Remembering McNamara

As we struggle to find the best avenue out of our current recession, a Robert McNamara quotation always seems to percolate in the back of my head. In rememberance of his recent death, I'll take this opportunity to share.

"The government is not in the business of putting small business out of business."

A good way to intepret this quoatation is the following. In every industry and every market that the government participates (either the government provides a good or service, purchases a good or service, or regulates non-government to non-government transactions of goods or services), its participation influences the market, generally making it more difficult for small businesses to survive.

When the government provides a good or service it is very hard for private industry small businesses to compete with them. The government does not have to be profitable and is financed by a large and captive audience.

Less directly, consider the market effect when the government regulates a market. OSHA, the government office that tries to regulate labor markets to make working conditions better, may at first glance appear to do no wrong. in reality however it can be a very subtle and very manipulated agency by large business victimizing small business. Large businesses give politicians campaign funds. One way politicians may reward such businesses is to make code overly protective and convoluted so that the entry of a new small business competitor is prevented by compliance costs. They are repaying the business by eliminating competition, and to the unaware citizen, these policies can seem glorious. In public finance terms, government regulation can act as a significant and highly regressive corporate tax.


As an alternative, if we simply allowed the worker to choose for himself if he were willing to work a particular job for a given wage, two competing firms would have to ultimately compete to lure workers by providing them higher wages and safer work environments on their own. Suddenly government safety regulations no longer appear as necessary or innocuous.


A bad way to interpret this quotation is as i was instructed during my military acquisitions training. sometimes when the government hires private defense contractors to provide goods or services the government knowingly provides them a profit. i suggested that the government could save taxpayers money by not paying that profit, to which the instructor quoted McNamara "the government is not in the business of putting small business out of business." But, as long as the government isn't requiring a firm to provide a good or service, they should never take a contract that's not in their interest anyway.


in conclusion, for those large-government command & control democrats who want lots of government interaction in a variety of markets, remember the impact on free enterprise encapsulated in this McNamara quotation. "the government is not in the business of putting small business out of business"

For sell-out Republicans who espouse policy that favors the big businesses that wine and dine them, remember you are just as guilty of creating an environment unfriendly toward American small business free enterprise. i offer a parallel quoatation "the government is not in the business of making big business bigger"

the business of the government is simple, and was simply identified by Arrow in the 1950s. The government is in the business of simply correcting market failures.

thanks to mcnamara for inspring today's conversation.

econosseur

A couple of buddies of mine from econ grad school at UT, Jason DeBacker and Rick Evans, have a very successful blog with good insight and a running compilation of the best econ jokes available. their blog was recently cited as an officially sanctioned AEA blog, and perhaps more importantly referenced by Mankiw's blog (see ad hominem post).

blog
http://www.econosseur.com/

jokes
http://www.econosseur.com/economic-jokes.html


btw, if you check out Rick's professor page
http://econ.byu.edu/Faculty/Evans/
he has a link to UT econ intramural sports recaps.
http://econ.byu.edu/Faculty/Evans/other.dhtml
(i was the first receiver on that hook and ladder.
rick to me to Debacker for a TD!)

little POLCO growing up

http://www.capitalfactory.com/2009/04/2009-finalists.html

Bandwidth Limitations

It was recently announced in local news (Austin Statesman) that Time Warner Cable was considering imposing customer bandwidth limitations. When customers use more than a specific amount of bandwidth, Time Warner would begin to charge extra fees. This means that if you watch just a little streaming video, use YouTube or Pandora a lot, you would probably be paying some fees. Time Warner argues that they are experiencing more bandwidth demand than they had previously anticipated.

Below is my comment to the Austin Statesman article. Maybe you agree.

"
If Time Warner is having bandwidth demand it can't handle, it needs to re-assess it's bandwidth supply. Everything but live or real-time events should be accessible on demand only. This would free up tons of bandwidth, no need to continually broadcast thousands of channels no one is watching. We know time-warner is a regulated industry, but still try to provide service like a competitive industry. when you have problems, don't just charge the user more and decrease consumer surplus.
this will unnecessarily blemish Austin's tech reputation, and Texas's efficient markets reputation.
"

academic final stretch

well folks, a chapter in my life is drawing to a close.
i have scheduled my dissertation defense for 5 May 2009 (yes, Cinco de Mayo).
Last week was a pretty busy week preparing for 3 presentations and 3 conference submissions, but the oncoming weeks will be even more intense.
Even so, i don't view it as stressful, i enjoy the research
http://mastroresearch.googlepages.com/
The official graduation is 24 May 2009.

But as chapters draw to a close, new ones open. Even though i thoroughly enjoyed learning how to do professional economic research here at UT graduate school, i am excited about the new unfolding chapters. Hopefully it will have much to do with application of learned tools, implementation of conclusions drawn from research, and participation in the American free-enterprise system. However it turns out exactly, i look forward to tackling it with enthusiasm, passion and vigor with my wife Bobbie.

TX Senator about Bailout

you just got to see Sen Cornyn's first response about not being partisan to the reporter.

Libertarian Stimulus

I stole this link from Prof Mankiw's Blog (http://gregmankiw.blogspot.com)

here it is http://www.cnn.com/2009/POLITICS/02/05/miron.libertarian.stimulus/index.html

people have been asking me my perspective on the bailout, and in short, i agree with the vast majority of the article. the the items Miron lists would be hugely more helpful, less beaurecratics and less intrusive.

rc3

Sorry if I mis-interpreted your positions as Austrian. They seemed to extoll a situation with classic market failures as able to succeed without government intervention. Yeah, if you believe that government intervention is needed for market failures then that would be neo-classicism. But, private info in insurance markets is one of the classic market failures, so a neoclassicist to me, would endorse government intervention here. But, I agree this is not justification of government intervention by any means. It's not the point of the post. The point of the post is, if the government is intervened as it is, how can it reduce costs.

The argument in rational ignorance is the following. You claimed that poor US policies could be understood if economists abandoned a notion that voters are self-interested outside of voting, but altruistic when voting. Yes, this is possible, but I'm not sure if I agree that economists adopt that model. Altogether differently, I prefer to understand poor US policies as the result of rational ignorance, or non-representative political system. Yes, satisfying these two policies are not sufficient conditions for good policies. But, not satisfying them is an intuitive way for me to understand poor policies.

My arguments are not arguments for government intervention. They are arguments for, if the government will intervene to provide government insurance such as Medicaid and Medicare, how can it do so for the lowest cost.

True, there aren't formal models of costs and benefits of specification of use of government transfers. Yes, at first glance it appears that is improving to eliminate constraints, but just because there aren't models of the benefits of these constraints, doesn't mean that in reality there aren't benefits of these constraints. For example, it could be modeled that the search and process costs of converting baby food stamps is a deterrent to converting food to money with which alcohol or drugs might be bought.

Again, these models are not complete by any means. Academic models are a work in progress, and in desperate need of improvement, that 's the point of grad school econ. The point of this blog is not to simply apply leading models to policies, (that is policy analysis), it is also to include pieces of reality that are not modeled. This is true for unconstrained redistributive transfer models, and for public choice models.

ryan health comments 2

Great comments.

The positions you represent, which you probably know, are what is generally called the Austrian school of economic philosophy; with strong skepticism of any government involvement, highest regard for the individual and their ability to optimize without much market correcting mechanisms. This school of thought is emphasized at Auburn, and follows the writings of Ludwig von Mises and Hayek.

1. Yeah, I agree with the questioned need for government intervention. It has to do with efficiency of redistribution in general, an open question (see comment 5).

The discussion on moral hazard here is, if the government is already intervened in markets, and wants to minimize its expenditures, it should focus on reducing moral hazard. And, to do so, it should implement Medicaid and Medicare structures with higher co-pays and out-of-pocket payments, like the HMO approach. This is a major hope for any government program that wants to adapt its payee structure to reduce costs.

2. In any academic model I would write, it would be fatal to assume that individuals are not optimizing. That is a slippery slope which could explain anything. Away from academia and more realistically, I do believe the less-financially well-off forego buying adequate health insurance. My personal belief is that they do so because the effects aren't as tangible as physical commodities, but when they develop what appears to be a costly condition, they seek insurance; classic adverse selection. It's important because, doctors and hospitals and service missions help them, and ultimately, we all foot some of that bill, and that's my realistic general concern. My personal assessment of reality might be wrong. This is another good question.

3. Academically however, for empirical analysis of the degree of adverse selection and moral hazard in the US health insurance market, I like the model by Chiappori and Salanie, discussed in my re-production of that paper at http://mastroresearch.googlepages.com/ "Private Info for Health Care". It's a good complement to the Rand health experiment.

4. The big picture, like you mention, and I talked about in the last post, is the need to eliminate the information asymmetry, private information. That would indeed fix all the market problems. Unfortunately, health is more complicated than automobiles. Nonetheless, there are some institutional changes we could adopt to lessen the asymmetry. Having a more tiered approach; where patients first see a General practitioner before being allowed to seek a more expensive specialist, would greatly reduce costs by lessening the information asymmetry without government intervention. If the individual is not granted the General Practitioner's consent, the specialist visit either should not be covered, or less coverage than if they did receive consent. You could allow for payment recoupment if the individual did see the specialist and was vindicated in their complaints. The whole problem here is liability. Given the complexity of the human body, the malpractice coverage for General Practitioners would be expensive, and therefore they would pass those expenses to the patient. But, as time goes on, better records are kept, machines improve, and we learn more, those costs would drop. Plus, the Practitioners would have incentive to improve their service, reduce need for malpractice coverage, and get more patients. Reducing information asymmetry also eliminates adverse selection. These first tier practitioners would be hired by health insurers to provide screenings for pre-existing conditions.

5. Altogether, these are ways that current Govt Health Insurance programs could cut their costs. Private health insurance programs have already begun to adopt these measures. The need for existence of government health insurance programs is a different story, having to do with the general trend in our country to choose redistribution. Some argue that everyone is made better off by not having extremely sick cohabitating with extremely wealthy. Redistribution is costly, and if you think the costs outweigh the benefits, let your representatives know.

6. Your comment 3 is quite true and almost impossible to rebuke with a structural model; but it's not going to happen in the near term, and we are going to have to continue to pay the bills for government health insurance for at least a little while. Being pragmatic, a short term goal of economic policy analysis "how to achieve same coverage for less." The bigger picture is political and has to do with desired redistribution (comment 5).

7. Bad government policies do not necessarily imply that voters are not self-interested. That would assume that our political structure is perfectly representative, which we have reason to believe it is not. Given the improbability of actually being the decisive median voter, it is often justified as rational for a voter to be politically ignorant. When the costs of government ambivalence finally catch up with our country (not too far future in my perspective), we will see greater citizen involvement in political process. Another reason self-interested voter's policies might not get enacted are other imperfections in our political process, such as translucency in the quality of that individuals' representation. What exactly is the context of the legislation and all its amendments? What did the rep vote? What did the rest of your district want? Did the rep make a deal on that legislation that will actually help on more important policy tomorrow? Altogether, these two situations justify economist's position of why bad government policies get enacted while voters may still be self-interested. For a structural model of how special interest money can influence the political process from standard majority preferences, see my first paper FAMVM, again at http://mastroresearch.googlepages.com/

1. 
   

   
   

Health comment

In response to Ryan's comment from "Looming Health Care Crisis"

btw, thanks for the comments

1) right; health care is not a public good.

But, there are other market failures besides the markets for non-rival and non-excludable goods, that warrant government intervention, even by conservative economists' standards.

In particular, private information (hard to verify claims) hamper market transactions; whether a worker's back really hurts and he needs time off, or whether a used car salesman's car has some glitch somewhere.

Consider 10 used car salesmen, one of which is selling a lemon, but consumers are unable to discern which. All salesmen then must lower their price below fair value to deal with the customer's belief that their car might be the lemon. Introducing an independent verification service, as long as it costs less than the price reduction from having the lemon in the market, would make the good salesmen better off.

The problem is, with the health market, health diagnosis are not confident enough to stand by a verification service at this point, so the government is legitimately offering to stand in. Even as a minimal interventionist, this makes sense to me. The human body is still too complex relative to an automobile.

As an after thought, another market failure besides 'public goods' and 'private information' that could warrant government intervention in markets is 'market power', when firms don't act as price-takers. In this situation, the firms profit maximizing behavior can differ from a benevolent social planner's behavior when maximizing consumer surplus (total value added by market transactions).

2. I do think adverse selection is a real problem.

Sure, among financially well off individuals, most are buying health insurance as to insure against unforeseen risk. But, in less well off social circles, where money is tight, many individuals prefer to spend their money on more tangible commodities until they begin to believe that they might be afflicted with a very costly condition.

3. Last, health insurance is comparable to car insurance for just the reason you point out, the potential costs on others. Many people would find it objectionable to someone afflicted with a treatable emergency condition to die on the front steps of a hospital. And, since we wouldn't let that happen to those who don't pay for it, we shouldn't make anyone pay for it. Unforeseen emergency afflictions should be covered by a pool of small contribution from all who want to participate.

Sure, if you don't want to be pooled for this cheap coverage, you can wear a tag that either says "don't help me, I chose not to be pooled" or "help me, I don't have the pooled coverage, but I have been verified to have the financial resources to cover this emergency operation up to the level …"
Honestly, it would probably be just as cheap to include both 'those who want pooled coverage on emergencies' and 'those want to forego the coverage', since then insurance companies would not have to do any screening at all. They wouldn't have to worry about any adverse selection (people more prone to emergency, more likely to buy insurance) because everyone would be getting it. So, basically, we'd cover those who don't want it for free.

In conclusion, this is a great and timely conversation. In the wake of a severe implosion to the Republican Party, it reminds us of how the virtues of fiscally conservative policies should be considered in even the most Democratic agendas such as Health Care in order to get the most cost effective coverage with the least government infringement on our individual freedom of choice.

The Looming Health Care Crisis

What exactly is the problem with Health Care? What is all the buzz?

What is the basic reason that all the politicians are proposing policies to influence the Health Care Industry?

The answer sits on the Balance Sheet.

Take a look at the expenses of the Government run health insurance programs: Medicaid and Medicare.

These expenses are the largest rising share of US GDP, while the resources given to the programs hasn't grown with them.

What are the government's options?

1. Give more resources
   
2. Lower costs
   

   
   

   First, let's consider (1).
   

   Government budgets are very lean across the board right now, there is no extra money available.
   

   Therefore, the government can either cut resources from other programs to cover Health Insurance costs, or raise taxes.
   

   If raise taxes, raise taxes from where?
   

   The poor are already poor. The rich provide the jobs and the industries. Taxing their income only incentives their industries less. Maybe there is some government revenue to be had by taxing the incomes of the rich, but not much. A famous Econ textbook publisher recently remarked that he will only be able to keep 7 cents for every extra $ he earns. He's probably not going to work much harder to drive the economy.
   

   We could tax capital, but that only lowers savings. We already face a 'lack of savings' problem, and nobody wants another Social Security program where the government does our savings for us.
   

   
   

   Therefore, let's consider option (2) for the government to deal with the rising expenses of Health Care.
   

   Are there any expenses that we can cut?
   

   Well, analysis shows that some of the expense increases come from the improved Medical service being provided; better equipment, better trained physicians, and better techniques.
   

   We don't want to cut quality of Health Care, are there other growing components of Health Care expenses that can be cut?
   

   
   

   The answer is yes, but it is not easy.
   

   The insurance industry is prone to 2 market failures (moral hazard, and adverse selection).
   

   Targeting these holds promise for decreasing health expenses.
   

   
   

   Eliminating moral hazard would make individuals only go for operations they would get if they were paying for the operation.
   

   Eliminating adverse selection would cut down major insurance screening costs to make sure they don't sign on people with unobservable expensive prior conditions (note, I am not saying don't provide health care to these individuals in need, I am for reducing the costs that everyone pays the insurance companies to deal with screening).
   

   
   

   I am pretty busy right now, so I think I will save the details of how best to target these problems for my next post.
   

   
   

   I will outline the basic strategies that are used to target these expensive market frictions.
   

   
   

   To eliminate moral hazard, individuals must internalize more of their own medical cost. This is how we get closer to realizing when individuals would really go for care. Also, this would incentivize Americans to lead healthier lifestyles. I do not propose pay-your-own-way, there are benefits to having insurance for unforeseen and unpreventable illnesses; all I am saying is that there are definite moral hazard costs for having too much insurance.
   

   
   

   To eliminate adverse selection, the costly screening by insurance companies, the government should require some low level baseline insurance to cover emergencies and prior existing conditions. The idea is analogous to how everyone must hold car insurance for the damage they may cause others. Since, doctors and hospitals won't let individuals with emergency medical needs perish on the doorsteps, everyone should hold some insurance and that pool covers the emergencies. With everybody then having to hold some insurance for the emergency procedures and prior conditions, insurers don't have to expend as much resources screening.
   

   
   

   As can be seen, as in all economics, there is a balance to be struck here. Not too much insurance or we get moral hazard, but require some to diminish adverse selection.
   

Goal of Econ, Goal of US Const, Goal of America

Imagine you are in charge of all the goods, resources, and services in the US. Now, you are charged with the task of allocating those goods among all the people subject to the condition that after you allocate, you could not make any one person better without making another worse. This conditions is a little stronger than making sure you allocate all the goods, its called the Pareto Condition. Consider the following reason.

 
 

One of your resources is Lake Michigan, and there is a factory located on its shore. It costs the factory $10 more to discard of its byproducts cleanly than to disperse them into the lake. On the other hand, the factory polluting the lake costs the fishermen $30 of lost fish. If you had allocated the goods such that you gave the water rights to the factory, you did not satisfy the Pareto condition. You could have allocated the water rights to the fishermen and then taken $11 from the fishermen to give to the factory. Under this reallocation you would have made everyone better without anyone worse off. The fishermen get $19 instead of zero. The factory disposes its byproduct cleanly, and makes $1.

 
 

Economics literally means "the study of the allocation of limited resources." Finding optimal allocations is not the difficult part of the process. The famous mathematician LaGrange gave us a very powerful tool for finding optimal allocations under constraints. If we had a benevolent social planner, he or she could take all the peoples' preferences and the resource constraints facing our country, simply apply Lagrange's method, and achieve the social welfare maximizing allocations.

 
 

Although some dictators claim they are benevolent social planners, no country truly has a benevolent social planner with access to a detailed Social Welfare Function, a hypothetical description of all peoples' preferences. Is it possible to achieve the same allocations that a perfectly intelligent and benevolent social planner would have chosen without such a social planner and without access to everybody's preferences?

 
 

Believe it or not, the answer is a glorious yes. The great Scottish economist Adam Smith conjectured that allowing potential buyers and sellers to freely meet in the market place and trade their goods until content results in Pareto allocations. Smith's conjecture was studied greatly. Finally, in the middle of the 20th century, it was proven that, with the exception of a few named market imperfections, free markets do achieve Pareto allocations without a social planner and without access to everyone's preferences: The Fundamental Welfare Theorem of Economics. To all but econ grad students, this may sound impossible, but it's true. To me, this theorem's characterization of market allocations is awesome.

 
 

With this useful Theorem in hand, and recognizing that omniscient and benevolent Social planners do not exist, countries faced a decision. Do they institute social planners, and give them powers to dictate to their citizens in hopes of eventually achieving social planner-like allocations; or 2) learn how to correct the market perfections, leave all freedoms and liberties in the hands of the citizens, and allow the marketplaces to flourish.

 
 

Many nations chose the former option. It was a formidable challenge. With teams of brilliant physicists, mathematicians, and economists studying optimal allocations they still often fell short. Those of you in my generation may recall images on TV of ultra-long lines at Soviet bakeries. First the USSR had under allocated baking ovens, under allocated distribution venues for the bread, and sometimes hadn't grown the proper combinations of flour and yeast to make bread efficiently. They suffered surpluses in some commodities, and shortages in other. Dictating all the commodities in an economy is an overwhelming task. There is no doubt that the soviets tried very hard, but also that politics and personal preferences also get in the way efficient planner allocations. Today many nations continue to try the command economy. Some have realized it is absolutely impossible to govern all commodities, and so they have decentralized some, but retain control over as many as possible. These countries are characterized by large governments, high tax rates, and few small businesses: examples include, Cuba, Venezuela, North Korea. China is an example of a country which has persevered and is actually realizing decent allocations for their people, although their people still do not enjoy all the freedoms and liberties of a decentralized economy.

 
 

Alternatively, some nations chose option 2, learning how to correct market imperfections subtly. The objective for these nations was to have a government that stood only to correct the market imperfections. With markets corrected, individuals can go to their marketplaces, trade and acquire Pareto allocations, all while preserving individual liberties and freedoms (no extraneous government dictations over their actions). This was the idealistic goal of the United States who led the charge and supported other nations who wanted to participate in the glamorous experiment. The US has definitely not been perfect in their implementation of this ideal. Politics and breakdowns in our system of government has ignored some of our citizens and over represented others. The result of these political breakdowns has often been imperfect market solutions biased for the over-represented special-interest contributors, and has held our country back from achieving the destined goal of Pareto allocations.

 
 

I do not intend to insult our form of governance, only suggest that there is some work left to do. Our constitution, in my mind, is the greatest document of all time. It has bound our diverse and challenged nation for hundreds of years. It is the longest standing charter of any nation, and also the shortest in length. It was written in 1789 by the polymath James Madison, before Adam Smith's auspicious conjecture. It has had to be amended (27 times in fact), and therefore is a working document for us to improve upon as new economic discoveries are made, but the constitution itself is what authorizes it to be amended. Let us not shirk on our responsibility to continue the journey of crafting the constitution so that US citizens can enjoy Pareto allocations all while fully enjoying individual liberties and freedoms.