DOJ Blocks AT&T/T-Mobile Merger, Sprint celebrates

After much speculation, the DOJ today decided to seek to block the AT&T/T-Mobile merger. This is bad news for AT&T.













Apparently at about 11:00 AM they lost almost 4% of their value. Their merger partner, Deutsche Telecom's T-Mobile unit, didn't do so well at that time either, losing about 7% of value.












This is understandable because the merger is now more uncertain and there will be additional costs in getting the merger cleared. But can we learn anything about the impact on competitors? For Verizon, not so much (the daily return of -0.4% may mean bad news).















But Sprint shareholders received good news at about 11:00 to the tune of an almost 6% daily increase in value. This suggests that the market considers the combined AT&T/T-Mobile to be an even greater competitive threat to Sprint.

How did we get from a US subprime to an international soverign fiscal crisis?

This talk by Bill White, the chief economist at the Bank for International Settlements (the central bank for central bankers), is really acute--and scary. He starts to speak at the 16 minute mark, and his part lasts for about 15 - 20 minutes. He speaks briefly again at the 1 hr 20 min mark about moral hazard in the Q&A. Note that under White, the BIS gave wonderful warnings of the bubble while it was going on, and he's being very modest by not bragging about that.

[If the video link doesn't work, try pasting this into your browser:  http://www.mediatheque.lindau-nobel.org/#/Video?id=641 ]

Best thing I have heard on the crisis since Doug Holtz-Eakin's minority report.

HT: Merle Hazard

America's top chef uses marginal analysis

Alinea, which opened in 2005, was named the best restaurant in America by Gourmet Magazine in 2006. The restaurant's co-founder and head chef, Grant Achatz, said his 23-course meal is motivated by what any econ student would recognize as marginal analysis:

So there's something that we call the law of diminishing returns in our cooking. That's why the steak is only two ounces, because by your fifth bite you're really, you're done. You're done with that steak. You know what it's going to taste like. The actual flavor starts to deaden on the palate.

If we were to make you take 10 more bites, by the time you got to bite 15, the steak's just not that compelling anymore. So if we have a series of 23 small courses, where it's a burst of flavor on the palate, and then you move on to something completely different and then completely different, that helps us set up a more exciting meal, and it's something that is easier to kind of be compelled to go through a 23-course menu.

Would you trade our income tax for a carbon tax?

Instead of taxing something good (work), why not tax something bad (carbon)?

The province of British Columbia is celebrating Canada Day by implementing a carbon tax. The tax starts at $10 per tonne of carbon dioxide and will gradually ramp up to $30 per tonne in 2012. It is intended to be revenue neutral through reductions in business and income taxes. Further, at the national level in Canada carbon taxes do not seem to be quite the political anathema they are in America. Liberal Party leader Stephane Dion has dubbed his carbon tax proposal—similar in many respects to the BC tax—the Green Shift.

Art Laffer is on board.

Do food stamps stimulate the economy?

Agriculture Secretary Tom Vilsack uses Keynesian economics to justify their use: "every dollar of benefits generates $1.84 in the economy in terms of economic activity."

Robert Barro uses what he calls "regular" economics to come up with a very different answer:

In regular economics, the central ideas involve incentives as the drivers of economic activity. Additional transfers to people with earnings below designated levels motivate less work effort by reducing the reward from working.

In addition, the financing of a transfer program requires more taxes—today or in the future in the case of deficit financing. These added levies likely further reduce work effort—in this instance by taxpayers expected to finance the transfer—and also lower investment because the return after taxes is diminished.

This result does not mean that food stamps are bad, only that their benefits have to be weighed against their costs: if food stamps, or the taxes that support them, weaken the link between rewards and work, then we get less work.

QUIZ: why do hospitals and HMO's get better drug prices than drugstores?

Economist Alan Sorensen has the answer:

The superior bargaining clout of hospitals and HMOs relative to drugstores is attributable to their use of formularies, which enable them to solicit bids from competing manufacturers for an all-or-nothing contract.  Drugstores, in contrast, typically stock their shelves with all competing brands of a drug, and cannot credibly threaten to withdraw their business from a manufacturer that fails to offer a discount.

Bottom line:  the alternatives to agreement determine the terms of agreement.  In this case, the ability of hospitals and HMO's to "steer" patients to particular drugs means that the alternative to agreement is much worse for the drug manufacturer.  This makes the drug manufacturer more eager to reach agreement, which results in better prices.

Capitalism defended

Watch this short video by Jeffrey Miron

HT:  Greg Mankiw

Is anyone listening?

HT:  Carpe Diem

CONTEST LOSERS: design an effective ratings agency

PROBLEM:  lousy ratings

DIAGNOSIS OF PROBLEM
1.  WHO:  Ratings companies like Moody's offer favorable ratings
2.  INFO:  Ratings agencies have access to information that would predict poor performance, although not for Black Swan type events, which are inherently unpredictable.
3.  INCENTIVES:  Ratings agencies have an incentive to offer favorable ratings regardless of risk; otherwise they won't get chosen by the issuers.

SOLUTIONS TO PROBLEM:
1.  DECISION RIGHTS:  Let someone else do the ratings, like a regulator.  The failure of regulatory agencies in preventing obvious frauds, like Madoff's Ponzi scheme, suggests that this may not be such a good solution.
2.  INFO:  How do rating agencies get access to info?  Here several "private sector" solutions suggest that disclosure of information would be in the issuer's self interest, i.e., those that did not disclose or restricted access would receive less favorable ratings.  But if this is the case, why did the problem arise in the first place?
3.  INCENTIVES:  Sever the tie between the choice of a ratings agency and the payment from the issuer.  Two types of solutions fall into this category:  (i) let consumers pay (those that buy the securities that get rated); and (ii) let the ratings agency be chosen by lottery from a qualified pool (Moody's, S&P, others).  The problem with (i) is free riding, ratings are information that is easily shared, so why should I pay for it?  The problem with (ii) is shirking, i.e., what incentives to ratings agencies have to do a good job if they are chosen regardless of their performance.  Several solutions suggested customers ratings of the ratings agencies to give them an incentive to work hard.

Interestingly, no one chose litigation as a possible solution:  give the agencies a "fiduciary responsibility" to the investors that rely on them.  This would open them up to lawsuits if they acted irresponsibly.  That no one chose it underscores the difficulty that a regulator, or a litigator, would have in gathering information and determining whether the agencies were doing a good job.

BOTTOM LINE:  everyone loses.  Come by my office and pick up a consolation mug and if you want me to sign your book, bring it by.

MY SOLUTION?: get rid of the implicit guarantees that investors will be bailed out if their investments go south.  This would give them an incentive to scrutinize investments a lot more closely than they had been doing because if they don't, the market will punish them more swiftly and surely than any regulator.

Let me defend myself against the expected ridicule by posing a simple question:
QUESTION:  How many economists does it take to screw in a lightbulb?
ANSWER:  None, the market will do it.  

CONTEST: design an effective ratings agency

The primary conflict of interest at credit rating agencies is well known: The company is paid by the same issuers (banks and companies) whose securities it is supposed to objectively rate.

At Moody's, this created incentives to give Moody's clients favorable ratings, lest the clients fire Moody's and take their business to one of the other ratings agencies.

The obvious organizational design question is how to design an organization or an industry that would give more objective ratings.  Succesful entries will (i) address the conflict of interest (ii) describe how the company would get paid; and (iii) how it would get access to confidential issuer information?

The best answer (in comments below), will win a signed copy of the book (worth about $100) and a coffee mug.