Two Newspaper articles prompt the question "when is enough, enough"

The Washington Post has a nice piece (that relies on a study by Jon Bakija, Adam Cole and Bradley T. Heim) about how executive compensation has been the principal driver behind the increasingly unequal income distribution in the United States.  It uses Dean Foods as a nice case study---the current CEO (who apparently runs the company well) makes ten times the income of the CEO from the 1970s (who also ran the company well).  One reason for the difference is that Kenneth Douglas, the 70s era CEO, turned down pay-raises, arguing that it if he made more than is $1 million per year, it would be bad for morale.

Immediately after reading this article, I read another in the Milwaukee Journal-Sentinel about the search to replace Biddy Martin as chancellor at the University of Wisconsin-Madison.  In that article, Jan Greenwood, a presidential search consultant is quoted:

UW-Madison "is a phenomenal university" with world-class status, said Jan Greenwood, a presidential search consultant.

But, "Wisconsin, at this point in its history, is one of the states that is having severe challenges because of compensation issues," she added.

Martin made $437,000 per year plus benefits plus a fully staffed large house.  One can live very well in Madison for $437,000 plus a house.  That is enough to take nice vacations, eat out wherever one wishes, and drive a nice car.  It is probably even enough for owning a boat or small plane if such things really mattered to someone.

Maybe my problem is that I am a homer--I got my Ph.D. in economics at Madison and then was on the business school faculty there for twelve years.  The place does have some serious issues, but is also quite extraordinary.  Getting to run it while being paid enough to enjoy lots of consumption seems like a pretty good deal to me.

As I watch people drive...

..I can't help but think about a problem with the Euler Equations for consumption.  Young people (especially young men) do dumb things on the road that can get themselves killed in much larger numbers than old people.   This is not just anecdotal, because insurance statistics back this up.  (Also, as one who drives in LA, my N for making this inference is pretty large).

But of course as we approach our cap T, we should be taking on more and more risks, because the expected losses get smaller and smaller.

Sure, the u(c(t),t) function can change with t, but then it also becomes sort of useless.

Program note

I will be on Bloomberg tomorrow talking about foreclosures.  I look forward to the day when no one wants to talk to me about foreclosures.  

Stephen Malpezzi on "Sifting and Winnowing"

My longtime co-author, colleague and friend's opening remarks to last week's Wisconsin Real Estate conference has been mischaracterized, so I am reproducing the entirety of those remarks here:

I'm very proud to be associated with this conference. I want to thank all the speakers and presenters, and especially all of you in the audience, for making this conference a success.

The Wisconsin Idea tells us that the University needs to be connected to real problems and issues faced by Wisconsinites as well as those beyond our physical borders, in the rest of the nation and indeed around the globe. It is our basic job description. As I look over the agenda I think we've put together a meeting that does meet the test of the Wisconsin Idea.

Two years ago we changed the name of our annual conference from the Wisconsin Housing Conference to the Wisconsin Real Estate and Economic Outlook Conference, to recognize the deep connections among housing, other kinds of real estate, and the economy in general.

Over the next few years, as Morris Davis provides the academic leadership for the Graaskamp Center and Mike Brennan leads our connection to the industry, I'll be spending part of my time to strengthen the focus of the Graaskamp Center on economic development.

Details will follow in the months ahead. Today I want to simply bring this effort, and indeed this conference, back to the touchstone of "sifting and winnowing" that is part of our inheritance from our intellectual and institutional forbearers, beginning with Richard Ely. Most of you have heard the phrase, and many of you have seen the plaque atop Bascom Hill, from a century ago:

Whatever may be the limitations which trammel inquiry elsewhere, we believe that the Great State University of Wisconsin should ever encourage that continual and fearless sifting and winnowing by which alone the truth can be found. Taken from a report of the Board of Regents. 1894 [slide of the plaque projected]

As many of you know, this quotation, famous on campus and off, came out of afierce debate about (of all things) unionization, in 1894. In brief, Ely supported unionization, and some of the Regents did not. They never, to my knowledge, reached agreement on the specific issue, but they did, in the end, establish a firm principle that at Wisconsin, people had a right to speak on different sides of important issues; a right to be heard; and that we owe those with whom we disagree, as well as those with whom we agree, a duty to listen.

To be clear, "sifting and winnowing," doesn't mean that every idea is equal; but rather that ideas should be heard, and examined on their merits, rigorously, rather than reflexively. As Daniel Moynihan famously put it some years ago, everyone is entitled to their own opinion, but not their own facts. Sifting and winnowing helps us establish the facts, and helps us form opinions that are grounded in those facts as well as our values.

Now, in light of the principle of sifting and winnowing, today we aim to have some constructive conversations about housing, real estate, and our state's economic development.

I'm a professor, and I do research on these subjects. But economic development is not simply an abstraction, or merely an academic subject. It touches all of our lives, and our children's lives. Economic development is not just about economics, not just how much stuff we can produce or buy. It's also about how well housed we are, whether we're educated to reach our full potential, how well we attend to our health. It even touches on our basic security, and at the national and global level, questions of war and peace.

The key to understanding economic development is to start by understanding there is no key to economic development. There is no silver bullet. Economic development is complicated.

Unfortunately we live in a world where simple solutions get the headlines. All too often, we talk past each other, cherry picking research and arguments that support our preconceived notions, and ignoring research that challenges our preconceptions. Psychologists call this confirmation bias, and it's a very powerful part of human nature. We're all subject to it. We have to fight it, every day. The best way to fight confirmation bias is to hold to rigorous standards of evidence, and hold your own opinions to the same standard to which you hold others.

For example, if you're a Republican, or a fiscal conservative of whatever persuasion, you might think state tax cuts are a silver bullet. It's important that you know about the substantial body of research that tells us simple tax differences between states explain virtually none of the variation in state economic performance.

To pick another example, if you're a Democrat, or someone who worries about providing enough resources to schools, you might think that more dollars to our schools, perhaps for smaller class sizes, are a silver bullet. It's important that you know that of a number of careful studies done on this issue, so far I've only found one that finds statistically significant relationships between class size and performance, and that only in a few grades. Most careful studies are unable to find a simple relationship.

I can list another dozen silver bullets that aren't really silver. School vouchers, charter schools, passenger rail, spending on roads, less regulation of business, more regulation of business.

It gets even more complicated here. None of these is a silver bullet. None, by itself, are magic beans that take us up the stalk to Economic Development Nirvana. Yet each of these ideas contains some germ of truth, or at least can help us think harder and better about what kinds of things are likely to work, and in what combination. Tax cuts can help if we find ways to preserve essential services while reducing taxes. As a society, we haven't had that conversation yet. Some charter schools, and some public schools, do work as advertised; we need to make sure we figure out why, and replicate and encourage them. As a society, we haven't had that conversation yet. It's not about how much regulation we have so much as what kind of regulation, how we make regulations and taxes and other government interventions smarter. As a society, we haven't had that conversation yet.

Recognizing that some of the best ideas will come from people with whom you disagree, is an important step towards making these true conversations, productive conversations. We need, as Ely and the 1894 Board of Regents taught us, to sift and winnow. Fight your confirmation bias; help me see mine, but in a constructive way. Don't paint yourself, or others, into corners. Determine the facts, and what works, without regard to ideology; and then act on it.

This is why we are here today. Join us in a day of sifting, of winnowing, of learning. Let's move these conversations forward today. Listen, as well as talk. Do recognize that, if we're honest and careful about it, sometimes we'll initially be uncomfortable with what we find. Challenge yourself as well as others. Let's move the conversation ahead, not only today, but over succeeding weeks and months and years. Let's get Wisconsin's economy, and our people, moving FORWARD.

On Wisconsin!

Congressman Ryan and I agree about three things

Much to my surprise, during our time on a panel together in Madison last Thursday, I found him to be less of an ideologue than I expected.  I will continue to disagree with him on a "premimum support" system to replace Medicare, and I don't think his budget adds up (he never says how he gets revenues to 19 percent of GDP or discretionary spending down from 12 percent to 3 percent).  Still:

(1) He and Julia Coronado (another economist on the panel) said that increased life expectancy meant that we should raise the retirement age for qualifying for social security.  I said I agreed except for the fact that simply raising the retirement age could be regressive, given that lower income people have shorter life expectancy.  Julia said this could be fixed with different indexing for different income levels.  Congressman Ryan suggested allowing blue collar workers, whose bodies take more punishment than those of us in cushier jobs, to retire earlier.  I was pleasantly surprised at this.

(2) I suggested that regulation should be based more on metrics than fiat.  In particular, I suggested robust a meaurable capital standards for banks, and Pigou taxes for banks as they increased in size.  He said he liked the idea of regulation based on metrics, and he did not agure my point about Pigou taxes.  He also went out of his way to note that large financial institutions have the ability to capture their regulators.

(3) We were all asked to name someone with whom we often disagree who has changed thier mind about something.  Congressman Ryan named Alice Rivlin.  I can thing of many worse people to name.

He was also extremely well prepared to answer questions spontaneously, and even cited academic studies to support some of his points. 

Wisconsin Governor Scott Walker's speech at the event, on the other hand, did nothing to improve my opinion of him. 

What are basic economic principles?

Whenever someone says that all policy problems can be solved by markets, they appeal to something they call "basic economic principles."

If one goes to the open course page for the intermediate micro course offered at MIT, one finds the following topics on the syllabus:

Consumer Theory
2	Choice, Preferences, Utility
3	Demand, Revealed Preferences, Comparative Statics
4	Consumer Surplus, Aggregation
5	Variations to the Basic Choice Model (Time, Uncertainty)
Producer Theory
6	Technology, Profit Maximization, Cost Minimization
7	Supply, Aggregation
Markets
8	Monopoly
9	Oligopoly and Game Theory
10	Walrasian Equilibrium
Market Failures
11	Externalities
12	Public Goods
13	Small Number of Agents, Nash Bargaining
Asymmetric Information
14	Adverse Selection, Moral Hazard, Principal-Agent Model
15	Auction Design
16	Voting and Other Applications

Six out of fifteen of topics (8-9, 11-14) are about ways the market can produce suboptimal outcomes.  These topics are not esoteric any more (they are showing up in intermediate courses), and they have rigorous economic theory behind them.  It was time we stopped using the phrase "basic economics" to refer to idealized market conditions that often do not exist.

A principle for deficit reduction

As I am preparing for a panel on the US budget I will be participating in on Thursday in Madison, a principle occurs to me.  Given that over the past 30 years the economy has disproportionately benefitted high income people far more than low income people, and holders of capital more than earners of wages, any deficit reduction proposal should be, on net, progressive, after considering both changes to the tax code and expenditures.  This is not easy to do analytically, and could still involve some sacrifice from most people, but it should at least be a point of departure.