On this week’s edition of “Sunday Funday,” we have the cold open from last nights’s Saturday Night Live featuring a skit about the government shutdown. Now in the 13th day of the government shut down and the debt ceiling fast approaching, the skit brings a bit of comic relief to an otherwise abysmal economic situation.
Uncategorized
In Memoriam: Ronald Coase
Nobel Laureate Ronald Coase died last month at the age of 102. I’m sure that most readers of this blog have never heard of Ronald Coase, and I’m equally sure that most of the few who have heard of him likely forgot his name less than an hour after completing their microeconomics exam. Coase was one of the founders of the Law and Economics movement, the goal of which is to encourage more economic analysis when crafting legal rules. As a law student whose pre-law graduate work was primarily in economics, I have a lot of respect for Coase and feel the need to spread his legacy to a wider audience.
Coase’s most notable contribution to economic theory was in the analysis of externalities, an economic concept I will attempt to briefly explain. Markets are essentially social price-setting mechanisms, and when everything is working well, a market will set a price that balances the costs of producing a good with the benefits of consuming that good. This, in turn, ensures an economically efficient distribution of resources. However, markets can only do that when all the costs and benefits are factored into the transaction. Sometimes, costs and benefits of the transaction are external to market participants. The classic example of a negative externality is pollution. If a factory can dump its waste in a nearby stream for free, the management doesn’t account for the effects of this water pollution when deciding its prices. Thus, because the market price of the factory’s goods does not factor in the very real social cost of production, there will be inefficient overproduction by the factory, while the public who bears the cost of the water pollution go uncompensated.
Before Coase, the standard economic solution to this problem was to impose a suitably high tax so that the producer would internalize the external costs. Either the producer would modify its behavior to account for the true cost of production, or it would provide a revenue stream to compensate the victims of the negative externality. Coase, however, turned the traditional analysis on its head by noting that the real problem here is that the different parties both want to use the same resource for different purposes.
Coase gave the example of a doctor and a confectioner who have adjacent offices. During the day when the doctor is trying to see patients, the confectioner uses machinery that makes loud noises and causes vibrations sufficient to disturb the doctor next door. Coase said the problem is not that there is a social cost imposed by the confectioner that must be taxed away, but rather that both the doctor and the confectioner want to use the same space for their two businesses in ways that are incompatible. It is true that the confectioner is disturbing the doctor’s practice with his noise. However, it is equally true that the doctor’s practice is disturbed by the noise only because it’s located next to the confectioner.
Coase’s real genius was in his solution to this problem. Under Coase’s analysis, the parties themselves can negotiate an economically efficient solution without any outside help. Let’s say that, in our example, the doctor has the right to force the confectioner to stop running the machinery and making the noise. The confectioner can instead offer to pay the doctor to move to a new office. If the confectioner derives greater economic value from the location than the doctor does, they should be able to come to a mutually agreeable price that will get the doctor to agree to move. If, however, the doctor derives greater economic value from the location, no price the confectioner is willing to pay will be enough to convince the doctor to leave, so the confectioner will have to find a new place to ply his trade. In either case, the solution is economically efficient because the externality is resolved while the party who derives the greater economic value gets to stay. The exact same analysis would apply, only in reverse, if the confectioner had the right to make as much noise as he wanted and the doctor attempted to pay the confectioner to move.
Unfortunately, Coase’s elegant solution, which is called the Coase theorem, only works if there are well defined property rights (e.g., either the doctor has a clear right to stop the confectioner’s noise or the confection has a clear right to make noise) and if there are relatively low transaction costs (e.g., there are only a few parties, all of whom are willing to negotiate in good faith). This doesn’t happen as often with real life externalities as we would like. Nonetheless, it’s a great example of how a simple change in perspective can suggest a new solution to an old problem that is revolutionary in its time, only to become common sense a generation or two later. In my book, that is a legacy worth remembering.
Senate Hearing on Federal Disability Insurance Program
There is a hearing today on the Federal Disability Insurance Program, which could become the first government benefits program to run out of money. CBS’s 60 Minutes devoted its first segment last night to the upcoming hearing. The segment features Administrative Law Judges and Senator Tom Coburn of Oklahoma. The Administrative Law Judges stated that attorneys represent many more people now than in the past, and implied this is part of the reason that those people are able to “scam” the system. However, what she failed to mention was that for an unrepresented person, it would be extremely difficult to understand what was needed to show disability. These lawyers are helping people with disabilities, which need this Program to survive, receive benefits that are provided to help them under this Program. Noticeably, absent are people who would have benefited under this program.
Furthermore, Senator Coburn stated, “If there’s any job in the economy you can perform, you are not eligible for disability.” However, the statute actually states that disability is the “inability to engage in any substantial activity.” There are many situations (especially for those 50 or older) in which the law itself indicates that they are “disabled” even though they can perform certain jobs. A person 50 years old often can perform work of certain types and still be found “disabled,” because it takes into account many factors, including age, education, and work experience. Furthermore, CBS seemed particularly to sneer at a diagnosis of fibromyalgia because there are not any tests. What they fail to say is that there are criteria for diagnosing it. Specifically, there are 18 trigger points, that when pressed can cause excruciating pain in someone with fibromyalgia. To be diagnosed, you must have that pain in 11 of the 18 spots over a 3 month period, and you have to be diagnosed by an acceptable medical source (an M.D., Psy. D., Ph. D., or a D.O.). Additionally, you must prove that you are no longer capable of doing the work that you used to do because of the fibromyalgia.
There is clearly a problem, not that there is fraud in the system, but that there may not be enough money to continue the system. How should we cover the deficiency?
Video of the (three plus hour) hearing, provocatively titled: “Social Security Disability Benefits: Did a Group of Judges, Doctors, and Lawyers Abuse Programs for the Country’s Most Vulnerable?”,can be found here.
For an article criticizing the 60 Minutes segment, see the Los Angeles Times article entitled, “‘60 Minutes’ Shameful Attack on the Disabled.”
For more on the supposed “disability boom,” here is a link to a SLACE Archive post about a This American Life episode titled “Trends with Benefits” and a preview of the episode from the Planet Money podcast.
Should the Federal Government Hop on the College Rankings Bandwagon?
Let me start off by saying that for the most part, I agree with much of President Obama’s domestic policy since taking office. My bias out of the way, I want to take a moment and reflect on the President’s recent visit to New York State, during which he visited two of the State University of New York’s premier, research oriented universities, and Henninger High School, here in Syracuse. During his visit to UB (alas, one of my numerous alma maters), the President outlined his plan to make college more affordable for the middle class. While this is certainly a noble undertaking, part of the President’s “plan” includes a mandate to the U.S. Department of Education to develop a “a new ratings system to help students compare the value offered by colleges and encourage colleges to improve.” The rating system, to be implemented by 2015, would assess factors including access to low income students, based on Pell Grants awarded, affordability, based on average tuition, scholarships, and loan debt, and outcome, based on graduation and transfer rates, ‘graduate earnings,’ and advanced degrees of college graduates.
Now, keeping higher education affordable should be a top priority of this country. After all, without accessible, affordable higher education, where would we really be? The post-World War 2 GI Bill was a major force driving the economic success enjoyed by the middle class during the last half of the 20th century. Likewise, university investment in so called “high tech” fueled the brief period of middle class prosperity at the end of the 20th century and continues to impact our economic stability today.
My issue with the President’s so called “plan” for the Education Department to rate (or rank, if you prefer) U.S. colleges and universities to compete with private rankings such as U.S. News and The Princeton Review is that to effectively rank colleges based on the above standards would require the Department of Education to conduct a long-term longitudinal study to determine which colleges and universities are, in fact, the “best” as deemed by the President’s standards. It would be impossible to determine the “outcome factor” of graduate earnings without conducting such a study. In short, how is the Department of Education going to be able to determine the “value” of a college’s or a university’s degree without tracking graduates over a long period of time? Case in point: A Syracuse College of Law graduate may decide to take a public interest law job, which pays $40,000 per year, while a graduate of Onondaga Community College graduate may get a job at a family company that pays $100,000 per year. Twenty years from now, the same SU law graduate may be the senior counsel at Apple, making millions of dollars per year, while the OCC graduate, through promotion, may be making $200,000 pe year. While this is a very simplistic example, under the President’s mandate to look at “outcomes,” OCC outranks SU as a university.
Keeping higher education affordable to the middle class is a noble undertaking, and I applaud the president for even considering it; however, there are so many possible strategies to achieving this goal, the notion of a Federal Government ranking of colleges and universities is a poorly veiled attempt at making national education policy.
Administration Sets Stricter Carbon Emissions Standards: The End of Coal?
President Obama and the Environmental Protection Agency (EPA) recently announced new restrictions on carbon dioxide emissions from new coal and natural gas plants. A current state-of-the-art coal plant emits about 1,800 pounds of CO2 for each megawatt-hour of electricity it produces, but new plants will be required to emit less than 1,100 pounds per megawatt-hour (1,000 pounds per megawatt-hour for new natural gas plants)(1). The president and the EPA expect new plants to achieve this drastic reduction in emissions using carbon capture and sequestration (CCS) technology. CCS technology involves “scrubbing” carbon dioxide from smokestack emissions and then injecting that CO2 into reservoirs underground or beneath the ocean. The technology is relatively young, with few industry-scale projects (75 in the world, according to the Global CCS Institute(2)) and slow growth. This latest announcement is a part of the administration’s climate action plan to reduce the emissions of greenhouse gases, which are the likely cause of global climate change. Power plants account for around 40% of greenhouse gas emissions in the United States(1). But what are the actual consequences of these restrictions going to be? There are many potential answers to that question.
The coal industry claims that these restrictions will essentially destroy demand for coal (3). Although currently operating plants do not have to abide by these restrictions, the administration has made it clear that they will not be safe for long. With CCS technology still in a young stage of development, it is expected to be very expensive. Coal and natural gas are currently inexpensive fuels for electricity production, but if CCS needs to be installed in plants the cost of electricity associated with the new plants will increase. If the cost of CCS remains prohibitive, new coal plants may not be built at all. In the future, when currently existing plants are also required to limit emissions, the price increases will affect all coal (and likely, gas) electricity prices.
In fact, some are arguing that the new restrictions are so prohibitively expensive and the technology is so unproven (it is still hotly debated whether sequestration will be adequate in keeping CO2 out of the atmosphere), that the requirements violate the Clean Air Act(3). The Act stipulates that new technology requirements cannot be unreasonably costly to industry and need to be demonstrated adequately at a large-scale. The EPA stands by its announcement, claiming that CCS is viable as a technology.
Increased prices of electricity from coal and natural gas might make production of electricity from renewable sources (i.e., wind, solar, tidal, biomass) cost-competitive with the fuels that are currently significantly cheaper. While this is bad news for the coal industry, environmentalists and the renewable energy industry are very excited about this prospect. Cheap coal and natural gas are difficult to compete with but the costs do not account for the environmental externalities (i.e., greenhouse gas emissions, air pollution, and ecosystem destruction associated with mining). Increased costs from the installation of CCS will at least provide a fairer playing field for other technologies.
Another possible outcome of the new restrictions could be a minimal reduction in carbon emissions due to a legal technicality. Brian Potts writes that the Clean Air Act allows the EPA to create standards for either entire industries (e.g., the coal electricity industry) or on a case-by-case basis for single power plants (4). The Act requires that the case-by-case standards be more stringent than those for all sources. However, the EPA has recently imposed case-by-case standards on existing and proposed coal plants which required very low reductions in emissions (around 5%) and generally just required improvements in efficiency and fuel type (higher quality coal) rather than the installation of expensive technologies like CCS. This could mean that the new restrictions will not go into effect. On the other hand, Potts writes that carbon emissions have been and will continued to be reduced naturally through the regulation of other pollutants, such as mercury, and due to low natural gas prices leading to the shutdown of older coal plants that cannot compete.
It is yet unclear how these new restrictions on carbon emissions will affect the electric industry, but with the power of the coal industry and the continued attractiveness of this cheap and abundant fuel (as long as externalities are disregarded) it seems as though coal will remain king for quite some time (5). However, these new policies from the administration may be the first step to reining in our dangerous emissions levels and helping renewable sources of electricity become cost competitive with the currently cheap fossil fuel sources. Additionally, if the new restrictions lead to the implementation of CCS, economies of scale will hopefully work to lower the cost of the technology and allow the use of abundant coal resources to produce electricity somewhat more sustainably. We will see what direction this story takes over the next several years.
(1) http://www2.epa.gov/carbon-pollution-standards/2013-proposed-carbon-pollution-standard-new-power-plants
(2) http://www.globalccsinstitute.com/publications/global-status-ccs-2012/online/47976
(3) http://www.reuters.com/article/2013/09/18/us-usa-energy-coal-idUSBRE98H0ZD20130918
(4) http://www.nytimes.com/2013/09/20/us/politics/obama-administration-announces-limits-on-emissions-from-power-plants.html?pagewanted=all
(5) http://thehill.com/blogs/congress-blog/energy-a-environment/315527-obamas-climate-plan-for-power-plants-wont-significantly-lower-emissions
(6) http://www.reuters.com/article/2013/09/18/us-usa-energy-coal-idUSBRE98H0ZD20130918