Is Democracy Needed for Rule of Law?

I had long believed that rule of law alone is sufficient for the maintenance and preservation of personal liberty. I had a long-held suspicion that democracy is not a prerequisite for rule of law to exist. But I was not 100% sure about my belief though, especially in the face of many arguments which claim that rule of law is a by-product of democracy.

That's until I read this yesterday:

"To regard the rule of law, surely one of the most crucial positive externalities an economy can possibly enjoy, as a by-product of democracy is simply erroneous and is belied by history.

The rule of law has prevailed in England from the end of the 17th century onwards. It dominated some aspects of civil and even public life in France under the absolute monarchy of the Bourbons. It established itself in Prussia in the 18th and in Austria-Hungary in the 19th century. None of these countries waited for democracy before submitting to the rule of law.

Democracy may produce a favourable climate for the rule of law to take root. However, it does not always do so, as witness some Latin American countries that adopted universal suffrage and majority voting as their means of choosing governments in the second half of the 20th century. Saying that they are not really democracies because they do not have the rule of law would be to turn the relation of the two into an empty tautology."

Read the whole thing here.

The Best Blog Post I have Read Today

1. Teaching Math In 1960

A logger sells a truckload of lumber for $100. His cost of production is 4/5 of the price. What is his profit?

2. Teaching Math in 1970

A logger sells a truckload of lumber for $100. His cost of production is 4/5 of the price, or $80. What is his profit?

3. Teaching Math In 1980

A logger sells a truckload of lumber for $100. His cost of production is $80. Did he make a profit?

4. Teaching Math In 1990

A logger sells a truckload of lumber for $100. His cost of production is $80 and his profit is $20. Your assignment: Underline the number 20.

5. Teaching Math In 2000

A logger cuts down a beautiful forest because he is selfish and inconsiderate and cares nothing for the habitat of animals or the preservation of our woodlands. He does this so he can make a profit of $20. What do you think of this way of making a living?

6. Teaching Math In 2010

Un hachero vende una carretada de maderapara $100. El costo de la produccion es $80. om

That's from Eric Ramusen at Indiana University.

How Businesses Fend Off Regulators

Today's edition of NYT has a fascinating story about how eBay helps curb government regulations, read the story here.

Two points are noteworthy about the story...

1) How Government Regulations are Out-of-tuned with Rapid Pace of Technological Change

In Lousiana, which is the focus of the story, those affiliated with eBay who had got their licenses had to go through a course which supposedly would inform them about their trade. What did they got instead?

"Ninety-nine percent of the course had nothing to do with our business...It was about traditional auctioneering, cattle and land and firearms."

2) How Good Intentions May Backfire

Louisiana Auctioneers Licensing Board, the agency which attempted to get eBay affiliates to be licensed, says its mission is to protect the public from "unqualified, irresponsible or unscrupulous individuals."

While the effectiveness of such license is questionable, given eBay's interests to protect its brandname and thus renders the on-line market a self-regulating one, the regulation does have an undesirable unintended consequence: job losses for those affiliated with eBay.

As the story has it: "[M]any eBay sellers do their trading part time or in addition to another job. "If they are overregulated by licensing fees...they will abandon their eBay business."

Hence the irony is this: the regulators kill the very market that it attempts to regulate.

Cooling China's Property Market, More Difficult than You Think

Over the last few months, Chinese government is increasingly concerned about its red-hot property market, and has launched a series of measures (read more here and here) in order to orchestrate a soft-landing.

Now of course a red hot property market is an outcome, a result of the interactions between and among different individuals and groups participating in an economy.

They are played by a set of rules governing their behaviour. So, before we can evaluate whether the problem in the property market can be properly addressed by the latest government policies, we have to figure out what those rules are.

China has a de facto federal system with substantial power, mostly economic, vested at the local level. Under the current fiscal system, land is the major source of revenue for local governments. Economic perfomance of the areas under their rein is one of the most important criteria for evaluating local officials' performance. Combining the two, then it should not be too difficult to understand why it is the interest of the local officials to see a boom in their local property markets.

The central government thinks differently, of course. For it's concern is mainly the stability of the overall economy. In other words, the rules that are now in place (fiscal rules, and those governing how local officials are evaluated) generate conflicting objectives between the local and the central governments.

Unless those rules are altered, it is hard to see how policies annouced by the central government can effectively deal with the red-hot property market.

Would it be Helpful in Keeping a Job if Your Teacher were a Nobel Laureate?

The Washington Post reported:

"Treasury Secretary John W. Snow, who has presided during a period of strong economic growth but at times seemed out of sync with President Bush, has informed the White House that he will resign in the coming days after three years as the nation's chief economic officer, a source close to Snow said..."

Read the story here.

Apparently, being a student of Nobel Prize winner Jim Buchanan back in the 60s at UVA did not help Snow keep his job. Here is an old story which mentions John as Jimmy Buchanan's student.

Marvel of the Market System

F. Hayek once used the word "marvel" to describe the operation of the market mechanism. Too abstract?

Take a look at the T-shirt on the left, read this and I reassure you you will be as impressed by the market as Hayek did decades ago.

And if you want to buy the T-shirt, here is where you should go.

Uncle Bus Goes Global

This is from NYT:

HONG KONG (AP) -- A six-minute film showing a grumpy man scolding a fellow Hong Kong bus rider for interrupting his phone call has become one of the most popular videos online.
''Bus Uncle,'' as the film is commonly known, has been viewed nearly 1.7 million times on the video Web site Youtube.com -- the second most-viewed video on the site in May as of Thursday -- spawning spoofs and new slang drawn from the ranting subject's emotionally charged soliloquy...

Read the whole story here.

See also my previous posts on this theme, here and here.

Game Theory, More Abstract than You Think

Is game theory useful? Yes, you say, at least knowing it got you an A in your graduate micro course. May be, and just may be, working in this area may help you publish in one of those high-fashion magazines (a term coined by UCLA economic professor Axel Leijonhufvud) like JET or Econometrica one day.

OK let me try this, is game theory useful in the real world, like helping us make better business decisions...

Uuuu...Mmmm...Well....Let's see...I am sure that there are examples...but I cannot recall at the moment...

Those are the exact responses of a panel of game theory pros when confronted with such a question, read more here.

HT to Pete Klein for the pointer.

Uncle Bus

I blogged about this the other day, and now the saga continues....read more here.

Corruption: Does Culture Matter?

Brilliant political economist from the Columbia Business School Ray Fisman's answer to that question is YES.

Here is the abstract of his paper:

Corruption is believed to be a major factor impeding economic development, but theimportance of legal enforcement versus cultural norms in controlling corruption is poorlyunderstood.

To disentangle these two factors, we exploit a natural experiment, the stationing ofthousands of diplomats from around the world in New York City. Diplomatic immunity meansthere was essentially zero legal enforcement of diplomatic parking violations, allowing us toexamine the role of cultural norms alone. This generates a revealed preference measure ofcorruption based on real-world behavior for government officials all acting in the same setting.

We find tremendous persistence in corruption norms: diplomats from high corruption countries(based on existing survey-based indices) have significantly more parking violations.

And here is the paper.

Hayek must have this in mind when he coined the term Spontaneous Order

Picture the following scene:

A young guy, a middle-aged man, both riding on a bus. The young guy patted the shoulder of the middle-age guy trying to let him know that he was talking way too loud. The middle-aged man became all worked up, stood up and started yelling at the young guy not knowing that everything was taped by a fellow passenger on the bus...

Pretty lame stuff you say. Sure, but that is exactly the point that I am trying to make here.

How come such a lame movie has so far viewed by more than 2 million pairs of eye-balls?

The reason is that, without anyone doing the planning, a proliferatoin of different versions of the original video is created soon after the original video is uploaded on the net. Now the video has a rap-song version, one with English subtitle...Watching the video has now become an artistic event for fellow internet viewers as a result of this collective creative exercise without a central art director.

That very phenonmenon must be what Hayek has in mind when he coined the term spontaneous order.

For those readers who do not understand Chinese, here is the version with English subtitles. (Warning: Strong language)

Lies, Damn Lies and Statistics

Gerald W. Bracey dug out the source behind three numbers in today's WP: 600,000, 350,000 and 70,000. These are, allegedly, the number of engineers produced in 2004 in China, India and the United States, respectively.

His conclusion:

"Statistics that end up as conventional wisdom even when they're wrong usually become popular by being presented as fact in a highly visible and respected source -- such as a cover story in Fortune or a National Academies report."

Read more here.

But who is to blame?

The news reporters who do not bother to check the accuracy of their numbers. Or the consumers of those numbers, like you and me?

If the responsibility is on us, the consumers, to verfiy the authenticity of the numbers, how much time can we spare each day for doing that? Time constraints imply that we are extremely easy to be misled by such statistics. Our decisions which are based upon at least partially on those statistics will be similarly affected as well.

Will competition among different papers ensure that reporters do their checking but citing statistics? One can only hope so, but I doubt it.

Also puzzling is why reporters are not as diligent in checking their numbers as one would expect.

To build up credibility and reputation (or simply to protect these attributes in the case of renown reporters), one would expect the reporters have the right incentives to do their checking. Is it because a number that is intended to stir up emotions of the readers matters much more in boosting sales than an accurate one? Afterall, the readers have no time to figure out the number's authenticity anyway.

Hobbsian Jungle, Russian Style

"In Russia's early transition days, amid the collapse of authority and resulting lawlessness, organized crime groups wielded great influence. Teams of armed thugs used to carry out takeovers, arriving at a businessman's door with little to back them up but the threat of violence, even murder. Indeed, contract murders reached a frequency of more than one a day in the mid-1990's.

Later, law enforcement, from the tax police to special forces units, played a role in forcing transfers of property in the scramble for assets of the former Soviet state.

In what became known as "masky shows," police officers, their faces often hidden behind ski masks, swarmed into a business to intimidate employees and force concessions from owners. The headquarters of the Yukos oil company, for example, were the scene of a series of high-profile masky shows. .

Now, the trend in business crime in Russia is decidedly white-collar — with the faking of documents, hiring of lawyers or payoff of judges — but no less insidious, Mr. Matthews and other business owners say."

That is from a story in NYT, read more here.

Questions I have:

1) What prompted the change in the form of property takings? Was it endogenous to some other changes in institutions?

2) Why companies did not hire private protective agencies to protect them from predators? One answer might be that only large firms had the resources to do so, but not for most mid and small size concerns...

A Tale of Entrepreneurship and Success

In this fascinating story, the tale of the rise and success of Southwest Airline is told through the recollections of its founders.

Why John K Galbraith Didn't Get the Nobel Prize

"Nobel prizes are sometimes awarded to scholars who are wrong for the right reasons, but almost never to those who are right for the wrong reasons."

Here is Bob Frank on John Kenneth Galbraith.

Ballooning Red Tape

"A report to be released this week by the Mercatus Center at George Mason University and the Weidenbaum Center at Washington University finds that the feds have also been on a regulatory rampage that needs squelching.

From 2001 to 2006, the number of federal regulatory personnel has risen by one-third (or 66,000 more snoopers); regulatory budgets are up by 52% after inflation; and the Federal Register -- which prints all that regulatory verbiage -- has climbed by more than 10,000 pages."

That is from today's edition of WSJ, read more here.

The BOOK

My former teacher Tyler Cowen wrote in his blog:

"If you want to read one book on how the economics profession works, this is it."

Read more here.

The book he is referring to is David Warsh's Knowledge and the Wealth of Nations.

Chicago's Bob Lucas wrote:

"David Warsh does a marvelous job with the story of Paul Romer and the new growth theory. His description of what Paul did is accurate and exciting, and it gives a great sense of the way theoretical economics is done today and of how it contributes to advances on the questions that Adam Smith and David Ricardo posed 200 years ago.”

For more info about the book, check this out.

China's Banks: Safest Place to Put Your Savings

Today's edition of WSJ reported that China is planning to launch a deposit insurance scheme similar to that found in the US, read more here.

Wait a minute you say, aren't Chinese banks already have implicit guarantee of some sort?

Indeed. Afterall, they are all state-owned banks, aren't they?

Hong Kong: A "Premier Knowledge Economy"

I know Hong Kong is fast shaping up as a leading "knowledge economy" when I learn about the following facts yesterday:

A guy with a high school diploma working as a lab technician earns US $ 5,385 dollars per month, and a guy with a Ph.D. in economics from the U.S. earns US $ 5,256 a month.

If such mismatch between talents and jobs can occur in a supposedly free market economy, one cannot even begin to fathom similar losses incurred under a centrally planned economy.

When Government Means Theft

"A new government in Bolivia, anxious to win public support, charges the big foreign oil companies with fraud and confiscates their local properties. The move generates applause among Bolivian citizens and attracts attention throughout Latin America.
The year: 1937.

Seven decades later, Latin America is experiencing another wave of nationalist fervor, fueled by old resentments and rising energy prices. Inspired in part by the economic nationalism of Venezuelan leader Hugo Chavez, new Bolivian President Evo Morales celebrated his 100th day in office Monday with a reprise of 1937: charging foreign oil firms with corruption and sending troops to seize control of the oil and gas fields."

Read more here.

As if Coase's 1960 piece never exists

"It doesn't have to be complicated. Estimate the monetary cost of the negative externalities associated with gasoline use, set the appropriate tax, and then do nothing else. The market price then sends the correct signal to investors about how to take advantage of new opportunities in alternative energy."

No, no, no, I did not take this passage straight out from Pigou's "Economics of Welfare." It is from a post written by economist Andrew Samwick at his blog, read more here.

Frankly, I am shocked by the fact more than 40 years after publication of "The Problem of Social Costs", there are still economists out there who buy into the whole Pigovian taxation approach in dealing with "externalities."

But does the term externality have any economic meaning at all?

Back in the 1970, Professor Steven Cheung wrote in "The Structure of a Contract and a Theory of Non-exclusive Resource", Journal of Law and Economics:

"The process of arriving at a useful concept of analysis is not only slow andpainful, but may also go astray and attain nothing useful. Someone begins withone example or observation, followed by a theory which is intuitively plausible.A theoretical term associated with a vague concept is coined. Examples of aseemingly different type emerge, which call for another theory. The process goeson. As examples and theories continue to accumulate, the different categoriesunder the same heading of analysis serve only to confuse and each associatedtheory becomes ad hoc. Such has been the fate of the concept of ‘externality.'"

That still rings true today!

When an Economist Meets a Politican

"The advice you have given me, sound that it may be, is essentially from the economic point of view, and I have told you, on many occasions, that I cannot always follow this advice as I am a politician and must gamble on the future."

That was what Ghana's Nkrumah told Arthur Lewis, a Nobel Prize winner in economics, while Lewis was the former's economic adviser.

The passage appears in a book on Arthur Lewis entitled "W. Arthur Lewis and the Birth of Development Economics."

Desperate Mickey

Hong Kong Disneyland turns out not to be a tourist magnet.

In a bid to attract more visitors, they have tried almost everything. Yes, I mean everything.

They have gotten rid of senior staff (or they quit on their own depending on whether you are looking at the matter from a shareholder or an employee perspective), they have tried issuing new tickets that allow visitors to use the same ticket to enter the venue twice, they have tried to be nice to the unions (yes, the unions) and now they try to be nice to the cab drivers!

Cab drivers, you ask. Yes, cab drivers I answer.

Here is the latest from SCMP:

"The city's 50,000 taxi drivers were invited to join the free ticket promotion in Tung Chung, Susan Chan Shou-san, publicity director of Hong Kong Disneyland, said yesterday."

Read more here.

Costs of Unanimity

WTO's rules dictate that trade deals have to be approved by all its members. The upside of this decision rule is that nobody gets screwed of course. Unanimity does have its costs however. It generates the possibility of hold-ups.

France is exactly doing this according to this Washington Post story.

Coase vs Demsetz on Externality

"Yet, Coasean analysis of externalities has been the subject of much
confusion, even disagreement. Demsetz (2003) in particular has
pointed to aspects of the Coase approach that, as a matter of both
economics and of government policy, he finds problematic. As a matter
of economics, Demsetz says, Coase’s focus on transaction costs is
not helpful in resolving questions concerning externalities."

This is from Fred McChesney in the latest issue of the Cato Journal. Read more here.

Bittersweet Tune

Every breath you take, Every change of rate,

Jobs you don't create, While we still stagflate,

I'll be watching you.

Every single day, Bernanke takes my pay,

When growth goes away, inflation will stay,

And I'll be watching you.

And:

Oh can't you see, the Fed's where I should be,

How my poor heart aches, at each mistake you make.

Recall the original song on which the lines above are based? The Police's "Every Breath You Take." Read more here.

Cultural Difference

In today's edition of WSJ, there is a fascinating story about how Americans are climbing up the corporate ladder within the big three Japanese carmarkers. One line caught my eye.

"You get on an airplane and the American will get right to work...We Japanese will watch the movie and drink."

Read the piece here.

Conference in Honor of Jack Hirshleifer

A group of renowned economists gathered in March at UCLA to pay their last tributes to UCLA economics professor Jack Hirshleifer. Here is the official website and here is a paper by Harold Demsetz on the development of economics. Professor Hirshleifer passed away in July last year.

Eureka! Or Professor Steven Cheung Got it Right, Again!

In a latest NBER working paper, Yale professor Peter Schott found that:

"China’s export bundle increasingly overlaps with that of more developed countries, rendering it more “sophisticated” than countries with similar relative endowments."

Read the paper here.

Indeed, Professor Steven N.S.Cheung has made similar remarks years ago in his Chinese writings. Hat tip to the Professor Cheung once again for his keen observations on China's economy.

Free Markets in Japan, Finally!

In the Sunday edition of the NYT, there is a story on growing income gap in Japan amid the economy's continued revival after a decade-long slump. Of course, in the eyes of the NYT, income inequality is a big minus.

"Today, in a country whose view of itself was once captured in the slogan, "100 million, all-middle class society," catchphrases harshly sort people into "winners" and "losers," and describe Japan as a "society of widening disparities.""

What brings about income inequality in the first place?

Shouldn't people who are more productive (in the value-creating sense) get higher rewards than those who are less productive? Unless every one is equally productive, the "100 million, all-middle class society" implies that Japan's labor market is not doing its job.

In other words, growing income inequality in Japan means that markets are finally allowed to work properly in Japan. And what's wrong with that!

One Loser SOE + Another Loser SOE = World Class Enterprise

A plan to merge two government-owned entities, MTR (an underground rail corporation) and KCRC (a railway company), has finally got the green light to go ahead. Read the government press release here.

Funny thing is, commenting on the merger, our head of the government said that "The merger will create a world class Hong Kong railway company and consolidate Hong Kong's status as Asia's World City." Read all of his comments here.

Without any plan for full privatization down the road, how the merged entity (which continued to be a state-owned enterprise albeit a giant one) could be transformed into a "world class concern" is a mystery that even Sherlock Holmes would find it tough to figure out.

And if HK really needs to depend on a giant SOE to consolidate HK's status as Asia's World City, we better call Beijing up and tell them: Beijing, Beijing, we have a serious problem!

Problem down the road as I see it. To placate populists in the legislature, the government will try VERY HARD to lower the prices for both the MTR and KCRC. To avoid losses, the government will further distort the local transportation market through additional restrictions on other modes of transport to compete with the new entity.

If you cannot charge a market price to recoup your fixed costs, you have to increase the number of customers by forcing those people who would not ride on the rail if given another option to become new customers. This is so because the railway business has relatively high fixed costs compared with the marginal costs of serving another passenger.

Thomas Friedman: Amateur or Guru?

What makes NYT columnist Thomas Friedman's The World is Flat such a big hit remains a mystery to me....I mean if you want to know about the impacts of globalization, why don't you get a book written by real experts in the field like In Defence of Globalization by J. Bagwatti or Free Trade under Fire by Doug Irwin (who is a student of Bhagwati).

Bagwatti's and Irwin's books are targeted at the general audience so they are written in an accessible language that is free of jargons. If you can get the stuff from the horse's mouth, then why bother with a merchant of second hand ideas like Friedman?

Am I missing something? Does Friedman really has something insightful and important to say on this topic?

Nop, nop, nop...

Read this insightful and negative review of Friedman's book by UCLA trade economist Ed Leamer here.

Quote of the Day

"Warning people about purported free lunches is one reason God put economists on earth."

That's a line from Greg Mankiw's latest post on health care, read it here.

Joe VS Hillary Clinton

Hillary Clinton(HC) : "I think a return to fiscal discipline, living within our means, is essential to our long-term health."

Joe, an Econ 101 student who doesn't use Joe Stiglitz's undergraudate text: That is easy, just ask the government to spend less, waste less and do less.

HC: "It is also critical to whether or not we control our own destiny as a nation. Red-ink fiscal policies will undermine America's competitiveness. We have to ask ourselves whether our taxing and spending policies are in line with our economic goals."

Joe: If she is referring to US as a nation when she mentioned "our economic goals", that is nonsense. For a country, unlike a person, cannot have its own goals. And if she is referring to each and every American citizens, then what she said is nonsense as well. For there is no set of economic policies that would make everybody happy.

HC: "America did not build the greatest economy in the world because we had rich people... We built the greatest economy in the world because we built the American middle class."

JOE: First of all, the market is not something that you build nor create. It emerges. Once you think otherwise, the government will then think that it has the ability to tinker with the operation of the market. Well, if you could create a market, it is only logical for you to have the ability to steer it onto some other path as well.

Second, the operation of the market does not favor any particular class. Yes, not even the middle class. Historically, markets, if unfettered, make the emergence of the middle class possible. But that is different from saying that the market has a bias towards certain class.

If you want to read more on Hillary's thoughts on economic policies, read the Washington Post story here.

Civil Society In China

In a story in NYT, it reported on the increasing effectiveness of NGOs in China in fostering the establishment of a civil society and in changing the direction of government policy.

"Officially, there are about 280,000 of them registered in China, an extraordinary number considering there were virtually none as recently as the early 1990's. Some experts estimate there are now two million to eight million such groups, many of them very small and most of them simply ignoring government registration requirements."

Read the whole thing here.

Who will be the Next Vice-chairman of the Fed?

This story in WSJ reported on who are the likely candidates.

James Buchanan Lecture Series

Deirdre McCloskey delivered the inaugural Jim Buchanan Lecture last week. The title of her paper is: The Hobbes Problem: From Machiavelli to Buchanan. HT to Marginal Revolution for the pointer.

Should Government Intervene when Externalities Occur?

A big problem with the argument that goverment action is justified whenver externalities occur in the market is the implicit assumption of the absence of externalities resulting from that very same government action.

That is the bottom line of this very intelligent post on the topic by Jeff Miron, you have got to read it.

Economic Logic: Casualty of Political Calculation

Here is the latest from WSJ, "French President Jacques Chirac, bowing to intense pressure from students and unions, announced plans Monday to replace a contested employment law that triggered massive protests and strikes across France."

Read the whole story here.

Here is what A. De Jasay has to say about Chirac and the recent riots:

"Many observers, including President Chirac, are convinced that the French are ferocious by temperament and must be treated with kid gloves, for if their violence is met by violence, mayhem and civil war will break out and blood will flow in the gutters.

France has one of the world's largest, and very efficient, riot police, the CRS that, however, is hardly ever used in politically sensitive conflicts for fear that worse might ensue. In his 11 years as president, Mr. Chirac has never faced down street crowds and has been especially quick to capitulate when all too necessary school and university reforms were met, as they always were, with protests by students and their teachers."

Read it here.

We Don't Have Clients; We Have Suspects!

"The US government during the Clinton Administration tried to make various agencies more client friendly. According to anecdote by John Nellis, the response of Customs officials to this initiative was "We don't have clients; we have suspects.""

That is from Bill Easterly's White Man's Burden, and John Nellis is a non-resident fellow at Center for Global Development.

Lords of Poverty

In response to a piece published in Cato Unbound by Bill Easterly, UCLA economist Deepak Lal wrote in response:

"The unpalatable truth for the many well meaning people who are moved by world poverty and want to do something is that, over the years, alleviating world poverty has become a large international business from which a large number of middle class professionals derive a good living.

They have been aptly described by a former East African correspondent of the Economist as the "Lords of Poverty."[2] Easterly's suggestions for making aid effective will merely provide them a new play! The truth is that aid is not only ineffective; it is actually counterproductive. It will be a cruel joke on the Amaretch's of the world if it is now believed that some bureaucratic fix of the aid machinery will get them to school."

Read the whole thing here.


BTW, Lal has a new book that will come out this year on Classical Liberalism. The cover of the book is shown here.

Playing For Real

In 1991, Ken Binmore published his excellent game theory text Fun and Games. Since then, readers like me have been waiting anxiously for him to bring this book up-to-date with recent advances in game theory.

Finally, Oxford U Press will publish the revised edition of the text with a new title Playing for Real. Can't wait to see that.

For those who are unaware of it, Ken has a book out last year entitled Natural Justice in which he uses game theory to analyse moral behavior.

Let Them Eat Cake!

In a negative review of Bill Easterly's book The White Man's Burden, World Bank economist Branko Milanovic wrote, "It is somewhat ironic, I think, that Bill Easterly, who has spent a large part of his life working on issues of growth, poverty and inequality in poor countries and whose knowledge and intellectual capacity is second to none, has written a book that, despite his protestation to the contrary, will be used to set back the agenda of poverty alleviation and provides an argument for those who have long argued that the best policy is to do nothing and ignore the poor world. Let them eat cake!"

Read it here and a short summary of Bill's book here.

The gentleman in the picture is Bill.

Greg Mankiw on the Austrian School

A student of Greg Mankiw asked him if he has read Human Action by Ludwig Von Mises. Here is his response:

"The truthful, if slightly embarrassing, answer is that I have not read the book. Explaining why may be somewhat edifying, however, so let me reflect on the reasons (not excuses) for my ignorance.First, most economists at research universities focus their attention on recent work. Things written more than twenty or thirty years ago are usually assumed to be irrelevant, out-dated, or incorporated into more recent work. We rarely focus on something like the Mises book (written in 1949) for the same reason that physicists don't read Newton in the original.

Second, at the mainstream schools where I have spent my education and career (Princeton, MIT, and Harvard), the economists of the Austrian school like Mises are often viewed as fringe figures. Rightly or wrongly, they rarely show up on reading lists. I am confident that while I was a student at Princeton and MIT, I was assigned not a single article by an economist in the Austrian tradition.That judgment might well be unfair. Another prominent Austrian economist is Frederic Hayek, who won the Nobel prize in economics. Cognizant of my ignorance of his work, a few years ago I read (and assigned in a Harvard freshman seminar) his classic book The Road to Serfdom. I thought it was terrific." Read the rest of his post here.

In case you are curious, read Human Action for free here.

Greg Mankiw on Outsourcing

Here is Greg Mankiw on Outsourcing and here is his blog which he uses to communicate with his students. Posted above is a picture of Greg, a nice one I would say.

Yes, it's George Mason again but not about Basketball

A former student at GMU recalled his fond memories of his education at George Mason in this story in WSJ.

Above is a picture of Enterprise Hall, where the Econ department is located and where I used to have an office with a view of the George's Hall, the site where Center for the Study of Public Choice is located...I sure have good memories of my education as well...GO MASON!

Trade Guru on Immigration

Here is J. Bhagwati's, a Columbia University economist, oped on immigration published in WSJ.

What is Missing in the US's Immigration Debate

The debate on a controversial immigration bill is brewing on the Capitol Hill, read the report here in the Washington Post.

The story said, "A growing body of economic research contends that the recent surge of foreign workers has depressed wages for low-skilled workers, especially for high school dropouts, and has even begun displacing native-born workers. That benefits employers, higher-income consumers and the economy at large, but it may exacerbate the problems of the working class."

The whole issue is framed as a distributional one, employers gain (because of low wages as the supply of unskilled labor surges) at the expense of low-skilled workers.

But let's look at it from another perspective, let's think about the new immigrants would enlarge the size of the US market, and an enlarged market means there are more opportunities for further specialization and division of labor and hence more opportunities for beneficial exchanges are opened up as result.

Jim Buchanan had a nice little book, though not directly addressing the issue of immigration, that touched on the topic of how the enlargement of the market extends the opportunities of specialization and how this will bring fruits to everybody involved.

Game Theory at B-Schools

WSJ reported that game theory is becoming more and more popular in MBA programs, especially with economists getting Nobels for their contribution to the field. Read the story here.

Indeed, there are several excellent game theory texts that have B-school students as their target customers. The most popular one is doubtless Thinking Strategically written by A. Dixit and Barry Nalebuff. Other important ones include Co-Opetition by Adam Brandenburger and Barry Nalebuff and Games, Strategies and Managers by John McMillan.

George Mason U. in Washington Post and WSJ

After GMU's basket ball team got a spot in NCAA's final 4, GMU suddenly becomes talk of the town.

Read the Washington Post story here and the WSJ story here and here.

When Google Goes to Washington

Northwestern University law and economics scholar Fred McChesney wrote a book on how the government, through mere regulatory threats, can solicit rents from businesses back in 1997.

According to professor McChesney, that theory (called rent-extraction theory) explains why we observe less regulations than we would have expected because a credible threat of regulation would be enough to bring about rents without the regulatory threats being actually implemented.

In NYT today, there is a story about how Google has to follow the footpaths of other low-tech firms in building up a strong presence in K street. The story tells another tale of how rent-extraction works in practice. Read the whole thing here.

Price Discrimination in Competitive Markets

"Standard economics has long held that firms can price discriminate only when they have monopoly power. Antitrust authorities and other regulators are thus tempted to use the existence of price discrimination as one indicator that a firm should possibly be subject to government investigation. In this monograph Professor Baumol shows that price discrimination not only exists in competitive markets but sometimes is a crucial feature of them. Baumol concludes by urging regulators to tread carefully when applying theory to policy. "

This is from a monograph written by Bill Baumol, a retired professor at NYU.

Price discrimination in a competitive markets, is that really a "new" discovery?

Professor Steven N.S. Cheung noted as early as 1983 in his What the Tangerine Seller Said, a book of his newspaper columns in Chinese, that his own experience from selling tangerine during the Chinese New Year was that price discrimination was widespread even when your neighboring stores were selling exactly the same things as yours.

Is Democracy a Western Thing ?

This is a question Amartya Sen posed in his WSJ oped, read it here. Sen answered negative to the question.

I am basically in agreement with his argument until he wrote:

"When it is asked whether Western countries can "impose" democracy on the non-Western world, even the language reflects a confusion centering on the idea of "imposition," since it implies a proprietary belief that democracy "belongs" to the West, taking it to be a quintessentially "Western" idea which has originated and flourished exclusively in the West. This is a thoroughly misleading way of understanding the history and the contemporary prospects of democracy."

I beg to differ. To me, "imposition" means something different from what Sen suggested above when applied in the debate on exporting democracy to other non-democratic country.

"Imposing democacy" means introducing democracy to a non-democracy countries without first taking local conditions into account. It is a criticism of the means through which democracy is introduced, not the end it self ie whether democracy should or should not be introduced in the first place.

That is, I suppose, the main lesson that one can draw from Bill Easterly's "The White Man's Burden" as well.

Using Legislation to Sabotage Competitors

NYT's David Leonhardt has written a telling tale on how entrenched airlines companies used the law to stifle competition, read it here.

The Costs of Saying No to Capitalism

French youth took to the street to protest free market policies...Washington Post's Steve Pearlstein does not find it so difficult to understand what caused these kids to take to the street to express themselves: The French see the free market as a villain.

"A telling poll released in January by the Program on International Policy Attitudes at the University of Maryland found that only 36 percent of French respondents felt that "the free enterprise system and free market economy" is the best system. That's the lowest response from any of the 22 countries polled and compares with 59 percent in Italy, 65 percent in Germany, 66 percent in Britain and 71 percent in the United States."

Pearlstein also pointed out, correctly I think, the government is to be blamed in causing such riots as well.

"After all, the supposedly center-right government that pushed through the new youth-employment contract is the same government that adamantly refused to give up subsidies for farmers, stepped in to prevent foreign takeovers of French companies and, just last week, demanded that Apple iPods accept music downloads from iTunes competitors (read: French competitors). But having declared, in effect, that markets cannot be trusted to generate socially and politically acceptable outcomes, the same government is now shocked to find that it doesn't have much credibility when it asks workers to trust markets when it comes to the terms of their employment."

But this is the sad part of the story:

"when you ask French university students who is the Bill Gates of France, they look at you blankly. It's not simply that they can't name one. The bigger problem is that they can't imagine why it matters, or why that has anything to do with why they can't find a good job."

Incentive Pay for Teachers

"A new pay-for-performance program for Florida's teachers will tie raises and bonuses directly to pupils' standardized-test scores beginning next year, marking the first time a state has so closely linked the wages of individual school personnel to their students' exam results.

The effort, now being adopted by local districts, is viewed as a landmark in the movement to restructure American schools by having them face the same kind of competitive pressures placed on private enterprise, and advocates say it could serve as a national model to replace traditional teacher pay plans that award raises based largely on academic degrees and years of experience.

Gov. Jeb Bush (R) has characterized the new policy, which bases a teacher's pay on improvements in test scores, as a matter of common sense, asking, "What's wrong about paying good teachers more for doing a better job?""

Read the whole thing here.

The story also contained responses from "educators" who said that test scores should not be the sole criterion to judge teachers' performance.

The implicit economics in this claim is this: teachers have to perform many different tasks and their efforts in most cases are difficult to evaluate. So by linking incentives to test scores alone, a relatively good indicator of teachers' efforts and their effectiveness, this claim implies that less efforts will be allocated to those other tasks to the detriment of students.

Will this happen? If efforts and their effectiveness are so difficult to measure in those other tasks (inspiring students say), how can we be so sure that teachers will not slack on those other tasks in the first place before the introduction of the pay for performance scheme? Now that with the incentive scheme, at least we will be quite damn sure that more efforts will be put in those tasks that will improve students' test scores.

Go Mason!

It turns out that George Mason has many other nice things to offer other than economics, law and info tech...

LA Times headline wrote: George Mason Brings Down the Champ. Read it here.

Another story also in the Times has this nice description of George Mason:

George Mason is a relatively new university, founded in 1972 as part of the University of Virginia system. Its original goal was to provide education in subjects of importance to the growing community of government workers in Northern Virginia. It has well-regarded schools of public policy and informational technology. It was mainly a commuter school until about 15 years ago.

But now George Mason is the largest university in the state. It has 29,000 students. It has two Nobel Prize winners in its economics department. It has a groundbreaking department of microbiology.

Constitutional Economics

Victor Vanberg has a new paper on Constitutional Economics, read it here. Vanberg used to teach at George Mason University while I was there.

More on the "White Man's Burden"

In my previous post, I have provided a link to a review of the book "White Man's Burden" by Amartya Sen, here is the response to it by the author Bill Easterly.

Some other book reviews have also been posted by Bill on his website, here is one that appeared on NYT, and another one that appeared on WSJ.

Gordon Tullock on Foreign Policy

Yes, and it seems he is trying to write a book on the topic as well, read Chapter 1 here.

Funny Quote of the Day

Under Communism, the Poles are fond of saying, only the future is certain:

The Past is always changing.

G. Warren Nutter 1969

More on the Costs of the Iraq War

Gary Becker and Dick Posner weighed in on the costs of the war on Iraq. Read it here.

It seems the costs on the war on Iraq has become a hot topic. In the lastest issue of the Economist's Voice, there are two pieces on the topic, one by Scott Wallsten with the American Enterprise Institute and one by Joe Stiglitz.

Thankyou Capitalism

My son, at 4, has almost fully recovered from the surgery he had three days ago.

On top of my wife, who brought him to the hospital that day, I must thank capitalism.

The reason for that is left for the reader as an exercise.

Demand Curve for Terrorism Slopes Downward

Washington Post columnist Anne Applebaum has a very good piece on the folly of the US to creat a list of "critical infrastructure" where the items on the list will be offlimits to foriegn investors.

Indeed, though it may appear to be counter-intuitive, the US really ought to encourage foreigners -- especially those who pose potential threats to US security -- to invest in US assets. If that means giving them tax breaks as inducements, such insurance premium would be dirt cheap in comparison with the trillions of dollars being spent on homeland security.

Why?

Things contained in the list are critical assets right? They are designated as critical supposedly because they will be the first targets enemies will pick when they plan to attack the US right?

If that is the case, you should prefer those assets to be owned by the very opponents of the US who are contemplating to attack the US in general and those assets in the list in particular.

Doing so raises the price of attacking those very assets and with demand curve for attack slopes downward, need I say more?

Voter Ignorance

In a WSJ article on minimum wage, it cited a poll which finds that "more than 80% of Americans surveyed said they were in favor of "Congress passing legislation that would raise the minimum wage," with only 14% saying they would disagree."

""This issue is so popular among the entire public that Republican voters don't even realize they're supposed to vote against these initiatives," says Kristina Wilfore, executive director of the Ballot Initiative Strategy Center, a left-leaning umbrella group backed by labor unions and financier George Soros."

Read more here.

For an insightful analysis of the consequences of voter ignorance on the operation of democracy, read the paper here and here.

Freakonomics in the Classroom!

It turns that a lot of colleges have adopted Freakonomics as a teaching tool. Now a study guide to help students using the book to navigate through the text is out, yes, there is a study guide for Freakonomics. You can download it here.

Just When You Think India is Ahead of China in R&D

According to a WSJ story, last year China's R&D spending accounted for 1.3 % of GDP. India, the fiscal year ended in March 2005, R&D spending amounted to 0.77 % of GDP.

Read the story here.

The Economcis of War

In the latest NBER working paper, Bob Topel, Kevin Murphy and Steve Davis (all of them with the University of Chicago) find that:

"According to our analysis, pre-invasion views about the likely course of the Iraq intervention imply present value costs for the United States in the range of $100 to $870 billion.

Our estimated present value cost for the containment policy is nearly $300 billion and ranges upward to $700 billion when we account for several risks stressed by national security analysts.

Our analysis also indicates that war and forcible regime change will yield large improvements in the economic well-being of most Iraqis relative to their prospects under the containment policy, and that the Iraqi death toll would likely be greater under containment."

However, in an earlier paper, Nobel Prize winner Joe Stiglitz and his coauthor find it costly/uneconomical to wage the war in Iraq.

Who is right?

The Road to Serfdom, in Cartoon !

Yes, it is the Road to Serfdom written by F. Hayek. Watch the cartoon here.
Hat tip to Marginal Revolution for the pointer!

A Personal Note

Dear Readers of this Blog:

As my son will undergo an eye surgery tomorrow (14 March), I may not be able to update my blog as frequent as I would like. Sorry about that and many thanks for your support and understanding.

Funny Quote of the Day

I got my copy of Bill Easterly's new book last Saturday and have started reading it, so far so good. When I was reading it earlier today, a really funny line caught my eye.

The lack of accountability at the foreign aid agenices, according to Easterly, is just like "the bumper sticker I once saw on an eighteen wheeler: DON'T LIKE MY DRIVING? CALL 1-800-SCREW-YOU."

I have never imagined that economics books can be that funny!

Experimental Economics

You know experimental economics is gainning wider acceptable among mainstream economists when there are more and more undergraduate/MBA level textbooks coming on to the market.

Here is the latest forthcoming text by UVA's expert in experimental economics Charlie Holt (I think he is Jim Buchanan's student).

The new book will be published by Addison Wesley later this year.

More Open Government in China, One Step at A Time

Today's WSJ again has a nice piece on how China's legislature, hitherto viewed as nothing but a rubber stamp has finally changed and become more assertative.

"China's traditionally rubber-stamp legislature is taking on a new role: a target for interest groups to lobby.

With nearly 3,000 delegates gathered in the capital until next week for the annual meeting of the National People's Congress, some representatives of different interest groups have also flocked to Beijing. They have been seeking to win the ears of delegates on the sidelines of the 10-day meeting on issues from tax policy to antidiscrimination measures for hepatitis B carriers...

Delegates -- who meet once a year to rubber stamp the premier's work report, the state budget and any bills that have been teed up -- are also becoming more outspoken in representing their constituencies."

Read the whole thing here. The slow but gradual openning of China's government is one very important reason why I think all those who predict China's pending collapse is wrong, and dead wrong on that.

How Markets Engender China's Freedom of Expression

In today's edition of WSJ, Harvard scholar Merle Goldman has a nice piece on how China's market development engenders freedom of expression there.

"Although China remains an authoritarian Communist party-state, its totalitarian controls have been loosened due to China's opening to the outside world and moves toward the market. As most newspapers lost their government subsidies and had to support themselves, they became more daring and more responsive to their constituencies' concerns in order to attract readers.

In addition, China's exposure to the outside world through business, travel and the Internet has allowed a limited degree of freedom in the personal lives of individuals. Such changes have made a small number of people less fearful and more willing to speak their mind. This new stage of unprecedented boldness may in time help introduce political institutions that can deal more effectively with the urgent problems that China faces today."

Read the whole thing here.

Why the US Should Welcome Investors from Middle East

Paul Blustein of the Washington Post wrote:

"Already, the list of U.S. businesses owned by Arab investors -- not just from Dubai -- includes some well-known names. Among them are Caribou Coffee Co., the fast-growing rival to Starbucks Corp.; Church's Chicken, a fast-food concern; Loehmann's, a specialty retailer; TLC Health Care Services Inc., a provider of home nursing and hospice care; and even several financial publications, including the American Banker.

Such "direct" investment in hard assets -- companies, factories and real estate -- is generally preferable for the U.S. economy, in the view of most economists, to foreign investment in bonds, stocks and other financial assets. One advantage of direct investments is that they cannot be dumped in a panic the way that, say, a Treasury bond can...

The main drawback of a direct investment is that it involves foreign control, which can raise national security concerns..."

Read the story here.

The way I see it, far from creating security concerns, direct foreign investment can actually help lower the risk of a foreign attack, whether of the conventional or the terrorist kind. How?

Imagine you were a terrorist, which target you would hit first, a place where you had a lot at stake through investment or a place where you have no personal interests at stake.

An untended consequence of the US welcoming FDI from hostile groups, countries, individuals is that it would raise the likelihood of an attack on other US allies say the Brits.

What Readers Really Want?

David Friedman has written an extremely perceptive post on the media.

"I often use my car's satellite radio to listen to political talk shows. The experience is not encouraging. Most of the content, left and right, amounts to "our side is wise and virtuous, hooray, their side is stupid and evil, boo"...Being nice is less dramatic than being nasty."

Right on. I was for awhile (one year and eight months to be exact) an editorial writer for one of the best selling papers here in HK. One day, my then boss met me in the office and told me what I wrote was boring. I then asked him how I could make my column interesting.

Just yell at your opponents and let them know they were stupid was his reply. I then asked what about logic? To hell with logic responded my then boss. "Who cares about logic? We are not in the business of selling knowledge anyway," said my then boss. All I needed to do, I was told, was to appeal to my readers' emotions.

Weeks later, I quit. David Frideman nicely captures how I feel about the whole thing. As an editorial writer who believes in the free market, I tried to treat people I disagreed "with honestly and sympathetically, conceding the parts of their argument that are correct while disputing the parts that are not." Unfortunately, that style of writing was not what my boss expected from me apparently because such an approach was "less effective...than telling them what idiots they are—especially if most of your listeners are already on your side."

Question: Say if someone already is a believer in free market, why would he or she spend time or money on radio programs, talkshows, and newspaper which provide nothing to him/her other than reaffirming his/her prior beliefs? Or is reaffirmation of his/her prior beliefs all he/she wants in the first place from such media outlets?

Rejuvenator of Urban Economics

Harvard economics professor Ed. Glaeser is featured in this NYT piece.

The best part of the story is when Glaeser recounted on how he got interested in learning economics.

When Glaeser was 10, his mother brought him along to her MBA classes. "Some adults remember fondly the first time they went to a major-league baseball game. Glaeser recalls a revelatory experience as a youngster when his mother sat him down and explained marginal cost pricing."

Hat-tip to Marginal Revolution for the pointer.

Sen on Easterly

Much has been said about Bill Easterly's new book, "The White Man's Burden: Why the West's Efforts to Aid the Rest Have Done So Much Ill and So Little Good." The book has not come out yet, but here is a book review (only mildly positive) by Amartya Sen in the latest issue of Foreign Affairs.

Economic Hit Man Gets Hit!

Who would believe that on top of Freakonomics, Confessions of an Economic Hit Man also made it to the NYT bestselling list!

I have never read the book, but I have read a few write-ups of those who did. His thesis strikes me as nothing but a rehash of the first world exploiting the third world kind of theory. What surprises me is a lot of those reviews that I read, however, tend to give a big thumbs up to the book. Until now that is.

The author of the World's Banker, Washington Post columnist S Mallaby on Monday wrote "
The world, says Perkins, is governed by a shadowy "corporatocracy," an invisible empire of wealth and greed that deploys a combination of bribes, assassins and seductive women to enslave the poorest countries... his account of international finance is itself largely a dream...Even if you believe the stories of seducers and assassins, which other journalists have questioned, Perkins's basic contentions are flat wrong."

Read the whole story here.

Would You Rather be a Dog under Such Circumstances?

"This is a country in which dogs can get a hip replacement in under a week and in which humans can wait two to three years," said Dr. Brian Day.

Guess which country Brian is referring to? Would you rather be a dog than a human under such circumstances? No, no, no this is not a war-torn, corrupt, and underdeveloped nation that is hard to locate on the map...it is

Find out here.

Hat tip to Russell Roberts at Cafe Hayek for the pointer.

Unintended Consequences of Human Action

"Until he was 40, Hobbes was a talented scholar exhibiting modest originality. Versed in the humanities, he was dissatisfied with his erudition, and had little exposure to the exciting new breakthroughs achieved by Galileo, Kepler and other scientists who were then revolutionizing the scholarly world.

One day, in a library, Hobbes saw a display copy of Euclid's Elements opened to Book I Proposition 47, Pythagoras's theorem. He was so astounded by what he read that he used a profanity that his first biographer, John Aubrey, refused to spell out: " 'By G__' Hobbes swore, 'this is impossible!'." He read on, intrigued. The demonstration referred him to other propositions, and he was soon convinced that the startling theorem was true.

Hobbes was transformed. He began obsessively drawing figures and writing calculations on bed sheets and even on his thigh. His approach to scholarship changed. He began to chastise philosophers of the day for their lack of rigour and for being unduly impressed by their forebearers. Hobbes compared other philosophers unfavourably with mathematicians, who proceeded slowly but surely from "low and humble principles" that everyone understood.

In books such as Leviathan, Hobbes reconstructed political philosophy by establishing clear definitions of terms, then working out implications in an orderly fashion. Pythagoras's theorem had taught him a new way to reason and to present persuasively its fruits."

Read the whole thing here.

Why We Need International Trade Statistics?

Arnold Kling asked in his latest blogpost, "Why do International Trade Statistics Matter?"

The puzzle, as Don Boudreaux's article points out, is that such statistics have minimal economic significance in acutuality. My guess is that international trade statistics matter for the reason why we want to collect them in the first place.

1. Tax (customs duties) may be one reason why government would want to collect such statistics.

2. Some countries may decide that they want to promote certain industries, so they would need international trade statistics to help them implement their industrial policies....saying by taxing certain imports or subsidizing certain exports.

3. Another reason may be related to trade laws and the political system. Say if you have a law in place that allows you to seek help from the government when your industry is harmed by "unfair foreign imports". What you first need to do of course is to collect evidence, and the place to start is of course starting to collect international trade statistics.

Larry Summers

It is official, Larry Summers will quit his job as Harvard's president.

Read the story in NYT here.

The above picture of Larry was taken in mid 1970s at a Brookings event.

The Predicament of Homeschooling

In a series of posts at his blog, David Friedman has made a very strong case for homeschooling, read it here, here and here.

I am all for home schooling. Indeed, I had written several pieces in support of home schooling when I was an editorial writer.

Now I am aware that homeschooling has a potential problem and this problem originates from the signalling theory of education.

No one has said it out loud, but it seems one of the implicit assumptions that the signalling theory needs in order for it to work is that schooling that has to be provided by a formal educational institution. It works like an intermediary between potential employers and empolyees, kind of like the relationship between parties who use the bank as an intermedirary for discharging their obligations involved in transactions. They trust the bank, not each other.
(Question: In the case of education, is this one of the reasons why accredidation is needed?)

Such seems also to be the case for education. Homeschooling changes all this. Will going through the same number of schooling at home be treated as the same as that acquired through formal educational institutions? Will the signal sent through home schooling be credible?

I see two possible solutions to solve this predicatment of homeschooling:

(1) One is that as more and more people switch to home schooling, the market for some sort of certification institution will emerge and it will help distinguish between good homeschoolers and bad ones.

(2) In a way, reputation of the home schoolers' parents are already performing this certification function.

Suppose during an interview you chaired, one candidate told you David Friedman taught him for 15 years at home while the other kid said some guy named Gary Shiu taught her at home for the same number of years, which one would you hire?

Paul Just Doesn't Get it!

In today's edition of the Hong Kong Standard, commenting on whether the government should cut taxes or not, HK Institute of Certified Public Accountants chairman Paul Chan suggested caution with tax cuts. Read it here.

His argument is that "our economy is sensitive to external factors and greatly influenced by the US and the mainland economies, we must be prudent."

Paul, do you mean that money left in the government's vault can help counteract the influences of these external factors then? If so, why do you think the government is better able to spend our money in counteracting the negative effects of these external factors than we do?

Or, do you mean that these external factors will simply go away as long as money is left in the government's vault rather than in our wallets through tax cuts ?

Robert Fogel on China's Growth Potential

I am not allowed to cite this new paper by Chicago economist and Nobel Laureaute Bob Fogel on China, but it is a nice rebutall for all those Chinese doomsayers out there.

Are Your Interests the Only Thing Stockbrokers Care About?

In a NBER paper, the researchers find evidence that:

" An individual analyst will raise his recommendation proportionally to the recommendation that he expects from other analysts. This is intuitive. A given recommendation does not make senses in isolation, but only relative to the recommendations of other analysts. If no one else in the market is issuing recommendations of “market underperform” or “sell”, an individual analysts may give the wrong signal by issuing such a recommendation even if he believes the recommendation is literally true."

Read the paper here.

This paper is important because:

1) Some economists complain about game theory for its lack of empirical content. A good way to defend the usefulness of game theory, as a tool, is to derive implications from the model, and subject them to rigorous testing. This is what the paper does.

2) If peer pressure leads stock analysts to give similar recommendations about stocks at the same time, and buyers tend to follow analysts' advice in their stock picks, then this may very well be one of reasons for why herding behavior is observed in the stock market.

3) The result lends support to Keynes' famous analogy of the stock market as a beauty contest.

4) Further avenue for research is find out whether there is opinion leader in the stock market and if so, what helps establish the status of an opinion leader and what are the implications of such opinion leaders have for the stock market.

This Blog is Listed !

This blog is listed!

Check this out, before I accidently come across this site, I don't even know this thing exists. I do not bet on becoming rich on this though.

Professor Steven Cheung and Contract Theory

A reader of my earlier post asked: "it seems you have become a blind-follower of him (here the reader is referring to professor Steven N.S. Cheung). He claim[s] to have invented the contract theory. Apparently, this claim is not shared in the profession."

Is it true that professor Cheung, as this reader claims, is the only person in the world who believes that he is the pioneer of the field contract economics?

Dean Lueck at U of Arizona wrote a paper entitled," Yoram Barzel and the New institutional Economics." On page 3, footnote 6, he wrote: "Indeed Cheung (1969) can lay claim to first possession of the idea that share contracts are designed to tradeoff moral hazard against risk avoidance. Stiglitz (1974) is usually thought to be the first and is most often cited as such."

Cheung (1969)of course refers to his book "A Theory of Share Tenancy." Need I say more?

To Lie or Not to Lie, That is the Question

A friend of mine back in the US once told me, in the job market, everybody lies. What she means is that when potential employees go for an interview, they lie about their experiences and abilities.

If employers are rational, they should be able to realize that employees lie at job interviews and so would adjust their assessments accordingly. That is, they will discount the claims of the potential hires. The problem is: in a job market where everybody lies and employers response accordingly, what happens to somebody who does not lie?

That friend of mine does not lie in job interviews, and she has a tough time finding a good job despite execellent credentials. The reason, I guess, is that if 98% of potential employees lie at job interviews, it is only reasonable for the employers to pursue the strategy of discounting what job interviewees have to say no matter what. Even if my "poor" but honest friend does not lie, still her credentials will be appropriately discounted by her interviewer as well. Her credentials, though impeccable, then do not stand out from the rest after discounting.

So should pooling (ie. telling lies at job interviews if most people do) be a dominant strategy then? Are there efficient mechanisms for employers to figure out who is lying and who is not? (Schooling isn't helpful in this case, because job seekers in my friend's case have all got the same number of years of schooling.)

But then I have known someone who also does not exaggerate his abilities but is doing quite well today. One of my teachers Yeung Wai-hong up at Next magazine told me this funny story the other day indicating how prevalent it is for employees to lie about their abilities (even for those who have been hired).

When he first started out, he was invited to a dinner party where a big name in his field was sitting right next to him. At one point during the dinner, the big name suddenly asked him what he thought Hong Kong's economic growth would be next year. After pausing for a few seconds, slowly but firmly and with confidence, Yeung told the big name he had no idea whatsoever. Later on after the dinner party, a colleague of the big name went up to Yeung and said to him," You are the first person I know who has the guts to admit that he does not know something."

Can we say that Yeung's success can be attributed to his honest strategy then?

I doubt it. I think his case is more of an exception rather than the rule. What do you say?

Theory Without Contracts

Professor Steven N.S. Cheung likes to tell this tale that happened in the late 1960s in his Chinese writings.

At a conference on marine fishing in Vancover, attendants were busy discussing ideas of a presenter right after he finished. Suddenly, somebody standing close by the window with a harbor view said in a loud voice, "Look at that, a fishing boat!" All of a sudden, everbody moved over to the window and watched it.

The professor used the story to make a mockery of those economists who do not know how the real world works. Think about it, a bunch of economists specializing in marine fishing had not seen a fishing boat before that day!

Out of curiosity, I flip through the most recent treatise in a field (contract theory) professor Cheung single-handedly invented in the late 60s in his monumental book "The Theory of Share Tenancy". The name of the treatise is called, surprise, surprise, "Contract Theory,"written by two renowned experts P. Bolton at Princeton and M. Dewatripont at ULB published by MIT press last year.

What I find is shocking:

1) A book more than 700 pages long, neither cited nor analyzed one single contract on planet.

2) There is NO acknowledgement of Cheung's contribution to the field! And yes, "The Theory of Share Tenancy" is not cited in the reference.

What has become of scholarship?

When Milton Friedman Talked, We Listened

Here are some excerpts from an interview with Milton Friedman:

Q : The inflation rate in America as well as globally remains historically low, even as oil prices skyrocket. Why?

Friedman: Inflation is a monetary phenomenon. It is made by or stopped by the central bank. There has been no similar period in history like the last 15 years in which you’ve had little fluctuation in the price level. No matter what else happens, this will maintain as long as the US Federal Reserve maintains strict monetary policy and control of the money supply.

Q: China has registered tremendous growth since 1979 through what might be called a “market Leninist” model, or an “authoritarian free-market system” like the Pinochet government you advised in Chile. Can this model last?
Friedman: No. The same thing will happen in China that happened in Chile. Political freedom will ultimately break out of its shackles. Tiananmen Square was only the first episode. It is headed for a series of Tiananmen Squares. It cannot continue to develop privately and at the same time maintain its authoritarian character politically. It is headed for a clash. Sooner or later, one or the other will give.

If they don’t free up the political side, its economic growth will come to an end—while it is still at a very low level.

The situation is not all bleak. Personal freedom has grown greatly within China, and that will provoke ever more points of conflict between the individual and state. There is a new generation that is educated and travels abroad. It knows firsthand the alternatives out there. So, the authoritarian character is softening somewhat.

Hong Kong is the bellwether. If the Chinese stick to their agreement to let Hong Kong go its own path, then China will also go that way. If they don’t, that is a very bad sign. I’m optimistic.

Read the whole thing here.

Kids, Turn on Your TV, Now!

M. Gentzkow and J. Sharpiro, in their new NBER paper, found that:

"Our preferred point estimate indicates that an additional year of preschool television exposure raises average test scores by about .02 standard deviations...

For reading and general knowledge scores, the positive effects we find are marginally statistically significant, and these effects are largest for children from households where English is not the primary language, for children whose mothers have less than a high school education, and for non-white children."

Kids, press the On button, NOW!

Do Journalists' Overconfidence in Themselves Leads to Media Bias?

I started reading Nassim Taleb's extremely interesting book "Fooled By Randomness" last week and a line in the book caught my eye.

"Why don't most journalists end up figuring out that they know much less than they think they know?"

Trust me, this characterization of journalists' over confidence in themselves is right on. As an editorial writer for a local paper, I was once questioned why I had to quote Milton Friedman's famous line on inflation because he thought the truth of Friedman's statement (about inflation being a monetary phenomenon) is so elementary that it should be known by anyone without any training in economics! If it is indeed so elementary...then why economists like Friedman and Hayek had to fight so hard in alerting people about the inherent inflationary bias inherent in the then fashionable Keynesian economic policies?

Two thoughts:

1) Unlike journalist, a lot of people are really stupid. They cannot see the wisdom contained in the allegedly elementary proposition of Friedman's, so they have to be convinced many times before they can understand that excessive money causes inflation. A related question is: Are the smart people self-select to become journalists?


2) Journalists are just like everybody else. They just think they know more than they actually do as the line quoted above said.

Personally, I think no.2 is very likely to be the reality. And I believe that overconfience on the part of journalists, who think they are better than others, who think they are out there to change the world, is at least one of the major reasons leading to liberal bias in the media.

Milton Friedman and Modern Macroeconomics

David Laidler, retired professor at the University of Western Ontario and a famous historian of economic thought has recently written a pair of papers on the evolution of macroeconomics. Both are well worth your time in reading them. Enjoy!

The first one is called, "Milton Friedman and the Evolution of Modern Macroeconomics" and the second one is called, "Keynes and the Birth of Modern Macroeconomics."

What's Wrong with Conventional Mode of Education?

David Friedman wrote:

"One of the assumptions built into the conventional version of K-12 schooling, private and public, is that there is some subset of human knowledge, large enough to occupy most of twelve years of school, that everyone needs to know. That assumption is false. There is a very short list of skills–reading, writing or typing, and simple arithmetic are the only ones that occur to me–that almost everyone will find worth learning. Beyond that, education involves learning things, but not any particular things. The standard curriculum is for the most part an arbitrary list of what happens to be in fashion–the subjects everyone is required to pretend to learn."

"One observed result is that most children regard education as unpleasant work, to be avoided when possible. Another is that schools spend six years teaching things–arithmetic, say–that the average kid could learn in a year or two. If he wanted to. A third is that we end up with high school graduates many, perhaps a majority, of whom do not actually know many of the things they have spent all those years pretending to learn."

Read the post here.

In public school, the educational bureaucracy imposes the curriculum from above. Hence, the choice of curriculum is made to fit the interests of the bureaucrats rather than the needs of the students. So while the curriculum may make little sense to the students and their parents, hence abitrary as Dave said, it has an internal logic of its own if one looks at the curriculum from the perspective of the bureaucrats.

What about private schools or schools funded through a voucher system, does Dave's comment apply with equal force? What if the whole point of going to school is not to learn something useful, as Dave seems to think it should, but is simply a way of sending a signal.

Incidentally, there is a debate going on at Econlog on whether education is simply a signal, read the relevant post here.

Just When You Think Beauty is Skin Deep

Here is what a new NBER paper said about the impact of beauty on criminal behavior:

Using data from three waves of Add Health we find that being very attractive reduces a young adult's (ages 18-26) propensity for criminal activity and being unattractive increases it for a number of crimes, ranging from burglary to selling drugs. A variety of tests demonstrate that this result is not because beauty is acting as a proxy for socio-economic status. Being very attractive is also positively associated adult vocabulary test scores, which suggests the possibility that beauty may have an impact on human capital formation...

These results suggest two handicaps faced by unattractive individuals. First, a labor market penalty provides a direct incentive for unattractive individuals toward criminal activity. Second, the level of beauty in high school has an effect on criminal propensity 7-8 years later, which seems to be due to the impact of the level of beauty in high school on human capital formation, although this second avenue seems to be effective for females only.

Read the paper here.

Moral Dilemma

You encounter a handicapped little boy/girl on the street asking for money, and you know as a fact that some parents deliberately have their children's limps chopped off in order to make it more credible that their children deserve your charity.

Choices open to you:

Option one

You give some money to the kid but at the risk of providing help to someone who does not deserve it in the first place. Worse, you may unintentionally encourage more parents to chop off their kids' limps to make a living! (Kind of like the Type II error in statistics)


Option two

You refuse to give money to the kid but at the risk of failing to help someone who really can use some assistance, say the kid lost his/her limps in a car accident. (Kind of like the Type I error in statistics).


Sad fact: the above scenario is not a fake one but one can easily encounter while walking on a busy street in Hong Kong.

What would you do?

Principled Agents? The Political Economy of Good Government

The title of this post is the name of a forthcoming book by Tim Besley at the London School of Economics. The book manuscript is available here.

The Common Factor that Powers Growth in China and India

China's growth miracle has long been explained by economists as the product of a decentralization reform strategy (in terms of the devolution of economic decision making power, not political authority, to the lower level of governments), read a good overview of this thesis here and here.

What I do not know, until now that is, is that the same reform strategy also characterizes India's reform strategy. Read this brand new working paper by Raghuram Rajan and his coauthors from the IMF and find out more yourself.