Wednesday, June 29, 2011

Advice for selling on eBay motors: use lots of photos

A new economics paper has found that prices for cars sold on eBay motors rises the more photos you post on the site (about $80 extra for each photo).

Remember that adverse selection is caused by the fact that sellers have more information about the quality of the car than do buyers (economists call this "information asymmetry"). If buyers offer a high price, then they get a mixture of high and low quality vehicles, and pay more--on average--than the vehicle is worth. So buyers offer only low prices, correctly anticipating that only low quality vehicles will be offered for sale.

So how does a seller with a high value car convince a buyer that it is of high quality. The authors suggest that offering photos is akin to a guarantee of quality:

By disclosing their private information on the auction Web page in text and photos, the seller offers a contract to potential buyers to deliver the item described in the listing. If the disclosures define sufficiently detailed and enforceable contracts, the initial information asymmetry should play no role in determining the performance of the market.

I received this from a former student who verified that this theory, at least, works in practice:

My most recent eBay vehicle sale was a 102,000 mile seven year old truck, tons of bidding and sold for $11,000 sight unseen to a buyer in New York.

Text of the eBay listing is included links to all of the photos you see here:

Photos of EVERY body panel, EVERY interior angle, EVERY tire, EVERY engine bay angle, etc. Buyer was DELIGHTED upon receipt and couldn't believe I'd sent it to him with a full tank of gas.

Friday, June 24, 2011

What are the markets saying about Greece?

Economists love to personify markets, as if they "speak" through the prices they generate.  In this case, they seem to be saying that the resucue package will not much affect the probability of a default.  You see this in the high "compensating differentials" or "risk premia" that must be paid to investors for accepting the risk of default if they lend money to Greece, which is about 15%.  From Calculated Risk:

Wednesday, June 22, 2011

How to protect intellectual property without patents

Interesting review of a book arguing that we don't need patents and copyright anymore. Instead R&D managers obtain competitive advantage from their discoveries by using

  1. lead time (suggesting a first-mover advantage),
  2. secrecy,
  3. complementary manufacturing capabilities
  4. complementary sales and service efforts.

Averaged over all industries, patents and other legal mechanisms are near the bottom of the list of ways to protect intellectual property.

Monday, June 20, 2011

How to Fight Cognitive Bias

Kahneman, Lavollo, and Sibony discuss how executives can detect biases when reviewing recommendations from others - from the June McKinsey Quarterly:
Executives can’t do much about their own biases, as we shall see. But given the proper tools, they can recognize and neutralize those of their teams. Over time, by using these tools, they will build decision processes that reduce the effect of biases in their organizations. And in doing so, they’ll help upgrade the quality of decisions their organizations make.

Ironically, the first step in checking for detecting biases, many of them caused by deviations from the rational actor model,

1. Check for Self-interested Biases: Is there any reason to suspect the team making the recommendation of errors motivated by self-interest? to use the rational actor paradigm to detect self interested or opportunistic behavior.

Psychological pricing in action

Shalimar (Indian restaurant) in Nashville (try the Tikka Masala) gives you a discount if you pay cash instead of charging a premium if you pay with a credit card.  This is consistent with the predictions of "loss aversion," a part of Prospect Theory that says people will go to greater lengths to avoid losses, than they will to realize gains.  So even though the two pricing schemes--cash discount vs. a credit card premium--are identical, the former "frames" the pricing policy as a gain, which brings in more business.    

Sunday, June 19, 2011

Museum Bundling

Stockholm's Moderna Museet (modern art museum) and the Arkitekturmuseet (architecture museum) share a building and, therefore, share a pricing plan. The first cost 100 krona and the second cost 60 krona, but the combination cost 140 krona.

I suspect most modern art fans are less enthusiastic about architecture and most architecture aficionados are less interested in modern art. For both groups, the profit-maximizing price for their first choice is greater than the profit-maximizing price for their second choice (adjusting for the apparent preference for modern art). That is, you would like to price discriminate between consumers' first choices and their second choices. But people rarely tell you which one they came for. With bundle pricing, they don't have to. So long as you are willing to take the same discount for both (20 krona in this case), they will self-select into the appropriate ticket purchase.

Mathematically, the increased sales from reducing the price on the second ticket has to more than make up for the lower margin. But this would be true since demand is usually more elastic for the second choice.

Wednesday, June 15, 2011

ATM's, jobs, and Luddites

When President Obama blamed the slow recovery in jobs on the invention of automatic teller machines, it reminded me of Frederick Bastiat's satiric argument that government should forbid the usage of everyone's right hand, because the resulting drop in productivity would mean more work, and more employment.

If that doesn't work, perhaps we should outlaw competition from the sun, to encourage candle makers to hire more employees.

New videos online

CHAPTER 1: Introduction: what this book is about

CHAPTER 2: The one lesson of business

CHAPTER 3: Benefits, costs, and decisions

CHAPTER 4: Extent (how much) decisions

CHAPTER 5: Investment decisions: look ahead and reason back

CHAPTER 6: Simple pricing

CHAPTER 8: Markets and industry-level analysis

CHAPTER 9: Relationships between industries: the forces moving us towards long run equilibrium

Monday, June 13, 2011

Jobs, Capital Intensity, and Education

As the economy becomes more capital intensive, the recovery from recession is much more sluggish. 

As jobs go to the more educated: unemployment rates vary dramatically by education.  

What happens when QE2 ends?

The Financial Times uses a combination of theoretical and empirical arguments to predict (suggest?) that the end of the so called QE2, the increase of supply of long term debt by the Federal Reserve, will result in a decline in asset prices.  One theoretical mechanism that would predict such an effect is that the end of low US interest rates will lead to a stronger dollar which will discourage exports:

The flood of dollar liquidity that has been poured into the market by the Federal Reserve has encouraged the growth of the so-called carry trade, in which currency investors sell the low-yielding US currency to invest in alternatives with higher interest rates such as the Australian dollar.

Many Asian reserve managers feel that the Fed’s quantitative easing policy was a deliberate attempt to engineer the dollar lower, to the benefit of the US economy. Thus, the end of QE2 may prompt a reduction in their diversification away from the dollar.

The empirical story is illustrated by the picture below, and the following discussion:
“Asset price inflation really is a consequence of QE,” says Paul Marson of Lombard Odier, a Swiss private bank. A 90 per cent rebound in the S&P 500, the main US share index, since its low point in March 2009 has coincided with the Fed’s two QE programmes. Commodity prices, as shown by the Reuters Jefferies CRB index, are up 67 per cent over the same period, while the dollar has fallen 17 per cent.

Sunday, June 12, 2011

Auto Exec: "Raise the Gas Tax"

When I saw that General Motors CEO Dan Akerson proposed a federal gas tax increase of as much as $1.00 per gallon, the first thing that came to my mind was "Raising Rivals Costs." That is, I assumed that GM had new cars that were more fuel efficient than its rivals'. While higher prices for a complementary good, gasoline, would decrease demand for all cars, it will have different effects on different car makers. Akerson's example here was to shift consumer to GM's relatively efficient Cruze.

But perhaps there is a more likely explanation. The same article also suggests that Mr Akerson was proposing the tax increase as an alternative to corporate average fuel economy (CAFE) standards. CAFE standards are more complex and have been found to have perverse incentives.

Perhaps less likely is that Mr. Akerson has simply gone green.

Thursday, June 9, 2011

Local Property Rights in Elephants

What is the most effective way to save elephants? Make shooting them illegal or allow hunting safaris managed by local groups? PERC's Terry Anderson discusses experiences with both policies. In Kenya:
Anti-hunting groups succeeded in getting Kenya to ban all hunting in 1977. Since then, its population of large wild animals has declined between 60 and 70 percent. The country’s elephant population declined from 167,000 in 1973 to just 16,000 in 1989. Poaching took its toll on elephants because of their damage to both cropland and people.

In Zimbabwe:

In 1989, results-oriented groups such as the World Wildlife Fund helped implement a program known as the Communal Areas Management Programme for Indigenous Resources or CAMPFIRE. This approach devolves the rights to benefit from, dispose of, and manage natural resources to the local level, including the right to allow safari hunting.

And the results were:
Ten years after the program began, wildlife populations had increased by 50 percent. By 2003, elephant numbers had doubled from 4,000 to 8,000. The gains have not just been for wildlife, however. Between 1989 and 2001, CAMPFIRE generated more than $20 million in direct income, the vast majority of which came from hunting. During that period, the program benefitted an estimated 90,000 households and had a total economic impact of $100 million.

Government has an important role in creating and enforcing property rights.

Hat tip: Mark Perry

Wednesday, June 8, 2011

Never start a land war in Asia (or a price war)

Two gasoline stations at the Orlando airport refuse to post their prices, despite the attempts of the city of Orlando to force them to to so.  You can easily guess why:

When Terrence Smith climbed out of his rental car at the Suncoast Energys gas station near Orlando International Airport on Friday, he couldn't believe the $5.79-per-gallon price displayed on the pump.

The Atlanta man remembered paying about $3.65 at other stations during the week he vacationed with his wife in Orlando. "In Atlanta, you might see 15 or 20 cents more near the airport, but $2 is ridiculous," he said.

The logic is clear. If you promote your product by advertising the price, you make demand more elastic, so you should reduce price. BUT, if you expect your competitor to follow suit, then you will end up in an "advertising dilemma," a version of the prisoners' dilemma.

HT: Matthew Binkley

Related paper:  Tenn, Steven, Luke Froeb, and Steven Tschantz, Merger Effects When Firms Compete by Choosing Both Price and Promotion, International Journal of Industrial Organization (in press). Available at IJIO or SSRN.

Friday, June 3, 2011

Substitutes Limit Monopoly Power

China, the dominant supplier of rare earth metals used in electric motors, is limiting exports and driving up prices (see Economist article).
Over the past year the price of neodymium has quadrupled as electric motors that use permanent magnets instead of electromagnetic windings have gained even wider acceptance.

Some auto companies, including Toyota, have gone back to motor windings rather than be dependent on a single supply source. Is it enough to limit the pricing power of Chinese rare-earth mines?

Hat tip Mark Perry

Thursday, June 2, 2011

Is there any air left in the housing bubble?

In long run equilibrium, consumers should be indifferent between renting and owning. Here is a "real" price index of housing, measured relative to the price of renting. From Calculated Risk: