Wednesday, 31 August 2022

The missed opportunity in the 'KiwiSaver tax'

The government has played this one all wrong. The New Zealand Herald reported today:

National Party leader Christopher Luxon says proposed new tax rules for KiwiSaver accounts "can't stand" and his party will push to stop the "retirement tax".

On the AM show this morning, Luxon said Kiwis will be angered by the plans to charge GST on fees paid on KiwiSaver accounts from April 2026, which could net the government millions of dollars a year in additional revenue.

"This is such a bad idea; a retirement tax when we're trying to encourage people into KiwiSaver doesn't make any sense," Luxon said.

"This can't stand, this is a really bad idea."...

National has started a petition on its website to stop the "KiwiSaver tax", Luxon told the AM show. 

It's not a really bad idea. The core of the actual proposal doesn't intend to tax KiwiSaver or retirement savings, but that is its effect. As the article notes:

The proposed tax bill was introduced to parliament on Tuesday to change the way the tax is applied to service fees charged by managed funds, which currently are not subject to GST.

Excluding things from GST creates unnecessary distortions and incentives. If you doubt that, you really should read about the great Jaffa Cake controversy in the UK (or this post on whether snuggies are blankets, or clothes). So, aligning the rate of GST to be the same for all financial services makes sense. However, the government really should have seen the controversy coming. They were warned:

The Inland Revenue has calculated that the proposed change will add around $225 million a year to the government's tax revenues.

Financial agencies and GST experts have warned the tax will hit KiwiSaver balances hard and be passed on in the form of increased fees, while the opposition has described it as "yet another tax grab ... to fleece New Zealanders of their hard-earned cash".

The Financial Services Council of New Zealand (FSC) also described the changes proposed in the Taxation (Annual Rates for 2022–23, Platform Economy, and Remedial Matters) Bill as legislative "overreaches" and a "suboptimal outcome" in the middle of a cost-of-living crisis.

This whole thing strikes me as a huge missed opportunity. The government is due to receive a windfall of $225 million a year, which would have otherwise gone to taxpayers' KiwiSaver accounts. Why not take that $225 million, and route it directly into KiwiSaver? The government already provides a contribution of $521.43 for every taxpayer who saves at least $1042.86 per year. Why not simply increase the government contribution? There are 3.1 million people with KiwiSaver accounts. Assuming nearly all of them save the minimum, $225 million works out at about $75 per KiwiSaver account.

That sounds like an even better deal when you consider that:

Someone with $37,500 in a fund charging a 0.8 per cent fee would currently pay a $300 annual fee. Under the new rules, if the cost of the rule change were passed through to the investor, that fee would rise to $359, costing the investor $6490 over 25 years of contributions.

The average KiwiSaver balance for someone in their 40s is $37,000.

So, in effect, paying an additional contribution of $75 per year would make someone with the average KiwiSaver balance better off, on net (because the extra GST they would be paying is only $59, but they would gain $75 in additional government contribution, making them $16 better off per year). People with smaller KiwiSaver balances, who would be pay less than $59 extra in GST on their fees, would be even better off (because they would still receive $75 additional government contribution). People with larger KiwiSaver balances would end up paying more in additional GST than the $75 additional government contribution, making them somewhat worse off. This would, in effect, lead to a small redistribution of retirement wealth from taxpayers with large KiwiSaver balances to those with smaller KiwiSaver balances.

The effect wouldn't be large. But, when people are already worried about a KiwiSaver inequality gap, this would be a low-cost way of reducing that gap to some extent. The government is claiming that the GST change is not a money grab, but when they miss an obvious opportunity to leverage the tax change for redistribution, can you really blame people for thinking otherwise?

And then while I was writing this post, I saw the headline that the government has backtracked and withdrawn the tax change proposal. It's still a missed opportunity.

Tuesday, 30 August 2022

Liberate the tractors!: Customer lock-in and the right to repair movement

Michael Stead and Paul Coulton (Lancaster University) had an interesting article in The Conversation last week:

The software that runs John Deere tractors was successfully “jailbroken” at this year’s DEF CON hacker convention, enabling farmers to repair or retune their equipment without engaging with the company that sold them their vehicles.

The hacker involved, who calls himself Sick Codes, was responding directly to US farmers’ long-standing concerns that their “smart” tractors are run on software that only John Deere can access to repair. Smart tractors, including those manufactured by John Deere, are also widely used in the UK.

Sick Codes’ jailbreak was undertaken to “liberate the tractors”, he said.

Why did the tractors need liberating? Because John Deere was using customer lock-in to extract additional profits from their customers. Here's how it works. In order to repair or service a John Deere tractor, the repair technician requires access to the repair software and diagnostic tools. John Deere only makes access available to its own technicians, and to other accredited technicians. Who accredits the technicians? John Deere does, for a fee. So, if a farmer wants their tractor repaired or serviced, they have two options. The farmer either goes direct to John Deere (paying John Deere for the cost of repairing or servicing their tractor), or goes to an accredited technician (who pays John Deere in order to remain accredited). Either way, John Deere gets paid. There isn't any alternative for the farmer. They can't avoid paying John Deere. This effectively locks farmers into repair services with John Deere for the life of their tractor. This is no doubt a very profitable arrangement for John Deere (which is why they do it). It allows John Deere to increase the price of repair services, either directly, or through increasing the fee for technicians who want to be accredited.

This is really similar to elevator manufacturers, which is an example I use in my ECONS101 class. Once an elevator is installed in a building, the building owner is essentially locked into a long-term servicing contract with the elevator manufacturer. In order for the building to remain compliant with the building code, they must have a regularly serviced elevator. And servicing the elevator to code requires an accredited elevator technician. And who accredits the technicians? The elevator manufacturers.

Customer lock-in is very common, once you know how to recognise it. Stead and Coulton offer some more examples:

Owners of smart or “Internet of Things” (IoT) devices – from smartphones to internet-connected coffee makers – may have experienced similar frustrations to the owners of John Deere tractors.

To encourage customers to purchase their latest device, some tech firms effectively shut down older models by withdrawing the digital support services that keep them up and running...

Additional layers of software also allow manufacturers to control their customers’ access to features built in to their products. For instance, BMW now requires new customers to purchase a subscription to use the heated seats installed in the vehicles they own.

Many smart devices are purposefully designed to have short lives and to be quickly usurped by newer models, a manufacturing strategy termed planned obsolescence. Other practices, such as adjusting a smartphone’s battery performance via its operating system, have led to accusations of deliberate battery throttling by manufacturers to increase sales.

I discussed the BMW heated seats example in this post earlier in the week. It illustrates not only customer lock-in, but price discrimination as well. The examples of planned obsolescence and battery throttling are particular pernicious. You might not think that customers are lock in, but they are. If you have a particular model of smartphone, and you want to upgrade, you are likely to buy the same brand. Some of this is brand loyalty, and some of it may be related to identity (iPhone users are a classic example). However, it may simply be because learning a new brand of phone is awkward and annoying, and buying a phone that is similar to the previous one offers a lower cost of switching phones than adopting a totally different phone. Switching from an Android phone to an iPhone is costly in more than just dollar terms. Mobile phone manufacturers may be able to exploit that to nudge you into a new model more quickly than you would otherwise prefer.

Customers are fighting back though. As Stead and Coulton write:

To address these issues, campaign groups like Repair.EU, and The Restart Project have successfully lobbied governments to introduce “right to repair” legislation for electronic products. These laws were first announced at the EU level in 2020 and came into effect across the UK in the summer of 2021.

However, it's unclear how effective government regulation and popular movements like the 'right to repair' have been so far. I wouldn't be surprised if firms like John Deere respond by making the software tools available, but having the software lack detailed specifications and include a number of hidden features that are not obvious to the casual user. This would increase the costs of non-accredited technicians relative to the accredited technicians. Or, they will find some other creative way of ensuring that something close to the status quo prevails, and their customers remain locked in. To resolve this situation in the favour of customers and win this game of 'whack-a-mole', it's going to take a matching level of creativity from the 'right to repair' movement.

Monday, 29 August 2022

The subscription economy as price discrimination

In my last post, I outlined how VinFast selling electric vehicles, with the battery priced separately as a subscription, was an example of two-part pricing. However, not all subscriptions are two-part pricing. Often, first use these subscriptions as a form of price discrimination. Consider the following example from a recent article in The Conversation by Louise Grimmer (University of Tasmania):

From gym memberships to music and movies, to razors, toilet paper, meal kits and clothes, there’s seemingly no place the subscription economy can’t go.

Having conquered the software market – where it gets its own acronym, SaaS (Software as a Service) – the subscription model is now moving into hardware.

Car makers are among the first cabs off the rank, using software to turn on and off optional extras.

German auto maker BMW is offering “in-car microtransactions” to access options for car buyers in Britain, Korea, Germany, New Zealand and South Africa. A heated steering wheel, for example, has a monthly cost of NZ$20 in New Zealand, and £10 in the UK.

Other markets including Australia will soon follow.

In the UK, seven of 13 “digital services” – from heated seats to automatic high beam and driving assistance – are now available in subscription form.

“Welcome to microtransaction hell” is how one headline put it.

But that’s probably overselling the onset of a corporate dystopia where “you will own nothing”. BMW’s motives are pretty straightforward – as is most of what’s driving the subscription economy.

Often, subscription services are taking advantage of customer lock-in - locking customers into buying from the seller, and generating additional profits from the lock-in customers. This was the case with VinFast, and is likely the case with gym memberships, subscription access to movies or music, meal kits, and many others. However, the subscription service that BMW is offering is different. It is different from the more typical subscriptions because it is an add-on to an existing product (the BMW vehicle). It is different from the add-on that VinFast offers, because none of the subscription options from BMW are required in order to operate the vehicle (it will work perfectly fine without a heated steering wheel, I'm sure).

What BMW is doing is price discriminating - charging a higher price for the same product to consumers who have more inelastic demand (and where the price difference doesn't relate to a difference in costs). How does it work? For effective price discrimination, you typically need to meet three conditions:

  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.

For car buyers, the first condition holds. For buyers with higher income, a BMW takes up a smaller proportion of their income and, as I noted in this post from earlier in the month, that means that car buyers' demand for a BMW will be more inelastic. High income buyers will be less price sensitive than buyers with lower income. So, it makes sense for BMW to charge a higher price to high-income consumers, and a lower price to low-income consumers.

The second condition also holds. Once BMW have created a system where the optional extras like a heated steering wheel cost extra, high-income consumers are more likely to buy the optional extras. The consumers sort themselves into high-income and low-income groups, by the choice they make about optional extras. We refer to this as menu pricing (or second-degree price discrimination). The third condition clearly holds, because you can't transfer your heated steering wheel subscription to someone else (and why would you want to, as you are the one paying for it!).

So, it seems like this is price discrimination. However, as I noted above, price discrimination only occurs where the price is different between consumers, but the cost of providing the good or service is the same for all consumers. Providing a heated steering wheel is costly to BMW, so it seems like that might invalidate it as an example of price discrimination (in the same way that the difference in price between business class airline tickets and economy class airline tickets is not price discrimination). In this case, though, there is no effective difference in cost between the two groups, because the heated steering wheel is already included in every vehicle. It just isn't activated in every vehicle. Activating the heated steering wheel (or other optional extras) simply requires toggling some setting in the car's on-board software to 'on', so there is little cost to BMW at all.

Offering optional extras as a subscription enables BMW to take advantage of price discrimination, selling cars for a lower price to low-income consumers (with the optional extras switched off) and for a higher price to high-income consumers (with the optional extras switched on). Don't get me wrong though - BMW are still taking advantage of locking their customers in as well, because there are no alternative providers of the heated steering wheel for their new BMW.

Saturday, 27 August 2022

Leasing vehicle batteries as two-part pricing with customer lock-in

The Dangerous Economist (Cyril Morong) had a post earlier this month about pricing strategy, linking to this Wall Street Journal article (paywalled), which says:

The EV company, established in 2017 in Vietnam, plans to sell two all-electric sport-utility vehicles in the U.S. to start: a midsize SUV, called the VF 8, that starts at $40,700, and a larger VF 9, starting at $55,500. U.S. buyers can place orders now with deliveries expected to start at the end of 2022.

Unlike other EV rivals in the U.S., VinFast has a unique business model in which buyers pay one price for the vehicle, but then lease the battery for a monthly fee. The company offers two battery-subscription plans, costing anywhere from $35 to $160 a month, depending on how much the owner wants to drive, the model purchased and the type of battery.

The fee includes maintenance of the battery and replacement when charging capacity drops below 70% of its original capacity.

In his post, Cyril notes that:

This sounds like insurance companies charging you a lower premium if you accept a high deductible (that is the amount of, say, medical costs you have to pay before the insurance pays anything).

What the VinFast example brought to mind for me was two-part pricing, as I discussed in this post on Thursday. A firm uses two-part pricing when it splits the price into two parts: (1) an up-front fee for the right to purchase; and (2) a price per unit.

The two-part pricing strategy adopted by VinFast is unusual compared to the theoretical two-part pricing strategy (as shown here and here) for two reasons. First, with two-part pricing the up-front fee usually only gives the consumer the opportunity to purchase the product and nothing else. However, in VinFast's case the first part of the two-part price gives them the vehicle, but not the battery (the second part of the price is the per-month subscription fee for the battery).

Second, it usually makes sense for the seller to increase the first part of the two-part price, and lower the second part. This has the effect of creating value (through a lower price per-unit) for the consumer, and then capturing that value back as higher profits (through charging the consumer for the opportunity to purchase in the first place).

However, there is another element of this pricing strategy that explains how its unusual features make sense. Without a battery, the cars might be useful as a storage shed (I guess?), but in order to be used as a vehicle they need a battery. So, VinFast's customers are essentially locked into subscribing to VinFast to make their vehicle operable. If VinFast is smart, they will be using custom batteries that are not compatible with those provided by any other supplier, so that they can be assured that their customers are locked in.

As I discussed with my ECONS101 class this week, locking in customers can be very profitable for firms. VinFast sells the vehicle at a cheaper price (by US$15,000 to US$20,000, according to the Wall Street Journal article), and this lures the customers in and locks them into paying a high monthly subscription fee for the battery. And VinFast laughs all the way to the bank.

Thursday, 25 August 2022

Costco and two-part pricing

This week in my ECONS101 class, we covered pricing strategy. One pricing strategy that many firms use is two-part pricing. A firm uses two-part pricing when it splits the price into two parts (there is no mystery in why it is called two-part pricing!): (1) an up-front fee for the right to purchase; and (2) a price per unit. If the consumer wants to buy any of the product, they must first pay the up-front fee. We can think about two-part pricing first by contrasting it with a profit-maximising firm with market power that is pricing at a single price-per-unit, as in the diagram below (for simplicity, I'll use a constant-cost firm).

The firm with market power selling at a single price-per-unit selects the price that maximises profits. This occurs where marginal revenue is equal to marginal cost, i.e. at the quantity QM. To sell that quantity, they set the price at PM. The producer surplus (profit) the firm earns is the rectangular area CBDF.

However, if the firm switches to two-part pricing, then they can charge an up-front fee for consumers to access the market. The maximum that consumers are willing to pay to access the market will be equal to their consumer surplus (the difference between what the consumer is willing to pay, and the price that they actually pay). The consumer surplus is the consumer's economic rent - it is the surplus they receive from having the opportunity to buy the good or service. So, the maximum that the firm could charge as an up-front fee is the amount of consumer surplus. With the price set at P0, this is the area ABC, in which case profits (combining the original producer surplus plus the up-front fee) would now be the combined area ABDF.

The firm can do even better than that. Profitability is all about creating and capturing value. So, if the firm can create more value (by increasing the consumer surplus), they can capture more profit (by increasing the size of the up-front fee). So, by lowering the price to PS, the consumers would be willing to buy the quantity QS, and would receive consumer surplus equal to the area AEF. By setting the up-front fee equal to AEF and the per-unit price at PS, the firm then increases their profit to be all of the area AEF.

That brings me to my example, Costco, which will shortly open in New Zealand. As this article in The Conversation last week by Megan Phillips (AUT) notes:

Multiple delays and a NZ$60 entry cost have done little to quench enthusiasm for New Zealand’s first Costco, with New Zealanders lining up for more than 90 minutes recently for a chance to buy a membership to the store.

A members-only warehouse retailer, the store will sell a wide range of products including food and grocery items, clothing, electronics, furniture and more. Commentators and people familiar with the brand have claimed the store will disrupt the duopoly that currently dominates New Zealand’s grocery sector.

But to enter the warehouse you must pay a membership fee, set at $60 a year or $55 if you own a business.

Clearly, Costco is employing a two-part pricing strategy here. Notice that the $60 membership fee doesn't entitle customers to anything other than the right to purchase other goods from Costco. The membership fee is the first part of the two-part price, with the second part being the price-per-unit that customers pay when they buy goods in the store.

Now, Costco is deviating a little bit from how we described two-part pricing above, and that is Costco's attempt to overcome one of the problems with two-part pricing. The problem is that two-part pricing only works when the firm has homogeneous demand for their product (to see why, read this earlier post which explains the problem in detail). This means that all consumers have roughly the same demand for the product. This is unlikely to be the case for Costco, because they sell an enormous range of products, and their consumers likely have very different preferences from each other. When demand is heterogeneous (consumers have very different demands or preferences), then two-part pricing tends to encourage low-demand consumers to stop buying (because they don't want to pay the membership fee when they don't buy very much at all), while high-demand consumers buy more but end up spending less in total (because of the lower second part of the price, as per our earlier diagram).

However, Costco has found a way for two-part pricing to work even with heterogeneous demand. Notice that the membership fee is only $60 per year. Consumers will baulk at the membership fee only if their consumer surplus is likely to be less than $60 per year. This is unlikely to be the case for many. This is quite different from the diagram we drew earlier, where the firm increases profits by driving up the size of the up-front fee as much as possible.

So, why have a membership fee at all, if it is set so low? There are a number of reasons why Costco might implement the membership fee. First, it gives Costco customers a feeling of exclusivity. It makes them feel like they are part of a special club. As Phillips notes in that article in The Conversation:

That said, Costco has a massive following. One fanatic even tattooed the Costco’s private label brand (Kirkland Signature) on himself, and other loyal shoppers have proposed or even tied the knot in the warehouse.

The adoration seems to be building in New Zealand with 70,000 followers on a local fan page.

A loyal customer base is quite valuable and profitable for firms. Loyal customers have more inelastic demand for products, allowing prices to be slightly higher. However, Costco maintains its low prices in spite of the opportunity, because its reputation as a low cost store is important for maintaining customer loyalty.

Second, because it requires a membership to buy products from Costco, Costco knows who all of its customers are. It knows what they bought, and when, and how much they were willing to pay (or, more accurately, it knows they were probably willing to pay a bit more than they actually did pay). And Costco knows what their customers didn't buy as well, especially for products prominently on sale.

All of this customer purchase (and non-purchase) data is valuable for developing future pricing strategy. It's the main reason why supermarkets have loyalty cards (it's not out of the goodness of their hearts). And retailers have barely scratched the surface in terms of what is possible with their customer data. As I discussed in my ECONS101 class today, it may not be too long before retailers remove price stickers from their products and from the shelves, and ask customers to scan a QR code or use an in-store app to find the price. When that happens, you will know that the retailer has adopted personalised pricing (first-degree price discrimination). Costco isn't there yet either, but give it time.

Wednesday, 24 August 2022

More evidence that money can't buy happiness, but it can buy life satisfaction

Back in 2019, I wrote this post entitled "Money can't buy happiness, but it can buy life satisfaction". That was based on research from Swedish lottery winners, which showed that:

...the increase in wealth as a result of an unexpected lottery win was associated with a persistent increase in life satisfaction. Hedonic adaptation didn't occur. However, the lottery win didn't increase 'happiness' or an index of mental health.

This week, I read this 2010 article by 2002 Nobel Prize winner Daniel Kahneman and 2015 Nobel Prize winner Sir Angus Deaton, published in the Proceedings of the National Academy of Sciences (open access), which comes to a similar conclusion. Kahneman and Deaton used data from about 440,000 responses to the Gallup-Healthways Well-Being Index (now called the Gallup-Sharecare Well-Being Index) in 2008 and 2009. The survey collects detailed data on a range of measures of subjective wellbeing, including the Cantril Ladder ("Rate your current life on a ladder scale in which 0 is “the worst possible life for you” and 10 is “the best possible life for you.”), and whether the participant felt each of a range of emotions "a lot of the day yesterday", including enjoyment, happiness, worry, sadness, and whether the participant "smiled or laughed a lot yesterday" (all of the emotional questions have yes or no answers). Kahneman and Deaton combined the positive emotions (enjoyment, happiness, and smiling) into a single score for 'positive affect', and the negative emotions (worry and sadness) into a single score for 'blue affect' (they keep stress separate from the other negative emotions). They then look at how those measures vary by income level.

The results are neatly summarised in Figure 1 from the article:

Notice that the Cantril ladder measure of life satisfaction increases with income across the whole range. In contrast, the measures of emotional wellbeing all increase for low levels of income, but quickly level off, with no further improvements beyond an annual income of between US$75,000 and $100,000. Kahneman and Deaton note that:

The data for positive and blue affect provide an unexpectedly sharp answer to our original question. More money does not necessarily buy more happiness, but less money is associated with emotional pain. Perhaps $75,000 is a threshold beyond which further increases in income no longer improve individuals’ ability to do what matters most to their emotional well-being, such as spending time with people they like, avoiding pain and disease, and enjoying leisure.

So, there you go. Money may be able to buy life satisfaction, but it can't buy happiness. Of course, these results are subject to the convincing critiques of happiness and life satisfaction as measures (for example, see here and here).

Read more:

Sunday, 21 August 2022

Buyers with market power can reverse the logic of price discrimination

The Tiwai Point aluminium smelter has been in the news again this week, as reported by the New Zealand Herald on Thursday:

The Electricity Authority (EA) has changed market rules to ensure that consumers are not affected by very large power contracts after last year's Tiwai Point deal highlighted the potential for price discrimination.

The independent statutory body said consumers would be protected from potentially paying more than they should due to the impact of very large electricity contracts on wholesale prices under urgent changes announced today...

The arrangement announced in January 2021 to extend operations by the NZ Aluminium Smelters (NZAS) at Tiwai was used to highlight the potential issue of inefficient price discrimination.

In a separate statement, the Consumer Advocacy Council said current negotiations for a new electricity supply contract for the smelter - which consumes about 13 per cent of New Zealand's generation - must not disadvantage New Zealand consumers.

Meridian and Contact are currently negotiating a new contract to supply the smelter from the end of 2024.

"We are pleased that the authority is protecting consumers with urgency given new contract negotiations for Tiwai Point are under way," council chair Deborah Hart said.

"We accept that an operation consuming so much power, 24/7, should get a discounted rate, but that rate must be fair and reasonable for all consumers and not repeat the mistakes of the past."

Last year, the EA estimated the impact of the Tiwai contract could potentially lead to households paying up to $200 extra on their electricity bills each year. 

As I noted in yesterday's post, price discrimination occurs when a firm charges different buyers a different price for the same good or service. In this case, the Tiwai Point aluminium smelter has previously been charged a lower price for electricity than household consumers, to such an extent that it appears that electricity sold to Tiwai Point was being sold at a loss.

That's where things get interesting. Tiwai Point must have very inelastic demand for electricity. There are few substitutes for the electricity it gets under contract from Meridian and Contact. It isn't simple to start and stop producing aluminium, with large costs and lots of waste involved. So, even if the price was higher, Tiwai Point would still demand roughly the same quantity of electricity.

As I noted yesterday, when a firm price discriminates, it should apply a higher mark-up (and a higher price) to buyers who have less elastic demand (less price sensitive demand) for the good or service. That suggests that Tiwai Point should be paying a higher price, not a lower price, than household consumers. But the reverse is true. What is going on?

Meridian and Contact supply a huge amount of electricity to Tiwai Point. As noted in the quote above, it amounts to 13 percent of New Zealand's total electricity generation. If that electricity wasn't going to Tiwai Point, it would drop into the rest of the market. That would greatly increase supply in the non-Tiwai-Point electricity sub-market, decreasing the price of electricity. Electricity consumers would benefit from this, of course. But because household (and industry) demand for electricity is quite inelastic, lowering the price of electricity decreases total revenue for the firm. So, Meridian and Contact would likely be made worse off. Alternatively, Meridian and Contact could withhold that additional supply from the market, leaving them with some stranded hydroelectric assets (which doesn't make much sense, because hydro power has a fairly low marginal cost of generation).

So, since Meridian and Contact really don't want to be left with the choice of stranding assets or dumping electricity into the rest of the market, that gives Rio Tinto (the owners of the Tiwai Point smelter) some market power. Rio Tinto uses that market power (on top of using the threat of job losses) to negotiate a preferential deal for electricity at a lower price. And that is what reverses the logic of price discrimination.

Saturday, 20 August 2022

Shrink-wrapped books and price discrimination

One of the things I tell my ECONS101 class is that, once you know what to look for, you start to see price discrimination everywhere. Price discrimination is where a firm charges different prices to different customers for the same good or service (and where the differences in price do not relate to differences in the cost of providing the good or service).

Last July, Tyler Cowen had an excellent example on the Marginal Revolution blog, of why books are kept shrink-wrapped in Mexican bookstores:

Imagine there are two classes of readers.  The first is poorer, and only buys books when he or she knows the book is truly desired.  Harry Potter might be an example of such a book.   You want to read what everyone else is reading, to talk about it at school, and you don’t need to scrutinize p.78 so closely before deciding to purchase.

The second class of buyer is wealthier and usually will be buying (and reading) more books, indeed for those people book-buying is a significant habit.  That buyer wants to be on top of current trends, wants to have read whichever book is “best” that year amongst the trendy set, and so on.  If book quality is uncertain, such individuals will end up paying a de facto, quality-adjusted higher per unit price per book.  If you can’t sample the books in advance, you will end up buying some lemons, and you can’t just pick out the cherries.

For price discrimination to occur, you typically need to meet three conditions:

  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.

In the case of shrink-wrapped books, Cowen has given the example of two groups of readers. Do they have different price elasticities of demand? If the first group is poorer, then the price of a book will take up a higher proportion of their income (as noted in yesterday's post, that is one of the determinants of the price elasticity of demand). That would tend to make their demand more price elastic (they are more sensitive to price). If the second group is wealthier, the price of a book takes up a smaller proportion of their income, and their demand is less elastic. So, it seems that this meets the first condition for price discrimination.

What about the second condition? In this case, buyers sort themselves into groups, and that means that the bookseller can tell them apart. The first group (poorer, more elastic demand) only buy the books that are popular and well known. The bookseller knows that those books attract customers with more elastic demand (more price-sensitive), and they set the mark-up (and price) on those books lower. The second group (wealthier, less elastic demand) buy all types of books. The bookseller knows to set the mark-up (and price) higher for all of the books that are not popular and well known. The bookseller is essentially offering different options at different mark-ups (and prices), knowing that some options appeal to more price-sensitive customers, while others appeal to less price-sensitive customers. This is an example of what we call menu pricing (or second-degree price discrimination).

For the third condition, there is no point in someone paying the low price on-selling to someone paying the high price, since the wealthier consumers can already buy the popular and well-known books at the same low price.

As Cowen noted, this is likely to be an example of price discrimination. Once you know what to look for, you see it all around you.

Friday, 19 August 2022

Working from home and the price elasticity of demand for petrol

The Dangerous Economist (Cyril Morong) had a great post last month on how working from home has affected the price elasticity of demand for petrol (and linking to this (paywalled) Wall Street Journal article). Cyril did an excellent job of outlining factors associated with more elastic demand, but given that my ECONS101 class covered elasticities this week, I thought it might be useful to reiterate some of his points, and add a few of my own.

The price elasticity of demand is the responsiveness of quantity demanded to a change in price. The more that consumers respond to a price change, the more elastic the demand for the good or service is. There are a number of factors that together are the main determinants of the price elasticity of demand. The determinants that I discuss with my ECONS101 class are:

  1. The availability of (close) substitutes - having more (or closer) substitutes leads to more elastic demand;
  2. The proportion of income spent on the good - if consumers spend a higher proportion of their income on the good, they are more sensitive to its price (more elastic demand);
  3. The significance of price in the total cost to the consumer - if the price is a more significant component of the total cost of obtaining the good, then consumers will be more sensitive to the price (more elastic demand);
  4. The definition of the market - a narrower definition of the market means that there will be more close substitutes (more elastic demand);
  5. Time horizons - consumers who must make their decision quickly are less sensitive to the price (less elastic demand); and if you consider the price change over a longer time period, it will be more elastic (since consumers will have more time to find alternatives); and
  6. Normal goods - ceteris paribus, normal goods will have more elastic demand than inferior goods (due to the income and substitution effects working in the same direction for normal goods, but in opposite directions for inferior goods - for a bit more explanation of those effects, see this post).

The first two of those six determinants tend to be the most important.

Now, petrol tends to have relatively inelastic demand, at least in the short run. Consumers don't change their driving habits by much when the price of petrol changes. Maybe they make fewer trips than they otherwise would have, and sometimes walk or bike or take public transport instead. But there are many trips that cannot be replaced by walking, biking, or public transport. In the long run, perhaps consumers could switch to electric vehicles, or move closer to work or school. The adjustment to the amount of petrol demanded is larger in the long run (more elastic).

How does working from home change this picture? When workers can work from home instead of driving into the office, this makes available a new substitute for driving. Working from home is relatively cheaper than driving, so many workers would prefer to work from home, if they can. That makes demand for petrol more elastic. The change in elasticity will be greatest for workers where working from home is a closer substitute to working in the office. That will include workers who don't have to drive towards work for other reasons, such as dropping kids off at school, grocery shopping on the way home, etc.

The current high price of petrol (as a result of the war in Ukraine, and unrelated to working from home (as far as we know)), has probably reinforced the increase in the price elasticity of demand. If petrol is now taking up a higher proportion of household income, demand will tend to be more elastic for that reason as well.

Combining those effects, demand for petrol is more elastic now than it was before the pandemic led to a large increase in working from home.

Thursday, 18 August 2022

Curb your enthusiasm for randomised controlled trials

I've often referred to randomised controlled trials (RCTs) as the gold standard for microeconomic research. That's because, when you randomise which units are treated, you can generally extract an unbiased estimate of the causal effect of some intervention or other change that you are trying to evaluate. Other methods of causal inference (that I often refer to on this blog, like instrumental variables, or regression discontinuity) are using careful research designs to try and mimic what you get from an RCT. 

However, despite the boosterism of high-profile economists like Andrew Leigh (whose book, Randomistas, I reviewed here) and Nobel Prize winners Abhijit Banerjee and Esther Duflo (whose book, s Poor Economics, I reviewed here), calling RCTs the gold standard is not without controversy. There are a number of RCT sceptics, one of which is Martin Ravallion (Georgetown University, and previously with the World Bank). I just finished reading this 2018 CGD Working Paper by Ravallion, where he outlines his argument against RCTs (in the context of development, which is the context in which economists most commonly employ RCTs, although they are increasingly common across applied microeconomics). The working paper isn't as anti-RCTs as other critiques, and I think it would be fair to say that Ravallion would simply prefer that people don't overstate what RCTs are capable of, and that researchers wouldn't use them to the exclusion of all alternative methods. As he writes in the conclusion:

We are seeing a welcome shift toward a culture of experimentation in fighting poverty, and addressing other development challenges. RCTs have a place on the menu of tools for this purpose. However, they do not deserve the special status that advocates have given them, and which has so influenced researchers, development agencies, donors and the development community as a whole. To justify a confident ranking of two evaluation designs, we need to know a lot more than the fact that only one of them uses randomization.

The claimed hierarchy of methods, with randomized assignment being deemed inherently superior to observational studies, does not survive close scrutiny...

The questionable claims made about the superiority of RCTs as the “gold standard” have had a distorting influence on the use of impact evaluations to inform development policymaking, given that randomization is only feasible for a non-random subset of policies... The tool is only well suited to a rather narrow range of development policies, and even then it will not address many of the questions that policymakers ask. Advocating RCTs as the best, or even only, scientific method for impact evaluation risks distorting our knowledge base for fighting poverty.

I think the critique is quite measured and reasonably persuasive. However, I doubt it will cause the 'randomistas' to re-evaluate their approach. At best, it might give pause to the broader development community, to think about which contexts are best suited to RCTs, and to adopt other methods in situations where RCTs are less appropriate. In that vein, Ravallion highlights the ethical issues associated with RCTs, which possibly haven't gotten the attention they deserve:

RCTs are also ethically contestable in a way that experimentation using observational studies is not. The ethical case against RCTs cannot be judged properly without assessing the expected benefits from new knowledge, given what is already known. Review boards need to give more attention to the ex-ante case for deliberately withholding an intervention from those who need it, and deliberately giving it to some who do not, for the purpose of learning.

On that last point, it is likely that there are a lot of RCTs undertaken that are, at best, unnecessary, and at worst, possibly unethical. That would be the case where the researchers are already pretty sure that an intervention has a positive effect, and the RCT is being employed to see how big the effect is, rather than whether there is any effect at all. In that case, withholding the intervention from the control group is exposing them to worse outcomes (however measured), simply for research purposes. On the other hand, there are genuine cases where an intervention can't be rolled out to everyone who is eligible, because of resource constraints. That might overcome the ethical issues to some extent. These are some curly questions there that ethics committees should be paying more attention to.

Ravallion hasn't changed my mind about the 'gold standard' nature of RCTs. I already recognised that there were many contexts where RCTs are impractical and other methods should be employed, or where randomisation cannot be strictly adhered to. In those contexts, a mix of alternative methods are available. Your views may well be different. Regardless, the points that Ravallion raises should temper any enthusiasm for RCTs.

Tuesday, 16 August 2022

Remote work, wages, and compensating differentials

The labour market has undergone a massive upheaval since the pandemic, with the sudden shift to remote work, which has persisted even as the pandemic's effects wane. Or rather, some but not all sectors of the labour market have seen a sudden shift to remote work - I am yet to see a remote barista, for instance. Why has remote work persisted (in some sectors)? Clearly, this only happens if both workers and employers benefit. That is part of the premise of this new NBER Working Paper (ungated version here) by Jose Maria Barrero (Instituto Tecnologico Autonomo de Mexico) and co-authors.

Barrero et al. are focused on the effect of remote work on wage pressures. However, I think there is a more interesting story that sits alongside it, in relation to compensating wage differentials. Barrero et al. note that:

In equilibrium, workers and employers share the amenity-value gains arising from the shift to remote work. Since workers reap the direct benefits of the shift at any given wage, employer benefits take the form of wage-growth restraint during the transition to a new equilibrium with compensation packages that reflect the greater amenity value of higher remote work levels...The Nash bargaining benchmark, for example, says employers get half the surplus created by the rise of remote work.

This relates closely to search models of the labour market, where the surplus generated from a successful match between an employer and a worker is shared between both parties. The shares of the surplus that employer and worker receive depend on their relative bargaining power. In this case, remote work generates an additional surplus, which is shared between employer and worker. That additional surplus may arise from higher productivity of the worker at home, or from the worker spending more hours working (because they spend fewer hours commuting), or because the employer has to spend less on the work environment (because fewer employees are there on any given day, which this earlier post notes has also had an effect on the market for office real estate). How is this additional surplus shared? The additional value of production (or cost savings) are only partially passed onto the worker by the employer. The employer keeps a share for themselves.

This means that, although wages go up, they don't go up by as much as the additional value that is generated. This relates to the idea of a compensating differential, because workers are happy to accept a lower wage (or a lower increase in wages) when their job has positive non-monetary characteristics. To the extent that working from home is a positive non-monetary characteristic, workers would therefore accept a lower wage if their job includes more working from home.

And that is essentially what Barrero et al. find, using data from the Survey of Business Uncertainty (SBU) in April and May 2022. Specifically, they asked:

...each business executive in the SBU the following question: “Over the past 12 months, has your firm expanded the opportunities to work from home (or other remote locations) as a way to keep employees happy and to moderate wage-growth pressures?” According to the responses, 38 percent of firms did so in the previous 12 months... larger firms and firms in... Education, Healthcare & Social Assistance or in FIRE, Professional & Business Services, and Information are more likely to moderate wage-growth pressures by expanding remote work opportunities...

...we also ask: “Over the next 12 months, will your firm let employees work from home (or other remote locations) at least one day per week to restrain wage-growth pressures?” Forty-one percent of business executives respond “yes” to this question... the pattern of responses by firm size and across industry sectors to this forward-looking question is very similar to the response pattern for the backward-looking question. 

Notice that the sectors that report high degrees of remote work are those that you mostly would expect (although healthcare may be a bit of a surprise, but there are a lot of administrative staff in that sector, and some primary healthcare can be delivered remotely). Barrero then ask about how much the firms can (or have) restrained wage growth, and find that:

On a size-weighted basis, we estimate that expanded remote-work opportunities moderated overall wage-growth pressures by 0.9 (0.1) percentage points over the 12-month period ending in April/May 2022. Looking forward, we estimate that expanded remote-work opportunities will moderate wage-growth pressures by another 1.1 (0.1) percentage points in the 12 months following April/May 2022. These estimates have good precision, as indicated by the standard errors reported in parentheses.

Notice that remove work has reduced the extent to which firms are increasing wages (at least, as reported by the firms themselves). And by sector:

Over the two years centered on April/May 2022, the unweighted mean wage-growth moderation effect is 1.3 percentage points among Goods Producers and 1.4 points among firms in Trade, Transportation & Warehousing, and Leisure & Hospitality. These sectors offer relatively few jobs that can be readily performed in remote mode. In contrast, the mean wage-growth moderation effect over two years is 2.7 points in Education, Healthcare, Social Services and Other Services and 3.0 percentage points in FIRE, Professional & Business Services and Information. Except for Healthcare, these sectors have a relatively high share of jobs that can be performed in remote mode...

This provides some evidence that it is remote work driving the lower wage increases, since the effects are greatest in sectors where remote work has become more common. Finally:

We also draw out two other interesting implications of our evidence. First, we estimate that the amenity-value shock associated with the recent rise of remote work lowers labor’s share of national income by 1.1 percentage points. Second, we provide evidence that the “unexpected compression” in the wage distribution since early 2020 is partly explained by the same amenity-value shock, which operates differentially across the earnings distribution.

In other words, the shift to remote work and the compensating differential will have some interesting effects on the measurement of inequality. The labour share of income, which many people equate with a measure of inequality between workers and owners of capital, will decrease. However, because most remote work jobs are relatively high-earning jobs, their smaller wage increases relative to lower-earning non-remote-work jobs will tend to decrease measured income inequality.

No doubt some governments will pat themselves on the back if inequality appears to decrease. However, it's not really much of an improvement if income inequality is reducing, but only because the non-monetary job characteristics of those at the top of the income distribution are improving. This highlights one of the limitations of income inequality as a measure of differences in personal wellbeing.

However, that isn't the story that Barrera et al. are trying to tell in their paper. They conclude that:

...the recent rise of remote work materially lessens wage-growth pressures. In doing so, the rise of remote work eases the challenge confronting monetary policy makers in their efforts to bring the inflation rate down to acceptable levels without stalling economic growth.

I guess that may be some good news. To the extent that remote work persists, and to the extent that central bankers are paying attention, we might expect that interest rates may not have to increase as much in order to bring inflation back under control.

[HT: Marginal Revolution

Sunday, 14 August 2022

A radical proposal for reframing Econ101 from a sustainability perspective

I don't teach a 'traditional' economics principles course, even though I teach two papers at first-year university level. One of my papers teaches business economics, so focuses on business applications and has more game theory, pricing and competitive strategy than you would see in a principles paper. It also uses the CORE textbook, which is not a traditional principles text (but is also not designed explicitly to teach business economics, so a lot of what we do is outside of the textbook). The other paper I teach is Economics and Society, which is more of a survey paper, covering economic policy using microeconomic principles. It still isn't a principles paper though, as we do a lot of things that are well outside of a principles curriculum, like property rights, the economics of education, health economics, and the economics of social security. It is more like a welfare economics paper, but without the heavy maths that welfare economics usually entails.

Given that I don't teach a traditional course, and don't follow textbooks too closely, I am always on the lookout for new ideas on how to reframe parts of my papers. So, I was interested to read this 2020 article by Inge Røpke (Aalborg University), published in the journal Ecological Economics (ungated earlier version here). Røpke proposes a new structure and content for Econ101, with a focus on sustainability and a grounding in ecological and heterodox economics.

This long quote from the conclusion of the article captures the main ideas:

The proposed knowledge structure involves a delimitation of economics with a focus on provisioning: how do humans make a living? This provides a specific cut through the totality, which is always both biophysical and social. The fundamental thought patterns of the approach include the bridging of the structure-actor interplay and related concepts of institutions and power, conceptualization of dynamics based on evolutionary thinking and systems thinking, and the idea that agents’ own reflexive understandings are an integral part of development. Turning to the substantive issues of economics, the introductory topics include thermodynamics, ecology, the energy history of humans, basic ideas from earth system science, and the idea of social metabolism. Provisioning is introduced as a broad concept that captures all sorts of contributions of goods and services to the real cake that is available for consumption and investment. Provisioning is seen as a human activity where the practitioners provide the result, while ownership of the tools involved is not considered a productive force. Due to the condition of incommensurability, the size of the real cake cannot be measured in any meaningful way. As the present distribution of the cake is based on a long history, it is necessary to give a brief outline of the emergence and development of capitalist institutions. This should include the importance of property relations for distribution, the emergence of markets and their dependence on government, the changing character of market participants, the dynamics and instability of capitalism, as well as the global reach of capitalism. Turning to distribution, it is important to emphasize the lack of connection between the individuals’ efforts to provide the cake and their access to appropriate parts of it. Access is achieved through conventions related to care, through rights and purchasing power, which is acquired as salaries and, even more, in the form of rent related to property institutions. Prices serve as a distributional mechanism, but cannot be considered relevant measures of value. Finally, the introduction to governance challenges rigid means-ends rationality, but acknowledges the need for making the world understandable and governable through various devices. Biophysical and social measures are preferable to monetary assessments, and deliberative methods are promoted as means to provide inputs to political decision-making. Regarding actual strategies, the need for conscious construction of markets is emphasized as well as a navigational approach to sustainability transitions.

This knowledge structure can be used as a framework and basis for adding insights from both heterodox and mainstream economic thinking, but it replaces the mainstream focus on market exchange as the key topic of economics and it dismisses, for instance, the concepts of equilibrium, optimality, efficiency, choice between given alternatives, and money as a measure of value. Such concepts and the related neoclassical framework can be introduced at a relatively late stage as a way in which various actors perceive the world.

I'm open to some (but not all) of the ideas that Røpke is suggesting. In fact, some of the things she suggests are already embedded within my papers. However, in the article she critiques such an incremental approach, as well as the idea that heterodox approaches should be seen as simply an extension or counterpoint to mainstream views.

However, while Røpke may be able to convince individual lecturers, that may not be enough. Making a big change to an introductory course cannot be done in isolation, and will require buy-in from across a department. Lecturers in intermediate microeconomics are not going to be happy when some of the assumed knowledge about market equilibrium is absent from their incoming students' first-year experience. Rebuilding the foundations of the economics curriculum in introductory principles necessitates changes across the economics major. Needless to say, that is a huge undertaking, and may not attract universal buy-in from all members of the faculty. That isn't a reason not to make these changes, just a statement of the difficulty of doing so.

Also, it would be interesting to know whether there is sufficient demand from employers for this alternative approach. Some employers no doubt expect economics graduates to have been trained in a conventional, neoclassical framework, with some additional perspectives set alongside it. I imagine that is what the banks and finance companies who employ a large proportion of our graduates expect. Would they be equally happy with a student who has a heterodox foundation? I honestly have no idea, but it would be worth exploring this before embarking on a major overhaul of the curriculum.

Traditional economics principles has undergone some significant changes in recent years. The CORE textbook is one example, although whether CORE is an improvement is contested, while others believe that it does not go far enough. My own view is that a radical revision of introductory economics may be unnecessary or unwelcome. A continuing process of improvement, incorporating further insights from new institutional economics, game theory, behavioural economics, experimental economics, ecological economics and other fields, is probably the optimal approach.

Saturday, 13 August 2022

Is there a premium for very unattractive workers?

The beauty premium has been widely established in the literature on labour economics. There is a whole book by Daniel Hamermesh on the topic, entitled Beauty Pays (which I reviewed here). However, this 2018 article by Satoshi Kanazawa, Shihao Hu, and Adrien Larere (all London School of Economics and Political Science), published in the journal Economics and Human Biology (ungated version here), presents a more nuanced view. Kanazawa highlight this earlier article (ungated version here) by Kanazawa and Mary Still (University of Massachusetts, Boston), and summarise the findings of that earlier article as:

...while unattractive individuals earned less than others, very unattractive workers always earned more than unattractive workers, sometimes more than average-looking or even attractive workers, seemingly contrary to previous findings in the economics of beauty.

The issue may be that earlier studies group together unattractive and very unattractive workers into a single category, and therefore may fail to identify a difference between the two groups. In the 2018 article, Kanazawa et al. look at this very-unattractiveness premium using data from the National Longitudinal Study of Adolescent Health (Add Health), including in their sample around 10,000 people who participated in all of the first four waves of the study. Rather than looking at labour market outcomes, Kanazawa et al. looked at 'mate value', measured as:

...whether the respondent was currently married (1 if currently legally married, 0 if currently single, excluding cohabitation) or cohabiting with a partner (1 if currently cohabiting, excluding marriage, 0 if currently single) at 29.

Attractiveness was measured on a scale of 1 to 5, measured closest to the time when their current relationship began (although they are not clear on how they treat the attractiveness of people who are not currently in a relationship). Comparing 'mate value' by attractiveness in their basic analysis, Kanazawa et al. find that:

...very unattractive respondents - both men and women - were always more likely to be married or cohabiting than unattractive respondents, sometimes more than average-looking or attractive respondents (except for cohabitation for men, when physical attractiveness was measured at 16 or at match), but this pattern was much stronger for marriage than for cohabitation and among women than among men.

Having re-confirmed the results from the earlier study, Kanazawa et al. then try to tease out the mechanism underlying this finding. They reason that intelligent men are attracted to very unattractive women:

According to the Savanna-IQ Interaction Hypothesis (Kanazawa, 2010) or the intelligence paradox (Kanazawa, 2012), more intelligent individuals are more likely to acquire and espouse “unnatural” preferences and values that go against their evolutionary design. Since men are evolutionarily designed to value physical attractiveness in their mates... more intelligent men may be more likely to prefer to mate with very unattractive women.

I'm not sure that I buy into this theoretical argument [insert duty-bound statement about my marriage being a counter-example to Kanazawa et al.'s theory]. Nevertheless, they do find some modest support for their theory:

...very unattractive women’s spouse or partner always earned significantly more than those of unattractive women except when physical attractiveness was measured at 17... Further, very unattractive women’s spouse or partner earned significantly more than those of average-looking women when physical attractiveness was measured at 29... in sharp contrast, none of the regression coefficients were statistically significant in the same direction among men.

However, there are a couple of problems here. First, Kanazawa et al. don't have a measure for the spouse's intelligence, so they are using earnings as a proxy. So, it may be that other mechanisms underlie the relationship they find wherein higher income men tend to marry very unattractive women. However, a more subtle problem is that the analysis is based on less than 300 people who were rated as very unattractive (at most - the number rated as very unattractive varied based on the age at which attractiveness was measured), and less than 500 people who were rated as unattractive, out of a total of around 10,000 people (this is obvious only from the supplementary materials to the article, as these numbers are not reported in the article itself). It wouldn't take much measurement error here to generate almost any result at all. In fact, Kanazawa et al. note that, in the earlier Kanazawa and Still article:

The mean [inter-rater agreement] for unattractive, about average, attractive, and very attractive individuals ranged from 0.6352 to 0.8280 for women, and from 0.6341 to 0.8527 for men. For very unattractive individuals, however, it ranged from 0.0180 to 0.1398 for women, and from 0.2184 to 0.3890 for men.

So, the proportion of evaluators who agreed on who was very unattractive was very low, especially for women, and it is only for women that Kanazawa et al. find the relationship with spouse' earnings. Low agreement suggests that measurement error in who is evaluated as very unattractive is very high. It would be helpful if Kanazawa et al. had provided an evaluation of how stable the attractiveness ratings were over time. That is, were very unattractive people consistently rated as very unattractive, or was it essentially random? Without knowing that, it is hard to take their results too seriously. With that in mind, I think it's going to take a lot more to make a convincing argument that there is a very-unattractiveness premium.

Read more:

Thursday, 11 August 2022

Life expectancy in the age of COVID-19

It seems self-evident that the coronavirus pandemic has reduced life expectancy, both in individual countries and globally in aggregate. However, just how extraordinary declining global life expectancy is, is not so obvious. In this recent article published in the journal Population and Development Review (open access, with non-technical summary here), Patrick Heuveline (UCLA) summarises the changes. Using a mix of life tables from the United Nations, supplemented by excess deaths data from the World Mortality Database, Heuveline constructed new estimates of life expectancy for each country and each quarter in 2020 and 2021 (using a machine learning algorithm to fill in some of the data gaps). The estimated effect of the pandemic on global life expectancy is summarised in Figure 2 from the article:

As you can see, the long-run increase in global life expectancy was interrupted and reversed course substantially in 2020 and 2021. However, even that figure understates just how remarkable this reversal is. As Heuveline notes (emphasis added):

The increase in the number of deaths during the pandemic had a substantial impact on the global life expectancy. After 69 years of uninterrupted increase from 1950 to 2019, the global life expectancy is estimated here to have declined by −0.92 years between 2019 and 2020 and by another 0.72 years between 2020 and 2021... In 2021, the global life expectancy is estimated to have dropped below its 2013 level.

The coronavirus pandemic ended at least seven decades of increasing global life expectancy. Of course, not all countries have been equally affected. Heuveline reports that:

...many countries experienced substantial changes in life expectancy... Between 2019 and 2021, life expectancy is estimated to have declined by more than two years annually (four years overall) in eight countries... five in America (Peru, 5.6; Guatemala, 4.8; Paraguay, 4.7; Bolivia, 4.1; and Mexico, 4.0 years) and three in Europe (the Russian Federation, 4.3; Bulgaria, 4.1; and North Macedonia, 4.1 years)... Among those with sufficient data, the only countries that did not reach the two-year mark at any point between 2020 and 2021 are countries in Eastern Asia, Australia, New Zealand, and European countries, west of a line running from the Baltic to the Balkans.

For comparison:

Instances of life expectancy declines, from one calendar year to the next, remain rare in the UN time series and relatively modest though. The main exceptions to this generalization are found for Cambodia (up to −4.63 years per year) and Rwanda (up to −5.02 years per year) - two countries that experienced massive increases in violent mortality, in the late 1970s and early 1990s, respectively - and a few sub-Saharan countries during by the AIDS pandemic. According to the UN estimates, the impact of AIDS mortality on life expectancy was most severe in Eswatini in the late 1990s (up to −2.10 years per year).

So, in the worst affected countries the impact of the coronavirus pandemic was roughly equivalent in its impact on life expectancy to the worst years of the HIV/AIDS pandemic in the worst affected country. And, the impact of the coronavirus pandemic in the worst affected countries was nearly half of the annual impact of the Khmer Rouge or the Rwandan genocide. That certainly puts things in perspective.

However, there is one ray of hope in the article:

Comparing life expectancy estimates for each of the eight 12-month periods, however, the decline in global life expectancy appears to have stopped in the last quarter of 2021...

We can only hope that is a signal of a return to increases in global life expectancy (albeit at an apparently decreasing rate over time), and possibly even some catch-up growth. Now, we just need to know what that means for the discrepancies in life expectancy between rich and poor.


Wednesday, 10 August 2022

The beauty premium and student grades for in-person and online education

The beauty premium is the idea that people who are more attractive are paid more in the labour market. I've posted on this topic many times and, although we usually focus on wages, the premium is not limited to the labour market. There is a small beauty premium in education as well (such that more attractive people receive better grades - see here). So, what happens to the beauty premium when education is moved from in-person (where there are many face-to-face interactions, and attractiveness might pay a relatively larger role in grades) to online (where students can hide behind Zoom with their cameras switched off, limiting 'face-to-face' interactions)?

That is the question that this new article by Adrian Mehic (Lund University), forthcoming in the journal Economics Letters (sorry, I don't see an ungated version online), addresses. Mehic uses data from the Industrial Engineering Programme at Lund University, and restricts his attention to the first two years of the programme, which is made up of 15 mandatory courses in mathematics, physics, computer science, business, and economics. He categorises mathematics and physics as quantitative subjects, and the others as non-quantitative (which would probably come as a surprise to most economists and computer scientists!). The sample includes 307 students, who commenced their studies sometime between 2015 and 2019, and experienced online study from the second semester of the 2019/20 academic year. That means that:

...students who started the program in 2018 had two online courses in their second year, whereas students starting in 2019 had two online courses in their first year, and eight online courses in their second year.

The attractiveness of each student was measured by asking 74 volunteers to rate the attractiveness of each student's ID photo on a scale of 1 (extremely unattractive) to 10 (extremely attractive), with each volunteer rating half of the sample. Then, looking at the relationship between attractiveness and grades overall, Mehic finds that:

When all courses in the program are considered, there is a positive, albeit statistically insignificant relationship between attractiveness and grades.

However, there is a difference between the 'quantitative' and 'non-quantitative courses', and:

...the coefficient for attractiveness is highly significant for the non-quantitative courses. The results suggest that one standard deviation higher beauty is associated with around 0.08σ higher grades. The magnitude of the estimated coefficient is slightly lower when the full set of controls is included. Concomitantly, there is no significant relationship between attractiveness and grades for the non-quantitative courses.

So, there is only a beauty premium for the non-quantitative courses, which Mehic explains may arise due to the following:

In our setting, the tasks faced by students in non-quantitative subjects, for instance in marketing and supply chain management, are likely to be seen as more ”creative”, and significantly contrast the more traditional book-reading and problem-solving in mathematics and physics courses, the latter presumably perceived as more monotonous. Together with the large use of group assignments in non-quantitative courses, these theoretical results imply that socially skilled individuals are likely to have a comparative advantage in non-quantitative subjects.

I'm not sure how much I buy that explanation, as Mehic includes computer science and economics in the non-quantitative courses, and (much as we may wish it was not true) most people would not characterise those subjects as 'creative', even relative to mathematics or physics.

Mehic then turns to a 'triple-differences' analysis, comparing the difference in the effect of beauty on grades between male and female students, and between online and in-person classes. He finds that:

...the triple interaction between Online, attractiveness, and the indicator for non-quantitative course is highly significant for female students. This finding suggests that the grades of female students deteriorated in non-quantitative subjects, with grades declining with attractiveness. There is no equivalent relationship for males.

So, the results show that there is a beauty premium, but the beauty premium exists only in the non-quantitative courses overall. Also, the shift to online teaching reduced the beauty premium for female students, but the beauty premium in non-quantitative courses was unaffected for male students. I could understand the beauty premium reducing for both male and female students, but it is difficult to understand why it may be that only the beauty premium for female students reduces in the online teaching mode. Mehic offers only that:

...relative to other students, attractive men are more successful in peer influence, and are more persistent, a personality trait positively linked to academic outcomes...

That seems really unconvincing to me. I think we're going to need a lot more research on this, before we can draw a firm conclusion on how the shift to online teaching has affected the beauty premium in education.

[HT: Marginal Revolution]

Read more:

Monday, 8 August 2022

Online teaching and gender bias in teaching evaluations

The gender bias in student evaluations of teaching is well established (see my most recent post on the topic here, or the links at the end of this post). However, during the pandemic teaching underwent a sudden and unexpected change to an online mode. It is reasonable to ask, has online teaching reduced gender bias in evaluations? On the one hand, we know that women faced additional difficulties in managing the transition to online work, and especially juggling work with unequal home and family responsibilities. This may have impacted on female teachers' ability to deliver teaching in the online mode effectively. On the other hand, at the risk of gross generalisation, women tend to have a different teaching style that favours connections over content, which may have better helped students with the transition to online learning. It is therefore unclear whether female teachers would be helped, or hurt, in terms of student evaluations of teaching, by the move to online teaching.

This new article by Sara Ayllón, published in the journal Economics of Education Review (ungated earlier version here), provides us with an initial answer. Ayllón uses data from the University of Girona in Spain. Using a difference-in-differences approach, she compares the difference in teaching evaluations between the first and second semester of the 2018/19 academic year, with the difference in evaluations between the first and second semester of the 2019/20 academic year. Since online teaching was enforced in Spain for much of the second semester of 2019/20, this comparison is intended to pick up the impact of online teaching on evaluations. In her baseline analysis, she finds that:

...when I use controls (student’s age, its square, gender, whether the student is repeating the course, and field of study) and robust standard errors clustered at the student level... teaching evaluations during the online semester were, on average, no different from those in previous semesters. Interestingly, though, separate regressions by gender of the lecturer indicate a different story... the online semester had, on average, no impact on the evaluation of male lecturers; but for female lecturers, the average evaluation score decreased by 0.063 points in the online semester compared to previous semesters (about 5.4% of a standard deviation). Thus, while the new teaching environment had, on average, no effect on men’s scores, it did negatively impact the scores received by women...

Ayllón then attempts to tease out the reasons underlying the negative impact of online teaching on female lecturers' student evaluations. She finds no difference in how students felt about how well the course materials were adapted to online learning between male and female lecturers. She also finds no robust difference in grades between students with female lecturers and students with male lecturers. And there is no difference in students' opinions on various aspects of lecturer performance. Ayllón notes that:

...the gendered difference in the teaching evaluation result of the online environment does not appear to be driven by (potentially more objective) aspects of the teacher’s performance. The bias creeps in when students evaluate overall performance...

Students couldn't have easily sorted themselves to have different lecturers, because they chose their programme of study at the start of the academic year. Nevertheless, Ayllón shows that the results hold when the sample is limited to compulsory courses. Finally, looking more deeply at the characteristics of lecturers and students, she finds that:

...the results are particularly negative for young female instructors without a permanent contract, and are strongly driven by male students and low achievers who - even before they know their final grade - retaliate against female instructors, but not against male teachers. The findings are most apparent in Social Sciences. Online teaching did not lead to any positive bias on the part of female students towards female instructors. Yet a considerable degree of discrimination in favour of male instructors is found among high-achieving students.

These results are not dissimilar to other results in the literature. However, rather than showing the underlying gender bias in teaching evaluations, this study shows that the gender bias is larger during online teaching. Unfortunately, as with most studies like this, the solution to the problem is unclear. With online teaching, female lecturers can't give their student evaluations a bump by giving students chocolate. However, these results, especially if confirmed in other studies, should make us even more cautious about using data from student evaluations of teaching in promotion or tenure or appointment decisions, unless we want to perpetuate gender bias.

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