Do you prefer 70 out of 100 points or 96 from 137 ?

This year’s Nobel laureate for Economics, Richard Thaler, noticed that students preferred the latter. Yet a rational thinking economist should say a 70% on a test is a 70% no matter what the point score (check….96 on 137 is what as a percentage?).

Therefore Richard Thaler developed a new theory, behavioral economics, which aims to take into account the fact that consumers and producers do often behave irrationally. He suggests that economic policy makers should try to “nudge” people in certain directions in order to provide optimal outcomes.

For example, in order to maximize tax revenue, it may be more efficient to tell people that all their peers are paying taxes rather than setting up tax evasion penalties.

Another interesting area is how we tend to look at past outcomes in order to decide whether to continue with a project or a type of behaviour rather than assessing the future rationally.

Here, Richard Thaler, appears as a cameo part  in the film “The Big Short”, which is a fictionalised account of the 2008 banking crisis.  It first appeared in 2015 and I happened to watch it for the second time last night (I am still trying to understand exactly the events of 2008). I had forgotten that Richard Thaler himself tries to explain the irrationality that occurred/

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A new academic year starts

Welcome to the juniors, who are starting on their IB/AP economics courses, and welcome back to the seniors, who now have less than a year to go (only nine months!) until their economics courses are completed.

I hope that you will find the material here useful. But remember that your most useful resource is an awareness of and an interest in events happening in the world around you that have relevance for a study of economics.

For example, I am interested that PM Theresa May of the UK is visiting Japan for the first time this week. Apparently, the Japanese government and firms are very concerned about future economic relations between the UK and the EU after “Brexit”.  Many Japanese firms (including, for example, Nissan and Panasonic) have invested in the UK (Foreign Direct Investment or FDI) by building factories. They have then exported their goods to the rest of Europe. They want clarification that the business environment, and in particular tariffs etc, will not change after Brexit. But I fear that they will be disappointed.

The topic of SAND came up with the juniors last week. They seemed doubtful that it was an economic good, even in Tokyo. (We all agreed that it was a free good with zero opportunity cost in the Sahara desert.) I have found out a little more about sand (source below). Apparently,  it has many uses. We need sand for our water filtration and septic systems. A typical house has more than 100 tons of sand in its foundation, driveway, and windowpanes. And road-building needs even larger amounts.  Singapore is the world’s highest per person user of sand at 5.4 tons per inhabitant (UN 2014).

In fact the world requires so much sand that the UN says we might not have enough. However, as the juniors move into studying markets they will learn that when there is not enough supply, the price goes up which leads to innovation. Engineers–perhaps those from Singapore– will be incentivised to find more efficient production methods and/or substitutes.

SOURCE: http://econlife.com/2017/05/the-sand-shortage-problem/

 

Does inequality promote or harm development?

This is a question we consider in 11th grade and in 12th grade and (very briefly) in Theory of Knowledge classes. But no conclusion is ever reached. Some argue that a certain level of inequality provides the rich with the assets (from savings) and incentives to invest and even become entrepreneurs. While other people contend that very low levels of income for the poor lead to lower consumption overall and, in particular, less spending on education and health, which harms productivity.

The IMF has done more research into the topic. After looking at  the data from 77 countries over a period of 20 years, it concluded that the effect of income inequality on economic growth can be either positive or negative! However, more usefully, it suggests that when the Gini coefficient (for disposable income) exceeds about 0.27, the direction of the relationship changes. Increased inequality begins to hurt economic development.

Even when inequality is increasing, the research found two factors that can help development and growth. These were (i) enabling more households and businesses to use banking services for transfers and borrowing (perhaps through micro-credit schemes) and (ii) promoting participation of women in the labor force. However, they could also make things worse by encouraging poorer households to get into debt or generating an oversupply of labor.

This is evidently a question with no easy answers, but nonetheless a very important question for policy makers and economic advisers.

For more information and some unusual graphs, look at https://blogs.imf.org/2017/05/11/a-new-twist-in-the-link-between-inequality-and-economic-development/?utm_medium=email&utm_source=govdelivery

Is the competition in the tofu market unfair–> prices that are TOO low?

We have often stated that the tofu market is close to being perfectly competitive, because there are many, many small firms making tofu and it is a relatively homogeneous good. But I have just realized that the level of competition among the tofu manufacturing firms may be undesirable and may ultimately lead to lower quality tofu and/or a less competitive market as firms merge or quit.

The reason is that most tofu is now sold in supermarkets, which are oligopolistic. Therefore when the supermarkets purchase tofu from the makers, they have a strong bargaining advantage and can force the makers to sell them tofu at very, very low prices. (The market is “monopsonistic”, because the “buyers” (supermarkets) are few and large-scale.)

Consequently, over the last ten years, the price of a block of tofu has fallen from Yen90 to Yen70, even though demand for tofu is rising!  (In 2016, annual consumption of tofu per household reached 81 blocks, up from 73 blocks in 2006.)

Therefore the government, citing the Antimonopoly Law (monitored by the Fair Trade Commission),  has decided to curb excessive competition over tofu prices. It seems rather paradoxical that a Law against monopolies is now being used to reduce competition, but it can be compared to regulations against predatory pricing.

The government has declared that the supermarkets must trade fairly with tofu manufacturers and not force them to lower their prices. The government is probably concerned that almost half of tofu manufacturers have quit the market. There are now only about 3300 firms, compared with about 6500 firms 20 years ago.

The situation is analogous to the global clothing market, where large clothing shops (eg H&M, Zara) can force the competitive clothing makers (who come from many, many countries such as Bangladesh, Vietnaam, Honduras etc etc) to supply them with clothing at very, very low prices. The unbalanced bargaining position means that clothing makers are often working long hours at low wages in unsafe conditions. This can be viewed as unfair, but there is no international government to remedy the problem.

How effective is fiscal policy (taxes) in redistributing income?

The IMF has published information on the effectiveness of progressive taxation in reducing inequality . The chart shows the redistribution effect in different countries. 

Notice that the economies above which are least able to redistribute income through taxes are Chile and Mexico. This is probably because they collect taxes relatively more through sales taxes (which act regressively), while the base for an effective income tax is too narrow. Poorer countries, such as Indonesia and Honduras, would face even more difficulties in trying to make their tax systems progressive.

Can anyone explain why Korea and China also have relatively low levels of redistribution through taxes?

The IMF article continues with suggestions for further redistribution, such as transfer payments, minimum wage legislation, and training/educational programs.

Source : https://blogs.imf.org/2017/04/24/chart-of-the-week-sharing-the-fruits-of-growth/?utm_medium=email&utm_source=govdelivery

Supply and demand working in the potato chip market……but is the mechanism efficient?

Four typhoons in Hokkaido last year have caused a supply shock in the potato market (output down by 80%). Correctly, prices have gone up. In one supermarket, a bag of four potatoes rose to ¥180  from ¥100 or ¥120. Since potatoes are, of course, a major input into the potato chip industry, there has been a significant leftwards shift in the market supply curve there too.

As prices have risen for potato chips, the rationing function of reducing the quantity demanded of potato chips (a movement leftwards along the demand curve) should be working.

But, some consumers have started “panic buying”. As an example of one consumer…….

And so, the rightward shifts in the demand curve (entirely due to panic or speculative demand) make prices rise even more.

These are inflated prices of chips on an online shopping site, Mercari. Do these prices really reflect the marginal benefit of potato chips (maybe for Sophia Iwao……)? Or are consumers behaving irrationally?

So shouldn’t the absurdly high prices lead to an increase in supply……perhaps from imports? But Japan’s protectionist agricultural policy means that it is often difficult to  import quickly and efficiently when domestic output is insufficient. Last year’s butter shortages also reflect these problems. Indeed, dairy products were one of the sectors that  Shinzo Abe promised to protect during trade talks on the Trans-Pacific Partnership pact. And potato imports have been very restricted. For 56 years they were totally banned. In 2006, the ban was lifted, but they can still only be imported for certain purposes and the distribution channels are not well-developed.

(Note: I got a lot of information for the above and the pictures from twitter from two articles:  http://econlife.com/2017/04/japans-potato-chip-shortage/    and https://qz.com/956417/stock-up-on-your-favorite-japanese-potato-chips-while-you-still-can/

Price mechanism in the energy market

Do prices reflect supply and demand? Does the mechanism work efficiently in providing signals and incentives to producers/consumers and in rationing the goods?

One market where prices have been changing, to reflect market conditions, and where, consequently the pattern of consumption has changed is the US energy market

If you compare 2016 with 2015, there has been very little change in the total amount of energy, though the relative importance of sectors is changing. Coal use is declining and as the price of solar panels has dropped, their use has increased. Wind power is also being supported by US government subsidies and supply conditions (choosing how to site and build wind generators) have improved leading to a shift to the right in the supply curve. But, at the same time, and with less favorable consequences for the environment, when the  price of oil and therefore gasoline plunged last year, Americans started driving more.

Overall, the energy market appears to be reallocating resources efficiently through the price mechanism. But also look at the “Rejected energy” box.  Inevitably whenever  raw materials are converted into energy, there will be some waste. However, the amount of waste produced appears to be more than the amount of consumption. I wonder if this can truly be called an “efficient outcome”.

I wanted to compare the US with Japan.  However, the most recent chart produced by the Lawrence Livermore Laboratory is only for 2011 and the units used appear to be different from those for the US charts. The proportion of “Rejected Energy” does appear to be less and I was interested to see that, even in 2011, the proportions of renewable energy were reasonably high. I hope that they have gone up further in the last six years.

 

Sources: I first read about these ideas at   http://econlife.com/2017/04/u-s-energy-use/  and I found more charts at  the Livermore site  https://flowcharts.llnl.gov/commodities/energy