Economic Logic

I am sure you wondered what makes that vegetarianism is more prevalent in some countries than others. I am glad to help you today.

Eimear Leahy, Seán Lyons and Richard Tol make a distinction between developing and developed economies. In developing ones, vegetarianism is mainly an issue of necessity, as meat is harder to come by. In developed ones, it is an increasingly popular lifestyle choice, which the authors interpret as an increasing awareness of the environmental impact of meat production. They come to this conclusion by combining household level survey data, to infer the number of vegetarians, in various countries and years with national level data. Interestingly, religion and in particular hinduism does not appear to be a factor.

There is currently a debate between Daron Acemoglu and Simon Johnson and David Bloom, David Canning and Güther Fink on whether health improvements lead to higher growth. Acemoglu and Johnson claim it does not, and overturn previous results on the basis that they address critical endogeneity issues. The instrument they propose is exogenous improvements in health technology and how they impact national health.

Bloom, Canning and Fink acknowledge this but think that timing is crucial. Health improvement take time to translate into higher incomes. For example, health in utero in only reflected in physical and cognitive development many years later. Concretely, this means that countries that already benefitted from good health subsequently did not enjoy improvements in health conditions, yet could show growth from previous improvements. Cross-country regressions with appropriate lags show this.

This debate makes me think again that development is in dire needs of proper modelling. All its debates are about instrumental variable choices or specifications of linear reduced form "models" with frighteningly small samples One can debate forever on such reduced forms if one does not have a strutural model to work from. Lay down a theory, derive from it testable implications, which may not be linear by the way, and then argue. This is the scientific way.

Amartya Sen has provided an important framework that helps define the basic needs that human should be able to get. His capabilities and functionings approach has been very helpful in establishing how to measure human rights, and especially economic and social rights can be achieved. There is a large literature that helps to channel policy given current rights achievements.

Martin Binder and Alex Coad point out that all elements in Sen's approach (the capabilities) could in fact be endogenous to each other, in other words, one component could be a precondition to the other. For example, some functioning could depend on particular resources, or the reverse, or some functionings could be resources for others. one's health may depend on income, but income may also depend on health. This is rather important when one should decide what policy one should concentrate on. But it is not obvious how to establish such a hierarchy. To do this, they apply a panel vector autoregression to the British Household Survey Panel. Thus allows to extract the relevant leads and lags.

Clearly, income is a resources for many functionings, but "being happy" is also a resource for income, especially for males, and for other functionings like "being healthy," "being nourished" and "moving about freely." Mobility is also a resource for higher material well-being. Thus, ensuring people a happy can help ensuring other dimensions of welfare are more easily achieved.

While people are now used to widespread smoking bans in the United States, European countries are right now going through the painful transitions, with the expected anxieties from restaurant and bar owners. They will do fine, but one can still ask whether simple taxation of tobacco would not be sufficient and especially more efficient in internalizing second hand smoke.

Charles de Bartolome and Ian Irvine note that taxation has a major problem here: the emergence of a thriving black market. Banning smoking in public areas also has a major disadvantage, namely that one can smoke more at home, potentially exposing more family members and especially children (see previous post in this regard). De Bartolome and Irvine give a counterargument: a ban interrupts to continues flow of nicotine, making it emotionally more expensive to the smoker, and possibly may also drive him to abandon smoking more than a tax could. We now need a paper that disentangles the quantitative effects of the polices to sort it out.

Does publishing the performance of schools work to improve them? Schools certainly resist such disclosure, as they are afraid of being exposed or misjudged, given their particular circumstances. The case of the Netherlands is interesting, as a newspaper regularly lists a ranking of secondary schools along with various scores, and has been doing so for eleven years.

Pierre Koning and Karen van der Wiel use this data and notice that schools that score badly systematically improve, once one takes into account the delays in publishing and disseminating the survey results (three years!) and in registrations in schools. This helps also in resolving issues with endogeneity. Interestingly, they find indicators that cannot be manipulated by schools (for example by preventing poor students from getting tested). Finally, one important issue here is the mean reverting bias, as schools that do badly one year may just have been hit by a bad shocks and should be doing next year anyway. Long term effects of the responses to the publication of the rankings are in the order of 10 to 30% of the standard deviation, which is substantial giving that the publisher has no way to sanction bad schools. It is all about naming and shaming.

PS: the actual text of this paper starts on page 11. What a waste!

The availability of large amounts of natural resources is sometimes a curse, sometimes a boon. There are plenty of countries where the discovery or exploitation of, say, oil or diamonds, leads to corruption or civil war, that is counterproductive attempts at grabbing the rents. But there are others where not such conflict occurs, rather various factions are appeased with the distribution of these rents, which may be a second best but is still much better than corruption and conflict. What triggers in which equilibrium a country falls in?

Kjetil Bjorvatn and Alireza Naghavi build a model where the government cannot credibly commit to transfers. When there are few rents to distribute, there is no conflict. When there are a lot of resource rents, the government has a lot to lose from conflict and is credible when it promises to redistribute, for example through patronage employment, and continue doing so. But when there is an intermediate level of resources rents, the government's future policy is not credible, as redistribution leaves it with fewer rents than if it were to try to keep them violently.

In many countries, social security systems face obvious challenges, yet little has been done about it so far. That is either because it is not possible to muster political support for it, or because politicians believe that is not possible. Let us have a look at this using some theory.

Georges Casamatta and João Gondim use a continuous time overlapping generations model to study out the parameters of a pay-as-you-go system can be modified in the face of a permanent negative fertility shock. cutting pensions benefits or delaying the retirement age find a majority of supporters, increasing the contribution rate does not. A critical aspect here is the status quo: an increase in the income tax necessary to balance the social security budget. Too often, people compare a reform to the current policy, instead of thinking what emergency reform would have to be performed once the shock has impacted.

People favor a cut in benefits even though it decreases their lifetime consumption because it gives a better stream of consumption through their life cycle, i.e., they are fine with having more now and less alter. Which also means an increase in the payroll tax is not acceptable. And an increase in the retirement age achieves the same objective, again compared to a status quo with a high tax rate, and also to the two other policy moves.

This assumed the changes in policy were applied at the moment the fertility shock happened. Delaying it changes preferences, and depending on demographics, things can go towards favoring one or the other policy change.

Genocides and mass killings are still part of modern history, and when they happen it is most of the time too late to intervene. Thus prevention is more effective, but one needs to identify where there are risks.

By looking at past history with some good use of theory, Joan Esteban, Massimo Morelli and Dominic Rohner identify the following criteria: 1) large natural resources, 2) rents distributed proportionally, 3) low productivity, and 4) weak state. And a civil war can help, too.

Of particular interest here is the impact of constitutional constraints that force a government to provide resources to some groups according to their number. While such constraints may be well meant, to reduce disparities, they have the adverse effect of providing incentives to reduce the group size, by mass killing or displacement. In other words, provisions that are supposed to protect minorities may end up eradicating them.

On financial markets, it is well known that anticipated changes in policy interest rates have little impact because they have already been priced in. The role of anticipations is very important in the price of any forward-looking goods, a phenomenon that can go beyond financial markets.

Sara Polini applies this idea to labor markets and specifically to the anticipation of movements in the minimum wage. She builds a search and matching model and applies it to Spain where minimum wage changes are usually anticipated, but occasionally not, like after the 2004 terrorist attack that lead to a surprise Socialist government. Anticipated changes lead to a reduction in employment, while unanticipated ones do not. This reconciles the ambiguous and inconclusive results in the literature, which ignored whether changes were anticipated or not.

Do anticipated tax changes have an impact? Theory tells us they should: as households anticipate future tax liabilities, which reduce their permanent income. Thus one should see changes in consumption. Yet, there are plenty of microeconomic studies that find no significant effect of anticipated tax changes on consumption. What about output?

Karel Mertens and Morten Ravn avoid the usual VAR approach for the identification of anticipated and unanticipated tax changes. For the US, they use the Romer and Romer narratives to identify exogenous federal tax changes, and then measure the time between the signature of the tax bill and its implementation date, and if it is more than 90 days deem the tax change to be anticipated. While unanticipated tax cuts increase output and consumption, with some delay, anticipated and not yet implemented ones decrease output and have no impact of consumption. And the longer the implementation lag is, the deeper the drop in output is. And when was this particular important? When Reagan announced tax cuts and sent the US economy into recession.

Tax here is a broad word, as it encompasses all types in taxation. Of course, a tax cut on labor income is going to have a different impact than a tax cut on dividend income. Of particular interest here is that the equation they estimate is derived from a DSGE model, and they tested that it correctly measures the coefficients even in short samples. That exercise assumes that tax changes are measured by changes in tax liabilities, wherever they may be (social security, income tax or gasoline excise tax, for example). They can have very different effects depending on their nature. So it is not clear how this translates back into a model. It would be interesting to repeat the exercise by differentiating by type of tax.

To be an entrepreneur, you should be confident and not risk-averse, given the high default rates. In a sense, you need to be out of the ordinary to take this kind of risk, and this is why there are so few entrepreneurs. Does this also translate to CEOs? In a sense they are entrepreneurs, but they are also employees. One can expect some of them to share the characteristics of entrepreneurs. How do their firms perform?

David Hirshleifer, Angie Low and Siew Hong Teoh take measures of over-confidence of CEOs and relate them to firm performance, in particular regarding to innovation. They measure over-confidence by looking at whether CEOs retain options beyond their vesting period and by analyzing press coverage about them, counting occurrences of particular words. They find that over-confident CEOs indeed do invest more in innovation and have more success as measured by patents. However, returns to R&D are much more volatile, and returns on assets are comparable to other firms.

One could then understand that firms that focus on growth and innovation would want to hire over-confident CEOs. Which leads us to the endogeneity issue. Removing recently hired CEOs, who would be best matches before the firm evolves, does not change results. The longer tenured CEOs have fashioned their forms to their image, giving us these results.

So you come across a museum and wonder whether it is worth visiting. The entrance price is rather steep, and given the uncertainty of your future enjoyment, you decide to pass on the opportunity and walk on. Could the museum have found a way to still attract you? One way would be to give you free entry, but this would oviously lead to loss of revenue and overuse of the museum.

Bruno Frey and Lasse Steiner claim it can attract casual visitors by asking for an entrance fee that depends on the time spent in the museum. This would allow for a cheap "sneak peek," and true lovers would pay much closer to their marginal utility. This is more efficient than exit donations, as those are voluntary and thus lead to loss of revenue and overuse of the museum. Keeping in mind that a museum's mission is often to spread knowledge and enjoyment, this scheme is much more likely to attract visitors with lower marginal utility and possibly expose them to arts or sciences they may learn to appreciate. Instead, museums typically emphasize club memberships, who cater to visitors who would have come anyway and offer them deep discounts that bring revenue loss.

Everybody agrees that child labor should be eradicated, even if some child labor maybe efficient. There is also wide agreement (except among politicians and officials) that simply banning child labor is not the solution, as parents are usually forced to send their kids to work due to poverty, borrowing constraints, or uncertain educational outcomes. In addition, it is difficult to ban something that is covert, as most child work is performed within the home or farm.

Alessandro Cigno proposes a scheme that would take care of all these issues together. While complex it addresses them one by one: To take care of the borrowing constraint, the government provides education grant. To make sure not only attend school but also spend sufficient time on homework, grants based on final results are given. And finally, to reduce the uncertainty about education outcomes, it redistributes from rich to poor. The result is not a first best for two reasons: first because of the distortions introduced, second because of the moral hazard with covert child labor. But it reduces in most cases child labor. Whether governments in developing countries are capable of implementing such a complex system remains to be seen. One can imagine improving on the PROGRESA system in Mexico, whether attendance at school is sufficient to obtain a subsidy, but assiduity at school is not rewarded.

In the face of the AIDS epidemic, African governments have a very hard time convincing their constituents to refrain from risky sexual practices, in particular using condoms, despite wall-to-wall information campaigns. The problem is that life expectancy is very low without AIDS, thus their is little incentive to preserve life. And future potential earnings are dismal as well.

Pedro de Araujo and James Murray come up with a neat idea to overcome this problem: government supplied life insurance policies, which make anticipated income more valuable and thus prolongation of life more interesting. Making life insurance payout conditional on death not being the result of AIDS, people should be making sure not to catch. Only drawback: AIDS carriers would be even more marginalized. But you cannot make an omelette without breaking some eggs.

If you compare the cars sold in Europe and the United States, the US ones are woefully fuel inefficient. And it is striking that even American automakers provide better cars in this respect abroad than at home. Of course, fuel is much more expensive in Europe, so this should not be surprising. But does this difference in fuel efficiency reflect only the price difference?

One clue about this question is given by Hunt Allcott and Jean-Nathan Wozny who use variations in gas prices in the US and look at how this translated in car sales by fuel efficiency. It turns out Americans are only willing to pay $0.61 to reduce gas consumption by $1.00, after controlling for other car characteristics, the expected usage of cars and even how new cars filter through the used car market over time. Are consumers really that dumb? I suspect rather that it is 'uncool' to have an efficient car, something that the data cannot identify. And how do you take care of such an attitude? One way is a paternalistic way, by setting fuel efficiency standards for all cars. Another way would be to tax cars by fuel efficiency, or equivalently tax gas more, in order to get households to increase fuel efficiency to the dollar.

If you want to make a name for yourself in Economics, you have to publish in English, as it has become the lingua franca of the profession. But in which language a firm's annual report is issued, would not matter, right?

Wrong. Thomas Jeanjean, Hervé Stolowy and Michael Erkens show that publishing an annual report in English, in addition to the local language, increases the pool of potential investors and thus reduces information assymetry. They are careful to address the endogeneity issue here, of course, as a firm may issue an English report because the investor base has broadened. This language effect is similar to the adoption of particular accounting standards, as this allows investors to better understand the firm. Empirically, this improved information translates into lower bid-ask spreads on the stock market, larger following by analysts, and a larger share of foreign ownership. Whether this impacts also firm value is not addressed, though.

To publish in Economics, marketing your paper is unfortunately very important. And it all starts with a catchy title. Some subjects can inspire you to absolutely great titles, like this one: "An Economist's Guide to Heaven." Dan Hamermesh could have penned that, but it is a paper by Nick Muller, Jo Anna Gray and Joe Stone.

The paper is not about how you can make sure the Pearly Gates are open to you, but rather it "offers an economic model of God and humanity as optimizing agents in the context of concrete belief archetypes (religious ‘contracts’) in Judeo-Christian theology." In plainer words, they study how belief about God influences the behavior of optimizing agents. In this paper, God optimizes, too, and believers know that. People care about private consumption, public goods and what God does to them, if they are believers. God benevolent, as He cares about public goods and likes to reward people instead of punishing them. Believers have a contract with God that entices them to provide public goods in exchange of godly rewards or punishments. Contracts can take four different forms, depending on the archetype within the Judeo-Christian belief system, which lead to different outcomes that can be tested using the General Social Science Survey.

Results are consistent with the model: strength of faith is irrelevant if there is no penalty in the contract, believers renege if there is no penalty, and contracts with penalty work, even if penalties are never exercised. What remains to be understood, though, is why there are believers in the first place.

I find it quite frustrating to teach undergraduates, as they seem to have difficulties grasping simple concepts and often exhibit a disturbing lack of drive to learn. I may say this is due to my teaching, but my sentiment has been echoed by many colleagues, at my place and elsewhere. In addition, this frustration is fueled by the difference I see between undergraduates today and those from my times as a student. That view may very well be biased, as I was a rather good student, thus I am looking forward to some objective measures of student effort and performance.

Philip S. Babcock and Mindy Marks use time use surveys of students in 1961 and 2003. They notice that the time spent studying has been reduced from 40 hours a week to 27. This is not a small change. And this cannot be explained by any composition effect, as it appears no matter how you slice the data. There is some non-measurable way in which students are different.

One thing is that they rely much more on textbooks, thus they need to do much less note-taking and transcription, or trying to understand what they wrote. This would be positive for outcomes, probably. But universities pamper students much more with social activities that distract them from studying, on top of all the dispersions TV and the internet now offer. And finally, students find much less of an urge to do well, as they have the impression, which is not wrong, that they will be doing fine anyway. They do not need a work ethic to succeed any more.

We all had chuckle when learning about some tribe or civilization making sacrifices to some spirit or deity, sacrifices that seem to be completely ineffective and the result of some superstitions. Before doing some navel gazing whether the sacrifices we do ourselves to our churches fit the same bill, let us think whether there is something innate that makes us surrender to such superstitions with useless sacrifices.

Paul Frijters and Juan Barón perform an experiment whereby participants experience outcome uncertainty due to "Theoi," and participants can make a sacrifice to "Theoi." Despite the fact that these sacrifices have no impact on outcomes, they amount to a staggering 30% of takings. Even labeling the source of the uncertainty later in the experiment as "the weather," which is clearly exogenous, does not change things. Participants facing no uncertainty still sacrificed 7%.

What does it tell us about human nature? Faced with the unknown, we believe we can still influence it with some sacrifice, no matter who irrational that may seem. And this seems to be deeply ingrained in us, as animals do the same, such as pigeons.

It is commonly assumed that managers should be making well-informed decisions. That is just common sense and should apply at all levels. In fact, one of the reasons why it is believed a centrally managed economy like in the Soviet Union failed is that central managers could not have all the relevant informations. Interestingly two Russians claim there are situations where it is better that managers should be to some extend ignorant.

Sergei Guriev and Anton Suvorov bring the following idea. Suppose employees need to make some sort of investment in a project. If managers subsequently get little information, they will not change decisions, stick to the course and this gives good incentives for the employees to make that investment. On the other hand, if managers get a steady flow of information, they may change the course of the project, and employees facing this uncertainty will be more reluctant to invest effort in it. It is thus in the interest of managers to avoid getting information.

Are financial crises costly? To answer this question, one should not look at the cost of a bailout, a drop in GDP or missing tax revenue, but at what people care about: consumption. In this regard, the current crisis is too young to be analyzed, but other ones are available. Two recent papers look at this for Japan and Norway.

Yasuyuki Sawada, Kazumitsu Nawata, Masako Ii and Mark Lee use panel data from Japan that spans over the 1997 banking crisis and estimate Euler equation that allow for credit constraints. While in normal times, 7.82% of households are credit constraint, this increases only to 8.44% during the credit crunch. In other words, the ability for households to smooth out consumption was only negligibly affected.

Eilev Jansen studies Norway, but prefers a VAR approach linking current wealth and income to consumption, which appears to work better than Euler equation approaches for the recent years. But again, the impact of the crisis on consumption is negligible: the elasticity of equity income on consumption is 2%.

Thus, the impact on consumption seems to be minimal. So why again are we seeing these huge interventions?

The study of bubbles has come into fashion lately, and of course identifying them is high on the priority list. The thing is that they are very difficult to find, by definition. A bubble appears when the value of an asset deviates significantly from its fundamentals. But the latter are not directly observable, as they are mostly formulated in terms of expectations, and most of the time they are actually measured using the asset price. You see how this is circular and makes the exercise impossible.

Friedrich Geiecke and Mark Trede claim to have solved this. The use the prices of futures to determine dividend expectations, specifically future contracts on the Dow Jones Euro Stoxx 50 DVP Index, which is a traded index that measures all cumulated dividends paid on stock listed in the Dow Jones Euro Stoxx 50 Price Index. From this, Geiecke and Trede back out the fundamentals, then compare them to the last Price Index and find indeed that there are rational bubbles.

This is an interesting approach. I am worried though that the market for those futures may not be that liquid so as to tease out market fundamentals. We will see with time whether this approach holds water