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    OPEC and the Prisoners’ Dilemma

    Jun 10 • Behavioral Economics, Demand, Supply, and Markets, Developing Economies, International Trade and Finance, Macroeconomic Measurement, Thinking Economically • 2785 Views

    Faced with rising prices and pressure to increase production what should OPEC (the Organization of Petroleum Exporting Countries) do? They could not agree.

    Why? Maybe it’s the prisoners’ dilemma.

    Picture for a moment 2 (guilty) suspects. Questioned by the police, each one can confess or remain silent. When one confesses and the other does not, the talker gets a less severe sentence. If both are silent, then they are released; if both confess, then they get equal jail time. And therein lies the dilemma. Do you base your decision on what you think the other individual will do?

    As a cartel, OPEC’s 12 members have a perpetual prisoners’ dilemma. If the cartel assigns quotas, should they observe them? Maybe not if everyone else does. But, if all produce more, then price drops. And now, as one oil analyst said, “Everybody in OPEC is cheating…” You can see why cartel arrangements usually disintegrate.

    Mathematician John Nash (1928- ) and 2 other researchers won the 1994 Nobel Prize in economics for “their pioneering analysis of equilibria in the theory of non-cooperative games.” The prisoners’ dilemma is one example of Dr. Nash’s work. 

    The Economic Lesson

    Game theory is about the “science of strategy” for individuals, business firms and nations.  Mathematically and logically determining who benefits, game theory focuses on individual motivation, cooperative and non-cooperative behavior, and group outcomes. The prisoners’ dilemma is one example of the basics of game theory.

    In this econtalk interview, a behavioral economist explains the limits of game theory.

    An Economic Question: How might the prisoners’ dilemma relate to Coca-Cola contemplating a price increase for Diet Coke?

     

     

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    Debt Deja Vu

    Jun 9 • Developing Economies, Financial Markets, Government, Macroeconomic Measurement, Money and Monetary Policy, Thinking Economically • 710 Views

    Again, Greek debt was in the news. This time, though, the focus was other defaults. For as long as nations have existed, they have borrowed money and then been unable to repay it. The first report of Greece defaulting on her debt was during the fourth century B.C.  At the time, 10 Greek municipalities could not repay what they owed to the Delos Temple. During the past 2 centuries, Greece defaulted five times: 1826, 1843, 1860, 1893, 1932.

    Who else has defaulted? We could look at Mexico. In 1982, she could not meet her debt obligations, and then again in 1994. 4 years later, Venezuela, Russia and Ukraine were at the center of a debt crisis. Then, in 2002, it was Argentina.

    Looking at more than 50 nations during several centuries, this paper from Kenneth Rogoff and Carmen Reinhart explains the default story. It also tells us that countries that have never defaulted include the U.S., Canada, New Zealand and Australia; the Scandinavian countries; Taiwan, and Singapore (p. 14). In another study, scholars  say that since 1830, the world has undergone 8 “default waves” in which “bunches of countries” have been unable to repay what they borrowed (p. 4).

    The message? The current European debt crisis is not unique.

    The Economic Lesson

    Sovereign debt is money borrowed by a sovereign government. Governments borrow money by selling “IOUs” to individuals, businesses, banks, and other governments. The IOUs are different types of government bonds.

    When people refer to sovereign default, they mean the borrower is not adhering to the original IOU contract in some way. The borrower might not be paying interest that was agreed upon or the principal or may have moved the maturity dates to a later time.

    An Economic Question: Why might Alexander Hamilton have said that a nation’s debt is a blessing as long as it is not excessive?

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    Iowa and New Hampshire

    Jun 8 • Behavioral Economics, Government, Innovation, Macroeconomic Measurement, Regulation • 639 Views

    Knowing that ethanol subsidies drive up the price of corn and might even harm the economy, presidential candidates tend to support them. Why? Iowa. Which early voting states receive more federal dollars after a primary election? Probably not New Hampshire. (Voters chose Hillary.)

    You can see where this is going. Iowa and New Hampshire are early primary states. And, because “All Politics is Local,” the dialogue is about topics that are near and dear to the early primary states. We hear more about their issues. And, if they choose the right candidates, then they get more money afterwards. According to one academic paper, an early primary state that chose the winner got $35.29 more in “procurement per capita than if it had picked a loser.” In other words, if businesses in that state wanted a defense contract, they would probably get it. Because of its disproportionate impact on the presidential dialogue, the early state bias concerns NY Times columnist David Leonhardt.

    Here, you can see the primary schedule for the 2012 presidential election.

    The Economic Lesson

    Urban areas dominate our economy. The main source of new ideas, our 25 largest metro areas are where 52% of our economic output and 42% of our population come from.

    An Economic Question: Which specific economic issues would dominate if an urban state had an early primary?

     

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    How Many People Are Hungry?

    Jun 7 • Demand, Supply, and Markets, Developing Economies, Economic Debates, Economic Thinkers, Environment, International Trade and Finance, Macroeconomic Measurement • 537 Views

    The UN says that the problem is 1 billion hungry people. Columbia University scholar Jeffrey Sachs explains that the solution is foreign aid that attacks the “poverty trap.” Then, markets can develop and people can become more productive. By contrast, NYU scholar William Easterly says that aid is actually the problem. With free markets and the right incentives, success comes when people figure out their own solutions.

    This Foreign Policy article on world hunger presents the debate and then the work of its authors, 2 scholars from MIT. Introducing people from Indonesia and India, they illustrate the complexities of world hunger. The discuss calories and productivity, the impact of pregnant women taking iodide pills and working men consuming iron supplements. They ask why people might choose tastier food rather than a healthier diet of eggs and bananas.

    Here you can see UN graphs on hunger around the world. You might want to look at this Foreign Policy article and this article for some good discussion.

    The Economic Lesson

    How are world hunger and the British coastline similar? Mathematician Benoit Mandelbrot could tell us. Dr. Mandelbrot was the father of fractal geometry and the idea that the closer you look, the more you see. From a distance, the British coastline will appear straight. However, looking closer and closer increasingly reveals indents and zigzags. Consequently, Dr. Mandelbrot believed that it was actually much longer and even infinite. The significance? Something we might think is simple is really complex.

    An Economic Question: Pondering how to diminish world hunger, consider the following from Duke University behavioral economist Dan Ariely. “…So we either simplify the problem and offer a solution, or embrace the complexity and do nothing.”

     

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  • Beer and pretzels.

    Beer: An Economic Indicator

    Jun 6 • Behavioral Economics, Demand, Supply, and Markets, Developing Economies, Economic History, Households, International Trade and Finance, Macroeconomic Measurement • 1803 Views

    There appears to be a correlation between beer drinking and economic growth…up to a point. According to a paper from the American Association of Wine Economists (yes, really) the connection is an upside down “U.” As individual incomes increase up to $22,000, so too does beer consumption. Then, though, beer drinking drops.

    Specific examples? Between 1985 and 2007, China’s total beer consumption skyrocketed. For Russia, beer consumption starting rising in 1997. The AAWE paper indicates that in many emerging economies, beer consumption is up.

    Broader implications? Perhaps, this is not a beer story at all. Instead, we are considering the impact of higher income, increasing world trade, and economic liberalization on what we consume.

    In addition to the AAWE paper you might want to look at this NY Times blog and this Reuters blog.

    The Economic Lesson

    The AAWE paper refers to the “determinants of demand” for beer. Thinking of demand/supply graphs, the demand curve will shift when a determinant changes. So, for beer, as for all other commodities, the determinants relate to substitutes and complementary products, consumers’ income, utility and the number of consumers.

    An Economic Question: For beer specifically, what might shift its demand curve?

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