Poster of the Year

Sometimes you see something that just has to be shared on an economics blog. Today's piece is a poster I saw hanging in my friend's room, which was originally painted by Glenn Beck and can be found here. More original content is coming soon. I've just been so busy with school work. Summer is coming soon and that should allow me to spend more time writing here.

Read More...

Margaret Thatcher: A Legacy of Principle

                Today the world mourns the death of Baroness Margaret Thatcher, the longest serving and only woman to be Prime Minister of England in the 20^th century.  Born in Lincolnshire, England in 1925, she began her career as a chemist and later joined politics in 1959 as a member of parliament.  She was most notably influenced by The Road to Serfdom, a book by everyone’s favorite: FA Hayek.  This piece talked about the evils of government intervention and why a more hands on central government was sure to expedite the downfall of a nation.

                Elected as Prime Minister in 1979, she carried the worldview set out in Hayek’s works and set about the enormous task of privatizing government-owned companies like British Steel as well as utility companies and others.  She was also famous for fighting labor unions and increasing interest rates to encourage saving.  This had the effect of slowing the growth rate of money supply and brought the rate of inflation down from 18% to 8.6% over the course of her tenure. 

As is typical of a disciple of classical and neoclassical economics, she slashed government spending ruthlessly in many areas including a 3.3 percent cut in defense, 67 percent cut in housing, and 5.8 percent cut in transport.  She did increase government spending in absolute terms between 1979 and 1990 by 12.9 percent by choosing to allocate resources to employment and training (+33.3%), health and social security (+31.8% each), and law and order (+53.3%), among others.  She was also instrumental in the skirmishes around the Falkland Islands when it was invaded by Argentina, preserving that territory for the Crown.

She acquired many detractors over the course of time, most notably in the Soviet Union who christened her the “Iron Lady”, a moniker that she embraced.  She was known for bold words that were often well received, but had a tendency to offend some who could not stomach disagreement with their own beliefs.  The people that tend to leave an impression on society are rarely known to be soft spoken.

                When I heard about her passing, I recalled a U2 lyric and thought, “’the last of the rock stars’ is gone”.  She belonged to a different era, an era where political correctness had not yet been contrived and a person was willing to be 100 percent transparent regardless of the ramifications for popularity.  She was from an era when a person’s beliefs guided his actions throughout time and not just conformed to the circumstances of the moment and disposition of the crowd around him.  The Iron Lady was well-beloved by some and well-hated by others.  But even her detractors would have to acknowledge that behind all the things she did and what she said was a strong human being that always had the best intentions of the British Isles at heart and would sacrifice anything, even her own interests, to do what she believed was right.  That is a lesson I think we should take to heart for our own integrity and the welfare of those around us.

                MSN has a page of her best quotes which I found to be an enjoyable read but there is a quote in particular I wanted to share from the 2011 movie “The Iron Lady”, a dramatization of her life, which sums up her character quite well.

“We will stand on principle, or we will not stand at all.”

Read More...

What's the Big Deal with Cyprus?

Trouble in paradise?

            To be perfectly honest with you, when I first saw Cyprus making headlines I thought to myself, “is this becoming news because the Wall Street Journal is tired of making front page stories about the Federal Reserve’s endless announcements to continue its quantitative easing program until 20xx?”  I’m telling you, this shows up on the front page of the WSJ at least once or twice every week and I think that Bernanke needs to realize that the world has caught on to his game.  I digress.  What is the big deal with Cyprus?  That’s the question that’s been in the back of my mind ever since the crisis popped up.  I’m sure that a big chunk of the issue is hype related to the fact that the Eurozone crisis isn’t really selling news anymore.  At the same time, a few things have happened differently with this crisis that make it noteworthy and not just another country experiencing hard times.  So the rest of this post is divided into three sections: an overview of the crisis itself, then a part on why this crisis is a big deal and one on why it is not a big deal. 

            The financial crisis in America had pretty far reaching consequences as we’ve seen.  For Cyprus, which is so dependent on tourism and shipping, those consequences hit quite close to home.  As a result of those tough times, it has been in a recession since 2009.  Government debt, in a manner similar to most of the rest of the world’s countries, has increased significantly since then.  Things got much worse recently when credit agencies downgraded its governmentally issued debt in 2011.  As we’ll see in the next section, most of Cyprus’ economy is involved in the tourism industries but there is a large banking industry for off-shore accounts, particularly Russian business magnates.  Allegedly 60 billion Euros worth of Russian assets are in Cyprus.  Cyprus banks are also very closely tied to the Greek economy as it had accrued 22 billion Euros of Greek private debt.  The wave of financial upheaval in Greece did not have very far to travel to drown its island cousin.  Still struggling from that issue, the credit downgrade was the spark that set the powder keg off and everything began to fall apart.

            Not one to let a comrade go to pieces, especially when it is so heavily invested, Russia loaned 2.5 billion Euros to Cyprus to be able to cover spending and refinance its debt.  This was a bandage solution, but a help nevertheless, until the European Financial Stability Facility gave them a bailout at the end of November, 2012.  The particulars of the bailout are fairly typical of any given one so I’ll spare the details.  The notable activity was the bailout from the European Central Bank and the IMF, which was in the amount of 10 billion Euros and, as part of the deal, took 6.7% of the amount in Cyprus bank accounts up to 100,000 Euros and 9.9% in accounts over 100,000 Euros. 

            What do you think when you think of Cyprus?  I always thought of fishing and I imagine most people do.  It may have been the national pastime back in the day, but I was surprised to learn that the populace is predominantly employed in service sectors related to tourism.  It is, after all, one gorgeous island nation.  Let me give you some particulars though.  Pulling numbers from the CIA’s World Factbook, I see that the country’s GDP is $23.57 billion (PPP) and the average gross salary is $2,636 per month.  Per capita GDP, also in purchasing power parity terms, is $26,900/year.  It has a population of 1,155,403, making it rank 160^th in the world.  It is considered a developed nation.  All in all, this is a small country and it’s crisis, while a big deal to them, does not really have repercussions in most of the rest of the world.  Remember the amount of the bailout?  I would venture a guess that 10 billion Euros is not a whole heck of a lot of money for the IMF considering that it holds claim to almost 11 trillion dollars worth of currency.  The biggest non-Cypriot consequences will likely be in Greece and Russia and any other folks they do major trading with, but the vast majority of the world goes on unaffected. 

            That is not to say that we in America should overlook this crisis because of the “creative” measures Cyprus has taken to make the bailout happen.  Recall the levy on bank accounts from above.  When I first heard about it I was first stunned beyond belief and then dreadfully (and hopefully irrationally) scared that this could become a common tactic.  Imagine a government reaching into its citizens’ bank accounts and taking their money!  Then I realized that… governments already steal their citizens’ money through taxes.  That is a whole other can of worms that will have to be opened some other time.  But for now, let us say that taxes are probably a necessary evil that we’ve all come to live with, but the idea of taking money right out of a bank account is just astonishing.  It’s really quite unheard of, quite an infraction of property rights, and sets a scary precedence now that this is on the table as a feasible option for ailing countries to solve their monetary crises.  That is not to mention the fact that they are taking foreigners’ deposits as well! 

            The Sicilian, from The Princess Bride, told us that the classic blunder is going into a land war with Asia.  We shall see now if Sicily’s neighbor on the other side of the Mediterranean accidentally started one by taking Russians’ money.  Perhaps desperate times require desperate measures, and I certainly won’t claim to know what will happen next, but it takes some level of desperateness to steal peoples’ money right out from their bank accounts and I suspect that a financial crisis is only the beginning of their troubles. 

Read More...

The Price of Money

           Anyone with any level of familiarity with economics knows the saying that there is “no such thing as a free lunch”.  This is the easy way of summing up the concept of opportunity costs: that when you do something with your time, money, or other resources, that you forego doing the next best thing that you could have done with that time, money, or other resource.  If I buy a movie ticket, I cannot use those 10 dollars to buy two five-dollar foot-longs from Subway.  It’s a pretty straightforward concept.  Now if instead of two hours of entertainment or a sandwich, you wanted to buy money, you could take what we know is called a “loan”.  While it might seem counterintuitive to buy money with money in the future, loans are created with interest added onto them to compensate the lender for his initial outlay and to charge the borrower for taking money that was previously not his.  In this arrangement, both parties are better off because he is able to fund something right away that might not have been attainable and the lender is able to make money by selling his money.  Loans make up a massive industry between mortgages on the personal level, commercial paper on the corporate level, and interbank loans between commercial and investment banks and the central bank.  These loans make up transactions worth trillions of dollars every year and the interest rate is the driver that allows all of them to happen. The interest rate is what a borrower has to pay to be able to use the money they take now, as opposed to their own money later.     

            At all levels, from individuals to the largest banks, the interest rate also encourages people to save or spend their money.  For example, if you could get 5% on money saved in a bank account (besides living in a land of unicorns), you’d be much more likely to save it than if the interest rate was only .05%.  This is because you get more value from the former situation than the latter.  Plus, your “next best thing” might be more valuable to you than .05% and less valuable than 5% interest, prompting your ever-rational self to spend money in the case of the .05% and save it in the case of the 5%. 

            The Federal Reserve understands this incentive structure and influences the interest rate that banks use as a benchmark for the rest of their interest rates in such a way that they deem best for the economy.  They need to be careful though, because the interest rate has such massive and far-reaching consequences.  These days, since the United States is in an economic slump, the Reserve has been trying to stimulate the economy by trying to get people to spend.  As we know, the way to encourage spending is to lower the interest rate and so that’s what they have been doing. Unfortunately for the Fed, the nation as a whole is spending less and saving more anyways because it is scared of what’s coming in the future.  What’s worse for them is that the nation seems to have reached something my professor would call a “zero lower bound” where the interest rate can’t be lowered much more.  So the Reserve has gotten creative in its economy-manipulating tactics and is introducing money into the economy in unprecedented amounts.  That’s a whole other can of worms to let out and untangle in a different post.

            The economy runs on expectations and right now the Fed, one could argue out of necessity, has dedicated itself to keeping interest rates low for years.  Fed watchers much have a really boring job these days because I can summarize their past few and certainly next few press releases in one sentence, “We will keep interest rates low until 2014 and continue with our program to buy Treasuries.”  2014 will roll around and they’re singing a different tune, or at least replacing “2014” with “2016”, that is.

            The glimmer of hope in this low-interest-rate situation is for those in need of loans, whether it be a home mortgage, student loan, business loan, etc.  Buying money is cheaper than ever and the Reserve’s hope is that people will start to again have the confidence to invest in new projects that will bring our economy out of the soup it’s been in for the past few years. 

Read More...

Broken Actions in Broken Systems

            There are a very few broad concepts that economists have identified as being problems that are quite difficult to solve.  They go by dramatic and ominous names like “adverse selection”, “moral hazard”, and most difficultly, “tragedy of the commons”.  One such problem that I’ve encountered recently is the principal-agent problem, the idea that non-optimal outcomes will result when the person acting is different than the one who will take the consequences of the action.

            In economics, we often solve problems by creating incentive structures that will make it in the best interest of a person to alter his behavior.  Too much pollution? Carbon tax.  This makes it more costly to pollute (the new incentive structure) and so incents companies to find greener practices (the altered behavior) that are cheaper than paying the tax.  These kinds of schemes work in the business world too as we see compensation tied to performance.  If a salesman doesn’t sell, he makes very little money, and vice versa, thus incenting hard work.  These solutions work because people are self-interested and will do what is best for themselves.  Ideally, incentive schemes are constructed in such a way that those self-interests are aligned with socially beneficial ones as well, lower pollution and more sales for the company in the former cases.

            A problem, which we say is the “Principal-Agent Problem”, arises when the consequences of actions are divorced from the ones doing them.  While the name may conjure up an image of school headmasters conferring with CIA members, we use these words in a different sense. So what are principals and agents?  A principal is one who enlists the services of an agent to act on his behalf.  So by extension, an agent is one who acts on behalf of a principal.  People buying and selling houses are principals and the ones who broker the transactions are called “real estate agents”.  Take this following story as an example.  One of my friends works in the Air Force as a bomb technician and he said that the screws that they use on a particular bomb cost over 100 dollars each and that the only way that they are different than the screws at Home Depot, besides the fact that they only cost 10 cents there, is that they are stamped with a serial number. 

The problem arises when there is a mismatch between the consequences of the principal (the general public who enlists and funds the defense services of the military by paying taxes) and the agent (the military, which can use all the money its collective heart desires without any regard to future stability or practicality of its methods).  The military can spend indiscriminately because it knows that the tax payers will always be around to foot the bill and so they have no incentive to change their ways.  Tax payers end up buying screws for a thousand times as much than if they were a private contractors getting those screws from a hardware store.  See the problem?  Luckily the government doesn’t yet have monopolies in too many industries besides defense (for good reason, I suppose) and free market competition is allowed to prevail.  The average contractor will get his screws at Home Depot because the cheaper he can get them, the cheaper he can pass his services on to customers.  There is no principal-agent problem here because the contractor’s actions affect him only.  The same applies to practitioners in other industries as well. 

But I ask you this, that as we come to a time of eventual governmental dominance of the health care system, what new principal-agent problems will be created?  If divorced incentives allow an entity to thrive even when it spends a thousand times as much as it could on a screw, what does that tell you about the people, incentive structures, practices, policies, etc. of the rest of that entity?  You must extrapolate because I don’t have the words to express it all.  In light of this, imagine that we’re talking about peoples’ lives and not metal fasteners: who’s screwed then?  

Read More...

Why Data Matters

The final frontier of the human race is proving to be less intergalactic than Star Trek would suggest and much closer to home.  Advances in the physical sciences have taught us great and marvelous things about the world we live in and about worlds beyond our own.  In the place where science and business collide, a new “space” has emerged that has already begun to revolutionize the way we work, play, stay healthy and safe, and innovate in science and technology. 

            The idea of “Big Data”, which is the up and coming game changer, will seem foreign without looking at what data is on a small scale and why it matters.  Data is collected and organized bits of attributes for the subject being studied.  People collect data about where, how fast, and how far they walk when they wear a GPS pedometer.  One of my friends keeps a log of the money he spends on gas, etc.  All these data collections are good, but are not the end to themselves.  Here’s what I mean.  If I said that the average tariff rate for a given product in a given country in a given year is 5%, that would be an interesting fact to know, but would probably be a useless fact unless you were in the habit of learning tariff data for countries.  Data, when correctly used, can be used to create information.  Take tariff data for this country over the course of time and you can make a trend line to support your informative claim that “tariffs in Indonesia have been falling for the past several decades”.  If you pool that information with other information learned from other places, you can arrive at the end goal of data: insight.  We’ve established that tariffs have been falling, and say that we learned from other data that exports have been on the rise.  Then we can turn the information into insight when we compare them and find through analysis that tariff rates and export levels are inversely correlated or when we apply that information and suggest that a country should lower its tariffs if it wants to encourage international business in a given industry.

            So data is a precious commodity because it turns to information and information turns into insight.  It has the potential to change the way we live and work and, as I said, has started to do so already.  Retail businesses have been using data to track inventories and shipments for decades, but now a new level of insight has been made possible through the advent of Big Data science.  Companies can now track a particular customer’s purchases and then send targeted marketing materials that are relevant to them.  Some might find this invasive, but whether it is or is for the sophists to decide.  The advantages of a business knowing itself and its customers are inestimably and undeniably valuable.

            Sun Tzu famously said in his book, The Art of War, “If you know the enemy and know yourself, you need not fear the result of a hundred battles.  If you know yourself but not the enemy, for every victory gained you will also suffer a defeat.  If you know neither the enemy nor yourself, you will succumb in every battle.”  Data and its interpretation unlock the potential for knowing yourself on a business level and a personal level. 

            Let me use an example that is close to home.  This year, I started a used clothing store with some friends.  We have a database that records each item that is taken, where the customer is from, and other attributes.  At the end of the day, we can look back and know what items are popular, women’s shirts for example, that we’ve served people from nearly 30 states and countries all over the world.  We get comments and suggestions for improvements that we can take into account for future operation.  Now imagine that we have a massive customer base, huge resources, and are a multinational corporation.  Say we’re Target or Wal Mart with access to talented people in all industries.  I can attest to the benefit data has had for our operation, small as it is.  So I can imagine how it must be driving business elsewhere.  Business is not the other place where the Data revolution has been happening.  Medical research has grown by leaps and strides with the invention of new data collection technologies and the advent of distributed computing/crowdsourcing has allowed for dramatic cuts in processing time and costs.  The benefits of these new technologies have helped in counterterrorism operations and other law enforcement and more sectors than one could even name.

            Exabytes of new data are made at an increasingly growing rate and the full potential has yet to be seen.  But I suspect that as humanity explorers this new frontier, our newly gained level of self-knowledge gained will allow us to win victories in efficiency and quality of life that are an important par of building a better future. 

Read More...