Economics/Finance

Hey up everyone, it’s the Prospect Magazine Intellectual of the Year contest!! I’m afraid that everyone at CT forgot to put our forms in (again!) although I see that bloody Yusuf al-Qaradawi did (and Airmiles too). This is a real shame, since I recently became The Most Important Thinker In The World. As Tyler Cowen pointed out in a post on Ray Kurzweil, the previous holder of that title, the secret to being the Most Important Thinker In The World is a mastery of the expected utility rule.

No matter how ludicrous your predictions, if they are sufficiently wildly utopian, then your thinking has a greater expected value than anyone else’s (see here for the general idea). Thus, if Kurzweil reckons that we will upload our consciousness onto software and live for ever as pure energy on the internet, then I say all that and a pony too! Not just any old pony by the way, but a super technonanopony! Which eats racism and shits pure gasoline … on the internet! Oh yeh and we will constantly be having multiple orgasms … and not just the normal kind either (more details to come). You might say that it’s pretty unlikely and I’ve failed to spell out important details, but as long as there is at least some probability that I’m right, then I am more important than Ray Kurzweil to the tune nU^(-rT), where U is the utility of a magic pony, n is the probability I’m right, r is the discount rate and T is the time it will take to sort us all out with one. Keep reading CT folks, because in expected value terms, it is only going to become more important!!
[click to continue…]

Thinking about the German election outcome, it struck me that this would be an ideal test for betting markets. I’ve always thought that, if there’s a bias in such markets it would be towards the right, so the toughest test for them would be predicting a left-wing upset win like this one (I’m calling a win on the basis that left parties got a majority of the vote, not making a prediction about what goverment might emerge). A quick Google reveals that there is such a market, called Wahlstreet but my German isn’t good enough to deal with their site, which has lots of graphs bouncing around without an obvious control. Hopefully someone will be able to help me.

Anyway, if there’s a contract allowing a bet on the share of votes for the three left parties (SPD, Greens, Left party) and if, two weeks in advance, that market was predicting a vote share of more than 50 per cent (as actually happened), I’ll concede that the case for the superiority of betting markets over polls has been established, at least as a reasonable presumption. [I didn’t follow the polls closely but I had the impression that most of them were predicting a CDU/CSU win until the last days of the campaign].

The Economists’ Voice is one of the more interesting (at least to me) ventures in academic publishing on the Internet. The aim is to provide analysis of economic issues from leading economists, something that has been sorely lacking in recent years[1]. It’s intended to contain deeper analysis than is found on the Op-Ed page of the Wall Street Journal or New York Times, but to be of comparable general interest. Unfortunately, it’s not free but you can get guest access to read particular articles.

Simon Grant and I have an article on the implications of the equity premium, an issue that’s been discussed in various ways on this and other blogs.

[click to continue…]

People are already wondering what effect Hurricane Katrina will have on the US economy. So far, most of the discussion I’ve seen has focused on very simplified Keynesian or GDP-based views of the economy, in which the resources that go into rebuilding New Orleans and the surrounding regions count as a net addition to economic activity.

[click to continue…]

Bribery is a good thing because it helps the bribed to learn what is best! So argues law & economics professor Thomas W. Hazlett “in today’s Financial Times”:http://news.ft.com/cms/s/61a388f6-0ce3-11da-ba02-00000e2511c8.html :

bq. Payola was made famous by scandals in the 1950s, when “cash, drugs and women” were traded to rock and roll disc jockeys in exchange for airtime, but the practice has a richer history. In both Britain and the US, 19th- and early 20th-century performers ­collected side-payments from music publishing houses for singing their songs.

bq. Ronald Coase, the Nobel Prize­winning economist, explained the practice in 1979. Radio stations own something valuable: songs played more tend to sell more. Competition for airtime develops, but how one conducts the best auction – given that station revenues come primarily from selling audiences to advertisers – is complicated.

bq. One view is that radio stations should be faithful to listeners and make choices based only on their DJs’ honest musical appreciation. But how do they know what gangsta rap track is top quality? Payola helps them learn, because record companies will tend to value airtime the most for releases for which they have the highest expectations of future sales.

I’d love to read commentary on this over at “Marginal Revolution”:http://www.marginalrevolution.com/ . Tyler?

According the Bureau of Economic Analysis, US household saving was 0.0 per cent of income in June. I was going to boast that we in Australia were going one better, having had negative savings for several years now, but a check over at General Glut’s Globblog informs me that the ABS figure deducts depreciation of privately owned housing (correctly in my view) while the US does not. Both measures omit capital gains, and the validity or otherwise of doing so is central to any assessment of the sustainability of the present economic trajectory.

Regardless of this, the collapse of household saving in the English countries suggests to me that, with deregulated capital markets, the low real interest rates that have prevailed recently, particularly in the US, are not consistent with any significantly positive savings rate. It follows that such low interest rates can be sustained only so long as someone else is saving: either households without easy access to credit or foreign governments. Business may save some of the time, but low interest rates make borrowing for speculative investment quite attractive I can’t see this lasting too long, and therefore conclude that real interest rates have to rise.

I recently made a one-night trip from Houston to Chicago with very little notice. I managed to save almost $200 off of the lowest-price plane ticket by adding a hotel room at a Super 8 outside of Gary, IN, which I didn’t use.

A quick look at Travelocity shows me that it was no fluke- for brief trips with very little notice, it’s much cheaper to book a flight to Chicago if you book a room at a Super 8 at the same time. At the time that I originally wrote this post, Delta would sell a flight from Houston to Chicago for $616 without a hotel room, $340 with. If I needed to leave tomorrow, I could buy a ticket on American for $606 without a hotel room, or $350 with.

How does this make sense? I can imagine that, all other things being equal, it would be worth a few bucks to an underutilized hotel to boost its occupancy rates. They might gain a customer for the future. However, even if the hotel in question incurred no costs at all for a housing a guest, I see no way that the hotel could derive $200+ worth of benefit. I must be missing something obvious, but I can’t figure out what.

The Woodrow Wilson School at Princeton has launched a new initiative to make available audio and video recordings of academic lectures and events. For now, the University Channel is focusing on public and international affairs, because, as the site claims, “this is an area which lends itself most naturally to a many-sided discussion”. Perhaps the idea is to have people link to the material on the site and then host discussions on their own blogs or classrooms as I do not see a place for the suggested “many-sided discussion” on the UC site itself. The scope of materials that will be included seems quite broad judging from what is already available (IT, religion, politics, etc.).

It is certainly nice to have one central repository of such materials. If the project succeeds in getting lots of places on board and hosting material from all over then it has the potential to be a great service. In fact, the collaborators it already has lined up are already a good sign of its potential. (Then again, some people have suggested [see first comment] that “text is the only useful information on the Internet”.;)

Over on my other site, a further installment in the series “Everything I Know, I Learned in MBA School At Great Expense And My God Are You Lot Going To Suffer For It”. In this episode, I discuss what the theory of risk management and process control can tell us about the desirability or otherwise of shooting suspected suicide bombers.

This is a quibble with something in John’s long discourse on the war. It’s more of a question, than a quibble, really. John rightly points out that, in assessing the true consequences of some policy or action, we have to take into account the opportunity costs:

A second common feature of pro-war analysis is a failure to take account of the opportunity cost of the resources used in war. The $300 billion used in the Iraq war would have been enough to finance several years of the Millennium Development project aimed at ending extreme poverty in the world, and could have saved millions of lives. But even assuming this is politically unrealistic, the money could surely have been spent on improved health care, road safety and so on in the US itself. At a typical marginal cost of $5 million per live saved, 60 000 American lives could have been saved. This is morally relevant, but is commonly ignored.

Please don’t think about the war, or John’s more general argument about it, for the moment. Assume that all we are doing is trying to figure out the consequences for the purpose of moral evaluation (whatever weight you think the consequences should have — for me, its less than for John, but more than for some). What are the real opportunity costs that we should figure in?

[click to continue…]

Over at the Volokhs, Jim Lindgren gets “upset”:http://www.volokh.com/archives/archive_2005_07_17-2005_07_23.shtml#1121820182 “twice”:http://www.volokh.com/archives/archive_2005_07_17-2005_07_23.shtml#1121843543 at co-blogger Orin Kerr for “claiming”:http://www.volokh.com/archives/archive_2005_07_17-2005_07_23.shtml#1121819891 and “repeating the claim”:http://www.volokh.com/archives/archive_2005_07_17-2005_07_23.shtml#1121843543 that prediction markets did a bad job of prediction the Roberts nomination. For Jim, the issue is whether markets are in general better than experts at aggregating publicly available information; he believes that “markets (however “good” or bad they are in absolute terms) should be better than experts on balance, or at least better than experts who lack actual first-hand knowledge of the forthcoming decision.” For Orin, Tradesports seems to be no more than a “way of monitoring what a few newspapers and blogs are saying,” and, on the whole, it “seems easier to just scan the headlines at How Appealing.”There’s an obvious alternative hypothesis which neither considers. Roberts futures shot up in value from 1% to near-certainty in the few hours before the decision was “officially” leaked. One highly plausible interpretation of this is that word had already leaked to a privileged few with good contacts in the Administration. Then, some of those people with insider knowledge took advantage of their privileged position by betting Roberts and fleecing the rubes. As Steve Bainbridge has “noted”:http://www.professorbainbridge.com/2005/07/inside_informat.html, Tradesports doesn’t seem to have any rules against insider trading. On this interpretation, Lindgren is right in saying that markets like Tradesports can provide more information on executive decisions than scanning the blogs – but only because they’re being used by those who have insider information to take advantage of the less-informed (who naively assume that they’re playing a fair game). In other words, there’s strong reason to suspect that this case doesn’t support Lindgren’s more general claims about the superiority of prediction markets vis-a-vis experts; in this case the markets are arguably being manipulated by people with insider knowledge that isn’t available to the experts. The reason that markets are doing better than experts “without first-hand knowledge” is most likely that they’re being used by experts _with_ first hand knowledge to make money from those who don’t have such knowledge. This is a very bad case to test the efficacy (or lack of same) of prediction markets in aggregating dispersed public knowledge into a usable metric; it seems to me rather unlikely that this sort of aggregation is what is in fact happening here.

Update: Orin Kerr says in comments. “You claim in your post that “Roberts futures shot up in value from 1% to near-certainty in the few hours before the decision was “officially” leaked.” That is incorrect. As best I can tell, Roberts futures shot up to near certainty only after every news website started posting that Bush had picked Roberts.” In which case, it seems to me that Kerr is right on this, and Lindgren and I are wrong, for different reasons.

Update 2: “Brayden King”:http://pubsociology.typepad.com/pub/2005/07/bad_versus_good.html has a very good post on the topic.

The Church of England is currently having a vote about the advisability of ordaining women as bishops. Apparently up to 1000 clergy are thinking about leaving the C of E over this issue. While pondering this grave crisis in the spiritual life of the nation while watching Newsnight last night (it was my turn to take the bins out), I came up with the following theory, which I think has some predictive power.
[click to continue…]

On Tuesday night I went to see the “Bottle Rockets”:http://www.bottlerocketsmusic.com/ , supported by “Romney Leigh Getty”:http://www.romneygetty.com/ , play at the social club attached to my local RC church. Very good they were too (review “here”:http://tinyurl.com/9uzw3 ). But I write not to praise the Bottle Rockets but to wonder how the whole thing makes economic sense. Here are four guys, who have travelled to Europe from St. Louis, Missouri (plus the two Canadians in the support act). They have to meet their expenses, pay their entourage, agent, manager etc. They have to pay the cost of travel. The people who run the club have to break even, etc etc., the bar has to sell enough beer. My guess is that there were 50 people in the audience who all paid 10 pounds (and some of them bought CDs for another tenner). Maximum income for the night is therefore 700 pounds. Sure, touring sells CDs and builds name recognition, but how much difference does it make? Enough? This is the sort of thing which “Tyler Cowen”:http://www.marginalrevolution.com/ has probably got an opinion on.

Following up Henry’s post, I happened to reread a passage from James Surowiecki’s “The Wisdom of Crowds in which he discusses the stock market’s reaction to the Challenger disaster, the crucial point being

Did you know that within minutes of the January 28, 1986 space shuttle, Challenger, disaster, investors started dumping the stocks of four major contractors, Rockwell International, Lockheed, Martin Marietta, and Morton Thiokol, who had participated in its launch? Morton Thiokol’s stock was hit hardest of all … the market was right. Six months after the explosion, the Presidential Commission on the Challenger revealed that the O-ring seals on the booster rockets made by Thiokol became less resilient in the cold weather, creating gaps that allowed the gases to leak out.”

It struck me reading this, that I’d heard of Rockwell, Lockheed and MM in many contexts, but I’d never heard of Morton Thiokol. It turns out that they are a specialist builder of booster rockets and similar items (they’re now a division of ATK).

This seems to suggest a prosaic explanation of the market reaction. Whatever the cause, the space shuttle program was going to be shut for a long time. This would do a bit of damage to everyone involved, but much more to the rocket specialist Thiokol than to the other three big diversified companies.

The ATK website indicates that they still have plenty of shuttle contracts, so it seems as if the faulty O-rings didn’t do them much long-term damage over and above the effect on the shuttle program.

I haven’t got the full book to hand and I haven’t read the study cited there , so it may be that this explanation has already been ruled out in some way, but I thought the easiest way to find it was to post and see what response I got.