Tim Harford The Undercover Economist

Articles published in March, 2007

Cash-22

Guntur, in south-east India, is a city short of money but not of entrepreneurs. Stroll through the main thoroughfare of the largest slum at nine in the morning and outside every sixth house you will pass a woman sitting behind a kerosene stove, ready to prepare dosa for passers-by with a rupee to spare. An hour later, each woman will be on to her next job. One earns cash by sewing fancy beads on to cheap, plain saris. Others are labourers, rubbish collectors or pickle-makers.

The scene is described by two MIT economics professors, Abhijit Banerjee and Esther Duflo, in a recent article, ”The Economic Lives of the Poor”. They set themselves the task of explaining how very poor people make money, and how they spend it.

The ”very poor” are those who live on less than a dollar a day. The benchmark – a rare piece of brilliant marketing from the World Bank – is both more generous and more frugal than it seems. Generous, because the benchmark dates from 1985 and has been adjusted since to take account of inflation in each country and is generally now more than a dollar a day. But frugal because the dollar is adjusted for purchasing power. In other words, a Kenyan farmer might have 50 cents a day to spend but still not count as ”very poor” because 50 cents in Kenya buys more than a dollar would in the US. However you look at it, a dollar a day is a tiny income.

Perhaps surprisingly, even the poorest find the resources to let their hair down. Banerjee and Duflo, looking at economic surveys of the very poor in 13 countries, conclude that about a third of household income is spent on stuff other than food. The alternatives to simply trying to consume more calories include tobacco, alcohol, weddings, funerals and religious festivals. Radios and televisions are also popular. Looking at food spending itself, although the very poor do focus on the cheapest grain – millet – they also spend on wheat, rice and even sugar.

Even the very poor seem to have some consumer power. For example, in the countries where free public schools are especially bad, some parents are scraping together the resources to send the children to private schools. The teachers may be largely unskilled themselves, but at least they show up.

The same is true for healthcare. A pair of World Bank economists, Jishnu Das and Jeffrey Hammer, examined the quality of public and private healthcare in Delhi. They found that while publicly employed doctors tended to be far better qualified than the private doctors, the private doctors tried much harder, spending more time, asking more questions and examining patients more carefully. Competition works – even for the poor.

It would work better yet if the poor were less destitute. One of the problems is that so much of this entrepreneurial activity is carried out on too tiny a scale to make much cash. Scaling up would be more efficient, but requires capital equipment. That’s hard to come by in a world where bank loans are scarce and cash savings are at risk from inflation and theft. It would be better, too, if it were easy to set up a legal business. According to the World Bank’s ”Doing Business” reports, the poorest countries often boast red tape that means it takes months and costs a small fortune to set up in business.

But do not despair entirely. In 1981, 40 per cent of the world’s people lived on less than a dollar a day, according to Shaohua Chen and Martin Ravallion of the World Bank. The figure plummeted to 21 per cent by 2001, and may be around 15 per cent by 2015. We can hope.

First published at ft.com.

Standards

Dear Economist,

I’m looking for ”the one”. Is he out there?

Yours,
Ruth, Barcelona

Dear Ruth,

It might help if we understand which elements of marriage are common to many potential husbands, and which are unique to ”the one”.

First, marriage offers economies of scale in production, particularly production of children. Husband and wife can each specialise in different skills, according to their comparative advantage. I fail to see why you cannot realise these economies of scale with almost anyone. Second, there are economies of scale in consumption. One garden will do, so will one kitchen.

The real question, then, is whether you can stand the person you marry enough to enjoy these efficiencies. Here, economics had little to say until a recent breakthrough by the economists Michele Belot and Marco Francesconi. They examined data from a speed-dating company, and discovered, unsurprisingly, that women like tall, rich, well-educated men. Men like slim, educated women who do not smoke.

The more intriguing finding emerged when pickings were scarce. Women ”ticked” about 10 per cent of men as worthy of further investigation, regardless of the quality of a particular crop. If the men were short and poor, then the women lowered their standards, and still picked 10 per cent. The men, too, abandoned unrealistic ambitions. They ”ticked” about a quarter of the women, regardless of quality. This happened even though each could have a complimentary speed date another time if he or she found no one they liked.

My conclusion: even when there is little to be lost from maintaining standards, people are very quick to lower them. My advice: do likewise.

31st of March, 2007Dear EconomistComments off

Business Life: Game shows

First published in Business Life magazine, November 2007

I remember Saturday evenings when I was a boy, curled up in a towel after bath time to watch game shows such as “The Price is Right”. Little did I know it, but those Saturday evenings were preparing me for life as an economist.
Economists have theories about how people behave, but those theories are hard to test in the muddle of the real world. And laboratory experiments may be no better, because the stakes are too trivial to see how people act under pressure.
That is where the game shows come in. Like real life, game shows are often played for high stakes. But like the laboratory, the rules are simple and the experiment is repeated over and over again.
In one early piece of game show research, economists Jonathan Berk, Eric Hughson and Kirk Vandezande showed that contestants in “The Price is Right” made transparent mistakes but learned from them.
Four contestants would in turn name a price for some household object such as a toaster. The contestant who got closest to, but not over, the correct retail price would win. The other contestants would get another chance.
If you’re smarter than the average contestant you’ll see that the fourth person to bid has an advantage. Since you want to be closest, but not too high, the best strategy is to guess just one pound higher than one of the other contestants (or zero, if you think they’re all too high). Not many contestants did this, but once somebody figured it out, the others were more likely to use the tactic in later rounds.
The economics of quiz shows hit the big time with Steven Levitt, now famous as the co-author of Freakonomics. Levitt tried to understand what was behind discrimination in the job market: did people simply dislike ethnic minorities or the elderly? Or did they believe them to be less competent?
For the answer, he looked to “The Weakest Link”, in which contestants vote for other contestants to be excluded. The best approach is to vote off weak players early on, because they’re costing everyone money – but later, to vote off strong players, because they are the most dangerous competition.
Levitt showed that elderly players tended to be voted off at any stage, suggesting a pure dislike for them. Hispanic players were likely to be voted off early but kept on later in the game, implying that other contestants thought they weren’t very smart.
The game show boom in economics is still going. I’m aware of eight economists who’ve studied “Deal or No Deal”. If only I’d been thinking like an economist when I was younger, I could have beaten them all to it.

28th of March, 2007Other WritingComments off

Business Journalist of the Year awards

I’ve been shortlisted for “Best Communicator” at the Business Journalist of the Year awards. Last year’s winner was the wonderful Evan Davis (who has a new blog). This year’s winner may well be the equally wonderful Hamish McRae. I’ll just enjoy being on the shortlist for now.

25th of March, 2007MarginaliaComments off

Courtside collusion

Dear Economist,

I’m a referee at the local basketball association. In one of the teams is a fantastic looking woman. She is distractingly beautiful, but also prone to committing fouls, often collecting the maximum of five fouls and being forced to be substituted.

Upon receiving her fifth foul, she nearly always walks to the bench, furiously removes her singlet and sits around for the remainder of the game in her sports bra. This brings the two male referees great utility.

However, it is costly to call for each of those five fouls. No referee wants the gorgeous girl to be angry with him, as we all hold on to the slim possibility that our stars may align one day.

Grasping this slim hope, sometimes each referee will avoid making 50-50 calls in the hope that his partner will. If both officials think this way too often, then she stays on court and so do her clothes. What to do?

Thanks in advance,
David

Answer at ft.com, subscription free.

24th of March, 2007Dear EconomistComments off

New school ties

Britain has long favoured an odd school system whereby well-to-do parents buy an education at the better state schools by giving money to homeowners who live near those schools, rather than by giving the money to the schools themselves. This is not very satisfactory, and there are two logical responses. One is to let the parents give the money to the schools. The other is to prevent people from buying a place at a good school through the housing market, and instead assign places from a much wider area using a lottery. This bold new experiment is about to be tried in Brighton and Hove.

Some parents are understandably livid: they paid for a service (albeit indirectly) and suddenly discover it’s being handed out like a raffle prize. Their houses will probably lose value. Little Jeremy may not even go to that wonderful school at all. But Brighton’s dispossessed parents are also worried by the same thing that worries parents all over the country: that if their school allows too many of the ”wrong” type of children in the door, Little Jeremy’s performance will suffer.

What these parents are worrying about is what an economist would call a ”peer effect”. Peer effects are what happen when you hang around in the wrong company. Yet the evidence for their existence is slimmer than the nation’s parents assume.

The difficulty is this. If Jeremy hangs around with the ”right” kids and does well, why? The obvious explanation is that he did well because his peers were a good influence on him, but it is just as plausible to suggest that he chose those peers, or had those peers chosen, because he was one of the ”right” kids, too. Does John Terry play great football because he is surrounded by great footballers, or is he surrounded by great footballers because he plays great football?

Clever researchers can disentangle some of these effects…

Continued at ft.com, subscription free.

Just rewards

Dear Economist,

I cannot help being fair when giving presents or rewards, even though I may actually want to give differently or the recipients may in fact deserve differently. I only differentiate between groups (my children, my nephews and nieces, my friends etc), but not within each group. Not wanting to show favouritism or cause rivalry, I give a present of equal value to every member of a group.

Were businesses to follow my example such “incentives” would no longer serve as a motivating tool. But then, this could also mean no ill feelings or disharmony, right?

Aidida Rosenstock, Germany

Answer at ft.com, subscription free.

17th of March, 2007Dear EconomistComments off

Swap Shop – Undercover Economist

Britain’s bank customers are in the throes of a most un-British uprising. They have discovered that writing to their bank to demand the repayment of excessive overdraft charges is both fun and profitable. There is nothing wrong with this behaviour, but it is selfish. I’m writing this column in an effort to make us more public-spirited in our attempts to claw money away from our favourite faceless corporations.

A scenario in which thousands – perhaps millions – of customers can successfully claim back money is unusual, the result of a regulator’s decree. But the basic situation is very common indeed. Customers have bought into a product line or ongoing service, in this case a bank account, and have decided they’re no longer happy with the way the service is provided. They decide, however, that switching to a competitor is too much trouble.

Lots of products display what economists call ”switching costs”: your mobile phone network; the supermarket whose layout you’ve mastered; a brand of car you know how to drive; your trusty PC – or should that be your trusty Mac? Sometimes the ”switching cost” is financial, but often it’s simply a matter of inconvenience.

The rational response of any business whose customers won’t switch is to exploit them. If you have a small market share you need to attract future victims by offering fantastic prices. Once you have a large market share you should milk it. Best of all is to combine the large market share and the growth by sucking customers in with a tempting initial offer.

This all sounds familiar to me….

Continued at ft.com, subscription free.

New editions of “Undercover Economist”

After a rather odd delay, the hardback-paperback hybrid of Undercover Economist is available from Amazon.co.uk. Its the size of a hardback but with a soft cover. The small-format paperback is due in May.
Meanwhile the North American paperback is on the bestseller lists in the US and Canada too!

13th of March, 2007MarginaliaComments off

On the Move – Undercover Economist

In last week’s column, I fretted about the workers of Treorchy, South Wales, who have lost their jobs as Burberry’s shirt-making plant is closing. Unfortunately, they are not alone. Any small community with a lot vested in a single industry is vulnerable to any number of shifts in the economic landscape, whether caused by domestic or foreign competition, management blunders or technological change.

Even big cities can struggle if they overspecialise. Liverpool and Manchester are examples. Birmingham, on the other hand, has always been a city bustling away making everything and nothing in particular. As the late author Jane Jacobs once pointed out, Birmingham was thought highly inefficient compared with the specialised mills of Manchester, but when the downturn came Manchester was devastated and Birmingham kept on chugging along.

Looking to the US, one might ask why people still live in Detroit, which has suffered for so long? Why not move to Chicago or New York? People originally moved to places such as Treorchy because there was coal to be mined. Now that the mines have closed – and the Burberry factory, too – why do they stay?

One reason is that community ties matter. Many people like to stay near where they were born. But many others would like to seek new opportunities – even, dare I say it, new experiences. My father moved the family to four different locations across England in pursuit of work. I’ve also moved several times to find the right job, and only occasionally regretted it.

But emotional ties are not the only ones that bind…

Continued at ft.com, subscription free.

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