

Posted on by

Arvind Subramanian says,

Of course, everyone knows that the Indian development experience, certainly in the last 30-35 years, has been driven by services, and that’s fairly special. The other way of understanding this precocious model is that in some ways India is trying to grow and develop not by worshipping or deifying its comparative advantage but by defying it. We have a lot of unskilled labour but we are not using it; we are using much more of our skilled labour.

I echo Alex Tabarrok’s recommendation to read the whole thing.

Hunter-Gatherer Economics and Sustainability

Posted on by

To many environmentalists, sustainability means leaving the world the way you found it. I think that this may reflect the instincts of a hunter-gatherer.

If you are a hunter-gatherer, how much you can eat is limited by the natural rate of replenishment. If you eat game or plants faster than they are replenished, your tribe will die.

Modern human welfare is not governed by replenishment. We use knowledge to add value to our environment. Cultivation of crops means that we can grow more food than we could obtain by gathering. And we apply ever-increasing ingenuity to this cultivation.

Sustainability of modern life is thus much more complex than sustainability of hunter-gathering. Our modern ancestors have left us the gifts of their ingenuity, so that what they took out of nature has not hurt our welfare. And we are likely to do the same for our descendants.

What’s Wrong with Liberal Arts?

Posted on by

John Agresto writes,

To restore the liberal arts, those of us who teach should begin by thinking about students. Almost all of them have serious questions about major issues, and all of them are looking for answers. What is right? What is love? What do I owe others? What do others owe me? In too many places these are not questions for examination but issues for indoctrination. Instead of guiding young men and women by encouraging them to read history, biography, philosophy and literature, we’d rather debunk the past, deconstruct the authors and dethrone our finest minds and statesmen.

The essay is not novel or shocking. I merely note that he describes himself as a former college president. Looking him up on Wikipedia, his Ph.D is from 1974.

My hypothesis is that over the past 15 years in academia, a lot of true intellectuals have aged out of the system. The successor generations cannot really think independently. They are in the habit of using mental shortcuts and bumper-sticker phrases.

Obviously, not every young scholar in the social sciences and humanities is a mindless conformist. And not every old scholar who retired over the pas 15 years is a model of careful reflection. But I think that the generalization applies well enough to account for the rapid deterioration in the quality of American higher education.

Chris DeMuth on the Regulatory State

Posted on by

He writes,

The representative legislature has also been a victim of modern habits of mind, which tend to value identity over locality, rationalism over representation, and decision over deliberation. Each of the three branches of American government (which correspond to a division of functions found in all modern governments) has its own distinctive principles of operation and legitimacy. The judiciary’s principles are reason and resolution—courts determine the facts of a dispute, resolve the dispute by deduction and inference from texts and precedents, and explain their reasoning publically. The executive’s are (since the Age of Jackson) personality and action—presidents incarnate important features of national character and aspiration, dominate political attention and debate, and take personal actions that settle some matters in a stroke and redefine others by changing the “facts on the ground.”

The legislature’s principles, representation and compromise, are relatively unimpressive. Representing geographic localities is not what it used to be, because of the globalization of commerce and culture and increased personal mobility; locality is not without political importance, but many people today care much more about representation of their personal values, group identities, and vocational and avocational interests. Individual legislators have little capacity for decisive personal action: on their own they can campaign, give speeches and interviews, write letters, question hearing witnesses, and cast votes, none of which hardly ever resolves anything. Their primary assignment is to negotiate and horse-trade with other representatives of similar, differing, and conflicting interests and values, leading to collective decisions that no one is entirely happy with or, quite frequently, to no decision at all.

When you have time, read the whole thing (it’s long). Pointer from Carl Eric Scott.

I agree with much of DeMuth’s diagnosis, which is that the dangerously powerful regulatory state has emerged in part due to the structural weakness of Congress. However, I do not think that his proposed solutions, the most prominent of which is ending the Senate filibuster, even approach providing a solution.

Off the top of my head, the reform that I would propose is to regularly re-charter all regulatory agencies. Perhaps every three years. You could use that re-chartering to rein in the jurisdiction of agencies. You could re-charter the FCC in a way that takes away any authority to regulate the Internet. You could re-charter the EPA in a way that takes away any authority to regulate carbon dioxide, or at least make it regulate carbon dioxide within a well-defined Congressional mandate. Re-chartering the FDA. Re-chartering the Federal Reserve. It could get to be quite fun.

Market Failure and Analytical Failure

Posted on by

Tyler Cowen writes,

The upshot is that economists hold a lot of views whose justifications they cannot articulate very well. I think you would find the same when it comes to the Ex-Im Bank (are you sure it fits the model of strategic trade theory?), the mortgage agencies (what was that externalities argument for home ownership again?) or all sorts of random regulations. The relatively interventionist economists will pull some justification out of a hat, and the relatively pro-market economists will be pretty skeptical.

In The Book of Arnold, I have a chapter called “Policy and Practice” in which I go to great lengths to emphasize the analytical gap between the theory of market failure and actual policy. My prime example is housing policy. I write,

The policy pattern that consists of subsidizing demand and restricting supply is not limited to the housing market. It pervades government regulation of industry. For example, in education, the government subsidizes demand by helping to pay for education, and it restricts supply by limiting accreditation. In health care, government subsidizes demand through Medicare, Medicaid, and various tax breaks and subsidies for obtaining health insurance. Yet it restricts supply by regulating the practice of medicine, requiring a “certificate of need” before a new hospital may be built, and requiring inventors to undertake extensive studies to demonstrate efficacy of their treatments to the satisfaction of the Food and Drug Administration.

From the standpoint of the theory of market failure, the subsidize-demand, restrict-supply pattern almost never makes sense. If there is a market failure that results in under-production of a good, then it makes sense to subsidize both demand and supply. If the market failure results in over-production, then it makes sense to restrain both demand and supply. Subsidies for demand and restrictions on supply inherently work at cross purposes.

However, from the standpoint of another theory, called Public Choice, in which government policy tends to serve concentrated interests rather than address market failures, it is understandable for government to subsidize demand and restrict supply. In a specialized economy, we know that the market for what you produce affects your well-being much more than the market in any one of the myriad of goods and services you consume. Thus, concentrated interests develop on the supply side, not on the demand side. The pattern of subsidized demand and restricted supply is what you would expect to result from successful political action in a specialized economy.

My Latest Project

Posted on by

It is a short book on specialization and trade. I have a first draft, that I plan to edit at least once more before sending it around for comments. Here are the first paragraphs of the forward:

Early in 2015, I came across a volume of essays edited by E. Roy Weintraub called MIT and the Transformation of American Economics. After digesting the essays, I thought to myself, “So that’s how it all went wrong.”

Let me hasten to mention that my own Ph.D in economics comes from MIT, in 1980. Also, the writers of Weintraub’s book are generally laudatory toward MIT and its influence.

Yet I have come to believe that the MIT approach to economics has stifled critical thinking. The critical thinker is always asking the philosopher’s epistemological question, “How do you know that?” The MIT approach suppresses that question and instead presumes that economic researchers and policy makers are capable of obtaining knowledge that many believe is beyond their grasp.2 This is particularly the case in the field known as macroeconomics, whose practitioners claim to know how to manage the overall levels of output and employment in the economy.

What I have set out to write is an introduction to economics as I believe it would have been written had the MIT revolution not taken over the academy. It sets out what I see as important principles of economics, and important issues in social theory in general. Some of the ideas were understood by classical economists but forgotten by the MIT revolution. Other ideas reflect more recent thinking about the factors that enable trust in society.

A few additional notes:

1. There is a Boudreaux-like emphasis on the gains from trade throughout the book.
2. There is a Boettke-like emphasis on the co-ordination problem and on economics as comparative institutional analysis.
3. There are some themes that are not heavily emphasized in Austrian economics, and may even run counter to it. One such theme is that trust is very important for a society’s economic well-being. Trust depends on individual beliefs, cultural norms, and formal institutions. Trust means that people have confidence that rules are being enforced. All enforcement mechanisms come with advantages and disadvantages. People count on government to serve as one important mechanism.
4. Another theme is the that financial intermediation is inherently fragile. Here, I also emphasize trust. I offer a version of the Minsky cycle, but with trust in opaque financial intermediaries, rather than sheer business confidence, as the variable that changes over the cycle.
5. My take on finance and the real economy is very antithetical to monetarism. It also differs, probably in substance and certainly in presentation, from the standard Austrian story of “the” interest rate, “the” structure of production, and malinvestment.

Should I refer to it as The Book of Arnold?

Shake the Kaleidoscope

Posted on by

Josh Constine of TechCrunch reports,

Forbes is building a social networking app exclusively for these millennial leaders, which will launch at its 30 Under 30 Summit in Philadelphia on October 4. The goal is to stoke this community into somewhat of an alumni network that attracts more powerful youngsters to the Forbes empire. It will offer a directory of members, a feed where they can post social media stories or polls, and the option to message each other.

This ties in very loosely to something I have been thinking about, following a conversation with the UK’s Stephen Brien. That is, from a PSST perspective, what can be done to combat a recession? I talked about how World War II created new social ties among American servicemen, leading to businesses being formed by buddies who had met during the war. Stephen coined the expression “shaking the kaleidoscope” to describe doing something that might lead people to create new patterns of specialization and trade.

Experiments with new forms of social networking might be a way to shake the kaleidoscope. Is there a way to foster better connections between people in small-town Ohio and people in coastal cities? Between loud-mouthed sales people and quiet engineers?

When I started an Internet business in 1994, I kept in mind a documentary called “The Compleat Beatles,” in which early on the narrator says that “They were lucky, meeting the right people and playing the right clubs at critical moments in their careers.” This led me to try a lot of networking opportunities, hoping that I would meet the right people. Almost all of my efforts led nowhere, but two of them brought me my key partner and my key software engineer, without whom I would have had no chance. You could say that I shook the kaleidoscope a bunch of times, and a couple of times I got lucky.

Anyway, what I have in mind is not an app or a local happy hour. I am thinking in terms of in-person events that combine people from different backgrounds and different locations. Conferences sort of do that, except that people often have very similar backgrounds and many conference organizers put too much focus on speakers and not enough on creating opportunities for connection.

Suggestions welcome.