Tuesday 31 July 2012

The Plan

The Christchurch Grand Plan is now out. I'm going to have to sit and think about this a while longer. But some initial thoughts:

  • I had a call from one of the radio stations asking if I'd come onto an afternoon show; they wanted to know how the plan was to be funded. Told them that I hoped they could figure it out because I haven't much clue. Some bits are explained in the planning documents. But it looks like Christchurch Council would have to find the funding for a big covered stadium that Prime Minister John Key thinks is a great idea (Dunedin?!). I support Council asset sales in general. But selling something useful to fund the building of a stadium that, in all likelihood, will not cover its costs and will fail to bring any substantial real economic benefit, is a remarkably bad idea. Should an individual sell off part of his retirement portfolio to buy something really immediately necessary - maybe to cover a medical bill that would otherwise attract large late fees? Of course. Should he sell it off to fund a vacation to the Caribbean? Not likely.
  • There's a big path from here to there. If we were there, it would be a nice place. But I'm not sure whether there is possible from here. There's more than a whiff of "if you build it they will come", though some projects, like the EPIC tech hub, seem very solid. 
  • I had understood that the massive secrecy around the plan and the siting of anchor projects was mostly to facilitate negotiations with property owners. In short, it's a remarkably bad idea to tell any individual land owner whose land you're trying to build into a larger package just why you're doing it. Otherwise, each owner might try to extract the entire surplus that the project might bring: the classic hold-out problem. There's a way around this using the purchase of options as a form of dominant assurance contract, but that can be more expensive than compelled sale: the Government's had the Public Works Act in its back pocket to encourage negotiation. I could understand the secrecy. Turns out now that the plan has all the sites listed with what they want on them, but they've not concluded negotiations with the many owners of the underlying land. So I'm a bit perplexed about the reasons for the initial secrecy. 
  • Pinning hopes on a convention centre seems a bit risky. The things tend to be dead zones when not in use. And, it's not clear that whatever benefits you get from having a convention centre couldn't be gotten by having hotels site themselves in the same spot with skywalks between them allowing larger conventions to span multiple hotels' facilities. Sure, the hotels would prefer having a free convention centre. But, like one wag on Twitter, I'd like a free helicopter service to Pomeroy's Pub as part of the Transport Plan; doesn't mean it's a good idea.
  • Nobody's yet saying what's going on with Town Hall - the venue previously used by the Symphony, among others. Presumably that's because nobody yet knows. 
  • Most buildings are subject to a seven-story height limit. I expect this is being done not for earthquake risk (as tall buildings can afford to have very very good foundations and, as I understand things, are often less risky than mid-height buildings) but rather to avoid there being an oversupply of downtown office space. The same goal motivates the green belt around the south and east of downtown: fill up downtown space with parks until things are busy enough to justify expansion and, by so doing, force things to concentrate in a smaller space. There's at least one problem with this. A whole pile of the businesses that formerly operated along Manchester Street, among others, were cool but low-rent kinds of operations: second hand bookshops and the like that ran out of very old brick buildings. They never could generate the cashflow to replace the capital stock, but they were awfully fun. Getting a more compact downtown by pulling land out of use keeps that sort of business from coming back downtown in cheaper buildings - the tilt-slab stuff everyone here seems to love to hate. The plan suggests a covered market somewhere downtown to give space to that kind of low-rent business; Victoria Market in Melbourne is nice, but it provides a very different kind of amenity. 
  • If I were a property owner who had wanted to rebuild a business in what's now supposed to be a park, and if I were getting the big push to sell out to turn the land into a park, and the compensation weren't enough to buy another site in the new-and-compact downtown, I'm rather sure I would not take it very well. And if I'd just spent a ton of money fixing up a heritage building because I loved heritage buildings only to be told it would be stolen from me acquired at a price less than that which I'd be willing to accept were it not for the threat of compulsory acquisition under the Public Works Act and bulldozed to make way for a stadium...  
  • The designated precincts sound very nice, but I share Project Free Range's concerns about the dearth of mixed use
  • The planned stadium will block what was one of the main east-west corridors at the south side of downtown: Lichfield Street. There's always been talk of getting rid of those one-way streets in hopes of encouraging people to slow down and stick around downtown. But if there isn't a widening of Moorhouse Ave, folks on the east side of town just won't have good ways of getting to employment on the west side of town (or vice versa). The east then becomes less viable. Let's hope Council's quest to push people out of cars doesn't further isolate the east side of town. 

Price of marrow

If there weren't already enough reason to encourage payment for blood donation (counterarguments to which are ably rebutted by Alex Tabarrok), we might have another.

Bone marrow donors, who donate through peripheral blood stem cell transplantation, can now be compensated in the US under the same provisions that let blood donors be compensated. PBSCT seems  more intrusive than blood donation, but somewhat less intrusive than standard marrow donation [see here for one discussion].

Demand for marrow seems likely to increase: bone marrow transplant may be effective as treatment for HIV. If these kinds of results hold up, expect some very effective political campaigners to start helping to change legislation to encourage marrow donation in places where compensation isn't yet legal.

I donated blood a half dozen times as an undergraduate; as I've yet to make any withdrawals from the system, I'm refraining from any further donations on principle until policies around compensation are changed.

Monday 30 July 2012

A permeating puzzle

Canadian supporters of supply management note that they're helping to protect Canadians from "permeate" milk. Or at least my Twitter friend from the Canadian Dairy Lobby keeps needling about use of permeate.

Permeate is a concentrated byproduct from cheese-making that, in diluted form, can be added into fluid milk. You can also get it through ultrafiltration: ultra-filter the milk, then add stuff back in varying proportions depending on the blend you want to achieve. It's relatively high in lactose, so it could make milk less friendly for those with lactose intolerance, but it otherwise seems pretty innocuous. Most supermarket milk in New Zealand uses permeate; it's been a bit controversial in Australia.

You could tell a story about how while supply management keeps prices up, it also avoids the introduction of a lower calibre product. If the product isn't as nutritious or is less safe, and if poorer customers aren't able to make good choices weighing nutritional quality and price, then you could start building a story about supply management being less bad for poor consumers than the standard cartel story would lead us to believe. I still wouldn't much believe the story: banning the practice if it really is unsafe would be a more direct solution than having a dairy cartel. But maybe there's some second-best case.

Except that story really requires that permeate milk be the low-tier product in systems that have both.

Klondyke is the main local brand in Christchurch providing guaranteed permeate-free product. They mostly sell in dairies (small corner stores). And the dairy on my commute home that sells milk for $2.69/2L sells Klondyke. That's $0.94/L Cdn. So the discount brand milk is permeate-free. The main brands sold in the supermarket use permeate. You'd pay a premium in the supermarket for varieties that do not have permeate, but none of them advertise as permeate-free: SilverTop sells for a bit more because cream is expensive; organic milk has the usual organic premium; A2 milk has the small market niche premium.

My read from this is that nobody really here cares about permeate addition to milk. I buy raw unpasteurised milk when it's convenient; I don't much care that there's permeate in the supermarket stuff when we buy supermarket milk. You can't tell a story from New Zealand's mixed market (permeate and non-permeate) about how "Only the rich can afford additive-free milk in a free dairy market": the cheapest stuff is permeate-free and while Klondyke tried pushing permeate-free as a selling point, it didn't lead to anything like the outrage over permeate that picked up in Australia.

Bottom line: while permeate is used in New Zealand, it's awfully hard to go from that to a "supply management helps make sure pure milk is available for everybody and not just the rich" kind of story. And even if that were the thing you worried most about, it isn't hard to just ban the sale of milk that has added permeate - supply management is about the least efficient way of achieving that end, if that's an end you want to achieve.

Saturday 28 July 2012

Dept of improbable headlines: Winston Peters is right

He [Peters] told the committee that new levies on cigarettes would "thump the pockets" of poor Maori.
"I wonder how many Maori are behind you on this issue?" he asked Maori Party vice-president Ken Mair, whose party was pushing the tax rises.
I've no particular reason to argue with the official estimates on the number of people killed by tobacco use, but Winston's right about the burden of the tax. As I'd summarised from the O'Dea report:
The O'Dea report said that even a 50% increase in tobacco prices would see 36,990 non-quitting Decile 1 households each spend an extra $928 per year while an estimated 4,110 quitting Decile 1 households would save $2,981; the poorest cohort then winds up spending a net extra $22 million in tobacco excise while decile 10 households spend a net extra $31 million.
O'Dea goes on to argue that because poorer people might then be less likely to take up smoking, the longer term effect could wind up being progressive. But it's pretty obvious that there would be rather strong negative effects on those households that continue to smoke.

Friday 27 July 2012

Healthcare isn't about health

Robin Hanson likes to point out how healthcare isn't about health, it's about showing we care. People spend stupid money on known-to-be-worthless treatments to show that they care about the person being treated and choose doctors based on bedside manner rather than success rates. Some will even torture loved ones with useless treatments to convince themselves of how caring they are.

When we were choosing an obstetrician, it was hard to get recommendations about who was effective rather than who was nice: I blame all of you who care more about bedside manner rather than results. You are the problem.

Today's evidence: doctors are more likely to be thrown out of the business for having sex with patients than for killing patients.
Doctors are more likely to be struck off for having sex with patients than for misdiagnosing, breaching patient confidentiality, or performing the wrong operations, a new study shows.
The research on doctor misconduct in Australia and New Zealand found medical tribunals removed or deregistered doctors for character flaws and lack of insight more often than for errors in care or poor clinical knowledge.
Researchers from Melbourne University expected to find zero tolerance for sexual relationships with patients, but found it was unclear why having sex with a patient was much more strongly linked with removal than other forms of sexual misconduct.
There are a lot of small towns in New Zealand and Australia where a single young doctor would have a hard time not dating a patient.
Researchers analysed 485 professional misconduct cases over 10 years from New Zealand, Victoria, New South Wales, Queensland and Western Australia in which doctors were found guilty.
Of the 79 cases in which doctors were guilty of a sexual relationship with a patient, 64 were removed from practice, according to the study published this week in the British Medical Journal.
Although it was far more common for doctors to be found guilty of inappropriate or inadequate treatment, writing inappropriate medical certificates and records, and illegal and unethical prescribing, they were much less likely to be removed for such offences.
One reason could be that "dysfunctional behaviours and clear signs of bad character may be perceived as relatively untreatable", while a lack of knowledge or problems in the work environment might seem easier to correct.
If healthcare were about health, it's hard to imagine this being the equilibrium.

The benefits of solar water heating

The parliamentary commissioner for the environment, Jan Wright, had a perfectly sensible article in yesterday’s Herald on the value of solar water heating. In a nutshell, her point is that a large chunk of the economic cost of producing electricity including the environmental cost comes from the need to build and use peaking plant to satisfy peak demand, typically in the winter months. Solar water heating is at its most effective in the summer, and so does little to reduce the demand for peaking plant. Notice that this is not saying that there is no value to solar water heating in the summer (not all of the cost of electricity is the cost of building peaking plant), nor that solar water heating couldn’t help reduce demand during peak periods to some extent. The commissioner was merely pointing out that the benefits of solar heating will not be as high as one might think from a na├»ve calculation of how much overall reduction in electricity usage you can get from solar.

Russel Norman then posted on facebook a letter he received from a constituent extolling the virtues of solar heating. (HT James Meanwell.) The essence of this letter is that the correspondent installed solar heating, paid for in part by a government subsidy, and this in combination with a wetback heater and other energy saving devices is contributing to very low power bills in his/her 400 square metre house. The correspondent then says:
My reason for writing is to tell you that Jan Wright has got it wrong when she says that solar water heating has little impact on domestic power savings. I have no financial or any other interest in the solar industry for that matter but I’m at a loss to know where she is coming from with her comments deriding solar water heating. Based on my own experience within our own house set-up, I believe her comments are without foundation and harmful to what should be our goal of greater energy efficiency.
Now, in a normal market, an anecdote of this kind conveys useful information: if some capital equipment saves you more money than it costs to install, there is clear evidence of some economic benefit. But we can’t conclude anything from this anecdote. First, by his or her own admission, solar is not the only electricity saving measure—the wetback in particular is probably much more effective in the winter months. Second, there is no question about solar heating reducing the cost of producing electricity; the interesting question is whether the savings outweigh the capital cost of the solar panels and installation. If that is paid for in part by the government, we know nothing about the overall value. But the main problem is that the letter doesn’t engage with the commissioner’s issue about managing peak load at all. And this points to the final reason that the individual savings are not a good measure of the social benefit.

Specifically, the wholesale electricity market in New Zealand is an energy-only market. That is, generators get paid only for the electricity they sell. The cost of constructing peaking plant therefore has to be covered by the price that electricity is sold for on those rare occasions when peaking plant is used. That is why the wholesale price has to rise in the winter, particularly in dry years. Retail customers, on the other hand, are typically only on fixed-price contracts in which the retailer company charges a prices that will on average cover the costs of purchasing power at the wholesale market. That is, customers face a price in excess of marginal cost during off-peak times and a price below marginal cost in peak periods. Any time customers finds a means of reducing consumption during off peak times, they are simply creating a need to increase the overall average price. That is, the savings to them are mostly just a transfer from other consumers, not a net gain in economic efficiency.

Green politics can be about a genuine attempt to address environmental externalities, but there is always a risk that they can end up as middle-class capture. It is surprising, therefore, to see Russel Norman publishing this letter from the owner of a 400 square house, which appears to be a poster child for the latter interpretation!

The costs of paid parental leave

The Labour Party has had a bit of support for its proposed extension to paid parental leave; the bill has made it through first reading but is likely to be vetoed for its likely budgetary effect as paid parental leave here is covered by the government.

I've not run the numbers on what the legislation is likely to cost the government in terms of budgetary effect. But I'm a bit worried about another potential cost: employers being more reluctant to take on female employees with high risk of childbearing.

Even though the government pays those on parental leave, employers still bear costs in having to sort out temporary replacement cover while remaining in some uncertainty about whether the employee will return or will decide to spend a longer time out of the workforce. Pascal Petit showed in a French field experiment that employers are reluctant to take on employees who are more likely to take maternity leave.

It's a bit of a toss-up whether an extended paid leave period makes women more or less likely to seek to return to the workplace after a spell of maternity leave. The longer one is out of the workforce, the harder it is to return, but sorting out early childhood care for an older child could be easier. The cost to employers is likely to increase: it takes employees longer to get back up to speed after a longer period away, and it's also harder to try to cover the vacancy with internal resources.

If Labour's serious about the proposal, they might consider adding an amendment paying a small bonus to an employer where there's been a successful return to the workplace subsequent to maternity leave. It would encourage them to make the arrangements to facilitate the return, and to be less reluctant to hire women of higher maternity risk.

Thursday 26 July 2012

Providing a positive externality

So it seems Skype's now likely to have built-in government surveillance back doors.

It really doesn't much bother me if people listen in on our regular chats with my parents back in Canada. But there's a positive externality to those who really need secure privacy if everyone who doesn't need it also chooses secure channels - it increases the amount of noise that a government agency needs to wade through before it's able to crack the channel in which they're really interested.

So, if I want to provide that positive externality, and I want a system my parents can easily install on a Windows-based system with no technical support, and that won't bog up their older computer or impose too-heavy of bandwidth constraints, what's recommended if anything?

Fraudulent visas: de facto and de jure

Suppose that you want to come to live in New Zealand. You're young. You don't meet the criteria for a working visa. And you haven't quite the qualifications for a student visa. What happens? At least according to the Herald, you falsify your qualifications, come to New Zealand on a student visa, sign up with an education provider that doesn't look too closely at your qualifications and go and get a job at an orchard or a fish and chips shop.

That's de jure fraud. The documents used to get the visa were fraudulent.

Imagine another hypothetical situation. Something that cannot happen at Canterbury, at least not for very long, because we have progression standards where any student failing to maintain some minimal GPA is thrown out of the University. Consequently, anybody wishing to take this hypothetical path chooses a university that does not have progression standards.

Consider the case of an international student who gets a visa and enrols at a New Zealand university but who never shows up for lecture, never shows up for tutorial, never completes any piece of assessment, and never shows up for the exams. The student pays international fees but is, as far as the lecturer is concerned, a ghost. The high international fees paid go to cross-subsidize the education of those students who do attend classes.

You can pretty easily make the case that the whole deal is highly beneficial to everybody involved. The parents get to pretend that their kid has failed out of an international school because of cultural or language problems (instead of having the kid enrol in a known-to-be second or third tier school in systems with tight entrance standards), the kid gets a working holiday, and there's a massive cross-subsidy to real international students and to domestic students. But you can also pretty easily make the case that it's a de facto fraud on the spirit of the student visa.

Maybe somebody who falsifies a document to get a student visa is more likely to be dishonest on other margins and consequently is worth chasing after. But is it really that much worse than falsifying the spirit of the visa application by enrolling at a New Zealand university but never attending lectures and never submitting assignments?

I'm not sure how many ghost students the other New Zealand universities are getting. Before we had progression standards, they weren't exactly uncommon on my class lists. If we want to keep the cost to domestic students down, let's hope Immigration New Zealand sticks with the de facto cases.

Wednesday 25 July 2012

Reference prices

Canadians looking for a reference price for milk in a free market could do worse than the series being put out by consumer.org.nz. Their Commodity Price Tracker has nice price graphs for the cheapest available brand or variety of each of these, from June 2011 to present, at supermarkets and convenience stores. Think of it as the price you'd expect poorer cohorts to be paying for store-brand or no-name product if they're not shopping around a lot - lower prices can be available if you shop around. Two dairies on Ferry Road on my commute home have been having a minor price war on milk, with one at $2.79 and the other at $2.69 for a 2 litre bottle, or about $1.87 CAD after removing our 15% GST. The signs advertising those prices have been out for months.

From the June 2012 figures, all reported in Canadian dollars (1 NZD = 0.80 CAD) and after having subtracted GST (15%, otherwise included in price).
  • 500 grams salted butter: $2.46
  • 1 kg mild cheddar: $6.35
  • 2 litres standard homogenised milk: $2.27
In all cases, you should probably compare with prices available in major metropolitan Canadian areas; remote areas of New Zealand will have higher prices. Note too that most grocery items wind up being more expensive here because of fixed costs and small markets: broccoli runs $2/head in winter and maybe $1/head in summer ($NZ on all of these, including GST); bread's about $2/loaf; rump steak's usually around $12/kg and scotch fillet, on sale, is usually around $23/kg. Kiwifruit, in season, can be less than $1/kg.

I'm not sure what current Canadian prices are on any of these; unfortunately, there doesn't seem to be any Canadian supermarket that puts its prices online. I wonder why New Zealand is so much more advanced on that one - our supermarket industry is at least as oligopolistic as the Canadian one and the fixed costs of the system can't be spread across as many people. 

Tuesday 24 July 2012

Dairy freedoms

Excerpts from a productive Twitter conversation with the Canadian Dairy Lobby.

A good answer would have talked about cyclical weather effects hitting ag but perhaps not other industries; I'd then have pointed to potentials for insurance or hedging, and that plenty of industries face cyclical demand but haven't managed to establish a government-enforced cartel.

If freedom means "the freedom to get the price I want by making it illegal for anyone to compete with me", we've moved completely to EngSoc.

Intended and unintended consequences

Adam at Modeled Behavior points to a potential unintended consequence of Bloomberg's soda ban:
Seth Goldman, the founder of Honest Tea, has a great op-ed in the WSJ today describing how the regulation, which bans drinks over 25 calories per 8 ounce serving from being served in containers larger than 16 ounces, would be costly and damaging to his business:

We initially went with 16.9 oz. (which is 500 milliliters) because it is a standard size that our bottle supplier had in stock at the time. We subsequently invested several hundred thousand dollars for 16.9 oz. bottle molds. Is 16.9 ounces the perfect size? Who knows? As a beverage marketer, we willingly submit to the unforgiving judgment of the market. What we did not anticipate was an arbitrary decision to constrain consumer choice.
One response we considered was putting 0.9 ounce less liquid in our bottles, but that would create a separate set of complications. We fill our bottles to the brim—not just because we like to deliver an “Honest” value, but also to ensure quality since we do not use preservatives. Then there is the costly prospect of having to change all of our UPC codes (those complicated black bars found on every product on a grocery shelf) because we would be offering a different liquid volume—all for 0.9 ounces!
In addition to losing the several hundred thousand dollars in machinery they invested, they won’t switch to 16 ounces because, as Seth puts it “what if next year, Cambridge, Mass., comes up with a ban on 15.5-ounce containers?”.
I wonder whether it's necessarily unintended.

At least since Peltzman/Stigler, we've come to see regulation as a balancing of the interests of the regulated and the public. The former here we can proxy as the big soda makers.

It might not be crazy to view a ban that just catches anybody using an international standard size, 500mL, as something that imposes disproportionate costs on small producers. Big guys can spread fixed costs of this sort over lots of units, and are probably already using US standard sizes. Anybody who's gotten a good deal on a few containers of international standard metric-sized bottles winds up stuffed. At the margin, Bloomberg (or, more likely, his staffer) might have thought of this as a way of making the big guys a bit less angry about the regulation.

I'd not run the metric conversion in my head when the policy first came out; my in-the-head heuristic is 8 oz = 250mL - both are about a cup. But that was wrong: Google tells me 8 oz is 237 mL. Maybe Richard Thaler needs to nudge me into using better metric conversion heuristics.

Apologies for the brief posting hiatus; semester constraints have begun to bind.

Wednesday 18 July 2012

Economic Dilettantism

Bill Kaye-Blake takes a Rothbardian turn!*

Rothbard wrote:
“It is no crime to be ignorant of economics, which is, after all, a specialized discipline and one that most people consider to be a ‘dismal science.’ But it is totally irresponsible to have a loud and vociferous opinion on economic subjects while remaining in this state of ignorance.” 
Bill takes on the disappointing proclivity of New Zealand's bench scientists to opine on economics.
In the June issue of AgScience, Prof Shaun Hendy has an article entitled, ‘New Zealand’s voyage of economic self-discovery’. He also has a post with the same title over a Sciblogs. Before I get too wound up, I should give Prof Hendy his dues. He does do fieldwork amongst economists in their native habitat. But in the end, it is dilettantism.
The article sounds impressive — we have a new approach! we have pretty pictures! Nokia! But really, what he is able to tell us is:
  • New Zealand is small and distant
  • its economy is based on what has worked in the past
  • scale is important
  • we should be more productive.
He isn’t telling us anything new. No, really, there is nothing new there. And what is there is either useless or confused.
Bill goes on, citing underpants-gnome theories. He concludes:
But then I’m just an economist. Maybe Prof Hendy would like to hear my thoughts on the Higgs boson. After all, I’ve been watching The Big Bang Theory.
While I agree with Bill, I'm somewhat less annoyed by the Hendy piece's content than he is; the bits from the article that aren't new aren't useless either. It's worth emphasizing that a fair bit of New Zealand's lagging performance comes from being small and distant rather from particular policy failures. We can always do better, but there aren't a whole ton of low-hanging policy fruit around waiting to be picked. Land use policy, the RMA, and immigration would be the first places I'd look for gains. But it would be pretty optimistic to expect large or quick improvements from any of them.

* The position is hardly unique to Rothbard; he just said it well. But I do think it's fun to paint Bill as agreeing with Rothbard.

Tuesday 17 July 2012

Kafka likes earthquakes

Fortunately, our dealings with EQC haven't been quite as disheartening as Islay McLeod's. Read that one and despair.

We received our Scope of Works document in June and it largely matches what our private engineer found, with a couple of minor omissions. We're still going to have the mess of dealing with EQC's revised rules for those who want to choose their own builders rather than go through Fletcher's lottery. Our private insurer hasn't returned emails about our claims for damage to the sidewalks, paths, pool and fencing, but we're not going to start pushing AMI / Southern Response until we've sorted out the timing of the rest of the rebuild.

The next national election, for those in Christchurch, could turn pretty easily into a referendum on the earthquake response. If Islay's story is pretty typical... well, I've a small short position on National winning re-election.

EQC warned the government back in 2009 that it really wasn't able to handle this kind of thing. I don't blame National for failing to get that sorted in the year and a half they had between the report's coming out in the middle of the financial crisis, just a few months into National's term of office, and the September 2010 earthquake. But this really ought to be sorted out before the Alpine Fault opens up for Wellington.

Land supply

I wonder if National will ever come up with a response to the Productivity Commission's report on housing. The Productivity Commission chalked most of our current problems up to land supply: land being released in dribs and drabs keeps underlying land prices high and helps prevent achieving any kind of economies of scale in construction; our bespoke housing production model largely comes down to developers rarely getting permission to build large subdivisions.

Don Brash weighed in over the weekend:
On TVNZ's Q+A programme yesterday, host Corin Dann asked Dr Brash if high Auckland house prices were not simply a function of the fact "people just wanna live in Grey Lynn [a trendy central Auckland suberb, where a basic two-room home can sell for close to $1 million]. They want it all right now."
People could get cheaper housing if they were willing to live on the city's outskirts.
Dr Brash replied, "That’s not true.
"I recently saw a subdevelopment just out of Pukekohe [south of Auckland] – $249,000 for a 500sqm section. I mean, that’s a ridiculous price. That’s $4 million a hectare.
"I think the Productivity Commission report had a very good chart in it which compared the price of land just 2km inside the metropolitan urban limit in Auckland with the price 2km outside that limit and the multiple was nine times.
"It’s a question of supply of land."
Local government was blocking access to land, pushing up prices, Dr Brash said.
"The market is stopped from working. It’s local government which has stopped the market from working."
I agree:
A leading economist has backed comments by Don Brash and Productivity Commission chairman Murray Sherwin that New Zealand has a land supply probelm, not a house price problem – and says it is making quake fallout worse in Christchurch.
"Getting land use policy right doesn't just help developers to provide low cost housing options for young families, it also builds in flexibility," Canterbury University senior lecturer Eric Crampton told NBR ONLINE.
"After the Christchurch earthquakes, the land use regulations that slowed development in normal times made it almost impossible for anybody to build new housing for those whose houses were destroyed. Bureaucracies just cannot move fast enough when the unexpected happens," he said.
"Seventeen months after February's earthquakes and it's still illegal for a homeowner to build a self-contained flat with a kitchen in his house to help ease the rental crisis."
There's a bit more at NBR. I really need to arrange a new stock photo with the Uni...

Monday 16 July 2012

Conference Wrap Up

The annual NZAE conference is now gone and I can turn my hand back to blogging. I am hardly a disinterested observer, so I won’t comment much on the conference itself—James and Bill have already done so, anyway, in a more timely manner. A few random thoughts occur, however.
  • It was great to see Matt at the conference; having a dedicated roundtable on blogging seems to have worked as a Trojan Horse as he is now promising to submit a paper next year.
  • Next year, I should try and jig the schedule so that I don’t have another commitment on at the time that James is presenting. Despite his attending the past three conferences (at least), I have not had the opportunity to see him present. It is not a deliberate snub, James.
  • Finally, I was interested in Berk Ozler’s comments on the academic culture in New Zealand at his Development Impact blog, following his participation in the blogging session at the conference: Berk says that
For those of you not familiar, the discussion at a typical seminar or conference presentation [in New Zealand] goes quite differently than it would in an academic setting in the U.S.: the audience generally avoids interrupting the speaker and the questions and the discussion are very polite.
I think Berk is right about the culture of the NZAE conference, and that is something we like to encourage. It is a broad-church affair bringing together economists with a range of backgrounds from the academic, government and private sectors, and polite, constructive interactions are an important part of that. But I am hoping we can get Berk up to give a seminar at Canterbury, where we can try to replicate the culture of a U.S. academic setting, :-)


Organ supply

TVNZ's CloseUp made the case for compensating live organ donors for lost earnings. I can't embed the video, but I show up in it. I argue that moving the deceased organ donation decision from the time of death to the time of estate planning, by allowing compensation for funeral expenses, could help take the heat out of those decisions and overcome a reflexive tendency where families uselessly want to protect the newly deceased.

Their interviewed transplant surgeon thinks paying people for organs is abhorrent but compensating them for forgone earnings isn't bad. I have a hard time seeing the ethical distinction, but whatever framing works is fine by me.

Hit the "Organ Markets" tab for all the prior posts on the topic.

Friday 13 July 2012

Insurance Markets

Frances Woolley has a few worries about ending supply management in Canada. She's right that it's worth worrying about whether and how we'd compensate those losing their quotas. The rest seems to put a bit too much weight on dairy lobby scaremongering.

But one bit in the comments section seems worth further expansion. "Greg" there wondered why dairy farmers aren't insured against the potential loss of quota rents:
Canada's dairy farmers are in business. They ought to be holding insurance against the loss of their quotas, the same as with other capital. If they aren't, well, they made that decision.
Frances replied saying that such insurance markets are impossible:
Insurance works through risk pooling, i.e. car insurance works because not everybody has car accidents at the same time. The elimination of milk quotas is a correlated risk - i.e. if one farmer loses their milk quotas, everyone will lose milk quotas. It's not possible to buy private insurance against highly correlated risks (which is why, for example, house insurance doesn't cover acts of war, crop insurance doesn't exist without government subsidies, etc).
Let's twist things around. Imagine that ICE Futures Canada defined and started trading a very particular set of futures contracts. The contract would read something like the following:
This contract pays $1000 if, at Dec 31 2013, the average auction price for dairy quota in the previous six months across all provinces was under $5000 or if supply management ceased to exist.
There are a few proposals floating around to get rid of supply management. CD Howe's was to expand the supply of quota over time to erode it; others say do away with it and compensate the losers; others say do away with it without compensation. You'd need to be a careful to define what "supply management" means for purposes of the contract. But the low quota price option is to guard against "erode the rents" plans.

It's pretty easy to imagine people being willing to trade this contract. Suppose that the true value of the contract were $100: a 10% chance that Canada gets rid of supply management by the end of next year. Dairy farmers have a whole lot of wealth tied up in their quota. They should be willing to pay more than the fair-odds price for the contracts. Other dispersed risk-neutral people should be happy to sell at a premium above the fair odds price. Or, you could do it through option contracts.

So long as farmers are willing to pay a premium to lay off risk affecting a good chunk of their asset base, and so long as there are other folks willing to sell them bits of that kind of insurance, this works. No one guy would want to take on all that risk because then he has even more at stake than the dairy farmers. But it wouldn't be a bad small bit of a portfolio for somebody whose other positions don't go south in case of the abandoning of supply management. Or, you could imagine some large corporates who'd do well if Canada got into the Pacific trade deal being willing to short those contracts - if Canada gets rid of supply management and into the TPP, the corporates do better through trade but lose on the contracts; if Canada doesn't, they win on the contracts and lose on trade.

And, if there are enough of the risk-neutral investors, we could start getting some market-based assessments of the probability of doing away with supply management.

I don't know the regulatory framework within which ICE operates. But a few contracts on policy like this could be awfully helpful.

Banning hate

You can't ban hate. You can put in laws banning discriminatory treatment in employment or consumer markets, but if the differences in treatment arose from real differences in costs rather than hatred, you're probably doing more harm than good.

Today's edition? Here:
"Fat hatred" should be banned like racism or sexism, says a pro-fat scholar who argues that obesity isn't a health problem.

Massey University lecturer Cat Pause says "the war against fat" and "fat phobia" were much more damaging than carrying a few extra kilos or, in her case, a lot.

"Obesity is not a big health problem. If you really look at the science, that is what comes through."

...In New Zealand – the world's third-fattest nation – more than a quarter of the population are classed as obese.

But Dr Pause, who has a PhD in human development, says it is "fattism" that should be feared, not expanding waistlines.

She called on New Zealand to be the first country to outlaw discrimination against fat people, which has been described as the "last socially acceptable form of prejudice".

Fat people were having to live in a culture that openly hated them, she said.
I agree with Cat that policy moves trying to bash fat people really aren't warranted.

But suppose that she's wrong and most other folks are right about the actual health or other costs of obesity. What happens if we mandate that health insurers ignore weight if weight actually does predict health problems? We effectively socialise the private costs of being obese. What happens if we mandate that employers provide reasonable accommodation for the obese? Employers start avoiding hiring them in the first place for fear of having to make unreasonable accommodations. If we ban airlines from requiring larger passengers to purchase extra seats to prevent overflow into the neighbour's seat, we again socialise the costs of obesity, either by making every other passenger pay extra for the obese person's extra free or subsidized seat, or by giving random draw unlucky lotto tickets to other economy-class passengers.

Further, if markets are competitive, any firm that unreasonably penalizes the obese will be out-competed by one that doesn't. Discrimination ought only persist if it either reflects something real, or something that other customers value - which is also real, though subjective. You can imagine a nightclub that only lets in thin people being successful in the market. But discrimination against the obese in this situation would be little different than discrimination against the ugly, or bars banning economists' entry because we're argumentative. You could maybe make the case that banning nightclubs from having exclusive entry policies can shift social norms such that, in a few decades' time, the ban would no longer be needed. But it would be a pretty speculative proposition; there seem to be reasonably fixed beauty preferences that correlate with a mix of genetic fitness (symmetry) and fertility (waist-hip ratio). And preferences against having economists around ought to be understandable to anybody who reads this blog.

The more that is done to ban markets from responding to any real costs of obesity, the more justified are policies that try to tax the correlates of obesity like excess sugar consumption. It's more efficient to let markets sort out costs associated with the output than to have governments tax the inputs where people have very heterogeneous production functions, where the costs of obesity are heterogeneous across activities, and where insurers very likely have a better handle on whether any individual case warrants higher premiums.

Thursday 12 July 2012

War of ages

So it's all about the intergenerational conflict and how the old are sucking the life out of the young, and how the young might cut the oldies off. Nolan makes some threats. Bill shows that the oldies will never have the numbers to outvote the young folks so they'd better behave themselves. Nick Gillespie figures the same thing's set to happen in the States.

But there's a problem. Young people generally support giving money to old people. Or at least every bit of US evidence I'd previously seen suggested that young people would rather have the state take care of their aging parents and inlaws. support transfers to the elderly.

What does the New Zealand data say? This is just a 5 minute cross-tab. But the 2008 New Zealand Election Survey has an age variable, and it has a question: "Should the government be responsible for the old?".

If you run a straight correlation between the age variable, zage, and the "should the government support old people" variable (zgovold), where higher numbers mean "shouldn't", I get a -0.0462. So older people are slightly less likely to support giving lots of money to old people.

Let's break things up. Split the age cohort variable into the under 40s, the 40-64 year olds, and the 65+ folks. Not correcting for anything else. What do I get?

47% of the young think the government "Definitely should" be responsible for the old.
52% of the middle aged also say "Definitely should". Their parents are in that cohort, if alive.
49% of the oldies say "Definitely should".

What happens when we just move down to "Should" instead of "Definitely should"?

46% of the young, 43% of the middle aged, and 48% of the old say the government "Should" be responsible for the old.

If we add up the "Should" and "Definitely should", we get just about everybody regardless of age wanting the state to take care of old people.

If we add up the "Shouldn't" and "Definitely shouldn't"? 5% of the young, 4% of the middle aged, and 3% of the old fall into that category.

Among the cohort of respondents aged 18-39, 37 of 712 people giving a response said either "Shouldn't" or "Definitely shouldn't".

If there's some incipient revolution against the elderly, I'm not seeing it in the data. But maybe things have changed since 2008.

Every young person who's below the median income will prefer that the state pay for their parents by taking money away from richer people. And a lot of folks would prefer that the government pays for a nursing home (or give the money that can be used to rent a small flat, or help support a reverse mortgage) than that they wind up hosting their parents or inlaws in their own home.

Things will get worse as the effects of the massive burden of transfers to the elderly becomes more apparent. And there's a fantastic case for raising the retirement age. But intergenerational warfare is far from the radar.

Adoption incentives

Bethman and Kvasnicka put the adoption decision into a standard rational choice framework and, unsurprisingly, find that those with higher opportunity costs of time and altruism are more likely to adopt rather than have their own children. They argue this helps explain celebrity decisions to adopt rather than to have their own children.

Unfortunately, they leave as something "for further research" the potential use of surrogates.

I'm not going to do any modelling here, but I really would have expected that celebrities would disproportionately use surrogates. Surrogates aren't cheap; celebrities have lots of money. Surrogates might make unobservable decisions about nutrition, substance consumption, or activities that underweight the fetus's interests; a celebrity can afford to have the surrogate live in their house for the period from IVF through to birth. And, while celebrities might have greater incentive to demonstrate altruism than do us normal folks, they're also more narcissistic - which should push towards stronger preference for their own genes.

I really don't follow celebrity gossip. Maybe there's lots of celebrity use of surrogacy options that I've just not caught. But the only case that comes to mind is Patri Friedman, if he counts as a celebrity. On celebrity adoption, it's so common that Sarah Silverman was able to lampoon it in her TED talk.

The only answer that makes sense to me is that surrogacy (alas!) remains subject to disapprobation while adoption draws kudos. And, Bethman and Kvasnicka hint at that answer:

For a celebrity, the adoption of a child generates headlines and adds to popularity, which benefits the career and ultimately income.

A celebrity expecting "rent-a-womb shocker!" headlines in response to a rational decision to avoid personally incurring the physical costs of pregnancy might well be tempted to choose adoption over surrogacy.

HT: @CJFDillow

Anti-tobacco virus

SciBlogs (US) reports that gene therapy for tobacco addiction may be around the corner. Code a virus to produce an antibody that neutralizes nicotine, inject, and there's no longer any buzz from smoking. Apparently the tests in mice have worked.

A couple of thoughts:

  • An injectable treatment available as a choice for smokers who wish to quit has to be good.
    • The availability of such a choice also makes more desirable a strategy of "I'll smoke 'till I'm 25, enjoy being cooler than other people, and then take the treatment before I do any long-term damage." Just as barriers to exit are barriers to entry, things that facilitate exit also facilitate entry in a rational addiction model. This doesn't bother me, but it might bother others. 
  • It's hard to imagine the vaccine being made mandatory. But what happens when some fanatic decides to build it into something that can be spread by sneezing? Lower vaccine distribution costs than injection. But egads.

Wednesday 11 July 2012

Shame elasticity of demand

Here's a fun one. New Zealand supermarkets have started putting in self-checkouts. Turns out customers buying embarrassing or personal products are more likely to choose those checkouts than ones staffed by clerks.
Pak 'n Save Moorhouse Ave was the first supermarket in New Zealand to have them installed, in 2006.
Foodstuffs chief executive Steve Anderson said 20 to 30 per cent of transactions were now through self-checkouts. However, they accounted for a far lower proportion of customer spending.
Customer research showed people who used the self-checkouts tended to buy fewer items and were often mothers with children, the technology-minded or introverted.
"Embarrassing products", such as personal or indulgent items, were more commonly bought at the self-checkout.
Anderson said there had been some savings for the business, but "nothing major". It had not saved on employee numbers. "The idea was more about customer choice and convenience," he said. "You still need staff there." [emphasis added]
So here's a potential IV study for somebody. If people are more likely to buy condoms when these kinds of self-checkouts are introduced, and there's no correlation between self-checkout installation and underlying sexual behaviour trends, you could use the availability of self-checkouts as an instrument for condom use. Ta dah!

It would likely be a weak instrument, alas; the correlation isn't likely to be that high.

Tuesday 10 July 2012

About that Canadian study...

Last week, anti-alcohol advocacy group Alcohol Action NZ put out a press release where the University of Otago's Jennie Connor was quoted:
"A recent Canadian study has shown that a 10% increase in the minimum price of alcohol reduces its consumption by 16% relative to other drinks".
I got in touch with one of the authors of what has to be the study to which she's referring.

Chris Auld reported that the -1.6 price elasticity figure indeed only refers to a measure of own-price elasticity. Except it isn't quite own-price elasticity. Because the estimation technique doesn't correct for substitution effects, it combines the own-price elasticity with cross-price elasticity from other products. Quoting from Chris, with his permission:
Suppose we have two types, 1 and 2. Demand for type 1 is x_1( m_1, m_2 ), presumably decreasing in own min price m_1 and increasing in the min price, m_2, of the other type. The panel models recover d(x1 - x2)/d(m_1), so they are not estimates of own-demand slopes. For example, we might estimate -1.6 if the own-elasticity is -0.9 and the cross-elasticity is +0.7. Since we are not controlling for the cross-price, nothing can be said from these models about the effect of increasing both minimum prices---it could be that total consumption is almost invariant to min prices, but we could still generate big estimates from these models if various types of alcohol are strong substitutes. Test statistics against the null that the total effect is zero are still valid, but it's easy to misinterpret what the estimates mean
Chris also confirms that the -0.34 estimate is the one that best reflects the expected effects of an across-the-board price increase like minimum pricing, but notes that the standard kinds of time series problems makes that estimate rather less robust than he'd like.
I think it's [the estimate] probably too high, although it may be in the ballpark - a variety of evidence does suggest that min price changes are quite effective in targetting heavy drinkers.
Wagneaar found -0.28 among heavy drinkers, so I'm less worried about potential lack of robustness around Chris's estimate; if every estimate of this sort has similar robustness issues, then we might worry about systematic overestimation of demand elasticity with publication bias.

Heavy drinkers who consume cheap alcohol will be targeted with minimum prices, but so too will moderate poor drinkers who choose cheap alcohol.

Chris says he's doing some theory work showing that:
the central planner would always like to impose minimum pricing but reduce conventional taxes when confronted by consumers who are heterogeneous in an underlying demand parameter and when externalities are nonlinear in consumption---because there is an externality on the quantity but quality choice, the planner would like people to drink less alcohol, but drink higher quality alcohol.
I agree with Chris on this one - I'd posted a pretty similar point last week. The New Zealand Drug Foundation should perhaps pay attention to this one: having a minimum price should be coupled with excise reductions, not increases; NZDF has been pushing for both a minimum price and an increase in excise. If the ex ante excise were seriously below the optimum, then I'd expect a model like the one Chris is likely working up to say instead that minimum pricing lets us increase excise less than we otherwise would. But aggregate excise here isn't far out from actual external harms from alcohol. And I still worry about effects on moderate drinkers of lower income. The policy seems likely to be severely regressive.

Jennie Connor really should retract her press release or issue a correction. It leads people to believe that a minimum price will have far more effect on harmful drinkers' consumption than can be supported by the evidence. Otherwise, how much weight should anybody place on any "fact" claimed by Jennie Connor in her press releases?

In other scorekeeping, Ross Bell is right and John Key is wrong: a minimum price will increase the average quality of drink consumed, not reduce it. Here's Key:
"Instead of buying a $10 bottle of wine that might go to $15, they'll buy a $5 bottle of wine that'll cost $10. Their outlay is the same, the quality of what they're buying is worse," John Key said.
Competition among retailers, distributors, and producers ensures that drinkers get at least the minimum price's worth of value for the drink they're consuming except where there are other restrictions in the system that allows agents to accumulate rents.

But in that same article, Bell underestimates the number of standard drinks in a bottle of wine; this has the effect of reducing the perceived effect of a minimum price. Bell writes:
If the Government were to set the minimum price for alcohol at $1.50 - a reasonable and workable price - it would mean a seven-standard-drink bottle of wine could not be sold for less than $10.50.
Most bottles of wine are closer to 8 standard drinks than to 7. I had a quick flip through our wine rack. A Pegasus Bay riesling came in at 6.6 standard drinks. Nothing else in the rack rounded to 7 - everything else rounded to 8, except a few Aussie reds that rounded to 9. 8 standard drinks at a $1.50 minimum price is $12, not $10.50. And, though I'm a moderate high-income drinker, I do often buy bottles of wine in the $10-$12 range. The Montana Classics range on special for $9 is typically great value; I never feel bad about using third of a bottle in cooking at the price, and a glass while cooking is generally decent too.

Bell cites a Scottish government study suggesting that moderate drinkers won't reduce their consumption by much in absolute terms while heavy drinkers will have massive reductions in absolute consumption. If that one's based on Sheffield, and if Sheffield there is assuming constant elasticity across moderate and heavy drinkers, I wouldn't put much weight on it. Sometimes Sheffield estimates differential elasticities, sometimes they just assume constant elasticities. I'm not sure what they're doing in this particular one. And I also worry too about differential patterns in how people reduce their consumption. The Australian study I'd cited last week showed that most of the action in price increases is in reducing the number of days of light drinking rather than reducing the amount of heavy drinking, though there are other studies suggesting reasonable price elasticity of binge drinking. 

Finally, Bell cites BERL's (adjusted) figure on alcohol-related harm: $4.4 billion. That's disappointing. Ross, please remember that that study is just terrible. Again,
  • They count the VSL from lives lost while simultaneously counting the total value of forgone production from premature mortality. The Ministry of Transport, who puts out the VSL measure, never does this when they tabulate the social costs of car crashes. They count the value of lives lost in accidents, the cost of injuries, and the value of production forgone due to injuries, but they don't count forgone production from those who die. The measure of the value of a statistical life is inclusive of the measure of forgone production. BERL says that VSL costs are $1.52 billion and that labour costs, mostly from deaths, is $1.48 billion. 

  • Where their model study, Collins and Lapsley, counted both the health benefits and the health costs of drinking and took a net measure of costs to the health care system, BERL took a one-line assumption that harmful drinking can never have any health benefits as justifying a move zeroing out any of the aetiological fractions where alcohol reduced costs. This was absurd and points strongly to that they just wanted to give the Ministry of Health the very very large number that the Ministry of Health wanted. Even drinking that is on net harmful can have a mix of underlying positives and negatives. 

  • They everywhere conflate private and social costs. Ross, you probably want to include all the costs that drinkers impose on themselves. And that's fair enough where you accurately characterise those total costs as mostly consisting of costs drinkers impose on themselves. But neither of the points above have anything to do with that. It's just poor method designed to inflate reported costs. And repeating the "costs New Zealand" line without the qualification makes people think that you're referring to a cost to the taxpayer through the health system rather than a cost drinkers impose on themselves - it's misleading; I hope not purposefully so.
Peter Dunne seems pretty sensible on this one, even if I do curse his name each and every time I want to get cold medicine that works.
"To say that we'll have a minimum price of $12 for a bottle of wine because people who can't afford to pay $12 shouldn't pay a lesser price, but Chardonnay socialists who can pay $25, $30 for a bottle of wine will still be able to get their wine. I think that's a really elitist and ridiculous argument."
The policy would reduce some harmful consumption, but it would also reduce some reasonable consumption from lower income drinkers - and from a few higher income cheapskates like me. We either need more serious work showing that the harms prevented outweighs the harm imposed by the policy, or at least coupling the policy with transfers to those negatively affected.

Worthless rugby players

If a rugby player leaves for Japan, is there a loss to the country? Seamus says no. So long as he's being paid his marginal product.
While rugby fans may decry his loss to the sport, Canterbury University economics lecturer Dr Seamus Hogan told NBR ONLINE there is no loss to the New Zealand economy.

"If he was prepared to play in New Zealand free, obviously that would be of tremendous value to the rugby union because it would get more bums on seats.

"Beyond that, there wouldn't be any spill over benefit economically to the country."

Dr Hogan says that in terms of economic activity, if Williams' presence in a match gets more fans into the stadium those people are just spending money they would have spent elsewhere.

"It is just a transfer. It's not a benefit to the country economically."

Dr Hogan says Williams gets almost the full value of his contract because he has unique talents.
If the Rugby Union is good at getting fans to pay for the value provided, and if Sonny Bill's manager is good at negotiating his pay, then he doesn't provide much value above his pay. Because the rugby union can't perfectly price discriminate, fans might get some surplus from a good player that isn't captured by the rugby union. But, if the player has a good manager, sponsorship and endorsement deals ought to mop up at least some of what's left.

But I would have expected that fans shifting away from rugby into something else because of the departure would have some loss of associated surplus. The other activity also generates surplus, just less of it; that's why it was the second choice prior to the staffing change.
He says somebody who is a very good lock, such as Brodie Retallick from the Chiefs, cannot command a high price because the next-best lock is right behind him.

"If he goes, the cost to the rugby union of losing him is not great because there is somebody waiting to take his place.

"But if Williams goes this year, we have to take a step down in the quality of our second five-eighths."

However, Dr Hogan says it would not be a big slide because there are plenty of other talented second five-eighths around.

Williams' biggest value is probably in terms of the entertainment he provides, such as taking his ripped shirt off during a World Cup match last year, he says.
 Afraid I'd missed that.

Monday 9 July 2012

No slippery slopes, nothing to see here

Never a slippery slope to be found.
The Health Select Committee, which is to hold an inquiry into the UK Government’s recently published alcohol strategy, will look into a series of proposals including plain packaging for alcohol sold in shops, similar to a plan being considered for cigarette packets. Yesterday MPs were warned that removing well-known trademark images such as Johnnie Walker’s striding man and the Famous Grouse on bottles, could damage the Scotch whisky industry, which is worth £4 billion in exports alone. Labelling of alcoholic products is currently reserved to the UK Government, which means that if Westminster eventually agreed a ban it would affect shops and products across the whole of the UK, including Scotland. It would hit all parts of the alcohol industry, but whisky producers believe it would be particularly damaging for them.
Chris Snowdon helpfully points to assurances that they're not planning plain packaging for food.

As I'd said a couple years ago, in a different context:
I always find it depressing how folks like NORML think beating up on alcohol makes marijuana legalization more likely rather than just making for tighter regs. The hospitality industry lobbies for more restrictions on supermarket-bought alcohol to boost sales in bars; small brewers push for more punitive tax rates on big brewers... the only winners are the healthists who get support bit by bit for more regulations on everything. It's like a bunch of folks on the scaffolds complaining that the other guy's noose isn't quite tight enough. Y'all might instead direct your attention to the hangman sometime and try helping each other cut those ropes.


The Canadian Broadcasting Corporation has really outdone itself with its new series, The Invisible Hand. Episode One takes on price gouging, featuring Mike Munger. As Stephen Gordon is economic advisor for the series, expect more good things to come.

I've had no end of problems in getting the podcasts to stream; Munger's figure out a link that works. Here.

I just about never listen to podcasts; with two under-4s, I don't get the alone-time where it works. But this one was worth making time for.

Previously on price gouging:

Friday 6 July 2012

Markets hate profits

Unless there's some barrier in the system preventing it, no firm can sit on excess profits forever. Competition erodes away the excess profit until everybody's again earning a normal rate of return. Today's case in point: alcohol minimum pricing. I've made the point before, but it's worth walking through again as the logic isn't immediately obvious to non-economists.

Neil Miller argues:
Because most craft beers are currently priced over the $2 a drink threshold, it could be argued that they will become closer in price to mainstream beers which might encourage drinkers to “trade up”.  However, the costs to the big breweries will not have increased and they will basically be making more money for the same beers.  This means they will be able to increase marketing and distribution efforts.  Mr Albertson’s point about minimum pricing putting pressure all the way up the chain is critical.  
He's right that the big brewers will have more money for marketing and distribution. But they're pretty unlikely to be making more money for the same beers. Let's walk through the logic.

Suppose I'm one of the big brewers and Labour takes power. Lianne Dalziel announces a $2 per standard drink minimum price. Doug Sellman shouts about how it should be $10. My product previously retailed at $1 and cost me $0.25 to produce. I got $0.05 in profit and the rest was distribution / retailing costs. Can I suddenly start pocketing $1.05 in profits for that drink?

Minimum pricing hasn't made my competitors go away. I expect that they'll be trying to increase market share. What should I do? The first thing I'd try is a new promotion: Every 4th case (24 pack) of beer has $20 inside. My production cost goes up by a bit over $0.20 per bottle, so I'm only pocketing $0.85 in profit per bottle. But if my market share goes up by enough, it's totally worth it.

My competitors try it too. They promise $20 in every 3rd case. Then somebody in Parliament figures out that the real cost of alcohol to consumers is nowhere near $2 per standard drink as we're effectively rebating a big pile of the minimum price to consumers as a cash lottery. So that gets banned.

What next? Free t-shirt! Free shot glasses! Free beer mugs (collect all 8!). Then Parliament bans bundling any kind of good with the beer.

What next? It depends a lot on how different cohorts of drinkers respond to increased product quality versus increased related amenities. Maybe I can turn my bottles into something that's beautiful, with a stopper cap on a wire that makes it useful for re-use as a water bottle. Maybe I can make my labelling nicer. Maybe I can open up my own bottle shops where I sell only my own product but there's just an awesome environment for my customers: free massage from a Tui Girl with every purchase.

Think I'm kidding? Look at what happened in the US when airline prices were regulated. The airlines were banned from competing on prices. So what did they compete on instead? Better meals, better drinks, and more attractive stewardesses.

Unless there's some barrier to competition somewhere in the system, nobody gets to sit on free profits. These kinds of rents get eroded pretty quickly. Customers either wind up buying alcohol that actually costs $2 per standard drink (less normal profit) to produce, or that's bundled with amenities they find more valuable than improvements in the quality of the drink but that still cost $2 per standard drink (less normal profit) to provide.

Who might get to enjoy excess profits - rents - out of minimum pricing? My first pick are those who have bottle shop licences in poor neighbourhoods. They'll have local monopoly rents, especially when their customers have a harder time going across town for bargains. That will be capitalised into the price of the firm, and the next guy who buys the bottle shop will only then be earning normal profits, but there's likely a windfall gain to some small bottle shops.

Markets hate free profits: somebody's always rushing in to try to grab them. That competitive process runs until everybody's just earning a normal rate of return. I'd expect that the only conditions under which the big breweries get to keep selling current product at a $2 per standard drink minimum profit and just bank the profits are the conditions under which they could do it without a minimum price. Basically they need a strong cartel that prevents entry. Fortunately, we're nowhere near that kind of a world, at least in New Zealand.