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    Creative Incentives

    May 15 • Businesses, Demand, Supply, and Markets, Innovation • 647 Views

    In his New Yorker Magazine article on creativity, Malcolm Gladwell describes Mick Jagger, the musician, and Gary Starkweather, an optical engineer, as gentlemen who pour out countless ideas and develop an endless stream of products. For Jagger, the product is his music while one of Starkweather’s ideas became the laser printer.

    Gladwell points out, though, that for creativity to work, it also needs discipline. He suggests that for Jagger, Keith Richards provided the discipline. For Starkweather, Xerox was a source of constraint. 

    Gladwell’s insight? As demonstrated by this slideshow about the mouse, sometimes a good idea has to unfold through many years, multiple places and different people to evolve into something useful and affordable.

    The Economic Lesson

    Americans tend to be risky consumers. We used electric power in our homes before it was entirely safe, we bought the first computers, we drove millions of cars before they were perfected. Explained by James Surowiecki in the New Yorker, because we are willing to buy new products, businesses have the incentive to be creative.

    In our economic tool kit, incentives belong at the top.

    An Economic Question: Remembering that profits are an important incentive for business firms, why might they have the incentive to control and encourage creativity?

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    A Medicare Check-up

    May 14 • Demand, Supply, and Markets, Economic Debates, Economic History, Government, Households, Macroeconomic Measurement, Thinking Economically • 560 Views

    We could say that Medicare is currently a bit ill and the prognosis is not good. Last year it received some “medicine” through the Affordable Health Care Act but its caretakers, the Medicare trustees, question whether the treatment will work.

    Submitted to Congress yesterday, here is the 2011 annual report from the Medicare trustees.

    A Washington Post article explains what all of this means.

    1. Passed during 1965, Medicare is a “federally administered health insurance program authorized… to cover the cost of hospitalization, and some related services, for most people over age 65.” (p. 249)

    2. Funding for Medicare comes from a payroll tax of 2.9% of our paychecks. Before the end of 1993, maximum earnings of $135,000 were taxable. In order to increase Medicare’s revenue, on January 1, 1994, the cap was removed.

    3. Medicare needed more revenue because of the baby boomers. The extra money would be needed when the baby boomers swamped the system.

    4. The baby boomers, who just started turning 65 this year, represent a surge in the population. Born after World War II until the mid-1960s, their numbers far exceed any other demographic group. And that is the problem.

    5. This year according to the annual report from the Medicare trustees who oversee its finances, more money was spent than received in Medicare taxes. Consequently, they had to dig into the Medicare trust fund. Since 2008, they needed trust fund money and project continuing to need it until 2024 when it will have nothing left.

    The Economic Lesson

    Totaling close to $272 billion, the Medicare trust fund is composed of U.S. treasury securities. In 2010, they had to redeem $32.3 billion in securities “to cover the shortfall of income relative to expenditures.” (p.4) The shortfall related to less tax revenue because of the recession and rising medical costs.

    An Economic Question: Economists usually say that we tend to think at the margin. Rather than all or nothing, usually, we do a little bit more or a little bit less. Where? At the margin. For Medicare everywhere we look, we see concern at the margin. Explain why older Americans, younger Americans, physicians, drug companies and Congress each have a different concern at the margin.

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    Your Elevator Pitch

    May 13 • Behavioral Economics, Businesses, Demand, Supply, and Markets, Economic History, Economic Thinkers, Innovation, Labor, Macroeconomic Measurement • 586 Views

    What if you had just 1 minute to sell your business idea? According to Marketplace.org, your “elevator pitch” would need, 1) to state the problem you are solving; 2) to explain why your solution will have marketplace success; 3) to present a “catchy” thought at the end.

    Or, more specifically, this winning video for Clear Ear says, 1) earwax is a problem for 35 million Americans; 2) our earwax remedy is faster, safer, easier than the traditional spray water in the ear method; 3) so, we will help the 350 million people worldwide with earwax problems. The Clear Ear team from MIT and Stanford won $2,000.

    On May 11, at the MIT finale, Sanergy, a sanitation start-up, won the $100,000 grand prize. You can see their business idea here and other MIT finalists here.

    The Economic Lesson

    Economist Joseph Schumpeter (1883-1950) tells us that innovation leads to a “paradox of progress” that he called “creative destruction.” In The Wealth and Poverty of Nations, Harvard’s David Landes discusses the impact of 5 early inventions (pp. 45-59): the water wheel; eyeglasses; the mechanical clock; printing; gunpowder.

    An Economic Question: To raise the money you would have needed to manufacture one of the innovations cited by Dr. Landes, create a 1 minute elevator pitch.

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    89.7 Sextillion Percent Inflation

    May 12 • Developing Economies, Economic History, Government, International Trade and Finance, Money and Monetary Policy • 754 Views

    Imagine a country where supermarket employees have to raise their prices several times a day, maybe by placing one price sticker on top of the old one. Describing Brazilian inflation during the early 1990s, one woman said she raced to food markets to see if she could beat the price rise. As told in this podcast, Brazil’s inflation rate was high.

    However, it was nothing like Zimbabwe’s.

    One economist has estimated that, by the time Zimbabwe replaced its own dollar with foreign currency during 2009, its annual inflation rate was close to 89.7 sextillion percent. So, you might think that the Zimbabwe dollar is worthless. Not quite. On eBay, a $100 trillion Zimbabwe dollar bill recently sold for close to $5 and currency collectors, looking for more, could push price up further.

    Actually, Zimbabwe occupies second place for a world hyperinflation record. Hungary (July 1946) is #1 and Yugoslavia (January 1994) is #3.

    The Economic Lesson

    There are two basic ways that textbooks explain inflation:

    1) Let’s assume that changes in supply relate to land, labor and capital. So, if a central bank increases the money supply, it will not affect supply. More money? Constant supply? The result is inflation.

    2) Too many dollars chasing too few goods creates “demand pull” inflation; when the cost of land, labor, and/or capital rises, we have “cost push” inflation; inflation also can result when one item that is central to an economy, such as oil, becomes more expensive.

    An Economic Question: Imagine living through a hyperinflation as a consumer, as a worker, or as a business owner. How would you explain the different challenges?


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    Brand Matters

    May 11 • Businesses, Demand, Supply, and Markets, Developing Economies, Households, International Trade and Finance • 627 Views

    Not so long ago, an apple was just a piece of fruit and a “google’ (actually spelled googol) was 10 raised to the 100th power. Mention apple today and most of us think of iPhones and iMacs. However, Apple is not just a technology company. As with Google and Coca-Cola and McDonald’s, firms can be about more than a product. They are also an image and a message. They are a “brand.”

    Ranking the most valuable brands in the world, a global brands agency, Millward Brown, said that Apple, #1 on the list, had a brand that could be valued at close to $153 billion. That total, though, is not about sales nor profit nor revenue. It represents a cash value of what Apple means to us.

    Separate from what firms produce, a brand gives firms value. Directly, it adds to the firm’s assets. Also, a brand gives a firm more pricing power. As one branding executive explained, “Apple is breaking the rules in terms of its pricing model. It’s doing what luxury brands do, where the higher price the brand is, the more it seems to…reinforce the desire.” Perhaps corresponding to Apple’s #1 rank, Research in Motion’s Blackberry lost 1/5 the value of its brand and Nokia fell even further. You can read the report here to see how brand value was calculated.

    Finally, the top brands list illustrates the growing financial power of developing economies. China Mobile is #9 on the most valuable brands list. In a financial institutions valuable brands list, Chinese, Russian, and Brazilian banks were among the top 20, preceding Bank of America.

    The Economic Lesson

    From most competitive to least competitive, the four basic competitive market structures are: perfect competition, monopolistic competition, oligopoly, monopoly.

    An Economic Question: If you imagine a competitive market structure continuum, with perfect competition on the far left and monopoly on the far right, where would you place Apple? How does Apple’s “brand” affect its position and its price making capability?

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