Exasperated Calculator

Net Neutrality is one of the biggest hot button issues among the nerd illuminati of the Internet right now. The simple question is whether all internet bits are equal, or should ISPs be allowed to privilege some bits (from their customers or people who pay them) over others.

There are some side issues here, but a big part of it is peer to peer. Which brings me to this story from today that online video distributors can save a lot of money by using peer to peer protocols

In the example given, Democracy Now saves $1,000 (of a $1,200 bill) by using BitTorrent. My question is - who ends up paying that $1,000? If we assume (and it’s not a great assumption) that everything is competitive, then that $1,200 represents the cost of pushing that many bits to end users. If it goes down, then it must mean that $1,000 worth of bits are now being pushed by someone else - in this case, the upstream bandwidth from the users.

So who pays?

At first, probably the ISP of the end users. Their bandwidth out gets used up, costing them money.

They’ll pretty quickly pass that on to the end users. Which means they’ll increase prices for everyone.

So what’s DemocracyNow really doing here? They’re pushing the costs of distributing from themselves on to end users. Which, due to the way pricing is set up, will be borne equally by everyone, regardless of how interested they are. In fact, people who have no interest at all in the video probably end up paying for this too.

I’m not arguing against net neutrality - there are other reasons why it’s a good idea. This is probably more an example of how the pricing for internet access is set up wrong - flat rate charges create strange incentives across the Internet, not just for the end users.

But that $1,000 saving? That doesn’t exist. You’re just making other people pay it.

Just last week Electronic Arts offered $US 2 billion to purchase another publisher, Take-Two.

This is part of a continuing trend in the computer video game business, with the really big publishers consolidating. In some sense, this is a lot like the film business - the big studios make up a very substantial proportion of the total turnover of the industry.

But the big difference is with the next level down. In the film industry almost everyone is a contract player - directors, writers, and actors all move from studio to studio, only settling at one studio for the amount of time to make one or two projects. But in the games industry most of the ‘talent’ is permanently employed, staying with the company for many years.

This is odd - in many respects the requirements are the same. Video games are expensive undertakings these days - $10-20 million to produce, millions more to market and distribute. This is still well short of the cost of a major movie, but the gap is closing.

In fact, the structure of the video game industry looks a lot like the movie industry of the 1930s. The studio system lasted until the vertical integration of the industry was stopped and a single tycoon (Hughes) stepped in. At present, much like the 1930s film industry, the video game industry has a few stars (which, in this case, are the intellectual properties like Halo or Quake), and most people in the industry are relatively anonymous.

So what will change? My guess is that it will be the rise of the talent.

At present there isn’t a single famous video game writer, and only a couple of famous ‘directors’ (the analogy isn’t perfect, of course). In fact, if you look at the industry’s Game Developer’s Choice Awards the nominations for writing, art direction and so on only mention the game, not the actual writer!

That’s slowly changing. The enthusiast press has been paying attention to the project heads for a while, and is starting to pay a lot more attention to the writers as well.

Once people know the names, the names can ask for more money. A few people can do this now, but as the media pays more attention, more people will become famous (at least in the video game world), and they’ll start to move from project to project in search of better money.

And once that happens, then the game publishers are going to start to look a lot more like Hollywood - they own the IP for some of the series, and they bankroll the whole thing. But the people making the games aren’t usually tied to any one publisher, and they move around a lot more than is the case now.

And this will be a really good thing for games, because the best talent will be recognised appropriately, and the best projects will attract the best people.

Valleywag, before per-view incentives were provided to staff:

• 24-Hour Diners of San Francisco.

• Wozniak donates car to charity.

• Your online friends aren’t real.

[Valleywag], after (links are not safe for work…):

• How do I get a Stanford girl to *** me.

• Viagra ruined everything for Valley’s mistresses.

• Become her sugar daddy in 3 easy steps.

Any questions?

I was listening this morning to a recent episode of the great podcast Skepticality, and I was very struck by a question host Swoopy asked of interview-ee Michael Shermer, talking about his new book on economics and psychology:

What do we do [...] to make better rational choices and fewer emotional ones.

Dr Shermer gave a good answer about being aware of the tricks marketers play and the findings of economic psychology.

I have a slightly different answer: why should we?

There’s a lot of talk around (especially in the Australian media) about how experimental economics is showing “people aren’t rational”, of limits to rationality. Some of this is very good and interesting. Part of the problem is the word ‘rational’. When most economists use it they’re talking about a very narrow technical definition, that has little to do with the other dictionary meanings. That confuses a lot of people.

But there are also a lot of value judgements tied up in most people’s view of rational. For instance, I want to lose weight, but I also want to eat that chocolate bar. Is it ‘irrational’ if I do eat the chocolate bar? Of course not, it just reflects my preferences or discount rates at the time.

So, if our emotions would lead us to choose one thing, but the ‘rational’ choice is something else, is there any reason to think that it’s always better to choose ‘rationally’? Sometimes, sure. If it makes sense to go to another store for $50 off a $100 iPod, it also makes sense to do it for $50 off a $10,000 TV. But the chocolate bar is still a perfectly reasonable choice to make, even if it’s not what you’d choose from some other circumstance. Preferences don’t have to stand still all the time for people to be rational.

A particularly annoying species of headline writer has been out and about lately. That’s the one who likes to write headlines like:

Stock market loses $10 billion.

Grrr!

It’s silly, lazy journalism. The economy hasn’t ‘lost’ any money. Any losses are either purely theoretical (gains that were never realised), or are offset by the gains of some other party. Sure, some people may have a share portfolio worth a bit less today, but it still owns the same share of the same companies, with the same capital and assets. The market has just decided it’s worth a little bit less now.

No money has gone missing - bank accounts are just the same, other than the people who had to cover their margin calls. But all that money just went straight back into someone else’s bank account.

The reason this is bad journalism is that it distracts us from the real story. People think ‘oh no, a lot of money has been lost’. But really there’s nothing bad about that in itself. The real question is why the stock market went down.

And because the answer for that is mainly ‘fears of a US recession’, that’s bad news for everyone. Telling a story about the massive losses on the stock market creates an illusion that it’s just a problem for ‘rich people’. But the underlying causes of the fall might be a problem for everyone.

In case you hadn’t noticed, the TV and film writers in the US are on strike. It’s been about 9 weeks now since they went on strike in November.

The economics side of this is the question of ‘why’? The standard theory suggests that you should never see strikes, because the simple threat of one should be all that the unions need in order to achieve the best outcome they could. What this ignores is the problem of asymmetric information - not everyone knows the same pieces of information, and some (like how committed the membership of the union is to the strike) are very hard for any side to know perfectly.

But even given that history, strikes in Hollywood tend to be long and vicious. I think that’s probably because the studios can stockpile a lot of finished product, especially in film, and that protects them from the immediate economic consequences. It’s probably also because the personality factors are going to be exaggerated in the environment they all live and work in.

So what are they fighting for?

They’re ultimately fighting over who gets a piece of the pie, and who gets to be treated as a hired player. There’s a strange line drawn in business between the people who are entitled to a share of the profits they create (authors, hedge fund managers), and those who are simple employees who have no rights to a share of profits.

Writers are currently in the first group, getting a (small) share of the profits that come from DVD, video and TV screenings of the things they write. The studios would like to put them into the first group.

Who’s right? It’s hard to say.

The best economic answer to the question of whether you should get a share comes down to bargaining power, and in particular of whether your characteristics (be they creative or simple marquee value) will boost the project more than the next available worker. In Hollywood some writers clearly have that cachet, and some do not. But they all bargain together, and so the value of the top writers gets pushed down to the whole pool to some extent.

So the pure answer would be ‘if they’ll give it to you, then you deserve it’.

Hence the strike.

I just wish they’d get back to it. I’m starting to miss TV, and I’ve finished half my computer game pile…

You know what phrase is most likely to scare an economist? “I’m an engineer, and have some thoughts about economics”. Something in the training of engineers seems to make them think that they can apply their knowledge to a completely different field.

A prime example from the National Review talking about the falling dollar.

After constructing a lovely straw man (go marvel at the craftsmanship!) this engineer starts in:

Economic transactions involve the exchange of “something” for “money.” The “something” is specified in terms of number (1, 2, 3, etc.); length/area/volume (“the foot”); weight (“the pound”); and/or time (“the second”). “Money” is specified in terms of “the dollar.”

This is quite simply completely and utterly wrong. There is nothing in all of economics that requires money to be part of a transaction. Economics says that two parties will engage in a transaction when they both receive something of value to them. Back in the days before currency, perhaps I’d trade two pigs to you for a cow. I’m only willing to accept the cow in exchange for the pigs because it has value. So the setup is wrong here from the start: it’s not “something” and “money”, it’s “value” and “value” - the trade is symmetrical.

The problem with this scheme is that the magnitude of our fundamental unit of market value, “the dollar,” is not defined. Being undefined, the value of the dollar can change. This fact gives rise to huge economic costs and risks for which there are no offsetting benefits.

This is true. But I don’t trade money with you because I have an intrinsic value of money. I trade money for goods because I value money. Why value money? Because other people also value money and will trade me goods for it in return.

There’s a kind of collective illusion going on here. It only works because we all sit down and agree that it will work. There’s no guarantee that it will, but somehow our collective delusion holds. We could go back to exchanging everything in barter, but that would cost us a lot of time and effort.

Can the value of the dollar change? Sure, it might. And in the past it has. That’s why we need a system to stabilise inflation.

Rather than being rigorously defined like all other units of measurement, the value of the dollar is left to the market. This is an extraordinarily strange way to determine the magnitude of a basic unit. For one thing, the absolute magnitude of a fundamental unit doesn’t matter — what matters is that it be precisely defined and unchanging. The market also has absolutely no way of determining what the value of a unit “should” be, whether that unit is the foot or the dollar.

Here’s where we see the logical fallacy at full flight. There’s a desire for a nice, absolute resting point - some central value that is determined. But it can’t ever happen. We trade things because we value them. But we’re also human and unique - why should I value anything the same amount as you? And if money is simply a medium ultimately used for buying goods of value, then why on earth should money have any kind of intrinsic value at all?

(Economists who’ve dealt with engineers of this ilk already know where this one’s going at this point).

Having had the job of determining the value of the dollar thrust upon it, the market does the best it can. Moment by moment it equilibrates the supply of dollars and the demand for dollars at some market value. This market value is reflected in the price of gold.

Ah ha! And here we are, another gold bug. Told you the economists could read this play a mile off.

This is really simple to answer: why on earth would gold hold any kind of intrinsic value at all? It’s not that useful a metal, really. It’s not clear how much there is, but there certainly isn’t a fixed supply yet because we haven’t finished digging it all out of the ground. Sure it’s shiny, but plenty of things are shiny. So why gold?

What’s that you say?

Because other people value it too?

Simply put, there is almost no difference between so called ‘fiat’ currency and gold backed currency. There are a few technical points relating mainly to international trade and monetary policy, but in terms of day to day use nothing at all.

And what about the mighty Federal Reserve? Well, the Fed could exercise absolute control over the value of the dollar since it controls the supply of dollars. The Fed has the power to vary the size of the monetary base from zero to infinity. Given this, the Fed has the power to fix the dollar’s value (in terms of gold or anything else) at any level it chooses.

However, the Fed doesn’t do this. Instead, it exerts a vague influence over the size of the monetary base by targeting the federal funds rate.

Now isn’t the time to explain about open market operations, and the way monetary policy works. It’s pretty technical, and not for the non-specialist really. But this is exactly wrong: by changing the interest rate the bank is changing the money supply. It’s just doing it in a fashion that more directly controls the reaction.

A simple analogy might explain: if you wanted to increase the price of some good by 10 per cent, what would you do? Would you reduce the supply of that good until the price went up, or would you just increase the price?

That is, the Fed creates money in response to demand for short-term capital. Given that one use for short-term capital is commodity speculation, and given that commodity speculation is one way to profit from inflation, the Fed is operating a system that is designed to respond to inflation by creating more money.

Such a system exhibits “positive feedback” (like a nuclear reactor) and is dangerous.

We’re now reaching the territory where the lack of knowledge of economics and financial markets is making this very very difficult to understand. While I’m prepared to be corrected by someone with better knowledge of financial markets than me, this appears to be pure gibberish. The federal reserve isn’t doing anything in response to demand for short-term capital - it’s acting in response to unemployment and inflation rates.

Nonetheless, the real problem is the confusion about the fed’s role: the fed does not just reduce inflation, sometimes it wants to increase it. A bit of inflation is a good thing in an economy (just look at what happened in Japan with some deflation).

I think he might be referring to the recent credit crunch, in which case what the Fed was doing wasn’t really increasing the money supply per se, so much as replacing some of the money supply that had disappeared off to non-liquid sources. If they hadn’t acted the money supply would have shrunk, raising interest rates and reducing economic activity. They were just trying to keep things as they were, more or less.

Why would the Fed employ a monetary-control approach that is both indeterminate and dangerous? I believe the underlying problem is an intellectual confusion between “money” and “capital.”

The irony of accusing the Fed of “intellectual confusion” here had me laughing for about five minutes.

Anyway, I’ll skip a few more paragraphs of deep confusion to get to the funniest bits of this article.

A logical definition of the dollar might be “equal in market value to one five-hundredths of an ounce of gold.” The value of all the dollars in the U.S. monetary base would then be maintained by having the Fed’s open-market operations target the price of gold to keep it near $500 per ounce. Because the real market value of gold cannot run away to zero or infinity, the new monetary control system would be determinate and stable.

What I am describing is not a classic “gold standard.” Back then, gold was the monetary base. Instead, the monetary base would be the same “fiat” currency that we have now. Banks would maintain the value of their dollars the way they do now — by redeeming them with the dollars of the monetary base upon demand.

Oh boy.

OK, firstly: “not a classic gold standard”? Rubbish. This is the gold standard with a silly hat. If your dollar is worth 1/500th of an ounce of gold, then it doesn’t really matter if you go to a jeweller rather than a bank to get the 1/500th of an ounce, it’s still a fixed currency. Sure it’s not backed by gold, but the economic effect is exactly the same.

But what’s wrong with this solution? Well, the same problem any fixed currency has, it’s vulnerable to speculative attack. So what would you do? Well, you might continually buy gold to try and force the price up. The Fed would have to sell to you in order to meet its mandate. But the Fed doesn’t have an infinite amount of gold - sooner or later they’ll run out, the price of gold will go up, and confidence in the currency will collapse.

This relates to the earlier suggestion that ‘money supply would be irrelevant’: if there’s more money than gold, then the currency will collapse. So no free banking, no infinite money supply. Too much money and the economy could collapse.

That’s not going to help keep interest rates low, by the way.

This new system would not be concerned with the federal deficit or the U.S. trade deficit. These relate to capital, and capital is not money. Similarly, the system would not be concerned with interest rates, which represent the cost of capital, not money. (As an aside, if the dollar were as stable as the foot, interest rates would be very low.) There would still be a role for the Fed as “lender of last resort,” but this would be a “banking” function separate from monetary control.

Interest rates are the cost of capital, not money???

Just in case you had any lingering thoughts this guy knew what he was talking about, there’s this gem.

Of course interest rates are the cost of money. If I spend money, I’m foregoing the interest on it. There is no definition of cost that can possibly mean that interest rates are not the cost of money.

The distinction between “money” and “capital” here isn’t that silly - but the idea of a ‘cost of capital’ is. There’s a cost for how much money you had to borrow to build the capital. And there’s a return on the capital. In an equilibrium, both of those are equal to the interest rate. The ‘cost of capital’ in economics normally means the cost of building an office block, or making an assembly line.

So, to summarise: this guy is a complete idiot with no understanding of economics whatsoever, or the role of monetary policy. His proposed solution would create massive problems and remove one of the most important arms of economic policy.

That conclusion would be obvious to anyone with first year training in economics. And even if it wasn’t, you might think twice when you realise that everyone with a background disagrees with you (including, by the way, many engineers with actual training in economics).

But for some reason a few engineers seem immune to the kind of self analysis required to actually think that it’s possibly that they’re wrong, and maybe the experts are right. And I don’t know why, but it’s only engineers.

Wait, he’s not done?

Fixed exchange rates between the dollar and (say) the euro are just as desirable as between the foot and the meter. The belief that “floating” exchange rates are needed to deal with trade imbalances between nations represents more intellectual confusion between money and capital.

!

Wow. Now I need to explain international trade, capital accounts, and the role of the exchange rate?

Nah, too tired for that. This article is already over two thousand words long.

If you want real prosperity, give monetary control to the engineers.

Or, rather, if you’d like to screw the economy, create a massive recession and destroy large parts of the economy, let an engineer look after things. Alternatively, stick with the remarkably effective monetary policy system that has created almost two decades of prosperity and stability in the developed world unmatched in all of history.

As the new financial year rolls around, I’m giving some thought as to how invest my money. I’ve got a mortgage, which means that my investment portfolio (such as it is) is pretty heavily weighted towards property. So I’d ideally like to put some money into the stock market.

As I see it, I’ve got three options:

1. Put my money into shares directly.

2. Put my money into a mutual fund.

3. Put my money into an index fund.

The first option isn’t that attractive for a couple of reasons. Firstly, I don’t have that much to invest, so I won’t be able to get many stocks. So I’d have to be lucky (DJS, I’m looking at you here) to get decent returns at all.

The mutual fund option looks a bit better. There are a lot of options, and I’d be able to invest only a small amount of money at first. But there are two big draw backs:

• Decent ‘actively managed’ funds charge very high fees, and even then often require large entrance costs. Which means I’d be stuck with the lower tier of funds.

• Even the good managed funds can’t beat the market: the evidence suggests that pretty much no firms are able to consistently provide higher returns than the market index (e.g. S&P ASX 200). For instance, see Malkiel (1995).

(The other smaller problem is that almost all of them invest in property to some degree, and I don’t want more property investment in my portfolio)

So that pretty much leaves me inexorably with an index fund. An index fund takes shares that give the same return as an index like the ASX200 (usually a pretty substantial subset o the whole index). So by definition the return on the fund is the same as the market. And as an added bonus, index funds tend to be really cheap: about 1% cost of management, compared to over 4% for some mutual funds.

This is pretty much the advice of experienced market analyst Henry Blodget too, who’s written a great book on share investing. I just need to get a copy rather than just reading the free excerpts…

From RiotACT I found this web page calling for action on parking:

The purpose of this website is to channel our frustration with the parking situation into change. Let’s stop whinging to our co-workers and tell someone who has to care - the Government. What we propose is not unreasonable, but the recommendations are designed to fix an unreasonable system.

Specifically, the site mentions or complains about:

Excessive and unfair fines

Limits and No Parking zones

It’s not “just $70″.

The first big problem I have with the site is that it talks about a set of recommendations they want to make to Government, without ever showing these anywhere. I’m not keen on signing a petition without any details of what I’m signing.

But, more broadly, what’s the problem here, and how will the things they seem to be proposing help?

The main complaint is about lack of parking. Now most non-economists probably think this is just a supply issue. But economic tells us that there are two halves to every market: supply and demand. If there aren’t enough spaces to park in, then that’s a result of supply being greater than demand.

The simplest answer is to build more carparks, but there are a couple of arguments against that. Firstly, it’s not always easy to build the carpark near where people want to go. Think about the CBD of any city: where would you put the extra car parks? Cars take up a lot of space, especially the 4WD behemoths. Secondly (and reluctantly), maybe it’s not the greatest idea in the world to encourage more people to drive everywhere. There are congestion and environmental arguments in favour of rationing car parking.

If increasing supply isn’t the answer, then you can address demand. The simplest way to reduce demand for parking is to charge more for it. Anyone from Sydney or Melbourne knows how cheap Canberra parking is, even in Civic.

Fair Parking Canberra notes the government is building more sites, but calls for a few things. Firstly, different fines depending on how long you’ve overstayed your parking. Secondly, change some existing no parking zones and one hour zones into four hour zones (presumably so you can go move your car at lunchtime…). And thirdly, lower prices for parking and parking fines.

So what will these do?

What about making some one hour spaces into four hour spaces? (I’m going to ignore the stupid idea of getting rid of no parking areas. Those lines are normally drawn with regard to public safety or access) Think about a one hour space. In a normal day, 8 cars can park there. Change it to a four hour space, and only 2 can. Even if you argue that the majority of people are looking for 8 hours worth, so long as there are substantial numbers of people who don’t you’ve just reduced the supply of parking. Good for people who get there early, terrible for everyone else. Bad, bad idea.

What about changing the fines? A little bit of law and economics will come in handy here. Say you park illegally, how much do you expect to pay?

E(F) = p * F

WHere p is the probability of being caught, and F is the fine. In order to ensure people follow the law, we need to make:

E(F) > L

Where L is the price of legal parking. The fine is $70, and the probability of being caught appears to be around 1 in 7 (based on the experience of people around work who accidentally stay in a 2-hour space too long). So the expected fine is about $10. Probably enough to discourage people from parking illegally.

But if we lower the fine, then more people are going to park illegally. We’ve effectively reduced the ‘price’ of overstaying in a parking spot. Which means that the supply of available parking is going to shrink.

And what about charging based on how long you’ve overstayed? Well, firstly you can’t do that for any of the free car spots, because you never know how long you’ve been there. The way the parking inspectors work, they often can’t tell if you’ve overstayed one minute, or four hours. So this only works for pay-and-display car parks (as pay-on-exit obviously doesn’t apply). It’s not a terrible idea in that context, but the extra complexity (both legal and administrative) would make it hard to implement.

‘Fixing’ parking isn’t hard. Charge more for it. People won’t like it, especially those who would prefer to always park for free (the subtext I read into the Fair Parking site). But it will fix the problem.

By way of disclaimer, I should note that my workplace has free parking. And I hate it! It’s impossible to get a park after around 9:30am, which makes it very hard to sleep in, or to run out for an errand during the day. I really wish that we could introduce pay parking, because it would reduce the demand.

As a Commonwealth Public Servant I’m lucky enough to be in the Public Service Superannuation defined benefit scheme. Back when I joined the Public Service this was a really nice scheme. You get a (generous) defined benefit linked to your final salary in the public service, and you get a big contribution from your employer. On the downside, it’s not very flexible and it’s really only for pension (rather than lump sum) benefits. You can get a lump sum, but it’s a bad deal compared to the pension. And the big deal is there’s a maximum benefit limit.

In the past I would have liked to put a lot of money into the PSS, but the maximum benefit limit meant (assuming I have a full career in the APS) that I would reach the maximum benefit while putting in close to the minimum contribution.

Then, last Budget, the Government announced some changes to the way that private superannuation is taxed. In short, while earnings still get taxed at a 15% rate, contributions and payments do not. So now other superannuation (especially Self-Managed Super Funds) look more attractive. How much more attractive than the PSS? Well, I never really worked it out because I any increase in super would have to go into another fund.

Which brings us to this Budget, and the announcement that the Maximum Benefit Limit for the PSS would be raised. Not massively, but enough that I can make some additional contributions now. Which brings me to today’s question - if I have some money to contribute, should I put it into the PSS or a self-mananged fund?

To start with, let’s suppose that I’m going to contribute an amount equal to 2% of my salary extra to the PSS. Under the rules, this means that the Government will match that, increasing my benefits by 4% of my salary. Why am I talking in terms of a percentage of my salary? Because that’s how PSS benefits are set, based on a percentage of your final salary. And ‘buying’ one per cent of my final salary costs one per cent of your current salary. This contribution comes out of my after-tax salary, so I need to gross this up for the before-tax cost.

To work out what this is worth in 35 years when I retire, I need to assume a rate of wages growth, we’ll say 4%. And inflation of 2.5%. Put this all together, and the real average annual return is 1.9 per cent per annum. But the PSS also lets you buy an actuarially “cheap” pension, so this needs to be grossed up by 15% to get a fair value, to give you a real average annual return of 2.3%.

So what about putting the money into a self-managed fund?

Firstly, you can salary-package your contribution, allowing you to contribute out of before-tax income. We’ll assume the contribution is the same amount as the PSS in terms of before-tax cost. This contribution then gets taxed at 15% as income of the Super fund. From then on, the earnings of the super fund are taxed at 15%, and you’ll also pay some management cost (let’s assume 1% of funds under management). If you assume that the return on funds invested is 7%, then you’ll get a real average annual return of 1.9%.

So it looks like the PSS is the better bet. BUT - you’ll pay tax on the pension from the PSS, but not on the payment from the self-managed fund. There’s a rebate of 10%, but you’ll still pay income tax. Put all this together, and what do you get? Well, I think the self-managed fund gives you about a 20% higher return than the PSS. But if the stock market had returned 6 per cent rather than 7 per cent, then the PSS would be about 5% better. And if your wages grew at 5% rather than 4% (say you expected a few promotions between now and then), then the PSS would be 10% better with a 7% stock market return, and 32% better with a 6% stock market return. Here’s a summary table, showing the self-managed fund return compared to the PSS:

So the conclusion is that I’m going to need a more sophisticated model, because it sounds like this is a decision that depends pretty dramatically on the assumptions that you make.

(Disclaimer: This does not constitute financial advice. Individual circumstances vary. Consult a financial advisor. If you believe me without getting this checked you’re on your own!)

This website is now proudly carbon neutral.

Except…

I have to admit that I’ve got some real concerns about the way the current carbon offset thing is going, especially the recent trend towards carbon neutral everything. It’s starting to appear absolutely everywhere - a friend of mine recently had a carbon neutral wedding, and even got featured in the paper for it.

The market is still pretty new, and there’s a lot of dodgy dealers out there - people selling things that don’t have any interaction with carbon emitting industries. So you have to be fairly careful with what you buy right now.

But, leaving that problem aside, does this work? Let’s look at an extreme case, to help inform us in the analysis (this is inspired by some analysis from Tyler Cowen). So suppose that everyone in a town does this.

Company A provides electricity to the town, charging a price that maximises their profit (they are, after all, a monopoly). The plant was well planned, so sells all 100 units it can produce.

Then, all of a sudden, An Inconvenient Truth starts playing at the local cinema, and a wave of green enthusiasm strikes. Everyone in town then buys carbon credits from Company B. Company B is obtaining these credits from the emissions market (for the sake of argument, let’s say it’s purchasing them from an aluminum producer that’s shutting down).

From the individuals perspective they’re now paying more for every unit of electriciy, as they’ve internalised the carbon production externality. As a result, at the prevailing price they’ll start to consume less electricity. Let’s say they start consuming 80 units. To use slightly more technical economics jargon, their demand curve shifts left.

This isn’t good news for Company A. They’re capital intensive (as all electricity production is), and the sudden excess capacity means that part of their plant is no longer making the return they once expected. Now they could shut down part of the plant, and reduce emissions, but this would result in a substantial loss in the value of their capital. Alternatively, they could lower their price a bit and try to encourage the consumers in town to expand consumption to 100 units again.

Now, the world is certainly better off - the aluminum plant shut down, so emissions are less. But the town is still consuming the same amount of power as before!

But compare this to the world where Company A has to pay for the carbon it emits. Now, the outcome in the short run will be the same, in terms of price and quantity. But because the cost of carbon is internal to the company, they’ll have a much greater incentive to invest in more carbon efficient means of producing electricity. In the world where everyone buys offsets, the incentive to invest in cleaner technology is much less, as there wouldn’t be a direct reduction in cost, just a potential increase in demand.

Overall, I think that the carbon neutral thing is good. As consumers adjust to a price that better reflects the true costs of production, it’ll be easier to introduce changes in policy that better encourage emission reductions. But they aren’t a good way to do this forever, because the direct emitters of carbon need to be facing the price, or the system just isn’t going to induce the kinds of changes in behavior that are needed.

So we certainly shouldn’t mistake it for a solution to the carbon problems the world is facing. So I worry that ‘easy answers’ like carbon neutral websites, weddings or cars will just make people too complacent, and make it that much harder to push for the kinds of more fundamental changes that might prove needed.

(As a footnote, I should point out that I’m not paying a penny to make this site carbon neutral, my ISP has done it as part of my overall hosting without raising my price at all. Pretty close to a free lunch…)

Dean Baker makes an excellent point about a lot of rhetoric in free trade discussions:

It is positively bizarre how discussions of trade liberalization always ignore the possibility of liberalizing trade in highly paid professional services.

I agree with this strongly - but the problem in this area is so severe that even thinking about free trade is a long way away. We don’t even have free markets in this area. Many professions (doctors and lawyers most famously) have very strict rules that prevent anyone who is not licensed from practicing. Now this probably seems like a very good idea - who would really let an unlicensed doctor treat them?

Well, the answer seems to be lots of people: alternative medicine practitioners (whatever opinion I might have of how well those treatments work) are very popular. But they are hamstrung by the rules on medical practice in many ways. I can make a good argument that these rules help people by saving them from themselves. But that kind of argument always makes the economic rationalist part of me pretty uncomfortable.

But even worse than restricting the right to practice, the licensing in many of these professions is actually in the hands of some professional association, rather than the government. Even if you can get the economic rationalists to agree that licensing might be a good idea, it’d be hard to convince any economist that letting the professional association manage things with only light government oversight is a good idea. As Adam Smith said in 1776:

People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public, or in some contrivance to raise prices.

The professions is an area where a lot of reform is possible. It’s also extremely unlikely to ever happen, for obvious political reasons.

(By the way, I’d just like to endorse Dean Baker’s oft made point about the strange way media groups always call trade agreements ‘free trade agreements’, even if there’s nothing free about them)

I just finished reading a couple of books on the share market, in particular about the early 2000s frauds by Worldcom and Enron: A Mathematician Plays the Stock Market and The Smartest Guys in the Room.

The question that struck me while reading the books (particularly the Enron one) was whether or not I would have bought those shares, and got caught up in the same collapse. What was it about the Enron shares that ’smelled’ before the big collapse became inevitable.

This isn’t really a question about making money in the short run, but rather about whether or not a company’s business is “real”, and there for the long run. In the short run, all kinds of silly things can make money, so long as you sell in time. But in the long run, there has to be a real business behind the company.

Enron, as far as I can tell, was a company where the fundamental ‘real’ business was pretty non-existent, or was losing a lot of money because they weren’t charging enough. A lot of the gains were coming from mark-to-market accounting (taking the entire profits of a 20-year deal as soon as it was signed), or the trading operations (which were good, but a very volatile business). As far as I can tell the actual fraud was a fairly small part of the problem, really only delaying the final end of the company by a few quarters.

Paying attention to the actual cash flow, rather than just the reported profits, would probably have helped spot the problems early (as, indeed, it did for some), but I suspect that this rule would be too strict - you’d tend to eliminate some companies that do have a good business, just not a lot of cash.

I have a few personal rules of thumb for my own (hypothetical, so far) share purchases:

• Focus on businesses that supply some bit of GDP that is clearly identifiable.

• Avoid businesses that depend on Government decisions for their profitability: health insurance, airlines, and so on.

• Make sure that the price to earnings ratio isn’t too wacky (normally a good sign that there’s speculation, or some kind of other problem, going on).

• Understand the actual business of the company (where does it make its money from), as opposed to what they say the rules are.

By this basis, Enron would have thrown up red flags on at least two, maybe all four, if I’d looked into it enough.

Which I suppose is the real lesson - if you’re going to invest in a company, you should understand it in a lot of detail, because otherwise you’re at a lot of risk.

Recently saw this post on Boing Boing about virtual economics. Cory Doctorow’s take on the inflation endemic to these games:

I think that this has profound implications for in-game democracy — democracy requires that you play together for a long time, in order to establish civil society. But inflation is such a fixture in virtual worlds that they are necessarily short-lived — only by beating inflation can games sustain themselves.

Cory is right, I think: dealing with these things is an essential step for the kind of virtual world that Second Life wants to create. I suspect that World of Warcraft (where the main focus) is not really the economic parts of the world) doesn’t need to worry so much.

The simplest economic theory for inflation is the quantity theory of money. In simple terms, we can say that:

M . V = P . Q

where M is the total money supply, and V is the velocity of money (how quickly money changes hands), P is the price level and Q is the number of ‘things’ in the economy. So what causes inflation (that is, changes in P)?

Change in P = Change in M + Change in V - Change in Q

(Strictly that’s in log change terms, but just think of it as percentage changes)

So the simplest version of inflation is that it happens when growth in the money supply outpaces growth in output in the virtual economy.

How do virtual worlds generally try to control things? Well, there are some significant problems to do with growth in the money supply, because there are lots of in-game tasks that create money. In Second Life, for instance, many players get a weekly allowance from the system, all of which is new money. Most of the systems involve ’sinks’ that remove money from the game, which are adjusted to try and keep the system in balance.

But what would we call this system if it happened in real life? Well, the government of the system is printing money to finance welfare payments. Inflation isn’t really a surprise.

Can we use this real life analogy to inform the system design? How could they get inflation under control?

First, the government could run a balanced budget. The taxation in these systems is pretty implicit, making it explicit would allow a proper government budget to be produced. Then welfare payments could be balanced against income. I suspect that the system most games use is actually pretty close to this, but the democracy element that Cory suggests would really require that this power be taken out of the ‘god’ of the system and placed in the hands of some explicit government within the system.

Secondly, an independent monetary authority or central bank could play a part. Real world countries rely on monetary policy to control inflation, through setting a price on money. It’s not as clear to me that this could work in a virtual setting. In particular, in the absence of a functioning credit market it’s hard to see how the normal monetary transition channels could work.

(Setting up a banking or credit system in a virtual economy wouldn’t be that hard. The tricky part is distinguishing it from a Ponzi scheme).

All of this is just a long way to say that so long as the key government functions, such as welfare, taxation and control of the money supply, are in the hands of the ‘god’ of the system, then democracy in virtual worlds is probably going to have a hard time getting started. What’s needed is a virtual world that hands over more of the control of these types of levers to the players through the form of some kind of government.

So in actual fact, the elements that Cory suggest need to be solved to create a virtual democracy are actually some of the things that might help such a virtual democracy grow.

But until then, Second Life and its friends look to just be a bunch of hype to me.

1976 isn’t just the year of my birth (epoch making an event that may be). It was also the year of a fairly interesting economic policy showdown in Australia. This has been prompted by the release of the 1976 Cabinet Papers as well as some recent commentary by John Stone. This is going to be a fairly long post, so it’ll be continued over the page, to keep the important musings about movies and Lego where they belong.

Read the rest of this entry »

Search engine turned portal-omnivore Google has a reputation as being an ethical company. The informal corporate motto is “Don’t Be Evil”. But two stories today have made me start to wonder if maybe the ‘magic of the market’ has done its bit, and Google is starting to behave like pretty much any old monopolist.

First, Jeremy Zawodny spots Google stealing some content:

[T]hey decided to basically copy our page and slightly Googlify it. If you look, the design, layout, and most of the text are the same!

And then Tech Crunch reports on Google’s move into radio ads, and the hurt feelings at a competitor:

He [Voices.com CEO David Ciccarelli] claims the Google ad product is nearly identical, although he hasn’t seen it yet and has nothing to go on but the CNET quote above. But he also says that for the last couple of months traffic to the site from Mountain View (where Google is headquartered) has gone through the roof, accounting for about 5% of total voices.com traffic. He’s suggesting that Google has scoured the voices.com site to figure out what to copy in the Voices.com business model.

Neither of these two stories by themselves is very remarkable. Web designs get copied all the time, and it’s very unlikely this was the deliberate decision of any of the senior executives (like Microsoft’s recent embarrassment is likely just one rogue designer). And it’s a rough business out there, but competition is fair game. Just because you got there first doesn’t mean you own the land (AltaVista, anyone?).

But together these stories give a sleazy feel that goes against the image Google has been trying to paint. It looks like the company is getting a bit too big to control, the feature sprawl is getting a bit too broad to be properly policed, and the quality is suffering as diminishing returns set in on the staff.

So what’s going on here?

Google is a really good search engine, but nothing else it’s done has really impressed me except email. Google ‘gets’ search, and has come up with some good advertising solutions. The other businesses seem to be attempts to create greater traffic to their site, and to create new revenue streams that are increasingly far removed from their core business of web search.

None of the core search engine business really justify the price to earnings ratio the stock price implies at the moment: 53.1, compared to a ’sane’ figure of around 15-20. That kind of share price suggests that investors are expecting massive growth in future earnings. Given that Google is at maturity in the search engine business (with little market share left to take), that growth can only come adding new businesses to Google. Or, to put it another way, investors are implicitly expecting earnings to quadruple, which even YouTube isn’t going to do on its own.

So this makes Google a shark: it can’t stop swimming, or it’ll die. Every month Google needs to be doing something that expands its business, makes its revenues larger, and makes the investors confident that it’ll keep growing. As soon as they stop swimming, the share price is going to take a sharp, dramatic dive.

But sharks can’t stop to be nice. Google can’t afford to be “not evil” now, if being “not evil” causes it to lose any of these opportunities to expand revenue. The wedge will be thin at first, with these kind of mild, almost unnoticeable offences. But they have to grow over time, the imperative of the stock market (and the insane valuation of Google) demands it.

It’s a bit sad really, and it would’ve been nice if Google hadn’t become the single-stock manifestation of the bad-old-days of the late 1990s tech boom, but it’s pretty inevitable now. We can just hope that a pretty good search engine sticks around once all the dust has settled.

So which special occasions do we (well, the US) spend the most money on? The National Retail Federation has the breakdown (via Snopes):

1. Christmas (’winter holidays’): $438.6 billion.
2. Back to school: $54.2 billion.
3. Mother’s day: $13.8 billion.
4. Valentine’s day: $13.7 billion.
5. Easter: $12.6 billion.
6. Father’s day: $9.0 billion.
7. Super Bowl: $5.3 billion.
8. Halloween: $5.0 billion.
9. St Patrick’s day: $2.7 billion.

A few surprises there. Firstly, why so much on Easter? Mother’s day and Valentine’s day are both going to have a lot of gift giving in there. Are there social/religious groups that give out presents at Easter? And secondly, clearly fathers are getting the raw deal, with a $4.8 billion shortfall! (Although you could argue that it still doesn’t make up for the $5.3 billion on the Super Bowl).

Finally: St Patrick’s day, $2.7 billion? That’s enough to buy about 3,070,000,000 litres of beer, or around 10 litres for every man, woman and child in the US. Good going!

(Although that’s American beer, so it would have the alcohol content of about 3 Australian beers…)

The PNG Department of Treasury has some positions vacant. From the list:

Assistant Secretary(GEP) K31,289 plus other allowances

Or about $16,000 Australian. I don’t think I’ll apply…

(Of course, that’s about 18 times PNG’s GDP per capita, while I only earn a bit over two times Australian GDP per capita).

Via Marginal Revolution is this neat map of Starbucks and McDonalds’ global reach..

The thing does raise a bit of a rant in me. The chart shows McDonalds as having global sales of $41 billion, which is compared to the GDP of Afghanistan ($21 billion). The message from this is meant to be ‘Wow, McDonalds is twice as big as Afghanistan’. The only problem is that it’s just not true!

GDP is measured in ‘value added’ terms. Only new economic activity is counted. In particular, the cost of inputs (such as burgers, buns and fries) is not counted. So for a company like McDonalds it’s ‘GDP’ is actually equal to its profit on goods sold plus wages and salaries paid to employees, which would be far less than their total sales.

What’s my point? My point is that the world economy is almost incomprehensibly huge, and that even gigantic, omni-present companies such as McDonalds are only a tiny, tiny part of it. Misleading comparisons, such as comparing total sales revenue to GDP figures, takes away some of that sense of scale.

(As an aside, you can calculate a very rough ’sales’ figure for an economy, using the input-output tables that are occasionally published in the National Accounts. In 2001-02, the most recent figures, Australia had a GDP of $890 billion, but had total supplies (’sales’) of $2,457 billion.)

From the Los Angeles Times:

Bird flu has killed 134 people around the world, sickened hundreds more and forced the culling of millions of poultry from Vietnam to Nigeria. Now it is smashing the world of badminton.

Which, of course, is why it’s usually a fools errand to try and forecast these second round impacts too closely.

(via Digg).