Wednesday, July 30, 2014

Why can't the banking industry solve its ethics problem?

This is the question asked yesterday in an article in the New York Times. They offer two possible answers. One is that the highly competitive conditions in the industry attract bankers who are extremely motivated by money and are very risk-tolerant, meaning the risk of being caught, I guess. The other is that the industry does not have sufficient financial incentives in place (clawing back bonuses when there are violations, for example) that encourage ethical behavior.

Both of these approaches suggest that there is only one sort of motivation, namely financial, and the only questions concern how strong the motivation is (people who are not very motivated might be ethical just out of laziness or risk-aversion), or what sorts of behavior are rewarded financially. Neither views ethics as a intrinsic, a desire to do the right thing, to be honest with other people, or even to have a good reputation, that might act as a constraint on gain-seeking behavior.

The theory of economic regulation provides a context for this discussion. To explain the conundrum of industries and firms that seek or support their own regulation, economists have offered a variety of hypotheses. The conservative, Chicago School version is that they want government to set up and enforce a kind of cartel, preventing entry and keeping prices high. A more liberal approach suggests that businesses understand that without public trust and confidence, they will lose their markets. Once trust is lost, the best way to reestablish it is to have some outside agency provide accountability. Government has usually been a good choice, since government has usually been trusted more than the press or private non-profits.

The conclusion I come to about today's bankers is that they do not think public trust is important to their business. The public does not have a choice: they have to use banks, and all of them are tainted. If the public's money is stolen or wasted or lost, the government will make it good, so no worries. Therefore there is no need for regulation, nor is there any need for the industry to change its culture or reform itself.

So we do not see what I have been hoping to see: some prominent bankers standing up and saying, "There is something wrong with our industry, and we need to change." Until that happens, the crisis of corruption that began in the 1980s with the savings and loans will just keep getting worse.

Sunday, July 27, 2014

Businesses and charities

Stephen L. Carter has an opinion piece for Bloomberg (reprinted recently in the GR Press) in which he claims that people's problem with Hobby Lobby and other businesses that claim religious rights is that they make profits, and profits are evil. He is completely wrong about this.

Yes, businesses make profits and charities don't. Charities must follow the non-distribution rule, that their members (contributors) must not receive any surplus funds generated by the charities' activities. Those funds must be used for the charitable purposes for which the organization was established. But that doesn't mean that a business can't earn profits, or that profits are wrong.

There are other differences between the two kinds of corporations that are more important. Businesses make our economy run. They provide goods and services that people are willing and able to buy, and they expect to make a profit in the process. As key economic institutions, we need them to be open to all, serving people without regard to race, nationality, gender, religious belief, or any other irrelevant personal characteristics. The only way we can have an open, competitive economy with opportunity for all is if businesses are required to serve all equally in accordance with universal moral principles.

Indeed, this principle of the openness of business is not only part of American national ideology, but is a basic part of Calvinist Protestant social thought. John Calvin's argument that the Biblical prohibition of usury should not apply to New Testament Christians was based on the idea that since there was no longer an exclusive "chosen nation," Christians should treat all others according to universal moral principles, especially the Golden Rule.

The anger that Carter detects about profits in today's America may be due to a violation of others of Calvin's basic principles. He held that the benefits of specialization and exchange should be equally shared between buyer and seller, and that the public benefit should take precedence over private gain. The growth of profits as a share of national income at the expense of wages suggests that this balance in the distribution of the economy's benefits has been disrupted in our economy.

Charities are established to provide educational, cultural, scientific, artistic, and religious services that often are not profitable, but which serve the public good, and which as a society we wish to promote. Businesses will not do enough of these things, or will not do them at all, and government often does not have the creativity, diversity, and sensitivity to do them well. So we make it possible for groups of like-minded people to contribute before-tax money to enable these activities. By their nature they include some but not others. This is especially the case for religious organizations. People with no affinity to a charity's aims, purposes, or beliefs can not demand service from in the way that they can demand service from a business. Businesses are not giving anything away, but charities are.

The same is true for employment relationships. Sympathy for a charity's purposes and belief in its principles is essential for employees of the organization. Charities have a well-recognized legal right to place religious demands on their employees that are not permissible for businesses. They could hardly operate in any other way. But businesses are chartered to generate economic activity, and their criteria are restricted to who can do the job well. Hobby Lobby can not insist that its employees endorse its religious beliefs, unless it wants to become a charity, collect donations, and start giving away flower pots.


Saturday, July 19, 2014

Use Value and Price Discrimination

For an excellent example of the idea of "use value" as a justification for price discrimination, see Joe Nocera's column in today's New York Times.

Friday, July 18, 2014

Faith and Economics

The new issue of the Association of Christian Economists' journal came yesterday, and I would like to comment on a couple of the pieces in it.

Tony Waterman offers a review essay on Wilkinson and Pickett's The Spirit Level, a good five years after its publication in the UK, and four years after it appeared here. Tony's comments are thoughtful, as they always are. But in his section on theological issues, I have some doubts. He notices that inequality is "a fertile breeding ground for four of the seven deadly sins," namely, avarice, pride, envy, and anger. But he finds that classical (and neoclassical) economics explains the remedy: God uses our sinful desires and acts to make us prosperous through the miracle of the market economy. I suppose the proper conclusion is, let us sin more so that grace may abound!

By no means. Avarice and pride particularly have led to the wave of business scandals that began in the late 1990s. The widespread corruption of American business has led to a loss of confidence, lack of trust, increased inequality, and poor economic performance, culminating in the 2008 financial crisis and its disastrous aftermath. When the economy prospers, it is in spite of our sins, not because of them. The market will not save us from our sins. Only God can.

Quoting Pope John Paul II and Anglican Archbishop William Temple in support, Waterman argues that "human beings need incentives to be good." Apparently a place in Heaven is not enough. But for sure people will not be virtuous if you "punish" them with high taxes.

Injustice by definition means that some people get benefits to which they are not entitled. For justice to be achieved, those people have to give up those benefits. To insist that they must come out whole undermines the remedy. The reward is the knowledge that they have contributed to a more just society, and have helped achieve God's purposes in the world. We count it joy to suffer for our Savior's sake. That has to be enough.

In the opening article, John Lunn explores the distinction between value in use and value in exchange. He concludes that "exchange value is a social construct and is not based on some kind of ontological reality." Therefore, it not helpful to look to anchor an evaluation of market functioning in a relationship between market prices and some objectively determined use values.

I agree with John that the Aristotelian line of thought is not productive as a way to derive a theory of objectively right or just prices, or as a way to justify the outcomes of market processes. But I think there is a much more interesting contemporary question about prices that should be addressed. The virtue of markets is supposed to be that market prices convey information about the relative scarcities of goods, an objective measure of the production costs of the goods to be bought. This results in good decisions by buyers about how to best steward or conserve or economize on resources. But in contemporary America, this connection has been broken. Price discrimination is rampant, breaking the connection between prices and costs, and undermining the efficiency of markets. In the business community, this is now everyday practice, and it is increasingly accepted by consumers. But pricing has become just an exercise in naked power by increasingly monopolistic sellers. This undercuts any serious moral defense of a market system.

I have written about price discrimination before, and the essay appears as chapter 8 in my book, Stories Economists Tell.

Tuesday, June 10, 2014

Envy and Greed

Income inequality creates real problems for modern economies, especially when it reaches the levels that we see now in the U.S.  The most serious probably is the effect that income inequality has on equality of opportunity. When education, especially higher education, is tied so closely to family income, it is hard to trust that opportunity is really equal.

But there is more. We have the impressive evidence from the work of Wilkinson and Pickett that inequality has serious effects on public health, on crime, and other dimensions of well-being like social mistrust and drug abuse. We also have the disturbing reality that the extremely wealthy have more and more control over our sources of information and our political discourse.

In the face of all these real problems associated with inequality, it has become a habit of some scholars, pundits, and commentators on the right to assume that the only possible reason for concern about inequality is envy. The trend reaches from a major article of the most recent issue of the scholarly journal Faith and Economics to the rants on Fox News. This is puzzling. It is certainly the case that most of the scholarship and commentary about problems of inequality has come from people who are themselves quite well off, and have no particular cause to be envious. In almost all cases, they are writing about the problems of people much worse off than themselves. Certainly poor people can be envious, but in such cases it can be hard to distinguish real, poisonous envy from a modest desire for greater opportunities for their children, and for a somewhat easier life. So on its face, the envy charge is not plausible.

The claim is sometimes made that envy is improper because in the labor market, people get what they deserve. The only serious argument for this comes from the libertarian position, which claims that since all trades are voluntary, everyone benefits, and everyone gets what they agree to. This does not reckon with the possibility of unequal power in the marketplace and the possibility of exploitation. Neoclassical welfare economics claims that in perfectly competitive markets, wages and incomes will be efficient, but it makes no claims about justice. In real labor markets, even the efficiency claim cannot be sustained. Utilitarians tend to think that if you are willing to make interpersonal utility comparisons, more equal distributions would yield higher social welfare, because maximizing total cardinal utility (“social welfare”) requires equal marginal utility of income for every person. Christian social thought calls for a floor on incomes at the “family wage” or the “living wage.” The claim is that it is unethical to pay a full-time worker less than it takes to provide a family with a respectable living.

One thing that we know for sure is that the distribution of wages does not correlate well with differences in education, skill, intelligence, effort, or anything else that we can hope to measure. Wages are far less equal than the distribution of any of the characteristics we think are related to productivity. Experimental evidence suggests that differences in effort can account for as much as a ten-fold difference in productivity, but wage differentials are much greater than that.

It often seems, to the critics at least, that this attribution of all concern about inequality to envy, dismissing any serious reasons, is simply meant to discredit concern about the issue by attributing it to a morally unworthy, emotionally founded motive. It is an ad hominem argument of the most transparent kind, meant to break a stalemate over the causes and consequences of inequality.

The critics sometimes make a similarly ad hominem argument, claiming that support for inequality is based simply on the greed of those in lucrative positions in our market economy, who want to be able to keep raking it in, without feeling any pressure to support higher taxes or to give more to charity. This is also a morally unworthy, emotionally founded motive. But it is consistent with the argument about incentives made by the defenders.

Of course, the wealthiest in our society have no particular cause to be greedy. The people at the pinnacles of the business, entertainment, and professional fields make more money than they can possibly spend on themselves or their families. They often claim that they only want more money only because “that is how we keep score.” But if keeping score is the only motive, why the resistance to higher taxes? It should be pre-tax income that determines the winners, not post-tax income. And why are more wealthy people not eager to advertise their income or net worth? How can anybody tell who wins? In fact, the players indulge in conspicuous consumption to advertise their wealth. Many want more wealth not for consumption, or for keeping score, but as a ticket to political and social influence. This influence is also a positional good, with competition steadily ratcheting up the price. So the argument that greed is behind the defense of inequality has a certain plausibility that the envy argument does not.

Personally, I am a critic of economic inequality, because I find the critics’ arguments persuasive, and because I believe strongly in the Christian teaching that all of us are equally creatures of God and are loved by God, and therefore have equal dignity and worth. But whatever side of this issue you take, I think the time has come to lay aside the attribution of motives and the ad hominem arguments. It is time for us to be clear and honest and respectful towards each other as we address one of the great issues of our time.



Wednesday, August 14, 2013

The airline merger

Commentary this morning on the DOJ's challenge to the US Air-American Airlines merger has been economically illiterate. The assumption journalists make is that if airline mergers were approved before, this one should be too. But conditions are not the same.

The airline industry faces strongly pro-cyclical demand. The price elasticity of demand is quite high for the industry as well as for individual firms. Fixed costs are high, and marginal costs are low. There are substantial entry barriers, mostly in the form of limited airport capacity. For the last 30 years or so, these conditions have meant that when the economy was weak, airlines would get into very severe price wars, and most of the firms would lose money. Bankruptcies and mergers were very common. The industry was in serious trouble, and the government was hard-pressed to come up with a solution. From the 1930s until the early 1980s the industry was regulated like a public utility, but nobody wanted to go back to that situation. Industry executives tried to engineer a system of coordinated prices, but when this became public, there was too much outrage to sustain the effort.

In the last few years, the situation has changed. The number of competitors in the industry has been reduced. The industry culture has changed, away from rivalry and price wars. New ways have been found to extract revenue from the customers, using sophisticated price discrimination and piling up ancillary fees. Capacity has been systematically reduced. The new situation has meant that the industry has remained profitable even in the weak economy of the last few years.

Under these conditions, a further concentration of the industry is unnecessary, and indeed is likely to prove harmful to the interests of customers. (And remember, most of the customers are businesses, not consumers traveling for leisure.) DOJ is clearly justified in asking that this merger be rejected.

Saturday, May 18, 2013

The Vienna-Chicago nexus

There is an excellent article by Corey Robin in the May 27 issue of The Nation on the roots of Austrian School economics in Menger and Hayek, and how it differs from the utilitarian philosophy of the English marginalists like Jevons. It helps clarify for me some of the puzzles about the differences between Austrian and Chicago economics, and the turn in American conservatism toward the Austrian view. Chicago-style economists believe in efficiency, and hence in equal opportunity. They are therefore unlikely to oppose the estate tax, and for a long time it was not an issue for conservatives. Hayek and other Austrians, on the other hand, did oppose the estate tax, because for them the heroic visionary, the entrepreneur or artist, is the figure to be encouraged and rewarded, the figure whom the economy is designed to serve. Hayek, Schumpeter and other Austrians believed that such a person is likely to come from an established aristocracy, not the common workers. This perspective has its roots in the thinking of another Austrian, Nietzsche. It is also reminiscent of the novels of Ayn Rand, which are enjoying a new popularity in this country.

In the U.S., the conservatives have become very adept at de-emphasizing such differences in philosophy and outlook, for the sake of achieving political victories. However, Robin's piece makes it clear that there are some very important issues here. They are not only essential to understanding the recent history of the conservative movement in the U.S., but also understanding where it might be trying to take us. It is not a utilitarian vision in the Chicago mode, but neither is it truly libertarian. In this new Austrian vision, conservative economics is turning away from the goals of equality of opportunity, of prosperity that is broadly shared, and of a democratic polity in which all are invited to participate, regardless of wealth or class.