Economics


New podcast episode finally out. I interviewed Carson about The Ethics of Locavorism. Essentially, the question is: if we want to be ethical consumers, should locavorism be a priority in our consumption habits? I won’t spoil the answer, but we examine the case for locavorism through the environmental lens, economic lens, and trying to foster communities. Find the RSS feed here, iTunes here.

I’m currently reading Bourgeois Equality, Deirde McCloskey’s final installment in a trilogy. I have a lot of thoughts that will be for another day, but for now a quick observation…

Among the many ideas and arguments brought up in the trilogy, McCloskey criticizes modern-day economic thought as relying only on one of the seven principal virtues: prudence. Ethical philosophers and psychologists throughout time have recognized that human behavior is (and should be) guided not just by prudence (“rational self-interest”) but also by temperance, justice, courage, love, faith, and hope. Adam Smith, in Theory of Moral Sentiments, argued wonderfully about how human behavior guided only by any one of the four cardinal virtues (the first three plus prudence) was unreasonable and unethical. More to the point, mainstream economic analysis today is both incomplete and unreasonable to reduce all human behavior down to a rational utility maximization.

What dawned on me is how the economics discipline today is full of people worshipping this prudence-only mindset. I think the causation works both ways. On the one hand, individuals who themselves see problem-solving and behavior as largely rational calculated decisions will be disproportionately drawn to economics…because the framework they are going to be working with jives better with their own approach to life. On the other hand, students who study economics often start to shape their approach to life problems and policy decisions as if human behavior is only understood through prudence. After studying economics for a couple years, I recognize that I started to oversimplify behavioral analysis and ethics as “well, yeah, it’s in their self-interest.”

To non-economists the following parable may seem absurd, but to me at the time it sounded oddly sensical: the girlfriend of a roommate was visiting for the weekend; the roommate without the girlfriend felt this was a burden on his space and lifestyle, so he did some Coasean bargaining to allow this roommate’s girlfriend to visit and stay with them. They worked out some monetary deal to make the visit an agreeable event. Since they were sharing a room, the girlfriend visit meant the single roommate would have to sleep on the couch. What a drag! (For the record: I was not directly involved in this situation)

Another quick bit of evidence can be seen in experimental economics. Some experiments, like the dictator game or ultimatum game, are meant to isolate how altruistic humans can be in different scenarios when money is involved. Non-economists demonstrate more charity and altruism, even when the experiments are anonymous and no “self-interest” can be ascertained from their behavior. Undergraduate economics students, on the other hand, follow more closely to what “maximize utility” models would predict. Basically, they know the models. They know how they’re “supposed” to act. In a sense, they have shifted their decisions to emphasize prudence more than the other virtues. Like I said, the causation can work both ways, but I doubt that roommate would have engaged in some Coasean bargaining absent learning about the concept in economics classes. No society that I know of imposes a norm of private bargaining in such a household situation.

This reality unfortunately reinforces itself. Prudence-driven individuals are more likely to go into economics, economics is more likely to draw people towards a more prudence-based approach, and the discipline ends up staying focused on prudence only. People who are so aghast at the idea of rational self-interest being the sole driver of human behavior stop after Intro to Micro and go into other disciplines. In addition, the credibility of the subject to outsiders diminishes. On some levels, this is a fair decrease in credibility. In others, it means non-economists wrongly dismiss economic realities of scarcity and the laws of supply and demand when they shouldn’t.

I have written a concept album with a band called The Benevolent Dictators all about Adam Smith, and the first song was just released.

screen-shot-2017-01-11-at-1-50-06-pm

My motivations for writing the album and general vibe will be left for another time, but I feel inclined to discuss more about this particular song’s thematic significance. The song is inspired by text from The Wealth of Nations, Book 3, Chapters 2-4. The summary: commerce liberated the masses from the feudal system.

[Adam Smith was an 18th century Scotsman. His first book, Theory of Moral Sentiments, is about morality and human nature. His second book, Wealth of Nations, is considered the starting point for modern economic thought.]

The story begins just after the Roman Empire’s demise. Everything is in chaos and eventually order is restored via different sovereign monarchs throughout the former Empire. The monarchs don’t have the capability to enforce laws and protect everyone in their respective polities, so they enlist the help of others in exchange for big chunks of land. These estates produce enough food for the feudal landlords to survive. But, Smith observes, our desire for food is limited to the extent our bellies can make space. To utilize the surplus food, the feudal lords give their additional food to individuals in exchange for their servitude in the feudal estate. At the time, the feudal lords had no other outlets for their surplus food. Thus, their best option was to increase their power by making commoners dependent on them for food.

Meanwhile, a bunch of city dwellers (called “Burghers”) were given a special exemption by the king to start making stuff. These are the artisans and merchants. Soon, the Burghers had shiny baubles and trinkets that they were looking to sell. The feudal landlords might have limits for their desire to fill their bellies, but they have no boundaries on their childish vanity. The feudal lords wanted to show off how great they were and get their hands on these diamond trinkets. As a result, they started to trade their surplus food not for the servitude of commoners, but for the luxury goods the merchants were selling.

What they used to exchange for the servitude of hundreds, sometimes thousands of men, was now going to service their childish vanity. As the demand for these trinkets went up, so did the supply, so the previously dependent commoners now could join in on the market. Before, when the commoners were given subsistence-level resources in exchange for their work, there was of course no incentive to innovate or increase efficiency. They did the bare minimum that allowed them to survive, because any extra work would go unrewarded. Now, they began to cultivate different areas, knowing the fruits of their labor would mean more money for themselves. Prosperity follows.

In addition to the cultivation, this new market brought about interdependence where dependence used to be. In a sense, all of the parties involved were just as reliant on each other as before. The commoners of course needed the landlords as consumers of their goods, and the landlords needed an outlet for their surplus food. The difference now was that the power was completely decentralized. Rather than a commoner being subjected to the whims of one feudal lord, the market gave him the ability to appeal to the childish vanity of all the landlords to which he could ship his goods.

What is more exciting than reading about how peaceful commercial exchange liberated the masses from the tyranny of the feudal system? Smith emphasizes how this ‘silent revolution’ came about not because a top-down authority dictated it, and not because anyone was consciously trying to bring about positive change for the masses.

A revolution of the greatest importance to the public happiness was in this manner brought about by two different orders of people who had not the least intention to serve the public. To gratify the most childish vanity was the sole motive of the great proprietors. The merchants and artificers, much less ridiculous, acted merely from a view to their own interest, and in pursuit of their own pedlar principle of turning a penny wherever a penny was to be got. Neither of them had either knowledge or foresight of that great revolution which the folly of the one, and the industry of the other, was gradually bringing about.

There are free PDFs all around the internet if you’d like to read the passages in their entirety. Here is one.

I leave you with the lyrics of Silent Revolution:

They say beauty is in order
What’s left over in so few hands
But the landlords spell their doom
Wanting the jewelry the merchants have

The price they paid could buy them
A thousand different men
And though they get the diamond
Power leaves them
And commerce wins instead

Here comes the silent revolution
Moving slowly, no certainty
Interdependence, cultivation
From no design comes prosperity

Without any intention
Without beneficence
The feudal system’s dying
Lords made obsolete from
Their childish vanity

Without any intention
Without beneficence
The feudal system’s dying
Lords made obsolete from
Their childish vanity

A new post at Novel Stance is up about the fragility of the euro currency given its current institutional structure.

The institutional arrangement is not set up to support a stable currency area and the cultural differences across the eurozone make it nearly impossible to move towards a regime that makes the currency integration beneficial. As countries experience more frustration and powerlessness from giving up significant political and economy autonomy, the arrangement will come apart and the currency will no longer exist in the same form as it does today.

And:

Simply put, the United States got to be where it is today after more than two centuries of friction and it wasn’t easy. Even with all that, it benefitted from having tremendously more linguistic homogeneity than Europe has and it didn’t have millennia of regional identity baked in to individual identity. Furthermore, Project Euro has attempted to expedite this tough process of integration and identity in a mere 17 years. Having eurozone citizens suddenly consider themselves “European” before considering themselves “German” or even “Bavarian” isn’t going to happen anytime soon.

Do read the whole thing.

I’ve got a post over at Novel Stance about Brazil’s economic woes and the misguided blame Dilma Rousseff gets for it. Here’s a teaser:

But look closer at the causes of Brazil’s economic performance during the two’s rule: Lula held office at a time when commodity prices were soaring. Nearly half of Brazil’s exports are commodities. The world economy was stronger in the 00s than it is now, meaning other countries had more money to buy the stuff Brazil was digging out of the ground. Rousseff survived one term with decent commodity prices but was in power when the price of iron ore and oil fell 67%, corn lost a quarter of its value and soybeans cheapened by nearly half. These underlying conditions had nothing to do with either Rousseff or Lula.

 

Imagine your town decides to mandate that all ice cream is free or very cheap. Soon, lines are out the door for people wanting to get cheap ice cream. Sure, people can get similar desserts, but they’d have to pay full price. In order to take care of these long lines, the town decides to mandate that every store must provide free or very cheap ice cream. This might sound silly but it’s exactly how cities deal with parking. Cities price street parking, or “curb parking,” very cheaply and then deal with the excess demand by requiring businesses and residences to have off-street parking. The costs of this distortion of land use may not be immediately obvious but they are significant financially, environmentally, and with regards to time.

Land: A Limited Resource

The fundamental problem of economics is finding out how to use the scarce resources we have on earth in the best way possible. In the case of parking, land is a limited resource with many alternative uses. A typical parking space is around 330 square feet, not including aisles in parking garages and parking lots. 330 square feet is no insignificant amount of space, especially in dense cities. With other resources, we can think of prices as a “signal wrapped in an incentive” that coordinate resources in an economy. A free parking spot in New York City is giving away some of the most valuable land on earth and completely ignoring the price system as a means for allocation. Most cities, due to history and the political inertia of voters being used to free parking, charge too little for curbside parking. When the price of a resource is lower than what the market would otherwise dictate, there is a shortage. If ice cream were close to free, people would want to consume more of it than was available. The land used for parking is no exception. To get rid of this shortage, public policy has been set mandating more off-street parking.

In the United States, the number of spots required for off-street parking is largely arbitrary. Consider the following graph showing how San Jose mandates parking space depending on the type of establishment. When pressed to come up with a reason for where they get the numbers, public officials usually claim ignorance or just say it’s how it’s always been.

sanjose

Some other examples of requirements include: 1 space per 10 nuns for a nunnery; 1.5 spaces per fuel nozzle for a gas station; 1 space per 2,500 gallons of water for a swimming pool; 1 space per tennis player for a tennis court; or 3 spaces per beautician for beauty shop. It should be noted that these numbers are created from little data-driven research on efficient land use. One study surveyed 49 cities in the San Francisco Bay Area and found parking required for hospitals ranged between 29 and 1,682 spaces. The differences were uncorrelated to the corresponding cities’ population levels or densities. Why should we allocate land like this when we’d never allocate any other resource with such arbitrary mandates?

parkingrequirements

The Cost of Cheap Parking

Measuring the costs of this distortion can be hard to wrap one’s head around. The only obvious price in the case of free/cheap parking is the price of the parking spot to the driver. Because of this, the costs to sub-optimally priced parking are hidden and diffused across the entire population. Mark Delucchi at University of California – Davis estimates drivers pay between 1-4% of the actual costs of off-street parking. He estimates the annual capital and operating costs of off-street parking in the US to be between $79B and $226B in 2002. Remember that the cost of parking is not only the land used but also the maintenance for the spaces. As a comparison, the US spent $231 billion on medicare the same year. Because drivers pay so little of this, it is essentially a pure subsidy. A gas tax between $1.27 and $3.74 per gallon in 1991 dollars would have to be enacted to offset the subsidy for off-street parking.

But how do the costs of this subsidy manifest themselves? One evident symptom is the sprawl it creates. Any land used for parking is land that cannot be used for residential or business purposes. So if a city block could fit 5 shops in a world with no parking, but a city requires half the block to effectively be used for parking spaces, two blocks are now needed to fit those same 5 shops. Multiply this effect over every different kind of establishment and you can picture how much it spreads everything out.

When one considers the cost of driving a car to a destination versus other forms of transport, many costs add up to create the total cost – fuel, automobile insurance, the car purchase itself, parking etc. By reducing a drivers’ cost of vehicle travel, we are distorting an individual’s travel choices towards cars over other forms of transportation. We are ok to drive more because it’s cheaper than the actual cost of the journey. Off-street parking requirements have existed since the middle of the twentieth century so our habits have adopted accordingly. This sprawl has a spiraling effect and the car dependence is a self-fulfilling prophecy – parking requirements increase mobility by car, but the sprawl decreases mobility by bike, foot, or public transit.

Off-street parking requirements also have the unfortunate effect of reducing the amount of affordable housing. Most municipalities require a certain number of parking spaces based on how many residents will be in the building. This number does not change depending on the demographics of the residents. So if your residents are all poor and don’t have enough money to buy cars, you still need to devote part of your property to parking spaces. This means parking spots for people that don’t own cars and less space devoted to actual residences. A lower supply of housing means higher prices.

These requirements also have a second effect of distorting incentives to build affordable housing in the first place. If the city requires you to include x number of spots per resident, wouldn’t you be more inclined to build bigger tenancies that fit fewer tenants so you have to devote less land to parking? Bigger tenancies with fewer tenants means residencies that are more expensive and out of reach to low-income individuals. Oakland had no parking requirements until 1961. Afterwards, housing density went down 30% (sprawl) and construction costs went up 18% (decreased housing affordability).

Businesses also have distorted incentives in how they build. For a new building, a business can decide its use and then fulfill parking requirements accordingly. For an old building, a business needs to use the parking available as a limitation on its possible uses. If the number of spots wouldn’t satisfy the requirements for your nunnery, swimming pool, or beauty parlor, you need to build elsewhere. This means lots of vacant buildings remain unfilled because of the limited flexibility. It also incentivizes demolition and new development rather than using existing buildings.

Perhaps the most apparent cost is one we’re all accustomed to when trying to find a parking spot – “cruising.” Cruising refers to that tedious amount of time you spend circling the block around your destination hoping someone will leave their spot and you can swoop in. Since the cheap cost of curbside parking has created a shortage of spots, it’s only natural to cruise around until you find one that’s available. Some drivers will pay for lot parking, but why would you if a free spot is just around the corner? As George Costanza said, “It’s like going to a prostitute. Why should I pay for something when, if I apply myself, I can get it for free?” Cruising causes congestion that creates pollution and wastes time and energy. Research estimates that around 30% of cars in congested traffic are cars cruising and up to 45% in Brooklyn. If the line is too long at that free ice cream place, you’re gonna keep scoping out nearby places until you find one that’s available.

The Solution

In order to use land most efficiently, it only makes sense to make parking as expensive as it actually costs. This means having parking be priced according to forces relating to its supply and demand and not arbitrary regulations. Cheap parking enforces inefficient land use in urban sprawl, causes residential and business rents to increase, decreases the amount of affordable housing, and increasing pollution through cruising and the increased transportation time from increased sprawl. This doesn’t mean getting rid of parking altogether. It just means that the price of a car journey should more closely reflect its true cost.

The “right price” for curbside parking has been defined by economist Donald Shoup at the University of California – San Diego as the lowest price that ensures a 15% vacancy rate for a given area. Technology is available that can change this price based on fluctuating demand. Certain neighborhoods in cities like San Francisco and San Diego have effectively utilized this technology. A 15% vacancy rate means just enough cars can park without having an unnecessary amount of cruising.

Businesses naturally will be afraid this increase in price will scare away customers. But remember that the status quo of underpriced parking scares away customers too. Higher prices could incentivize carpooling, since the higher price of parking can be diffused across a handful of passengers. Businesses can also be convinced to embrace this increased price by having the parking revenue be re-invested in the respective business districts. Old Pasadena, a formerly skeezy neighborhood in LA, embraced right price parking and started using the money for district improvement efforts and eventually became a popular entertainment/shopping district. Austin does something similar, investing in trees and sidewalk upkeep with the revenue it gets near the University of Texas campus. In both instances the businesses, though perhaps initially skeptical, have embraced right price parking.

Water flows in the path of the least resistance, and it could be that parkers go from the spots of right price to residential neighborhoods with cheaper parking. So what’s the best way to counter-act this problem? Resident-only parking permits tend to over-compensate for this problem by creating an artificial scarcity – many of the spots go unused throughout the day as residents go to work or run errands. Instead, Shoup recommends a scheme where residents and guests park for free in their neighborhood but can charge parkers that want to use their designated spot. Remember all those unused parking spots in the housing for low-income individuals? Why not allow them to rent out their spots to people from other neighborhoods? Otherwise, the land goes completely unused. Cities like Boulder, Aspen, and Santa Cruz have successfully enacted schemes like Shoup’s to efficiently allocate residential parking spaces.

The Endgame

It can be hard to imagine paying more for parking in our given city landscapes. Remember that our cities have developed based on distorted incentives that increase sprawl and devote unnecessary land use to parking. Once parking is priced correctly and parking requirements are removed, land previously used for parking can be devoted to more valuable uses. Cities will slowly become denser and the higher price for parking won’t be as unavoidable as one may think.

The status quo of a car-dependent urban lifestyle does have its perks – cars allow one to carry large items, avoid adverse weather than encountered by biking or waiting at a bus stop, and often gets a traveler quickly from one point to another. But the price of a car journey needs to closer reflect the true cost. An ice cream-dependent urban lifestyle also has its perks – but we can spend all that milk, sugar, labor, and land on better resources.

To hear the ideas of this article presented in podcast form, check out episode 10 of Upset Patterns found here (iTunes link found here). This article draws heavily from Donald Shoup’s 2011 book “The High Cost of Free Parking.”

Alex Tabarrok posts this speech Nobel Laureate Thomas Sargent gave at Berkeley’s 2007 graduation:

I remember how happy I felt when I graduated from Berkeley many years ago. But I thought the graduation speeches were long. I will economize on words.

Economics is organized common sense. Here is a short list of valuable lessons that our beautiful subject teaches.

1. Many things that are desirable are not feasible.

2. Individuals and communities face trade-offs.

3. Other people have more information about their abilities, their efforts, and their preferences than you do.

4. Everyone responds to incentives, including people you want to help. That is why social safety nets don’t always end up working as intended.

5. There are tradeoffs between equality and efficiency.

6. In an equilibrium of a game or an economy, people are satisfied with their choices. That is why it is difficult for well meaning outsiders to change things for better or worse.

7. In the future, you too will respond to incentives. That is why there are some promises that you’d like to make but can’t. No one will believe those promises because they know that later it will not be in your interest to deliver. The lesson here is this: before you make a promise, think about whether you will want to keep it if and when your circumstances change. This is how you earn a reputation.

8. Governments and voters respond to incentives too. That is why governments sometimes default on loans and other promises that they have made.

9. It is feasible for one generation to shift costs to subsequent ones. That is what national government debts and the U.S. social security system do (but not the social security system of Singapore).

10. When a government spends, its citizens eventually pay, either today or tomorrow, either through explicit taxes or implicit ones like inflation.

11. Most people want other people to pay for public goods and government transfers (especially transfers to themselves).

12. Because market prices aggregate traders’ information, it is difficult to forecast stock prices and interest rates and exchange rates

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