Dan Sutter: The pain of inflation
Inflation is a top concern of voters. Yet economists generally argue that the costs of inflation are exaggerated. Can we reconcile these views? To begin, inflation as measured by the Consumer Price Index (CPI) has fallen significantly since hitting 9.1 percent in June 2022. Inflation was 7 percent for all of 2022 but only 2.9 percent in July. Remember also that inflation is the rate of change in prices. A decline in inflation means that prices are increasing slower. To return prices to 2021 levels would require negative inflation, or deflation. Economists normally think about a “pure” inflation, or equal percentage increases in all prices, including wages and salaries. Five percent inflation then is a five percent increase in the prices of all goods, services, and labor. The increase in wages should offset the higher prices (ignoring tax impacts). An increase in the prices of only some goods is a change in relative prices. A ten percent price increase for food, energy, and transportation might increase the CPI by five percent. This is not, strictly speaking, inflation and since wages do not rise, people will be worse off. I think economists should focus on how inflation impacts families. Understanding decisions as viewed by the subjects of our analysis is a core element of economic research. The CPI measures the cost of purchasing an average market basket of goods which no household probably buys. The effective inflation rate for households depends on the things they buy. Today some face more than 2.9 percent inflation. Raises do not come automatically with price increases except with a COLA or Cost of Living Adjustment. COLAs adjust wages or salaries as the CPI rises. Social Security benefits get COLA adjustments, but only about one in ten private sector employees have COLAs. Consequently, most workers are not guaranteed an offsetting raise. Inflation therefore generates uncertainty, which is stressful. Also, many Americans’ “raises” came from changing jobs, which entails its own costs and stresses. An offsetting raise, if received, comes after prices rise. Monthly budgets were still stressed during 2022 even for those receiving a seven percent raise at year’s end. Wages generally lag prices in the inflation race. Many Americans do not save annually and have little accumulated savings. Higher prices for essential items create hard decisions. Most economists can afford an extra $100 a month for groceries without a raise. We fail to recognize the burden higher prices impose on many families. A change in calculating the CPI may heighten the divergence between measured and felt inflation. Substitution bias contributed to the CPI overstating the inflation rate. The CPI market basket does not change monthly as prices rise and fall, but consumers will respond. To illustrate, suppose Coke and Pepsi initially sell for $4 a bottle. The price of Pepsi rises to $6 while Coke stays at $4, a 25 percent increase in the average soda price. The impact on consumers is less than the 25 percent increase resulting from both prices rising to $5. Many will substitute Coke for Pepsi here. Beginning in 1999 the Bureau of Labor Statistics began adjusting the CPI for substitution bias, which makes sense. But consumers miss out on some satisfaction even if substitution keeps budgets from busting. A final consideration involves the COVID and lockdown supply chain disruptions. Shortages create significant economic pain, in several ways. To see how, during the baby formula shortage, desperate parents drove from store to store. The time and gas spent searching increase the effective price of formula when finally purchased. Items not consumed reduce consumer satisfaction. And shortages produce uncertainty. The prices necessary to keep some items in stock provide a way to value the impact of shortages. Measured inflation if prices had risen like this would have significantly exceeded seven percent. To be precise, this pain is due to the shortages and not inflation. But people likely associate it with recent inflation. A simultaneous equal percentage increase in all prices and wages might not be very painful. But that’s not how inflation works. Recognizing the felt pain illuminates Americans’ concern with inflation. Daniel Sutter is the Charles G. Koch Professor of Economics with the Manuel H. Johnson Center for Political Economy at Troy University and host of Econversations on TrojanVision. The opinions expressed in this column are the author’s and do not necessarily reflect the views of Troy University.
Daniel Sutter: How’s the economy?
Is the economy booming? Economist Alan Blinder recently argued that the economy is strong despite many Americans’ claims to be struggling. Paul Krugman believes that claims of malaise reflect Republican hostility to President Joe Biden, not reality. Do the numbers validate the lived experience of struggling Americans? Statistics, at best, reflect averages across the economy. Life was not bad for my grandmother during the Great Depression, as my grandfather was a captain in the Dearborn Fire Department and never lost his job. Businesses can fail as the economy booms. Surveys reflect many Americans’ struggles. Lending Tree found 64 percent of respondents live paycheck to paycheck. Seventy percent of respondents in another survey reported being worse off now than at the start of Biden’s term. The 60-day delinquency rate on auto loans is at an all-time high, and the 90-day credit card delinquency rate is up 50 percent. But are these families just living beyond their means? Polls also find that many more Republicans than Democrats believe the economy is struggling. Perhaps Republicans believe the economy is bad because Fox News says so. I believe in an objective reality, so let’s look. Some statistics signal strength. Although up slightly, unemployment remains below 4 percent nationally, a historically low rate. Inflation has fallen from 9 percent in 2022 to 3.2 percent. And real (meaning inflation-adjusted) GDP is holding steady. We may tame inflation without a recession. But not all statistics are rosy. Low unemployment reflects, in part, a decline in the percentage of adults looking for work. Inflation remains above the Federal Reserve’s 2 percent target. Interest rates are up sharply; the 30-year fixed mortgage rate is 7.7% versus 3% when President Biden took office. Higher interest rates make homes and cars more expensive. Wages have risen but not enough to keep up with inflation. Real income began falling in early 2021 after nine years of growth and fell over 2 percent in 2022 after growing nearly 3 percent in 2018 and 2019. Some stats suggest that some Americans are struggling even more. Food and energy prices have increased 20 and 35 percent since January 2021, versus 17 percent for the overall Consumer Price Index. Lower-income households spend a higher percentage of income on these items, so their effective inflation rate exceeds the national rate. Analysis by the St. Louis Fed finds that about a quarter of households experienced no increase (or even decrease) in their nominal wages in 2022. These individuals suffered a substantial decline in real income, even before adjusting for effective inflation due to energy and food prices. The past two years have seemingly continued the divergence of the Covid lockdowns. “Zoom Class” professionals never lost their jobs and saved commuting time working from home. Service industry workers either lost their jobs or suffered the risks and inconveniences. The Biden Administration claims credit for recovery from the Covid recession, but we did not experience a typical recession. A strong economy was shut down in March 2020, like a resort community during the offseason. Reopening was all we needed for recovery. $5 trillion in Federal COVID spending and its monetization by the Federal Reserve drove the inflation requiring today’s painful high interest rates. Traditional economic statistics may now less accurately reflect “typical” conditions. Consider real per capita GDP and real median personal income. Real GDP per capita is economists’ preferred measure of prosperity, as the good things in life correlate strongly with GDP. Across time and countries, differences in real GDP per capita yield noticeable differences in living standards. In 1974, median income was 95 percent of per capita GDP. Median income increased 50 percent by 2022, a definite improvement, but GDP per capita simultaneously increased 130 percent. A 14 percent decline in average household size explains some, but not all, of this divergence. At least recently in the U.S., GDP correlates less with average living standards. The American economy is not broken. Averages always conceal considerable variation. Statistics, however, suggest that the economic pain many Americans feel is real and not just perceived. Daniel Sutter is the Charles G. Koch Professor of Economics with the Manuel H. Johnson Center for Political Economy at Troy University and host of Econversations on TrojanVision. The opinions expressed in this column are the author’s and do not necessarily reflect the views of Troy University.
Daniel Sutter: Google on trial
The U.S. Department of Justice (DOJ) antitrust case against Google over its dominance of online search is unfolding. This marks the first tech industry antitrust trial since Microsoft a quarter century ago. Does Google unfairly dominate online search? With a market share of between 86 and 96 percent, Google is certainly dominant. Microsoft’s Bing is a distant second, between 3 and 9 percent. But, Google does not meet the economics definition of monopoly, which requires a single seller. This is significant because some economic models yield vigorous competition with just two sellers in a market. Economics judges market performance against the consumer satisfaction standard, so market share alone never condemns a company. A 90 percent share because consumers judge Google’s product as the best is not a problem. That we now say “Google It” suggests considerable consumer satisfaction. Some criticisms of Google exist and suggest that it may not serve customers that well. For instance, companies pay to be at the top of the search results or divine from Google’s algorithm how to be selected first. Conservatives allege a political bias. Economists instead focus on barriers to competition, although disagreement exists over what exactly constitutes problematic barriers. Superior performance based on experience is a contentious barrier. Google’s search engine became so good because so many people used it, setting a high bar for rivals. I do not consider this a barrier because other companies’ search engines should be capable of similar learning. Barriers created by a dominant firm are problematic. The DOJ’s case consequently focuses heavily on Google’s $10 billion a year deal with Apple to be the default search engine on the Safari browser. The DOJ contends that this reduces competition by thwarting rivals like Bing or Yahoo and possibly preventing Apple from developing its own search engine. The ease of changing the search default is a major weakness of the DOJ’s argument. Bing is the default on many devices, but users switch to Google. As economist Thomas Hazlett argues, there’s good evidence that many folks just like Google. Research demonstrates the importance of default settings even when switching costs are low, boosting the DOJ case. For instance, many people never reallocate funds in their 401k. The persistence of default settings, however, is a general aspect of life. And remember that Bing is often the default. Let’s also consider Apple’s choice to make Google their default. Choosing not to satisfy customers on any element of design, quality, or cost opens the door for competitors. Apple most likely believes users prefer Google. Samsung decided to stay with Google over Bing earlier this year. Google’s dominance has not prevented entry into the market. DuckDuckGo was founded in 2008, long after Google was dominant. DuckDuckGo has attracted significant funding and differentiates itself by prioritizing privacy. The Google litigation is part of the Biden Administration’s aggressive antitrust policy. FTC chair Lina Khan embodies this activism. Unfortunately, aggressive antitrust enforcers have not performed well. My favorite antitrust folly was the FTC blocking a merger between Blockbuster and Hollywood Video in 2005, which it feared would dominate the home video market. The FTC missed that the transition to streaming would bankrupt both companies within six years. In fairness, Blockbuster also missed on streaming, choosing not to buy Netflix in 2000. But bureaucrats’ lack of vision gets coercively imposed on markets. Professor Hazlett offers a great example. The Federal Communications Commission (FCC) blocked cell phone development for four decades! The technology emerged after World War II, but the FCC failed to see the value and make any electromagnetic spectrum available until 1970. Cell phones only emerged after 1982. Politics also plagues antitrust policy. Campaign contributions ensure favorable treatment for politically connected firms. Laissez-faire may not be the best imaginable policy, but it almost certainly outperforms political antitrust. America Online, Netscape, and MySpace were all once giants. Consumers ultimately prevail in free markets. A company maintaining a large market share in the face of competition must serve customers better than government-directed competition. Daniel Sutter is the Charles G. Koch Professor of Economics with the Manuel H. Johnson Center for Political Economy at Troy University and host of Econversations on TrojanVision. The opinions expressed in this column are the author’s and do not necessarily reflect the views of Troy University.
Daniel Sutter: Populism and economic freedom
Brexit and Donald Trump’s election highlighted a global surge in populism. The Economic Freedom of North America Network, of which the Johnson Center is a member, has discussed conservative populists’ growing hostility to markets. Populists should, I hope, embrace free markets and limited government. We first need a definition of populism. Prior to 2016, left-wing groups opposed to the corporate world order were populists. Political scientists focus on hostility toward elites, which I will accept. New research in the 2023 Economic Freedom of the World report finds that populism, identified via a new measure based on this definition, correlates with lower economic freedom internationally. Free market economists have long opposed elites and experts. Thomas Sowell titled a book on elitist intellectuals, The Vision of the Anointed. Austrian economics argued that socialism would not work because experts could not know enough to run an economy well. Even Adam Smith railed against paternalistic elites. Tucker Carlson has been described as the voice of contemporary American populism. I would offer that a CliffsNotes version of his Ship of Fools is that America’s stupid elites never face consequences for their disastrous decisions. Free markets are inherently populist: they involve decentralized decision-making and direction of economic activity by millions of consumers. In markets, people make choices for themselves, and people get the things they purchase. Permission is not needed from anyone, including elites, for businesses to provide people what they want. The rich get more “votes” in markets, creating an impression that markets favor a wealthy elite. But of greater importance, our votes count regardless of whether we are in the majority and businesses can make lots of money serving average folks; Walmart made the Walton family billionaires. The cultural elite do not favor country music, NASCAR, or Walmart, yet these persist and make money. Markets have always faced criticism but today face an assault from multiple directions with the main antagonism no longer economic class. Environmentalists, for example, want to create a sustainable economy within planetary boundaries. Critical race theory sees capitalism as an element of systemic racism to be deconstructed. And socialists still dream. Thomas Sowell warns against intellectuals trying to impose their vision of utopia on us. Elitist intellectuals must reorganize our economy to create levers of control before exercising control. The various attacks on markets come from different elites seeking to restructure the economy to enable control. Partnerships with major corporations are seemingly the preferred means of restructuring today. The World Economic Forum and the United Nations Global Compact extol public-private partnerships. Restructuring may occur through Environmental, Social, and Governance control over finance, a central bank digital currency, or new powers claimed under a climate emergency. Proponents of partnerships claim to care about all stakeholders across the globe. But in a nation of 330 million or a planet of 8 billion people, only a very limited elite will participate in decisions. American consumers never voted for Ralph Nader to represent them, and those speaking on your behalf will not listen much to you. Populists rejecting elite control should favor economic freedom and decentralized markets. What about specific elements of populist hostility to markets? Populists fear that the global economy primarily benefits elites. Economic nationalism seeks to retain national sovereignty, which I strongly support; the American experiment with freedom and self-government could never have occurred on a global scale. Proponents of economic freedom should engage populists for two reasons. First, our criticism may push populists to support worse economic policies. For example, many economic nationalists support government-directed investments. But the limits of expertise imply that a new industrial policy is likely to fail. Second, policy success in a large democratic nation requires broad support and compromise. Economic freedom purists will never sustain good policies alone. A coalition for economic freedom is far more likely to include populists than democratic socialists. Restructuring markets to enable elite control will massively degrade economic freedom. Markets let the voices (dollars, actually) of all Americans be heard. Markets are inherently populist, so I hope populists will be a force for economic freedom. Daniel Sutter is the Charles G. Koch Professor of Economics with the Manuel H. Johnson Center for Political Economy at Troy University and host of Econversations on TrojanVision. The opinions expressed in this column are the author’s and do not necessarily reflect the views of Troy University.
Daniel Sutter: Economic freedom and China’s future
The Fraser Institute recently released the 2023 Economic Freedom of the World, and the U.S. improved one spot to rank 5th globally. Hong Kong has fallen from the top spot for the first time, signifying a looming dilemma for China. Economic freedom refers to the freedom of individuals “to choose for themselves and engage in voluntary transactions as long as they do not harm the person or property of others.” Testing whether markets outperform government control of economic activity requires a good measure of government intervention, constructed for many countries and many years. The Fraser Index rates 165 countries on five areas: size of government, legal system, access to sound money, international commerce, and regulation. The overall score averages the five area scores. The metric scores nations on a 0 (least freedom) to 10 (most freedom) scale. Each year’s ratings are from two years prior, given lags in the release of all the component data. The U.S. score of 8.14 is slightly improved from 8.11 in 2020 but still down from 8.35 in 2019. The freest economics are Singapore (at 8.56), followed by Hong Kong and Switzerland. The bottom feeders are Syria, Zimbabwe, and Venezuela (last at 3.01). In 2020, the average national freedom score dropped from 6.94 to 6.77 due to responses to the COVID pandemic. Government spending, inflation, and restrictions on international commerce drove the decline. The pandemic decline has halted, with the world average freedom holding at 6.77. Economic freedom correlates with almost all of life’s good things. When ranked based on economic freedom, the freest countries outperform the least free on per capita income, life expectancy, infant mortality, poverty rate, social progress, and the UN World Happiness Index. Freedom does not just benefit the elite. The poorest households in the freest countries earn $14,204 annually versus $1,736 in the least free countries. Hong Kong’s EFW score declined from 8.95 in 2019 to 8.55 in 2021. Many observers view China as a rising economic powerhouse. But central economic planning has failed everywhere it has been tried, from the Soviet Union to China, India, North Korea, Cuba, and Puerto Rico. The alleged success of socialism in Scandinavia is misleading; these countries feature market economies with high levels of taxation and government spending. Entrepreneurs – not bureaucrats – direct Scandinavian economies. China moved away from central planning after 1978. China’s economic freedom score is not particularly high, ranking 111 this year (although much improved from its scores in 1980 and 1990). But some regions possess significant economic freedom. Signs of waste due to government control exist in China, exemplified by perhaps as many as 50 “ghost cities” built by the government but never occupied. In calculating GDP, government expenditures get valued at cost. This enormous, wasted investment boosted China’s measured GDP. China’s authoritarian turn risks driving businesspeople away. Entrepreneurs seeking to build business empires will not want their creations seized from them. The Chinese Communist Party (CCP) appears to be offering a deal to the nation: prosperity in exchange for remaining in power. This is a viable option: South Korea, Singapore, and Hong Kong became wealthy without democracy. Economic freedom drives prosperity, not voting. China’s economy is highly integrated with the world economy. China’s exports totaled $3.5 trillion – including $536 billion to the U.S. – in 2022. These exports come from factories specialized in making iPhones, furniture, and other goods for customers across the world. These factories cannot easily be repurposed to produce for China’s domestic market. The CCP might well be able to remain in power, but another Tiananmen Square crackdown would generate enormous pressure on international companies to exit China. Russia’s exports fell 28 percent between January 2022 and January 2023 after the invasion of Ukraine. The economic dislocation from disruption of China’s exports would threaten political stability. Hong Kong’s fall is the proverbial canary in the coal mine. Government direction of economic activity works poorly badly. Authoritarianism may keep the CCP in power but derail China’s economic progress. Daniel Sutter is the Charles G. Koch Professor of Economics with the Manuel H. Johnson Center for Political Economy at Troy University and host of Econversations on TrojanVision. The opinions expressed in this column are the author’s and do not necessarily reflect the views of Troy University.
Daniel Sutter: Tennis superstars
Novak Djokovic’s recent U.S. Open title extended his record for career tennis grand slam victories to 24. He follows Roger Federer and Rafael Nadal, who broke this record with totals of 20 and 22. These achievements illustrate some economics of superstars and competitions. The career dominance of these stars runs counter to expectations for a mature sport. Tennis stars have earned fame and fortune for decades. Top athletes whose skills suit tennis should all be playing, producing competitive balance. By contrast, suppose tennis was only played in England. The top 20 players would come from a small sample of world athletes and may only include one true superstar talent. After a sport goes worldwide, the top 20 players could all be superstar talents. Coaching and training should also close the gap. With no coaching, the players with naturally perfect swings will dominate. Technology can now detail the perfect swing, grip, and footwork, which can be taught to all top players. Training and nutrition help top players maintain peak performance longer, helping stars win additional majors later in their careers. But this increases the number of stars playing at a high level, offsetting the career effect. Also, the big pries attracting top athletes to the sport might lead some stars to retire early to enjoy their money instead of maintaining intense training. The structure of tennis tournaments advantages top players relative to golf. Tennis tournaments involve matches between two players. Superstars need not be better than every other competitor each day; they only need to be better than that day’s opponent. By contrast, the low score over four rounds wins a golf tournament. A top golfer who shoots the course record on Friday might well win the tournament. After a tennis player’s perfect quarterfinal match, their semi-final match begins all even. Tennis tournaments also advantage intimidating stars. A golfer can win a tournament without ever being paired with the top superstar. Djokovic wins a tournament unless some player across the net beats him. The structure of tournaments has been the same for decades, so the elements favoring tennis cannot explain the recent career grand slam records. Both tennis and golf exhibit what economists call superstar markets, where talent is rewarded differently than in most labor markets. Labor market compensation normally depends on the value workers produce for businesses, called the marginal value product. It equals the worker’s contribution to production (the marginal product of labor) multiplied by the price of the good the worker makes. All labor market employment is voluntary, and businesses are not charities. Workers must create $20 per hour of value to be paid this amount. Competition for workers bids wages up to the marginal value product. A worker who is 10 percent more productive than another normally makes 10 percent more. But in sports – and especially tennis and golf – enormous earnings differences exist between the top players and “average” pros. For example, the 2023 top PGA golf money earner made seven times more than the 51st-ranked earner ($21 million vs. $3 million). The top earner is not seven times better than any PGA tour professional. What gives? As economist Sherwin Rosen first showed, sometimes relative productivity matters more than absolute productivity. In sports, victory goes to the better competitor, and many rewards go to the winners. The margin between victory or defeat is often small and the players delivering that extra performance can make a lot more. Superstar effects refer generally to markets where relative performance matters and are observed outside of sports, especially in entertainment, law, and CEOs in business. When people want the best lawyer or best CEO, bidding can skew compensation significantly. Are enormous differences in compensation and fame based on small differences in performance fair? I have merely explained and not justified superstar effects. But the star system emerges from voluntary exchanges in the market and ultimately reflects our preferences. And young athletes train very hard in pursuit of superstardom. Daniel Sutter is the Charles G. Koch Professor of Economics with the Manuel H. Johnson Center for Political Economy at Troy University and host of Econversations on TrojanVision. The opinions expressed in this column are the author’s and do not necessarily reflect the views of Troy University.
Dan Sutter: Of wind and whales
Whales have been dying off the East Coast of the United States near where offshore wind turbines are being or about to be built. The North Atlantic Right Whale faces extinction, with only perhaps 340 left in the wild. Should endangered species take precedence over energy production? NOAA’s National Marine Fisheries Service denies a link between whale deaths and wind turbines. However, a recent investigation by the independent news organization Public identifies correlation between whale deaths and boat traffic and sonar activity associated with construction. Whale deaths have increased sharply since 2017, when turbine construction began. This constitutes correlation, but correlation does not prove causality. Sonar and construction may be pushing whales into high-traffic boat lanes, producing more collisions with boats. NOAA acknowledges trauma from boats in many whale deaths. Marine biology is not economics, so I will not take a definitive position on the causation question. For full disclosure, I have previously received funding from NOAA for my research, so I may have a bias here. I believe that additional research is warranted. I instead wish to consider whether whales should trump energy development. We might think that 1973’s Endangered Species Act (ESA) settled this question and should protect the Right Whales. The ESA seemingly unambiguously prohibits the taking of endangered and threatened species. But this protection is not ironclad. The Federal government must declare critical habitat for a species and decide whether actions disturb habitat. Consequently, species protection depends on bureaucrats. Construction projects sometimes proceed with modifications. The NMFS has set sound limits for sonar, which the Public’s reporting contends are being violated. Damage to the environment or harm to species is almost always a by-product of productive activity (including hunting as food production). We live in a world of scarcity, meaning that we want more goods and services than can be produced. Market prices for scarce resources make it costly to burn a rainforest or kill whales just for fun. Habitat loss is a major threat for many endangered species. People use land for agriculture, logging, or to build beach resorts, depriving species of breeding or hunting grounds. These impacts are unintended and sometimes initially unrecognized. Let’s focus now on offshore wind and Right Whales. I hold human flourishing as my standard of value. Consequently, I believe the ESA is misguided. Humans may impact nature to survive and thrive; if this happens to drive species to extinction, that is acceptable. We can and do choose to impose on ourselves to improve the lives of animals, but these choices should entirely reflect our preferences. There may be little consistency in our choices of plants and animals to protect. The bald eagle somehow became a national symbol, and Americans chose to protect this species. What we label animal rights are ultimately human sensibilities. I would not put whales ahead of energy. But human survival and thriving does not require offshore wind; climate change does not pose an existential threat. If you doubt this, read the IPCC reports summarizing the academic literature. Humanity could adapt to an additional two degrees Celsius warming. Humans at the subsistence level survived much greater climate changes during and after the last glacial period. Given that fossil fuels do not threaten extinction, I agree with Alex Epstein that we should ensure human flourishing in the manner least disruptive to the environment. Wind and solar have enormous environmental footprints. Both require enormous land areas, kill thousands of birds and bats annually, use gigantic quantities of rare earth metals, and result in huge quantities of toxic waste. The key to meeting the energy needs for human flourishing with minimal environmental disruption is energy density, as Mr. Epstein argues. Wind and solar are very low density compared to fossil fuels, with nuclear power even better. The energy transition is largely a plan to enrich opportunistic profiteers driven by fear of a climate apocalypse. We should not kill whales merely to enrich politically connected “clean” energy companies when lower-cost and lower-impact energy sources can support human flourishing. Daniel Sutter is the Charles G. Koch Professor of Economics with the Manuel H. Johnson Center for Political Economy at Troy University and host of Econversations on TrojanVision. The opinions expressed in this column are the author’s and do not necessarily reflect the views of Troy University.
Daniel Sutter: America’s OPEC?
High gas prices over the past three years have contributed to record oil company profits. Yet domestic oil production has not surged in response. The Biden Administration blames corporate greed, while critics blame Joe Biden’s anti-energy agenda. Recent research suggests another possibility: our very own oil cartel. Gas prices stand about 60 percent higher than January 2021, although down from summer 2022. Administration officials have noted weak industry interest in Federal leases, and Exxon and Chevron have recently canceled projects. Domestic production only recently (virtually) reached its pre-COVID November 2019 peak. A cartel might have emerged through horizontal stock ownership by institutional investors through vehicles like mutual funds and index funds. Many investors seek diversified, passively managed stock funds which mirror the S&P 500 or other stock indexes and avoid high fees. The success of such funds has led to institutional investors owning perhaps 80 to 90 percent of major corporations. The “Big Three” asset managers – BlackRock, Vanguard, and State Street – own about a quarter of the stock of many large companies. Consequently, asset managers own large chunks of competing firms with significant implications for economic theories of competition. Economists assume that independently owned firms maximize their own profits. Aggressive competition – cutting prices, offering better service – takes customers, and consequently profits, away from competitors. Free market economists think competition can be very vigorous even with a small number of competitors. Common horizontal ownership changes this dynamic. If the owners of Delta also own American, fare cutting takes revenues from themselves. Horizontal ownership makes collusion to restrain competition more likely. But even without collusion, the incentive to compete is diminished. The Biden Administration’s war on fossil fuels could also be inhibiting domestic oil production. But climate change may be camouflage. BlackRock CEO Larry Fink may claim to be saving the planet while really leading a domestic OPEC. Horizontal ownership raises clear antitrust concerns. To date, institutional investors’ horizontal ownership has flown under the radar. But recent research by Professor Jose Azar and coauthors has documented an anticompetitive impact of horizontal ownership. Making a convincing case that horizontal ownership instead of other factors drives any observed price differences requires careful analysis. One of Professor Azar’s studies examined airlines, where fares on each route, say Atlanta to Chicago, can be analyzed separately. Economists use the Herfindahl-Hirschman Index (HHI) to measure effective competition in a market. Azar and colleagues use a modified HHI (MHHI), which decreases effective competition when a small number of competitors also have common ownership. Differences in fares across routes depended more on the MHHI than the traditional HHI, even when controlling for other factors. In addition, mergers among financial institutions increasing the MHHI but not the HHI increased prices. Finally, routes where fares and the MHHI increased typically experience fewer travelers, helping rule out increases in demand for flights as driving higher fares. Overall, Azar and colleagues find that horizontal ownership results in fares being 3 to 7 percent higher. An examination of banking also found horizontal ownership to increase fees. These relatively recent results are not the final word but raise red flags. Horizontal stock ownership can also explain other market behaviors. As Harvard’s Einer Elhauge observes, CEO bonuses are often based on industry performance and not their firm’s performance. This reward structure only makes sense with horizontal ownership of leading firms in an industry. Could antitrust help address horizontal ownership? As a principle, I am skeptical of antitrust as markets can humble even the largest companies if they fail to serve customers. Professor Elhauge suggests limiting stock funds seeking diversification to investing in only one company in an industry; BlackRock need not own Delta, American, and United. The possible transformation of Americans’ desire to avoid stockbroker fees into a mechanism for collusion illustrates the fears of many that smart business insiders can take advantage of them. While this fear is real, complicated regulations truly empower the greedy. Deregulation and competition surprisingly offer the best hope to align greed with consumers’ interests. Daniel Sutter is the Charles G. Koch Professor of Economics with the Manuel H. Johnson Center for Political Economy at Troy University and host of Econversations on TrojanVision. The opinions expressed in this column are the author’s and do not necessarily reflect the views of Troy University.
Daniel Sutter: Climate Change and Political Responsibility
We continually hear that climate change is making extreme weather – from wildfires in Canada and Maui to Hurricane Hilary – worse. Unfortunately, this allows politicians to evade responsibility for their inaction and mistakes. Researchers have long emphasized that nature’s actions and human exposure together produce disasters. A hurricane striking an uninhabited island is not a societal disaster. Many natural hazards have high-risk areas, and people create exposure when choosing to live or work in these places. This is not bad: the Florida Keys are beautiful, and many industries must be in vulnerable places. The extra costs of extreme weather are worth bearing if the value from living or working there is commensurately greater. Our actions once we locate in vulnerable areas impact vulnerability, particularly the quality of construction. We can build homes and businesses resistant to winds, floods, and even tornadoes. Not every engineering design will be cost-effective, but we can build stronger. Government typically takes actions offering community-wide protection. Levees and management of public forests are examples. The National Weather Service provides weather forecasts and warnings. Many voices attribute all extreme weather to climate change. One Hawaii state senator stated of the Maui fires, “And I just think this is the new normal not just for the state of Hawaii but for the whole planet, for the whole country.” Apocalyptic talk disregards climate change’s expected impact on severe weather. A warmer future should make hurricanes modestly stronger with more precipitation; extreme weather will become somewhat more extreme. A small increase in the strength of extreme weather, however, can sometimes have large societal impacts. Nobel Prize winner William Nordhaus estimates that hurricane damage is proportional to the eighth power of landfall wind speed. The projected 9 percent increase in windspeed would double annual damage. This is significant, not apocalyptic, and in line with how our actions affect hurricane damage. Employing all wind-resistant construction techniques may reduce hurricane damage by half. Strengthened construction might offset global warming’s impact on hurricanes. Let’s consider now the Maui fires. Many voices blame the dry conditions on climate change. But most of Maui was in seasonal, not exceptional, drought. A wet spring produced lots of plant growth – fuel for the fire season. Combustible invasive grasses have overgrown former sugar plantations. Hurricane Dora passing near the Hawaiian Islands contributed to the strong winds at the time. Power lines appear to have sparked some fires. Clearing brush (or trees) near power lines and replacing aging lines can avoid such fires, but combatting climate change has impacted fire prevention. Electric utilities trying to meet Hawaii’s 100 percent renewable power mandate have reportedly reduced maintenance and brush clearing to offset expensive wind and solar. Climate change offers politicians the opportunity to evade responsibility for such actions. Mismanagement of forests in California and Canada has contributed to fires. Neglect of levees left New Orleans vulnerable to Katrina. Poor decisions made the Maui fires more dangerous. Political decisions producing unnecessary vulnerability to extreme weather should not surprise. Politicians want to deliver new things to voters. People already expect existing levees to protect them. The rarity of disasters means the next one may occur after today’s officeholders have retired. And if a disaster happens, call it an act of God. Today, climate change replaces God. Reducing fossil fuel use offers little protection against extreme weather. Projections attribute 7 and 23 percent of global emissions through 2100 to the U.S. Let’s say the U.S. is responsible for 10% of emissions that might produce another 2 degrees Celsius warming by 2100. The U.S. will be responsible for 0.2 degrees of warming, with Hawaii responsible for a tiny fraction of this. Zeroing out Hawaii’s carbon emissions would have no measurable impact on extreme weather. Opportunists use climate change to push restructuring our economy and society. We can protect ourselves from extreme weather; Alex Epstein shows that extreme weather deaths per capita worldwide have fallen 98 percent. We should prudently protect against fires, floods, and hurricanes because they will occur regardless of warming. And we should hold politicians failing in this task accountable at the ballot box. Daniel Sutter is the Charles G. Koch Professor of Economics with the Manuel H. Johnson Center for Political Economy at Troy University and host of Econversations on TrojanVision. The opinions expressed in this column are the author’s and do not necessarily reflect the views of Troy University.
Daniel Sutter: Taylor Swift and the Coase Theorem
The first North American portion of Taylor Swift’s Eras Tour has wrapped up. Ms. Swift structured ticket sales to help her biggest fans, as opposed to her richest fans, attend. Economics’ famous Coase Theorem suggests that this was not possible. Several steps altered the distribution of tickets. First, the prices of tickets were set (relatively) low, an average of about $200. Second, Ticketmaster could not send tickets directly to the secondary market, where prices are set by supply and demand. Finally, fans got codes for a presale, which crashed the Ticketmaster website last November. These steps should have helped Swifties of modest means get seats. Many more fans can pay $100 than $1,000 for a ticket. But who attended? The Coase Theorem addresses this. Nobel Prize winner Ronald Coase argued that scarce resources and valuable property go to those willing to pay the most regardless of initial ownership. Economic efficiency is based on “willing to pay the most,” so the theorem claims that we have efficient use regardless of initial ownership. The Coase Theorem implies that Ms. Swift could not get her biggest fans into the Eras Tour. Why? With normal Ticket Master practices, high secondary market prices would price0 many fans out. But Coase’s argument suggests that rich fans would buy tickets from the big fans getting presale tickets. Ms. Swift’s measures still would benefit her fans. The Theorem says that initial ownership affects who benefits, not who attends. Loyal fans reselling their $100 for $1,000 would profit, as opposed to Ticket Master or Ms. Swift. The Coase Theorem applies broadly. Many baseball fans think that free agency and no salary cap let big market teams buy the best players. But prior to free agency, big market teams could buy players from small market teams; the Yankees’ historic dominance was mostly before free agency. Free agency lets players benefit, not teams. Like all economic results, the Coase Theorem holds only under certain conditions. For one, those willing to pay the most must find ticket holders and make them offers. Transaction costs, the costs of negotiating and carrying out trades, include the cost of finding the ticket holders. We do not live in a zero-transaction cost world, so the Coase Theorem will not hold perfectly. Many parents might recognize a second condition. Parents might pay $100 or $200 face value to take their kids but not secondary market prices. More importantly, even though they would not buy tickets at secondary market prices, they would not sell $100 tickets for $1,000. Owners can keep their property regardless of how much others might offer them. The amount you must be paid to sell your property is called willingness to accept. In many instances, a person’s willingness to accept considerably exceeds their willingness to pay. The Coase Theorem does not hold with a disparity between these values. Competition also limits Ms. Swift’s ability to help her fans. We saw this during the presale when millions tried purchasing tickets. Ticket brokers competed with fans to get tickets. Such efforts are inevitable when something worth $1,000 sells for $100. Competition is hardly new. If Ms. Swift was touring back when tickets were sold at the box office, fans would have lined up to purchase them. Fans likely would have camped out. The hours (or days) spent camping in the heat (or cold) would have offset part of the value of an inexpensive ticket. And some unlucky fan would have been next in line when the concert sold out. Competition is a fundamental element of human society, biologists might say of life. Our effort to get nice things cheap dissipates the benefits. The best we can do is limit the extent of this competition. Determining how many fans of modest means went to the Eras Tour would be an interesting economic case study. The tour, which continues into 2024, is expected to generate $2 billion in ticket revenue. Regardless of exactly how many tickets were resold, Ms. Swift benefited her fans by foregoing even more revenue from higher ticket prices. Daniel Sutter is the Charles G. Koch Professor of Economics with the Manuel H. Johnson Center for Political Economy at Troy University and host of Econversations on TrojanVision. The opinions expressed in this column are the author’s and do not necessarily reflect the views of Troy University.
Daniel Sutter: The COVID stimulus and the COVID recession
Did the fiscal and monetary policy responses to the COVID-19 economic shock — $5 trillion in spending and a $5 trillion increase in the Federal Reserve System’s balance sheet — prevent a worse recession? Economics takes up such challenging questions. There are several related questions I will not consider here. Do the costs of inflation spurred by the COVID-19 stimulus outweigh any gain from a milder recession? How does the labor shortage worsened by generous unemployment benefits affect evaluation? Finally, did the “lockdown” policies even slow the spread of COVID-19? If not, the costs of job losses and business closures were for naught. What would have happened with the lockdowns but without the COVID stimulus measures? This involves constructing a counterfactual, or path of the economy we did not observe. Washington and the Federal Reserve acted aggressively, so we did not observe lockdowns with no stimulus, and we cannot conduct a replay to experiment. Economists construct models to build internally consistent counterfactuals. We want realistic counterfactuals, given the proviso that we cannot verify predictions about a path the world did not travel. Economics is about envisioning paths we have not traveled. Let’s start with the potential for fiscal and monetary policy to counter downturns in the main macroeconomic model. Macroeconomics views recessions as short-run fluctuations around a long-run equilibrium with steady economic growth. In this framework, the economy eventually self-corrects. Fiscal and monetary policy can, at best, shorten or moderate a recession. Supply and demand are the two sides of any economic market. Recessions occur due to fluctuations in aggregate demand or aggregate supply. Some recessions are supply shocks (1970s oil shocks), while others result from reduced aggregate demand. Fiscal policy uses debt-financed government spending to increase aggregate demand. A monetary stimulus can increase aggregate demand through business investment or offset a credit-induced supply disruption. Monetary policy can also assist banks in distress to prevent a collapse of credit. Macro models also offer reasons why fiscal and monetary policy may not work. One reason is lags in fiscal and monetary policy. A stimulus will not immediately boost economic activity, just like aspirin does not instantaneously relieve a headache. This can be offset through forecasting, but economic forecasting is imperfect. Government spending can also crowd out private spending and not boost demand, while businesses might not borrow even if the Fed lowers interest rates. Is stabilization policy effective? Economists do not agree. Some see the depth of the Great Recession despite the American Recovery and Reinvestment Act and the Fed’s monetary response as demonstrating ineffectiveness. Others contend that the package was too small (about $800 billion). Recovery from the COVID recession was quick and vigorous. The recession lasted just two months, the shortest on record. It took seven and a half years to eliminate the 5.5 percentage point increase in unemployment from the Great Recession. The 11.2 percentage point COVID increase in unemployment was erased by July 2022. Does this mean the stimulus worked? CARES Act checks were largely saved and not spent. The Boston Fed argues that spring 2020 PPP payments went to the largest eligible businesses and saved few jobs. A paper by University of California’s Alan Auerbach and coauthors documents that government spending prevented job losses only in cities not under strict stay-at-home orders. Fiscal policy normally increases consumer spending. During COVID, fiscal policy appears to have impacted supply directly. I believe that COVID did not produce a recession as much as a shutdown. The appropriate comparison may be a resort community during the offseason. Economic activity craters, but everyone knows why and expects a recovery with the change of seasons. Relaxing lockdowns brought economic recovery. The brief COVID recession does not yield many lessons about macro stabilization. Much of CARES Act spending was probably not even a fiscal stimulus but rather compensation for the economic victims of lockdown. We did not need trillions in Federal spending to end the COVID recession, just governments to allow commerce again. Daniel Sutter is the Charles G. Koch Professor of Economics with the Manuel H. Johnson Center for Political Economy at Troy University and host of Econversations on TrojanVisi n. The opinions expressed in this column are the author’s and do not necessarily reflect the views of Troy University.
Daniel Sutter: Squatters and property rights
Recent news stories detail incidents of squatting, or illegal occupation of a home. These rights violations plausibly reflect public discourse demonizing landlords, promoting rent control, and even proposing the abolition of rent. I have no statistics on squatting and so will not call this a crisis. The rights violations are problematic regardless of the proportion of properties impacted. The prevalence of news stories suggests that squatting is frequent enough to be on editors’ radar. Numerous factors lead to squatting. Sometimes tenants stay after a lease expires, or they stop paying rent. Some people break into unoccupied houses. The most problematic cases arise when the squatter claims to have a lease. Sometimes, the squatter has been swindled by someone posing as the listing agent. Conflicting legal claims typically result in the police waiting for a court order to evict the squatter. Legal resolution can take six to twelve months. Squatters also sometimes do considerable damage to a home. For homeowners, squatting can be financially ruinous. Sometimes homeowners returning from vacation find trespassers living in their homes. Often squatters take a vacant house. Homeowners who move for a new job may rent if they cannot immediately sell the home. Illegal squatting deprives the owner of the rental income while the mortgage and property taxes must still be paid. Property owners must pay for any damage the squatters cause and incur legal bills to secure eviction. Plus, they experience stress and anguish. Squatting, I think, reflects a deterioration of respect for property rights driven by government policy. The CDC imposed a nationwide eviction moratorium before being stopped by the Supreme Court. Dozens of cities have passed new rent control ordinances. The “Cancel the Rent” movement seeks to abolish rent entirely. When told that housing is a human right, people may feel justified living in someone else’s house. Squatting illustrates how people devise ways to benefit themselves within the legal rules. Suppose you know the following. The police will not evict squatters, given the uncertainty over lawful possession. Lease disputes go to courts with long delays. And squatting generally is a civil matter with little danger of criminal prosecution upon eviction. Here is a profitable strategy: manufacture a bogus lease to live rent-free for months (or years). We will hope in vain for people to not take advantage of others like this. Fortunately, fixing this problem is straightforward. As George Washington University’s Jonathan Turley observes, we quickly determine ownership of automobiles based on registration and identification. The police “would not allow the person to drive off and tell the owner to work it out in court.” As Professor Turley notes, the authorities simply need to act promptly to identify bogus leases. While squatting may not be a criminal offense, trespass, forgery, and fraud are crimes. District attorneys who ignore property crimes encourage squatting. A failure to control squatting will prove highly costly. Many houses for sale or rent are vacant and vulnerable to illegal occupation. Losses from squatting will reduce market value, which in turn will reduce building. Squatting poses a similar threat to the market as rent control. I suspect most communities will control squatting. Many news stories are from states like Florida, Maryland, and Texas, where property taxes largely fund local governments. Widespread squatting would degrade property values and reduce property tax revenue. Before police or district attorneys get laid off, I suspect they will start evicting squatters. Economic ignorance may contribute to this policy negligence. Some progressives believe that rental housing contributes to unaffordability; if not allowed to rent, owners would accept lower sales prices. But the freedom to rent makes people willing to pay more for homes, increasing home building. Government limits on construction largely drive housing unaffordability. The victims of squatting are law-abiding citizens. The protection of property rights is a fundamental task of government. Failure to control squatting reflects a moral failure of government, one imposing extreme financial and emotional tolls on the victims. Daniel Sutter is the Charles G. Koch Professor of Economics with the Manuel H. Johnson Center for Political Economy at Troy University and host of Econversations on TrojanVision. The opinions expressed in this column are the author’s and do not necessarily reflect the views of Troy University.
