Marginal Revolution

Thomas Schelling on Iranian nukes

It is important for the Iranians to understand — and have access to — technology like we have in the U.S. that disables bombs if they get into the wrong hands. U.S. weapons, for example, have “permissive action links”— a radio signal code that arms weapons but that will also automatically disarm them it if launched at an unauthorized target.

This will be a big dilemma for the U.S. If the Iranians get weapons, will we be willing to share the technology to ensure the security of their use? That is where the debate is heading.

Read more here, he does not much fear a nuke from al Qaeda either.  Thanks to the ever-essential www.politicaltheory.info for the pointer.

Uncovered interest parity -- why does it fail?

Brad DeLong asks:

This is one of the most puzzling puzzles in macroeconomics: that foreign-exchange speculators are not very good at linking domestic money and bond markets to the foreign exchange market. Not enough money seems to be engaged in betting that a currency with a high nominal interest rates will not decline in value fast enough to make investing in its securities unprofitable. Why not? It's an easy thing to do.

James Hamilton [correction: *Menzie Chinn*] adds more.  What are the main hypotheses for why high nominal interest rate currencies appear to outperform the market?

1. The so-called "peso problem."  Someday the roof will cave in on these currencies.  The Asian financial crisis was only a small disruption compared to what will happen someday.  Our current data set is incomplete and does not represent the real population.

2. Holding crummy currencies is riskier than CAPM and variants indicate.  Most likely, the relevant investors are not and cannot be well-diversified.  So their high pecuniary returns are offset by the risk they bear.  If thirty percent of your wealth is in the South African Rand, the relevant measure of your risk may be the variance of that currency, not the covariance of that currency with some broader international market portfolio.  Economic theory usually measures risk by looking at the latter.

3. Many investors stay away from crummy, high nominal interest rate currencies for fear of what their wives (or bosses, consider an agency problem at a financial firm) would say, should they lose money.  The relevant markets are segmented.  This is linked to #2.

4. This used to be a puzzle, but now the profit opportunity has been identified.  The supposed additional risk of the high nominal interest rate currency is phantom.  People now jump into high nominal interest rate currencies, at least when such investments are appropriate to restore an equilibrium of risks and returns.  We should expect the paradox to disappear in future data sets.

Observation: Do not ever write or say "CAPM model."  Do not ever write or say "ATM machine."

The Caroline Hoxby vouchers debate

Is Caroline Hoxby's defense of school vouchers hopelessly flawed in its data work?  I doubt it, but I have not been following this debate.  Here is the recent and excellent WSJ article on the spat; the link does not require a subscription.  Excerpt:

Five years ago Harvard's Caroline Hoxby, a rising star in economics, wrote a paper that reached an unusual conclusion: Cities with more streams tended to have schools with higher test scores.

Today her work is a widely cited landmark in the fierce national debate over free-market competition in public schools. And it's at the center of a bitter dispute with another economist that is riveting social scientists across the country.

Her adversary is Jesse Rothstein, a young professor at Princeton, who says her study is full of flaws. In a rebuttal to her critic, Dr. Hoxby wrote of his work: "Every claim is wrong." She has also accused him of ideological bias. Dr. Rothstein, in turn, says she resorts to "name-calling" and "ad hominem attacks" on him.

For commentary, try this Mahalanobis post, or this from MaxSpeak.  Here is a critical take on Hoxby.  Here is The Lowest Deep on the debate.  Here is Brad DeLong, my view is closest to his.

Adverse Selection at Wal-Mart

Wages for low-wage workers have been flat in recent years but health care costs have been increasing.  For a company like Wal-Mart, which pays many of its workers modest wages but does offer a reasonable health insurance plan, this is an invitation to adverse selection.  As the value of the wage component of the Wal-Mart benefit package has declined relative to the value of the health insurance component Wal-Mart has attracted more workers who want the job for the health benefits, i.e. sicker workers.  Reed Abelson writing in the NYTimes notes:

The Wal-Mart work force reflects a growing fear of many employers that the people who work for them are increasingly at risk for health problems. Many of Wal-Mart's employees are obese, the company says, and a result is rapidly rising numbers of cases of diabetes or heart disease. The prevalence of these diseases among Wal-Mart employees is increasing much faster than the national average, it says.

"The low-income population generally is not as healthy and does not engage as much in preventive care," said Diane Rowland, executive director of the Kaiser Commission on Medicaid and the Uninsured. A risk that a company like Wal-Mart faces, especially when it competes with smaller retailers that offer no insurance at all, Ms. Rowland said, is attracting too many workers who want the job primarily for the health coverage.

Wal-Mart's health care costs are rising faster than their revenues.  Other companies are trying to shift some of the cost of health care onto their workers but Wal-Mart's workers are already paying more than the national average so Wal-Mart may try to reverse adverse selection by adjusting their work and benefit package.  An internal memo suggests that:

...the company could require all jobs to include some component of physical activity, like making cashiers gather shopping carts. It also recommends redesigning and expanding benefits to appeal to a different type of worker, someone more interested in buying a home, say, than in getting health insurance.

Wal-Mart will probably be pilloried for this sort of thinking but you can hardly blame them when the workers are engaging in almost the identical actions in reverse.  The more fundamental problem is the tying of insurance to work, a problem for which I am afraid there no win-win solution.

Comments are open.

Addendum: Rey Lehmann offers excellent commentary.

"I spent eleven years not finishing my Ph.d."

Vikram Seth, author of the renowned A Suitable Boy, passed much of his life in the economics Ph.d. program at Stanford.  His latest book, Two Lives, recounts:

I discovered soon after I had begun my compulsory courses in macroeconomics and microeconomics that I could not get by without wasting a whole lot of time studying. 

He adds:

The subject was dry, mathematically unrealistic and intellectually unchallenging [TC: it took him eleven years to figure that out???  I know someone who needed less time].

That is from a preface of sorts.  Most of the book concerns Shanti, an Indian relation of Seth's who moves to Berlin in 1931 to study dentistry; Shanti falls in love with a Jewish girl and later marries her.  The narrative is sentimental and the authorial intrusions are often mawkish, yet the main storyline delivers. 

Keep Seth in mind the next time you feel frustrated at your ne'er do well graduate students.

Addendum: If you, like I, are also a sucker for the Stalinist romance, try Tete-a-Tete: Simone de Beauvoir and Jean-Paul Sartre, compulsively readable and well above average for its genre.

Second addendum: Read this interview with Seth, thanks to Pablo Halkyard for the pointer.

The Illusion of Control

Here is a brief excerpt from the piece I am writing on avian flu:

...these policy recommendations go against the U.S. national character. They will not strike an intuitive chord of approval from all quarters. America typically responds to challenges by refusing to admit it can fail. We have a “can-do” mentality. We built the first atomic bomb, we put a man on the moon, we revitalized the American economy in the 1980s and 1990s, and so on. This trait is admirable and it has been responsible for much of our national greatness. Nonetheless it may hinder our progress in fighting avian flu. We tend to seek out options which offer some option, however unlikely, of apparent invulnerability. Our approach should be different. We should be admitting that at this point we cannot stop a terrible event but we can only make it somewhat less bad.

For an example of our national tendency, consider the response to Hurricane Katrina. It was immediately decided that we should rebuild New Orleans as much as possible. I am not questioning whether this is a wise decision; maybe yes, maybe no. The point is we made this decision for reasons of emotion and temperament, rather than wisdom. We refused to admit that a major American city would be wiped out by a mere act of nature. So we engaged in a large macro response, designed to overturn or reverse the initial calamity altogether. This way we do not have to admit defeat, at least not yet. We seek to control problems when we cannot. All human beings have this tendency, but it is perhaps strongest in the United States, due to our long record of exceptional achievement.

Such a tendency could influence avian flu policy in damaging ways. For instance systematic stockpiles, centrally directed, and military-directed quarantines both give the impression that we can control the course of the pandemic. We would be making a highly symbolic and visual stand of “We won’t just let this happen.” Nonetheless these are not the most effective measures. Preparing emergency rooms or instructing people to wash their hands is, in effect, admitting that the disease would spread and kill people. It is a partial admission of “defeat.” Yet we might need some national modesty to address the problem in a relatively effective manner.

Strange Tabarrok Trivia

My brother, Nicholas Tabarrok, is the producer of the apocalyptic, biblically inspired, Left Behind movies. Left Behind - The World at War just opened in 3,200 screens across America.  Haven't seen it at your local multiplex?  That's because the executive producers opened the movie in churches, harking back to a model of movie distribution that used to be common in the 1950s.  The movie has also been released near-simultaneously on DVD.  Here's a review of the DVD.

Left Behind -- The World at War (Sony, $25): The third installment in the popular Christian-themed apocalyptic dramas based on the Left Behind series of novels by Tim LaHaye and Jerry Jenkins. Forgoing a theatrical release, this latest edition was screened over the weekend at about 3,200 churches around the country.

This time, the Antichrist (Gordon Currie), now the head of the world government, taints freshly published Bibles with biological weapons. Lou Gossett Jr. plays the U.S. president. Extra features include a "making of" documentary, a surprisingly funny gag reel and enjoyable commentary with Currie and producers Nicholas Tabarrok and Andrew van Heerden (who also co-wrote the film).

What is autism?

We do not have final answers, but I learned something from this paper.  Thanks to Michael Vassar for the pointer.

The UnderCover Economist Speaks

Tim Harford is the latest to be interviewed over at Radio Economics.  I'm also pleased to announce that Tim will be speaking at George Mason on December 5 (details to follow).

Apologies to Stan for stealing his title.

On-line economics texts

Here is a list, thanks to Craig Newmark for the pointer.