Gift Ideas for the Economic Educator (What I’ve Been Reading)

One of the books I promised to review was Alan Greenspan’s memoir, The Age of Turbulence: Adventures in a New World. Well, I finished it. It took a little longer than I thought, but only because I lack all the reading time I had when I was commuting in Chicago. (You can get a lot read in an hour plus on a train.)

If you’re an econ teacher or a student of recent history, and you’ve not read this book, I strongly encourage you to do so. Don’t be afraid of Mr. Greenspan’s reputation for confusing statements. In this book, he is quite clear. However, if you listened to him as often as I did during my career at the Fed, you can hear his voice. This is no ghost-written biopic. This is the man and his thoughts.

The first part of the book is largely biographical – following Mr. Greenspan from his boyhood in New York, through college and into private practice and public service. Once there, we view world events and world leaders through the experiences of one who saw many of them. From the Roosevelt administration in World War II, to the current President Bush, Mr. Greenspan met and advised many leaders and potential leaders. And he provides a candid assessment of each.

But it is the second part of this book that I found most interesting, and that I believe will be of the most value, particularly to economics teachers. It is in this part, that Greenspan gives his views of many of the economic hurdles ahead of us. He talks with the clarity and intellect which was a hallmark of his analysis. I found much in the second part of the book to think about and to share with students. And I suspect you will as well. Where Greenspan excels in is explaining the economic concepts as they apply to the issues. And although you may not like what he has to say, his explanation remains valuable. Likewise, his analysis is timely. I was frequently struck by the recent data that he put in the book. For a book released in September of 2007, I was struck by the number of references to information from the spring of that year. It is apparent that the book went to press quickly, but only after up-to-date and relevant information was included. This book is a must have for the economics teacher and Fed watcher on your shopping list. (Shop now, the retailers seem to need a shot in the arm.)

I invite others who have read the book to share their reviews. And if you’ve not yet read it, please come back when you have. I welcome your thoughts.

Celebrity Marketing - One Student Gets It

There was a great letter to the editor (link no longer operative) in the Sunday, December 16 issue of the Richmond Times-Dispatch. The writer, an 11-year old named Armani, bemoans the role that celebrity plays in marketing, accurately pointing out how consumers, young consumers in particular, are drawn to purchase products because some sports or entertainment figure has affixed their name.

When we teach financial literacy, we try to get our students to look past the marketing glitz and try not to pay for the name. (Actually, when you think about it, you're acting as a walking billboard for some corporate entertainment conglomerate -- they should pay you.) We talk about the underlying value of the product and try to get our students to ask "Is there something that will function as well at a lower price."

Here we get to basic economics and the concept of utility. I've posted on the concept before, but it never hurts to review. Utility comes in three types: form, place and time. For most products, we're asking our students to evaluate the product's form utility. What we have to make sure we understand is that the endorsement itself is a type form utility to these students. It's because the item has the name of some movie/video/sports/music persona attached that, in the student's mind, it has additional value. It is this concept that financial and economic educators have to get students to understand. The additional value gained by a name is usually miniscule and temporary. It will be replaced in short order by another name, another face, another fantasy that really has no real impact on everyday life.

This takes me back to the letter mentioned at the beginning of this post. While there is some irony in the fact that it takes a student named Armani to make the point, Armani understands. I predict, this youngster is already ahead of the pack, and I suspect will pull farther ahead in years to come. Good luck, Armani.

Your comments are welcome.

Financial Markets and the Fed

Mike Fladlien over at Mikeroeconomics posted a comment to my entry yesterday on the new Term Auction Facility (TAF) announced by the Federal Reserve and other central banks. And while his question doesn't pertain to the TAF, it is a good question. I'll take a stab at answering it.

Mike asked why the stock market would react negatively to the Fed's dropping of the target Fed Fund rates. And by my observation, there are two groups of investors who would drive such an action: those who think the Fed didn't do enough, and those who think the Fed did too much.

The first group is composed of investors/traders who thought the Fed would lower rates by more than 25 basis points. They believe that the primary concern at this juncture is a recession or, at the very least, a significant slowing of the economy. A reduction by more than 25 basis points would stimulate the economy and would make stocks more valuable. Consequently they took positions in stocks based on their expectations. This is what is meant when you hear commentators talk about a move being "priced into the market." When the Fed did not deliver on their expectations, the relative value of their holdings changed, and they sold off their stocks.

The second group is composed of investors/traders who thought the Fed should not lower rates at all, or maybe even should consider raising rates. To this group, the economy seems to be moving along relatively well, and their primary concern is inflation. They see that a lowering of rates is tantamount to faster growth of the money supply, which leads to inflation. In their view, when the Fed lowered rates, it added fuel to the fire which only means the Fed will have to reverse course and begin tightening. The tightening will slow down a growing economy and could cause raise the threat of recession higher.

Now you may ask, what about the group that is somewhere in between? My response is to think of the Goldilocks story; only one party thought things were "just right." And that person was definitely in the minority in a bear environment.

I welcome other views and explanations, especially from people more knowledgeable about the market than I am.

Globalization and Your Feet - Revisited

On November 27 and 28, NPR's program All Things Considered ran a very good, two-part program on globalization as it impacted the sock industry in Alabaman and Honduras. I posted on both parts on November 28 and on November 29 respectively.

Today the Aplia Econ blog did a good post on the same subject, offering some classrooms to use in class. Give it a look and share your thoughts.

Fed Announcement and Your Classroom

Yesterday, the Federal Reserve System, in cooperation with a number of other central banks, announced a program that would provide additional liquidity to a financial system under strain because of the U.S. sub-prime issue.

They announced the creation of a Temporary Auction Facility (TAF). This facility is meant to provide a channel for banks to borrow funds from the Fed. At this point, you (or your students) may ask how it differs from the primary lending facility (discount window). I will try to offer some possible answers based on what I understand from reading the statement.

Similarity to discount window: The TAF is open to financial institutions that can access the primary lending facility, i.e. those financial institutions deemed to be in good financial condition.

Similarity to discount window: Loans from the TAF are collateralized. This means that the borrowing institutions must put up high-quality (read low-risk) securities as collateral for the loan. This is the same as at the discount window.

Difference from discount window: The term or length of time for loan from the TAF is different. Discount window loans are very short term (frequently overnight). TAF loans will be for periods closer to one month.

Difference from discount window: The process will be based on auction, as opposed to simple application. At the discount window, if you show up and have proper collateral (and you're a qualified institution), you get the loan. At the TAF, there will be an auction for the limited supply of funds. There will be a minimum bid price (rate of interest), and it will be competitive - higher rate bids will have a higher likelihood of being accepted. There will also, as I read it, be non-competitive bids. Financial institutions submitting this type of bid will pay an average rate based on the accepted competitive bids. This is similar to the way the Fed and the Treasury conduct auctions of Treasury securities whenever the Federal government needs to borrow money. In those circumstances, the Fed acts as the Treasury's agent, helping to collect bids and distribute securities.

One of the more interesting institutional aspects of the statement, as I read it, is that the Fed is leaving the door open for the TAF to become a more permanent aspect of its lending channels. That decision will arise out of this temporary experience as well as public comment.

The long and short of it, I don't think you need to change the "three tools of monetary policy" to "four" quite yet. On the other hand, if your students are participating in the Fed Challenge competition this year, you might want to watch further developments on TAF and its ability to provide liquidity. The issue could make an interesting one for judges to ask in Q&A.

I sincerely hope a number of my former Federal Reserve colleagues, who have access to more information than I do, will comment with any corrections or clarifications. I would also direct you three blogs that frequently do a good job of Fed-watching. The first belongs to a good colleague of mine at Western Illinois University, Dr. William Polley. The second is one that has only been around since September but is still very interesting. It is hosted by a portfolio manager in New York named Marc Shiver. The last is by former Dallas Fed President and current Distinguished Fellow at the National Center for Policy Analysis, Bob McTeer. I suspect all of them will have far better insights to offer than I have.

I look forward to comments.

**Update**
Here's a speech by New York Fed President, Tim Geitner that explains the TAF.

Thoughts on Subprime - Somewhat Disjointed?

Recently, a number of my colleagues have contacted me about the sub-prime issue. I've directed them to my posts of December 6, November 21, and November 27 because they all contained some interesting links that could provide some insights to their discussions and debates. Then, probably because it's been on my mind, I find a number of items that relate to the topic. They appear disjointed and unrelated, but somehow they fit together for me.

The first was a post by Arnold Kling on TCS Daily that appeared yesterday (December 11). Arnold expresses concerns about the current state of the housing market. Specifically, he mentions how the link between income and housing prices got out of whack, with one source talking about people with no money down being okayed to purchase houses with prices equivalent to 10 times income -- rule of thumb is somewhere between three and four, and Arnold actually suggests six, which I personally wouldn't find comfortable.

He further explains that as long as that ratio is allowed to stand, the housing market cannot correct. Another way he explains it is that allowing buyers to remain in a transaction they cannot afford postpones the downward correction needed to bring housing prices closer to equilibrium - the point at which the quantity supplied (see current inventory of unsold homes) meets quantity demanded. He concludes that the political desire to keep people in homes that they cannot realistically afford (see planned freeze of ARMs on sub-prime mortgages) does not solve the crisis.

Jump to the second item. Today's issue of The Wall Street Journal has article titled "Mortgage Pain Hits Prudent Borrowers". The authors note that part of the fallout of the sub-prime mess is that lenders (Fannie Mae and Freddie Mac) are now adding fees to new loans, effectively raising the price of mortgages, even if the borrower has good credit and meeting what one hopes are more stringent requirements. This article caught my eye largely because in a class I'm teaching, the rescue plan on current mortgages came up as an example of an effective or binding price ceiling.

My thinking was that by freezing the rates below market, one would essentially create a shortage of funds for mortgages. This is why many critics feel that the proposed rescue plan would not solve the current "credit crunch." Demand would be higher than would be expected in market equilibrium, as current mortgage holders would have no incentive to get out of a mortgage that may be inappropriate. And the supply of loanable would be lower than would be expected in market equilibrium as lenders would be unwilling to lend unless they could receive proper compensation - maybe in the form of additional fees. Take this further by shifting losses in one sector to a potential profit-generating sector. As the article points out, the prudent borrowers are paying the cost of less prudent borrowing and/or lending.

This takes us to the third item. One thing I do when I read is keep a journal of passages that seem to speak to me, providing insights into personal circumstances, historical events, or economic principles among other things. A few years ago, I read Umberto Eco's Foucalt's Pendulum. I find that any of Eco's books contain ideas that are thought-provoking. But as I thought about sub-prime, something motivated me to check out my journal, and I ran across the following passage:

"Take stock-market crashes. They happen because each individual makes a wrong move, and all the wrong moves put together create panic. Then whoever lacks steady nerves asks himself: Who's behind this plot, who's benefiting? He has to find an enemy, a plotter, or it will be, God forbid, his fault."

Now, while we're not talking about stock-market crashes, I think the quote is relevant because the sub-prime situation is one of our own making. There were wrong moves made by everyone: borrowers, lenders, government. Many of the parties were motivated by good intentions (there's road paved by them, somewhere), and others were motivated by greed, and others were just plain uninformed or wanted to believe there was such a thing as a "free lunch." (This takes us back to Arnold Kling's initial thought that people who were borrowing the equivalent of 10 times income should perhaps have known better.) Regardless, the proposed rescue plan is an attempt to shift blame. The finger-pointing is our attempt to find the "plot" and the "plotter". As Eco implies, the last thing we want is to realize it's our own fault.

I would think that had we as a nation done a better job providing our young people with economic and financial education, some of this could have been avoided. As I often tell my students, when you see a problem, point at what you believe to be the source of the problem, then realize three other fingers point back at you.

I look forward to your comments.

Globalization and the 787 - Revisited

Back in July, I posted on the Boeing 787 and how it represented a great example of "globalization" in business. The Boeing "Dreamliner" can be used as a good example of how many firms, working together should be able to work to produce a single product. Boeing's strategy of outsourcing the subassemblies, and then shipping them to a final assembly point, combines concepts of comparative advantage, with ideas like "just in time" delivery. And all of this goes into producing a very complex piece of technology.

A story on page one in today's edition of The Wall Street Journal (subscription required) provides an update on my original post. It would appear that things are not as dreamy as originally planned. It seems that many of the contractors have not been able to deliver the goods. In some cases, the subassemblies arrived at the plant in a state that many parents have confronted on Christmas morning - "further assembly required" or with instructions written in a foreign language. Other subcontractors sent part of the work to other subcontractors (evidently unknown to Boeing) who were unable to deliver on time. And at least one contractor had unexpected delays when it ran into obstacles building a plant to build a specific component.

Does this mean that globalization, international trade, and outsourcing are failing? I don't think so. The lessons learned from this tie back to something I discuss with my students - the role of economic institutions in trade.

Any trade, domestic or international, is impacted by rules (formal and informal) and organizations that impact decisions. We often lump these rules and organizations under the concept of economic institutions. If you read the article, you'll see one company had to deal with replacing/replanting a 300 year-old olive grove. Another problem involved issues of documentation that had to go through layers of communication. I found this last to be particularly ironic having read The World is Flat by Thomas Friedman. Friedman talks about how communication technology makes globalization possible; but evidently the benefits of this technology can be trumped by bureaucracy (another economic institution?).

I don't think this means that globalization/trade/outsourcing are failing. I do think this is an example of how we don't quite have a handle on it, yet. I suspect the overall strategy for the Dreamliner is a good one. There are just a few nightmares to work through, first.

Your comments are appreciated.

Help Me Understand This...

On my way into work this morning, I was listening to a news broadcast. The item was about the proposed freeze on adjustable rate sub-prime mortgages. It contained two statements supporting the freeze by one of the many, many Presidential candidates. One of the statements seemed plausible. The other seemed considerable less so.

The first statement was that something in the neighborhood of $30 billion in mortgages will adjust each month during 2008. This seems plausible.

The second statement was that the adjustments would result in average mortgage payment increases in the magnitude of 30 - 40%. Now, I recognize I'm not a mathematician. But for the average adjustment to be that severe, that would indicate that sizeable number of those loans are "interest only." I understand that in a standard mortgage (believe me, I understand) that much larger portion of the initial payment is interest (as opposed to tax escrow, PMI, or payment on principal). Regardless, it seems that an upward adjustment that even doubled the interest rate shouldn't result in that significant a bump in the payments unless you were paying off an "interest only" mortgage.

Another aspect may be that the characterization applies to all adjustable rate mortgages, even if they aren't "sub-prime." If that's so, the statement is a misdirection. If I'm correct on either of these points, the candidate's statement would appear to be reckless. If I'm wrong, the candidate's characterization may be correct and in the proper context.

Now, at this time I won't discuss the bad economics of a "rate freeze" and how it will act as a binding price ceiling and all that implies. Nor will I discuss the idea of "moral hazard" that arises every time government jumps to provide a bailout. We'll save that for another time.

**UPDATE** This might or might not be a good time to discuss positive vs. normative economic statements again - see my previous post. I'm not sure about the data in the second statement. Consequently I'm reluctant to categorize it as a positive or normative statement. But if it is not accurate, it's a good example of how normative statements can be made to sound positive by using suspect data.

I await your (or even your students') enlightenment.

It's the Economy....I'm Shocked, Shocked

It really should not come as a surprise, but a front page story in today's issue of The Wall Street Journal states "Economy Moves to Fore as Issue for 2008 Voters" Even before reading the article (it’s quite good) I find myself reduced to quoting Captain Renault in the movie Casablanca.

Actually, given the confluence of sub-prime, oil prices, and twin concerns about economic overheating and slowdown, one would actually be surprised if it wasn't the topic. And given the focus on things economic, teachers all across the nation will be using the economy and the elections to spice up their lessons in economics, political science, American history and current events, among other thing. This gives all of us an opportunity to discuss a very fundamental aspect of economic literacy and thinking.

Economics is parsed a number of ways, but one way is to distinguish between positive and normative economics. Positive economics is based on fact. It describes economic conditions as they are. Normative economics describes things as one thinks they should be. Politicians (of all stripes) generally are huge fans of normative economics, using normative economics to describe their future policies and the wonderful benefits that will derive from those policies.

Politicians generally shy away from positive economics; although they do like to use data to disguise normative statements in a way as to appear positive. By throwing in an occasional statistic, a politician can seem to base their proscription in economic reality. But the reality too often is that while they may start from a positive statement, they seem to rarely provide a full explanation of how and why their policies are expected to work, and the extent to which they will actually change behavior; and by extension, the expected impact on the economy.

There are reasons for this. First and foremost, they frequently don't know. Second, we the electorate frequently don't care about the positive because the normative sounds good. The normative also frequently doesn't address issues of cost - either monetary or opportunity cost. And we know that we like to hear what the benefits will be, but we don't want to hear about costs -- unless it's to be told that someone else will pay the costs.

But this is a good opportunity to use current events to reinforce economic learning. Have your students dissect the sound bites (or the entire presentations if you can) that come out of press conferences, stump appearances, and debates. Have them analyze what the candidates say and sort them in to positive and normative statements. I suspect you and your students will find few, if any positive statements. And what they do find will be dwarfed by the normative statements.

As a follow up, ask your students "why do the candidates do this?" And ask them if they think the statements actually enhance their opinions of the candidates' ability to solve economic problems, or whether the candidates are just acting in their own self-interest.

Finally, you may also want to consider reading Russ Roberts' essay, "Pigs Don't Fly: The Economic Way of Thinking about Politics". I would recommend you read it first, and then you can decide whether you need to distill it, or whether you can give it to your students straight. Either way, it could generate some good discussion.

I look forward to your comments.

The Value of the Dollar: Foreign Exchange and "Strength"

A recent topic in the course I teach was foreign exchange. After discussing some fundamentals, we briefly discussed some implications. I suspect we will discuss them further. Regardless, there have been a number of articles written on the topic by very good economists of late. I draw them to your attention because I know the topic is one that can cause confusion among students.

First, Don Boudreaux of Cafe Hayek had a good piece in the Pittsburgh Gazette last Friday. In it, he discusses the issue of a move to dump dollar, and why he feels it's unlikely. It's a good explanation, especially as it addresses the very fundamental observation that such a move would likely hurt the dumpers as much or more than the U.S. In fact, the only question I have regards his assumption that the dollar was "overvalued" when it was accumulated by other nations. Certainly it was valued more highly than now, but the value is what it is. If one believes in the power of the market, then the market should adequately represent the value as perceived by suppliers and demanders. This is especially true given the amount of time that the dollar was "strong" or "overvalued."

Second, Tyler Cowen at Marginal Revolution had a good piece in The New York Times on the advantages of a weaker dollar. While we often react to terms like "strong" and "weak" in a visceral way, it is important to remember that both terms are relative, and that foreign exchange, like any market, depends on both supply and demand to make the price. Relative preferences are revealed in the price, and we have to examine the motives of buyer and seller at that moment.

Third, Brad DeLong had a good piece in the Taipei Times that talks about where he feels the dollar may be at the moment. He discusses the implications for the U.S. economy depending on whether the dollar continues to fall, or whether it may have already hit (or be very near) the bottom. Either way, it's important to stress to students that the currency market, like the economy itself, is dynamic. And where either is now, is not likely to be where it is in the future.

Finally, Evan Davis who writes and blogs for the BBC has an interesting post in his blog on how we may be seeking to use trade isolationism and concerns about quality to counteract the weakening dollar.

If you're looking for a good, fundamental discussion, these might be good places to start.

I hope you have time to look at these. And please share your thoughts and observations once you do.

Putting Things in Perspective

First, I have to give a HT to Dr. Mankiw, one of his posts today points to a YouTube video that offers a simple quiz about the relative sizes of the U.S. economy and the economies of other nations in the world. The information is essentially the same as something I pointed to in my post of June 20, 2007. It's formatted in a more interesting manner, and has a different objective than what I suggested. I encourage you to give it a look. If you can't view it at work, try it at home. Or vice-versa.

What do you think about it?

Globalization and Your Feet, Part II

Yesterday, I wrote about an excellent piece on globalization and international trade that appeared on Tuesday's "All Things Considered" on NPR. Yesterday evening, the second part was broadcast, telling the same story from the side of a worker in Honduras. While Honduras benefited tremendously by the arrival of the sock industry after tariffs were removed 20 years ago, much of that benefit is threatened if the U.S. restores the tariffs. These tariffs would protect the U.S. sock industry, but as shown in the example of Tuesday's broadcast, that industry has already moved on. I personally doubt whether it would return.

Addressing the Wednesday broadcast, it provided a poignant story, humanizing the economic benefit of trade and the potential costs if that trade is lost. My only significant criticism is in the last paragraph of the story. The reporter makes it seem as if physical capital is totally transferable and mobile. That is not the case. While some of the technology may be moved, much may be abandoned or sold. Chances are if a firm is relocating, they will buy new (read improved) capital. And one doubts the firms would take the buildings with them. They will remain, offering grim reminders of what could have been - or hopefully offering a place for new opportunities to take root.

I look forward to your comments.

Globalization and Your Feet

I suspect you don't think much about your socks except when you need new ones, or more likely when one has disappeared in the laundry black hole. But as it turns out, there's a great economics lesson at the bottom of your legs.

Yesterday, there was a very good story on National Public Radio's "All Things Considered" The story was about the town of Fort Payne, Alabama. The town used to bill itself as the sock capital of the world. But things have changed in Fort Payne because of globalization. It seems the labor intensive part of making a sock (sewing the toe seam) can be done more cheaply elsewhere. Prior to 1984, there was a tariff to protect these jobs. The tariff was removed, but now there's a move afoot (sorry, couldn't help it) to reimpose the tariff.

The story goes on to describe how Fort Payne has changed since the tariff was removed - there are still some sock factories, but most of the factories and the jobs that went with them are gone. But wait, the factories have been replaced with new businesses with better paying jobs.

While I know anecdotes are not data, this is a classic example of how the dropping of trade barriers works. And it also provides a classic example of Schumpeter's idea of "creative destruction" - how dynamic economies destroy old industries, replacing them with new industries. The new industries generally provide better paying jobs, and may require higher skill levels.

So let's look at the possibilities. Using this story, you can illustrate benefits of trade, barriers to trade, creative destruction, economic growth and development, economic institutions (treaties and rules), role of government, and fiscal policy (tariffs are taxes, taxes are part of fiscal policy).

And I still need to provide you with the link to the second part of the story which will air today.

Listen to or read the story and share your thoughts.

Old Adages and Subprime

There's an interesting post by Irwin Kellner over at Marketwatch.com. In his commentary, he applies a number of old adages to the recent subprime mess. It is amazing how many of the "rules of thumb" that we repeat in financial literacy and economic education courses, somehow managed to slip by the people who had their fingers on the money buttons.

Advice that we all know, somehow didn't get applied. And while hindsight is.... well, I'm starting to wax epigrammatic. The fact is, when markets are acting irrationally (and they were), that's when it's hardest to keep the fundamentals in mind. And this incident is all about missed fundamentals.

I would recommend that if you are using the subprime as a topic of discussion in either economics or personal finance class, you look over Kellner's list and use them as discussion starters for either large or small group activity. Please let me know how these work for you and your students.

Price of Christmas Up 3.1% for 2007

Long-time readers of this blog (yes, there are a few) know that one of my favorite holiday links is to PNC's Price of Christmas Index. The folks at PNC calculate the costs of the gifts listed in holiday song, "The 12 Days of Christmas." After comparing those costs to previous years, they come up with an index and publish it every year about this time. And they've been doing it since 1984.

This year they've added a lesson connecting the index to The Stock Market Game, as well as adding some games for younger children. I encourage you to take a look at the page, and even watch the video for an interesting link between the holiday and real life. Who would have thought that the price of gold and the boost in the minimum wage would have such an impact?

I look forward to your comments.

Something to Be Thankful for....

I don't know how many of you have been using the "sub-prime" story in your class. I've always been a believer in using headlines to add interest and draw attention to principles when teaching economics and personal finance. And this story certainly has provided a lot of fodder.

But given the impact it has had on markets over the past couple of months, I think you and your students need to keep one thing in mind as you discuss this. Take a look at this link (link no longer operative). The whole sub-prime sector is a very, very small portion of the world's financial market. And while a large number to consider (.7 trillion), even if the whole market was "marked to zero" or written off, it actually would be less than the stock market can lose in a single day's trading in the major stock exchanges.

Now, I don't mean to minimize the issue. There are significant human costs when people lose their homes. But many of the people in this market continue to make their mortgage payments, and the market is not likely to be written off in total. So what's to be thankful for? This could be much bigger than it is. And while substantial, the damage may be less than we fear when we read, watch or listen to the news.

Thanks and a HT to Felix Salmon at Market Movers and Tyler Cowen at Marginal Revolution.

I look forward to your comments. Have a Happy Thanksgiving.

Some Resources for the Classroom

First, I owe a HT to Greg Mankiw and Mark Perry for these resources. I hope you can put them to good use.

The resource from Dr. Mankiw is a link to a policy simulation to use with your students. It does model a European economy. This may cause students some confusion: things like VAT (value-added taxes) and higher levels of government spending. Additionally, there doesn't seem to be a way to manipulate monetary policy. Finally, the program is a beta version so may have some bugs. But it's a classic exercise.

The resource from Dr. Perry is a link to a YouTube video-clip of the Milton Friedman Choir, singing about the responsibility of corporations. It's interesting and fun, and a great way to introduce a discussion with the students.

Let me know how these work out for you, and if you've run across anything else that you use effectively.

Bringing Things Together

One of a number of hot topics on many economics blogs right now is health-care. Specifically, there has been a very good and informative back-and-forth between Paul Krugman and Greg Mankiw. To bring both of these economists together, along with some good discussion starters, visit the Aplia Econ Blog. It's a good place to start in the discussion.

Please share your thoughts.

Steel, China and Other Delights

Yesterday's (11/12/07) issue of The Wall Street Journal provided a cornucopia of articles that can be used in the classroom. That publication is a favorite of mine for finding things like this, and everyday is pretty profitable)high marginal benefit to cost), but yesterday was great. This post focuses on three of the articles and will provide some ideas for their use.

The first two articles, "Big Steel is Dealt Weak Bargaining Hand", (subscription required) and "West's Mining Deals Put China in a Bind" (subscription required), are about the potential merger of two of the world's largest mining concerns, BHP Billiton and Rio Tinto. Because these two are big players in iron ore mining, the combination could have significant repercussions for steel producers around the globe. But the problem could be especially significant in China.

The impact is less significant for a number of U.S. steel producers as can be found out in the third article, "U.S. Steelmakers Draw Fire" (subscription required). But it has another twist. The reason the combination is not as large a problem in the U.S. is that many domestic steelmakers own their own sources of ore - an example of "vertical integration." But the twist comes from the fact that U.S. steel is heavily subsidized to protect it from foreign competition. The subsidies are considerable. And one gathers from the third article, that even with the combination of BHP Billiton and Rio Tinto, the potential price rise will still not make U.S. steel producers competitive, and willing to give up their subsidies.

These articles can be used in so many ways. You can discuss of market structure (combinations and how some natural resource firms handle production and pricing), interdependence (impact of ore prices on steel and then on consumer prices), international trade (the role of multi-nationals, comparative advantage, or why nations trade), the role of government and fiscal policy (subsidies are part of fiscal policy) and the impact of trade barriers on consumer prices and competition.

I encourage any economics teacher to look at these articles. Try the links, but if they get disabled, look for old copies of The Wall Street Journal in your school or public libraries. To borrow from the theme of the articles, there's a rich vein of resources to be mined here.

I look forward to your comments and any further suggestions you may have.

Classroom Discussion Starter - 10 Minute Lesson

Several quotes in The Wealth and Poverty of Nations struck me as good introductions for classroom discussion, either to start off a lesson or to wrap it up if you found that you have a few unused minutes because your plan worked better than you expected. Let me give them to you and offer some ideas to guide discussion.

"Is inflation a kind of impersonal lie?"
This is great way to start or end your discussions of inflation and/or monetary policy. Consumers, investors and businesses plan for the future - some farther than others, but we'll pass on that for the moment. In their planning they anticipate costs, usually in terms of price. To what extent does inflation complicate planning? Does allowed inflation constitute a willful misleading by policy makers of those trying to plan future activity? How does low or zero inflation help the economy?

"...the rich [countries] see the peril -- at least some do -- and their wealth permits them to spend on clean-up and dump their waste elsewhere. They also abound in good ecological advice to the new industrializers. These in turn are quick to point to the pollution perpetrated by today's rich countries in their growth period. Why should today's latecomers have to be careful? Besides, most developing countries are ready to pay the environmental price: wages and riches now; disease and death down the road ... Meanwhile who can confine pollution and disease? The rich are frightened, even if the poor are not. The rich have more to lose."
If you discuss economics and the environment, this is a good quote. It summerizes much of the current focus on environmental issues as it applies to developing nations. At the same time, it shows that there is a cost for short-term vs. long-term thinking. One of the best lessons of economics is that the costs of our decisions lay in the future. Is it foolhardy to count on/hope for a technology that will allow us to reverse environmental problems? This can also be used in tandem with discussions about the problems arising with the Three Rivers Dam project in China, or land-clearing by burning in places like Brazil.

I look forward to your comments.

What I'm Reading

I recently finished The Wealth and Poverty of Nations: Why Some Are So Rich and Some Are So Poor by David Landes. The book is almost 10 years old, having been originally published in 1998 and had languished on my "to read" pile for a while. Nevertheless, I'm glad I picked it up for a two reasons - the first being I enjoyed it.

Let me start by pointing out some aspects of the book that are controversial. Landes' critics focus primarily on two of his points: a Eurocentric focus, and a cultural bias. As to the Euro-centrism, that perhaps is too broad. I will point out that he frequently cites shortcomings among many European nations. He particularly points to the experiences of Spain and Portugal as early leaders in the Renaissance followed by disappointing participation in the era of the Industrial Revolution. He seems less harsh on Italy, France and the Netherlands. However, one could make a case for an Anglo-centric view in some parts of the book, as he does hold up Great Britain as having achieved a higher level of economic development, at least until the post-WWII era.

The second criticism, of cultural bias, many feel is almost racist. I certainly did not pick that up. And I would actually dismiss this charge, if only because of the nature of the book. Landes is addressing that area of economics many of us would label "institutional." Institutional economics deals with the rules (formal and informal) and organizations that economic, political and social systems put in place to help direct decisions. From laws and cultural traditions, to political, commercial and informal groups; societies erect barriers and doors to help direct our choices about resource use, whether it be money, time, talents, or even emotional attachments. It is these institutions, as much as the Industrial Revolution, that Landes points out as playing key roles in economic development across the world. Indeed, if one were to look at one of the key historians of the twentieth century, Fernand Braudel, much of what he brought to the historical profession was a greater understanding of the importance of institutions.

Now, this is not meant to discount the way 18th and 19th-century colonial powers used, abused and misused resources (natural, human, and capital) across the world. However, that indictment should not be used to provide a blanket excuse for the state of subject economies, and their respective rates of progress since achieving independence.

Indeed, the institutional approach was one of the aspects of the book I did enjoy (I also enjoy Braudel). I believe that when discussing comparative economics, or economic development - or even when attempting to make policy, institutional factors are frequently overlooked. There is a tendency to prescribe as if all economies or societies arrived at decisions in the same way. While the processes may be similar, the constraints on the process imposed by institutions (especially informal ones) create subtle nuances that take to time to work through or even change.

I found that Landes does an excellent job placing the economics in a historical context. His talents as a historian are exemplary. He tells a story that is understandable, provides explanation as well as anecdote. And his argument is potent, even if it does ruffle a few feathers. I will not and can not say that it provides the sole explanation for differences in economic development. But I think it does provide a good base for discussing how nations develop; including resource endowments (geographical influences) as well as institutional considerations. For ultimately, the story Landes tells is one of the importance of human capital. The systems and institutions that encouraged (or at the very least did not discourage) new knowledge and its application to practical use, were those that surpassed others. By creating an environment where new ideas could not only develop, but be borrowed and find practical use; certain countries encouraged risk, risk brought change, and change brought growth. To borrow from Landes, "...if the gains from trade in commodities are substantial, they are small compared to trade in ideas."

Now for the second reason I'm glad I picked up the book, and I hope it is an opportunity you will take advantage of. Part of my responsibilities call for me to teach a course in "Globalization" as an economics elective. I am not fond of the texts that have been used in the past, and I'm looking for another text or texts. Given the size of Landes' book, it would probably be the sole text; in which case it would be augmented by other articles.

If you've read the book, I would be interested in your thoughts and recommendation.

Oil Prices, Economic Growth and the Global Economy

I've frequently posted on how oil prices can be used in the economics classroom - frequently suggesting that they are good for demonstrating the effect of prices on supply and demand - usually as primary effects.

On the front page of today's (11/1/07) Wall Street Journal (subscription required), is a different opportunity. It still uses oil, but now it provides links to issues related to economic growth and development, foreign exchange and secondary effects. It's worth your time.

The article addresses the connection between the rising oil prices of the past year and growing demand in Asia. It does a very good job of explaining how industrializing countries in Asia have been able to push prices higher. But what it does that usually is lost in the classroom discussion is address the price subsidies many Asian nations have provided on consumer purchases of oil - a classic example of a binding price ceiling as illustrated here.

Now, if graphs freak you out, you should try to ignore all the shaded areas and just focus on a couple things. First, look at the intersection of the supply curve (upward sloping) and demand curve (downward sloping) that is labeled "free market equilibrium". That shows you the price at which the quantity of a good supplied and the quantity of a good demanded are equal. In this case, we are talking about the market price of gasoline.

Second, look at the horizontal line below the equilibrium price. That represents a binding price ceiling, or in the examples used in the article, the subsidized price to consumers that has been set by various governments. Please notice difference between the point this line crosses the supply curve, and the point where it crosses the demand curve. The difference is labeled as "excess demand." This tells us that at the lower, artificially set price, people (or businesses) will use (demand) more fuel, than producers are willint to provide (supply). At this price, some firms would go out of business or customers would find themselves unable to get fuel. But government can choose to make up the shortfall (subsidy). But this means government must find the revenues to cover the expense of doing so.

As we learn in the article, various Asian governments have been providing this. But the cost of subsidizing retail fuel is getting higher, largely because demand in many of those countries has not been provided the proper signals that come with market prices. Consequently, people who use gasoline have continued to demand more, because they are not directly paying the price. Remember, prices serve as signals: what to produce, how much to produce, and for whom. In this last respect, it is also a rationing mechanism. If the price is incorrect, the product (gasoline) is not allocated properly or efficiently. Likewise, the producers are not receiving the market price, and they are receiving signals to produce an insufficient amount to meet demand. They have no incentive to produce more or to bring more productive resources on-line.

The article also points out how many Asian nations have used this subsidy to energy to help drive rapid growth. This is logical. As industries and countries move up the industrialization ladder, they use more energy to produce goods, generally higher value goods. But if the price does not reflect true resource cost, the energy may be used inefficiently, or even in a way that is harmful to the environment.

But, what was most interesting to me about the article was the authors' example on how the decision to reduce (or maybe even end in some cases?) subsidies will impact on other aspects of the economy. The use of fuel to transport food, could potentially impact a nation with a significant income distribution problem that is also facing rising food costs. Furthermore, since oil prices are quoted in dollars, the recent decision by the Fed could further complicate things. Generally, as our interest rates are lowered, the value of the dollar in foreign exchange markets also slips. This means that it takes more dollars to buy the currency of other nations, and foreign currencies will purchase more dollars. As the value of the dollar falls, the price of oil is also likely to rise.

Nations that need dollars to purchase oil have a couple of alternatives. First, they could increase exports of products to the U.S. to sell for dollars, increasing the amount of foreign goods we import. Or they could offer to buy dollars, using their currency or other reserve currencies (euros, yen) in payment. Some questions for your students on these last points are these:

1) What would an increase in imports do to economic growth? (You may have to revisit the GDP equation to help them see the effect.)
2) What would increasing demand on the dollar do to the value of the dollar in foreign exchange markets? (And consequently would that help/hinder inflation pressures and, again, the balance of trade?)
3) As fuel prices rise within the Asian economies, what does that do to the "real income" of citizens? Does that have an impact on their ability to buy domestic goods in their own economy? Goods imported from the U.S.?
4) If fuel prices rise, is there an potential impact on the environment as nations have incentives to use fuel more efficiently?
5) Is it possible that the subsidized price of fuel had an impact on the price of goods/services produced by these nations for export? What trade advantage would that give, if any and what would that mean for their trading position?

I'm sure there are a lot of other aspects that I am overlooking, but these are the questions that popped into my head as I read the article. I welcome your discussion, and any other teaching ideas you might have using this article.

Wages, Data and Perception

Let me start out by saying that when Tyler Cowen, Arnold Kling (the first article listed), and Greg Mankiw all mention an article, that should be a clue that it deserves attention. So, here's a HT to all three.

The article, "Has Middle America Stagnated?" by Minneapolis Fed economist Terry J. Fitzgerald, is the first in a series examining the economic progress of middle America since 1975. In this first article, Fitzgerald looks at the dichotomy in various microeconomic measures of well-being, two of which show stagnant wages over the period. In explaining the disparate measures, he talks about measurement. He not only explains difference in what is measured, but points out that the data are adjusted for inflation using different measures. By applying a different, (and in my opinion, a broader and more accurate) measure he gets very different results. He also addresses the difference when using mean and median measures.

Fitzgerald also includes a brief section regarding benefits and their impact as a component of wage. This is part of the value received for labor that, unless it is illustrated, many people forget - especially students. This article is useful for economics (and other) teachers for a number of reasons. It not only provides a way of reconciling different views on the economy. It also helps teachers and students understand how economic performance is measured, along with reminding them about the use of statistics.

This will be an interesting series. I hope you find it interesting, as well. Your comments are welcome and appreciated.

Proper and Improper Uses of Opportunity Cost

Don Boudreaux has an excellent post at Cafe Hayek. And the comments are even worth reading. In it, he discusses a comment by California Senator Barbara Boxer in which she blames the war in Iraq for hindering the ability to fight the wildfires in southern California. Regardless of how one feels about the war, her comment represents a very likely misapplication of the concept of opportunity cost.

Like Boudreaux and some of his commenters, I'm glad the esteemed Senatar understands that resources used for one decision are not available for another. But the definition of opportunity cost is your next best alternative when making a choice. That means when you choose one thing, your next choice. That is the opportunity cost. Opportunity cost is not all the other things you could have done - just your next best choice. And that's where the likely error lies. Unless the actual decision in committee at the Federal level actually came down to "if we put x dollars in Iraq, that means we will have that much less for fighting fires" then the opportunity cost of Iraq was not fighting fires - not any more than putting money into education, health programs, border fences, or bridges to somewhere.

The budgetary process is complex. It can be complex on the household level as well as at the government level. But I sincerely doubt that the final choice on funding was whittled down to Iraq or firefighting. To use the choice to score points is disingenuous, at best. And to borrow from one of Boudreaux's commenters, one can only hope that Senator Boxer (and ALL legislators) would put that much concern into all the programs funded at the Federal level.

Your comments are welcome.

More Resources: More Food for Thought

Here are a few resources you should be aware of, if you don't already have them bookmarked.

First Brad DeLong, a professor at UC-Berkeley, has an excellent page with many audio and audio/video podcasts on a variety of topics in economics and economic history.

Second, a site that features a classic bit of video from Milton Friedman's Free to Choose series. Friedman does an excellent job explaining interdependence, specialization, and the benefits of trade all with the help of a simple pencil. (HT to Don Boudreaux at Cafe Hayek.)

And finally, for those of you interested in global/international economics, Simon Johnson, the Research Director at the International Monetary Fund, has a blog (link no longer available). I 've looked at it a number of times and it is very interesting - worth a look.

I hope you find these of value.

Economics and Pop Culture: The Music Man, #6

This post deals with the concept of economic institutions. When people think about this concept, there is a tendency for many to think of formal organizations or firms housed in buildings of various sizes. But economic institutions also include the rules (formal and informal) established by society that help shape and form our choices and decisions.

The concept of economic institutions is brought out rather late in the play. We see it when one Charlie Cowell (he of "ya got to know the territory" fame in the first scene) shows up in River City. He is quickly trying to find someone of authority so he can blow up Professor Harold Hill's plans. He talks about doing this for the sake of salesmen everywhere, and how Hill ruins markets (and other things) for other members of his profession. Now, given the timeframe of this movie, one doubts whether there was Better Business Bureau or even a formal "salesman code of ethics;" but there were informal "rules" about right and wrong and how to treat people in a business transaction.

Now you may also bring up that Charlie is only enforcing these rules to his own advantage. Yet, that is how many of the institutions (especially formal ones) are enforced. Indeed, it is often the reason for their existence. Individuals choose to protect a form of behavior that is beneficial to them, and hopefully to society (or the economy) at large.

Well, the Collegiate School musical opens tonight. Consequently, this will be my last post on economic concepts in THE MUSIC MAN. I hope you've enjoyed these. They've been fun for me, as well. If you have additional concepts that you can point to, please share them. I look forward to your comments.

Economics and Pop Culture: The Music Man, #5

Today's entry focuses on one of the lesser known songs in the play: The Wells Fargo Wagon. This song addresses how companies add value to a good or service, thereby creating utility. It also addresses the idea of consumer surplus.

Wells Fargo was, as I'm sure many of you know and others can ascertain, a transportation company. In many parts of the West, Wells Fargo represented the main transportation link between small towns and railroad stations in larger towns. If you purchased something from a catalog, or if someone in another town sent you something, Wells Fargo often represented the last segment in transit from giver or seller. In addition to freight, Wells Fargo also shipped people, at least originally. Just think of the overland stagecoaches that play a prominent role in most Western movies and vintage television shows.

Now here's the economics lesson. Producers of goods and services (and Wells Fargo produced a service in this case,) have to add value to the product in order to justify charging a fee. If the value does not equal what the consumer is willing to pay, the consumer won't purchase. And when we speak of value, we go back to the concept of utility and its three types: form, place, and time. A firm like Wells Fargo, by delivering the products to the small towns, added place utility. That means it made a good available in a place that it was of value to the consumer.

Now, anything in a catalog really was of no use if it first couldn't be delivered to the customer. The item had its own utility or value. Maybe it was of a style that appealed to the customer (form utility), maybe it was a labor-saving tool that would make a job easier, safer, or quicker (form and time utility). Regardless, it had to be present to have place utility.

One could hitch up a wagon and go and pick the product up, but that meant using productive time of one's own. That was usually too high an opportunity cost to someone in a small town. If one could have the product delivered, it represented a value to the customer, a value they were willing to pay for. The fact that it had additional value, and that consumers still were willing to pay an additional fee to receive the product (essentially raising the price,) is a measure of the consumer's value or the idea of consumer surplus.

The fall play starts tomorrow. I'll probably be doing one more post. Please share your thoughts with me and the other readers of this blog.

Economics and Pop Culture: The Music Man, #4

Here's an example that doesn't hang on one of the play's musical numbers. It does follow hard on the heels of the song in yesterday's post, however. In the aftermath of shifting the demand curve to the right, a couple events (and concepts) come to our attention.

First, the mayor decides that Professor Hill is a smooth-talking salesperson, determines that he needs to see Hill's credentials. Chalk this up to the economic idea of the role of government in the economy. While we usually think about fiscal and monetary policy first, one of the roles of government in many economic systems is to protect consumers. This is frequently done by providing information to the marketplace in order to help make the markets more efficient. By deciding to ask for Hill's credentials, the mayor is seeking information to help determine whether the professor is what he seems to be, or whether he is a fraud. (And let's not forget that Hill has been disparaging the pool table - owned by Mayor Shinn.)

The second concept is the role of the entrepreneur. This comes not once, but twice later in the same scene. First, Hill gets young Tommy off the hook by focusing the young man's attention on the problem of a music holder for marching piccolo players. Hill recognizes Tommy's mechanical bent from earlier in the scene and redirects it to a more "useful" goal. Tommy begins to think about the problem and the resources necessary to create the product that will solve the problem. Second, when confronted with members of the town council, sent to retrieve his credentials, Hill examines the resources and promptly establishes a barber-shop quartet. Now, in both cases, you can argue that if Hill is an entrepreneur, he's not seeing any profit from his enterprise. I would counter that in the case of Tommy, his profit is the development of a partner and source of information on the inside. And that information can help with selling the idea of the band, and the accompanying profits. In the case of the council, Hill manages to get more time in order to bring his main enterprise to light. While the profits are not monetary in either case, not all profits are monetary.

I look forward to your comments.

Economics and Pop Culture: The Music Man, #3

This one is a little less obvious, but I think you will see where I'm going. Professor Harold Hill's "Seventy-six Trombones" is his attempt to shift the demand curve.

In basic economics, there a number of important, basic ideas. The law of supply states that there is a direct relationship between the price of a good or service, and the quantity or amount of the good or service that will be offered. Essentially, the higher the price, the more producers will bring to the market. The lower the price, the less producers will bring to the market.

A important corollary is the law of demand. This states that there is an inverse (declining) relationship between the price of a good or service, and the quantity of that product that is demanded. Again, the essential point is that as price rises consumers demand less, and as price falls, consumers will demand more.

We also learn that the market price is the point where a supply curve intersects a demand curve. This price represents the point where the quantity demanded balances the quantity supplied. However, we also learn that both supply and demand can change. This means the curve must move to the right on the graph.

In the Music Man, the market is in River City, the supply is supposedly brought by Professor Hill. The demand is the town's desire to have a Boy's Band. (Please note this has a somewhat different meaning from "Boy Band" in current usage.)

From what has happened up to this point in the musical, one can presume that the demand for a band in River City, and for the equipment and frills that accompany the band, has been fairly low. But Professor Hill (the supplier), needs to change that in order to establish a market with a price to his liking. He goes about changing the demand (shifting the demand curve to the right) by painting a truly awe-inspiring picture of a parade, led by a band that would do any Division Icollege football program proud. In doing so, the resultant market price is higher than the original market price - which we get the impression may have been close to zero.

One could even make the case that he was not only creating greater demand; he was trying to change the elasticity of demand. Price elasticity refers to the amount of change in the quantity that is the result of a change in price. Generally, an item that sees a large fall in the quantity supplied or demanded with a small change in price is deemed to be elastic, and would be represented by a curve with a fairly shallow slope. (One might infer-although we have no real evidence-that demand for a band in River City has been relatively elastic until the moment of this song.) An item that sees no change or a relatively small change in the quantity supplied or demanded even when there is a large change in price is said to be inelastic. Items that have inelastic demand, have demand curves with steeper slopes. Items with inelastic demand are also generally things that we deem as necessities. (Gasoline in the United States is frequently used as an example of an item with inelastic demand.)

Hill not only manages to create demand where there was little or no demand before; he sets about convincing the good people of River City that a band is not only a good thing, but something they absolutely must have. He not only shifts the demand curve to the right, he manages to make it steeper.

Please share your thoughts.

Economics and Pop Culture: The Music Man, #2

"Oh we've got trouble, right here in River City." So intone the townspeople, led by Professor Hill, as he enumerates the problems that arise out of the presence of a pool table. I think this song can be a great example of externalities. Externalities are costs and/or benefits that accrue to parties outside of a transaction.

In this specific case, the owner of the local billiard parlor (who also happens to be the Mayor) purchased a pool table. The original parties are the billiard parlor and the firm that supplied the pool table. We presume that the parlor will charge a fee to individuals to play on the new table. Parties to those transactions, while varied on the one side, are pretty easy to define.

But we are interested in the externalities, particularly the negative externalities, listed by Professor Hill as he sets up his plan for the town. In this song, Hill lists a multitude of negatives: sloth, the progression from medicinal wine to "beer from a bottle," horse-race gamblin', and fritterin'. There's even a sound economic argument to this last one, as the boys will be ignoring their chores, thus reducing the productivity of the family enterprise. From empty cisterns to "dancing at the arm'ry," Hill paints a picture of depravity and degradation, all effects brought down on people who were not party to the initial transaction, and many of whom will not be party to the subsequent transactions.

More tomorrow. Please share your thoughts.

Economics and Pop Culture: The Music Man, #1

For those who aren't sure, my new "home" is at the Powell Center for Economic Literacy, which resides at the Collegiate School in Richmond, Virginia. Collegiate is an independent, K-12 school. At the Upper School (high school) level, they are like many other high schools in the country. Academics, sports, extra-curriculars, etc. One of the extra aspects is the presence of the Powell Center. We work to help identify, integrate and support economic education in a wide variety of school activities, with the idea that we will take what works to a broader audience.

Now that the introduction is out of the way, Collegiate's fall musical this year is "The Music Man" by Meredith Willson, and will be performed next week. I was thinking that there should be a multitude of economic concepts, ideas and topics to pull out of this quintessential piece of American theater. I'm going to be blogging on them between now and next week. I hope you'll enjoy this piece of free association between the arts and economics (I am, after all a graduate of the College of Arts and Letters at Michigan State University). Feel free to contribute your thoughts after each installment. Let's see where this goes.

Things start early. In the opening scene, we have a number of traveling salesmen riding on a train. They are discussing (musically, of course) the state of their profession as they head into Iowa. They talk at length about how their job has gotten harder. Increased consumer mobility through the Model-T, packaged food (U-Needa Biscuits), are contributing to the demise of the small town general store and, in turn, the life blood of these drummers. The first economic idea that rises to the surface is that of economic growth. Economist Joseph Schumpeter coined the phrase "creative destruction" to describe how growth changed economies. Old ways of production (and distribution) are destroyed as new methods are created. The new adds improvements, but the old frequently disappear or are discarded. (Anyone still have 8-track or, older yet, real-to-real tapes AND a functioning player?)

Underlying this change is the concept of utility or "usefulness" if you prefer. When we purchase a good or service, we are purchasing its utility. There are three kinds of utility - form, place, and time. Form utility means the product is in a form that is useful to the consumer. Place utility means the product is available when the consumer desires. And time utility indicates it is available when the consumer needs it. Often the same product can have different amounts of the same utility. Think about it: we frequently pay more for a gallon of milk or some other foodstuff at a convenience store than we would pay at a larger grocery store or discount establishment? Why? It's the same product (form utility). But we pay more because the convenience store is ... well... more convenient (time and/or place utility). In this opening scene, the Model-T has a form utility that allows the consumer to take advantage of place utility that previously had too high a cost. The U-Needa Biscuits, in the "air-tight sanitary package made the cracker barrel obsolete" as one of the salesmen tells us. This is primarily form utility, but one could argue that it made it possible to take home a supply that would not go stale - adding place and time utility to the consumer scrounging for a midnight snack.

Finally, salesman Charlie Cowell reminds us that, to be successful "ya gotta know the territory," although Professor Harold Hill will do his best to disprove it. This speaks to the idea in economics that markets work best when there is knowledge available to producer (salesman) and consumer (small store or individual). The character reminds us that an abiding knowledge of the consumer's needs, wants, resources, etc., can help the seller to provide the appropriate products at a fair price. But as Cowell points out, there are those who thrive by taking advantage of "imperfect knowledge." And in doing so, they cause markets to malfunction, at least in the short-run. This is attested to by the fact that salesman following in the wake of Professor Henry Hill are "tarred and feathered and rode out to the city limits on a rail."

Those are my views on the opening. Please share your thoughts.

Brevity Is the Sole of...Economic Thinking?

You might want to take a look at today's Brevity comic strip in your local newspaper. If you don't get this strip, here's a link (link no longer operational) to the appropriate installment.

Upon seeing this cartoon, I could see some possibilities for discussion in economics or even personal finance. Most obviously, this lends itself to a discussion of value. What is the cartoon saying about what society values? Is this truly representative of how society chooses?

Digging deeper, we can address whether we are moved more by short-term gratification or long-term. One can easily state that feeding the homeless has more long-term positive benefit. Does a choice like this employ analysis of marginal cost vs. marginal benefit? What about the idea of psychic income? Would this involve making a choice based on emotion over logic?

And would a choice open insights into how we choose to manage our scarce resources (budgeting)? I think this has some potential. What are your thoughts?

Atlas Shrugged (and So Did Some Readers, Apparently)

In yesterday's The Wall Street Journal, David Kelly wrote an interesting piece commemorating the 50th anniversary of Ayn Rand's novel, Atlas Shrugged. I saw Kelly's piece as a strong endorsement of Rand's view of the businessman/entrepreneur as an economic hero. Other blogs have commented on Kelly's thoughts. Some saw the characters in Atlas Shrugged as two-dimensional and the overall storyline as contrived. I will admit I preferred Rand's other major novel, The Fountainhead to Atlas Shrugged. But there were some interesting quotes that presented a philosophical viewpoint that can provide for interesting discussion when discussing economic systems or economic institutions in the classroom. Allow me to suggest a few.


"A truly selfish man cannot be affected by the approval of others. He doesn't need it." (Great to bring up when discussing Adam Smith - especially if you incorporate the "impartial observer" from The Theory of Moral Sentiments.)

"Self-sacrifice, we drool, is the ultimate virtue. Let's stop and think for a moment. Is sacrifice a virtue? Can a man sacrifice his integrity? His honor? His freedom? His ideal? His convictions? The honesty of his feeling? The independence of his thought? But these are a man's supreme possessions. Anything he gives up for them is not a sacrifice but an easy bargain. They, however, are above sacrificing to any cause or consideration whatsoever. Should we not, then, stop preaching dangerous and vicious nonsense? Self-sacrifice? But it is precisely the self that cannot and must not be sacrificed. It is the unsacrificed self that we must respect in man above all." (I think this asks, "At what point does self-sacrifice cross the line to selling out?")

"Men have been taught that the highest virtue is not to achieve, but to give. Yet one cannot give that which has not been created. Creation comes before distribution -- or there will be nothing to distribute. The need of the creator comes before the need of any possible beneficiary. Yet we are taught to admire the second-hander who dispenses gifts he has not produced above the man who made the gifts possible. We praise an act of charity. We shrug at an act of achievement." (A little supply-side oriented, but a good starter.)

"Men exchange their work by free, mutual consent to mutual advantage when their personal interests agree and they both desire the exchange. If they do not desire it, they are not forced to deal with each other. They seek further. This is the only possible form of relationship between equals. Anything else is a relation of slave to master, or victim to executioner." (The fundamentals of voluntary trade are here.)


If you've read the book and have passages that you think would add interest to a class, share them. Or share your comments on these.

Medicare Fraud: A Wealth of Concepts and Issues

There was an interesting story on Medicare fraud on NPR's Morning Edition this morning. It focused on several issues deriving from the particularly high rate of fraud in south Florida.

Two aspects really caught my attention. The first was that a significant number of former drug traffickers have given up that trade in exchange for setting up phony medical equipment businesses. They "sell" the equipment, ranging from canes to wheelchairs (and beyond, I expect), bill Medicare, and then don't deliver. Similar scams exist in providing intravenous drugs for elderly and AIDS patients, with the scammers either failing to deliver, or delivering saline solution in place of the more expensive drugs.

On this first issue, the economics that caught my eye was that many former drug dealers were doing some interesting marginal analysis: weight costs and benefits, risks and rewards. As this story points out, there's clearly less likelihood of getting shot in a drive-by. And if caught, they're treated as a white-collar criminal instead of a drug dealer (think minimum vs. maximum security prison here). Interesting thinking and it's rational from an economic standpoint, at least on the surface. It would appear that they are responding to an incentive structure that would encourage the behavior - at least as far as criminal behavior goes.

The second attention-grabber was how little the government puts into fraud detection, apprehension and prosecution as a percent of the total budget. According to the story, almost 10% of Medicare's expenditures are going to fraudulent billings. Something close to 1% of that is in South Florida; although that's based on reported cases. (Estimates are up to 10 times higher.) Yet Medicare spends 3/100ths of 1% in total on insuring the integrity of the program. (Apparently, money has been given to the F.B.I. to beef up a task force investigating the problem.)

My point for your (and your student's) consideration is related to my post of February 21, 2007. I mentioned that there's a connection between how one spends money, whose money it is, and for whose benefit it is spent. The fact that while there seems to be concern, relatively little resources are spend protecting the program speaks to what was my fourth point in the post, "You spend someone else's money on yet another person. You don't care about value or price."

Check out the NPR story and let me know how you view it.

People Respond to Incentives, Apparently (Part II)

Perhaps I'm a cynic, but after reading this article in The Wall Street Journal - Weekend Edition, I can only say I'm reminded of the scene in Casablanca, where Captain Renault is informed there is gambling in Casablanca.

Why Economics Should Be Taught in High School (HT to Dr. Mankiw)

Greg Mankiw has a post that speaks to any economic educator. I found this particularly relevant after coming back from the annual meeting of the National Council on Economic Education (NCEE)/National Association of Economic Educators (NAEE)/Global Association of Teachers of Economics (GATE) in Denver, Colorado last week.

If economics were required of all high school students, I firmly believe we would still get the government we deserve, but we might find we deserve better. As always, I welcome your thoughts.

What Has Been Learned about Monetary Policy?

While this may not be a question that comes up in day-to-day conversation, for those of us who teach economics, it provides a touchstone on what we know and teach. This is particularly applicable for those of us who have students who are amateur Fed-watchers, either through predilection or involvement in programs like the Fed Challenge.

Fed Governor Mishkin presented a paper at a Deutsche Bundesbank conference on monetary policy. The entire paper is probably more than you would share with your students - it's over 40 pages with references and charts. The first 13 pages (15 in the pdf file) include nine key principles about monetary policy developed over the past 50 years. And for those of us teaching, they are worth reviewing.

1. Inflation is always and everywhere a monetary phenomenon. (This is important for students to understand in order to make choices in the civic as well as economic arena.)

2. Price stability has important benefits. (This is important for students to understand that price stability ultimately affects other aspects of the economy, and is worth pursuing.)

3. There is no long-run trade-off between unemployment and inflation. (This is important to understand that anyone offering that as a policy solution is attempting to "pull the wool" over their eyes. This has civic education aspects.)

4. Expectations play a crucial role in the determination of inflation and in the transmission of monetary policy to the economy. (It is important to understand that inflation can feed on itself, and sound policy can reduce that tendency. Again, this has some civic education aspects.)

5. Real interest rates need to rise with higher inflation, i.e. the Taylor Principle. (It is important to understand that there is a connection between real rates, monetary policy and inflation outcomes.)

6. Monetary policy is subject to the time-inconsistency problem. (This is important to understand that adjusting policy to short-term needs can make long-term outcomes harder to achieve.)

7. Central bank independence helps improve the efficiency of monetary policy. (This is important to understand the potential for problems when monetary policy is directed by objectives that are not economic. This also has civic education aspects. See #6.)

8. Commitment to a nominal anchor is central to producing good monetary policy outcomes. (This is important because there remains much debate about the issue of inflation-targets for several central banks, not the least of which is the Federal Reserve.)

9. Financial frictions play an important role in the business cycle. (This is important to understand that information is vital to a well-functioning economy and financial sector; and that business cycle fluctuations can cause information imbalances that have the potential to make matters worse.)

Those are my "take-aways." You may disagree and feel free to debate. You can access the paper and look at each in greater depth. To what extent does your teaching reflect these learned lessons?

Money and Payments

In the past week, I've become aware of two resources that can help teach about different aspects of money and the payment mechanism. The first is fairly straight-forward. The first comes courtesy of a press announcement from the Board of Governors of the Federal Reserve System. I know it was picked up in many newspapers, but you may not have had time to follow up. Now you have another opportunity. The Bureau of Engraving and Printing unveiled the new design for the $5 bill, and a new website that includes educational materials and activities, as well as interactives. Those of you who work with students on money, currency and coin might want to look these over. Additionally, when teaching about money, some teachers will spend time discussing characteristics. If you're one of those, remember money must be recognizable. Showing the new currency and its features will assist in that regard.

The second resource is one that may have been around for a while, but I just ran into it recently. There is now an Electronic Banking edition of Monopoly. I would think this could be integrated into an upper elementary or even middle school environment with the proper preparation, and it would help student learn the ins and outs of money management in an electronic environment.

Please share your thoughts on these resources.

Economics for the "Non-economist"

People will ask from time to time, "Why should I take economics?" They will frequently add that they don't intend to go into business - as if that had much to do with it.

I tell these people that economics is about choosing and decision-making. But mostly about human behavior, and understanding how people, individually and in groups, behave and choose. But there's more.

Today you can find an excellent post on the TCS Daily (link no longer operative) blog by Kate Smalkin. She describes herself as future theologian, and it would appear had a small revelation. I recommend it, and I welcome your observations.

Adam Smith in New Delhi (HT to Mary Kissel at WSJ)

The dynamics of the marketplace are truly amazing. Adam Smith recognized this; others have tried to capture it. One excellent printed description comes in today's de gustibus entry in the Personal Journal.

Kissel does a great job in a short essay of capturing the purposeful hustle and bustle that is a marketplace in Delhi. The ebb and flow of competition, the knowledge gained from meeting the consumer's wishes, division of labor at its most elemental.

I strongly recommend this article for use in your economics, world cultures or geography classes.

I look forward to your comments.

Savings, Interest and Math

One of the fundamentals of financial literacy is saving, and one of the keys to teaching about saving is the phenomenon of compound interest. Terri Cullen talks about teaching her third-grader about this important idea in today's Fiscally Fit column (link no longer available) in The Wall Street Journal.

She offers a good example of explaining percentages to an elementary student, and how those small percentages can result in big bucks. I would recommend that one might also discuss the rule of 72 so that youngsters can see how compounding starts to leverage any amount they save. The rule of 72 is used to give an estimate of "doubling time" for an investment. One only has to take 72 and divide it by the annual interest rate to get the approximate amount of time it will take for the money invested to double. Thus, $1,000 invested at 3% will take 24 years to grow to $2,000. But $1,000 invested at 8% will double in just nine years.

I would also mention (perhaps at a different point) how the rates are indicators of risk. And that higher rates, while attractive, mean having to accept higher risk. But also how higher risk can frequently be acceptable when one is younger. Regardless of what else you add to your presentation, I would recommend Cullen's beginning. It's simple and effective.

Please share your thoughts on Cullen's article, and how you teach compound interest, regardless of grade.

Monetary Policy and the Fed

In the aftermath of Tuesday's FOMC decision, I've been putting together a list of appropriate links for the classroom.

For a sound discussion of the decision, I would recommend William Polley's blog. He's a good Fed-watcher, and seems to have a balanced view.

Although written prior to the decision, Aplia has a good discussion for the classroom, as well as some discussion questions.

As for my view? I'm afraid my opinion can be deduced from the title of this site, and my interest in the works of Milton Friedman. While the Fed has a dual mandate, I believe its best option is focus on inflation. And I think that explains the tilt in the last part of the statement, "However, the Committee judges that some inflation risks remain, and it will continue to monitor inflation developments carefully. Developments in financial markets since the Committee’s last regular meeting have increased the uncertainty surrounding the economic outlook. The Committee will continue to assess the effects of these and other developments on economic prospects and will act as needed to foster price stability and sustainable economic growth." That sounds to me like they intend to watch the price data closely for the foreseeable future, and remain ready to act.

What's your take? What do your students think? I look forward to your comments.

The Income Effect

Russell Roberts at Cafe Hayek (HT) has a very thought-provoking post that links to a site sponsored by Wal-Mart. Roberts berates the state of economic education in the U.S. when a company like Wal-Mart has to spend big bucks to get people to understand what should be a fundamental aspect of economics.

When studying economics (and I hope personal finance), time is or should be spent getting students to understand that their lifestyle is not a function of money, but rather what money can buy. One only has to think about countries like current Zimbabwe, or 1920s Germany to understand that it doesn't take much to be a millionaire, but being one doesn'tamount to much if coffee is selling for hundreds or thousands of currency units per cup, if it's even available.

The lesson of the income effect is that there is nominal income (what you're paid), and real income (the basket of goods and services that you can buy with what you're paid). And a corollary is that when prices of different items in your real income change, this constitutes a change in income. This is because you must now choose (opportunity cost here) how to adjust your basket of goods and services. If the price of one item in the basket goes up, you have some basic options:
1) Buy less of the item in question - this is because you can now get fewer units for the same amount of nominal income.
2) Buy the same amount, but because you must spend more nominal income to get the same quantity of the good in question, you will have to buy less of something else.
3) Buy the same amount of everything, but borrow against future spending/consumption to pay for current consumption (go into debt).
4) Some combination of above.

Conversely, and here's where the link to the Wal-Mart site figures in, if the price of something goes down, you have similar options:
1) Buy more of the item in question - this is because you can now get more units for the same amount of nominal income.
2) Buy the same amount, but because you spend less nominal income to get the same quantity of the good in question, you can buy more of something else.
3) Buy the same amount of everything, and put aside the unspent nominal income to augment future spending/consumption (save).
4) Some combination of above.

Many folks will argue that when a Wal-Mart moves into town, this creates "unfair" competition with local businesses. I must admit, I am unclear by what they mean by "unfair." If another business opens in town and manages to offer products at lower prices, is that business "unfair?" Or is it a matter of size? If so, at what point does size become unfair? Many firms (not just Wal-Mart) are able to offer reduced price because they are able to take advantageof economies of scale. If those costs get passed on to the consumer, how are they hurt? If pressure is put on producers to meet quality and price, that makes for a more efficient economy and more "real income" for consumers.

I know there's more to this, but I think the opportunity to discuss an important aspect of economic thinking is too good to pass up.

Let's hear more. (Oh, and don't overlook the "comments" on the Cafe Hayek post.)

Discussion Starter

Since I moved to Virginia back in mid-August, my reading has fallen off a cliff. (I did manage to read Harry Potter and the Deadly Hallows, but I don't have any insights on that...yet.) It has only recently gotten restarted because we are still emptying book boxes at the new house; which brings me to the subject of this post.

I picked up an older book in my library, The Wealth and Poverty of Nations: Why Some Are So Rich, and Some Are So Poor by David Landes. I was especially interested in Landes' book because of a newer book by Gregory Clark, A Farewell to Alms. Early in Landes' book, he quotes Hippocrates, and the quote has some potential for use in the classroom.

"Where there are kings, there must be the greatest cowards. For men's souls are enslaved and refuse to run risks readily and recklessly to increase the power of somebody else. But independent people, taking risks on their own behalf and not on behalf of others, are willing and eager to go into danger, for they themselves enjoy the prize of victory."

Now we can discuss the evolution of monarchy from the time of Hippocrates until the present, but I think in this case, we can substitute tyrant, dictator, or some other adjective referring to one with absolute power (as was in Hippocrates' time). Agreeing to that, focus on the second sentence and apply it to economic systems. Does an open, market-driven economy have the effect described? Is that good or ill? What alternatives are there if one is to efficiently promote growth and change?

Please share what you (and your students) think.