Live Stream Video | Economics Teaching Conference | South-Western

Live Stream Video | Economics Teaching Conference | South-Western

Do we really need the SEC?

You know, every time I have to teach about the Efficient Market Hypothesis, I cannot help but wonder why we still have the Securities and Exchange Commission.  After all, the strong form of the EMH pretty convincingly demonstrates that there is no long term advantage or possibility to "beat the market" even with insider trading.
So, if insider trading does not give one a long-term ability to beat the market, why bother with rules against it?  If no one can beat the market on a consistent basis, which is what the EMH states, then why regulate the market?  If insider trading does not give an advantage, then why have Reg FD? 
If it works in theory, then should it not be that case that it works in life?
Or could it be that economists and the theories they create rely a little too much on abstractions and not enough upon how the world really works?
Consider that Greenspan fought against increasing regulation in the financial markets for years because the economic theories to which he held said that no one would act as they did (and continue to do).  Remember too that Greenspan later admitted he was wrong (see the New York Times, 10/23/2008; http://www.nytimes.com/2008/10/24/business/economy/24panel.html).
The problem is that economics is not the science or study of choice under conditions of scarcity, as one textbook proclaims.  Economics is not "the science which studies human behaviour as a relationship between ends and scarce means which have alternative uses," as Lionel Robbins so famously declared in 1932.  To meet either of these two, to even come close, economics would have to be much more an inductive science, proceeding from observation and study to theory, rather than the deductive science it currently is.
Economics is not the study of human behavior as a relationship between ends and scarce means which have alternative uses.  Economics is the building of models not from observation of reality but of building models that arise from clearly stated fundamental assumptions.  Instead of extensive, in-depth surveys of manufacturing companies as done by Gardiner Means (and as continues to be done by many Post Keynesian economists and economists in the Kansas City tradition), economists simply state fundamental premises which allow them to build, by way of axiomatic set theory, rigorous models. Or as some would say, puzzles.  If the models are build particularly well, then empirical tests may be run to validate the model.  The only problem with this is that if the model is not verified by empirical testing, it is not because the model was wrong, it is because the empirical test was mis-specified.  Reality lies, not models.
Rather than being capable of bringing the fruit of careful observation to the table of policy, economics strives to illuminate the understanding as did Newton's revelation of gravity and planetary motion.  The problem for economics is that human beings, even when dealing with large numbers and groups of human being, just refuse to act like planets.  Human beings sometimes act arbitrarily, even when it is to their disadvantage.
Economics, by being built upon models which are assumed to be predictive, becomes social physics, a means to control more than aid.  Economics, by being built upon models that are mathematically rigorous, imparts to itself a respectability reserved for "real" scientists.  Economics, by being built upon models are that are supported by numbers which are twisted until they say what economists want to hear, becomes an unassailable scientific fortress against which no politician or layman can prevail.  Economics, by being built upon models, transforms PhD economists  into a noble priesthood which cannot be questioned.


Economics, by being built upon models, needs a new definition:

Economics is the deliberate obfuscation of common sense by egoists seeking to justify their being paid to solve puzzles of their own design.

Should the healthcare sector be based upon a free market model?

The quest has been for the medical care sector to be based upon a market model. 

That would mean that patients ought to be treated as customers involved in a market-based transaction.  However, society does not (as evidenced by the passage of the health care bill) think anyone should be denied the ability to obtain the product if they cannot afford it, i.e. the customers (i.e. patients) should be subsidized.  Customer subsidies, in a market-model, cause an increase in demand which, against a fixed supply, will result in a rise in price.

In a market-based model, hospitals would compete for their customers.  Now since the product is something like a successful surgery or recovery from a deadly virus, there is not really much product improvement that can occur.  So how do hospitals compete? Hospitals increasingly compete by differentiating the environment in which the product is sold - differentiating that environment in ways that actually lead the customer to have to pay more for a product that is still the same: plasma TV’s in carpeted rooms, lobbies that rival the best hotels, gourmet foods, etc.  But, if the customer cannot afford the product that is now more expensive because it is wrapped in a better package, society seems to think that the hospitals ought to provide it at a reduced rate.

In a free market system, providers offer to work for a price that they consider fair.  If no one is willing to pay that price, the provider either changes jobs or lowers their price.  The market-based solution for the medical care sector will work best only when doctors, nurses, techs, hospitals, pharmaceutical companies, and medical supply companies are allowed to charge what they think is right, not what society thinks is fair.  I have heard PhD's complain that MD's have no more education that they have, so why should MD's get paid so much more than a PhD?  A constant lament is that drug companies make too much money.  Why is Apple praised when it earns large returns to its owners, why is McDonald’s criticized if profits are not larger than the previous quarter, but drug companies are acting unethically when they earn a positive return on invested capital?

If doctors cannot earn an income that they, not society, thinks is appropriate to the costs of becoming and the risks of remaining a doctor, then the number of doctors will decrease.  If hospitals and drug companies cannot earn a return that satisfies their owners, those owners will pull their money out of the hospital and drug sectors, decrease the number of hospitals available and diminish the pipeline of new drugs, and open up something more profitable, like a McDonald's franchise or microbrewery.

Will we, as a society, in our efforts to force the healthcare sector into a market-model, be forced into requiring people to become doctors and refusing to let doctors retire? 

Or will we wise up and realize that the market-model is not always the best for all industries?

The "Law" of Demand?

Has anyone really stopped to critically examine the idea of the "Law of Demand"?  Now we are not asking about questioning that there seems to exist an inverse relationship between price and quantity, ceteris paribus.  No, we are asking about the axiomatic foundations from which the "Law of Demand" arises.
For example, one of the more fundamental assumptions about human behavior is that of the independence of economic agents.  The independence assumption states, basically, that economic agents are not influenced by other economic agents; there is never any behavior in which a person buys something simply because someone else has that same thing, there is no "keeping up with the Jones".  To have economic agents who are socially embedded, who exhibit relational behavior violates the independence assumption which is fundamental to the "Law of Demand" having any validity.
Consider also how economists view the preferences of economic agents.  The "preference ordering" of a set of consumption possibilities is assumed to be

1. complete: i.e. consumers can rank all possible combinations of all possible goods, 
2. transitive: that is, if A is preferred to B and B is preferred to C, then it must always hold that A is preferred to C, and
3. convex: this is a mathematical concept that says, more or less, that a consumer is willing to obtain more and more of good A if and only if it involves giving up less and less of some other good.

A fourth assumption exists that deals with how much an economic agent wants of any good, and that assumption is that more is always preferred to less, that non-satiation is the rule.  There is never a time when an economic agent can have enough of any good.

Now the "Law of Demand" exists as a scientific law only if all four of these assumptions are met.  Should any one of these assumptions not be true, the law of demand collapses and loses its scientific creditability. 

So if the general behavior of people is such that they make their purchases based upon habit because they cannot really take the time to evaluate and rank all possibilities, if there are some goods which they purchase even if required to give up more and more of other desirable goods, it there are individuals out there who are happy with what they have and simply do not care to buy more of something they like and can afford, then the idea that there is a "Law of Demand" has to be seriously questioned.  Or even discarded. 

Think on these things.

BIG lies you are hearing and, sadly, believing

It was in the paper recently, and will be a big part of the presidential campaigns, and it is a big lie.   What is is?

A college degree is very valuable.

No so.  A college degree is pretty much worthless.  A college education is valuable.  No difference you say?  Consider, to concentrate on a obtaining a degree leads one to get the most with the least effort.  To concentrate on getting an education is to commit to devouring all the knowledge you can, to give more than you might be receiving.

It is that knowledge that provides real, long run returns, not the degree.  And that knowledge requires you to give your all, not to engage in a cost minimization effort.