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    Boomerang Households

    Dec 2 • Behavioral Economics, Demand, Supply, and Markets, Economic Thinkers, Households, Macroeconomic Measurement, Thinking Economically • 613 Views

    The “boomeranger” has returned. A Pew Research Survey found that 13% of all households are composed of parents with adult children who moved away and then returned home. Pew’s respondents say the economy was the reason these “boomerangers” moved back.

    Living with your parents after college means saving lots of money. No rent, no bed or bedding, no refrigerator to stock, no mop or vacuum cleaner. You can save until economic prosperity returns.

    And therein lies the problem. With college grads buying less, they are constraining the economic recovery that will enable them to start their own households.

    The Economic Lesson

    Sometimes what is good for the individual is bad for the group, the community, or the country.

    • If there is a fire in a crowded movie theater, one person, alone, can successfully exit. However, if everyone dashes for the door, getting out is much more difficult.
    • If one farmer sells a bountiful crop, his profits rise. But, when all farmers flood the market, they make less money.

    Similarly…

    Called the Paradox of Thrift by economist John Maynard Keynes (1883-1946), it is financially beneficial for the individual to be frugal but disastrous for the community. If everyone saves, national demand plummets. This researcher disagrees.

    An Economic Question: How might opportunity cost explain fewer new households during a recession and more when the economy is booming?

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    The Rent-A-Ship Market

    Dec 1 • Businesses, Demand, Supply, and Markets, Developing Economies, International Trade and Finance, Macroeconomic Measurement • 696 Views

    Knowing the price to rent a Handysize can come in handy if you want to measure economic activity.

    A Handysize is a small cargo ship. The very biggest vessels, called Capes because of the routes they have to take, are so huge that they cannot fit through the Panama Canal. Next come the Panamax and Supramax and then, the Handysizes.

    Ship rental prices respond quickly to demand. Hearing about a bumper wheat crop, you cannot quickly build an extra ship. But you can raise its rental price. By contrast, when less coal, cement and iron need to go anywhere, then prices drop.

    You see where this is going. To judge whether global economic activity is vibrant or sluggish, just check shipping activity. How? The Baltic Dry Index (BDI). An index of shipping rental prices, the BDI fluctuates according to the demand for ships carrying “dry” commodities like cement and building materials. When demand soars, so too do shipping costs.

    You can read more about the BDI in The WSJ Guide to The 50 Economic Indicators That Really Matter and this Slate article.

    To see whether things are moving, here is the BDI.

    The Economic Lesson

    Economic indicators can be categorized as leading, coincidental or lagging. Stock markets, reflecting investors’ perception of future profits, are leading indicators. the GDP, telling the current state of the economy, is coincidental, and the unemployment rate is a lagging indicator.

    Composed of the shipping costs for basic industrial commodities, the BDI is a leading indicator.

    An Economic Question: Drawing an inelastic supply curve (almost vertical) and a soaring or sinking demand curve, illustrate the price fluctuations that the BDI monitors.

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    Micro-Jobs

    Nov 30 • Demand, Supply, and Markets, Economic History, Households, Labor, Macroeconomic Measurement, Thinking Economically • 690 Views

    One online inquiry resulted in a research scientist happily cleaning an overflowing compost bin for $31. Someone else fished keys out of a sewer.

    Calling it “web-serfing,” the WSJ explains that “micro-labor” sites are matching requests for doing chores with people who want to do them. At online marketplaces, you just need to state your “micro-task.” The compost query was satisfied within 11 hours. The keys were retrieved much faster.

    The Economic Lesson

    “Manage our worm bin,” was all the woman looking for a compost cleaner had to post. An economist would say that she experienced minimal “search friction.”

    Search friction was the focus of the 2010 economics Nobel Prize winners. Composed of transaction costs that involve multiple forms, countless phone calls and long distance communication, search friction can delay a match between the unemployed and a job opening. Similarly, potential mates in marriage markets and home sellers and buyers in housing markets might not find each other. By contrast, matches in online micro-job markets are relatively effortless.

    An Economic Question: When someone receives $31 to do a job that might have been unpaid housework, how is the GDP affected?

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    Greek Taxes

    Nov 29 • Financial Markets, International Trade and Finance, Macroeconomic Measurement, Thinking Economically • 892 Views

    Having added property taxes to electric bills, the Greek government is shutting off the power to people who do not pay what they owe.

    The response?

    • In a northern suburb of Athens, a mayor has assembled a group of electricians to reconnect people who lose their power. He has also made municipal attorneys available to defend tax “scofflaws.”
    • The annual tax obligations of one 86 year old man more than tripled. But he might not get any more bills because unions are occupying the power company’s billing center.
    • While government ministries still owe the power company more than $135 million euros, there are no plans to cut off their electricity. So, union workers shut down the Health Ministry’s power for 4 hours.
    • Sales of generators have risen.
    • Out of the 16,974 pools that satellite photos revealed in one affluent Greek suburb, only 324 homeowners declared them on a tax form.

    The bottom line? Yes, these are random stories that might or might not be entirely accurate. However, with the Greek GDP cascading, the euro zone faces a gargantuan and perhaps unsolvable fiscal challenge.

    Here is Merle Hazard’s “Greek Debt Song.”

    The Economic Lesson

    Off the books transactions that sidestep taxation compose a shadow or underground economy. For Italy, the shadow economy is estimated to total close to 20% of all economy activity while for Greece, maybe even 30%. In the US, 8% is the number that has been cited.

    An Economic Question: Some say higher taxes solve a fiscal crisis by increasing government revenue while others believe that by discouraging business activity, they diminish revenue. Your opinion?

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    The First Credit Default Swap

    Nov 28 • Behavioral Economics, Businesses, Demand, Supply, and Markets, Economic History, Financial Markets, Government, Innovation, International Trade and Finance, Money and Monetary Policy, Regulation • 1125 Views

    Some of the euro zone’s problems actually started with the Exxon Valdez oil spill.

    After the 1989 Exxon Valdez calamity, when an Alaska jury said that Exxon owed $5 billion in damages, they asked J.P. Morgan for a $4.8 billion line of credit. Concerned about so large a loan, J.P. Morgan wanted to protect itself.

    So, they invented the credit default swap in 1994 at a J.P. Morgan “team-building” weekend in Boca Raton, Florida. A new kind of insurance, the credit default swap (CDS), was sort of like fire insurance that you could buy for a house you do or do not own. Instead though, the J.P. Morgan product insured different kinds loans that included money borrowed by businesses and by countries.

    Let’s fast forward to today. The CDS market has grown to more than $15 trillion. In the euro zone, the CDS has become a complement to bond buying. Does a bank want to purchase an Italian bond? To minimize its risk, it needs a corresponding CDS. How did we get from Alaska to Italy? That is another story.

    Here is a more technical description of a CDS.

    The Economic Lesson

    Selling bonds called sovereign debt, Country A is the borrower and a bank could be the lender. However, like J.P. Morgan and the Exxon line of credit, the bank then enters Country A’s CDS market to reduce its risk. If Country A defaults, the CDS seller pays the bank that bought the insurance.

    When investors buy Greek, Portuguese and Italian bonds can they buy the corresponding credit default swaps and “eliminate” their risk? It all depends on what “default” means.

    An Economic Question: Explain how credit default swaps might be good and bad for a nation with a history of loan defaults.

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