A simple way to combat corruption

New paper:  Does Greater Regulatory Burden Lead to More Corruption?

The paper documents that regulation seems to create opportunities for public officials to extract bribes.  It finds that the bribery rate is higher the higher the cost of regulation. 

Briber is measured as a percentage of firm sales,  so a 1% increase in regulation will cost a firm with revenue of $1M about $3,000 in bribes to avoid. 

SOLUTION: ."..deregulation offers a simple way to combat corruption."

HT: MarginalRevolution.com

“There might be some unintended consequences,” she added.

WSJ:

If two-thirds of voters approve the measure, San Francisco would become one of the first big U.S. cities to tax landlords for store vacancies when it goes into effect next year. Washington, D.C., imposed a similar tax in 2011, though it was on residential and commercial property vacancies, not just retail.

Predict the unintended consequences in the comments.
HT: Cramer

Homelessness, inequality, and segregation are a housing problem

NY Times article based on Golden Gates: Fighting for Housing In America

Nearly all of the biggest challenges in America are, at some level, a housing problem. Rising home costs are a major driver of segregation, inequality, and racial and generational wealth gaps. You can’t talk about education or the shrinking middle class without talking about how much it costs to live near good schools and high-paying jobs. Transportation accounts for about a third of the nation’s carbon dioxide emissions, so there’s no serious plan for climate change that doesn’t begin with a conversation about how to alter the urban landscape so that people can live closer to work.

When it was Ms. Trauss’s turn to speak, she argued that the entire notion of public comment on new construction was inherently flawed, because the beneficiaries — the people who would eventually live in the buildings — couldn’t argue their side.

What this suggests is that the real solution will have to be sociological. People have to realize that homelessness is connected to housing prices. They have to accept it’s hypocritical to say that you don’t like density but are worried about climate change. They have to internalize the lesson that if they want their children to have a stable financial future, they have to make space. They are going to have to change.

HT: MarginalRevolution.com

Scale, Scope, and Law Firm Mergers

A merger between two large Philadelphia law firms led Sam Wood at the Philadelphia Inquirer to investigate why. It seems there have been quite a few law firm mergers recently.

It does not look like firms are trying to eke out efficiencies through scale economies.

“There are really no economies of scale,” said Tom Clay, a legal-industry consultant at Altman Weil. “Bigger firms are more expensive to run. The only way they save money is through a smaller real estate footprint. Anyone who tells you different is either ignorant or lying to you.”

 But there may be scope economies.

Firms want to expand their geographical scope. They want to offer clients more specialized practices and increase profits.

Practices in other geographical places are complementary to existing practices. And offering specialized practices (increased scope) is only viable if you have enough scale to justify them.

Adverse Selection into Privacy Protection

The recently enacted General Data Protection Regulation (GDPR) allows EU citizens various privacy protections, including the ability to opt out of data collection schemes. In a new paper, Aridor, Che, Nelson, and Salz find that a sizable fraction of the population, presumably those who are more sensitive to privacy issues, does opt out. How does this affect those that do not? They become even more "persistently trackable" because those who opt out now do not generate as much noise on those remaining.

Further in keeping with this hypothesis, we observe that the average value of the remaining consumers to advertisers has increased, offsetting most of the losses from consumers that opt-out. 

Hat tip: Marginal Revolution

Why is real estate market so inefficient?

The US real estate market is really inefficient:

For decades the market has been characterized by low volumes and extortionate transaction costs (sales commissions, taxes, and mortgage fees total about 10% of the sales price). [As a result,] just 7% of American homes change hands each year (down from 20% in the 1950's).

PropTech firms are trying to take advantage of the inefficiency, helped by my former employer, the Antitrust Division of the Justice Department:

...in 2008 the Department of Justice (doj) ruled that MLS listings data could not be restricted ..., and should be shared with online platforms. Zillow and Redfin now publish MLS listings.

New entrants are bringing liquidity to the market:

These firms use vast quantities of data and whizzy machine-learning algorithms to appraise homes and make an initial offer, often within hours of a seller asking for one. A couple in Covina, in greater Los Angeles, requested an offer from Zillow on Christmas Eve 2019, had their home inspected on December 26th and accepted the bid the next day. They chose to set a closing date in March 2020, but could have opted for December 28th. ... The fee is typically around 6-7%, almost the same as a seller would pay an agent—but for a much quicker and easier process. 

When does information about mergers affect stock price?

As with the other studies the paper cites in its literature review, this particular research design included a window of multiple weeks both before and after the event occured. When analyzing the T-Mobile/Sprint merger decision, we should similarly expand the window beyond just a few hours of after hours trading.

After a Judge ruled favorably on the Spint/T-mobile merger, the prices of competitors ATT and Verizon initially increased (within 3 hours), but then decreased when the market had some time to digest what the ruling meant (over the next few days). 

In general, an anticompetitive merger that raises price will benefit rivals, while a procompetitive merger that reduces price will harm rivals (substitutes).  Because the stock prices of rivals decreased, it supports the hypothesis that the merger would combine their wireless spectra and make them a viable 5G competitor to ATT and Verizon. 

TRUTH IN BLOGGING:  I worked at the DOJ during its investigation of the merger. 

Where does foreign aid go? [HINT: not where it is supposed to]

From the Economist:

When autocratic, oil-rich nations enjoy a windfall from higher crude prices, where does the money go? One place to look is Swiss bank accounts. Sure enough, an increase in oil prices is followed by a spike in deposits held by these countries in financial havens, ...

[Similarly]...infusions of aid from foreign donors ... were followed by a jump in their deposits in foreign financial havens. The leaks averaged about 5% of the Bank’s aid to these countries.

..publication [of this research] was blocked by [World Bank] higher officials. They may have been worried about how it would look if the bank’s own researchers said that a chunk of its aid ended up in Swiss bank accounts and the like.

The lessons I take from this:

• Institutions are primarily concerned with preserving themselves as institutions, and secondarily with doing what they are supposed to do. 

• The cover-up is often worse than the crime:  when the World Bank tried to suppress the research, the Chief Economist resigned, which had the ironic effect of publicizing the research much more widely than if they had not tried to cover it up.  

• Economics gives institutions a moral compass:  Kudos to Professor Goldberg for resigning.  I suspect her resignation will result in reforms to fix the problem.

• 5% may be the "cost" of distributing aid:  if this is all they lose, the Bank may be doing a good job.  

HT:  MarginalRevolution.com

MBA's need econ as it teaches you how to think, not what to think

Book: Range: Why Generalists Triumph in a Specialized World 

Business majors performed very poorly across the board, including in economics.  Econ majors did the best overall.  Economics is a broad field by nature, and econ professors have been shown to apply the reasoning principles they've learned to problems outside their area.  Chemists, on the other hand, are extraordinarily bright, but in several studies struggled to apply scientific reasoning to nonchemistry problems.  

"When he recounts his own education at the University of Chicago...[Flynn] raises his voice. "Even the best universities aren't developing critical intelligence," he told me. "They aren't giving students the tools to analyze the modern world, except in their area of specialization. Their education is too narrow." He does not mean this in the simple sense that every computer science major needs an art history class, but rather that everyone needs habits of mind that allow them to dance across disciplines.

...college departments rush to develop students in a narrow specialty area, while failing to sharpen the tools of thinking that can serve them in every area. This must change, he argues, if students are to capitalize on their unprecedented capacity for abstract thought. They must be taught to think before being taught what to think about. Students come prepared with scientific spectacles, but do not leave carrying a scientific-reasoning Swiss Army knife."

HT:  Quinn

Valentines Signals

Two trends in how Americans celebrate Valentines Day seem to be at odds with each other. The National Retail Federation reports a steady decline in adults who are participating (51% in 2019 versus 63% in 2009) but a steady increase in average spending ($162 in 2019 versus $103 in 2009).

This would be consistent with high quality suitors sending a stronger signal to their romantic partners so as to further differentiate themselves from low quality suitors. It seems to be working because the drop in participation suggests that low quality suitors are dropping out of this arms race.* This is consistent with the unhinging of the market for sex from the market for marriage.


*Poor Mrs. Ward will reap only a fraction of this amount. But the quality of her suitor was revealed so long ago that there is little value in additional signals.

Is this underlying cause of rising inequality?

From David Brooks' Atlantic article,

If you want to summarize the changes in family structure over the past century, the truest thing to say is this: We’ve made life freer for individuals and more unstable for families. We’ve made life better for adults but worse for children. We’ve moved from big, interconnected, and extended families, which helped protect the most vulnerable people in society from the shocks of life, to smaller, detached nuclear families (a married couple and their children), which give the most privileged people in society room to maximize their talents and expand their options. The shift from bigger and interconnected extended families to smaller and detached nuclear families ultimately led to a familial system that liberates the rich and ravages the working-class and the poor.

Seems to explain the increase in inequality that economists have attributed to a variety of factors like assortive mating (educated individuals marrying each other) or education (huge returns to education, which increases intergenerational stickiness between income deciles)

Finally, over the past two generations, families have grown more unequal. America now has two entirely different family regimes. Among the highly educated, family patterns are almost as stable as they were in the 1950s; among the less fortunate, family life is often utter chaos.

Hidden Costs of Social Media Marketing

Michael Farmer cautions advertisers to be aware of the hidden costs of exploiting online and social media. Advertisers in traditional media, such as print, radio or TV, were familiar with what a campaign entailed. But the online scopes of work expanded into "banner ads, email marketing, Facebook posts, Instagram posts, mobile marketing efforts, and website development." The big advantage of online campaigns is the near instantaneous and increasingly granular feedback that can inform the refinement of campaign messaging to different niches. This advantage, though, requires exponentially more interaction between the client and the ad agency.

Agencies and their clients are overwhelmed by the need to communicate and deal with one another — to plan, obtain approvals, carry out work, calculate ROIs, and readjust after results have been analyzed. It's talk, talk, talk, negotiate, approve, reconsider, talk, talk, talk.

Working with an online media agency is less of the one-off, arms-length ad purchase contract and much more of an ongoing relationship. To get the most out of the relationship, clients need to make investments in the relationship, such as possibly recruiting digital/social experts. These are costs not all those new to online advertising will foresee.

Why does it cost only $10,000 to own a Chick-fil-a franchinse?

Good puzzle posed by an article:

• For KFC, the cost of opening a franchise is $2M dollars, but you get to keep a 95% of your sales.
• For Chick-fil-a, the cost of opening a franchise is only $10K (Chick-fil-a buys the land and equipment), in exchange for 50% of revenue and only 15% of net profit.

Why the difference?

In lieu of wealthy investors, Chick-fil-a selects franchisees who are involved in their local communities. The company’s aim, says a spokesperson, is to find people who are willing to be “highly involved” in day-to-day operations. (While not a stated requirement, adhering to “Christian values” also doesn’t hurt an applicant’s chances). 

“You run every aspect of the restaurant six days a week,” says Jeremiah Cillpam, a Chick-fil-a franchise owner in Los Angeles. In return for 60-hour work-weeks, an operator might take home 5-7% of revenue (around $150-$250k per year). ...

In essence, Chick-fil-a operators aren’t truly business owners — or even franchisees in the traditional sense. 

“When people start a business, they want flexibility and real ownership,” says Kenny Rose, CEO of Semfia, a firm that educates people on franchise investing. “But as a Chick-fil-a franchisee, you’re basically just working a traditional management job.”

Pay-How-You-Drive Insurance Works

A new paper by Reimers and Shiller documents the effects of Pay-How-You-Drive (PHYD) insurance. The idea is to use telematics to monitor driver behavior and to reward better drivers with discounted premiums. While Progressive initiated monitoring driver behavior for insurance purposes, other companies are getting in on it too. Reimers and Shiller cleverly exploit the staggered rollout across states to observe company profitability and driver fatalities.

First, they find that the first mover earns a profit boost. But this is temporary and dissipates with entry. That is, PHYD offers no sustainable competitive advantage to the first-mover. This seems to meet our expectations as there are few barriers to other insurers implementing PHYD systems. But  profit erosion with four or five firms also suggests that auto insurance markets are pretty competitive.

Second, they find that driver fatalities fall. PHYD could affect either the adverse selection problem (better drivers sign up) or the moral hazard problem (you drive better when it is rewarded). If it was just adverse selection, then good drivers drive no better and bad drivers drive no worse. They are just sorted into insurance plans more efficiently. But if it works on moral hazard too, drivers who sign up drive better and collectively we are likely better off because driving has become safer.

Third, by examining PHYD, Reimers and Shiller have documented one of the many ways that information technology, in this case telematics, is improving market efficiency and saving lives.

Seattle commits the hidden cost fallacy

In Seattle, if you have a spare room to rent, you cannot conduct a criminal background check and you have to rent to the first person who shows up.  The new laws will reduce supply, or encourage black-market rentals, as they make renting to strangers more costly:

Landlords aren’t the only victims. Renters will suffer too. As owners like Ms. Yim and Ms. Lyles flee the housing market because they can’t bear the regulatory burden, the contraction in supply will further inflate rents. Remaining landlords will raise prices even more to underwrite the risks they face because they can’t adequately vet rental applicants.

HT:  Cramer

RELATED:

Does this help or hurt Ex-Felons?

Screening on criminal background and credit history