Is Economic History Relevant?

EC 365's blog

Inequality Across the Globe

By:Alyssa Dizoglio and Franziska Meinherz.

According to the article “For richer, for poorer” in The Economist, socioeconomic inequality is one of the largest growing problems of our time. Unfortunately, is not a problem that will easily go away. The inevitability of inequality is more evident than ever. Comparing the first American Gilded age to the second, it would seem that inequality had diminished instead of increased. During the first Gilded Age, the wealthiest Americans, like George Vanderbilt II, had estates that were 300 times larger than the average American dwelling. However by the second Gilded Age, the gap had narrowed, and even some of the wealthiest individuals’, like Bill Gates, homes are only a mere 30 times larger than the average modern American home. However the improved living standards of the middle and working classes masks the dramatic concentrations of wealth held by the top 1% in America, a figure that has only increased over the past 30 years; the share of national income held by the richest 1% has doubled since 1980. Furthermore, the share of income going to the top .01% has quadrupled. It is hard to look at these figures and not see the inevitability of inequality.

While the concentration of wealth at the top is certainly staggering in America and many countries across the world, this does not mean that the entire world has become more unequal in the past 30 years. In fact, global inequality has begun to fall recently as poorer countries converge (catch up) with richer ones. In the 19th and 20th century, global inequality increased as richer countries industrialized, allowing them to grow faster than poorer countries. More recently though, that pattern has shifted and global inequality has started to fall despite the fact that inequality within many countries has only risen.

When inequality first started to rise after industrialization, people weren’t all too worried about it. Simon Kuznet suggested an inverse U shaped correlation, known as Kuznet’s Curve between economic growth and inequality saying that inequality first rises with the beginning of industrialization, but that it then starts to decrease because society wants social policies to be implemented. Kuznet’s prediction seemed to hold until about the 1980’s when inequality started to rise again. Despite the rise in inequality, politicians, economists and the general society remained largely unconcerned with the issue. Only around 2001 with the dotcom bubble and subsequent recession did inequality become a top political issue perceived as potentially dangerous. Not only did fairness become an important concept, but the possibility that inequality leads to political instability became obvious. This had already been proved in earlier decades in Latin America, which had long been the most unequal continent, and which also experienced much political turmoil throughout its history.

While some societies are more concerned about the potential of increasing inequality than others, the reality is that increasing inequality is inevitable without some sort of government intervention. The article suggests that the problem can be solved by prohibiting abuse of financial resources through cronyism, which is certainly true in areas such as Latin America. However, not even in these countries would this policy be enough to keep inequality from rising further on a global scale nor would it serve to lift the poorest of society up from the rest, especially when considering that in many countries, the US included, nepotism and other forms of corruption are not the main cause of inequality. It is very unlikely that without government policies regarding income distribution the problem of inequality can be solved.

The Law and Disorder of the Financial Market

Image credit: Satoshi Kambayashi, published Oct 13th 2012 "Law and disorder: Financial institutions are vulnerable to investigation, prosecution and litigation from every direction." The Economist.
By: Wenqing Zhang and Janaki Patel.

There are many entities in the US coined to be consumer protection bureaus, many of which specialize in prosecuting financial firms. These entities are, for example, the Securities and Exchange Commission (SEC) and the Federal Deposit Insurance Corporation, but there are also other departments which create settlements with big banks. Other entities that are often unrecognized as prosecuting entities, are the Department of Housing and Development, which assisted in a $25 billion mortgage settlement with banks. The persistent problem is that the settlements that are being made are not necessarily protecting the consumer directly, and on top of that, financial firms are being exploited repeatedly.

Furthermore, since the settlement will be used to fund the government budget, the reward for being the one who take the settlement will be great. Though there are some “underground” rules among those investigation departments, for instance, DoJ always takes the case that SEC are limited to take, the coordination among the investigation departments is not secured. According to the Standard Chartered case, in which the Department of Financial Service (DFS) rapidly collected $340 million settlement from the bank unilateral. Since the rewards for being the first to fine the financial institutions is so great, the investigation departments will have a higher incentive to be the first to prosecute. This behavior will absolutely destroy the coordination between the investigation institutions and in addition, it can disorder the market.

In fact, the settlement can now be regarded as a trade between the financial firms and their investigators. Since the result of an indictment of a financial institution can be really bad, for example, the indictment may suspend its license, so firms always choose to pay the settlement when the investigation starts. Therefore, if the firms did something bad, since they paid the settlement and the investigation ends, their bad behavior will not be found. If they did not have any bad behavior, the investigation department will also leave them alone because of the settlement. According to the article, “this cosy alignment of incentives worries some.” This “alignment” cannot be regarded as justice regulation any longer, it is just a different form of trade. The law of the financial market does not stabilize the market but disorders it.

I would like to make clear that I don’t agree with completely defending big financial institutions, because often times, bankers will often bend the rules for their own personal financial gain, as we have seen in the case of trader, Kweku Adoboli, who had his bank, UBS, be fined 29.7m pounds for fraud. In this case, UBS had made some serious mistakes in not effectively utilizing controls within the bank, but in other financial settlement investigations, the crime may not have been committed by one person or one firm and just one firm may be charged. Take, for example, the LIBOR scandal which costed Barclays $450m in settlement charges; this scandal, which some evidence claims that other banks have colluded on has not yet fined other firms ( though, it may soon enough) and manipulated LIBOR rates could have affected over $800B in trades, including almost half of the derivative market and homeowner interest rates. While the practices are not justified, it seems that every banker in the industry receives a bad name for the scandal and yet, the culture does not change in the upper-level management. The real problem is that these suits are costing financial firms millions of dollars, which are not necessarily improving the system and are not creating a more fair system . In addition to that, firms can be sued repeatedly for the same crime by federal and state authorities, and the banks may pay out settlement fines, simply to get political authorities off their back, even if they are not guilty of any crime, creating an endless and vicious cycle of continuous lawsuits. It seems that the only way financial firms can cope is to hire a larger legal team - though that seems unreasonable, considering that the point of the legal system is to decrease crime and bad practices, rather than increased the population of lawyers.

Inequality and Future Growth (or lack thereof)

By: Jonathan Burns and Kyle Peabody.
Edited by: Nick Tourville.

Income inequality has been growing in America for decades now. For years, it was something people were aware of, but beyond the fact that “the rich are getting richer,” not much was known about the phenomenon. Now, new evidence is emerging that the level of inequality in the United States has reached a point where it could begin to hinder future growth (if it hasn’t already).

According to the International Monetary Fund, job creation and economic growth could be slowed by as much as a third due to the growing inequality in the United States. For years, many saw the growing inequality as a result of preferential tax treatment to income vehicles that “the rich” frequently benefit from, such as investments. Now that research suggests that the inequality that we have amassed could stunt growth, organizations such as the International Monetary Fund and Organization for Economic Cooperation and Development are lobbying for both changes to tax structure and spending programs to reverse the disparity of income.

Large differences in income can have many problems for nations, such as political unrest – be it violent uprisings in the Middle East or movements such as the Tea Party or Occupy Wall Street in the United States. Most economists – and both Presidential candidates Mitt Romney and Barack Obama – agree that a strong middle class is an important part of a healthy economy and drives economic growth. At the same time, most recognize that the growing inequality is coming mainly at the expense of the middle class. Without corrective policy measures, such as more fairness in the tax and spending code including reductions in loopholes and subsidies, there is likely to be slower job and economic growth in the United States, which coupled with the inequality itself, could spill over into social issues as well.

Indeed, while much of recent literature on the issue of income inequality has been negative, one must not forget that there is another side to the coin. Some economists have maintained that this inequality is not necessarily as bad as it seems. First, some analysts have questioned the actual data used. They argue that it omits in-kind benefits, nonsalary benefits, and taxes, which are disproportionately borne by higher-income families. Thus, they argue that the data is skewed and shows more inequality than there is actually is. Second, there is the argument that while acknowledging the growing inequality, the large increases at the top will benefit the rest of society as a whole. These benefits would include improved living conditions, technology development, and overall growth of the economy. Essentially, while the poor would remain poor, their lives would be better off than they were before. In reference to these rapidly growing incomes of the top 1% and the stationary incomes of the 99%, some appeal to the saying “a rising tide lifts all boats”. However, as described earlier, new research suggests this inequality has the potential to stunt growth, if it hasn’t already. With this stunted growth, there would not be any “rising tide to lift all the boats”. Rather, with the “tide” unchanged (or perhaps even lower), a small portion of boats would just become much bigger boats.

Lowrey, Annie. "Income Inequality May Take Toll on Growth." New York Times: October 16, 2012.
Harbin, Christine. "Income Inequality is Not a Problem: The Free Market is Making All Americans Richer (Debate)." PolicyMic.

America’s Changing Labor Force and Manufacturing

By: Kyle Peabody and Alyssa Dizoglio.
Edited by: Luke Martin and Fiona Maguire.

America’s labor force is changing - the “baby boomers” are retiring in masses and the next generation filling their positions have been raised in a world radically different than that of their parents.

Today’s youth are attending college at a much higher rate than generations past. The public perception has become such that many believe they must attend college post high school in order to procure a career. A college education is undoubtedly valuable, but there is currently a shortage of approximately 80,000-100,000 “highly skilled” workers in America today, according to the Boston Consulting Group. In addition, the Fabricators and Manufacturers Association estimate that 10 million new “skilled workers” will be needed by 2020.

Despite the shortage in skilled workers, pressure is still on today’s youth to attend colleges and universities. Students will frequently incurring large amounts of debt financing college, rather than pursuing trade and skilled positions. Many youths opt to pursue fields such as arts, humanities, and law, which have unemployment rates of 11%, 9%, and 8%. Meanwhile, fields such as plumbing, construction management, and HVAC (heating ventilation and air conditioning) are expected to have over 15% in job growth by 2018.

Jacey Wilkins of the Manufacturing Institute, found that few high school graduates seek these manual or industrial positions, and those who do lack even the most basic math skills. Due to the recession forcing many companies to cut training and human resources budgets, businesses cannot afford to hire these workers who have no skills and are in need of training. This is potentially troublesome for U.S. manufacturing because companies are looking to regain production from China and to compete with the high costs of labor and energy in Western Europe and Japan.

In order to remedy the current lack of skilled industrial workers in the U.S., high schools should offer more programs for students to begin trade and technical training through programs such as BOCES and the Industry Works Council. The US needs to emphasize the benefits of students attending trade schools and community college programs, including the fact that they are one-tenth of the cost of private universities, in order to encourage students to pursue these fields.

According to a study by Deloitte and the Manufacturing Institute, just one in three parents would encourage their child to work in a trade. Also, among 18-24 year olds, 52% have little or no interest in a manufacturing career, and 61% prefer to enter a “professional” career. To initiate a revival of U.S. manufacturing, it is necessary to educate the American youth about the value of skilled-workers in the economy.

iPatent, you Pay

By: Paulius Kosmarciukas and Christina Rencis.

Technological advances have propelled the human race forward for as long as anyone can remember, from the invention of the wheel to the release of the iPhone 5. But some of the biggest contributors to software and technological innovation for the past decade are taking a different approach. For the first time ever, companies like Apple and Google are spending less money on research and development than on intellectual property right protection.

Edith Ramirez, the Federal Trade Commission officer, warns that patents halt growth and “can deter innovation by increasing cost and uncertainty for other industry participants, including other patent holders.” The innovation engine has slowed down significantly with as much as $20 billion spent on patent litigation in the smartphone industry alone over the past two years. Legal warfare is becoming the new name of the game, leaving the consumer to pick up the tab.

Patents weren’t always thought of as a weapon for legal battle, but as a way to protect one’s self from copycats. Intellectual property rights were first introduced in 17th Century Britain. The enactment of these laws are thought to be a major catalyst of the industrial revolution. Thomas Jefferson used these same principles to set up similar laws in the U.S. during his presidency.

Today the innovation landscape looks much different. Now, even if a competitor is the first to bring a physical prototype to the market, they can be taken to court by the one who was “first to file,” which slows down innovation in the legal system. For instance, if you found a way to move information faster than the speed of light through the fifth dimension you would violate patent number 6,025,810.

Clearly, there are inefficiencies in the current patent system. Industry-specific regulation for protecting intellectual property is paramount. To research and develop a life-saving drug takes years of effort and large sums of investment, while to make copies of it would cost significantly less. Long-term patents are essential to recovering invested resources during development. On the other hand, creating a “slide to unlock” feature on a cell phone requires a lot of investment but the costs can be recovered much quicker due to a different nature of the fast-moving pace of the technology industry.

Patents are the candy that the mega-corporations don't like sharing with others. However, collaboration is often a true source of novel ideas and discoveries. Perhaps the current patent system could model itself after the Creative Commons License, offering custom intellectual property protection of anyone who is a part of the collective pool of inventors.

Intellectual property protection is meant to nurture the entrepreneurial spirit of innovation, not stifle it. Patents have the potential to act as creative catalysts in creating an environment that embraces future inventions rather than pose as litigious obstacles. The opportunities to modern prosperity are realized because of the creation and growth of companies that shape our society.
It’s important to learn from the past in building a successful future and we must restructure the current model of the patent system that is more industry-specific.

For more see:

Duhigg, Charles and Steve Lohr "The Patent, Used as a Sword." New York Times, October 7, 2012.

Posner, Richard. "Do patent and copyright law restrict competition and creativity excessively?" The Becker-Posner Blog, September 30, 2012.

Parnell, Brid-Aine. "Are we in the middle of a PATENT BUBBLE?" The Register, November 4, 2011.

Hariharan, Venkatesh. "Is IP another bubble about to burst? A view from another civilization." opensource.com, Dec 16, 2009.

Lohr, Steve. "Widening Scrutiny of Google’s Smartphone Patents." The New York Times, October 9, 2012.

Overprotective Patent Grabbers

By: Andrew Smith.
Edited by: Michael Kopelman.

Technology changes rapidly and so has the application of patent laws that govern technological inventions. When Congress passed the America Invents Act in 2011, it codified the attitude that people and corporations no longer invent products, but rather ideas. In a New York Times article from earlier this week, Charles Duhigg and Steve Lohr discussed how American patent laws have shifted from protecting the designs from “First to invent” to protecting “First to file.” This shift means that patents now protect potential ideas and broad technologies instead of specific applications of those ideas or the individual inventions that use them.

However, this shift to a broader interpretation of patent law did not come from the lawmakers themselves. It is a product of many large legal battles technology companies are waging against their competitors. The most publicized and most recent instance of such a battle involved a lawsuit that Apple brought against Samsung, regarding similarities in the technology the two companies use in their respective lines of smart phone products. Apple argued that the physical design and software Samsung used in its smartphones was too similar to the same aspects of Apple’s iPhone. Apple has a history of filing these types of suits. In the early 1990s, Apple unsuccessfully sued Microsoft for using graphical user interface technology on its computers that was too similar to the Apple’s version of this same technology which they had previously “Borrowed” from Xerox.

From a business perspective, it makes perfect sense to protect your own product from unauthorized reproduction by a competitor. A company has a vested interested in out-innovating their competitors in an attempt to win against them in terms of revenue and sales. However, the government has a vested interest in preserving competition in the market as it allows the economy to function properly and gives consumers an opportunity to choose the product that best fits their wants and needs. By attempting to sue its competitor out of the smartphone market, Apple is denying consumers this opportunity.

If consumers cannot vote with their wallets when it comes to buying goods, smartphones specifically, there is no incentive for innovators to try and improve upon existing technologies. Obviously, no corporation or individual should be allowed to steal someone else’s invention or application of a specific technology. Inventors do deserve to receive credit as well as royalties for their inventions. The United States Constitution actually provides for the protection of inventions in an effort to “Promote the advancement of science and the useful arts” in article 1, section 8. However, to construe this provision as carte blanche to patent and restrict every idea or technological innovation to the first person to file a patent on it, is to follow a non-valid interpretation of this article. A company that invents a certain products or devises a particular application for a certain technological innovation only has a valid claim to that particular invention or application. And not to any and every conceivable application of the same idea.

Patent laws need to catch up with new technology. However, the law needs to strike a balance that does not stifle competition or innovation. The standard for interpreting and enforcing patent laws should involve tangible products or applications of intangible ideas. If the patent office continues to grant patents on ideas that haven’t produced a physical result, then the patent holders will be able to prevent new technologies (Which haven’t progressed from the drawing board) from ever entering the market at the hand of someone who could create, and perhaps improve, an amazing idea. Market competition and consumer choice are more important than the profit margins of a single company. Until the patent office realizes this, litigation will continue to struggle competition and innovation.

On Education

By: Luc Shay and Fiona Maguire.
Edited by: Michael Kopelman.

A recent article in The Economist, “How Will the Candidates Tackle Schools and Colleges?” ties back to our studies on education. Until the 1970’s, the United States was a world leader in education, but has since fallen. Government policy, societal changes, and the way we value education has evolved. These changes have warped the system we have today.
The US began by building an educational system focusing on children. In the mid-1800s, the Common School movement emphasized the basics of education and led way in the early 1900’s for the focus of education to move from common schools to high schools. This is where students poured in seeking skills that would benefit them in their jobs. During this movement, the US surpassed Europe in education by allowing their system to be open for all. After World War II, higher education expanded to include college as soldiers returning home competed for skilled jobs. College became popular as people realized better education equaled an increase in yearly income at a skilled job.

Sixty years later, students still attend college with the goal of getting educated to obtain a higher paying job. However, in education today, not only are the students more competitive, but so are the schools. Now, schools are focusing more their reputation rather than educating their students.

With the expansion of the system, the government should have the power to redirect schools to focus on their students’ education. However, due to the government size and amount of money it deals with, they are unable to focus on specific issues like education. In the article, both Barack Obama and Mitt Romney discuss their views on how education should be reformed. Even though they stress the importance of education It is likely that the government will not address this issue. This is because of more demanding issues, leaving education an unresolved problem.
Government involvement has the potential to improve the quality of education in America, but has in the past created problems in the system. The government’s role in education has changed drastically over time. The government’s size, power, and involvement has created many improvements, but has also weakened other areas.

The government has hurt education through its prevalent approach of setting up laws and regulations that protect bad teachers. Many teachers are inadequate to begin with and continuously diminish the profession because government makes it difficult for them to be fired. Previously it was much easier to replace a bad teacher, but due to these increased laws this is becoming harder and harder to accomplish.
Likewise, where laws protect bad teachers, they also protect bad students. In the past, some people were discriminated against and not allowed into educational institutions. Today, the power of government has been used in reverse, as institutions must admit people based on their background. Extending education to more people is an improvement, but has become counter-productive in terms of creating a better educational system, as people are admitted to create diversity rather than on the student’s abilities.

The government’s efforts to make education more affordable may actually achieve the opposite. When the government helps pay for education, institutions have no incentive to keep costs low and instead raise prices, knowing that government will pay.

In many cases the road to bad education has been paved with good intentions. This article describes ways in which each candidate may improve the system. However we believe that maybe the best thing would be for them to simply back off. If the government was able to get out if the way, then America could regain its position as an educational leader. By strangling the nation with laws, regulations, and big government education is in a constant decline.

Deliberative Democracy: A Feasible Solution for Reforming Societies

By: Nikki-Lynn Marshall and Luc Shay.
Edited by: Alyssa Dizoglio.

Gianpalo Baiocchi’s paper ‘The Porto Alegre Experiment and Deliberative Democracy’ discusses the political theory of Deliberative Democracy and its proven success in the city of Porto Alegre, the capital city of Rio Grande do Sol. Deliberative Democracy, a concept first introduced by Joseph Besette, is a modern form of democracy based on public collaboration and deliberation. It differs from traditional democracy through its use of consensus-decision making and majority rule. Although this alternative political system boasts numerous advantages, many of which were seen by Porto Alegre, it is important to note that the success of such a radical system of government is limited to small cities and towns as a result the many practical issues that would arise if the model were to be implemented into a large city or nation.

Porto Alegre presents a model of how deliberative democracy can work if it is implemented properly. The city adopted the new political system in 1989 under a 10-year plan. Successful aspects of this implementation included both neighborhood-based deliberation and a parallel organization set up to operate alongside a municipal council. The system was found to produce significantly superior outcomes in comparison to traditional democracy. For example, allowing citizens to participate in political decisions lead to more fair and rational decision-making. The dispersion of political power lead to progress that reflected the public’s desires rather than those of a small group of people who maintained all of the power. Including common citizens in political decision-making led the government to discuss critical issues that may have never been discussed if it were not for including the common voice. For example, during the 10-year plan, sewer and water connections in the city increased from 75% to 98%. Similarly, the number of schools in Porto Alegre has quadrupled since 1986 (World Bank). By giving a voice to the people that are most affected by government decisions, critical issues are resolved in a way that benefits these people, as opposed to having the same issues influenced by political corruption or ploys for power. The biggest proof of success however is that, since the completion of the plan in 1999, 100 other Brazilian cities have now adopted similar political systems.

While there are many advantages of deliberative democracy, the system works best within certain parameters. If the model were implemented, for example in a much larger city or even a nation, many problems would likely arise. One problem is that the large number of opinions would make the whole deliberation process less efficient. A second problem is the issue of expertise. In traditional democracies professionals understand the realm of politics in which they must operate, they understand the different laws, regulations, and workings of the political system, and thus can at times get things done more effectively. Lastly, a disadvantage that Baiocchi points out is that, even though deliberative democracy helps to create beneficial institutions, there is no quality assurance once they have been created.

Despite the few practical disadvantages of this model, in the correct environment the system would benefit society as a whole, as well as create a more efficient, modern way of government, as has been the case in Porto Alegre. As Porto Alegre’s government continues to operate under a system of deliberative democracy it will be interesting to track the long-term results of such a system in contrast to traditional democracy as well as in contrast to other new age development theories such as charter cities.

See Also:
‘The Porto Alegre Experiment and Deliberative Democracy’- Gianpalo Baiocchi
‘New Ways of Deepening Democracy: The Deliberative Democracy’- Carmen Sacho
‘Daring democracy -- Porto Alegre, Brazil’- Rebecca Abers

Are Charter Cities a Good Idea?

Image credit: Tim Marrs, published Dec 10th 2011 "Hong Kong in Honduras" The Economist.

This blog post was co-written by the entire class in an hour and a half in Google Document on September 13, 2012.

Economist Paul Romer, in his TED talk, presents how countries create necessary opportunities for economic development without radical change through his concept of charter cities. Charter cities offer an innovative vision for addressing poverty in developing areas by creating a foundation for improved access to jobs, education and necessities.  To change these societies, we must change their institutions.  Institutions are the formal and informal enforcement of laws, customs and norms that govern how a society works. A charter city would be developed on uninhabited land, governed by its own rules that set a precedent for international partnerships to explore investments and provide housing for foreign and native people.

Benefits of charter cities will be realized by both the host country and its investors. The host country will benefit from the development of infrastructure and decreased emigration, while investors will benefit from a new market (these investors will likely be private, since countries would not want to be viewed as imperialistic). The rules of the relationship between the host country and investors would be set forth in a treaty. In theory, this would lead to efficiency and sustainability along with minimal conflicts between governments and citizens. This could be the next step to improving the quality of living worldwide, as it allows a great choice for people everywhere and includes positive aspects of globalization.

Charter cities may reduce poverty in the long-run if they are able to overcome many practical issues. Conflicts of interest can create problems. Foreign investors, interested in their own profit, would build the infrastructure.  Will they create the correct public goods necessary for agreeable living space? Or will they only be interested in extraction of resources? Centralized urban planning is notorious for its inability to create vibrant cities; it is essential to balance quality civic amenities and commercial space to create attractive infrastructure and institutions. How will charter cities take local cultures and customs of the native people into consideration? Will these clash with the foreign immigrants who would move into a successful city?

Romer intends to create cities for emigrants from poor countries, but by multiplying the destinations, the problem of “brain-drain” isn’t solved.  Romer claims that the first immigrants will not get rich but that their children will have the opportunity to succeed through education. These cities may or may not actually offer the promised improvements.

Any place that promises investors quick growth is subject to the problems of abandoning failed ideas. Batam, an island near Singapore is filled with half-built hotels and other unfinished infrastructure since investors left when they ran out of money to finish their projects. Thus, Batam has become poverty-stricken without hope of future development. In many developing countries, like Honduras, governments are unstable and cannot provide security to foreign investors. A coup might end the special development zone, therefore chasing all investors out of the country.

Other factors that might hold a city back include its design, location, and relative industry.

On September 4, 2012 Honduras signed an agreement for a public-private partnership with several investors including the U.S. development firm MKG Group to start work on a city within 6 months.  This, thus is about to become the first planned site of a charter city. Will it live up to Romer’s hopes? Or will it become yet another impoverished urban area?

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