Category Archives: Economic education and methods

Megan McArdle on the CBO

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She writes,

Now imagine a world with open CBO models. Every bill would still have a score, yes — that’s mandated by law — but then every score would have a dozen think-tanks slinging mud at the assumptions, and proclaiming that their iteration of the CBO model was producing the true results.

She says this as if it would be a bad thing. My own view is that there should not be a definitive CBO score. The CBO does not own Truth. The most important truth about policy is that there is no Truth. Economic theories are contestable. Treating one model as Truth biases policy makers toward intervention, because they are over-confident in the results.

I make this point in a forthcoming essay. Not sure when the essay will appear.

Consumers’ Surplus and well-being

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Another paper from the AEA session on measuring well-being. The abstract of the paper by Erik Brynjolfsson, Felix Eggers, and Avinash Gannamaneni says,

In principle, changes in consumer surplus (compensating expenditure) provide a superior measure of changes in consumer well-being than GDP and metrics derived from it, like productivity, especially for digital goods. In practice, consumer surplus has been difficult to measure. We demonstrate the potential of massively scalable online Single Binary Discrete Choice experiments for addressing this issue. These experiments provide a measure of consumers’ willingness to accept compensation for losing access to various digital goods and thereby estimate the changes in consumer surplus from these goods. Drawing on several hundred thousand online experiments, our results indicate that digital goods have created substantial gains in well-being which are largely missed by conventional measure of GDP and productivity, and suggest that our approach can be scaled up to a broader set of goods and services. Two limitations of our methods are that they are much less precise than changes in GDP and they suffer from hypothetical bias. We show how much of an improvement in precision can be achieved with larger sample sizes and demographic controls and we document the direction and magnitude of hypothetical bias by conducting incentive compatible experiments with a smaller group of subjects. By periodically querying a large, representative sample of goods and services, including those which are not priced in existing markets, changes in consumer surplus and other new measures of well-being derived from these online choice experiments have the potential for providing cost-effective supplements to existing national income and product accounts.

A Social Progress Index

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At this year’s AEA meetings, there apparently was an interesting session on measuring well-being.

One paper, by Daniel Fehder, Scott Stern, and Michael E. Porter, says

we describe the construction of a synthetic measure of non-economic performance, the Social Progress Index (SPI). Building on a wide range of prior literature, it incorporates more than 50 indicators into 12 components that are then aggregated into three primary dimensions of non-economic societal performance: Basic Human Needs, Foundations of Wellbeing, and Opportunity.

…
overall social progress is decomposed into three distinct dimensions, Basic Human Needs (“Does a country provide for its people’s most essential needs?), Foundations of Well-Being (“Are the building blocks in place for individuals and communities to enhance and sustain wellbeing?), and Opportunity (“Is there opportunity for all individuals to reach their full potential?”). Whereas Basic Human Needs centers on non-economic conditions that a society provides (e.g., achieving a low child mortality rate and a high level of sanitation, shelter, and personal safety), Foundations of Wellbeing focuses on whether a society offers individual an opportunity to invest in themselves and their communities to advance their wellbeing (e.g., allowing individuals to achieve a basic level of education, gain access to information, and maintain strong lifelong health and local environmental quality). Finally, Opportunity focuses on those components of social progress that concern the ability of individuals to achieve their own personal objectives, including their degree of personal rights and freedom in the context of an inclusive and educated society.

I like the idea of diversifying the portfolio of economic and social indicators. Recall my recent essay proposing to measure occupational satisfaction.

New Year, old complaint about economists’ rhetoric

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John Cochrane writes,

It’s better to win on logic and fact and ignore motivation. Contrariwise, when you see an argument my motivation, which Austan made three times in as many sentences, you should infer that the arguer has neither fact nor logic to offer.

In 2003, I wrote,

you are teaching by example that making speculative assessments of one’s opponent’s motives is more important than thinking through the consequences of policy options. If everyone were to use such speculative assessments as the basis for forming their opinions, then there would be no room for economics in public policy discussions.

The economics profession is willing to look inward about matters of proper conduct, for example the issue of how women in economics are treated. The method of conducting policy arguments in the media is matter of proper conduct that deserves attention.

Measuring Occupational Satisfaction

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From my latest essay.

I propose that, instead of using GDP or overall subjective happiness, we should use occupational satisfaction as the broad indicator of economic performance. Occupational satisfaction is the core economic component of happiness. Unlike GDP, which is rooted in a materialistic understanding of value, occupational satisfaction reflects the understanding that value is subjective.

Before you raise all of your objections, let me explain where I am coming from.

1. I think that mainstream economics is pretty much at a dead end. We need new approaches.

2. In physical science, new observational tools often lead to new discoveries. Think of the microscope and the telescope.

3. If I had the funds for a large research institute in economics, I would focus on giving grants to researchers who develop new methods of observing the economy. These could be new indicators, such as the one described in the essay, or new ways to classify and to categorize economic activity.

4. I would not expect any new observational approach to be perfect. I would not expect every new observational system to be useful. But I do think that bright research talent will produce more powerful insight by attempting to create new lenses through which to view the economy than by sticking to the current approach of formulating and testing individual hypotheses.

Heterodox economics: my latest

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1. David Wright invited me to a podcast, which is here. I got off to a slow start, so I recommend skipping ahead to about minute 6, maybe even to minute 8, where Wright brings up the book Capitalism without Capital.

2. After being stimulated by Wright’s questions, I wrote an essay on the social construction of value. Titled The Value of Nothing, it begins

If he were alive today, Oscar Wilde would say that a cynic is a man who knows the price of Bitcoin. You cannot drink a Bitcoin. You cannot plant crops on Bitcoin. Its intrinsic value is nothing.

Read the whole thing. I think of it as a deep essay about the fact that value is not intrinsic.

Russ Roberts on middle-class income stagnation

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Using an animated format, he starts to delve into the statistics. It is aimed at people without formal education in economics, but it struck me that some of the points that it makes might be best appreciated by a trained economist. Kind of like a children’s book with jokes mixed in that only adults can get. I imagine that if this had been available when I was teaching high school economics, then I would have used it.

Recall that Russ conceived and scripted the famous Keynes-Hayek rap videos.

Wage differentials vs. productivity differentials, continued

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Tyler Cowen asks,

Aren’t the waiters more productive *because they are serving wealthier customers*?

Gosh, that throws an even bigger monkey wrench into the whole deal.

Let me switch examples. Suppose that Jeff Bezos can either rely on Uber or else keep a personal driver on call. Suppose that the personal driver gets a higher wage than an Uber driver, just because Bezos can afford to pay a higher wage. Then if Bezos switches from Uber to the personal driver, measured GDP goes up, but our intuition is that productivity has not changed.

From a neoclassical viewpoint, my example is a swindle. In a neoclassical model, a wage is determined in a competitive equilibrium, not by Bezos being able to “afford to pay a higher wage.” What should happen in my example is that drivers compete with one another to become Bezos’ personal driver, until the wage gets driven down to the Uber wage.

Back to Tyler’s example. Would waiters earn higher wages in zip codes with wealthy customers than in zip codes with middle-income customers? From a neoclassical perspective, the answer should be no. If wages are higher in wealthy zip codes, then waiters should compete to work in those zip codes until the differential disappears.

My guess is that this is not how it works. Instead, my guess is that waiters compete on quality, and the wealthier customers get the higher-quality waiters. In some sense, the wage differential does reflect a productivity differential. But it is a productivity differential that is inherent to the individual. There is no opportunity for zip-code arbitrage.

That is, if you moved a waiter from the moderate-income zip code to the wealthy zip code, you would not be raising productivity overall. You would be bringing a low-quality waiter into a zip code where the expectation is for high-quality waiters.

I worry that Tyler may have a different answer in mind. And I worry whenever I engage in casual neoclassicism.

Earlier this week, I had dinner in Newport News, Virginia. Our waitress took the orders for are party of 9, including special instructions, without writing anything down. She was one of the highest-quality waitresses I have ever observed. But she was not working in a wealthy zip code. If she moved to New York or Los Angeles, my guess is that she could get paid a lot more. But taking into account the cost of living, she is likely just as well off in Newport News.

Are locational wage differentials also productivity differentials?

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I think that an argument about this arose in the comments on this post. Let me provide a framework for discussion.

Suppose that we observe that zip code X has higher average wages for waiters than zip code Y. Can we infer that waiters in X are more productive than waiters in Y? Can we infer that removing barriers to mobility so that waiters can move more easily from Y to X will raise real GDP?

I think that we need to know more about why waiters are paid more in X.

a. It could be that, working with a given level of capital, the same waiter can serve more customers per hour in X than in Y. Maybe restaurants in zip code X are better managed. Or maybe restaurants in zip code Y do not get enough customers.

b. It could be that the cost of living is higher in X than in Y. Waiters serve the same number of customers per hour in each, but if you raised wages in Y all the waiters would move there to get a higher real income. There has to be a wage differential to compensate for the cost of living differential.

If (a) is true, then removing mobility barriers would raise real GDP in the restaurant industry. But if (b) is true, then removing mobility barriers would not raise real GDP in the restaurant industry.

Suppose that the mobility barrier is a housing market restriction in X. Then getting rid of the housing restriction might raise social welfare by making the housing market function more efficiently. But there is no additional benefit from waiter productivity. What would happen if you got rid of the housing market restriction is that the wages of restaurant workers in X and Y would equalize. As waiters move from Y to X, the wage differential would go away. The new wage would be somewhere between the old wage in X and the old wage in Y.

Note that in case (b), restaurants might use more capital in X than in Y, because the cost of labor is higher (because the cost of living is higher). That would enable waiters in X to serve more customers per hour than in Y, but this is not a pure productivity differential. If you remove the mobility restriction, then eventually the capital intensity of restaurants in X and Y will be equalized.

What if the main difference between zip code X and zip code Y is that quality of life is better in zip code X? In that case, other things equal, cash wages ought to be lower in zip code X. Of course, other things are unlikely to be equal. Housing supply is probably not perfectly elastic, so some of the quality-of-life differential should be eaten up by housing costs. And of course, quality of life means different things to people with different tastes, and that accounts for some (much?) of location choice.

If I might try to coin a phrase of opprobrium, I believe that economists who equate locational wage differentials to productivity differentials are guilty of casual neoclassicism. They should be required to read James Buchanan’s Cost and Choice and take an exam afterward.