Econ 101: Anti-Trust and the Whole Foods/Wild Oats Merger

From the Oregonian, I learned of a federal appellate court ruling that sent a decision allowing the Whole Foods/Wild Oats merger back to district court. Here is a link to the LA Times as the Oregonian website is not letting me access it - big surprise.

I thought this is a good chance to discuss a few aspects of anti-trust oversight in the United States. The basics of anti-trust in such a case is pretty clear: when firms get too much market power (have too few competitors) the profit incentive causes them to raise price and lower output which causes a loss in social welfare. Fewer consumers get to consume and those that do consume at a higher price while the firm gets excess profits.

But determining market power is often quite difficult for the simple reason that 'markets' are very hard to define and therefore 'competitors' are hard to identify. Take Whole Foods, what exactly is their market? Is it organic, gourmet and overpriced groceries. Just gourmet? Groceries full stop? Whole Foods argued that in today's market there is no longer much distinction between them and major grocery chains like Safeway because the latter also is stocking more organic and gourmet foods. So Whole Foods wanted to define the market as groceries in general and thus all the major chains are competitors, so a merger with Wild Oats is not a concern - there is plenty of competition left over. The Federal Trade Commission wasn't so sure, they argued that Whole Foods serve a distinct market - gourmet and organic foods - and thus opposed the merger. [By the way, it is very rare that these things get to court, they are usually settled between the two parties]

So who is right? Well it is pretty hard to tell. The usual course is to look at the cross-price elasticity of demand. This measure, for example, the change in demand for Whole Foods goods when Safeway changes their prices. As you can imagine trying to isolate this effect in the world of supermarkets where prices are always and constantly in flux is almost impossible. Another thing that matters is the 'contestability' of the market - how easy would it be for a new competitor to enter the market. This limits firms' ability to exploit concentration by raising prices because it would encourage the entry of new competitors. I imagine that the current state of Safeway-type stores has a pretty minimal influence on Whole Foods demand, but that is would be very easy for Safeway-type stores to ramp up their offerings to compete. In general, I would not be that worried if I were the feds.

NB: It seems a little absurd in the land of New Seasons and other such stores, but when I lived in Denver, Whole Foods and Wild Oats were the entire organic market. I used to frequent Whole Foods until my local Safeway started stocking many more organic alternatives - which is why I am a bit sanguine about the merger.

Portland Housing Prices

The latest from Case-Shiller is here. I promised the kiddies a trip to the Zoo on the Max so I shall post them with little comment. Nationwide, the news is pretty dismal, but Portland is seeming to still escape the really bad stuff. In fact, we finally see the seasonal uptick in Portland, and Seattle is holding pretty good as well.  But we are still down quite a bit from a year ago.

Bad Bags

From the Rose City a proposal by the Mayor Elect (does one capitalize an informal title?) to implement a fee for anyone wishing to have their purchases at a grocery store placed in a plastic or paper bag.  Seattle too.  So what does economics have to say about this?  Well, it depends.  

But before I get to that, some preliminary details that are not at all clear this this observer:

Exactly what category of store does this apply?  And, why not all if there is some distinction?

Why the same fee for both paper and plastic bags?

To whom do these fees accrue?

What is the estimate of the cost of the bags to society?

These details are pretty important because if you are to make an economic argument for such a fee, it would be along the lines of Pigouvian taxes.  Which is to  say that if an economic activity yields a cost on others not directly involved in the transaction, taxing that activity the amount of this external cost will create an efficient market outcome.  So I would like to know to start, what is the cost of these bags to society?  Yes their manufacture is expensive, but that cost is born by the stores.  So I imagine that it is a combination of the carbon emissions from the manufacturing process, the cost of improperly disposed of bags on the municipality and, what else, the cost of the pollution in terms of despoiling habitat?  I don't really know all of the bad things that bags are supposed to have done to society so feel free to fill me in.  If these are serious and the fee is commensurate with these costs, then as an economist I have no problem with an appropriate tax.  

But as an aside, I often reuse my bags (I have a dog - I need say no more) and extras I bring back to the store to recycle - does this really help, or does the energy that is used in the recycling process mostly wipe out the gains?

However, this fee is not being talked about in these terms, but more in terms of "how much would it take to really get people to opt out of getting bags with their purchase?"  Which, as an economist with a bit of a libertarian streak, I find irritating.  Government has no business deciding how we should behave above an beyond these social costs.  Also, as I mentioned above, there should be no distinction between grocery stores and any other store if we are being honest and consistent.  A bag is a bag - let the patrons of all stores pay the true social cost!  (Let me venture to guess that more patrons of Victoria's Secret than of the Disney Store would opt to pay for the bag - but that is another economics lecture).  

So I think this talk of twenty cents is absurd.  This seems much too high for the Pigouvian tax - but I am ready to be shown otherwise.  Also, if we are serious about the 'right' tax, then paper and plastic should be different costs presumably.  So this really is about behavior not true social costs and, as such, a dangerous and very tricky path to tread for a mayor - social engineering.  There are lots of things we wish people would do - be nice to each other for example - but are we going to start charging for rudeness?   

Let me be absolutely clear.  These bags may be a serious problem (though I think we are really talking about the plastic ones not paper - though paper has its own issues) and as such, may be an entirely appropriate case for a fee, but before suggesting a random fee, be serious in thinking about the external costs and sell the fee as good economics.  I think it would be great if everyone used reusable bags, rode bikes everywhere and such, but there are many, many things that are in some way bad for us and the environment (e.g. beer) that once you start with the logic that government should start telling us what we should do, it is hard to stop.  This is really my point about must policy, there should be good economics behind it, not just good intentions.

A final side note, the accrual of these fees would presumably go to the municipality to offset the extra cost they impose, otherwise it would seem a bit pointless but so far I have failed to notice how this tax would be implemented.

Beeronomics: The Oregon Brewers Festival

Just a quick note about the Oregon Brewers Festival and economics.  If you are a brewery, what beer do you send?  Do you try and make a splash with a new concoction, or send a tried and true favorite?  The costs and benefits of both are pretty clear.  My first thoughts are that if you are an established brewery like, say, Rogue, the incentives are to try and make a new exciting brew and try and solidify a reputation for interesting beers.  But if you are small and relatively unknown like, say, Ninkasi, the incentives are probably to send a tried and true beer that people will encounter on tap and in stores and might just have again and again.   

Your thoughts? 

Incentives and Life

It is not without a certain level of embarrassment that I will admit that the house I owned in Corvallis was a new house in a new development that was almost 3000 square feet.  My wife and I never felt entirely comfortable there, neither of us really felt at home in a new neighborhood and we missed the character of older houses. Still, it was bought at a time when alternatives were very few and because we knew there was a reasonable chance we would make the move to Portland and it seemed a safe investment (it was).  Sure we have two kids, but we always felt the house was just too big for us.

Now, for a time, we are installed in a old 1000 square foot bungalow and the transition has been quite interesting for this economic naturalist.  You see, economics is all about how rational people respond to incentives, and in moving from 3000 to 1000 square feet, the incentives have sure changed.  In 3000 square feet there is no incentive to choose, to limit yourself, you never have to dispose, donate or never acquire in the first place.  This is especially true with the kids stuff.  Many old gifts that are now long forgotten and no longer played with remained stuffed all around the house.  Now, at 1000 square feet, every thing has to be carefully selected - so the toys have diminished considerably and guess what - the kids couldn't care less.  

So the cost of having stuff has gone way up and the incentive to have less stuff is now much stronger. Low and behold, it turns out we really don't need much stuff.  But I guess the real story is how just 2 years in a big house led to a massive increase in the amount of stuff - a fairly quick response to the lower cost of storage.  And we are not big consumers, its just that we never got rid of anything like infant clothes and supplies (e.g. a crib we hadn't used in a year).

So the point of all of this is that I don't think that your life determines what size house is right for you, I think its more that the house determines how you live.  Its the incentives once in a dwelling that kick in and define and guide your subsequent choices.  At 1000 square feet we are doing just fine and it is good to be reminded of what is really necessary and what is surplus to requirements. We haven't changed through the house changes and I thought that the big house would just remain pretty empty, but nope, the incentives were just too pervasive. Anyone in the market for old toys?...

The Oregon Housing Market: My Field Experiment

This graphic from the New York Times indicates the fall-out of the Fannie and Freddie troubles.  It also indicates a general tightening of credit markets, just when were are looking for signs of life from housing markets.  My house in Corvallis is sold - and there was not a single hiccup, but here in Portland I am hearing more and more of deals facing financing troubles and falling through.  Anecdotally, the market appears definitely to be softening, even in the close in east-side neighborhoods that I am looking in.  Lots of unsold homes, "price reduced" stickers on signs and houses going under contract and then reappearing on the market.  This is all good for me as a potential buyer, but the rising interest rates are not helping my bottom line.  Still they are low by historical standards.  

Add to this news of a surge in bankruptcies and more shedding of jobs in Oregon and things might get quite a bit worse before they get better.  For my part, I am back to renting after 12 years of ownership and am in no great hurry to purchase.  I anticipate even ore choices and better deals soon.  

So the field experiment continues...

Eco-nomics: Partial and General Equilibrium

Economics is often taught using partial equilibrium - studying one market and assuming away any spillover effects.  Think of the classic example of the market for orange juice - teachers may (and usually do) ask about the effect on the OJ market from something like a hurricane that wipes out half of Florida's orange crop.  When you say that input costs will increase, shifting the supply curve to the NW and thus price will rise and the quantity sold will decrease you are ignoring any other effects - like perhaps that, without a crop to pick, there will be a flood of labor supply to OJ factories lowering costs for producers.  This last example is an example of general equilibrium - trying to trace the effects of some change through all effected markets.  We don't emphasize it much in undergraduate classes because it is HARD.  It is like trying to figure out global weather - there are so many interconnections, coming up with a good model is very difficult.

I mention this because this is one reason it is very hard to say what effect the push for biofuels will have on the prices of other crops and on overall welfare.  If there is increasing demand and thus price of corn, what will happen to the price of other crops in the short and long term?  Well it depends on what is being planted and where, the magnitude of the cross-price elasticity of demand for other crops - even how new fuels will effect transportation costs.  As you can see, blaming biofuels for rapid commodities price escalation (or defending them) is dangerous business.   It is also true, however, that general equilibrium effects are often not thought about very much in casual discussions of environmental economics.  

For example, I wonder what the effect would be if there was mass consumption of Priuses (Pri'i?). On the one hand this would reduce gas consumption dramatically, but it would also put pressure on the production of all the junk that goes into the batteries.  How much energy does it take to get the stuff?  How much pollution does this create?  What about waste?  I don't know the answers to these questions, but many good ideas, when considered in mass amounts, often become questionable. 

This, apparently, is true of biodiesel.  Now that many people have converted to biodiesel the supply of used cooking oil is not keeping up with demand (despite my appetite for fish and chips).  So now what? - the economic rationale has changed, does biodiesel still make sense?  I don't know.  But I do get grumpy when good ideas in isolation are not thought about in a general context - in the general equilibrium.

One final example.  My wife and my mother were talking very admiringly about the freecycle movement and the idea that one could help the world by not buying new stuff.  Hmmm...  OK, so I am an economist and not helping my rep by taking this on - but I see a few problems with this.  First, there is a market for this stuff, from people who can't afford new.  If middle class people started gobbling this stuff up, that would just either increase the demand for Wal-Mart style cheap stuff from China of further impoverish people who are already impoverished by driving the price of used stuff up beyond their means.  To put it plainly, you are not decreasing the demand for the stuff, just shifting who buys old and who buys new.  Also, why s consumption of new stuff such a bad thing?  This adds income and thus growth to the world.  If you care about poverty, this should be reason for pause.  

This did not go over well with the wife and mother.

My apologies for the slow blogging - life has been a bit crazy.

Econ Major

There are many reasons to choose a major and at my undergraduate institution marketability and earning potential were definitely not considered good reasons.  Nevertheless, the economics major appears to endow students with a set of skills that the market values highly.  What I like about economics is the variety of things you can do with it.  It is not an easy major - when I was at the U of Colorado, economics and physics classes had the lowest grade point averages - but the effort is well worth it.

Internet is back!

Safely installed in Sellwood, broadband internet connection working, life slowly returning to normal.

Regular blogging to return soon...

The Oregon Self-Service Gas Petition!

Do you support allowing self-service gas in Oregon?  Let me know by signing the on-line petition which, if successful, I hope to send to state representatives in Salem.

To support this effort, go to the petition, it is simple and direct.

Gasp!....no....internet...connection....

I am on vacation and have almost no access to the internet.  I had plans to continue blogging during this time but circumstances will not allow.  I shall resume next week.

Apologies.

The Economics of Soccer: Euro 2008

Perhaps it is a stretch to try and justify the amount of time I have spent (late at night with my DVR after shielding myself from news reports all day) watching Euro 2008 matches by trying to do an economic analysis. But here goes.

It has been a great tournament, and I think what it has represented is a pretty dramatic change for the usually stultifying international tournament fare. Why this is, in my opinion is the lack of risk-aversion that usually dominates strategies in such tournaments. There is obviously a reason for this - it is usually quites successful. But many teams at Euro 2008 were relatively young and inexperienced either due to the overall pool of players or due to some untimely injuries. I think the fact that inexperience means you can't play the strict, organized defense necessary to pull off the risk-averse strategy, liberated the tournament from such teams. In any event, young attacking teams like the Netherlands, Turkey, Russia were a delight to watch. Even the Germans, who are usually masters of such a strategy, realized a couple of years ago that they could no longer rely on defense and have opened up. Italy still got very far employing such a strategy, but ultimately fell to a superior Spanish side.

The surprise of the tournament, and until yesterday the Cinderella story, was the young Russian team who (after a terrible opening performance against Spain) seemed to throw caution to the wind, play open, inventive attacking soccer and were rewarded by some marvelous results. None more so than the brilliant display against the Dutch who were deservedly beaten. They were a revelation and a delight - and given their age should be a force at the next World Cup.

The Dutch themselves were open, inventive, shockingly fast and beautiful to watch in the group stage (where the pressure is diminished), but seemed to wilt under the pressure of the knock-out stages and seemed lost and rudderless against the Russians who ran circles around them.

The aforementioned German team have been over-achievers in my opinion. Typically well-organized (insert your own Teutonic quip here), the German team have been able to be attacking without throwing caution to the wind. The semi-final game against Turkey, where three goals were scored in the dying moments of the game to thrice alter the fortunes of the two teams, was the game of the tournament. [Unfortunately, most of the world could not watch the events live as lightening knocked out the international feed] Philipp Lahm's final seconds goal (a beauty - above) , atoned for a Turkish goal, minutes earlier that was the result of a Lahm blunder. This is why this is the beautiful game!

I am feeling pretty smug now, as my Spain prediction is looking very good at the moment. Thanks mostly, in my unbiased opinion, to ARSENAL midfield magician Cesc Fabregas who came in for an injured David Villa and changed the entire game. Will he get a well-deserved start in the final game? He should.



So what we have on tap Sunday's final is a neutral's delight: a young German team playing more open and attacking football, but still keeping amazingly well-organized versus a Spanish team that in renowned for folding under pressure yet who delight in picking teams apart with intricate and inventive passing - in the highest pressure situation of most of these player's lives. Should be a great game. I am sticking with my prediction: Spain 2 - Germany 1.

Field Research: The Oregon Housing Market

I have now written many blog posts about the Oregon housing market. In them, I inevitably talk about some new data that have been released and what they mean. But out of loyalty and devotion to you, dear readers, I have decided to go one step further - I have conducted my own field experiment. Well, okay, it is not exactly an experiment.

I am moving to Portland so that my wife can continue her career as a non-profit fundraiser. This means that I had to sell a house in Corvallis, find a rental in Portland and will soon begin the search for a house to purchase. The Corvallis end went shockingly fast - we had an offer accepted the very day it was listed - no sign of a housing slump from my experience. Talking to the realtor I think our experience, while exceptional, is evidence of a real estate market that is fairly solid in Corvallis. The supply of new houses slowed quickly as the market softened and now the market for the stock of existing houses is fairly strong.

The Portland side also looks pretty strong in relative terms, but nothing like two years ago when we were deciding between Portland and Corvallis as a place to live. As we are focused on a close-in neighborhood (Sellwood), the softness of the suburban developments is not very apparent.

What was striking was the trouble we had finding a decent rental. I have a theory: because the credit crunch is national many would-be buyers, even in Portland, are being pushed onto the rental market. However, as the market, especially in near-in neighborhoods, is still pretty robust, there have not been many houses pushed into converting to a rental. So tight supply versus strong demand make for a tough rental market.

By the way, I am still keeping my position at Oregon State, so thank goodness I have a very fuel-efficient car. Our families carbon footprint is going to be slammed by my energy profligacy. But we should come out ahead, I reckon, because we can walk everywhere in Sellwood to get what we need, and my wife, who will work in Old Town, plans on commuting mainly by bike and bus.

[By the way, this explains recent and near-future spotty blogging - my apologies]

Energy Policy: Fred Thompson, Guest Blogger

Once again, The Oregon Economics Blog welcomes Fred Thompson writing about something I have been thinking of writing about for a while - energy policy.  Hopefully, if I can find the time, I will share some thoughts as well.  Here's Fred:

------------------------------------------------------------------------------

A friend and former boss, who is also now a serious mover and shaker
the energy biz, recently privately opined:

"This country has had no energy policy for almost three decades.
Both parties are equally culpable for a situation that places our
economy in peril for many years to come. My answer for a
comprehensive energy policy:

1. Incentives and requirements for bio-fuels and alternative energy
sources now.

2. Revitalizing our nuclear energy program, ala France.

3. Opening up off-shore and ANWR drilling. (I am not convinced that
the shale program is feasible.)

4. Immediate construction of refinery capacity.

5. Immediate regulation of hedge fund investing in commodities that
have driven prices up for all commodities with no economically
productive purpose. (I don't completely buy into the argument that
these markets provide stability required by the refiners.)

There is no silver bullet, no single answer. Also, no short-term
solution. We are going to be in the energy soup for several years.
But we can find a way out of this mess with boldness and patience."

I have been hesitant to weigh in on this topic. I don’t have any
professional competence in the area of energy policy. However, these
are my thoughts.

It is true that last time (perhaps the only time) we had an energy
policy was during the Carter administration – remember the moral
equivalent of war? Those of you who are old enough will. The results
were not pretty.

The reason for current high energy prices mostly goes to supply and
demand for oil – energy prices are up because of booming demand for
oil from China, India and the Middle East and supply shortfalls in
the US, Mexico, Venezuela, Nigeria, Iran and Russia, not to say
Iraq. Moreover, while there are many substitutes for oil and gas,
few if any are cheaper, instead high oil and gas prices have merely
raised the prices of those alternatives. As my friend correctly
opines: “There is no silver bullet, no single answer. Also, no
short term solution.”

So, what about his proposals:

1. Incentives and requirements for bio-fuels and alternative energy
sources now.

I agree, we don’t do enough to promote energy conservation.
Moreover, what we do – direct regulation, for the most part, e.g.
the CAFE standards – is pretty inefficient. Most of our conservation
promotion programs seem ill designed from a behavioral standpoint.
On the other hand, we probably have sufficient incentives for the
production of wind and solar power right now, although only recently
have folks started to engage in serious genetic engineering to
reconfigure biological processes to generate increased energy from
solar power. Those programs should be accelerated, but it is
unlikely they will have a substantial payoff any time soon. In the
short run, it looks like Brazil has the capacity to increase sugar
cane ethanol production. Most developed countries won’t import it,
the US included. That is simply foolish. But I see no sense in the
multibillion-dollar government subsidies for domestic ethanol. Why
are higher food prices better than higher energy prices?

2. Revitalizing our nuclear energy program, ala France.

Absolutely. The French use half the oil per-capita we do. Nuclear
technology has advanced considerably in the last 30 years. It is
safer and cheaper. The lack of trained nuclear engineers is a
serious bottleneck, however.

3. Opening up off-shore and ANWR drilling. (I am less convinced
that the shale program is feasible.)

Makes sense to me. Again we know a lot more about off-shore drilling
now than we did when the Santa Barbara spill occurred. Listening to
the folks who are opposed, their main objection is to the
consumption of oil, not the danger to the environment from drilling.
I doubt that that argument has political legs. In the short run, I
agree with Nick about the shale program. One reason the tar sands in
Alberta work now and oil shale doesn’t is that the Canadians have
plenty of water in the right places. However, I have heard some
ideas about nuclear power/oil shale cogeneration that might solve
some of these problems, although this is certainly not a quick fix.

4. Immediate construction of refinery capacity.

Duh. Same goes for oil and gas pipelines and LNG terminals – some
environmentalists may not to see it, but these are primarily
conservation measures. Unfortunately, immediate construction in this
instance is something of an oxy-moron.

5. Immediate regulation of hedge fund investing in commodities that
have driven prices up for all commodities with no economically
productive purpose. (I don't completely buy into the argument that
these markets provide stability.)

I disagree. Hedging produces significant benefits for the risk
averse. Moreover, I don’t see how that options and futures trading
can distort spot prices without physical hoarding. Show me the
inventories and I'll reconsider the point. I would also note that
futures markets are different from carry-trade speculation
(borrowing at low interest rates to invest at higher rates).
Carry-trade speculation is dangerous, because you are betting
against the law of one price (uncovered interest-rate parity), in
other words, betting on your ability to time the market – when the
market turns, the herd stampedes. Moreover, in commodity trading
there is a counter position for every long position and, while you
can buy on the margin, you must mark to margin every day.

My big disagreement is with a point that is only implicit in my
friend’s comments. I want energy to carry a high price. That is the
best way I know to promote energy conservation and abate greenhouse
gases. Moreover, people will make the necessary investments in
plant, equipment, and lifestyle changes required to reduce energy
consumption substantially only if they expect energy prices to
remain high. Since there is but one thing more certain than taxes, I
think a high carbon tax is a great idea. Besides I’d rather the IRS
collected the rent than the Saudis, Russians, Nigerians,
Venezuelans, or even the Canadians. One could use the revenues to
offset social security and medi-care taxes on say the first $50k
(real $) of earned income as suggested by Irwin Seltzer, for
example. Actually, I think that is a marvelous idea for all sorts of
reasons. But that is a different story.

Portland Housing Market: Case-Shiller April 08 Numbers

The latest Case-Shiller numbers are out for April 08, I have posted the numbers for Portland, Seattle and the 20 city composite above. The Oregonian is emphasizing the big drop from the year to year number (April 07 was about 184 and April 08 is about 175), but the interesting thing for me is that the seasonal uptick (albeit small) is finally showing up. This is not true of the 20 city composite. Whether this is an anomaly or a signal that the market is not going to crash further is anyone's guess at this point, but I would suspect that ceteris paribus the downturn is bottoming out.  However the worsening overall economic conditions might cause this to start its downward march again.

Here is the graph of the numbers themselves.



By the way, the much improved graphics come thanks to my new Mac upon which this blog post was created.

Portland's New Bridges: Do Economists Care About Uplifting the Soul?

Last weekend, I attended the graduation of my (much younger) sister from the University of Washington's College of Architecture and Urban Planning. The commencement speaker spoke of Architecture and Planning's ability to improve the human condition and uplift the soul. That got me thinking about the planning process for the new I-5 and Sellwood bridges and the question of whether the bridge should be striking and beautiful or just functional. In particular, it got me thinking about what economics has to say about such a question.

Contrary to what most people expect, economics does not just deal with dollars and cents. Economics starts with individual utility maximization. People buy art, commission architects and purchase beautiful things because it returns some utility - it makes them happy - and that happiness is worth some monetary payment. But what does this mean for a public works project like a bridge? Well, we run into the familiar problems of externalities, public goods and free-riders - problems that affect the building of the bridge regardless of the design.

If a beautiful design confers a benefit to users and residents then it has a real value and that values should be taken into account in any cost-benefit calculation dealing with bridge construction. But how do you measure such a benefit?

One way that economists have tried is through something called 'contingent valuation' - a survey of individuals willingness to pay for generally some non-market resource (like clean air). This allows economists to try and come up with a number that assesses the worth of such a resource. The problem is, of course, it is all hypothetical and the valuations, it turns out, can be highly influenced by how the question is asked. [One example: while I was in grad school, an Ag. Econ professor compared the results of a hypothetical 'how much would' you pay to save a tree' to a real tree he brought into the room and would threaten to kill if not enough money were raised - the real tree raised valuations a lot]

Another way is through some sort of democratic process, but as I have talked about previously, voting induces some selfish behavior, most notably free-riding: "I would love to have a nice bridge, and would even pay for it, but if I can get everyone else to pay for it and not have to myself, even better!"

So, in the end, I think policy makers will simply have to understand that design does matter, and that a beautiful bridge (like the Golden Gate and St. Johns above) is worth a lot.

The Glenn Jackson (to the left) is a inoffensive and very functional bridge, but forgettable. Below is Boston's new Zakim bridge. Which would you rather have? Oh yea, how much is it worth to you...?

Land Grant Universities and the Liberal Arts and Sciences

I have spent all of my graduate school at three land grant institutions: University of Cal – Davis, University of Wisconsin – Madison and Cornell University. Never had I encountered the opinion that because the university is a land grant, not only should we accept mediocrity in the core liberal arts and sciences, but in fact, we should actively seek it lest we sacrifice the strengths of the other units, such as agriculture, until I came to Oregon State. There is some sense to this logic – the core arts and sciences are expensive in that they tend not to bring in as much grant funding as the more applied areas, but the problem with this logic is that it is the core arts and sciences that make up the heart of the undergraduate education. In fact the quality of the core arts and sciences are in large part what determine the reputation and the overall quality of the university. Is it any wonder then, that the three universities I mention above are considered exceptional while Oregon State is ranked in the third tier of the US News university rankings? In fact, it is the only Pac 10 school in the third tier.

Though it may seem a good strategy in response to a resource poor environment, this subjugation of the core arts and sciences at OSU is not a good long term strategy. OSU has a shockingly low undergraduate retention rate, a poor academic reputation, low undergraduate morale and a very big need for quality in-state as well as the high price paying out-of-state students. It is not going to attract these students with big grants to the forestry college. In fact the course that OSU is on will lead it right back to where it started – a four year vocational college. It is also not a zero-sum game. Strength in the core arts and sciences would help other units and especially the interdisciplinary programs OSU's administration is so hot on. I don't think you build strong interdisciplinary programs on top of poor discipline specific programs. Strong interdisciplinary programs come from strong discipline specific programs.

I am constantly dumbfounded and wonder where this attitude that a Land Grant university has no business being strong in the core arts and sciences comes from. Let’s look at the College of Liberal Arts and compare the departments at OSU with key departments at the three universities I mention. Here are the US News rankings of departments at Cornell, Wisconsin and Davis (in that order) in Economics: 12, 38, 42; English: 17, 11, 28; History: 11, 11, 26; Political Science: 18, 16, 29; Psychology: 16, 9, 47; and Sociology: 14, 1, 29. Where is OSU in all of this? In most of these disciplines, OSU doesn’t even have PhD programs, so they don’t qualify to be ranked, the couple that do (Econ and History – sort of, History's program is in the history of science and is mostly moribund) are too low to rank. The point is this good universities, land grant or not, excel in the core arts and sciences. So this idea that OSU has no business trying to be strong in those areas is completely baseless. By neglecting the core arts and sciences, OSU is not just a poor university, but it is getting worse.

I think that part of this attitude springs from a shockingly (to this outsider at least) insular culture at OSU. Much of the administration has started out as students here, spent their entire careers here, and have very little perspective. I often hear expressed the attitude that OSU is ‘different’ as if this is a point of pride. Well I have news for the OSU cognoscenti: OSU is competing in an increasingly international market for talent, it needs to stop being ‘different’ and start being ‘competitive.’

So why this lengthy diatribe? Well in addition to the cutting of language arts, which has received a little attention, starting this year, if you wish to pursue a graduate degree in economics, don’t bother applying to OSU - the administration has shut us down. This leaves the College of Liberal Arts with exactly zero legitimate PhD programs. Good luck trying to get good faculty in economics now - I, for one, would not have come here without a PhD program. This is an interesting decision at a time when Economics is one of the most popular undergraduate majors across the country and is the most popular major at schools such as Harvard, Duke and NYU. To abolish econ when it was the only legitimate PhD program in the entire College of Liberal Arts is truly dumbfounding and sends a very bad signal about the future of the University.

Econ 101: Network Externalities and Switching Costs - or - How I Learned to Stop Worrying and Love the Mac

It all began with an Apple IIe upon which I programed a stupid animation of a duck kicking an egg. Then, in college, my brand new typewriter was immediately mothballed once I was shown the Mac labs in the basement of the dorms. Soon I owned one, then a PowerBook and finally a PowerMac that I bought upon starting my PhD. But it was soon over as economics was entirely PC and switching platforms got to become too burdensome. I was consumed by the evil Microsoft empire and have been a slave to PC ever since even after Macs got better and platform switching become a snap.

Economists call the two things that kept me enslaved network externalities and switching costs. Network externalities are when the value you get from using a product goes up the more that other people use it (and vice versa). So, since I was in economics and everyone used PCs, the value I got from PC usage went up and Mac usage went down. Thus I went to PC. Switching costs are just that, the costs you incur when you switch from one product to another. In my case, some software adjustments will have to be made and, more importantly, I have to retrain myself to do some things that I now do without thinking.

So what happened? Well with increased ease of moving across platforms and with the increased popularity of the Mac (including some of my colleagues) the network externality angle has lessened a lot. Switching costs have diminished as well thanks to USB ports, flash drives and Macs ability to link with Mac or PC networks (like I have at home).

And so it is that I have finally come back home to Mac. I am as giddy as the day I brought my first Mac home (a Mac SE - the IIe was a childhood friend's). Here is a picture of the beautiful little guy. A computer on which I wrote my first e-mail. Ah nostalgia. Anyway, I am now fully committed to making the complete transition over time and you know what? It feels fantastic!

So this, my dear readers, is the first blog post from the new MacBook Pro. Enjoy.

UPDATE: I do have one disappointment: in the old days when I used to start up my Mac, it would smile at me. It doesn't do that anymore...

The Beautiful Game

Boy am I tired these days - must have something to do with the fact that Euro 2008, the European soccer championship (think World Cup but with only European teams) is currently being contested, and the fact that I have a DVR - making it possible to record the games and watch them well into the night. Here is clearly the class of the teams so far, the Netherlands, scoring the goal of the tournament so far against World Cup champs Italy (whom they demolished). [Though it could be that Italy are simply past their sell-by date] The Dutch are famous imploders so we shall see how they fare as the tournament rolls on and please, please do something about those socks! Spain look pretty darn great as well, but they are also famous under-achievers. Will this be the year for one of them?

Right now, I would guess Spain.

Econ 101: Inflation, Exchange Rates and Commodities

Though I try and stick more to the local and the personal in this blog, I thought it might be a good time to try a little primer on international finance, as I just taught it in my international economics class. Call it the "what the heck is going on?" post.

I am going to borrow a pedagogical device right out of Krugman and Obstfeld's outstanding text and start with an asset either in Europe or the US. What determines the performance of this asset? Well, interest rates and inflation if you are investing domestically. If you are investing from abroad, however, exchange rates matter as well. But it is not what the state of the world today that matters most for the performance of an asset, it is what the state of the world will be in the future - when the asset matures - that matters most. Thus expectations about inflation and exchange rate movements matter a lot. This is why central banks have become more and more transparent: they are trying to manage expectations. This is also why central banks have become, first and foremost, inflation hawks: they want to guarantee low inflation lest investors get jittery.

So let's get back to that asset. Suppose you are in Europe and you have money to invest and you are thinking of investing in either a euro denominated asset or a US dollar denominated asset. If interest rates in the US are high, you might be tempted to invest in the dollar asset, to do so you want to sell euros and buy dollars so you can purchase the asset. Since many investors are making the same calculation the demand for dollars will be driven up and demand for euros will be driven down. This will lead to an appreciation of the dollar. Higher interest rates in Europe, all else equal, will have a similar effect: the euro should appreciate against the dollar (or dollar depreciation). Inflation in either zone will lower the real return on the asset and thus will have the same effect as lowering the nominal interest rate and thus high inflation in the US should lower the demand for dollar assets and lead to a depreciation of the dollar. Finally, expectations about exchange rates can lead to them being self-fulfilled: if you expect the dollar to depreciate this leads to a lower demand for dollar assets (because when it matures the dollars you get out are now worth less) and thus a lower demand for dollars and - hey presto! - a dollar depreciation.

With this basic framework in hand, it is not surprising that the US dollar has depreciated so remarkably over the last few years - the fed kept interest rates low which both lowered the return on dollar assets and caused a bit of concern about inflation. Here is a picture of the dollar-euro exchange rate for the last five years:



Commodities play in interesting role here, especially if they are dollar denominated (which most are). Generally when the US dollar depreciates it makes US products sold abroad cheaper to the residents of those foreign countries. It also makes foreign products more expensive in the US. This generally leads to more exports being sold and fewer imports being bought which - in the US - would generally lower the trade deficit. However oil is a dollar denominated commodity, and since we import a lot of it, our trade deficit is actually going up (see graph from NY Times). Since oil prices are set in a futures market they are a function of expectations of future supply and demand and exchange rates. So questions about future supply and a weak dollar have pushed up oil prices dramatically, something we are seeing filter down to the gas pump. There could also be quite a bit of speculation as well, but it is not yet clear that this is the main culprit. Add to this the fact that food prices are climbing ever higher and that the crop year does not look to be particularly bountiful and you have even more pressure on inflation.

So where does this leave us today? Well, the US is in the midst of a major economic slow-down sparked by the credit crisis. The credit crisis, while still needing a long time to shake out, looks to have been largely tamed by some bold action by the Fed. Now we are faced with some unpleasant realities for the near future. The price of oil is starting to seep into core (non-energy and food) inflation. If wages start to respond (which as of yet they haven't), we could be in for a major inflationary episode. This will cause the dollar to further decline which will mean even higher oil prices. Yikes. So regardless of how the credit market is currently faring, the Fed will almost certainly have to start to raise interest rates. Doing so will quell inflation expectations and drive up demand for dollars which should start leading to an appreciation of the dollar. But it will also cause a slow down in domestic investment at the very time we want more of that to happen. Still the risks are much worse: once wages start adjusting to inflation, the Fed will have to respond much more drastically to keep inflation under control.

So, over the next 12 to 24 months I think we are in for a very tough time. The Fed will almost definitely start to raise interest rates, appreciating the dollar and taking some pressure off commodities prices. This will, unfortunately, curtail credit at the very time we are trying to get credit flowing again which will lengthen the malaise in the housing market. So right now the Fed knows it needs to stay on top of inflation but definitely does not want to jump the gun as the longer they with the more the credit markets can recover before increasing rates. I think we are likely in for a long and painfully slow recovery.

Hold on to your hats...