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Gambling on Your Kid’s Life

Gambling on Your Kid’s Life published on

My Twitter feed brought me an interesting piece by Christian Britschgi at Reason’s Hit & Run blog. In it, he lambasts this Washington Post op-ed decrying what they portray as the rampant abuse of life insurance policies by individuals who insure children only to then kill them and collect the insurance benefits. WaPo goes on to call for stricter regulations, naturally, to put a stop to this abuse.

Britschgi adeptly points out the self-refuting assertions in the WaPo piece–particularly that in each case cited either a) the victim wasn’t a child (not that adults’ lives don’t count, but it doesn’t comport with the drama of the headline), and/or b) the killer had already committed fraud (i.e., violated existing laws and regulations) in the process of buying the life insurance policy and then didn’t receive the payment because they committed further “fraud” by killing the insured. He also highlights that there’s nothing very ‘rampant’ about this kind of fraudulent behavior.

These articles reminded me of a conversation in one of my classes just a few weeks ago–and one I posted on four years ago here. Namely, the idea that life insurance is basically a bet that the insured person is going to die in the next year–and that when you lose the bet (i.e., the person doesn’t die), you pay up again for the next year.

This is a rather disturbing perspective for (apparently only an overwhelming majority of, but not all) parents who consider taking out life insurance policies on their children.  After all, how many parents would admit to gambling on the prospect that their kid will die in the next year? And yet, that is exactly what they do when they buy that insurance policy. (Yes, I know; there are other reasons to insure children, as I discussed in that earlier post…but the point remains.)

In Vegas, bets don’t get paid if the bettor is found to rig the game. Counting cards, loading die, rigging jackpot machines, etc. And the house has a strong incentive to monitor betting behavior to weed out cheaters. As the Reason blog shows, the same is true for life insurance companies.

Economics and the Millennial Marriage Drought

Economics and the Millennial Marriage Drought published on

“Why aren’t Millennials getting married? Despite the popularity of dating apps like Tinder, Grindr, and OKCupid, Millennials are not pairing off.”

That’s the opening line of an interesting post by Olivia Gonzalez and Erikagrace Davies over at LearnLiberty.org. It’s an important question. And an important observation.

They go on to suggest that a significant reason for the drop in marriage rates among millennials is due to lower real incomes relative to prior generations, combined with the need to be more mobile in today’s society and the difficulty that creates for young, dual-income couples. They suggest that the gig economy may create more non-traditional income opportunities that make it easier for such couples to work and, thereby, afford to get married.

I’d propose an alternate hypothesis–though one still rooted in economics–and it’s based on the opening lines themselves. The popularity of dating apps like Tinder, Grindr and OKCupid do more than just increase the ease of finding one’s true love. They highlight the great diversity of potential mates–not even just locally, but around the globe. What’s more, such apps and other social media make it easier to access–and assess–that much more diverse population of potential mates.

So what’s economic about that? Option theory.

An option is the right, but not the obligation, to take some action. Think of the decision to marry as an option. Dating allows someone to do more than just sow their wild oats. It allows them to consider different potential mates to find the “best one” for them, however one might define “best”.  But when one exercises the option to marry, the option to continue looking for a better mate is killed (at least in a society still dominated by norms of monogamy). In other words, there is an opportunity cost to getting married in the form of the foregone opportunity to find someone even better.

That means the opportunity cost of getting married is higher when there is a greater diversity of potential mates in the world. To use the language of option theory, the value of the “option” to marry is higher when there is a greater variance in the value (or quality) of potential mates. But once one executes the option and gets married, that value is lost.

This is really nothing new. According to the US Census Bureau, the rate of marriage among young adults has been declining for decades (as shown in the nearby graph from FiveThirtyEight)–well before social media and well before the economic constraints Gonzalez and Davies describe, but in line with the increased education and labor force participation of women. This provided women more economic independence, which allowed women to retain the option to marry longer–not needing to “cash it in” at a discount in return for economic security. Similarly, men encountered a more heterogeneous population of potential mates with a higher variance in potential quality. Throw in changing norms on same-sex partners and marriage over the past few decades, and the pool of potential partners is even more diverse.

Social media has not only amplified that fact, but has made it easier to consider and explore the greater variety of potential partners–making it that much easier to draw a sample from the population distribution. That means one can keep looking at relatively low cost, which increases the probability of drawing someone from the “best” end of the distribution. That makes the option all the more valuable–and the opportunity cost of executing the option that much higher.

Marriage is a complex issue, as reflected in this Pew Research Center report. (Staying married is even more complex.) I’m not suggesting an option framework fully captures the motivation and explanation for the “millennial marriage drought”, but understanding that perspective sheds more light onto what otherwise might be oversimplified as a simple budget-constraint argument that fails to account for the value created in the uncertainty of the process.

 

 

Calling a Cost a Cost: NY Anti-Free Speech Edition

Calling a Cost a Cost: NY Anti-Free Speech Edition published on

Seems the State of New York is going to the Supreme Court for another of its protectionist regulatory policies. Yesterday the US Supreme Court granted a petition to hear the case of Expressions Hair Design v. Schneiderman. As the WSJ explains, at issue is whether New York’s regulations concerning credit-versus-cash retail prices constitute a First Amendment speech violation.

The problem stems from the fact that the State of New York has attempted to have its cake and eat it to by ignoring economic rcredit-card-1520400_1280ealism and prohibiting retailers from calling a cost a cost. The State prohibits retailers from charging customers a fee for using a credit card, but allows retailers to give customers a discount if they use cash. A group of hair salons, led by Expressions Hair Design, sued the state for infringing on its right of free commercial speech. The salons won their initial case, which was reversed on appeal. Now SCOTUS will have an opportunity to weigh in.

The Cost of Using Credit
From an economic perspective, the issue is fairly simple. Credit card companies charge vendors a fee every time a consumer pays with plastic. How much depends on the credit card company, whether the transaction is run as debit or credit, and the amount of the transaction. But typically, the fee is around 2-4% of the amount of the purchase. This reduces the amount of revenue retailers receive when the customer uses plastic. Put another way, when customers choose to use plastic, it raises the retailer’s cost of doing business for that sale.

In a free economy, retailers could choose one of three options: 1) force the credit card user to pay the additional transaction fee, which raises the price at the point of sale, 2) charge the same price for all buyers, implicitly charging cash users more for the product to subsidize the costs of the plastic users, or 3) pass the transaction fee savings on to cash users by giving them a discount. The only economic difference between 1 and 3 is what the sticker price is relative to the price actually paid. In #1, credit card users pay more than the sticker price; in #3, cash users pay less than the sticker price. In #1, the credit card fee is made explicit by adding it on just for those consumers who use plastic. In #3, the sticker price includes (i.e., hides) the cost of using a credit card and by default is the price everyone pays unless they are aware of the cash discount. In either case (1 or 3), the retailer is price discriminating between cash and plastic users. Or the retailer could simply post two sets of prices, one for credit and one for cash, which would then beg the question of “why the difference?” And that is where the NY regulations become a problem.

The NY regulation prohibits retailers from choosing #1 but allows them to choose #3. In other words, the regulation allows retailers to price discriminate, but only if they present it as a discount for cash users rather than a surcharge for credit card users. In short, NY allows the exact same price discrimination between two sets of consumers, but restricts the speech of retailers in how they are allowed to describe that price difference. As Expressions Hair Design argues in their complaint, this places a burden on the business in how it is allowed to explain or justify what is otherwise a perfectly legal two-price pricing system since the regulations make it illegal for employees to explain that the difference between the cash price and the credit price is due to the cost of the credit transaction. It would be like passing a law prohibiting a restaurant from explaining the cost of its steaks went up relative to its pork chops because the price of beef rose.

Framing matters
Why would the State of New York prohibit credit card surcharges but not prohibit cash discounts? Consumers respond to price signals, so how those signals are presented matters. If consumers are charged an extra fee for using their credit card, it makes the cost (price) of using the credit card very obvious to the consumer and she is more likely to change her behavior by using cash instead. This would be bad for the banks that make a significant amount of money on credit card swipe fees. Not surprisingly, banks support laws prohibiting explicit credit card surcharges. However, as noted in #2 above, charging cash and plastic users the same forces cash users to subsidize the purchases of plastic users, which also tends to penalize lower income persons relative to wealthier shoppers. So allowing retailers the opportunity to provide cash discounts is socially superior to not allowing differential pricing. However, the NY’s prohibition on calling a cost a cost and explaining the price difference for what it is, is not only an infringement on speech, but unjustifiable as anything other than an attempt to mislead consumers and protect credit card issuers.

A win for the auto cartel, a loss for Missourians

A win for the auto cartel, a loss for Missourians published on

The Missouri Auto Dealer Association (MADA) has been exercising its political muscle for at least a couple years to protect its antiquated state-supported cartel over new car sales. It seems they have finally succeeded in court where their lobbying efforts have failed. In an opinion  last week by Cole County Circuit Judge Daniel Green, the court ruled that Missouri state statutes governing automobile distribution prohibit Tesla from operating its own retail stores in the state.

The case, which the MADA filed against the Missouri Department of Revenue, contested the State’s issuance of two franchise dealer licenses to Tesla for Tesla to open its own “franchise” retail stores. Basically, Missouri statutes have implemented a circular argument that prohibits auto manufacturers from owning new vehicle dealerships. § 301.550.3 RSMo specifically limits new car dealers to being franchises, statutorily side-stepping the possibility of a non-franchise new car dealer. The court essentially argued (perhaps rightly) that Tesla’s self-dealing of the franchise to itself was merely a rhetorical ploy to circumvent this failure of the statutes to allow for non-franchise dealers. However, even if that side-step were permissible, § 407.826.1 RSMo specifically prohibits auto industry franchisors from “owning or operating a new motor vehicle dealership in this state.”

Judge Green’s opinion basically means the laws of the state of Missouri preclude the possibility of any auto manufacturer selling its cars in Missouri directly to consumers. While Tesla can continue to operate its two service centers in the state, it cannot make car sales there. Instead, the company must continue to sell to Missourians over the internet with a point-of-sale in another state. (So much for more sales jobs.)

I and others have written previously (here, here, and here) why bans on Tesla’s direct-to-consumer sales model are bad for consumers and for society in general. This most recent ruling in Missouri just highlights how fundamentally flawed the regulation of commerce can be. Missouri’s laws, to the extent they ever made sense, are rooted in an antiquated industry and technological setting. Advancements in information technology alone have undercut many, if not all, of the economic justifications for an auto manufacturer to use a franchised distribution system. Laws that were written to protect franchisees in a 1950s-era distribution system do nothing now but raise consumers’ costs and thwart technological and organizational innovation that make everyone better off. Everyone, that is, except the franchised auto dealer cartel that sees all too clearly how little value it now adds in the sale and distribution of new cars.

Hopefully Missouri’s legislature will have the gumption to fix the flaws in its statutes that limit all new car retailers to “franchises” and instead let auto manufacturers (or any other manufacturer) choose the model they find best for themselves and their customers.

 

Three Simple Rules

Three Simple Rules published on

If you think economics is too complicated, too mathematical, or just plain stupid, I hope I can convince you otherwise—and that you, too, are capable of wielding the sword of economics to cut through much of the muck and mire that muddles public discourse.

Economics, at its foundation, is simply a framework for understanding how people choose to use the resources available to them; whether money, raw physical goods, knowledge, talents or time. Economists can make it very complicated–to the point of losing the economic intuition in the mathematics of the models they use. But at its foundation economics is based on some very simple premises that don’t take a PhD in economics–or mathematics–to understand and apply to real life. Sadly, too few people understand that–and fewer still use that understanding.

There are three basic assumptions I propose at the beginning of every course I teach. I believe they are sufficient to understand the vast majority of human behavior. And they involve no math:

1) People aren’t stupid. Okay, I know that sounds like a stretch. But let’s start by at least giving them the benefit of the doubt. What I mean here is simply that people behave in ways they think are going to make them happier. Leave it to the econ nerds to debate  hyper-rationality, bounded rationality, behavioral biases and such. And people are not always right and what makes them happy may not be things we (meaning society–or your particular opinion) think are appropriate. But as a general rule, people behave the way they do intentionally with the objective of making themselves happier–even if that’s by making someone else happier.

2) More is better. Early in my career I had the opportunity to work with a couple Nobel prize-winning economists. I remember Ronald Coase once saying, “You can explain 95% of human behavior with the assumption that people prefer more money to less.” I’d argue it might be higher. And if you allow for things other than money, you get 100%. Yes, there are things that people don’t like, and more of that is not better. But whatever thing a person might value, you can safely assume that they believe more is better than less.

3) More more is less better. (Thank you, David Rose, for your quirky sense of humor.) People generally prefer more of something (good) to less; but the more of it they have, the less valuable it becomes at the margin. It really is possible to have too much of a good thing. So while more might be better, we have to allow for the fact that once they have some more, they may not want as much more–especially if it comes at a cost of having less of something else.

Put those three simple “rules of economics” together and you have a pretty powerful toolkit for understanding incentives–and if you understand incentives, the rest of economics pretty much falls into place.

That’s the purpose of this blog; to highlight how economic principles can help inform a variety of everyday issues–from industry structure and regulation to daily life decisions. Consequently, I’m likely to post on a wide array of topics. And if there’s one in particular you’re interested in, I’d love to hear from you. My contact info is just to the right.

Death, Taxes, and Opportunity Costs

Death, Taxes, and Opportunity Costs published on

They say two things are unavoidable in life: death and taxes. I’d like to propose adding opportunity costs to that list.

In his State of the Union address in January, President Obama announced his support for a “moonshot” researchsotu initiative to cure cancer. “For the loved ones we’ve all lost, for the family we can still save, let’s make America the country that cures cancer once and for all,” the President announced to a hearty round of applause. And deservedly so. I suspect there are few, if any, people whose lives have not been touched by cancer, either suffering it directly or with loved ones.

Since then, I’ve had several friends on Facebook post their support of the President’s proposal and their personal desire to eradicate cancer. Some even arguing we should spend “whatever it takes” to rid ourselves of this horrible disease. But while I empathize with their heart-felt conviction, I can’t help but ask, “at what cost?” And I don’t mean (just) the dollars and cents. Okay, the billions of dollars. I mean the opportunity cost of focusing so many resources on the goal of “curing” cancer.

As an economist, one (should) necessarily asks the question: what is the marginal benefit versus the marginal cost of eliminating cancer. Sounds cold and heartless? Bear with me a minute.

According to the US Dept of Health & Human Services,Continue reading Death, Taxes, and Opportunity Costs

Douglass C. North, 1920-2015

Douglass C. North, 1920-2015 published on

I received word today that Douglass North passed away yesterday at the age of 95 (obit here). Professor North shared the Nobel Prize in Economic with Robert Fogel in 1993 for his work in economic history on the role of institutions in shaping economic development and performance.DoughNorth_color_300-doc

Doug was one of my first professors in graduate school at Washington University. Many of us in our first year crammed into Doug’s economic history class for fear that he might retire and we not get the chance to study under him. Little did we expect that he would continue teaching into his 80s. The text for our class was the pre-publication manuscript of his book, Institutions, Institutional Change and Economic Performance. Doug’s course offered an interesting juxtaposition to the traditional neoclassical microeconomics course for first-year PhD students. His work challenged the simplifying assumptions of the neoclassical system and shed a whole new light on understanding economic history, development and performance. I still remember that day in October 1993 when the department was abuzz with the announcement that Doug had received the Nobel Prize. It was affirming and inspiring.

As I started work on my dissertation, I had hoped to incorporate a historical component on the early development of crude oil futures trading in the 1930s so I could get Doug involved on my committee. Unfortunately, there was not enough information still available to provide any analysis (there was one news reference to a new crude futures exchange, but nothing more–and the historical records of the NY Mercantile Exchange had been lost in a fire).and I had to focus solely on the deregulatory period of the late 1970s and early 1980s. I remember joking at one of our economic history workshops that I wasn’t sure if it counted as economic history since it happened during Doug’s lifetime.

Doug was one of the founding conspirators for the International Society for New Institutional Economics (now the Society for Institutional & Organizational Economics) in 1997, along with Ronald Coase and Oliver Williamson. Although the three had strong differences of opinions concerning certain aspects of their respective theoretical approaches, they understood the generally complementary nature of their work and its importance not just for the economic profession, but for understanding how societies and organizations perform and evolve and the role institutions play in that process.

The opportunity to work around these individuals, particularly with North and Coase, strongly shaped and influenced my understanding not only of economics, but of why a broader perspective of economics is so important for understanding the world around us. That experience profoundly affected my own research interests and my teaching of economics. Some of Doug’s papers continue to play an important role in courses I teach on economic policy. Students, especially international students, continue to be inspired by his explanation of the roles of institutions, how they affect markets and societies, and the forces that lead to institutional change.

As we prepare to celebrate Thanksgiving in the States, Doug’s passing is a reminder of how much I have to be thankful for over my career. I’m grateful for having had the opportunity to know and to work with Doug. I’m grateful that we had an opportunity to bring him to Mizzou in 2003 for our CORI Seminar series, at which he spoke on Understanding the Process of Economic Change (the title of his next book at the time). And I’m especially thankful for the influence he had on my understanding of economics and that his ideas will continue to shape economic thinking and economic policy for years to come.

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