The kitchen sink

This post is meant to capture a hodgepodge of random thoughts that might make for interesting research topics.

1) An element of athletics that exists with certainty in the real world but is difficult to model and/or predict (at least as far as my limited reading is concerned) is streaks. The idea that the performance of an individual is at times subject to persistent positive or negative outcomes that may go beyond mere chance. It seems that this type of situation can and should be modeled from a time series perspective. The production element (e.g. an at-bat in baseball) is subject to a shock that is likely an AR process. This implies that the outcome in any at-bat is partially determined by the outcome in the last at-bat (or series of at-bats). Intuitively, this makes all the sense in the world. The more persistent the shock, the longer the streak. I have to believe that someone has already worked through this type of exercise and I'm curious how the results match up to reality.

2) Continuing in the athletics world...an interesting thought occurred to me regarding marginal tax rate elasticities. The sine qua non of the wingnut conservative world is that high marginal tax rates discourage the most productive in society from, well, producing. Lowering marginal rates has the glorious effect of boosting the efforts of these productive types and the fiscal authority has money raining down upon it due to the US residing on the downslope of the Laffer curve.

Back in the real world, what would we expect from athletes faced with higher marginal tax rates? Certainly a highly productive professional athlete would be a prime candidate to exemplify this supposed elasticity? Do performances and firm profits suffer as a result of marginal tax rate increases? A host of complexities make the tractability limited -- contracting, agency, etc. However, the point I'm getting at is the strategic element that athletes and by extension, all workers use in their optimizing behavior. Alex Rodriguez is much more concerned about his pay relative to other players near his level than his absolute pay. I'm sure he'd tell you if you asked him. The inherent behavior stems from strategic concerns, not Adam Smith's invisible hand world. The pay of titans of industry would seem to follow much more closely to the strategic world I describe than Adam Smith's world. So moderately higher marginal rates will recoup a lot of revenue without losing much in the way of efficiency.

3) The corollary question to point #2 is what type of workers are most likely to be impacted by marginal tax rate changes? CEO's would not be my answer. Perhaps the average worker who is pushing up against his income band? His information about c0-workers salaries is likely lower than higher earners. Capping out vs. an income band may actually be a proxy for a marginal tax rate increase, since the workers raise will be limited by the ceiling. So he will not reap the full benefit of his individual efforts, regardless of his performance (my assumption is that there are a discrete number of nominal pay increases he could achieve with his efforts).

This line of thinking goes toward an area I think is overlooked by corporate america -- incentive effects at much lower levels. It is an iron-clad rule that results come from the superstars. Perhaps there is money being left on the table by not providing the incentives to low to mid-level employees with a lot to offer and not much reason to give any more than a standard listless 40 hour week. And I'm not talking about friggin Applebee's gift certificates as incentives...

The rarified air of high finance

This WSJ article by David Wessel contains an absolutely stunning statistic: even after a controlling for SAT scores, GPA, gender, and anything else Claudia Goldin and Lawrence Katz could think of, Harvard grads who went into finance earned 195% more than similar grads in other careers.

Three times more.

In a nutshell that absolutely destroys the notion that returns to education are primarily responsible for the increasing income inequality in the US. Even among roommates at Harvard, income inequality is striking.

The article claims that finance is on par with modern science in all the grand things that it has done for us. Unfortunately, contra Wessel's specific claim, home ownership in the US has fallen back to where it was before the housing bubble really took off. The question for economists is just what kind of value added Wall Street (my proxy for the finance industry in general) really provides. I'm inclined to think that rent seeking behavior has a substantial role in this.

Is the reason that Wall Street commands such a huge share of the economy simply because that's where the money/capital is? A simple minded thought but elaborating a bit may make the point more clear. If the US was dependent on the Mississippi River for the irrigation of the entire country, and one dam was the spoke that all water had to pass through...would we be surprised if the dam proprietors and workers did quite well for themselves? Could we complain that the infrastructure was much more elaborate than is really necessary to be functional? How would we know the difference?

At the most fundamental theoretical level, the financial industry exists to connect savers with borrowers. Due to the difference in time preference and risk appetite of both groups, myriad financial instruments have been developed. Regardless, a shocking portion of Wall Street activity is secondary transactions. Perhaps this secondary activity is beneficial, perhaps this is simply the finance industry printing money in the form of fees. Going back to the water analogy, are we mesmerized by the equivalent of the waterfall optical illusion, where water seems to flow downhill before reaching the top of the waterfall?

Ownership aside, we should expect quite a clamoring for finance jobs if the results that Wessel cites are robust. Will enough people enter high finance to bring the rent seeking behavior back down to earth? Or will we have to start a welfare program for Harvard grads not going into finance?

Steroids, steroids, steroids

I resurface from finals and steroids is all I'm hearing about.

Former Senator George Mitchell, of the supposedly very serious bipartisan type (think 9/11 commissioners), has set off quite the media maelstrom with his report on performance enhancing drug use in Major League Baseball. Despite the fact that nobody should be surprised by this, the headlines blare and athletes duck.

I think I could have saved him roughly 399 pages and any suspense with a simple analogy:

Picture a full house at a concert venue where everyone is thoroughly enjoying a virtuoso performance on stage. This being a sophisticated crowd, everyone stays seated and claps at the proper time. However, some young punk decides that his view from just a few rows back isn't the best. Perhaps someone very tall is right in from of him. So he stands. The few people behind him are annoyed but are able to see around him. Then the young punk's buddy stands, deciding he likes the idea of a better view as well.

The patrons behind this duo have a choice to make. They could appeal to authority and attempt to end this uprising. Or, they can stand, maybe even on their tiptoes to better their view. More likely as not, everyone in the venue will end up standing.

While simplistic, this story is exactly the situation a professional athlete faces. Millions of dollars in salary are at stake and the differences in talent are not always very large. Players will always find a way to gain an advantage. I'll leave aside for now whether we, the fans, should be appalled by this or not.

The point with respect to Senator Mitchell: Does he really think the manager of that concert venue gives a shit if the people are standing or even doing handstands? The place is full! The irony from the point of view of the concert goers is that they exert more energy by standing and they have the same relative view as before. The bottom line: the tallest guy still has the best view.

Maybe the media will apologize to Barry Bonds now. It doesn't matter whether everyone is standing or sitting, he's the best hitter since Ted Williams.

Kid Nation

While many highbrow types eschew television, and would perhaps be mortified by the concept of reality television, I think it's shortsighted to ignore the reflection of society that the medium inevitably presents.

The most recent example that has potential to yield some very interesting anecdotes about society is Kid Nation. The concept is to dump 40 kids (all under 16) into an abandoned frontier town, with resources for 40 days, and a modicum of structure to see what kind of mayhem or progress ensues. The beauty of children is the more base responses to situations that economists are happy to see.

In fact, this setup is a perfect real life metaphor for what economists attempt to do in general: Abstract from the complexity of the real world to try to learn something about the interactions between some of the most important moving and stationary parts.

What triggered my thoughts regarding Kid Nation was how the distribution of wealth would play out and how this model would present an excellent way to describe taxation in a more concrete context. Since the residents will be paid different wages depending on the job they do, it will be interesting to see what, if any, redistribution will take place. The difference between the highest rung of this model economy and the lowest is significant ($1.00 in wages vs. $.10).

Of more interest to me is how (and if) public goods will be provided and paid for. Will security be needed? What about a system of justice? Perhaps education? Even the arts? If this group of children agreed that these were necessities for a thriving culture, how best to provide them? The topics to watch are endless for an economist so I'll have to keep tuning in to see if any of these come up.

One idea that could stem from this model is how to put government services and the shared sacrifice in a more labor oriented framework: We continually talk about marginal rates and the burden of taxation, and that's fine. However, if you boil it down to the number of hours that each of us needs to contribute to enjoy security, law and order, etc, some interesting conversations may ensue. If you can't directly offer up those hours, how should you compensate the others who can? Certainly, society may want the most productive to keep producing privately instead of offering up their labor for public goods or security. But there has to be a tradeoff. I'd like that to be the starting point for a discussion about taxation instead of the moron George Bush and his ilk's mantra about how it's your money, blah, blah, blah.

Higher education

Perhaps fitting that the first post since I began my PhD program is regarding higher education. I sat in on a workshop presentation by a PhD student from U-Chicago this afternoon. The presenter seemed fairly comfortable with his research and handled a few tough questions from the mostly friendly audience. The model tied together tuition increases at private colleges to increases in wealth across the colleges themselves. Essentially, the model argues colleges are taking their wealth bequests and spending the money on improving quality, thereby allowing them to increase tuition since their product is more valuable.

My problems with the model were somewhat simplistic, at least in my way of thinking. First off, I have to believe that there are serious barriers to entry in the private college market. The prestige and name recognition necessary to compete at this level must be high. We have schools founded by Rockefellers and Vanderbilts from past centuries, but none by Gates or Buffett. So if we have a supply side issue alongside a demographic boom in the late 80's and a stock market boom in the 80's and 90's, is it possible that these phenomena fully explain the coincident rise in tuition and college wealth?

The other point I questioned was the impact of taking public universities out of the equation. I understand that the budget constraints are much different, but the fact that tuition is rising at public institutions (net tuition) is a question that must be taken into account. If private schools feel they are differentiated vs. public schools, then any decrease in government support that causes tuition to rise may compel, or allow private schools to increase tuition.

Both questions could be links to areas of further research, particularly the supply question. That seems to be a common thread these days -- grown up industry, even academia doesn't really want competition.

In any case, these seminars are motivation for a grad student taking core theory courses.

Managerial risk aversion?

Why are American sports teams so seemingly risk averse in their selection of leaders? This subject has bothered me for some time and it bounced back into my mind last night while watching the Cubs/Cardinals game and enduring the endless dugout shots of the ever pensive Cardinals manager, Tony LaRussa.

Both LaRussa and his counterpart in the other dugout, Lou Piniella, have been fired in previous managerial jobs (a few times in Lou's case). Taking a cursory look around MLB, plenty of current managers come from the same stock of former firees: Leyland, Torre, Cox, Tracy, Garner etc. A survey of the NBA or the NFL produces similar lists of recycled leaders.

Two points that contribute to an explanation of this phenomenon:

1. Being fired as the manager of a professional sports team doesn't send the same signal of incompetence that you might suspect.
2. The risk aversion and short term outlook in the front offices of professional sports franchises makes selecting a "name" leader much more likely, regardless of that leaders previous record.

Point #1 could be true if a manager or coach only impacts the final outcome of a small number of games during a season. If so, then firing such a leader might be seen as a shot across the bow to the folks who do impact the success or failure of a franchise: the players. Additionally, following to point #2, the selection criteria for a new leader may focus on intangibles such as name recognition to send the proper signal of commitment to winning, rather than skills that directly impact on field play. A first time coach may send a low cost approach type signal and could hurt sales of tickets to see the team play.

Assuming that this line of thinking bears some resemblance to reality, are GM's too risk averse in their selections? Could the Triple A manager get the same results as the big name who has bounced around for 10 years, and at half the salary? Have GM's artificially limited their supply of talent? The flip side is the argument that there are a minority of superstar leaders with the ability to inspire the key talent, put fans in seats, and have a larger positive impact on outcomes than the next best leader.

Perhaps of more interest: do these same biases extend to corporate America? How much impact on performance does the CEO actually have and does the same risk aversion lead to a race to the top in terms of executive pay packages (leaving aside the fact that some CEO's basically set their own pay)? No company wants to be known as paying only at the 50th percentile for their leader. Promoting the unknown controller from within may send the wrong signal. For the rest of the team, 50th percentile may be just fine. Following this logic, the hypothesis would be that American companies are needlessly driving up CEO pay and perhaps exhibiting a similar recycling of "name" talent that is seen in professional sports despite the reality that leaders have limited impacts on performance, especially compared to the next best choice.

The rich and public goods

Have we looked past the probability that our new Gilded Age is producing a new generation of Carnegies and Rockefellers, the robber barons who at times were also generous philanthropists? The question of interest to me is whether certain wealthy private individuals are driven to produce public goods and whether this is more efficient or effective than the collective approach of taxation and government sponsored public goods. My guess would be a resounding no on the effectiveness tally but it may be worthy of a more thorough review

Where will the future iterations of the Ford Foundation or the Rockefeller Foundation come from? Bill Gates leaps to mind as a good example but I'm more interested in speculating on what, if any, generosity may emerge from the financial industry types who represent a very high percentage of the new elite. As we shift income towards this highest echelon of society, can we expect a return in the form of public goods? While I'm not sure of the genesis of the Kennedy family fortune, an argument could be made that their wealth has allowed or perhaps even guided its subsequent generations to pursue careers in the public interest. A great responsibility seemed to come with wealth in the past. Is this just coincidence and can any predictions be made about the careers of the wealthiest offspring in decades to come? Would more middle class families produce fewer public leaders than fewer wealthy families? I'd also like to see a fair hearing for how or if private philanthropy or charity is a better mechanism for redistribution than progressive taxation and government services.

Who knows, maybe I'll be amazed at how tuned in billionaires are to the needs of others. Worries about inequality may be unfounded...

Inequality and the military

Has broadening inequality actually been a boon for military recruiting? An article I came across from a few years back discussing the troubles the US Army was having in filling their recruiting pipeline got me thinking about military recruiting all the way back to the Vietnam War. Of course, back then we had the draft so unless your name was George W. Bush or Dick Cheney, you needed a damned good excuse not to serve if your draft number was called.

Since the end of Vietnam, the US military has become an all volunteer force. A concurrent trend that began around the same time is the furthering of income and wealth inequality to levels that resemble Gilded Age America. My question is about the opportunities for the folks in those bottom quintiles of the income distribution: Has this loss in relative, and in many cases absolute purchasing power limited the ability to purchase the human capital levels that would lead to some degree of social mobility? If so, has the military as a career choice gained numbers at a far greater pace than otherwise would have been possible with late 1960's levels of equality?

Buyer beware

I've long been skeptical of the worship of financial superstars among the set of folks whose MBA is their most cherished possession. Eddie Lampert and this latest announcement from Sears Holdings would be exhibit A in the case against such worship.

It's unclear why anyone should be impressed by a man who is systematically hollowing out formerly viable companies to enrich himself and a tiny subset of remaining shareholders. The level of re-investment in Sears (and Kmart) stores is anemic. If you've set foot in a Sears lately you'll know whereof I speak. Meanwhile, billions are being spent in buying back stock to further pump the share price over the short term. Of course, that's the point, he never has any interest in running companies successfully. The whole exercise is based on the assumption that the parts show more value as they are dismantled. A group of vultures apparently have faith in Lampert's skills in this regard as the five year stock appreciation in Sears Holdings illustrates. As soon as there is nothing left to squeeze, Lampert will sell off and head to his next slaughter. Perhaps the treads on this deteriorating jalopy are showing a bit sooner than Lampert anticipated, however. It will be interesting to see what tricks he still has left in his playbook. I'm willing to bet the word restructuring is part of it.

Lampert's own little Sears Holdings bubble will burst eventually, the only question is who will be left holding the last shares? Perhaps this is why corporations that wish to continue actually producing something and employing people construct poison pills to prevent this type of action. It's not efficient use of capital, it's simply plundering by those with the means to carry it out.

Hedge fund welfare

Daniel Gross brings up a point that isn't discussed much in polite company, namely that bailouts only occur for holders of capital. Sounds to me like something other than the market is deciding winners and losers in the Bear Stearns case. The truth is that these conglomerates meddle and disrupt market outcomes all the time in myriad ways and none of the usual free marketeers seem troubled by it.

The individuals caught up in the housing bubble and facing foreclosure would seem to have a better case for bailout than the hedge fund types who will get a nice tax break on any losses they take. The overall point is not to be bamboozled by anyone who simply shouts "free market" at the top of their lungs to dispute a policy choice. In reality, no such animal exists and ironically, Wall Street is many times purported as the closest to a true free exchange that we get. Perhaps not.

Fair for whom?

I'm beginning to wonder if Professor Mankiw moonlights as an editorial page writer for the Wall Street Journal. In this piece from Sunday's NYTimes, Mankiw may as well be screaming "Lucky Duckies" about the group of Americans paying only 4.5% of their income in federal taxes.

Mankiw asserts that economists should leave normative debates out of economic analyses, then cites the Rawls vs. Nozick philosophical debate to imply that there just isn't any answer about what is or isn't fair from the economic realm. It's obvious, however, that Mankiw falls clearly on the Nozick side of the fence and that is really the point: you can't hide your bias behind a set of tools. The bias informs the tools used, the use of the tools, and the questions that get asked and answered by the tools. As long as economics remains a social science, the normative side is vital and economists need not shy away from those arguments.

Specific to the analysis of federal tax rates, a side by side comparison of the changes in pre-tax income in addition to effective tax rates over time for the same groups of taxpayers would be a bare minimum starting point for a balanced look. Excluding notoriously regressive state taxes is a bit suspect as well. Adding those elements would clearly show that incomes have diverged wildly over the last 30 years and the tax code has only made it worse. This should be ground zero for a discussion over tax rates, not Mankiw's singular snapshot. Even at this ground zero we should acknowledge that collecting taxes is simply the mechanism by which we pay for civilization. The discussion then follows with what we've already committed to funding and how best to achieve this funding target. Since Mankiw is biased toward a more limited role for government, we should at least force him to spell out what he wants to cut if he thinks taxes are too high (especially since we have a deficit that will force taxes higher than they presently are).

Carried interest

Seems almost ridiculous to have to point out the nonsensical arguments emanating from the hedge fund managers fighting by idiot proxy to keep their tax loophole, but the level of disinformation has reached a fever pitch. It must be that obscure names like hedge fund and all the zeroes involved make folks believe that this is complicated.

It's not.

Carried interest is simply the part of the hedge fund managers income at risk, much as the tips a waitress at a nice restaurant might receive. If the hedge fund manager or waitress improves the investment, be it dinner or dollars invested in emerging markets, then a bonus could be in order. Hedge fund managers have it in writing, tied to fancy metrics that usually go up regardless of their meddling. If the waitress could capture the extra benefit provided due to great service, and could contract a defined fee for that service before the meal, would the Senate be demanding that these tips be taxed at the 15% capital gains rate? Yeah, doubtful.

And my already taxed income dollars go to pay those tips, so the double taxation bit won't fly either.

Still economics?

An example of how far the field of economics stretches itself. A much more compelling and transnational argument than Leavitt's abortion argument for the drop in crime.

And pictures too...

This is primarily a test of my ability to post a picture to this blog -- the photo itself is from a vacation down in Ft. Lauderdale last year. Ah, the good old days when we had nothing but free time and disposable income. Now we'll have disposable diapers instead.

A blog before son arrives

Given that I'll be starting grad school in a few weeks and have a baby on the way, I figure why not start a blog as well. I keep hearing horror stories about how I'll never sleep again so maybe this will keep me occupied in the wee hours. Perhaps I'll get the hang of posting baby pics as well. With a bit more luck and time, I'll be able to post about other topics that pique my interest, primarily economics and politics, possibly areas of potential research. I'm sure to bore everyone silly after a few months of heavy neoclassical theory has been hammered into my skull. I aim to keep a heterodox eye open and at least some semblance of a sense of humor. The baby can't help but be of assistance there. Should be interesting.