Economics unpacked

The website of the Economics Student Society of Australia, a grassroots society founded two years ago by students in Melbourne, is worth a look – and not only because I am writing a series of blogs for them this year, of which links to the first two are given below.  The aim of this series is to help readers more deeply engage with the founding ideas of economics via modern contextualization, argumentation, and examples.  More installments are still to come, and feedback is welcome!

Living Economics 1

Living Economics 2

No shoes allowed!

[NB – Joshua says the Core site has had some fits today that resulted in this original post being lost.  I have hence re-posted it below, along with three comments received so far. -gigi]

Weary holiday party-goers will be all too familiar with the occasional request to take their shoes off upon entering a host’s house.  I say `occasional’ only on the basis of observations within my own social circles; for some people, this request may never arise, while for others it may be just an accepted part of life that to enter a house one must first de-clad one’s feet.  This gives rise to the embarrassment of modelling the holey socks of oneself and/or one’s offspring to fellow party-goers, the need to hop around awkwardly for a few moments while performing the act, and a vaguely-humiliated, not-really-wanted feeling upon arrival not unlike that experienced in an airport security line.  But the ritual of the shoe take-off must presumably fill some need of someone’s, or else we would expect it to disappear from our world.  The question to be asked in this forum is whether this ritual is justifiable on economic grounds.

Whenever I have asked people about their reasons for requesting the shoe take-off, the responses have centered around preserving the cleanliness of their home.  `Maintaining the carpet’ and `not tracking in dirt’ are typically the front-running explanations.  This then implies at first blush that for the ritual to be economically justifiable, the costs of the shoe take-off (which are borne by the off-takers) must be outweighed by the benefits associated with the marginal contribution to house cleanliness and/or carpet life achieved by having every entrant remove their shoes.  Now, given that a clean home is mainly enjoyed by those who live there, rather than by those who visit, any such benefits flow mainly to the hosts, meaning that we can immediately see that the entire exercise involves cost-shifting from the hosts – who would otherwise, perhaps, clean more – onto the guests.  One might say that this is a simple cost-based adjustment for an externality, but then the question would arise of why guests are not pressed into service at parties to clean up after themselves in other ways.  Presumably, they are not asked to do so because by inviting people into one’s home, one is signalling that one is prepared to serve food, clean up dishes, provide entertainment, and so forth.  Why, for some hosts, does their hospitality not include enduring the costs of marginally dirtier post-party flooring?

This leads us to ponder the nature of the benefit.  What is valuable about a clean floor?  It is certainly true that maintaining some level of basic domestic cleanliness helps to contain diseases and prevent colonization by pests, but in the homes I have observed that feature the shoe take-off ritual, the general level of cleanliness is far above this basic level.  Even if forty people were to come galloping through the typical shoe-take-off house in regular shoes (i.e., not having come right off a farm) for a party every weekend, I would expect no increase in pest colonization or disease prevalence provided that the household’s normal cleaning routines – say, a decent sweep or vacuum once or twice a week – continued.  Then there is the question of the marginal wear and tear on carpeted floors caused by shoes:  would a carpet stepped on by shoes at parties wear out more quickly than one stepped on only by socks or bare feet?  A brief web search reveals that those in the industry believe that the lifespan of a carpet is far more affected by the owners’ innate propensity to redecorate, the type of carpet fiber, what is under the carpet, and whether the carpet is subject to regular cleaning, than by whether people walk upon it shod.  Again, if regular cleaning continued, guests’ shoes should not be associated with worse outcomes.

We then must enter the realm of the abstract and intangible.  Whatever the benefit derived by the hosts from the shoe take-off, it is not measurable in terms of improved health or additional hours of `required’ cleaning saved, but in terms of internal joy from satisfying some aesthetic objective or some social notion of what one should do.  Naturally, those hosts who would clean more in the absence of the shoe take-off ritual would indeed experience a real economic cost, namely the opportunity cost of their hours spent on additional cleaning, but if this time is not in fact required in order to contain diseases and pests or delay the replacement of the carpet, then it is only for internal rewards that anyone would pay this cost.  What is going on here?

Before opening up this question to the floor, which I expect includes a few people who require their house guests to remove shoes upon entry, let me offer a few candidate explanations.

1- The hosts are using the ritual to demand an `entry fee’ of their guests, which if paid (i.e,. if the guests do not turn on their heels and leave when asked to remove their shoes) places the hosts in an implicitly powerful position relative to their guests.  The message is essentially, `if you agree to pay this price to enter my home, then what is available here must be valuable to you.’  2- The hosts are signalling to guests their adherence to norms of extreme cleanliness that they believe are associated with membership in circles of success.  They are hence basically trying to prove to their guests that they are people of standing.  3- The hosts are trying to prevent a rise in their own anxiety levels caused by the threat to their self-esteem that they would perceive if their floors were to become dirty.  Ultimately this explanation boils down to social reasons, but for this explanation to be correct then the expectation of a clean house must have already been strongly internalized (through social conditioning) as a central part of the way the host views and judges himself, regardless of immediate social reward.  4 – The hosts derive pleasure from the sense of control over their environment that they derive from having perpetually spotless floors.

Let me finally come clean (ha) and say that I do NOT ask guests to remove their shoes when entering my house.  Let’s see what others think about this little ritual!

[First three comments below:]
3 Responses to No Shoes Allowed!
December 30, 2013 at 10:43 am
I like number two – the idea of
signalling high society membership via demands for shoe removal fits with my own
experiences. Goes alongside other methods to achieve the same end, perhaps, such
as serving tea in impractically small, dangerously thin china cups.

own guess revolves around risk aversion. The vast majority of house guests will
cause negligible extra damage to the owner’s floors by keeping their shoes on,
but a small fraction will either be wearing terrible footwear (e.g. soccer
studs, stiletto heels, tradesman boots) or have inadvertently stepped in
something unpleasant. This minority have the potential to make a serious impact.
Since it is both costly and socially inappropriate to inspect each guest’s shoes
at the door, a homeowner whose floors are important to them (whether due to cost
or psychic utility gains from having spotless carpets) is better off applying a
blanket rule to prevent disaster.

Chris Shadforth
December 30, 2013 at 11:54 am
I think I’d add that for many it may
also just be what their parents did or what they see their friends doing. So for
them I suppose the questions are who is Patient Zero, why did they start asking
people, and why were they influential enough to get this started? All of that is
related to the second possible answer you gave, but I think this assumes less
ambition and rather just an urge to fit in.

Another possibility is that
people may want a more informal atmosphere, and you have to admit that not
wearing shoes takes the formal edge off practically any outfit. If someone
turned up in a tuxedo and you made them take their shoes off, they suddenly look
ridiculous rather than suave.

Cameron Murray (@Rumplestatskin)
December 30, 2013 at 12:15 pm
Wouldn’t the obvious place to look for
an answer be in the differences between the ‘shoe removing’ cultural norms of
various countries? Look at Japan, were shoe removing is the most extreme ritual
– not only do you remove your shoes, you then wear ‘house shoes’ sometimes even
different ‘bathroom shoes’.

Obviously in rural communities and snowy
climates there is an obvious cleanliness benefit, which may have evolved simply
into ritual/custom, whereby people design their homes for non-shoe-wearing, with
softer floor coverings etc. There is some kind of cultural lock-in effect

Australia is odd in that the mix of first and second
generation immigrants from a wide variety of countries with different
shoe-removing rituals will leave you confused – there is no widely accepted
Australian shoe custom, and hence no dominant custom to override the various
introduced customs.

Laziness, institutions, and the greater good

Like most people, highly-skilled professionals are lazy. They can’t help leaning on excuses in order to avoid completely thinking a problem through. While this tendency is arguably benign in a well-functioning private market—where somebody will in fact find it in their interests to consider a problem from all angles, if it is economically worthwhile to do so, and hence squeeze the effects of unwarranted laziness out of the system—this pressure is not nearly as potent in government-subsidized industries, like health and education. It is all too easy, and hence all too common, for very smart people working in these industries to stop midway through the critical analysis of a complex problem and settle for a half-baked solution. Often their rationalization for stopping is in some way related to not having perfect information, and often this very absence of perfect information has nurtured the creation of institutional supports for their laziness.

Take the simple example of the typical treatment of people at risk for heart disease or stroke. For years, the achievement of threshold values for LDL cholesterol served as a simple rule-of-thumb that doctors could use in deciding whether to continue prescribing statins (cholesterol-lowering drugs) to their patients. As in much of medical science, the right approach to managing cardiovascular disease risk is difficult to know for certain. Patients differ in their baseline health levels, their habits, their family histories, and any number of other dimensions, meaning that a one-size-fits-all approach to assessing and treating cardiovascular risk will almost certainly be less effective than individually-tailored treatment plans. Yet, for a doctor who is pressed for time and has incomplete information about a given patient, the existence of a guideline endorsed by medical associations is just too tempting to pass up. More than that, the very existence of the guideline creates the spectre that not following it might open the door to malpractice suits should something go awry. Easier not to think, and instead to simply invoke benchmarks. This process is perpetuated rather than being stamped out by competitive forces because of imperfections in the market for patient care. Arguably, those imperfections themselves played a role in the rise of the professional associations that curtail the worst excesses of powerful professionals, in part through the crafting and promulgation of benchmarks.

In a similar fashion do other examples of benchmarks promulgated by our institutions support laziness and encourage a conservative rather than entrepreneurial approach to professional practice. Take the institution of large lectures for the teaching of university course material. It is highly unlikely that a large lecture experience is going to lead to optimum learning for every one of the diverse students in a given class. But tailoring the learning experience to individual students is just too costly, and too fraught with uncertainty given that no lecturer has perfect information about the learning-relevant characteristics of each student. (Or so we tell ourselves!) The benchmark tradition of the lecture in this way controls teachers who might otherwise choose delivery methods even less effective than the lecture, but also supports a lazy approach to teaching and leads to innovation (e.g., flipped classrooms) being viewed with skepticism. This dynamic again is perpetuated due to market imperfections.

This is not to say that guidelines and benchmarks are unwarranted on economic grounds. In the examples above, the existence of a benchmark has likely benefitted untold legions of patients and students whose true response profile was sufficiently close to average and who, in the absence of the benchmark, might well have ended up either with no service (due to cost barriers) or at the mercy of some unhinged doctor or teacher. The main problem arises for people on the extremes of the relevant distribution. This means that determining the socially optimal behavior for the supplier involves knowing how thick the tails of that distribution are, as well as the cost of the additional effort required to achieve a better result via customized, rather than benchmark, service to people in those tails. As technology progresses and the population grows, so too will our ability to collect enough data on the tail-people to develop effort-saving guidelines that cater for most of them too, meaning that this is in the grander scheme of things a short-run problem that is already receding and should continue to do so over the next hundred years.

In the meantime though, what benchmark recommendations might be offered to those working in or being serviced by such industries? First, if you really care about others’ outcomes and have some flexibility to vary the intensity of your effort, avoid the temptation to merely lean on guidelines when you supply your services if you suspect that the tails of the population you are servicing are thick. Second, hope that you are average—at least in some dimensions.

Gina Rinehart, Napoleon, and other economic data points

The new book Paul Frijters and I have just released is an exercise in pattern recognition in the service of social science. My interview below with Tim Harcourt, the Airport Economist, gives a quick overview of some of its big themes. Launches still to come in Sydney, Canberra, and Melbourne!


The economics of incapacity

The “rational man” assumption of mainstream economics is alternately defended and pilloried presuming that it stands or falls on the capacity of a fully functional human adult to understand, and act on, his personal self-interest. Yet large chunks of our population are not fully functional adults. Do they have a role to play in economic models?

Children are usually incorporated either as mute drains on resources, or as part of a second generation who are decision-less in the first period but in whom the first generation can invest, hoping for productive returns in the second period. Mentally unsound people, including those living in insane asylums, together with those whose capacity as economic agents is physically restricted by the state (i.e., prisoners), are generally paid no notice in economic models. Older people whose minds have gone down the gurgler but whose bodies carry on are either ignored or considered mute drains, like children. Yet all of these groups have independent needs and resources of their own. Do these needs and resources get counted in actual economies? Let’s consider this question for each case in turn.

Kids. Indirectly, they contribute hugely to the economy, to which any parent glancing at the recent transactions on his bank account can testify. The usual idea is that parents, acting as children’s agents, buy things for kids in a more or less rational manner, knowing what is in kids’ best interests and purchasing those things. One might claim that this is not always true – does private school really deliver a benefit compared to public school for every child enrolled, for example, or are those French fries really a good idea in the long run? – but any departures from rationality committed by the parents can be argued to be merely outgrowths of the parents’ own irrationality, rather than the irrationality that kids’ incapacity would lead to if they were let loose on markets to make their own decisions.

Next up are the crazy people and the convicts. Every society has them, whether or not the bulk of them are institutionalized. For mentally sick people cared for by the state, representatives of that state serve as the agents who compensate for their incapacity by purchasing things, typically from state funds, that are deemed to be required. Like those in insane asylums, prisoners too are at least temporary wards of the state, whose representatives decide what is required for them during the period of their (forced) incapacity. For mentally unsound people cared for within families or living on their own, it is usually loving relations or friends who act as agents, compensating for incapacity when that seems necessary.

Older people professionally judged to lack the capacity to manage their own affairs make up a sizeable chunk of our societies, and this chunk is growing by the day as our lifespans increase and our ability to combat mental deterioration fails to keep pace. As with crazy people, the irrationality of older people who have become incapacitated is potentially compensated for either by the state or by loving family and friends.

In all of these cases, the big question for economists is why we do not see more rampant exploitation of these groups in our societies who are so vulnerable. They are in many cases simply ripe for the picking: easily manipulated, sometimes with access to significant resources (particularly in the case of older people with large estates), and/or completely at the mercy of their so-called agents. Why are there not huge numbers of cases – rather than the under 10% that has been estimated – of abuse and theft of elders, as well as of prisoners, children, and the mentally unsound? Why instead do we see the purchases of vast quantities of medicines, child enrichment services, mental and physical health services, and so many other goods and services that directly nurture the incapacitated? Why do the needs and resources of these groups feed into the economy, through their agents, more or less as they would if the incapacity did not exist?

The answer I believe fits best is that most incapacitated people have been adopted psychologically, either by individuals or by collectives such as the nation state. The loving parent has essentially re-defined his own identity to include that of his child, so that when he acts to further the child’s interests, he feels his own interests to be furthered. Members of the nation state have re-defined their identity to include the welfare of all Australians (or Germans, or French), including those who are insane or have strayed. It is then our collective will to care for our group members, enforced both by our identification with each group member and by our identification with the ideal of “caring for all Australians”, which motivates the state representative serving as an agent to indeed further the interests of his incapacitated ward. This re-definition of self, central to the continued contributions of all of these groups to the economy in line with their actual needs, is called love. It is high time that economists gave it a nod.

The price of morality

Notwithstanding the philosophical bent of some of its founding minds, including Adam Smith, mainstream economics today does not concern itself explicitly with matters of right and wrong.

Of course, some general notion of “welfare maximization” is taken by the profession to be “right”, and by implication all alternative objectives are at least dubious if not outright wrong. But this does not get us very far. It merely gives rise to a highly simplistic and subjective handling of what Jack on the street would consider to be “moral” questions. What are an economist’s views on gay marriage, abortion, drug legalization, vegetarianism, gun control, and so on? Some economists will have more permissive attitudes on these issues, and some will have more conservative attitudes. If asked to defend a moral stance, an economist who has donned his “economist” hat will rationalize whatever position he has adopted based on some notion of welfare maximization. The end.

One could claim that this chameleon-like ability of economics to support multiple and often completely conflicting moral stances is perfectly fine, and that economics is a pragmatic science that should not be asked to generate advice on philosophical questions beyond the vague notion of welfare maximization. But the real problem is not any innate limitation of economics, but a limitation of measurement. Even if we were to accept the maximization of a particular discounted welfare function as the sole ethical criterion that should guide moral decisions, the measurement of marginal welfare obtainable from adherence to different moral codes is incredibly fraught, and this is what leads to our discipline’s routine moral ambiguity.

What makes measurement particularly difficult in cases of morality? First, a significant fraction of felt pleasure from witnessing, imagining, or performing acts that the beholder believes to be moral goes unseen by not only the economist, but by everyone except the person experiencing it, as it is generated via non-market-based and hence non-priced interactions. Second, we face the perennial problem of not observing a reasonable counterfactual. How can we measure how much joy the drug addict receives from his injection, and even if we knew that with certainty, how can we measure, for comparison, the amount of marginal pain he will cause his friends and family in future periods due to his addiction (relative to the counterfactual of his not being addicted)?

Public figures discovered to have violated a social moral code do face material consequences evident to all. The recent scandal surrounding the American general Petraeus is a case in point. Yet there is no observable price placed on his behavior – only public disapprobation and loss of status – and even thinking about how to measure the welfare of all relevant players in each of two possible states of the world (say, affair versus no affair) boggles the mind. Hence the “price of immorality” in this and similar cases is a quantity that we would struggle to measure.

Events in international trade may get us a bit closer to measuring, by contrast, the price of morality. Indonesia is now buying less live beef from Australia. This is likely (despite the denial of a causal link from some quarters) due to fear that the same type of political interference seen in the middle of last year will again unpredictably interrupt trade. Why is this casual link so likely? Because all the fundamentals point to a robust Indonesian-Australian beef trade link. Our cows are big and tasty, free of foot and mouth disease, and geographically close, and Indonesia has a strong history of importing Aussie beef cattle.

Not only was it the most likely cause of the trade decline, but our country’s political interference was purely moral in nature. Our minister for agriculture proclaimed that Australians would not countenance Australian cattle being treated in what was felt to be a cruel way, and as Indonesian abbatoirs were not up to the “killing standard”, they were barred from receiving shipments of Australian cattle, effective immediately. This was an action taken to obtain a benefit that only exists in the minds of Australians, and is hence invisible.

The rightness or wrongness of this unilateral action was evaluated in rough “welfare-maximization” terms even by non-economists. But in this case we can do more than hand-wave: as with any public policy evaluation, we can attempt to estimate the effect of the treatment. We have the value of Australian live cattle exports to Indonesia before and after the decision, and could use as a control, for example, Indonesian imports of a subset of Australian foods that do not substitute for live cattle. With a difference-in-difference estimate of the value of the export market decline, together with some understanding of the structure of the beef industry, we could generate estimates of the loss to upstream markets in Australia (cattle feed, transportation, labor, and so on). With detailed supplier cost information we could even estimate the costs and benefits of the medium-run industrial repositioning that may occur. We cannot measure the size of the invisible benefit, but economic tools might yet demonstrate that the luxury good of morality, just like lunch, is not free.

MOOC-spook: Symptoms, causes, and cures

An epidemic is running riot through our university administrators in Australia. Infected individuals can be identified by their obsession with the quantity and quality of their university’s online course offerings; the mass emails they send with startling frequency advertising sundry “online resources” that they urge academics to take under advisement when planning their courses; and their audible gulps and stares of terror during meetings at the mention of any type of new web-based collaboration software.

These are the classic symptoms of MOOC-spook: an overpowering fear of Massive Open Online Courses. Victims envision catastrophic consequences of MOOCs, chief amongst which is usually a wholesale redefinition of the higher-education sector, complete with mass redundancies and a dramatic reduction of the university’s market power, leading to tanking profits and the eventual bust of universities that cannot weather the storm. With students directly in charge of their own learning, and most academics and administrators made superfluous, it will be the end of Australian higher education as we know it.

Or so the nightmare goes. Fortunately, there is a cure for this syndrome, and it is an understanding of economics. Herewith the antidote.

1 – The essential difference between today’s “online learning” landscape and the learning landscape facing previous generations is that more information is more easily available to more people – even those who have not paid enrolment fees. This has always been the case to a limited extent, through the unmonitored sharing of course notes and the availability of textbooks in libraries and bookstores. The difference now is that the information is easier to access. In economic terms, transaction costs have declined. Importantly, the signalling value of obtaining one’s degree from a university that has a good reputation is still very much alive and well.

2 – The most efficient means of producing human learning of a specific task varies greatly by task. For simple physical algorithms like walking, simply watching someone else do it is sufficient to learn the task. For more complex tasks, more active engagement through writing, verbal repetition, or directed application to examples or case studies is often the most efficient way to learn. In almost all cases, human learning at an intellectually advanced level is inherently a social activity, and is in general most efficiently accomplished when a person teaches another person face to face. This is partly because there is an emotional component to most successful university-level learning that is very hard to replicate outside of the face-to-face context.

3 – Those universities who are selling MOOCs and otherwise offering their products online in many cases trade off of their reputations (or lack thereof) as bricks-and-mortar institutions. MIT and Harvard are still respected sources of MOOCs and online case study materials because of the reputation of the actual physical institutions, complete with real live professors and on-campus students. Similarly, the online offerings of “institutions” that are exclusively virtual generally occupy the bottom rung of perceived quality. Moreover, whole degrees are often not offered online by reputable providers – only singleton courses – and completing one or even a set of singleton courses has far less signalling value than completion of an entire degree.

4 – The results of centuries of experimentation appear to indicate that the production function for new knowledge involves getting a lot of smart, well-trained, motivated, and creative people together in one place with lots of resources and letting them ask and try to answer questions. This kind of place is a hotbed for the research frontier in almost every field and is thus the best place to train the next generation of researchers. Bricks-and-mortar institutions provide such an environment.

5 – An important influence on a given student’s success is also an important influence on his engagement with the traditional university: his motivation and commitment to study. Under-motivated students will not learn well from MOOCs because they are unable to adequately discipline themselves to work through the material, whereas students with plenty of motivation will want to come to universities and have full-blown learning experiences firsthand.

The rise of online learning will have far less an effect on the present constellation of teaching, learning, the student experience, or physical infrastructures of good universities than many other changes we are presently grappling with, including demand-driven admissions and changes in international student movements. Online learning may put some pressure onto programs of study that are primarily about learning rote algorithms, such as TAFE programs and “light” programs at universities, but even there the effect will be marginal.

To the extent that universities are implicitly targeting a niche essentially identical to MOOCs, for example through providing insufficient resources for meaningful and high-quality student-teacher interaction (including by casualising their staff, letting student-staff ratios get too high, or relying too heavily on under-trained tutors), student enrolments may fall slightly.

But all of this is if anything a positive force for the longer-term preservation and fortitude of the international academy. Good students will continue to be pulled to the research frontier locations, which will continue to be housed within good universities, and poorer students will find themselves in need of more spoon-feeding than they can obtain from online courses, and thus will also end up at universities. The lower transactions costs of acquiring basic knowledge through online courses may even whet the appetites of those who would otherwise not consider university, and thereby increase the inflow of students to campuses.

Recovering MOOC-spook victims may be observed campaigning for re-investment in their university’s physical infrastructure, in hopes of providing the maximum bang for the buck in the face-to-face lecture hall and tutorial, and for the enrichment of the campus experience. They may also be seen arguing for higher investment into recruiting top-quality researchers from around the globe, and for re-structuring the teaching personnel arrangements on campus so that fewer ill-trained or temporary staff are in charge of classes. Truly reformed MOOC-spook survivors will start explicitly asking the government for money for such initiatives.

Might MOOCs spell the end of Australian higher education as we know it, after all?