Richard H. Serlin

Columbia Journalism professor Michael Schudson and former Washington Post executive editor Leonard Downie Jr. have an article out in the Financial Times, "American journalism needs public support". This article does involve addressing the monumental externalities in journalism, even though they don't use that economics term.

So there are some journalism academics working on the externalities of journalism and how we might address them, but even in journalism, not a lot. In addition to the economics, law, political science, and policy literature, I've also searched the journalism literature and found very little on this.

But even if this were an active area of research in journalism, would that be a reason for economists to ignore it? Would it be social utility, or GDP, optimizing for economists to say let's have only journalism academics and professionals work on this?

Think about it.

The answer is of course not.

This would be grossly inefficient. Economists have unique skills they could bring to the table for this very economics related issue that Journalism professors and practitioners don't have. Studying this well and coming up with effective solutions is tremendously aided by advanced knowledge and skills in economic cost-benefit analysis, externality theory, political economy, econometrics, incentive and game theory, and more.

Given the enormous costs of these externalities it would be extremely high return to have a branch of economics working on them, and hopefully in conjunction with other fields like journalism, law, and political science, as these fields clearly have unique things to bring to the table that are also important regarding this issue. One of the biggest sources of inefficiency in social science academia is that the reward/penalty system greatly discourages working with professors in different fields (or in groups larger than three, at least in econ and finance), but it still happens sometimes, and hopefully would here.

Another problem with leaving this issue to journalism is that journalism professors and practitioners will be taken a lot less seriously in recommending solutions. First, addressing this involves subsidizing the positive externalities of journalism with large sums of money. So when journalism professors and professionals ask for this it looks like they are just doing it for themselves, to get more money, not because it's an extremely high return social investment.

If economists, however, recommend spending large sums of money to subsidize journalisms' positive externalities, it's not self serving. Their motives aren't suspect. And if they say it's economically efficient, that it's a very high return investment, they are taken much more seriously than professionals in journalism, or any other field, as after all it's economics, the study of economic efficiency and growth.

And economics is, in fact, amongst other things, the study of economic efficiency and growth. So we should definitely not be extremely socially inefficient ourselves by ignoring the monumental inefficiencies from the externalities of journalism. But so far that's just about what we've done.

Part 2 of 2 (Please read part 1 first.)

The media's gross dereliction in informing the public about the truth in response to extreme Republican misleading, outright lies, and just incompetence was a major factor causing the recent generation of Republican dominance. The costs to America and the world have been monumental.

Simple-minded, anti-thinking Republican economics leads to gross societal underinvestment (especially in projects of great social return, like basic science and medicine, infrastructure, alternative energy, education, etc., things that due to well established in economics market problems will be provided by the free market at a level far below that which maximizes social utility). What we get instead is over consumption – predominantly for the rich, i.e. yachts, mansions, and $20,000 watches instead of cancer research, alternative energy, and college student aid so that students can study more and flip burgers less.

Their simple-minded, government is always bad ideology leads to severe problems and inefficiencies, as it is long established in economics that there are many, and often severe, free market problems (externalities, asymmetric information, inability to patent, monopoly power, transactions costs and other frictions, etc., etc.). These will result in great inefficiencies without a substantial government role. Thus, what we get with the Republican dismantling and corrupting of government is low growth, especially long term, and many other horrible things, including acute bubbles that can lead to severe recessions.

Then, with enough Republicans in power to block smart government remedies, we can have Hooverism and depressions. This is something we came very close to recently, after the effects of a generation of Republican damage lead to the worst economic crisis since the Great Depression. Luckily, we had a new Democratic president, and a congress that was pretty Democratic (but not that Democratic, as we've seen from the great worsening of bills that has been necessary to get them through congress). For more on this, including empirical evidence, see here, here, and here, and Nobel Prize winning economist Paul Krugman's books, written for laypeople, "Peddling Prosperity" and "Depression Economics and the Crisis of 2008".

But now let's put this in perspective. Let's quantify it to get some idea of the benefit better journalism could provide in leading to smarter voting, and therefore less of harmful Republican economic policy (Of course, the Democrats are far from perfect economically, but unlike Republican politicians, they believe strongly in thinking beyond dogmatic sound bites, and in science. As a result, their economic policy is far more intelligent and effective, especially over the long run).

According to figures from the Berea of Economic Analysis (BEA), real GDP growth has averaged 3.37% between 1930 and 2009. One might think of this as an average of 1% growth from poor, or Republican, economic management, and 5.8% growth from much better, or very Democratic, economic management (Note, I am using the proper geometric average here, not the common arithmetic average.)

Does it seem like I've included too much variance around the mean?

Take a look at the BEA numbers. You'll see I haven't included enough variance. The standard deviation is 5.06 percentage points. There's a lot of variance in annual growth. For example, -13.1% at the height of the Great Depression in 1932, 16.4% to 18.5% from 1941 to 1943 during the huge fiscal stimulus that was World War II, and more recently 0.4% in 2008 and 4.4% in 1998.

Of course, there are short term and long term issues, but considering all of the evidence and logic I've seen over many years schooling and study, I think it's realistic to think that smart growth economics could lead to at least 5.8% real GDP growth over a generation or two, and very Republican anti-investment, high consumption, high debt, anti-thinking, anti-competence, crony economics could easily lead to 1% growth, or much less – negative real growth.

What is some of that logic and evidence? I've presented a good deal of it in the links above, but consider this: Suppose the entire Bush II tax cuts, 1.8 trillion, which went mostly to the wealthy and super-rich, were instead spent on basic scientific and medical research. This would have increased total government spending on R&D over the decade approximately three fold. It would have increased total R&D spending from all sources, government and non, by approximately 50%.

[Calculations: Bush's big tax cuts occurred in 2001, 2003, and 2004, with the biggest in 2001. Thus, consider R&D figures for 2002. In that year total government R&D spending was $77 billion. Total R&D spending from all sources, government and non, was $266 billion. The data source is the National Science Foundation (see table 1). I use the same categorization and data source as Brandeis economist Adam Jaffe in "Trends and patterns in research and development expenditures in the United States", Proc. Natl. Acad. Sci. USA, Vol. 93, pp. 12658–12663, November 1996. Reasonably extrapolating the R&D numbers out a decade leads to my approximate figures. A quick ballpark way to see: If the $77 billion in government spending on R&D in 2002 were continued for a decade, that would be $770 billion. If the Bush II tax cuts were instead spent on R&D that would add $1.8 trillion to that $770 billion, for a total of $2.57 trillion, which is 3.34 times the size of $770 billion.]

With reasonable, moderate tax increases on the well to do, we could increase government spending on basic scientific and medical research many fold. Certainly that would do far more for long term growth than instead spending on yachts, mansions, $5,000 suits, and $10,000 watches. And this tax level would not have a substantial effect on work effort due to the well established income and substitution effects (please see here and here). The 1950s and 60s was a golden age of scientific and economic growth, and the highest marginal tax rate was always at least 70%.

So, I hope I've convinced you that good, highly Democratic, economic policy and governance could lead to long term growth of 5.8%, and bad Republican economic policy and governance could lead to long term growth of 1%. The table below then shows what that would lead to over a generation or so – 30 years. And it shows how much would be gained if efforts to address the externalities in journalism, lead to improved journalism, which lead to smarter voting, better governance, and better economic policy, which caused 10% or 20% movements toward the better growth. All dollar numbers are in trillions.

Click table to enlarge.

So, I hope this suggests that the gains from addressing the externalities of journalism effectively may be in the order of magnitude of tens of trillions of dollars per generation, and that is, of course, just the GDP gains. It does not include gains regarding war and peace, social issues, crime, and more. It also is just gains in dollars, not utils. If inequality were decreased along with the increase in GDP, the util percentage gain could be many times the dollar percentage gain. Finally, the many goods not counted in GDP, or undercounted, could also be increased greatly from addressing journalism's externalities effectively.

So how might we then address journalism's externalities effectively?

Here are some ideas:

1) A large tax credit for the costs of serious investigative journalism – This tax credit could be very large, 50% or more, to really change positively the quality and mix of what we see in newspapers, cable news, etc. In addition to reporters' investigation time and expenses, the credit could also cover the costs of fact checkers and research assistants, and the costs of consulting with experts, on-staff and outside, so that journalists could be sure, and will have the courage and confidence to state lies as lies, and not write "he said, she said".

Serious investigation and research is very expensive. That's a big reason why, in profit maximizing,circus, horse race, personality stuff so often wins out. Cut the costs of serious investigation by 50% – or 80%, with an 80% tax credit – and you're going to see far more serious investigative factual pieces. The profit maximizing equation changes. You won't have Paul Krugman complaining, "Back in 2004 I looked at TV reports on health care plans, and found not a single segment actually explaining the candidates’ plans. This time the WaPo ombud looks at his own paper’s reporting, and it’s not much better."

The tax credit could be done based on objective accounting expenses in a very clinical way, to allay fears of the government favoring/influencing media outlets.

2) Incentives/Favoritism for non-profit owned media outlets – This very directly gets at the problem of for-profit externalities. And it's a problem that's gotten a lot worse over the last generation. In the 2009 Handbook of Journalism Studies, John H. McManus writes:

Commercialism ebbed over much of the 20th century as codes of ethics were adopted and education levels and professional aspirations of journalists rose. But during the last two decades, and particularly during the last several years, as competition for readers and advertisers on the internet has intensified, commercial interference appears to be rising, at least in American news media.

Since the mid-1980s the corporations that produce news in the United States have begun to treat it less as a public trust and more as a commodity, simply a product for sale...(page 219)

A large part of this is that the Republicans have constantly, and with a powerful machine, drilled into this country over the last generation the message that greed is always good. This has done great harm to our country in so many areas because, of course, greed is not always good, and extreme greed is almost never good. Aside from externalities and a long list of other well established in economics market problems, there is the fact that this destroys the ability of people to trust each other and therefore to work together well, and at low cost, in the ever larger and more complicated groups and situations necessary for high-tech modern production.

With regard to non-profit media, current law has restrictions on their activities that discourage them, and discourage for-profit media from becoming non-profit. At least some of these restrictions should be removed, although this is an issue I'd like to study further before being more specific.

And I think we should do more, like adding subsidies for non-profit newspapers, cable news stations, and other media outlets, perhaps equal to 20% of news revenues, or more if necessary to create a strong and vibrant non-profit media sector.

The subsidies to non-profits could be provided in a very transparent, and clinical, accounting way to make sure the government is not favoring any outlets or points of view.

Of course, I'm just one guy, who amongst other responsibilities just started thinking about this. What in-depth, detailed, and well studied ideas might we have come up with if, in coordination with other fields like law and political science, even a small branch of economics had been working on this for the last few decades.

Update (day after initial posting): In today's news, "The New York Times plans to eliminate 100 newsroom jobs — about 8 percent of the total...The newsroom already has lowered its budgets for freelancers and trimmed other expenses, and employees took a 5 percent pay cut for most of this year...Nearly all papers in the metropolitan region have been cutting their news operations for years, and some have fewer than half as many people in their newsrooms as they did in 2000."

With a 50% or 80% tax credit for the costs of serious investigative journalism, there would clearly be a great deal of hiring, and expanding of newsroom capabilities, rather than the opposite. This would result in much more, and much higher quality, serious, substantive, factual, and investigative news, which, as I said, is a lot more expensive than horse race, circus, personality news.

Please see also: My next post on this, "Why economists should not leave the externalities of journalism to other fields alone"

Last month I was very happily surprised to actually see a piece in the economics/politics blogosphere/media dealing with the monumental externalities of the media. And it was by academic economists, no less: "Regulating for an independent media: The problems of political and commercial bias", by Matthew Ellman and Fabrizio Germano, in VoxEU.

This is something I've been banging my head against the wall about in the economics/politics blogosphere for over a year, leaving more than a dozen comments, with no traction (until just today!). Before last month's piece (and Mark Thoma today), the only person or site I have ever seen discussing the colossal externalities of the media and what government might do about them is Ezra Klein of the Washington Post. And I've spent almost two years reading or browsing over an hour a day many of the major economics and politics blogs and other online media. This includes reading at least the titles of over 90% of the links in Mark Thoma's outstanding and wide ranging Economist's View blog. But with all of this, the only one I had ever seen discuss this besides myself is Ezra Klein.

I'm not saying there's not someone else out there, but with how monumentally costly these externalities are, with the immense importance of this issue, it should not be so rare that even with the great amount of looking I've done all I've found besides last month's article (and  Mark Thoma today) is Ezra Klein. Ezra's an extremely intelligent and talented blogger, but he's still just one person.

But what about the academic economics literature?

I did an extensive search of JSTOR, a vast and well respected database of academic journal articles and other works. It covers 97 economics journals, including almost all of the top ones. The journals are usually covered over extremely long periods of time. For example, The American Economic Review 1886-2006, Econometrica 1933-2006, The Journal of Political Economy 1892-2003, The Quarterly Journal of Economics 1886-2003, and The Review of Economic Studies 1933-2005.

I searched for the following words in the abstract:

1) Media and Externalit* (The "wildcard" character, *, includes any letters after it in the search, so externalit* will make the search include externality and externalities): 1 found, but it was not the main subject of the paper:

–  "Platform Competition in Two-sided Markets", Jean-Charles Rochet, Jean Tirole, Journal of the European Economic Association, Vol. 1, No. 4 (Jun., 2003), pp. 990-1029

2) Media and Public Good*: 0

4) Journalism and Externalit*: 0

5) Journalism and Public Good*: 0

5) Press and Externalit*: 0

3)  Press and Public Good*: 0

6) News and Externalit*: 0

7) News and Public Good*: 2!

–  "News as a Public Good: Cooperative Ownership, Price Commitments, and the Success of the Associated Press News as a Public Good", Stephen Shmanske, The Business History Review, Vol. 60, No. 1 (Spring, 1986), pp. 55-80

–  "Advertising and Political Bias in the Media: The Market for Criticism of the Market Economy", Daniel Sutter, American Journal of Economics and Sociology, Vol. 61, No. 3 (Jul., 2002), pp. 725-745

So that's it, a grand total of three papers, and none of them were in top 10 economics journals. This isn't a branch of economics, it's a bud, and a bud that's been starved of nutrients and sunlight for a very long time.

Of those three papers, two dealt with the externalities between a media outlet and an advertiser. That means that in the entire vast search of JSTOR, with articles going back to the 1800's, I found just a single article that dealt with the externalities between a media outlet and a reader/viewer/listener.

And I found similar results in a search of the political science and public policy literature.

Doing the above searches for the entire text, and not just the abstract, yields many results, and you can pick through and find some that actually do discuss the externalities of the media, but this is not a subject of much serious research and of detailed remedies studied in depth. Another indication of this is that I have over twenty general macro and micro economics text books, graduate and undergraduate, and not one of them, in over 10,000 pages, says one thing about the externalities in journalism.

So, why are the externalities in journalism almost completely ignored in the economics/politics academic literature and blogosphere/media?

It's certainly not because the impact and importance are small, as I hope to show you in my next post...

Nobel Prize winning economist Paul Krugman in a post today makes essentially the same point I made in my Blog Action Day post on Thursday:

With my training and work mostly in finance, I put it in finance terms:

Krugman's post today justifiably severely criticizes Stephen Levitt. In his new book Superfreakonomics, he "quotes Weitzman, which cites his [tail] probability of utter catastrophe as if it were a reason to be skeptical of the need to act." When a full economics professor at a prestige school misses, or doesn't acknowledge, the argument that the risk of devastating losses justifies low, or negative insurance like, discount rates, it's evidence that we are not getting this message out enough in at least the professional media and blogosphere, and in fact, it's a message that I personally seldom hear, at least explicitly and clearly, in a great deal of reading of this media.

Ezra Klein has alerted me that today is Blog Action Day, "an annual event held every October 15 that unites the world’s bloggers in posting about the same issue on the same day with the aim of sparking discussion around an issue of global importance." This year's issue is climate change.

So in doing my part I thought I would highlight a large study lead by Oxford trained economist Sir Nicholas Stern on the economic costs and benefits of global warming action. The study concluded that large expenditures to combat global warming were more than paid for by the economic benefits of avoiding potentially extreme global warming costs to the world.

One of the criticisms, though, was that Stern's team applied too low a discount rate to future economic benefits of decreased global warming. And some of these benefits are far in the future. For example, the report has forecasts of GDP in the year 2100.

If you look at the Wikipedia entry on the Stern study. You see several counters to the low discount rate criticism. Nobel Prize winning economist Kenneth Arrow says that the large investment in global warming action may be justified even with a discount rate up to around 8%. And in the face of somber new evidence, Stern in June doubled his estimate of the justified amount of spending on global warming (the original study was in 2006).

You also see a lot of discussion of things like pure time preference rates, not favoring the current generation over future ones, and comparison to market rates of return. But what I did not see, at least not explicitly and clearly, is the risk-return tradeoff. And this is something I have rarely seen in global warming  articles and discussion. But it's crucial (an outstanding exception is a 2007 article in the Economists' Voice by Nobel Prize winning economist Thomas Schelling, "Climate Change: The Uncertainties, the Certainties and What They Imply About Action").

The risk-return tradeoff says that the higher the risk of an investment, the higher an average rate of return you will, or should, require. But it also says, conversely, that the lower the risk of an investment – or the more risk decreasing an investment – the lower an average rate of return you will happily accept.

What average rate of return do people happily accept for fire insurance for their home? A negative one, not just a low one, a very negative one. People even accept a very negative return for insurance on their car.

So what return would you accept for fire insurance on the planet you, and your children, and your grandchildren will live on? Scientists aren't that sure what exactly will happen with global warming. The feedback effects could get out of control and devastate the planet.

Stern's study justifies large spending on global warming even using positive rates of return (or discount rates). But when you use a negative, insurance like, rate of return, then clearly it becomes far more than worth it to spend at least moderate sums combating global warming, sums much greater than anything that's currently being discussed.

Unfortunately, I was just rejected for a letter I submitted to the Economists' Voice, which was responding to a letter by Boston University financial economist Zvi Bodie.

Well, that's the breaks. At least I didn't get a form letter. Berkeley economist Aaron Edlin responded, writing, "My own take on Zvi Bodie's point suggests that you are heading at a tangent.  Not an uninteresting tangent, but nonetheless a tangent."

So anyway, in the hope that you too will find my letter not uninteresting, I am printing it below. And, in fact, I really do think it makes important points.

Letter: Why "The Long Run" Still Matters in Choosing Stocks

By Richard H. Serlin

Dear Editors:

In Zvi Bodie's letter, "Are Stocks the Best Investment for the Long Run?", he makes the argument that although the probability of a cumulative return less than the average becomes much smaller over the long run, the potential total dollar loss becomes much greater. He also mentions, "Paul Samuelson’s rebuttal of the conventional 'stocks for the long run' argument". Indeed Samuelson did prove in a 1969 paper that with some standard utility functions and assumptions typically used in economics and finance, the optimal percentage invested in risky stocks does not depend on the investor's age or time horizon. In Samuelson's model whether the investor is 22 or 62 makes no difference in the optimal percentage of stock in his portfolio.

While this model did give some important insights, like all models, it's only as good as its interpretation, and as usual, the most intelligent interpretation is not literal. First, the model assumes away potential short-term liquidity problems, like inability to pay the mortgage or children's tuition, or inability to weather a job loss or serious illness. Next, it assumes that an individual's level of risk tolerance is constant throughout life, when in fact, a healthy young person can tolerate a large loss of wealth far better than a senior.

The model also assumes that the utility an individual receives depends only on his current wealth, or income. In reality, the utility an individual gets from his current income depends greatly on what his income used to be, and on the incomes of his peers or reference group. An individual will be far happier with an income of $100,000 per year if he has spent his life at $100,000 or less, than if he has spent his life at $500,000 or more. He will also be far happier with a $100,000 income if the incomes in his reference group (family, friends, neighbors, perceived peers) are $100,000 or less, than if they are $500,000 or more (for an overview of the evidence see Frank, 2007).

Why does all of this make the time horizon and age of an investor important in deciding what proportion of his savings to invest in stock? If an investor is 60, and he invests all of his savings in stock, then if the stock market loses 50 percent in a year, as it has recently, he may not be able to afford important medical care, or otherwise may not be able to take care of himself properly. This is far less likely to be true of a healthy 25 year old. In addition, at 25, if there is a large loss in the stock market, an investor can hold off on, or slow down, increases in consumption, so that his lifetime consumption will stay steady, or better yet steadily increase. An investor of 60 having long grown accustomed to living on $100,000 per year, and with his working years coming to a close, will not be able to do this. He may have to suddenly spend the rest of his life consuming at an income far lower than what he has long grown accustomed to.

With regard to the consumption of others, if an individual is investing heavily in safe T-bills with an expected inflation adjusted return of 0.7 percent, while his reference group is investing heavily in stocks with an expected inflation adjusted return of 6.8 percent (see Siegel 2008), then over time his reference group, and indeed society as a whole, will likely grow multiples wealthier than he with the power of compound return, and this will typically greatly lower his utility (see Frank 1999 and 2007). If, however, stocks crash, they also do so for his peers, so he maintains his relative position. It's a "we're all in the same boat" situation (You may ask, if everyone invests in stock, will this substantially bring down the return of stock anyway? Not necessarily, not if the flexibility of stock simply allows firms to create more wealth than they can with bonds; see Serlin 2008.)

In the literature I have not seen these factors considered in a lifetime portfolio model. I believe this is partly due to an overvaluing of mathematical ease relative to realism, and partly due to a bias against considering positional/context/prestige factors, despite the great effect they have on utility and behavior (see Frank 2005).

Richard H. Serlin
Adjunct Professor
University of Arizona
President
National Personal Finance Education
Tucson, AZ, USA

REFERENCES AND FURTHER READING

Bodie, Zvi (2009) "Letter: Are Stocks the Best Investment for the Long Run?," The Economists' Voice: Vol. 6 : Iss. 3, Article 3. DOI: 10.2202/1553-3832.1488. Available at: http://www.bepress.com/ev/vol6/iss3/art3

Frank, Robet H. (2007) Falling Behind: How Rising Inequality Harms the Middle Class. Berkeley, CA: University of California Press.

Frank, Robet H. (2005) "Positional Externalities Cause Large and Preventable Welfare Losses," American Economic Review, Vol. 95, No. 2: 137-41. May

Frank, Robert H. (1999) "Our Climb To Sublime; Hold On. We Don't Need to Go There," The Washington Post. January 24th. Available at:
http://www.robert-h-frank.com/PDFs/WP.1.24.99.pdf

Samuelson, Paul A. (1969) "Lifetime Portfolio Selection by Dynamic Stochastic Programming," The Review of Economics and Statistics, Vol. 51, No. 3: 239-246. August.

Serlin, Richard H. (2009) "Supply Side Explanation of the Equity Premium Puzzle," Working Paper. Available at: http://works.bepress.com/richard_serlin/18

Siegel, Jeremy J. (2008) Stocks for the Long Run. 4th Ed. New York, NY: McGraw Hill.