Saturday, April 14, 2012

Crime and trust

In Khaled Hosseini’s Kite Runner, the protagonist’s father tells his son that in the end all crime amounts to stealing. If you kill someone, you steal his life from his family. If you commit adultery, you’re stealing a spouse. But in actuality all crime comes down to the destruction of trust - trust between two people and trust within society.

When our neighborhood felt the increase in crime in Washington DC, trust was eroded. There were cries for (and some did) installing cameras to record the area surrounding the owner’s homes in case it captured something useful. Non-profit organizations going door-to-door asking for donations were suspected of ‘casing’ people’s homes. As were legitimate businesses like Verizon who was trying to get people to switch. Someone sitting in his car was also suspect.

The police department recommended that we call them anytime we saw something suspicious - and something suspicious could be anything that made us feel uncomfortable. So some did. It increased police presence which might have had positive results since crime is now waning (or maybe it’s because we gone back to DST.) (Note: The police explained that in a situation where there very little crime someone sitting in a car is just that - someone sitting in a car. But when crime is higher than usual, someone sitting in a car may not be just someone sitting in a car, so some judgment is required.)

Sociologists, economists and political scientists often refer to the overall level of trust in a society as social capital. It is thought to be related to economic growth. As our recent experience shows, trust is pretty fragile. It is easy to destroy and it’s also difficult to rebuild.

The recent news that a virus disguised itself as a Flash Player update is disturbing. The Internet is based on trust (with verification). We are supposed to be able to trust an update from an apparently legitimate source. We know logos are easy to copy and so we may not trust those as much. These logos such as BBB and e-Trust may already have become less meaningful with time.

No article about the virus that I’ve read explained how this virus came to be downloaded. For instance, there are banner ads that sometimes proclaim that my antivirus is out-of-date. Click to update. Yeah, right! Was it a similar ruse?

So what’s next? A virus disguised as an Microsoft update? A Debian linux update with a virus somehow gets buried into a repository? Or even a legitimate software employee paid off to bury a virus in the code of a valid update? At some point the criminal elements might be able to destroy all trust on the Internet. Then it will be time to disconnect.

Friday, April 13, 2012

Why we look for a single cause

In a previous post, I whined about the state of econometrics, particularly the obsession with instrumental variables and single factor causes. The obvious question is why does this state of affairs persist?

"I only wish we had a single agent causing all the declines," Pettis says. "That would make our work much easier."

This is from National Geographic on colony collapse disorder.

When CCD first hit, many people, from agronomists to the public, assumed that our slathering of chemicals on agricultural fields was to blame. Indeed, says Jeff Pettis of the USDA Bee Research Laboratory, "we do find more disease in bees that have been exposed to pesticides, even at low levels." But CCD likely involves multiple stressors. Poor nutrition and chemical exposure, for instance, might pummel a bee's immunities before a virus finishes the insect off.

It's hard to tease apart factors and outcomes, Pettis says. New studies reveal that fungicides—not previously thought toxic to bees—can interfere with microbes that break down pollen in the insects' guts, affecting nutrient absorption and thus long-term health and longevity. Some findings pointed to viral and fungal pathogens working together.

What I’d like to see happen

I’ve been wanting to comment on the e-book lawsuit filed by DOJ for a while but I wasn’t entirely sure I knew enough to say anything (though it hasn’t stopped me in the past). My knee jerk reaction was the the DOJ lawsuit was right. What’s the big deal?

But publishers and booksellers argue that any victory for consumers will be short-lived, and that the ultimate effect of the antitrust suit will be to exchange a perceived monopoly for a real one. Amazon, already the dominant force in the industry, will hold all the cards.

The publishers are stuck in the same way that many behemoths are stuck when faced with disruptive change. They sputter and flap around trying to find something that works and when it doesn’t they cry foul. This criticism is also directed at movie companies (e.g. Sony, Disney) and software publishers (e.g. Microsoft) as well. Likewise, this goes back to the defunct economics argument that size and market share equals monopoly.

The retailer has been taking a more aggressive stance toward publishers in recent months. When it failed to get better terms from a large Chicago distributor, the Independent Publishers Group, it removed IPG’s nearly 5,000 e-books from sale.

Curt Matthews, IPG’s chief executive, said publishers who dealt with Amazon “will have to insist on keeping their fair share. It is obviously true that producing good content is the hard part of making a good book, no matter how that content is captured. Why should publishers cede all of their power to this new player in the book business?”

I smell an opportunity here - is distributing e-books really that difficult? Do they really need to go through Amazon just because of its large presence? What I’d like to see is this: I go into a bookstore - Eliot Bay Books comes mind. I’m surrounded by hard copy books. I get some coffee, sit down and leisurely look through some books that I’ve picked up. I take out my laptop and connect to the bookstore’s server and purchase the books from its own server instead of Amazon unless Amazon’s prices are lower (of course). If I buy the hardcopy, I may even get an option to download an electronic version at a lower price.

I must be missing something since it seems that there is very little barrier to entry for a book retailer to also become and an e-book retailer as well. Isn’t Powell’s already doing this? Perhaps what booksellers need is a packaged service - an outfit that comes in and puts in the technology (servers, routers, etc.) and an inventory of e-books preloaded. Perhaps IPG (above) can be part of this service. Perhaps with Powell’s success they can be that service.

The real problem might be this (emphasis mine):

“If there’s an upside, I don’t see it yet,” said J. B. Dickey, the owner of the Seattle Mystery Bookshop. “My fear is that the major publishers won’t be able to stay in business just selling e-books. You can’t bring in enough money to support the infrastructure. If that happens, there goes the marketing, the editorial, the author tours, the expertise of the book industry.”

Basically, the publishers are subsidizing the marketing and advertising for the retailers (or is it the other way around). Whichever it may be, it doesn’t necessarily follow that retailers can’t do that themselves. I used to value ‘picks by our booksellers’ in bookstores more than those reviewed in the NYT. In this case then retailers by promoting books would be doing Amazon a favor. Yet I don’t see this as a huge problem - it is more likely that if publishers fail to promote books, Amazon might decide to come in and pick up the slack. After all they are the gorilla on the block.

Moreover, it isn’t clear to me that publishers are such good book-pickers. The big splash they make is usually landing some deal with some soon-to-be ex-president whose memoirs barely sell. Yes, Christopher Paolini didn’t really become a phenomenon until Eragon picked up by Knopf - but did Knopf really need to be the heavyweight? Did a big publishing house ‘discover’ JK Rowling? What about the success of Lionel Shriver’s We Need to Talk About Kevin? Did any major publisher really play that large a role?

With the advent of the Internet and various social outlets or even old fashioned word-of-mouth I believe that it is possible to sell and market books without these large publishers. Yes, the future will be tough and even uncertain but that is what disruptive change is about. Lower profit margins, new markets, adopting new technologies and methods. As in the behemoths of the past, publishing companies are looking to protect their profit margins to sustain their overly high overheads and its time this old model is discarded.

The future if there is one is perhaps more local picks, cross subsidizing of e-books and hard copy books, more loyalty by customers to their local bookstores (and I think there is such a thing especially here) that look out for their needs and provide good recommendations, and yes, more fragmentation which I think is something to be exploited rather than feared. 

(This has turned out to be a rant.)

My previous thoughts on book retailing here and here.

Update (5/14/2010): How could I have left out Barnes and Noble as another possible competitor to Amazon? Are tie-ins between print and e-books illegal? I'm curious to know why retailers have not attempted to use this strategy.

Thursday, April 12, 2012

Performing arts

There has been a lot of hand wringing over the state of STEM in the United States and I’ve added my share. In that same post was a link to an MR post that said:

In 2009 the U.S. graduated 89,140 students in the visual and performing arts, more than in computer science, math and chemical engineering combined and more than double the number of visual and performing arts graduates in 1985.

As far as performing arts (versus visual arts) is concerned, when I’ve thought about it in the past, I was and still am uncertain whether majoring or even encouraging our kids to be part actors or singers is a good thing. Yet with the increasing fragmentation in the delivery of entertainment into our homes (even Hulu is producing original shows) and the proliferation of ‘reality’ talent shows, is the market signalling that the opportunities in this field are increasing? (The BLS begs to differ on actors but not singers.) The entertainment industry is perhaps the few industries that have had some success in the global marketplace. Is this industry becoming a growth industry as well?

After all the general audience would prefer to sit back, relax and enjoy watching a play or a singer rather than say, someone reciting the periodic table of elements. And while quiz shows such as the Spelling or Geographic Bee or Jeopardy have a decent sized audience, it is not quite the same thing as trying to be the next Kelly Clarkson or David Archuleta or Ramin Karimloo. You can’t turn being a contestant in Jeopardy into a vocation or profession as easily as when you’re a good singer or actor.

Unfortunately performance arts is also a field where luck could matter as much as talent. Perhaps I am not a good judge of talent but I am always surprised to see so much of it in the instances when I watch American Idol or it its ilk. And there are more out there on YouTube who are waiting to be discovered. Talent itself then is not a sufficient condition for success. Consider Christina Perri:

Perri's song "Jar of Hearts" was featured on So You Think You Can Dance during the June 30, 2010 show. It was featured in performance by Billy Bell and Kathryn McCormick. Perri's friend Keltie Colleen passed the song to show choreographer Stacey Tookey; Perri and Colleen watched the performance in the audience. Following its exposure on the show, "Jar of Hearts" sold 48,000 digital copies, debuting on the Billboard Hot 100 at #63 and reaching #28 on Billboard's Hot Digital Songs. Within a month, it sold more than 100,000 copies. Then, her music video for "Jar of Hearts" landed on the VH1 top 20 music video countdown.

What if her song hadn’t been featured? Would she still have been as successful? And what about those who have been successful? Fame can be short lived. Whatever happened to Judge Reinhold after the Beverly Hills Cop movies? Or Erik Estrada? Remember him? I’m half-expecting them to appear on DWTS. Yet these fields can also be an ocean of opportunities. If they can’t remain a singer/actor they can work in the studio in other capacities.

In so many ways this is a field where it isn’t only what you do with your talent, it’s also what else you can do with your interest, willingness and talent.

Industrial policy?

I was struck while reading Ira Magaziner and Mark Patinkin’s book Silent War by how timeless the issue of American competitiveness has been. The book itself (now out-of-print) was better than I expected (probably due to Patinkin) with almost 100 pages of footnotes (probably Magaziner’s). In the book they outline what are considered ‘successes’ in challenging the rise of low cost imports.

The overall takeaway is that developed countries cannot challenge the low wage countries on cost. The alternative is to develop and to continuously develop a better and more reliable product using advanced technologies. This would require a lot of investment in capital - equipment and human but would be best in the long run as productivity will increase and workers can become more empowered in the production process. For developing countries (at the time - he highlights Korea and Singapore) the lesson is the same. Investment in physical and human capital will allow the country to move up the value added chain. Underlying all this is of course the role that government can and needs to play either as a coordinator or directly intervening in industries.

The chapters are divided into the stories:

  1. Korea’s Samsung came from almost nowhere to become the main supplier of GE microwaves through not only hard work, but investment in physical and human capital. The first prototype of a microwave that they produced caught fire. The emphasis on human capital was engineers and what they can do - design not just products but factories and machines.
  2. In Singapore the emphasis on human capital was similar but added other ingredients - tax breaks and streamlined processes for foreign firms starting up in the country along with government sponsored worker training. This program allowed firms to send their workers for government subsidized training to use complex machinery and tools. The workers studied at night and on weekends and were able to increase their productivity via suggestions to managers. Because of their higher productivity, these workers were not laid off even though their suggestions were aimed at reducing labor inputs. The story is told through Apple’s first plant established there.  
  3. General Electric refurbished their plant in Columbia, Tennessee to produce a new type of energy efficient refrigerator. They not only had to upgrade the machines and redesign the factory floor for new processes, the workers also had to be retrained.
  4. In Germany, the machine tool  industry faced challenges from Japan. They show through the stories of two companies - Traub and Scharmann now part of a larger group, that investment in R&D even through recessions would pay off in the long run. Moreover the companies decided that since they could not beat the Japanese on cost they would move into complex CNC machine tools that were specially tailored for clients.
  5. Magaziner advised Sweden and Volvo on its turnaround strategies. For Volvo this meant building what would become the highly successful V70 model. In tandem it also advised Sweden on how to restructure its economy and what Volvo could do to help Sweden. In particular there was no way that Sweden would be able to continue to be competitive in industries such as shipbuilding. The government deficits were growing as it continued to support some of these dying industries. Firms such as Volvo could help by building its factories close to (or use existing facilities of) these dying industries, especially since the workforce of these industries are relatively high skilled.
  6. AT Cross, the maker of pens embraced an expansionist policy of exporting - and cultivating a luxury image by gaining control over its distribution process. The underlying message here is that few firms would have thought of exports as a savior since the overseas market is a highly uncertain market and that the government can do more to make exporting easier.
    The United States would eventually lose to Japan in photovoltaics as a result of its hot-and-cold policy of subsidizing research. This was perhaps the only chapter where there was an appeal for continued and direct government intervention.
  7. Airbus was doomed to failure even though it was a heavily subsidized company. Yet how did it manage to succeed and thrive in a continent where the interest of Europe was secondary to those of the home countries? There seemed to be an appeal to a great man here - Roger Beteille - but the main thrust of their argument was that Airbus offered a better and more technologically advanced product - the A300 - two engines and lighter materials to conserve fuel and a recognition that short to medium routes might be the wave of the future.
  8. In Corning , the authors highlighted the role of long run R&D even through recessions that finally made optical waveguides a successful product in the telecom industry.

How well have these ‘success’ stories fared? I googled a few of these.
  1. The Columbia, Tennessee plant closed in 1993.
  2. The winner of the photovoltaics war seems to neither be the US nor Japan.
  3. And we all know what happened to Volvo after it was bought by Ford. This may still turn out to be a success story.

How does an industrial policy story hold together? As for direct intervention, the photovoltaics story and the current state of the Japanese economy (though not all Japanese companies) seem to be another nail in that coffin. The counter to this nail is Airbus.

What about a more general role for the government where there is some coordination in terms of human capital policy, R&D subsidies, and export promotion via streamlined paperwork and direct help in getting to market? The GE story seems to be a strike against firms that upgrade and then fail but perhaps there is still a lesson from this - for instance, were the workers more easily able to find jobs since they were retrained for the new plant? Could another factory producing something else have been relocated there to absorb these workers?

What about the role the stock market and its obsession with quarterly earnings that makes R&D its first casualty when earnings dip? The German companies were able to continue investing through the downturns since they did not have to worry about the stock market. Nevertheless, so was Corning even though stock price wise it hasn’t done too well.

Wednesday, April 11, 2012

Fine print of structural unemployment

This is a follow up on an earlier post. I read the the Fed Atlanta blog post on the effects of the current recession on the earnings of re-employed construction workers (emphasis mine):

Using the SIPP, we investigated the wage changes workers experience before and after an unemployment spell when their new job is in a different industry. Is the wage effect of switching sectors larger for unemployed construction workers relative to those workers in other sectors?

I’m a little puzzled about why there is a sole focus only on those who changed industries especially if we want to get a sense of the extent of structural change. What would have been helpful is the proportion who changed sectors - for instance, of the total who were re-employed what is the percentage who changed sectors. Should we place as much weight on a structural explanation if only 10% of these re-employed were in new industries?

Update (4/12/2011): Another thought is that these changes in sector could be temporary and that when the economy picks up the these workers would go back to their original occupations/industries. This was a point made by Loungani and Rogerson (1989).

Alternatively, are skills industry specific or occupation specific? Looking just at industry changes may overstate the extent of structural change if skills are more occupation specific than industry specific.

Monday, April 9, 2012

What causes the unemployment rate to fall

In a previous post, I wondered whether the unemployment rate falls more because of people leaving the labor force or because of job creation. WaPo comes down on the former at least as far as the latest job numbers are concerned:

In March, the unemployment rate dropped from 8.3 percent from 8.2 percent. But that wasn’t because the economy added an enormous number of jobs.

Rather, as Sarah Kliff pointed out, it was largely due to the fact that 164,000 fewer people were actively looking for work — and they don’t count in the unemployment tallies.

Sunday, April 8, 2012

Construction jobs revisited

Fed economists disagree over  construction jobs lesson on the economy blares the Washington Post.

“Construction workers are not experiencing relatively worse labor market outcomes,” concluded an online article by economists at the Federal Reserve Bank of New York, Richard Crump and Aysegul Sahin.

Within days, their colleagues at the Atlanta Fed issued on their Web site what they called “an alternative view of the fate of unemployed construction workers.”

“Unemployed construction workers are generally experiencing relatively large wage declines relative to what they earned before becoming unemployed,” wrote Pedro Silos and Lei Fang, economists at the Federal Reserve Bank of Atlanta.

The ‘truth’?

Crump and Sahin, who opined that they are not faring worse in unemployment, bring to bear several numbers. They note that the unemployment rate in the construction industry, though it rose to a very high level, has come down faster than the overall unemployment rate. Where it once stood at 27 percent in February 2010, it had fallen in two years to about 17 percent, according to Bureau of Labor Statistics data.

Similarly, they point out that since mid 2010 the rate at which unemployed construction workers have found work has improved faster than the rate for other unemployed workers.

Silos and Fang however, examine different federal data, which show that construction workers leaving the industry for jobs in other industries are suffering wage losses of about 19 percent compared who found jobs in construction.

“Unemployed construction workers who took jobs in other sectors seem to have done so at a considerable loss of income,” they write. “The reason may well be a mismatch between the skills they possess and those required by their new job.”

The article casts this apparent disagreement as part of the debate between structural versus cyclical unemployment. I'd go with Silos and Fang, but I would not go as far as to say that this demonstrates that unemployment from this recession is all structural.

As Larry Mishel says:

“Construction has lost a lot of jobs and construction workers are struggling – I don’t deny that,” he said. “But they are not the whole story of unemployment in the U.S.”

Agreed, but he also suggests “that more stimulus spending on infrastructure projects – roads, bridges, railways – would help employ construction workers, who, newly employed, would spend and stimulate the economy further.”

My previous thoughts on the relationship between fiscal stimulus and constructions jobs are here - and I haven’t really changed my mind when I said then that the guys who are swinging hammers and framing houses don’t really have the same skills as those who are building roads and repairing bridges.

But I also think that construction jobs on the whole are what some would consider good jobs. My feeling is that the construction workers who are unable to find work as a result of the financial crisis are perhaps those who are least skilled. Sure, there are some skilled construction workers who are probably still unemployed or who had to take on lower paying jobs as a result of the bubble. It is also probably true that these highly skilled construction workers were adversely affected because of the bubble and the point here is that because of these real effects, the Fed really needs to take a proactive stance against bubbles. It causes real misallocation of resources. These skilled workers might have seen the housing boom as a signal to further invest in their construction skills as opposed to going into another occupation.

Friday, April 6, 2012

Some finance readings

I’ve been trying to wrap my head around some finance related papers and wondering if academic economists have anything useful to say to the average investor, myself included.

The papers are:
1. Jagannathan and Kocherlakota: Why should older people invest less in stock than younger people?
2. Cochrane (1999): New Facts in Finance
3. Cochrane (1999): Portfolio Advice in a Multifactor World

The Jagannathan and Kocherlakota paper seemed to suggest that older people shouldn’t invest less in stocks. They evaluate several claims and conclude (this is from the abstract):

Financial planners typically advise people to shift investments away from stocks and toward bonds as they age. The planners commonly justify this advice in three ways. They argue that stocks are less risky over a young person’s long investment horizon, that stocks are often necessary for young people to meet large financial obligations (like college tuition for their children), and that younger people have more years of labor income ahead with which to recover from the potential losses associated with stock ownership. This article uses economic reasoning to evaluate these three different justifications. It finds that the first two arguments do not make economic sense. The last argument is valid—but only for people with labor income that is relatively uncorrelated with stock returns. If a person’s labor income is highly correlated with stock returns, then that investor is better off shifting investments toward stocks over time.

But then almost everyone’s income is uncorrelated with the stock market - except those who are working on Wall Street (or with income tied to the stock market).

The first of Cochrane’s paper summarizes some findings in empirical finance regarding book-to-market ratios (Fama-French factors), momentum investing, forward premium bias and other violations of the CAPM model. This was all good stuff and it was a good review that I needed to get up to speed. In the second paper however, he says that after taking all these multiple factors into consideration, the average investor should hold the market and by this he means the following:

An investor should hold, in addition to the market portfolio and risk-free bonds, a number of passively managed “style” funds that capture the broad (nondiversifiable) risks common to large numbers of investors. In addition to the overall level of risk aversion, his exposure to or aversion to the various additional risk factors matters as well.
I emphasize a cautionary fact: The average investor must hold the market. You should only vary from a passive market index if you are different from everyone else.

Unfortunately despite the fact that I retained very little from my finance classes, the takeaway that I got from them was that there is very little consensus on what constitutes the passive market portfolio. What is the percentage of bonds (T-bills or something else), or other passive style funds? How much does real estate weigh into this?