The Austrian Approach to Competition Israel M. Kirzner
14 Apr 2014 Leave a comment
in Austrian economics, industrial organisation, regulation
The rationality postulate is under attack from the other people are stupid fallacy-updated
14 Apr 2014 Leave a comment
in applied price theory, behavioural economics, economics of crime, entrepreneurship, experimental economics, industrial organisation, market efficiency, survivor principle Tags: behavioural economics, crime and punishment, criminal deterrence, experimental economics, Gordon Tullock, token economies, Vernon Smith
The rationality postulate is under attack from the other people are stupid fallacy: not you, not me, not present company, of course, but the nameless them over there; the perpetually baffled, every man jack of them.
These no-hopers are deemed competent to vote and DRIVE CARS, but they cannot get their head around a credit card. How the them over there find their way to work every morning must be a mystery to behavioural economists. One summary of behavioural labour economics is this:
The key empirical findings from field research in behavioural economics imply that individuals can make systematic errors or be put off by complexity, that they procrastinate, and that they hold non-standard preferences and non-standard beliefs
I found the chapter in Tullock and McKenzie’s book on token economies in mental hospitals to be most enlightening.
The tokens were for spending money at the hospital canteen and trips to town and other privileges. They were earned by keeping you and your area clean and helping out with chores.
The first token economies were for chronic, treatment-resistant psychotic inpatients.
In 1977, a major study, still considered a landmark, successfully showed the superiority of a token economy compared to the standard treatments. Despite this success, token economies disappeared from the 1980s on.
Experiments which would now be unethical showed that the occupational choices and labour supply of certified lunatics responded to incentives in the normal, predictable way.
For example, tokens were withdrawn for helping clean halls and common areas. The changes in occupational choice and reductions in labour supply was immediate and as predicted by standard economics.
Some patients would steal the tokens for other patients, so the token individually marked, and the thefts almost stopped. Crime must pay even for criminally insane inpatients.
Kagel reported that:
The results have not varied with any identifiable trait or characteristic of the subjects of the token economy – age, IQ, educational level, length of hospitalization, or type of diagnosis.
Behavioural economics is an excellent example of how engaging in John S. Mill’s truth that engaging with people who are partly or totally wrong sharpens your arguments, improves their presentation and deepens your analysis.
People have a better understanding of rationality such as through the work of Vernon Smith on ecological and constructivist rationality and of how people deal with human frailties and correct error through specialisation, exchange and learning.
- George Stigler in his Existence of X-inefficiency paper opposed attributing behaviour to errors because error can explain everything so it explains nothing until we have a theory of error.
- Kirzner in “X–Inefficiency, Error and the Scope for Entrepreneurship” wrote that error is pervasive in economic processes. Rational Misesian human actors are human enough to err.
What is inefficient about the world, said Kirzner, is at each instant, an opportunity for improvements, in one way or another and is yet simply not yet noticed. The lure of pure entrepreneurial profits harnesses the systematic elimination of errors and points the way to the market generated institutions necessary for steady social improvements to emerge. Brand names are an obvious example of an institution to overcome doubts about product quality. Middle-men and brokers specialise in performing much of the calculation burdens in their markets.
Many still compare real-world marketplaces to idealised regulation overseen by bureaucrats free of the very biases they are nudging us along to overcome. There are real constraints that limit the options available to fix what are seen as problems to be solved.
Vernon Smith when asked about behavioural economics, wondered how so cognitively flawed a creature made it out of the caves. Vernon Smith argued that the answer had a lot to do with the institutions that emerged to overcome human limitations:
Markets are about recognizing that information is dispersed in all social systems and that the problem of society is to find, devise, and discover institutions that incentivize and enable people to make the right decisions without anyone having to tell them what to do.
Smith and Hayek both posit that market institutions rather than individuals bear the primary cognitive burden in coordinating economic activity. To quote Vernon Smith:
What we learn from experiments is that any group of people can walk into a room, be incentivized with a well-defined private economic environment, have the rules of the oral double auction explained to them for the first time, and they can make a market that usually converges to a competitive equilibrium, and is 100 per cent efficient—they maximize the gains from exchange—within two or three repetitions of a trading period.
Yet knowledge is dispersed, with no participant informed of market supply and demand, or even understanding what that means.
This strikingly demonstrates what Adam Smith called ”a certain propensity in human nature . . . to truck, barter, and exchange one thing for another”
These double oral auctions converged to the competitive price even with as few as three or four sellers with neither the buyers nor sellers knowing anything of the values or costs of others in the market. Price-taking behaviour was not necessary to reach these competitive outcomes.
Behavioural economics is a clumsy way of discussing the pervasiveness of errors because insufficient attention is paid to decentralised, emergent market processes that correct them, often long ago.
A fool-proof test of the competitive impact of a merger
11 Apr 2014 Leave a comment
in industrial organisation, law and economics Tags: Aaron Director, antitrust law, competition law, mergers
Was it Frank Easterbrook in the 1980s or Aaron Director in the 1950s who said that the clearest evidence of a pro-competitive merger was if the rival firms in the same market asked the competition law enforcement agency to take action against it?
Do the competitors oppose the merger? If they do, the merger must lower prices and put their profits under pressure.
When was the last time a competitor complained about their rivals putting their prices up? Either they hold their prices and take their business or follow their pricing lead: can’t lose.
Business rivals have an interest in higher prices. Consumers seek lower prices. Easterbrook suggested that lower prices should always be lawful under competition law.
The aim of competition law is to increase consumer welfare by preventing restrictions of output that increase prices: prevent “prices that are too high” due to monopoly power. The merits of that statement is for another blog posting.
George Stigler was blunt on regulating to promote competition:
Regulation and competition are rhetorical friends and deadly enemies: over the doorway of every regulatory agency save two should be carved: “Competition Not Admitted.” The Federal Trade Commission’s doorway should announce, “Competition Admitted in Rear,” and that of the Antitrust Division, “Monopoly Only by Appointment”
Is the Blogosphere an Infotopia or an Echo Chamber – the Daily Me?
07 Apr 2014 Leave a comment
in constitutional political economy, industrial organisation, politics - USA, Public Choice Tags: Cass Sunstein, Karl Popper, Milton Friedman
Cass Sunstein made some astute observations in Republic.com 2.0 about how the blogosphere forms into information cocoons and echo chambers. People can avoid the news and opinions they don’t want to hear.
This is not all that surprising. Many do not read the newspaper, or read those newspapers that fuel their initial beliefs. London is famous for its partisan newspapers each pandering to their own slice of the political spectrum.
The standard J.S. Mill view of deliberation is that group discussion is likely to lead to better outcomes, if only because competing views are stated and exchanged.
Sunstein has argued that there are limitless news and information options and, more significantly, there are limitless options for avoiding what you do not want to hear:
- Those in search of affirmation will find it in abundance on the Internet in those newspapers, blogs, podcasts and other media that reinforce their views.
- People can filter out opposing or alternative viewpoints to create a "Daily Me."
- The sense of personal empowerment that consumers gain from filtering out news to create their Daily Me creates an echo chamber effect and accelerates political polarisation.
A common risk of debate is group polarisation. Members of the deliberating group move toward a more extreme position relative to their initial tendencies!
How many blogs are populated by those that denounce those who disagree? This is the role of the mind guard in group-think.
Debate is over-rated as compared to brute experience. Milton Friedman said this in his Nobel price lecture:
Government policy about inflation and unemployment has been at the centre of political controversy. Ideological war has raged over these matters.
Yet the drastic change that has occurred in economic theory has not been a result of ideological warfare.
It has not resulted from divergent political beliefs or aims.
It has responded almost entirely to the force of events: brute experience proved far more potent than the strongest of political or ideological preferences
The market process succeeds because it relies on a bare minimum of knowledge and hardly any deliberation but a lot of learning from experience.
A purpose of voting through secret ballots is both to bring the debate to a close and to clip the wings of those that shout the loudest and longest.
Sunstein in Infotopia wrote about how people use the Internet to spend too much time talking to those that agree with them and not enough time looking to be challenged:
In an age of information overload, it is easy to fall back on our own prejudices and insulate ourselves with comforting opinions that reaffirm our core beliefs. Crowds quickly become mobs.
The justification for the Iraq war, the collapse of Enron, the explosion of the space shuttle Columbia–all of these resulted from decisions made by leaders and groups trapped in "information cocoons," shielded from information at odds with their preconceptions. How can leaders and ordinary people challenge insular decision making and gain access to the sum of human knowledge?
Conspiracy theories had enough momentum of their own before the information cocoons and echo chambers of the blogosphere gained ground.
Must everything be the result of a grand plan? As Karl Popper explains:
…a theory which is widely held but which assumes what I consider the very opposite of the true aim of the social sciences; I call it the "conspiracy theory of society."
It is the view that an explanation of a social phenomenon consists in the discovery of the men or groups who are interested in the occurrence of this phenomenon (sometimes it is a hidden interest which has first to be revealed), and who have planned and conspired to bring it about.
This view of the aims of the social sciences arises, of course, from the mistaken theory that, whatever happens in society – especially happenings such as war, unemployment, poverty, shortages, which people as a rule dislike – is the result of direct design by some powerful individuals and groups.
Cass Sunstein in another book defines a conspiracy theory as:
An effort to explain some event or practice by reference to the machinations of powerful people, who have also managed to conceal their role.
He goes on to argue that millions hold conspiracy theories – that powerful people work together to withhold the truth about some important practice or terrible event.
Conspiracy theories attribute extraordinary powers to political leaders and bureaucracies to plan, to control others, and to maintain secrets. Conspiracy theories overestimate the competence and discretion of these political leaders and bureaucracies, who are assumed to be able to make and carry out sophisticated secret plans, despite ample evidence that most government actions do not remain secret for long.
Conspiracy theories also assume that these nefarious secret plans are easily detected by members of the public without the need for special access to the key information or any investigative resources.
Sunstein also argued that a distinctive feature of conspiracy theories is their self-sealing quality. Conspiracy theorists are not persuaded by an attempt to dispel their theories and look at these attempts as further proof of the conspiracy.
Karl Popper argued that conspiracy theories overlook the pervasive unintended consequences of political and social action; they assume that all consequences must have been intended by someone.
Most people lack direct or personal information about the explanations for terrible events, and they are often tempted to attribute such events to some nefarious actor as a way of coping with an uncertain world. More than a few blogs help them round-up the usual suspects.
How biased is the Australian media?
03 Apr 2014 Leave a comment
in industrial organisation, market efficiency, politics - Australia, survivor principle Tags: media bias
Camped firmly over the middle-ground. Sorry to disappoint.
Leigh and Gans in "How Partisan is the Press? Multiple Measures of Media Slant" in The Economic Record 2012 employed several different approaches to find that the Australian media are quite centrist, with very few outlets being statistically distinguishable from the middle of Australian politics.
The minor exceptions were ABC Channel 2 and perhaps the Melbourne Age in its news slant in the 2004 election. Their media slants were small.
Australian newspapers tended to endorse the Liberal-National coalition in the federal elections from 1996 to 2007 although The Australian, right-wing rag that it is, backed the Labor Party in 2007! I agree that this was a serious lapse of judgement.
Another lapse is the editorial of April 6, 1995, where the Australian said: "The scientific consensus that global warming is occurring unnaturally, primarily as a result of industrial development and deforestation, is no longer seriously disputed in the world." Murdoch’s paper supports global action on climate change based on science.
The editorial endorsements series should have been longer in the analysis of Leigh and Gans because some newspapers back winners just before they become winners and oppose the re-election of tired and smelly governments that have being there too long no matter what their party.
The results of Leigh and Gans should come as no surprise. Newspapers that are out of tune with their readers lose sales and risk going broke. Plenty of newspapers are losing money these days because of the digital revolution in media. There is no scope left to indulge the political preferences of the owners at the expense of circulation. Margaret Simons got it right when she said:
The market is too small to support newspapers that don’t play to the centre ground … In a marketplace full of bland centrist publications and carefully mixed stables of commentators, small deviations can look extreme.
For links discussing the quality of the analysis of Leigh and Gans, see http://offsettingbehaviour.blogspot.co.nz/2009/09/measuring-media-bias-in-oz.html and http://economics.com.au/?p=4226 for Gans’ rely to http://andrewnorton.info/2009/09/02/can-public-intellectuals-be-used-to-assess-partisan-media-slant/
The difference between economics and sociology – natural disasters edition
31 Mar 2014 1 Comment
in economics of natural disasters, economics of regulation, industrial organisation
The chasm between economics and sociologists could not be greater in terms of how each profession views social behaviour. The same in politics: Democrats easily out number Republican economists two or three to one; registered Democrats to Republicans come in at 44:1. Rachel Kling once offered a quick summary of every sociology course: “There’s poverty and America sucks.”
My first serious professional encounter with sociology was when I studied the sociology of natural disasters in the first half of 2011. This was after the February 2011 Christchurch earthquake.
The sociology of natural disasters literature dates back to World War 2 and was large and well established by the 1970s. Disaster sociology is a sub-discipline with university courses, dedicated research centres and special journals.
Sociologists study natural disasters to look at how society functions under great stress. If economics is all about how people make choices, and sociology is all about why they don’t have any choices to make, post-disaster recoveries should conform more to the sociological model.
Sociologists found that the common assumptions of post-disaster chaos, disaster shock and social paralysis and helplessness are not well-based on what is known of social behaviour during emergencies.
A central and mistaken assumption of post-disaster responses is emergencies result in drastically different social situations with social chaos. This social chaos is rectified by imposing outside military style command and control systems working from above that supplant the existing social and economic arrangements. Existing social and economic arrangements, including the market process, are seen as fragile in the face of emergencies and incapable of dealing with the disaster.
A better model is continuity, coordination and cooperation. There is post-disaster confusion and new and unexpected problems to confront, but existing social structures are the most effective way to respond.
The existing social structures have the capacity to make rational, informed decisions. An emergency is by its very nature characterised by decentralised and pluralistic decision-making built on local knowledge known only to those on the spot.
Social and economic units, families and businesses are all problem solvers in normal times, and this capacity, their experience and their idiosyncratic knowledge of their particular circumstances of time and place are not lost after a natural disaster.
Disaster forces both governments and citizens to adapt quickly and unexpectedly. Both survivors and those outside the disaster zone act on the basis of a large amount of place- and time-specific knowledge that is generally unavailable to government agencies. Regardless of the extent of the disaster, existing social and economic systems remain surprisingly intact.
Post-disaster coordination is improved if there is a considerable possibility for improvisation of solutions. A great many complex, non-routine tasks evolve after a disaster. These tasks are better dealt with by low levels of centralisation and minimum formality. Without the scope for improvisation, emergency management loses its flexibility in the face of changing conditions and uncertainty.
Post-disaster panic and looting are consistent myths that will not die. Anti-social behaviour after natural disasters is, in fact, rare. A major emergency management issue is the exact opposite of panic, social chaos and flight. The large majority of residents of disaster zones refuse to evacuate and strongly prefer to ride out the storm. Many residents have to be compelled to leave and restrained from returning under threat of arrest.
A central tenet of natural disasters sociology is that most communities can, to a large degree, spontaneously heal themselves.
People affected by a natural disaster obviously often need resources from the outside world such as food, water, and shelter. Most sociological scholars in the field say that this does not mean that the survivors also need outside direction and coordination. Even when the damage is extensive and the loss of life is great, survivors spontaneously marshal their remaining resources and adapt to their new environments.
Disaster sociology suggests it is a profound mistake for outside agencies to enter with the aim of supplanting important parts of the pre-disaster social and economic systems.
- The pre-disaster social and economic systems, including family and social ties, already have a long history of successfully solving the various social and economic problems that they were presented with day in and day out.
- After a natural disaster, time and again, these same pre-disaster social and economic systems and family and social networks survived to rapidly adapt to and solve the new set of social and economic problems that emerged using local knowledge to mobilise existing and incoming resources.
The economic literature on natural disasters, war damage and wartime mobilisations and demobilisations reached similar conclusions on post-disaster resilience despite the different assumptions on the ability of people to make choices.
The economics of disasters was pioneered by Jack Hirshleifer. His studies of recoveries from war damage, war communism and the Black Death were for the Rand Corporation in the 1960s in the context of civil defence and recovery after nuclear wars.
- Most economic studies of natural disaster recoveries show that the use of existing resources and inventories, rationing of what is available, and substitution of labour and other resources away from lower priority uses toward the disaster response and longer working hours are the foundations of the recovery process. Price controls and other regulatory responses lead to shortages and a lack of investment.
- Effective responses and recoveries from past earthquakes, annual hurricanes, tornadoes, fire and floods, and even catastrophic disasters such as the wartime bombings of German and Japanese cities, have always depended primarily on the resilience of the pre-existing social and economic systems that coordinated people’s daily lives in prior more normal times. If they were well-functioning, disaster recovery is much faster and more complete.
- The most important task for government after a disaster is to uphold the pre-existing basic rules of society: private property rights, enforcing contracts made prior to the disaster and upholding the rule of law. Uncertainty about the rules of the game inhibits the ability and the willingness to reinvest and anchor expectations around pessimistic outcomes.
Many commonly championed regulatory interventions make the disaster zone worse off.
When studying the economics of natural disasters in the first half of 2011 after the Christchurch earthquake, I happened to read George Stigler and Milton Friedman’s famous 1946 pamphlet Roofs or Ceilings for the first time. It was recently put on the Net.
That famous pamphlet on the dangers of rent controls started with a discussion of the 1906 San Francisco Earthquake and Fire! The purpose of this analysis by Friedman and Stigler was to compare how an earthquake and three-day long fire storm did far less damage to the ability of the housing market to service demand than did the World War 2 rent controls in the same city.
To return to my opening, the resilience and adaptability of society even under the great stress of a natural disaster might call sociology into question as a discipline. People can choose and make choices for themselves despite even the most terrible stresses such as from a natural disaster. People really do bounce-back from even the worst of set-backs.
Ronald Coase: Centennial Coase Lecture
30 Mar 2014 Leave a comment
in industrial organisation, law and economics, Ronald Coase
Profit maximisation gets no respect
30 Mar 2014 2 Comments
in entrepreneurship, George Stigler, industrial organisation, survivor principle Tags: Armen Alchian, market selection, profit-maximisation, the market as an evolutionary process
Who would own up to personal greed and selfishness? But who sends a tip in with their taxes?
George Stigler said that if you ask business owners if they maximise profits, they say no, no, no. They are just there to provide employment, a service for their customers, and then they put a small amount aside for the education of their children.
Stigler then said that if you asked them if they lowered their prices, would they increase their profits, the answer is invariably no.
Stigler then said that if you asked them if they raised their prices, would they increase their profits, the answer is invariably no.
Stigler then said that if you asked them if they have in the last 12-months substituted some other objective for profit, they throw you out of their office.
What people do is far more important than what they say and what they say motivated them.
Alchian pointed out the evolutionary struggle for survival in the face of market competition ensured that only the profit maximising firms survived:
- Realised profits, not maximum profits, are the marks of success and viability in any market. It does not matter through what process of reasoning or motivation that business success is achieved.
- Realised profit is the criterion by which the market process selects survivors.
- Positive profits accrue to those who are better than their competitors, even if the participants are ignorant, intelligent, skilful, etc. These lesser rivals will exhaust their retained earnings and fail to attract further investor support.
- As in a race, the prize goes to the relatively fastest ‘even if all the competitors loaf.’
- The firms which quickly imitate more successful firms increase their chances of survival. The firms that fail to adapt, or do so slowly, risk a greater likelihood of failure.
- The relatively fastest in this evolutionary process of learning, adaptation and imitation will, in fact, be the profit maximisers and market selection will lead to the survival only of these profit maximising firms.
These surviving firms may not know why they are successful, but they have survived and will keep surviving until overtaken by a better rival. All business needs to know is a practice is successful. The reason for its success is less important.
Great store is placed in industry economics on how firms in direct competition in the same market producing even rather standard products such as cement can have far greater measured productivity than others. Some firms produce half as much output from the same measured inputs as their market rivals and still survive in competition (Syverson 2011).
As is too common, the conclusion is there is something wrong with the firms in these markets rather than with the analysis that fails to understand these puzzlingly large gaps in measured productivity.
Few ask the obvious question, which is how do these firms survive if they are so inferior to the market leaders. The important fact is they do survive. They must be doing something right for their customers that the productivity statistics miss.
One method of organising production and supplying to the market will supplant another when it can supply at a lower price (Marshall 1920, Stigler 1958). Gary Becker (1962) argued that firms cannot survive for long in the market with inferior product and production methods regardless of what their motives are. They will not cover their costs.
The more efficient sized firms are the firm sizes that are currently expanding their market shares in the face of competition; the less efficient sized firms are those that are currently losing market share (Stigler 1958; Alchian 1950; Demsetz 1973, 1976). Business vitality and capacity for growth and innovation are only weakly related to cost conditions and often depends on many factors that are subtle and difficult to observe (Stigler 1958, 1987).
An example is in Adam Smith’s study of religion. One thing he noticed was that religious sects with strict codes of honesty and intense mutual monitoring by co-congregants for the slightest moral lapses proliferated in cities. Many successful businessmen belonged to these strict religions. These highly religious businessmen were successful in their businesses because they were looked upon by the public as reliable trading partners in a time of weak law enforcement. These businessmen did not know that this was profit maximising but the businessmen with religious backgrounds slowly gained market share over rival firms that had less efficient ways of communicating both their reliability and that their personal honesty was under daily scrutiny.
Ethnic minorities are advantaged in the same way in business. Because of their extensive social interactions with each other because of their language or religious practices and inter-marriage, the costs of bad business behaviours are much higher due to the risk of social ostracism by everyone you know. This greater trustworthiness gives them a cost advantage in the marketplace even though they may be unaware of its source.
Whatever is, is efficient – part 1
27 Mar 2014 Leave a comment
in Armen Alchian, behavioural economics, industrial organisation, labour economics, market efficiency Tags: Armen Alchian, behavioural economics, rational behaviour, rational choice economics, Richard Posner
Armen Alchian would ask “If something is so optimal, why don’t we see it then?”
The best way Alchian related this discipline on thinking was to point to something like the question of optimal taxes. If optimal taxes are so optimal, why don’t we see more of these optimal taxes in practice?
There must be other costs left out of your optimal tax analysis. There might be less obvious costs in the political system in organising support or other changes that are required that are overlooked, making optimal taxes such a ‘low-cost’ option. Most objectives look better than they are if you ignore some of the costs of achieving those objectives.
Alchian asserted that “whatever is, is efficient.”
- If the status quo was not efficient, something else would eventuate;
- Of course, if you try to change anything that is – that too is efficient because otherwise you would not try to do so.
The key point is why are we weighing only some costs and not others? Why are these costs (involved in minimizing particular dead-weight losses that would be involved in setting a particular optimal tax) less important than other types of costs (those involved in informing people of what the options are or of organizing them to go and try to adopt the alternative option)? Optimal taxes are also decidedly less optimal if they allow governments to raise more revenue, and the extra revenue is not spent wisely.
Alchian’s analysis of institutions and processes spent a lot of time showing that many often puzzling institutions and practices arose to lower various costs of decision making and transacting in the market and within organisations and groups. Many of these costs are far from obvious and must be teased out through difficult, time-consuming analysis.
Alchian was a great teacher. He taught in the Socratic Method. He posed countless questions to force his students to think harder and deeper.
Behavioural economics is an example of a whole field that expanded not by thinking harder and deeper using standard economic tools. It explains anomalous behaviour and seemingly irrational choices as the result of cognitive quirks or short-sightedness and a range of people’s other shortcomings. That is easier than spending a few more decades getting to the bottom of the matter.
George Stigler in the 1960s made a marvellous critique of what became behavioural economics back in the early 1960s by saying that in every decade for the last 150 years, economists dabbled in psychology.
Stigler said that they missed the point of economics as a method. He argued that the simple hypothesis of rational behaviour is so powerful because it can account for so much of human behaviour. Stigler adds this in his Tanner Lectures in 1981:
Members of other social sciences often remark, in fact I must say complain, at the peculiar fascination that the logic of rational decision-making exerts upon economists.
It is such an interesting logic: it has answers to so many and varied questions, often answers that are simultaneously reasonable to economists and absurd to others. The paradoxes are not diminished by the delight with which economists present them…
The power of self-interest, and its almost unbelievable delicacy and subtlety in complex decision areas, has led economists to seek a large role for explicit or implicit prices in the solution of many social problems.
Richard Posner went further and argued that behavioural economics may not be a science in Popper’s sense of falsifiability.
Posner referred to Cardinal Bellarmine’s famous description of what he saw in Galileo’s telescope which was pointing to the moons rotating around Saturn. Cardinal Bellarmine explained it as a trick of the devil.
Behavioural economics, in Richard Posner’s view, is close to Cardinal Bellarmine’s trick of the devil methodology because it explains anomalies away either as cognitive quirks or as rational behaviour. Nothing is an anomaly for behavioural economics so nothing can falsify it. Instead of the devil making me do it, a cognitive quirk made me do it.
Posner’s key point was:
Rational-choice economics makes the analyst think hard. Faced with anomalous behaviour, the rational-choice economist, unlike the behavioural economist, doesn’t respond, “Of course, what do you expect?” Troubled, puzzled, challenged; he wracks his brains for some theoretical extension or modification that will accommodate the seeming anomaly to the assumption of rationality.
Rather than attribute odd behaviour to cognitive quirks or short-sightedness, the better explanation is the behaviour is not fully understood.
Privatisation screw-ups are the best case for privatisation
26 Mar 2014 2 Comments
in entrepreneurship, politics - New Zealand, privatisation, Public Choice Tags: government as business owners, government asset sales, government privatisations
Governments are so bad as business owners and so incapable of running a commercial process free of politics that governments cannot even sell a state-owned enterprise for a good price under the full glare of the media and public.
Anyone can sell an asset. It is the simplest task of ownership. Hire some consultants and go for the best price. Governments lack this ability.
Privatisations are often politicised, with discounts for small buyers from the middle class, for employees and other special interests. These messy privatisations are the best case out there against state ownership of businesses.
“No asset sales” was the Labour Party’s most coherent slogan in the 2011 general election in New Zealand. It cannot be claimed that the more recent privatisations in New Zealand were not subject to the maximum amount of public and parliamentary scrutiny possible in a democracy. The 2011 election was said to be a referendum on asset sales.
This inability to sell state-owned enterprises for a profit and free of politics calls into question the ability of governments to make complicated day-to-day business management and entrepreneurial judgements as owners of business enterprises. Imagine the quality of the day-to-day state-owned enterprise decision making that is further away from the glare of an election?
Private asset owners have a strong incentive to sell assets at a profit as it will otherwise hurt their share price and their personal wealth. Inferior entrepreneurs and owners are punished by losses. Any assets that inferior entrepreneurs either mismanaged or sell at a bargain price will, through further buying and selling, end up in the hands of more alert entrepreneurs and owners.
There are no similar feedback and error correction measures disciplining governments as asset owners and in their day-to-day monitoring of their business portfolios. Governments who own business assets have an inherently softer budget constraint.
Is there media bias?
20 Mar 2014 2 Comments
in industrial organisation, market efficiency, organisational economics, survivor principle Tags: Armen Alchian, competition, george stigler, media bias, survivor principle
A leading characteristic of media bias is that people agree on its existence, but disagree on its manifestation.
The print media is under dire threats to its existence at the moment. A newspaper that ignores what its readers want does so only at great peril.
Armen Alchian and George Stigler both argued that realised profits are the criterion by which the market process selects survivors: those who realise positive profits survive and will grow their market share; those who suffer losses will eventually disappear unless they improve themselves. The surviving media outlets will be those firms that anticipated or adapted fastest to the current and future demands of their readers and viewers.
Any media bias is likely to be slightly to the centre-left for the following reasons:
- Young women tend to be one of the most marginal groups of news consumers (i.e., they are the most willing to switch to activities besides reading or watching the news).
- Young women often make more of the consumption decisions for the household so advertisers will pay more to reach this group.
- Since young women tend to be more centre-left, on average, a news outlet may want to slant its coverage that way. Media sell space to advertisers and tailor the way they cover politics to gain more readers and viewers.
Puglisi and Snyder found that:
- Using endorsements of state-level initiatives and referendums, newspapers are located almost exactly with the median voter – the average voter – in their home states.
- Newspapers are moderate relative to interest groups and political parties.
- Although newspapers exhibit some variation in their ideological position, they tend to be much closer to the median voter than most interest groups.
- Newspapers appear to be more liberal than voters on social and cultural issues such as gay marriage, but tend to be more conservative on economic issues such as the minimum wage.
- On average, the news and editorial sections have almost identical partisan positions.
Positive profits accrue to media outlets that are better at serving their readers and viewers than their competitors. Their lesser rivals will lose money, exhaust their retained earnings and fail to attract further investor support.
There is no best practice on measuring media bias. The literature is too young. Milton Friedman put up robustness as his test. Hit the hypothesis with as many tests as possible with many different data sets.
Most studies using many different data sets and methodologies suggest that the media reflects the politics of the market they serve. Newspapers and TV stations are big businesses, and they increased readership, ratings and revenue by presenting factual and informative news with a dose of ‘infotainment’.
Competition forces news media outlets, just like any other firm, to cater to their customers’ preferences. Why did anyone think the media industry was any different from any other?
Why are there so few workers’ co-ops?
19 Mar 2014 6 Comments
in Austrian economics, industrial organisation, labour economics, managerial economics, organisational economics, theory of the firm Tags: adverse selection, cooperative ownership, Jon Elster, kibbutzim, moral hazard, Ran Abramitzky, Robert Nozick, worker ownership
If workers’ cooperatives are so efficient, why are there so few cooperatives? Workers’ cooperatives should be able to slowly undercut other firms on price because they do not have to pay a profit to the capitalists.
Building societies, credit unions and some life insurance companies were mutually owned by their customers for a long time, but recently fell out of favour because of a growing lack of competitiveness and under-capitalisation.
Cooperatives are not economically viable because of intrinsic difficulties of entrepreneurship and management. And most workers prefer to work in firms for a wage rather than wait for the co-op to start up and hopefully break even before they get their first pay cheque. That could be a slow train coming.
The kibbutzim are Israeli agricultural communities initially organized on socialist lines, mostly between the 1910s and 1950s. The kibbutz is an example of voluntary socialism. The founders of kibbutzim were socialist idealists wanting to create a new human being.
Robert Nozick pointed out that few people actually join a kibbutz. Six per cent is the maximum proportion of any population who would voluntarily choose to live in these socialist communities. More recently, 2.6% of the Israeli population live on a kibbutz.
Originally, most kibbutzim followed strict socialist policies forbidding private property; they also required near-total equality of income regardless of differences in productivity, and in some cases, even abandoned the specialisation of labour. Kibbutzim are communities whose aim is equal sharing.
Kibbutzim were expected to fail because of moral hazard and adverse selection. Other organisations subject to adverse selection and moral hazard are professional partnerships, co-operatives, and labour-managed firms because they are all based on revenue sharing.
Kibbutzim have persisted for most of the twentieth century and are one of the largest communal movements in history. About 40% are still run on communist principles. Why is this so?
The kibbutz movement was founded by individuals who can be regarded as ex-ante homogeneous in their ability and potential income, and who came to a new land full of uncertainties. They were young unattached individuals who share a comparatively long period of social, ideological, and vocational training.
An even more durable example of voluntary collectivist living is Catholic monasteries and convents, but notice that these too were founded on a realization that close family ties are inimical to communal order.
Kibbutz founders wanted insurance, but their founders realised that members who would turn out to have high abilities might leave the Kibbutz.
- The founders of the kibbutzim decided to abolish all private property and to own all wealth commonly, which served as a lock-in device.
- Like monasteries and convents, kibbutzim deter members from fleeing through this communal ownership of property. You leave with the shirt on your back!
Kibbutzim also put prospective members through lengthy trial periods to make sure they are made of the right stuff. Those raised on a kibbutz tend to have learned kibbutz-specific skills, such as agronomy, which also makes exit to the outside world even more difficult.
Kibbutzim are similar to law firms, medical and business partnerships that pool income for risk sharing purposes.
Mutual monitoring and peer pressure replace direct monetary incentives in mitigating moral hazard in a kibbutz (and in monasteries and convents) in the same way as in professional partnerships, cooperatives, and labour-managed firms with pooled assets and the option of exit.
The trade-off between insurance and adverse selection determines the level of equality within a kibbutz and its size, as with any other professional partnership:
- Kibbutz vary in size from less than a hundred to over a thousand, but most have between 400 and 600 members, with an average of 441 members.
- Kibbutz size is limited by the savings on income insurance no longer offsetting the costs of moral hazard and other transaction costs as the Coasian firm grows in size.
Ran Abramitzky writes with great insight on the economics of the kibbutzim. He is writing a book The Mystery of the Kibbutz: How Socialism Succeeded. He found that high-ability individuals are more likely to leave a kibbutz. The brain drain would be worse if kibbutzim didn’t make it so costly to exit. Is this a familiar theme of socialism?
Many hybrid organisations exist in the market, ranging from joint ventures and agricultural seller and supermarket buyer co-ops to labour-owned firms such as in most of the professions.
But rarely do we find real life existing cooperatives with all workers and only workers having equal ownership rights. As Jon Elster noted, there are often non-working owners, non-owning workers and unequal distribution of shares in real life workers’ co-ops. All other types of co-ops and professional partnership share this feature.
Utopia, you are standing in it! 
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