The petrol price is about to get pricier

As I noted in this post earlier in the week, my ECONS101 class has just covered the supply and demand model. Once you've seen it and you know how to apply it, it's hard not to see supply and demand everywhere. Take this article from the New Zealand Herald last Monday:

Petrol prices in New Zealand are the highest in nearly six months and commentators in other countries are warning there could be more pain to come at the petrol pump...

The Daily Telegraph reports Libyan National Army leader Khalifa Haftar has global oil markets in the palm of his hand and the international community is powerless to stop him.

His lightning-strike campaign across the North African coastal plain is another reminder of how vulnerable the world's most important commodity is to political turmoil...

There are lots of points in the article that explain why oil prices (and along with them, petrol prices) are likely to rise in the future. As an illustration though, let's just focus on the effect of a disruption in the supply of oil from Libya. The impact on the market for oil is shown in the diagram below. The market is initially in equilibrium, with a price of P0, and Q0 oil is traded. The events in Libya reduce the supply of oil (from S0 to S1), because at each and every price there would be less oil available. The price of oil increases (from P0 to P1), and the quantity of oil that is traded (and consumed) falls from Q0 to Q1 (but note that the decrease in quantity is only small, because the demand for oil is very inelastic - the demand curve is very steep).

The higher price of oil flows through to petrol prices, because oil is the key input into the production of petrol. Higher oil prices means that the costs of petrol production increase, which reduces the supply of petrol (or shifts the supply curve for petrol upwards). So, the impact on the market for petrol is also shown in the diagram above - a higher price at the pump.

Stocks vs. flows... Tech firms vs. Ireland edition

The market capitalisation of a major tech firms is a big number. The Gross Domestic Product (GDP) of a country is also a large number. However, it doesn't mean that these two large numbers are comparable, because they're measuring different things. This week's example of journalists getting this horribly wrong is from Politico, in the context of Ireland's reluctance to get on the wrong side of the large tech firms by regulating them:

It’s a reasonable fear in a place where the tech companies’ resources far outstrip the government’s. Google’s market capitalization, by itself, is twice the size of Ireland’s gross domestic product. Facebook’s is larger by about a third.

“Regulation is a particularly fraught area for a country like Ireland because they have less leverage [over companies] than a bigger country,” said Josephine Wolff, a professor of public policy at the Rochester Institute of Technology. “If Facebook announced tomorrow, ‘We’ve had it with Ireland, we are closing down our office,’ that would be a huge deal with political and economic consequences for the whole country.”

The point made in the second paragraph is quite reasonable. However, the illustration in the first paragraph is not. The problem (as I've mentioned many times before, such as here and here and here and here) is comparing stocks with flows. The size of an economy (as measured by GDP) is a flow of resources for a single year. Google's market capitalisation is a stock (a measure of its total value), not a flow for a single year.

An appropriate national comparator to a firm's market capitalisation is the discounted value of all future GDP, not one year's worth of GDP. However, if you want to compare the resources available for a legal battle, then market capitalisation is not appropriate, because that doesn't tell you how much resources Google has available. And neither does GDP tell you how much resources the government of the Republic of Ireland has. A comparison of liquid assets (e.g. cash) might make more sense. It probably still comes out in favour of Google over Ireland, but at least then the comparison would be reasonable.

Environmental activists should buy coal!

My ECONS101 class is on a teaching recess at the moment. Just before the recess though, we covered supply and demand. So, it's timely for me to consider a little bit of supply and demand here. I really liked this recent Marginal Revolution post by Alex Tabarrok:

Since climate change and what to do about it are in the news it’s time to re-up an underrated idea, buy coal! Carbon taxes increase the price of carbon and induce economic and technological substitution towards lower-carbon sources of fuel in the countries that adopt them. As carbon-tax countries reduce fuel use, however, non carbon-tax countries see the price of their fuel decline. Thus, unless all countries join the tax-coalition, there is leakage. Supply-side policies are an alternative to demand supply policies. The United States, for example, could buy out and close coal mines, including giving the workers substantial retirement/reallocation bonuses, thus reducing the world supply of coal which is still the largest source of C02 emissions.

I'm going to take things in a slightly different direction though. Let's consider the actions of environmental activist groups (or activist governments, if you like), and how they impact the market for coal. [*] The standard approach has been to try to convince consumers (or shame them) to reduce their use of coal. To the extent that the approach is effective, it reduces the demand for coal. In the diagram below, the coal market is initially in equilibrium, with a price of P0, and Q0 coal is traded. When demand decreases (from D0 to D1), the price of coal falls (from P0 to P1), and the quantity of coal that is traded (and consumed) falls from Q0 to Q1. Less coal is consumed. Job done! The environmental activists can pack up and go home for a well-earned kombucha.

Not so fast. As Tabarrok notes, the lower price of coal may encourage other countries to use more coal. Perhaps they build more coal-fired power plants to take advantage of the lower-price energy. Demand for coal increases, and we end up back where we started.

An alternative, strange as it may seem, may be for the activist groups to use their funds to buy coal mines, and shut them down. Provided the groups' property rights over the mines are secure, they can be sure production will not start up again. That has the effect of decreasing supply, as shown in the diagram below. Supply decreases (from S0 to S2), which pushes the price of coal up (from P0 to P2), and decreases the quantity of coal that is traded (and consumed) from Q0 to Q2. This approach has the added benefit that it reduces the incentives for other countries to turn around and consume more coal, because coal is now more expensive than before. Of course, this approach may be more expensive than simply trying to convince consumers to consume less, but if it is more effective in the long run, then why not try it? [**]

For completeness though, what if the environmental activists did both (convincing consumers to consume less, while simultaneously buying up and closing down coal mines). Then we have the situation below, where demand has decreased (from D0 to D1) and supply has decreased (from S0 to S2). The quantity of coal traded (and consumed) falls much further (from Q0 to Q3), but the effect on price is not easy to determine. In the diagram below, the price falls (from P0 to P3). However, that is only because the decrease in demand is drawn as being larger than the decrease in supply. If the decrease in supply were larger, the price of coal would have increased. There is also an unlikely possibility that the two changes exactly offset and the price of coal stays the same. So, in this situation we can say for sure that the quantity of coal will decrease, but the change in the price of coal is ambiguous (and so is the change in incentives for other countries to use coal).

Overall though, at the least I think there is a case for activist groups to explore this possibility. As Tabarrok concludes:

A program to leave coal in the ground could easily pay for itself in lives saved and climate stabilized.

*****

[*] For simplicity, the market diagrams I've drawn in this post ignore the fact that coal generates an externality (an uncompensated impact on those who are neither the supplier nor consumer of coal). However, drawing them with the externalities would make no difference to the underlying story in terms of the change in prices or quantities, and would simply make the diagrams more complicated. Let's keep things simple!

[**] Of course, an economist would point out that the reason 'why not' could be that the added costs of this higher-cost approach outweigh the benefits. But that requires more analysis than we have space to do here, and is a job for the environmental groups (or their pet economists).

Book review: Pricing Lives

The value of a statistical life (VSL) is a fairly difficult concept for a non-economist to get their head around. The fact that economists or policy makers might want to place a value on human lives seems like an affront to many people. However, the VSL is an important component of cost-benefit analysis. Consider the decision about which stretches of road safety improvements should be added to first. You'd probably want to spend your resources on road improvements wisely, targeting them at the stretches where the benefits outweighed the costs by the greatest amount. That calculation requires an assessment of the value of the benefits, which include the resulting number of lives saved.

The VSL is important for policy, which is why I devote a serious amount of time to it in my ECONS102 class. However, it's not the sort of concept where I would have expected to see a book targeted at general readers. So, Kip Viscusi's Pricing Lives was an interesting surprise to me. However, if anyone were going to tackle the challenge of writing a book on VSL for a general readership, it would have been Viscusi. He didn't invent the VSL (that honour goes to Nobel Prize winner Thomas Schelling), but has arguably had the greatest influence on its use and development, and has made countless research contributions in this area.

The book is relatively easy to read, and especially so for someone with a basic grounding in economics. However, I found it somewhat repetitive (even to the extent where some of the endnotes also appeared in the text), and it could easily have been shortened substantially without any loss to the narrative. Viscusi starts by defending the concept of monetising the VSL, rather than leaving lives saved as some un-measured benefit of policy:

In an earlier study of the use of benefit-cost analysis to value water-resource projects, I found that government agencies placed almost exclusive emphasis on the monetized effects... In that era, environmental consequences received qualitative discussion but were largely set aside in favor of emphasis on the series of tangible economic benefits that were monetized.

In other words, the only things that count in decision-making, are unfortunately only those things that can be counted (and measured). Which is why the VSL has been such an important policy tool. However, Viscusi sees the VSL as being underutilised, and the main aim of the book is to open the readers' eyes to the potential:

...to greatly broaden the menu of uses of the VSL, which to date has largely been confined to benefit assessments in the analysis of proposed major regulations.

Specifically, Viscusi presents three main opportunities for the VSL: (1) in the realm of business decision-making, such as in deciding which product safety improvements are worthwhile (and which are too costly to implement); (2) in the courts, such as in deciding on appropriate damages awards that would adequately incentivise safety improvements; and (3) a broader use in government agencies, such as in the size of regulatory sanctions.

I found the discussion of product safety to be especially good, especially the unexpected incentive effects caused by initial corporate use of benefit-cost analysis:

In the 1970s, 1980s, and 1990s... all the major US automobile companies undertook detailed economic analyses of the cost and risk implications of safety-related product characteristics. However, frank assessments of the risks and costs of different design possibilities led these companies to be vilified in the press and penalized by juries for undertaking such safety studies, not simply for specific alleged deficiencies in the analyses... These adverse experiences no doubt have contributed to the corporate abandonment of systematic assessments of safety decisions.

The courts used previous safety assessments against the companies, so the companies responded by ceasing to conduct rigorous safety assessments. Viscusi presents an (obvious) solution to this dilemma, which is to make the assessments inadmissible in court, provided the company used an appropriate measure of the VSL in assessing the benefits of the safety-related product characteristics.

The book does a great job of outlining some of the other controversies related to the VSL, such as whether the VSL should vary by age (should lives saved of younger people be worth more than lives saved of older people) or income (should lives saved of wealthier people be worth more than lives saved of less wealthy people). While acknowledging that context matters, Viscusi appears to lean towards 'no' in terms of age, and 'maybe yes' in terms of income (but only when the associated policy costs would not spill over onto other groups). The book also tackles the difference between statistical lives and identified lives, which is particularly challenging (and not easy to explain, so I will refrain from doing so here).

Overall, this is a broad book on a seemingly narrow topic. Definitely, this is recommended reading for those with an interest in the subject of policy analysis, or law and economics, and especially for those wanting to understand the VSL better. This is an important policy concept, and destined to remain so.

Collective action and the West Auckland liquor sales war

Last year, I wrote a post about the legislated alcohol sales monopolies in West Auckland, explaining why you might want alcohol sellers to be monopolies, and concluding that:

...if your goal is to minimise alcohol-related harm, you might want the alcohol monopolies in West Auckland to remain. Overall, it's ambiguous whether the proposal is to eliminate the alcohol monopolies is good or not, since there are gains in economic welfare, but probably offsetting losses in terms of alcohol-related harm.

The fight is ongoing, as this New Zealand Herald article from a few weeks ago notes:

About 12,500 people have signed the group's petition calling for a referendum on the current set-up, which is dominated by the Portage and Waitakere Licensing Trusts...

Smale's group - the West Auckland Licensing Trust Action Group (Waltag) — needs about 28,000 signatures (15 per cent of almost 190,000 registered electors) to force what would be the first vote on a competition proposal for 16 years.

It's interesting to think about this in the context of yesterday's post about why few individuals oppose new (or renewed) alcohol outlet licence applications. In the case of licence objections, the cost is relatively high for individuals, while the potential benefits are shared across many people, so that for most individuals the costs of objecting outweigh the benefits. So, few individuals object to licence applications. How important is this issue to the community as a whole? It's hard to tell, because most people won't object to a licence application (but as I noted yesterday, interest groups or politicians are more likely to do so).

However, the cost of signing a petition is tiny - it takes only a few moments of your time to scrawl your name and address on a sheet of paper. So, the benefits of signing the petition (to broaden access to alcohol) easily exceed the costs for many people. This is part of the reason why the group calling for the referendum in West Auckland has gathered 12,500 signatures. The cost of signing a petition is low, so it never surprises me that petitions on virtually anything gain many signatures. Even worse are the online petitions like Change.org, where the extent of the cost to anyone of signing the petition is a click of their mouse. How important are these issues to the community as a whole? Again, it's hard to tell, but it's important enough that people took the time to sign a petition (or to click a button on their mouse). However, there is no protesting on the streets, and no hikoi taking the petition to parliament, so it clearly isn't as important as other issues.

The most surprising thing may be that the West Auckland group has only managed to gather 12,500 signatures. Given that the cost of signing a petition is pretty low, that suggests to me that many people don't want increased availability of alcohol in West Auckland. And as noted in my post last year, that might be a good thing if your goal is to minimise alcohol-related harm.

Read more:

• Alcohol outlets, licence objections, and the problem of public goods
• Why you might want alcohol sellers to be monopolies

Alcohol outlets, licence objections, and the problem of public goods

When the Sale and Supply of Alcohol Act 2012 came into effect, it gave local communities more say over the granting and renewal of licences for alcohol outlets in their areas. Specifically, those people (or organisations) with "a greater interest in the application... than the public generally" can object to the granting or renewal of a licence. Most people I spoke to in the lead-up to and after the introduction of the new law expected a significant increase in the number of objections to licences. However, with some notable exceptions, this hasn't proven to be the case.

To understand why, we need to think a little bit about public goods. Public goods are goods that are non-rival (where one person using them doesn’t reduce the amount of the good that is available for everyone else) and non-excludable (where the goods are available to everyone if they are available to anyone). The problem with public goods is that it is difficult to incentivise a private party to provide them. This is because, while the provider would face all of the cost of providing the public good, they would receive only a tiny part of the benefit of it themselves. And, on top of that, because the public good is non-excludable, they couldn't stop others from benefiting from it, even if those other people didn't contribute towards the cost.

Coming back to objections to alcohol outlet licences, an objection to a licence application or renewal is a public good. It is non-rival (one person objecting to the licence doesn't prevent other people from also objecting), and non-excludable (if one person objects to the licence, then every person potentially benefits from the objection [*]). On top of that, the objector faces the full cost of presenting their objection to the licence, but the benefits may be spread over many people.

It is this last point that creates the problem for objectors. Writing a letter to object to the granting of an alcohol outlet licence is fairly low-cost, but that is only the beginning of the process. If a licence is opposed, the relevant District Licensing Committee is bound to send the application to a public hearing. If the objector fails to appear at the hearing, then their objection will carry little weight in the Committee's decision-making. So, if the objector really wants their objection to count, they must face the cost of attending the hearing. That might include time spent preparing for the hearing, collecting evidence, finding witnesses, as well as the opportunity cost of foregone income (for working people) for the time spent at the hearing itself.

In most instances, the benefits for any individual of a licence not being granted are likely to be relatively small. Maybe they gain a bit more peace and quiet, or cleaner streets, or fewer drunken hooligans around their property. And those benefits are uncertain, because there is a chance that, in spite of the objection, the alcohol licence or renewal application is granted anyway.

An individual (and rational) potential objector would weigh up those benefits against the cost of mounting an objection, and would only object if the benefits were greater than the costs. Given the small (and uncertain) benefits, it should be no surprise to anyone that there have been few individual objectors to alcohol licences (and, where there have been individual objectors, they have often been severely impacted (or believe they will be severely impacted) by the alcohol outlet.

However, that calculus largely ignores the fact that many people might benefit from licence not being granted (or renewed). Individually, the benefit-cost calculation for each of those people might mean that costs exceed benefits for every one of them. However, the benefits to the community as a whole might exceed the costs of objecting to a licence.

With that in mind, we would expect to see more opposition to alcohol licences when the community can organise itself collectively to oppose the licence, or where there is an interest group or a politician that feels the need to represent the community's interests. In the former case (the community collectively), the benefits of the community as a whole matter to the evaluation of whether the benefits of the objection outweigh the costs. In the latter case (interest groups or politicians), the benefits to the interest group or politician (maybe a 'warm glow' benefit, or an increased chance of electoral success) might outweigh the costs of the objection.

In fact, I believe that is what we see. Most often, if a licence application is opposed, it is by an interest group or a politician, rather than an individual. [**] For instance, consider this current case in Flaxmere:

While the application, submitted by directors Sukhpal and Chamkaur Singh had not been opposed by police or the Hawke's Bay District Health Board, Hastings councillor for Flaxmere and Hastings Ambassador Henare O'Keefe argued to the contrary.

He gave an impassioned plea for ARLA to "listen to the cry of the people of Flaxmere", noting the effects of liquor have created an "alcohol Holocaust" in the suburb.

And this example in Johnsonville (Wellington), opposed by the mayor:

The application to open a liquor store in Johnsonville next to a Work and Income office has attracted 17 submissions...

But Mayor Justin Lester, who lives in Johnsonville with his family, has weighed in.

He has submitted against the proposal both personally and in his capacity as mayor.

Although, it is possible for the community to organise against an application, as this example (from the same article as the Johnsonville example) shows:

A proposed bottle store in the Wellington suburb of Khandallah has garnered more than 500 objections - possibly the highest number in the country...

Wellington City Council spokesman Richard MacLean put the strong opposition down to people in Khandallah actively organising against the store.

"This is easily the biggest amount we've had in recent years or indeed in living memory".

Although, it is worth noting that Khandallah has a substantially higher median income (~$47,000 at Census 2013) than Wellington City as a whole (~$38,000), and that might contribute to the ability to organise against a licence application. More on that point in a future post.

Overall, the lesson for an individual objector is not to despair. If you think the cost (in terms of your time and effort) is too much to object to a licence, either find a lot of neighbours to also object (spreading the cost a little, but also increasing the chance of your objection being successful), or seek out a local politician or an interest group to front the cost of the objection.

*****

[*] I say 'potentially' here purposely. Of course, the licence applicant doesn't benefit from an objection (in their role as potential licensee), but they might benefit as a regular person.

[**] Ignoring opposition by the Police, the Medical Officer of Health, or licensing inspectors, each of whom are required to report on every outlet licence application.

Naloxone and opioid deaths in the U.S.

Two weeks ago, I wrote a post about vaccinations against drug addiction. Some readers might have been sceptical that introducing such a vaccine "might reduce drug addiction, but come at the cost of more drug overdoses". The mechanism I suggested there was that drug addicts would be more likely to overdose by accident if they had received the vaccine, because they would require a higher does in order to get high.

Well-meaning interventions can often lead to such unintended consequences. In a related case, I offer this 2018 working paper by Jennifer Doleac (Texas A&M) and Anita Mukherjee (University of Wisconsin-Madison). Doleac and Mukherjee looked at the impact of increasing access to Naloxone on opioid-related deaths in the U.S. Naloxone is "a drug that can reverse an opioid overdose if administered quickly". So, the availability of Naloxone reduces the risks of consuming opioids, meaning that drug users can use more, or use opioids more riskily, with the knowledge that their risk of overdose has been reduced. This is an example of a Peltzman effect (which I have previously discussed here and here and here) - when you reduce the risks associated with risky behaviour, people engage in more of that behaviour.

Doleac and Mukherjee indeed find evidence of offsetting behaviour:

After naloxone access laws take effect, Google searches for "drug rehab" (a proxy for interest in drug treatment4) fell by 1.4%, arrests for possession and sales of opioids increased by 17% and 27%, respectively, opioid-related visits to the emergency room increased by 15%, and opioid-related theft increased by 30% (though the effect on overall theft rates is much smaller). Meanwhile, expanding access to naloxone had no effect on opioid-related mortality, on average.

In other words, after Naloxone became readily available, people responded by reducing their demand for drug treatment (why seek treatment when opioids are now less dangerous), increasing their demand for opioids (once they realised that opioids were less risky, people consumed more), and increased opioid-related thefts (in order to fund their increased drug habit). The net effect on opioid-related deaths was close to zero. The authors propose two channels to explain the offsetting behaviour:

First, the reduced risk of death makes opioid abuse more appealing, leading some to increase their opioid use - or use more potent forms of the drug - when they have naloxone as a safety net. Some of those abusers may become criminally active to fund their increased drug use. Second, some opioid abusers are saved by naloxone and may continue their previous drug use and criminal behavior (this intended effect of naloxone will mechanically increase rates of both behaviors).

Doleac and Mukherjee also do a great job of testing the robustness of their analysis, which holds up quite well. There are also regional differences, and differences in the effects between areas that have greater access to drug treatment and those that have less access. Specifically:

...naloxone access laws increased mortality more in places with fewer drug treatment facilities per capita, or more limited eligibility for Medicaid (which covers substance abuse treatment). In other words, easier access to treatment is associated with more beneficial policy effects.

That provides a useful policy prescription for complementing Naloxone access and reducing the negative impacts: provide more access to drug treatment. However, whether that would work requires some further investigation, since Doleac and Mukherjee show (as noted above) that increased Naloxone access reduced the demand for drug treatment. So, increasing supply of drug treatment by itself might be ineffective.

In any case, as this research shows, combating drug-related deaths is clearly not an easy fix (pun intended!).

[HT: Eric Crampton at Offsetting Behaviour, last year]

Read more:

• This couldn't backfire, could it?... Vaccine against drug addiction edition

We count Pitcairn Islanders in New Zealand. Why not Timorese?

New Zealand has a standard classification of ethnicity that allows Statistics New Zealand (or other government agencies) to describe the ethnicity of people in a way that is consistent and comparable across all government agencies. The classification has four levels. The top level has essentially six categories: (1) European; (2) Māori; (3) Pacific Peoples; (4) Asian; (5) Middle Eastern, Latin American, and African (MELAA); and (6) Other ethnicities. For a long time, I've been critical of the Pacific, Asian, and MELAA groups as merging some extremely heterogeneous populations into a single category. For instance, the Asian group includes Japanese, Fijian Indian, and Afghani people, as if they were all in some way similar. The MELAA group is an even bigger nonsense.

Many researchers use data at the top level of the classification in a fairly uncritical way. Even those who view the data with a healthy dose of scepticism are forced to use it when it is the only level of data that is available. The level of ethnic disaggregation often depends on whether you are looking at the national level, the regional level, or more locally (and relates to the point I discussed in my post yesterday - in that research we used Level 2 ethnicity data, but previous researchers had focused on Level 1). For instance, below the national level, the data produced by Statistics New Zealand is often aggregated to Level 1 or Level 2 of the ethnic classification (for example, the Census data available at NZ.Stat is only available at Level 2 for territorial authorities, and for most of the cross-tabulations it is only available at Level 1). Consequently, most of the research (especially health research) I have seen uses the Level 1 classification.

The New Zealand Herald picked up on this issue in a story this morning:

An immigration expert has slammed what he sees as New Zealand's systemic failure to recognise minority ethnic and religious communities.

This comes after Statistics New Zealand revealed that one in seven failed to fully complete Census 2018.

Massey University sociologist Professor Paul Spoonley said the use of "crude categorisations" like Asian and Pasifika by authorities hid important differences and the true diversity of the nation.

Census participants were asked to list their race and ethnic origin. But those who identified with an "infrequent" or "unanticipated ethnic group" were put under a "not elsewhere classified" group.

Of course, the classification works that way for good statistical reasons. The smaller the number of people in an ethnic group, the greater the statistical error in any research that involves them, or in any table of data or cross-tabulation involving that group. And the smaller the group, the more likely that publishing numbers related to that group inadvertently compromises the confidentiality of the data. So, even if data were published related to small ethnic groups, there would be a lot of data suppressed due to small numbers. The standard classification of ethnicity tries to minimise this problem by grouping ethnic groups that have small numbers into the "not elsewhere classified" groups.

However, Paul makes an excellent point. So, let's have a look at those "not elsewhere classified" (NEC) ethnic groups, focusing on the Asian Level 1 ethnic group.

At Level 4 of the standard classification of ethnicity, the following groups fit under the Asian category [*]: Filipino; Cambodian; Vietnamese; Burmese; Indonesian; Lao; Malay; Thai; Karen; Chin; Southeast Asian NEC; Hong Kong Chinese; Cambodian Chinese; Malaysian Chinese; Singaporean Chinese; Vietnamese Chinese; Taiwanese; Chinese NEC; Bengali; Fijian Indian; Indian Tamil; Punjabi; Sikh; Anglo Indian; Malaysian Indian; South African Indian; Indian NEC; Sinhalese; Sri Lankan Tamil; Sri Lankan NEC; Japanese; Korean; Afghani; Bangladeshi; Nepalese; Pakistani; Tibetan; Eurasian; Bhutanese; Maldivian; Mongolian; and Asian NEC.

That is a lot of groups, but there are some notable omissions. Essentially it would be impossible to find any data from Statistics New Zealand or any government agency on any Asian group that does not appear on that list. The New Zealand Herald highlighted the omission of the Peranakan group in an article today, but we could add Timorese, Uighur, Rohingya, and any number of other small (and marginalised) groups, for which having access to data would be useful. I expect that Timorese and Rohingya are included in the Southeast Asian NEC category, but it would be hard to know (there is no detail in the classification to tell us).

Uighur might be included in the catch-all "Eurasian" group, which presumably also includes the Uzbek, Kazakh, Turkic, and Kyrgyz ethnic groups, etc. You might argue that these groups are small, and similar enough to group together, but I expect they would disagree. Or maybe the Uighur are in the Chinese NEC category. Again, it is hard to know.

The Pacific Peoples category has similar cases (for example, no category for Marshall Islanders, Palauans, or even Micronesians more generally). Don't get me started on the MELAA group - this post might end up thousands of words long.

The argument for 'ignoring' these groups, or merging them into other groups or into an NEC category is, as I noted above, in order to ensure that the merged groups are large enough to count. However, what constitutes an ethnic group that is 'too small to count' in Level 4 of the classification must be fairly arbitrary. Level 4 includes a category for Pitcairn Islander. Pitcairn Island has a permanent population of 50, so how many of them could possibly be living in New Zealand?

If we can count Pitcairn Islanders (population in the home location of 50), then surely we can count Timorese (1.3 million, in Timor-Leste, plus more in the western half of the island), Rohingya (around 1-1.3 million), or Uighurs (over 12 million). Not to mention the hundreds of other ethnic groups with small numbers in New Zealand. It's time to refresh New Zealand's standard classification of ethnicities to ensure that all minority groups count, and are counted.

*****

[*] I'm ignoring the "not further defined" category, which is where we know what category the person belongs to based on a higher level of the classification, but not at Level 4. That might occur, for instance, if someone says they are "Southeast Asian", which is a category at Level 2 of the classification, but not at Level 4.

Who are the people in your (Auckland) neighbourhood?

Auckland is one of the most diverse cities in the world, with more than 200 ethnicities represented and 160 languages spoken. However, those numbers represent diversity at the city-wide level. If ethnic groups are segregated into different ethnic enclaves, then the impression given by the overall numbers overestimate how much inter-ethnic interaction there is.

In a new working paper, my PhD student Mohana Mondal and I, along with Jacques Poot (University of Waikato and Vrije University Amsterdam) measure the cultural (ethnic) and socio-economic (age, income, education, occupation) residential segregation for Auckland city, using data from the Census for 1991 to 2013. Specifically, we wanted to see whether people were sorted more by their cultural characteristics or their economic characteristics.

We used an entropy-based measure of residential sorting, similar to the Theil Index (those interested in the technical detail can read about it in the paper, or in another forthcoming working paper, where we show that this measure is less biased by the size of the groups used to calculate it - more on that in a future post). The level of geography that we are working with is the area unit (approximately the size of a suburb).

The novelty of our paper is that we work with a more disaggregated level of ethnicity data than previous studies. [*] Previous studies have been limited to essentially four ethnic groups (New Zealand European, Māori, Pacific, Asian), whereas in our analysis we look at Samoan, Chinese, Indian, etc. This disaggregation of ethnic groups allows for a finer analysis of ethnic residential sorting than previous studies. [**] We then use similar numbers of groups by age, income, education and occupation in the calculation of residential sorting for those variables.

Overall, we show that:

...residential sorting is greater by cultural than by economic variables. At the area unit level, there is considerable spatial difference in ethnic diversity, but not so much in terms of economic characteristics.

In other words, Auckland suburbs are much more diverse in terms of age, income, education, and occupation, than they are by ethnicity. In other words, people of the same ethnic group tend to cluster together into the same suburb(s) much more than people of the same age, income, education, or occupation.

Looking at specific ethnic groups, we find that:

...the New Zealand European and the New Zealand Māori ethnic groups are consistently the least residentially sorted. At the other extreme, the African, Hispanic and Tokelauan ethnic groups are the most residentially sorted. We also observe growing residential sorting of the populations of Chinese and Indian ethnicity.

It's probably not surprising that small ethnic groups are more likely to cluster together, while the two largest ethnic groups are more spread out. When we look at ethnic sub-groups within the larger ethnic groups, we find that:

...Level 2 ethnic groups are increasingly sorting away from other Level 2 groups within the same Level 1 broad ethnic group. For instance, there are fewer suburbs that are generic Pacific Island communities, with Samoan, Tongan and other Pacific groups increasingly located separately from each other.

Again, this is not surprising. When an ethnic group is small, its members tend to co-locate with other similar ethnic groups. But when a groups gets large enough, it may be better for its members to find their own location within the city.

This is the first paper published from Mohana's PhD thesis. Ultimately, she is looking at using a prototype spatial microsimulation model to project Auckland's future ethnic diversity. I look forward to blogging on that in the future.

Read more:

• How segregated is Auckland, and New Zealand?

*****

[*] We use Level 2 of Statistics New Zealand's standard classification of ethnicities. Previous studies use Level 1 of the classification, or a limited number of the ethnic groups from Level 1.

[**] However, working with Level 2 ethnicity data comes at a cost. It means we look at the area unit (suburb) level, whereas previous studies have used data at the meshblock (neighbourhood) level.

Book review: What Makes a Terrorist

I just finished reading Alan Krueger's 2007 book, What Makes a Terrorist. This reading was timely, for two reasons: (1) Krueger passed away last month (see my post on his passing here); and (2) the recent mass shooting in Christchurch. Krueger's book is both a review of the relevant literature, and a report on his own related research, constructed from the three lectures he gave as part of the Lionel Robbins Memorial Lecture Series in 2006. Krueger defines terrorism as "premeditated, politically-motivated violence", and he limits his consideration to those acts "perpetrated by substate organizations and individuals with the intent of influencing an audience beyond the immediate victims". The 'substate' aspect of this is important, since it eliminates consideration of terrorism by states.

The first lecture looks at the individual factors associated with being a terrorist. Krueger motivates this section by noting that most people identify poverty or lack of education as a source of terrorism. Such a conceptualisation has a strong economic underpinning. Lower income people (or the unemployed) have a lower opportunity cost of time, so the income foregone by being a suicide bomber, or being jailed indefinitely for a terrorist act, is smaller for those with lower income or those who are unemployed (a similar argument can be made about crime more generally). I found the motivation here to be less than compelling. I don't think I had heard a strong argument for terrorism being associated with poverty, but instead being associated with differences in ideology. However, regardless of the motivation, Krueger finds that:

...the evidence is nearly unanimous in rejecting either material deprivation or inadequate education as an important cause of support for terrorism or of participation in terrorist activities. 

Instead, Krueger finds that terrorists are motivated by political goals.

The second lecture uses cross-country data to look at which countries have more terrorists, and which countries are more likely to be the targets of terrorist attacks. Here, Krueger finds that:

...civil liberties are an important determinant of terrorism... The data tell us that terrorism should be viewed more as a violent political act than as a response to economic conditions. Education and poverty probably have little to do with terrorism. There are many reasons for improving education and reducing poverty around the world, but reducing terrorism is probably not one of them.

Essentially, the cross-country results support the results from the analysis at the individual level. However, it is important to note that all of this research is correlational, rather than causal. These are simply the factors associated with terrorism, and it would take much more sophisticated methods to demonstrate that these correlations are causal, i.e. that a lack of civil liberties causes terrorism.

Finally, the third lecture looks at the consequences of terrorism. Do terrorist acts have a big impact on the economy, or do they impose psychological costs on the population? Maybe surprisingly, Krueger notes from a range of research that the impacts are small and not persistent:

The type of terrorism we have witnessed so far is comparably more to the situation the United States faced with the Barbary pirates in the late eighteenth century than to World War II: a risk for a small number of people that is not a major threat to most people's way of life or to national prosperity.

Essentially, while they may be some short-term impact on economic output (GDP) or on measures of subjective wellbeing, those effects disappear in the long term.

This book is relatively easy to read, especially for those with a little bit of background in economics. There are some technical parts, but Krueger doesn't allow them to bog down the narrative too much, and it is easy enough for the reader to gloss over the more technical aspects and focus on the substantive arguments. As an introduction to the literature (at least, up to 2006), I think this is a good book to read. It lacks a bit of the insight that an additional decade and more of research has provided, but is nevertheless interesting and informative.

Evergreening insulin and market collusion

Yesterday I posted about price discrimination among pharmaceutical firms. However, engaging in price discrimination requires that firms have market power. One way that get market power is if the government grants them an exclusive licence to sell their product, such as through a patent. That market power is time-limited though, because patents expire. Unless, that is, you can argue that you have discovered a new use for your invention. So, pharmaceutical firms spend a lot of time and effort on trying to find new uses for their drugs (see my previous posts here and here, about Viagra), so that the patent can be renewed. This is called evergreening.

Evergreening is pretty widespread, and not just for well-known brand-name drugs. Consider the example of synthetic insulin, as described in this article by James Elliott and Elizabeth Pfiester:

Why aren’t we seeing more companies making insulin? There are many reasons for this, but patent evergreening is a big one. Patents give a person or organization a monopoly on a particular invention for a specific period of time. In the USA, it is generally 20 years. Humalog, Lantus and other previous generation insulins are now off patent, as are even older animal based insulins. So what’s going on? Pharmaceutical companies take advantage of loopholes in the U.S. patent system to build thickets of patents around their drugs which will make them last much longer (evergreening). This prevents competition and can keep prices high for decades. Our friends at I-MAK recently showed that Sanofi, the maker of Lantus, is no exception. Sanofi has filed 74 patent applications on Lantus alone, that means Sanofi has created the potential for a competition-free monopoly for 37 years.

So, don't expect cheap generic insulin to come onto the market for some time. Elliott and Pfiester also reveal a number of other reasons why insulin is expensive, including:

• Just three firms (Eli Lilly, Novo Nordisk and Sanofi) control over 90% of the insulin market worldwide, giving them a cosy oligopoly and a lack of competition on price;
• Collusion (as you would expect in an oligopoly), such as firms paying others not to enter certain markets ("it is actually legal for one insulin producer to pay another one not to enter the market"); and
• Price fixing (again, what you would expect from an oligopoly).

Evergreening is no surprise, since the incentives for that practice are created by the patent laws. However, taking advantage of market power through colluding on prices or market-splitting is illegal in most Western countries. Given that these practices raise prices, reduce the availability of insulin to patients, and reduce total welfare, it is surprising that the pharmaceutical firms can continue to get away with this. When it comes to health policy, this is surely some low-hanging fruit that can be picked to improve health cost-effectively (at the least, by lowering the cost to health funders, who can then divert more resources to other categories of health spending).

In the U.S. though, one problem that is not acknowledged in the Elliott and Pfiester article is that the health insurers, who fund much of the health system in the U.S., have very little incentive to reduce costs. The insurers don't care if the pharmaceutical firms are driving up prices, because the costs are simply passed onto consumers in higher health insurance premiums.

[HT: Marginal Revolution]

Read more:

• Evergreening viagra, revisited
• Evergreening viagra

Protecting price discrimination in the wake of medical tourism

Price discrimination occurs when a firm sells the same good or service to different consumers at different prices, and where those different prices do not arise from differences in cost to the firm. The firm price discriminates by selling the good or service at a low price to consumers that have relatively elastic demand (those that are very responsive to a change in price), while selling the same good or service at a higher price to consumers that have relatively inelastic demand (those that are less responsive to a change in price).

A good example of price discrimination is in the market for pharmaceuticals (which I've written about before), where firms sell the same drugs in different countries for different prices. In lower-income countries, they typically sell the drugs at lower prices than they do in higher-income countries. Unsurprisingly, those that require the drugs respond to these incentives, as Alex Tabarrok noted last week on the Marginal Revolution blog:

In our principles textbook, Tyler and I open our chapter on price discrimination with the following:

"After months of investigation, police from Interpol swooped down on an international drug syndicate operating out of Antwerp, Belgium.  The syndicate had been smuggling drugs from Kenya, Uganda and Tanzania into the port of Antwerp for distribution throughout Europe.  Smuggling had netted the syndicate millions of dollars in profit.  The drug being smuggled?  Heroin?  Cocaine?  No, something more valuable, Combivir.  Why was Combivir, an anti-AIDS drug, being illegally smuggled from Africa to Europe when Combivir was manufactured in Europe and could be bought there legally?

The answer is that Combivir was priced at $12.50 per pill in Europe and, much closer to cost, about 50 cents per pill in Africa.  Smugglers who bought Combivir in Africa and sold it in Europe could make approximately $12 per pill, and they were smuggling millions of pills."

Instead of smuggling the drugs to Europe, it’s also possible to send the European and American patients abroad. Gilead’s Solvadi, for example, is a very effective drug used to treat hepatitis C. In the United States a course of treatment costs about $85,000 but due to an agreement between Gilead and generic manufactures in developing countries, in Egypt, India and much of the developed world it can be had for less than $1000.

There are several conditions that need to be in place in order to practice effective price discrimination:

1.  Groups of customers that have different price elasticities of demand (heterogeneous demand);
2. Different groups of customers can be identified; and
3. No transfers across submarkets.

When consumers (as medical tourists) are able to travel across borders from higher-income countries to lower-income countries in order to obtain their drugs at a lower price, that violates the third condition and means that price discrimination becomes ineffective (at least, for those consumers that can afford to travel across borders). The last thing you want as a price discriminator is the high-price consumers buying at the low price (or buying from the low-price consumers who are on-selling the product). You'd expect the pharmaceutical firms to act to stop this, and indeed that is what has been happening, as Tabarrok notes:

To prevent resale Gilead requires ID and it labels and tracks every bottle sold abroad:

"[Patient IDs] will be used to put an identifying barcode on the bottles they receive with their name and other info. Not only can the code be used to guarantee only residents of the country get the drugs…the provisions require that patients then return a bottle to get a new bottle and allows them to get only one bottle of their prescription at a time, even though allowing them to get multiple bottles could “ease the burden on patients and health providers,” MSF says."

It's not clear to me how labelling and tracking every bottle sold effectively prevents cross-border sales, unless combined with something else like strict residency requirements (such as those noted in this article). For example, perhaps you have to be a resident of the country you are purchasing the drugs in, or else you have to pay the U.S. price. That would prevent the transfers between the submarkets. Unless, you know, the high-income person pays a low-income local resident to get the drugs for them? That might work in some instances, and it's not clear how the drug companies could effectively combat it.

Price discrimination is hard, but as evidenced by the pharmaceutical companies, enormously profitable even if you can't get it perfectly right.

Domino's' block pricing fail

This week in ECONS101, we covered pricing strategy. I love this topic, not least because it covers material that you typically wouldn't see in an introductory economics textbook. One of the strategies we talk about is block pricing. A firm uses block pricing when it charges a relatively high price until the consumer reaches some threshold, then a lower price for every unit the consumer buys after the threshold. Buy-one-get-one-half-price is an example of block pricing. The idea is to price high for those consumers who don't buy much from you, and lower the average price for consumers who buy a lot (you can see how block pricing works in more detail in this post).

Also this week, we had the first ECONS101 test of the semester, and the tutors and I met up for pizza beforehand. Ordering the pizzas online, the banner ads caught my attention. First, this one:

Value pizzas for $5 each. Seems like a good deal. Then this:

Upgrade to extra large for $3 more. Sounds like an even better deal, right? The extra large gives you 50% more pizza for just $3 more (if you zoom in, you'll see that it's 50% more in the fine print). But wait! If you upgrade a value pizza to extra large, you're paying $3 more, which is an increase in price of $3/$5 = 60%! So, you pay 60% more in order to get 50% more pizza. [*]

It's not quite a two-for-the-price-of-three fail, but it clearly isn't block pricing done right. Unless Domino's is relying on it's customers being somewhat innumerate?

*****

[*] Once you factor in the delivery charge, then maybe this deal pays off for the consumer, because the extra $3 would be less than 50% of the cost including the delivery charge. Similarly, for more expensive pizzas, the extra $3 is less than 50% of the cost. However, for pick up customers collecting value pizzas, it clearly doesn't pay off.

This couldn't backfire, could it?... Vaccine against drug addiction edition

The New Zealand Herald reported today:

A New Zealand scientist is exploring a new vaccine for drug addiction, which would teach our immune system to reject specific drugs before they could trigger highs.

Researchers have been trying, unsuccessfully, to create such an intervention since the 1970s.

Dr Benjamin Compton believed the failures didn't owe to the concept itself, but to the design of the actual vaccines...

Vaccines were one of the most cost-effective and powerful health interventions available, Compton said, and he believed it should be possible to vaccinate against drug addiction...

Compton would initially test his vaccine on mice, and, if he could prove the concept worked, it could be revolutionary.

"This technology will be really helpful for those addicts who want to break free of their addiction. Should that person come into contact with the drug, a vaccine will ensure there is no reward from the drug-taking behaviour."

I don't know about you, but I can immediately see a potential problem with this solution. You might argue that drug addiction is itself a problem. I'd agree, provided the addiction causes some other dysfunction in the addict's life, which causes harm to themselves or to others. One obvious harm to the user themselves is the risk of drug overdose.

As a very simple explanation, drug addiction arises because the drug stimulates the reward centre of the brain, causing a 'high'. The high feels good, and the addict continues to use the drug in order to experience the high they get from it. Over time though, drug users develop some tolerance to the drug, and so they might need to use a higher dose of the drug in order to achieve the same high.

Compton's vaccine would interrupt this process by preventing the drug from stimulating the brain's reward centre, thereby preventing the drug user from achieving the high. It seems like a clear solution to drug addiction, so why would it be a problem?

Let's assume that the vaccine is to be administered to current drug addicts, in order to help cure their addiction. If you interrupt the chemical process that leads the drug to stimulate the reward centre in the brain, then some current addicts who are treated with the vaccine would respond by consuming more of the drug, in order to try to get their high. And if the chemical process that focuses on the reward centre in the brain is different from the chemical process that results in toxic drug overdoses, there is a very real risk that the vaccine could lead to more drug overdoses (or at least, it substantially raises the risk of overdose for those addicts who are treated with it).

Alternatively, perhaps the vaccine is designed to prevent addiction in the first place. Exactly who, among non-drug-users, is going to agree to be vaccinated against drug addiction?

So, the vaccine might reduce drug addiction, but come at the cost of more drug overdoses. You solve one problem, but I would worry that you are creating a problem that is potentially much worse. Sometimes unintended consequences are entirely foreseeable.