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    A Water Dilemma

    May 8 • Demand, Supply, and Markets • 348 Views

    Last week, the Boston area had undrinkable water for several days. Predictably, bottled water sales soared as did bottled water prices in certain stores.  Equally predictably, politicians condemned the increases. Most economists, though, disagreed.

    As explained by a Boston Globe journalist, price boosters best served the public interest because they had the incentive to supply more water. Yes, price could even double but, as he describes, “…sales of water are slower [than at the cheaper vendor] and there is a lot of grumbling about the high price. But even late arriving customers are able to buy the water they need…” By contrast, the lower priced vendor had “his entire stock cleaned out.”

    The riddle: How can high prices make people happy? 

    The answer: When they preserve the supply of a necessity.

    The Economic Lesson

    Picture a supply curve sloping upward crossed by a demand curve sloping downward. Price is the y-axis and quantity is the x-axis. As price rises, producers are willing and able to create and sell more. Why? Because higher prices mean higher profits. Whenever government steps in and prevents price from naturally rising as the market dictates, shortages result. Do you prefer high or low water prices for Boston?


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    Deficits and the Tragedy of the Commons

    May 7 • Environment, Government • 276 Views

    Pondering Greece, I wondered about the individual and the state.  Sometimes what is good for one person is bad for all. 

    That took me to a graphic of the federal budget in 2020 in which entitlements, which are good for individuals, are dominant. The Congressional Budget Office projects that Medicare will be 17% of the federal budget, Social Security: 22%, and Medicaid: 8%. The probable result? Burgeoning deficits.

    The Trustees Report for 2009 on Social Security and Medicare corresponds to the surge in entitlement spending. As a pay-as-you-go system, current workers pay current social security benefits. In 2016, because of the baby boomers, the revenue will be insufficient but there is a trust fund. By 2037, the trust fund will have been depleted. For Medicare, 2017 represents the year that the money starts to run out unless current health care reform legislation has an impact.

    Your opinion of this potential tension between individual well being and budgetary crisis?

    The Economic Lesson

    Called the tragedy of the commons, meadows are overgrazed, lounges are messy, and the air is polluted when commonly held resources are bespoiled by individuals pursuing their own self-interest. Perhaps burgeoning deficits are a version of the tragedy of the commons. 



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    A Contagious Disease

    May 6 • Economic Thinkers, Financial Markets, Government • 295 Views

    Seeing the Bloomberg Businessweek headline, “Greek Contagion Spurs Surge in Portugal, Spanish Debt Swaps,” I started thinking about diagnosing fiscal illness, treating it, and contagion.

    How can we diagnose the illness? The illness seems to be the Greek spending disease. Just like you can identify a risky mortgage by looking at someone’s income, you can identify too much national (sovereign) debt by comparing it to the GDP of that country. As we noted on February 9th, for 2009, Portugal (75%), Italy (116%), Ireland (61%), Greece (108%), and Spain (57%) have debt that is too high a proportion of their national income.  

    How do you treat a fiscal disease? Greece has moved to cut the wages and pensions of public employees and to increase sales taxes. In addition, articles abound about a tax system that needs to diminish fraud. Also, afraid of catching related illnesses, investors are inoculating themselves with credit default swaps. A credit default swap is insurance that relates to risky sovereign debt. In addition, could we say that healthier European nations and the IMF might give Greece a money IV? 

    What is contagious? The contagion sounds rather similar to bank runs during the 1930s before the FDIC was created. Once one person became worried about a bank’s health, the concern spread with many rushing to withdraw their money. In today’s fiscal world, nations need to borrow. The contagion here is refusing to buy a nation’s debt.

    Do you agree? Would you suggest another way to define the contagion? Other medical analogies?

    The Economic Lesson

    In his General Theory on Employment, Interest, and Money, British economist John Maynard Keynes said that nation should borrow during a recession. Then, by using the money to “prime the pump”, fiscal activism stimulates business expansion, the recession ends, government revenue surges, and the debt is repaid.

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    A Closer Look At Consumer Spending

    May 5 • Households, Macroeconomic Measurement • 389 Views

    We always hear reporters saying that, “Consumer spending makes up more than 70% of the economy…” Mike Mandel, former chief economist at Newsweek, believes the reporters are misleading us. Yes, the consumer component of GDP is 70% of all spending. But, the consumer is not necessarily doing the spending and the impact might not be jobs and growth.

    According to Mandel…

    1. Because a lot of what we buy is made elsewhere, more consumer spending will not necessarily result in more jobs at home. 
    2. Government’s Medicare spending is counted in the consumer component of GDP.
    3. “Imputed services” which include, for example, the rent we never pay on a house we own, are a part of the consumer component of GDP.
    4. Spending by religious groups is included in the consumer GDP category.
    5. As a result, Mandel concludes that consumer spending on domestically produced goods and services is actually close to 40% of GDP.

    The Economic Lesson

    GDP includes consumption expenditures, gross investment (primarily business spending but also residential housing), government purchases, and exports minus imports (usually a negative number). Alternatively, we can define GDP as the value of goods and services produced domestically during one year. If we assume that actual consumer spending on domestically produced goods and services is a lower number than reported, maybe the consumer is not quite as important as reporters say.  




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    Entrepreneur Incubators

    May 4 • Businesses, Economic History, Innovation, Thinking Economically • 350 Views

    Which words do you associate with “entrepreneur”? Risk taker? Ambitious?Creative? Smart? Energized? Henry Ford? Steve Jobs? Clarence Birdseye? The words and names convey a recipe for success. And yet, according to a recent FT article from Tim Harford, the ingredients are not quite what you would have expected.

    1. Is there an entrepreneurial spirit? The researchers did not discover it. However, they did say that intelligence and patience were more prevalent among those who started businesses. 

    2. Is there a common key to success? The most important resource is the ability to fund the project. An inheritance, for example, facilitates business creation as would available venture capital money.

    3. Family counts. Children of the self-employed tend to start their own businesses.

    4.  Where you live counts. Countries with lower taxes and less red tape tend to have more entrepreneurs.

    You might enjoy this article from yesterday’s NY Times about a “tech incubator” for entrepreneurs.

    The Economic Lesson

    New businesses propel economic growth if they create new technology and ideas or employ underutilized resources. Economists can use production possibilities graphs to illustrate economic growth. On production possibilities graphs, a bowed out curve is drawn which illustrates that country’s maximum production capability. Then, when an entrepreneur like Henry Ford invents the Model T, the production possibilities curve shifts to the right. 


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