It’s a sad day in the world of finance writing and blogging. I regularly pull out one of her Compleat UberNerd posts and read it. A gifted explainer and eminently talented writer. Peace to her memory and to her family.
Monthly Archives: November 2008
Local currencies making a comeback
Private sector co-op currency. From Newsweek:
It’s an attractive idea when times are tight. Communities print what look like ordinary bills with serial numbers, anti-counterfeiting details and images of local landmarks (the Milwaukee River, for instance) instead of presidential portraits. Residents benefit through an exchange system: 10 traditional dollars, for instance, nets them $20 worth of local currency. And when businesses agree to value the funny money like real greenbacks, they also get a free stack to kick-start spending. It’s all perfectly legal (except for coins) as long as it’s not for profit and the bizarro dinero doesn’t resemble the real thing. Dozens of such systems flourished during the Great Depression. In the 1990s, they re-emerged as a way to fight globalization by keeping wealth in local hands. Now the dream of homespun cash is back because it keeps people liquid even if they’re unemployed or short on traditional dollars.
…
Since BerkShares launched in 2006, almost $2 million has been exchanged for cash, and the equivalent of $180,000 is in circulation. “You can get a divorce, plan a funeral and go to just about any restaurant in town,” Witt says. The biggest downside? Taxes. Even in the parallel world of earning and spending alternative currencies, Uncle Sam gets his cut.
Interesting concept. From a Forbes article from 2006:
The first printing was 2,250 Hours, or the equivalent of $22,500. In the beginning, a few dozen neighbors signed on. Glover systematically gave out Hours to people who agreed to accept Hours in return as payment for goods or services. They printed the names of businesses accepting Hours in a newsletter, so residents would know where to spend their new money.
“A lot of my work in the first few years was facilitating connections for the spending of Hours,” says Glover. In other words, if a business received an Hour, there had to be somewhere to spend it.
Now Ithaca has six denominations. There is the Hour, the two Hour, the half Hour, the quarter Hour, the eighth Hour and the tenth Hour. More than $100,000 worth of Hours have been issued.
Here’s a list of local currencies being used in the world. Here’s the US specifically. There’s quite a lot of them here in my home state of Massachusetts.
The best and the brightest: Private vs public sector
The Portfolio article that I linked in my last piece made reference several times how people involved in both regulatory affairs and investment banking weren’t “smart enough” to understand the toxic investments they were buying, selling, and (supposed to be) rating. That got me wondering whether there is a correlation between employee intelligence in the private sector vs the public sector for finance types and economists. Theoretically, the private sector should attract the best and the brightest because it pays the most.
The highest paid government official in the United States is the President himself, who makes a salary of $400,000 a year, not counting ancillary benefits.
While it’s never been easy to make this kind of money in the private sector, it’s certainly possible. Ben Bernanke’s salary as chairman of the Fed is just over $191,000. Henry Paulson as CEO of Goldman Sachs made $16.4 million according to Forbes. There’s two orders of magnitude difference there. Obviously there are other benefits associated with being a highly-ranked government official, but those benefits are generally in the future when one leaves the public sector for the private. I won’t get into discount rates and net present values, but generally this road can be profitable, though probably not profit-maximizing.
Another common trend is for an individual to make his or her fortune in the private sector and then move to the public sector. Henry Paulson is probably the epitome is this type of individual. I think this road is probably the more profit-maximizing of the two possible pathways thanks to compound interest.
But there are many people who don’t migrate from one to the other, and is there a correlation with relative intelligence of one sector over the other? Firms are profit maximizing, and people are theoretically utility-maximizing, with money being the most fungible obvious resource for maximizing that utility. That suggests that the private sector should, on the whole, be able to “outwit” the public sector much of the time because they’re able to cherry-pick the best and the brightest with the leftovers going into the public sector, all other things being equal.
Finding public sector work more rewarding than private sector profit maximization will always play a role in determining which jobs people take. If a person gets greater utility from the fulfillment doing work in the name of public service or teaching than they would get from a greater salary in the private sector, they won’t migrate. On the other hand, I find it very hard to believe that compensation plays no role whatsoever in an individual’s choice of employment.
Thoughts?
CDOs explained
I saw this a few days ago on delicious, and it’s very good. It explains how collateralized debt obligations (CDOs) work, and how they caused a problem in the financial sector.
The only thing that I would add that Paddy doesn’t really mention is that when mortgages were sliced up to be sold, pieces of a single mortgage could end up in any tranche from a legitimate, first-tier AAA rating to the lower, second-tier BBB rating. That indicates that the ratings were meaningless because it’s logically impossible for one mortgage to be both low risk and high risk at the same time — yet this kind of thing happened regularly. Pension funds and other programs that are only allowed to invest in AAA-rated securities for stability reasons were severely hurt because it was impossible for them to know they were buying junk. The ratings agencies were not doing their job, possibly because they couldn’t understand what they were evaluating, and possibly because it was in their short-term best interest to look the other way for political reasons. I suspect it was a bit of both.
The creation and sale of these investment vehicles was so complicated and obfuscated it was almost impossible to know which were truly AAA, and which were junk. Several hedge fund managers spent a whole lot of time digging into the soft underbelly of these investments, and shorted the hell out of the lower-tier BBB CDOs. Even they had a hard time figuring out which were which. This short-selling activity was the only information being added into the marketplace that was any indicator that these investments were bad. (Which is why banning short-selling is a terrible idea.) Literally everyone else thought they were great, with the exception of a handful of contrarian analysts like Meredith Whitney. While many people say they “saw it coming!” — few actually did. Hindsight is always 20-20; informational cascade tends to wash out an individual’s own private misgivings which is why analysts like Whitney were castigated and short-sellers like Steve Eisman and Andrew Lahde were scorned during the subprime heyday.
You can read more about some of this in this superb Portfolio piece.
Consumer confidence
Today’s Stone Soup:
Obama and farm subsidies
From Greg Mankiw:
Like President-elect Obama (but unlike candidate Obama), I am all for getting rid of farm subsidies. But why would you want to use taxpayer funds to encourage large, efficient, profitable farms to break up into smaller, less efficient, less profitable farms? Isn’t that precisely what you do if you maintain subsidies only for small farmers?
I’ve thought about this, too. A lot. The answer is pure politics wrapped in an age-old economic battle: equity vs efficiency. Doing what’s efficient vs doing what’s “fair”. (Fairness being a subjectively ambiguous term.)
I’m all for getting rid of farm subsidies to everyone and letting the market sort out who wins and who loses. This places smaller farmers a distinct disadvantage because an industry like wheat farming is the almost-perfect definition of perfect competition. Neither side has market power. The only way for a farmer to increase their income is by producing more wheat. As the big guys are bigger, they have economies of scale, especially in terms of capital investment on their side. In a price-taking market, this advantage is the only business advantage possible.
Subsidizing the little guys makes them more competitive with the big guys, but this is a distortion of market efficiency. Sometimes this makes sense, but not in the case of farming in the US: we produce more food than we could ever consumer, so why are we subsidizing anyone? (Food shortages are not a production problem, they are political and logistics problems.) Subsidizing smaller producers can be done to encourage competition, but we’re already in a perfectly competitive market, so distorting the market in some way is entirely counterproductive.
Alas it is politically unacceptable to make a move that favors the big guy over the little guy. Even though doing so would ultimately better for society. Let us not fall victim to the broken window fallacy that we’re keeping smaller farmers in jobs by subsidizing them. We could just as easily be spending that money more efficiently by putting other people to work in areas that actually make sense: infrastructure repair and long-term capital investments in green energy technology, for example. We need these two things more than we need greater quantities of domestic farm products.
Economics, perceived value, and the framing problem
At least once a day at the pharmacy, there is a complaint about the price of a medication. Sometimes these complaints are reasonable, most of the time they’re not. The reason these complaints are flawed is because people have a problem with perspective. Today’s particular complaint stemmed from the fact that this individual didn’t want to have to pay the full $7 copayment for one capsule. (She had previously been getting 4 capsules for $7 with a higher dosage.)
I realize that copayments cut both ways. You pay one copayment based on days’ supply, not on number of tabs or capsules, so in her case, it can seem like you’re getting screwed. Where before something was dosed weekly, and afterwards is dosed monthly, it’s frustrating. After all, how expensive could it be to make one capsule? How much should one capsule cost? Certainly less than $7.
Or so you would think.
But if you work the problem the other way, you ask a different question and probably end up at a different conclusion.
Is avoiding vitamin deficiency worth $7 a month to you?
Most rational human beings would answer this questions in the affirmative. But it’s a problem that does not lend itself to rational consideration in the form that the average consumer experiences it. “My price is the same, but I’m getting less!”
It’s a framing problem. To frame the question in economic terms:
Do you receive $____ utility from this good or service?
I’ve applied this thinking to some things that have been rubbing me the wrong way for a little while.
Movies
Going to movies is another easy activity to think about in this way. Personally, my old way of thinking about movie attendance was “I want to see this movie right away, so I will go to the movies to see it.”
Not necessarily a bad way of doing things, but probably not the best way to approach something that adds up quickly if you go often, as I cyclically do. So I’ve begun approaching the problem differently: price, enjoyment (utility), and irritation (disutility).
Am I getting $8.50-10.50 in enjoyment from my 2 hours+ sitting in a padded chair?
Utility:
- Large screen, great picture
- High-quality, surround sound
- Movie previews
- Seeing the movie now, without having to wait for DVD/Blu-ray
Disutility:
- Feeling like I’m getting screwed to see a moving picture on a white screen at $9.50
- Pre-pre-movie commercials (Didn’t I pay for the movie once already?)
- Previews for horror movies
- Commercials with higher production values once the movie “begins” (More commercials? I thought I paid to see this film…)
- Young people making noise and playing on cell phones if it’s early in the evening; even more disutility if its a Pixar or Dreamworks movie before 8pm
Does the total utility I receive outweigh the disutility I experience at a $9.50 price point?
Framing the question in this way has helped me discover that no, I do not. Not at $9.50. Not at any price greater than ~$6. You, of course, may come up with a different figure. (My utility:disutility ratio changes if it’s opening night for a highly-anticipated movie where fans feed off each others’ energy, or if the movie is a date. Et cetera.) I don’t think that this figure will change as my income increases, either. I think it would if the things that annoy me about movie-going were minimized in a meaningful way.
Fortunately for me, there is a theater that does some price discrimination every Tuesday: $4.75 movies all day, regardless of time or rating. So I’ve begun going to the movies almost exclusively on Tuesdays. I feel like I am getting a good value at this price.
Note to theater operator: you can capture more consumer surplus if you make the experience of going to the theater more worthwhile. I know many other savvy consumers who feel the same way. Mark Cuban understand this.
—
By re-framing common consumer questions in this way, you can more adequately come up with a subjectively appropriate value for any consumer decision you make. Speaking for myself, it has caused me to re-evaluate several activities that I used to readily partake in: drinking, going on vacations, visiting people, spending time watching television, etc.
- Is it worth 23 cents a day to avoid vitamin deficiency?
- Are the memories you will make visiting family or going on vacation someplace new or doing something different worth the $_____ that it will cost?
- Is it worth $10 to see an average movie in an average movie theater?
- Etc.
This isn’t just a way to eliminate things from your life; it’s also a good way to think about things that you should do more of. In my particular case, I’ve discovered that I should probably read more; watch less television; and go on vacation more often. I also drink less in most situations, but drink more in some others.
MeDic: minor update
There were some comments on the MeDic pages indicating that MeDic was incompatible with newer versions of Microsoft Office. Specifically Office 2007 for Windows and Office 2008 for Mac due to it not being Unicode.
I have uploaded a new version with the text encoding as Unicode, so anyone that has been unable to use the dictionary should now be able to.