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How some economists think
24 January 2008
How some economists think
by
Danny Quah
Economics Department, LSE
24 January 2008
This presentation is
NOT about oral sex*
* apologies to The Undercover Economist
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Where economists begin
You react to pain and to pleasure
You can’t live beyond your means…
y … forever
OR
1. People respond to incentives,
purposefully
2. Budget constraints matter
3. People take interactions and the future
into account
y
y
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How some economists think
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... towards:
y
Behaviour isn’t random but instead
explicable and predictable
◦ The “economics of everything”
Financial markets, labour markets,
information markets, … markets for all
kinds of goods and services
y Game theory
y Economic growth and income distribution
y
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Our interest is in outcomes
A famous writer and his fundamental
question of economics:
“Why do some places prosper and thrive…
y
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Our interest is in outcomes
A famous writer and his fundamental
question of economics:
“Why do some places prosper and thrive…
… while others just suck?
suck?”
y
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How some economists think
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Tradeoffs
1.
2.
3.
4.
5.
“Do good in the world by doing well for
yourself” Adam Smith and markets:
Social gain aligned with individual
incentive
Virtual and illusory
Substantive but not what many might
think
Substantive and hard
Substantive and hard… to quantify
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5. Substantive and hard to quantify
(1)
y
Moral hazard: Greenspan put
◦ Ex post vs. ex ante: Government bailout to
keep financial market turmoil from harming
broader economy
◦ Allowing innovation vs. curbing excessive risktaking
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5. Substantive and hard to quantify
(2)
y
Global warming
1. Greenhouse gases cause global warming
2. Global warming has massive deleterious
effects on human welfare
3. Greenhouse gas production strongly
correlated with economic growth
4. All else equal, economic growth is good
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How some economists think
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2. Virtual and illusory
y
The Phillips curve
UK unemployment and inflation, 1856-1997
40
30
Wage inflation
20
10
0
-10
-20
-30
0
2
4
6
8
10
12
14
16
18
Unemployment rate
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2. Virtual and illusory
y
The Phillips curve
Unemployment and inflation co-movements,
when controlled
20
Wage inflation
15
10
5
0
-5
-10
0
2
4
6
8
10
12
14
16
18
20
Unemployment rate
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3. Substantive but not what many
might think
y
Inequality and growth
◦ Kuznets curve
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Inequality and growth
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From even the Wall Street Journal
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Annual earnings of US men, aged
35-44, in $2005
1973
45785
49705
Median
Mean
2005
40964
54525
Source: Paul Krugman, 2007 Meade Lecture, LSE
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How some economists think
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US College-High School wage ratio
1.9
1.8
1.7
1.6
15
1.5
1.4
1.3
1.2
1.1
1
Source: Paul Krugman, 2007 Meade Lecture, LSE
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World Poverty
1981
1990
1999
24
33
43
52
GDP per capita PPP$
5408
6292
7231
8198
World’s poor 106
1470
1247
1109
969
Chi ’ poor 106
China’s
634
374
223
128
Remainder 106
836
873
886
841
World GDP 1012 PPP$
†
†
D. Quah
2004
PPP$ means constant International Dollars corrected for inflation
and Purchasing Power Parity
Poor means living on less than PPP$1/day
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4. Substantive and hard
y
Intellectual property rights
◦
◦
◦
◦
Efficiency versus incentive
Nonrival goods
Identityy and group
g p consumption
p
Unlike property rights for all other goods and
services
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IPRs on Facebook
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Intellectual property rights
y
Music, digital entertainment
◦ MP3s, DVDs
y
Computer software, operating systems
y
Pharmaceuticals
◦ MS Windows, Linux
◦ AIDS antiretrovirals
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Digital goods and services
y
Global medication
◦ HIV/AIDS infection: Africa 24.5m, total
worldwide 34.3m
◦ Population in Africa 12% of world
◦ Cost of anti-retroviral medications
y
Dynamic incentives versus monopoly
markup: Creation versus dissemination
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Creativity and dissemination
Price
Demand
Marginal
revenue
Marginal cost
q1
q0
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Quantity
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International IPRs
y
y
y
y
India 04/1972-05/2003 pharma process
patents only
World’s largest producer by volume, one of
the world’s largest for bulk drugs. Major
exporter
Quinolone molecules for bacterial infection
Welfare loss US$715mn a year (120% of
total sales) versus domestic producer profits
gain US$50mn a year, multinationals
US$57mn
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Conclusions and emergent issues
Tradeoffs
y Modeling
y
◦ Behavioral
◦ Constraints
◦ Heroism
Numbers
y Political economy
y
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How some economists think
24 January 2008
How some economists think
by
Danny Quah
Economics Department, LSE
24 January 2008
D. Quah
10