Economic Rockstar

Connecting Brilliant Minds in Economics and Finance

055: David Skarbek on the Economics of Prison Gangs and The Social Order of the Underworld

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055: David Skarbek on the Economics of Prison Gangs and The Social Order of the Underworld

Dr David Skarbek is a Senior Lecturer in Political Economy and Undergraduate Exam Board Chair in the Department of Political Economy at Kings College, London.

David’s research interest is to understand how people define and enforce property rights in the absence of strong, effective governments. His work has examined incarceration, gangs, and crime in the United States.

David received a BS in Economics from San Jose State University and a MA and PhD in Economics from George Mason University. He previously taught in the political science department at Duke University.

David’s teaching include ‘Research Methods for Politics’, ‘Economics of Crime’ and ‘Political Economy of Organized Crime’

David’s new book is The Social Order of the Underworld: How Prison Gangs Govern the American Penal System (Oxford University Press). It examines how inmates create self-governance institutions to promote economic and social interactions behind bars.

Economists:

In this interview, David mentions: Alex Tabarrok, Peter Leeson and Peter Boettke.

Economics:

In this interview, David mentions: Scarcity, rationality, irrationality, incentives, governance, social economics, black market economy, gang taxes, drug taxes, marginal cost, correlation, constitutional economics, the collective action problem, free-rider problem, monopoly, trade and protection.

Economics explains everything when properly applied and that discovering how it does so is the most delightful intellectual project that one can imagine – David Skarbek

“Gangs formed because the prison population became very large” – David Skarbek

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Prison is a very strategic environment. In some ways prison is somewhat an excellent context to apply the rational choice approach – David Skarbek

In this episode you will learn:

  • what makes states stable.
  • how prisoners trade in a black market economy.
  • why gang-based governance in prisons looks very different today than 100 years ago.
  • why big prison systems have serious prison gang problems compared to small prison systems.
  • how women prisons are better controlled as they are governed in a decentralised way.
  • about the control that prisoners in adult correctional facilities have control over minors in juvenile correctional facilities.
  • whether private prisons result in a larger prison population.
  • diminishing returns to prison years.
  • how do prison guards feel about prison gangs.
  • how the costs of having prison gangs is externalised to the taxpayer.
  • how the availability of resources that are provided by prisons could determine the level of prison gang culture.
  • why didn’t slaves revolt when being shipped to other countries.
  • how the free-rider problem was the main reason why slaves did not revolt on ships.
  • whether having weapons is necessary in reducing crime.

Books:

Papers:

Movies:

  • The Godfather
  • The Godfather II

Where to Find David:

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046: Shanta Devarajan on The World Bank, Quiet Corruption, Government Failure and Comparative Advantage in the MENA Region

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046: Shanta Devarajan on The World Bank, Quiet Corruption, Government Failure and Comparative Advantage

Shantayanan Devarajan is the former Chief Economist of the World Banshanta devarajank’s Middle East and North Africa Region. Since joining the World Bank in 1991, he has been a Principal Economist and Research Manager for Public Economics in the Development Research Group, and the Chief Economist of the Human Development Network, South Asia, and Africa Region.

Shanta was the director of the World Development Report 2004, ‘Making Services Work for Poor People’. Before 1991, he was on the faculty of Harvard University’s John F. Kennedy School of Government.

Shanta is the author and co-author of over 100 publications, with his research covering public economics, trade policy, natural resources and the environment, and general equilibrium modeling of developing countries.

Born in Sri Lanka, Shanta received his B.A. in Mathematics from Princeton University and his Ph.D. in Economics from University of California, Berkeley.

People care so much about education. They will not eat if they can send their kid to a better school – Shanta Devarajan

In this episode, you will learn:

  • why Shanta decided to take a sabbatical from lecturing and never went back.
  • about Shanta’s passion to end world poverty.
  • how experiencing living on a $1 a day with a poor family made Shanta realize that the failure lies with government.
  • how empowering people in poverty-stricken countries with information could be the catalyst to end poverty.
  • the huge government failures and market distortions threatening the economy in India.
  • why teachers and doctors in India are absent from work 25% and 40% of the time respectively and how this is affecting progress.
  • how the powerful medical union in India are making healthcare inaccessible to the poor.
  • why poor people in India think that the reason why doctors do not show up at clinics is because ‘the rain didn’t come’.
  • why politicians in India do not have an incentive to fix the problem of doctor absenteeism.
  • what the solutions to corruption in India.
  • about unemployment being the biggest problem in the Middle East and North Africa.
  • that the reason why unemployment is so high in the MENA region is due the industrial sector being highly monopolised.
  • about how crony capitalism is preventing SMEs from growing in the MENA region.
  • why Tunisia has failed to develop into an export-oriented economy due the legacy of the Ben Ali family and their connections to firms operating in heavily protected markets.
  • that the failure for governments to continue with social contracts due to high deficits triggered the Arab Spring.
  • about Colonel Gaddafi’s regime and how he managed to keep peace between tribes.
  • how water subsidies and water-intensive crops are depleting water resources in Yemen.
  • why the addictive habit of chewing qat or khat in Yemen is causing water shortages.
  • why Yemen, who doesn’t have a comparative advantage in qat, continues to use resources to produce the commodity.
  • what is the main purpose of the World Bank and how different is it to the IMF.
  • where the World Bank gets its finance from and how much interest they charge.
  • how the money trickles down to the unbanked people in low and middle-income countries.
  • about biometric identification smart cards and how the unbanked in low-income countries can access capital.

Takeaway:

The problems of poor people are man-made and we as economists can actually help solve them. The way in which we can solve them is by carrying our work toward empowering them. The reason they’re man-made is that poor people lack political power. We can actually strengthen their clout, their political power, by providing economic analysis and making it accessible to them – Shanta Devarajan

Economics:

In this interview, Shanta mentions and discusses: poverty, development, capital markets, government failure, policy distortion, structural adjustment, debt crisis, macroeconomic environment, incentives, quiet corruption, unemployment, monopoly, social contracts, crowding out, finance capital, subsidies, water subsidies, energy subsidies, comparative advantage, imports, exports, budget expenditures, IMF, the World Bank, MENA, public goods, leakages, multiple effect, dynamic stochastic general equilibrium model, savings, investments, sovereign wealth funds and consumption.

Economists:

In this interview, Shanta mentions and discusses: Chris Blattman, Gerard Debreu , Joseph Stiglitz, Sherman Robinson and Paul Collier 

Influencers:

Gerard Debreu , Joseph Stiglitz, Sherman Robinson , Paul Collier 

Quotes by Shanta Devarajan in Episode 046 of the Economic Rockstar Podcast:

The marginal product of writing an additional paper was lower than my actually trying to go out there and apply what I know to reduce poverty. I became quite passionate about this quest to reduce this poverty. – Shanta Devarajan

The problems of poverty under development are problems of government failure. The problem of government failure is because the political system is one where poor people don’t have sufficient voice and sufficient ability to make sure that politicians take decisions in their interest. – Shanta Devarajan

“The World Banks’ mission is a world free of poverty” – Shanta Devarajan

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On the changing views of The World Bank:

The traditional view of development in the 1950s and 60s was a belief that it was a market failure. Their capital markets weren’t working. Poor countries didn’t have access to capital and so the World Bank had to provide capital. However, in the 1970s and 80s there was a realisation that the problem was not the result of a lack of capital. There  were policy distortions in these countries that made this capital unproductive. The challenge became trying to remove these policy distortions or try to improve these policies so that capital could be productive. – Shanta Devarajan

On Quite Corruption in India:

Quite corruption in India is a deep political problem. There is nothing illegal about this corruption. It is a failure of the system. The political system is geared so that it creates this kind of corruption. – Shanta Devarajan

On Crony Capitalism in Tunisia:

It’s a little bit of a puzzle why Tunisia, which has a very highly educated population, a very nice location right across from Europe and a pretty good infrastructure, hasn’t been able to be a manufacturing, export-driven power-house. The reason is the industrial structure is being monopolised by the cronies of the political elite. – Shanta Devarajan

On Tunisia: “We must protect this economy from elite capture” – Shanta Devarajan

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On Capital Leakages in Chad:

The leakages are higher in resource-rich countries. For instance in Chad, the money that was intended for public primary clinics, that actually arrives at the clinic is 1%. So the leakage is 99%. Chad is an oil-rich country. The reason for that is there is very little accountability – Shanta Devarajan

Reasons Why Yemen is Producing Khat (Qat) Inefficiently

Yemen produces its own qat despite not having a comparative advantage in the commodity. Factors of production, such as land, labor and capital, are used inefficiently to produce khat. So, the question remains as to why Yemen does not import qat. There are two main reasons why the continue to produce it domestically.

The first is that qat is consumed fresh. Domestic production allows qat to be distributed and sold throughout Yemen once it is picked. Freshness is required and it is expected that any imported khat could reduce its quality.

The second reason is that the president’s wife manages the qat monopoly and made a lot of money from it. Any imports would be competition. Given that khat is an addictive substance, the revenue made by this monopoly would have been so large that using resources inefficiently, particularly water, outweighed the costs.

The Difference Between the World Bank and the IMF

  • The World Bank only works on developing countries and the IMF works on all countries.
  • The IMF is concerned with short-term macroeconomic development, whereas the World Bank is concerned about long-term development.
  • Anything that is in the order of one to two years is when the IMF will become involved in order to solve a macroeconomic crisis.  Whereas, if it’s a question of building a road or a bridge or educating children, that’s when the World Bank comes in. Both  the IMF and the World Bank, because they’re across the street from each other in Washington DC, communicate quite intensively.
  • In the past, it may have been viewed that the IMF, because it is more macro-focused, was more interested in the aggregate budget rather than the composition of the budget. In the late 1990s, there were many countries that had fiscal crises. The IMF insisted that they cut their budget in order to maintain fiscal balance. However, just cutting the budget rather than cutting wasteful expenditures and protecting some valuable expenditures makes a big difference.
  • It got to the stage where the World Bank would come in and look at the composition of the budget and suggest where it’s better to cut rather than simply take the targets that the IMF had set.
  • Both institutions have evolved quite a bit since the 1990s. The IMF now looks quite closely at the composition of budget expenditures and the World Bank worries a lot about macroeconomic stability.

How The World Bank Funds its Operations

  • The finance that the World Bank accumulates is obtained by World Bank bonds.
  • The World Bank uses the ‘paid-in capital’ which the original members of the World Bank pledged back in 1947. This has now grown to about $300 billion.
  • This capital is used as collateral to float bonds and because of this capital, the World Bank can get bonds at three-quarters of a percent below the market rate.
  • This capital is then lent to middle-income countries at about half to a quarter of a precent below the market rate. The difference between these rates is what pays the salaries of those working for the World Bank.
  • For low-income countries, mostly in Sub-Saharan Africa, there is a separate window called the International Development Association (IDA) where concessional loans are offered. These loans are pledged every three years by donor countries. The World Bank collects this IDA money, which is about $50 billion, and lends it to these low-income countries at virtually zero percent interest with a 35 year grace period.

Recommended Resource:

The World Bank Database

Recommended Book:

Where to Find Shanta Devarajan:

Meeting Up With Shanta in Waterford City, Ireland (August, 2015):

Since our conversation in episode 046 of the Economic Rockstar podcast, myself and Shanta met up for a brief period in Waterford City, Ireland. Shanta was on a visit form Washington DC (not work-related, just in case you think the The World Bank are coming in to Ireland!). Check back for a new blog post on what we chatted about.

 

Frank and Shanta

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045: Jon Manning on the Art of Pricing and How Economic Theory Has Got Pricing All Wrong

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045: Jon Manning on the Art of Pricing and How Economic Theory Has Got Pricing All Wrong

Jon Manning is the Founder and Principal Consultant of Sans Prix and has over two decades of Pricing experiencejon manning in a wide variety of industries.

Since establishing Sans Prix, Jon (and his associates) have generated millions of dollars in incremental revenue for clients in places such as the UK, USA, India, and Australia.

Increasingly in demand as both a speaker and educator, Jon has spoken at many conferences, workshops, webinars and educational institutions across the Asia-Pacific, the Middle East and the United Kingdom.

In 2011, Jon and Greg Eyres established Pricing Prophets, the world’s first and only online pricing advisory service where clients can ask a panel of global pricing experts and thought-leaders what price to charge for a product or service and why.

Jon holds a Bachelor of Business (Applied Economics) from Deakin University (Australia), a Graduate Diploma of Business (Management) from Monash University (Australia) and a Master of Arts (European Studies), from The University of West London. He is a member of the Australian Institute of Management and the Professional Pricing Society.

In this episode, you will learn:

  • why Jon believes pricing is more of an a art than a science.
  • why pricing is based on human behavior that no scientific model can predict.
  • why there’s no such thing as Adam Smith’s Invisible Hand.
  • that 70% to 80% of companies use cost-based methods to set prices and few use a value-based method.
  • why customers don’t care about companies who use cost-based pricing and prefer companies that use value-based pricing methods.
  • why the best pricing strategy for a company is a value-based method.
  • the trials and tribulations of the pricing strategy adopted by Netflix and how it affected its share price.
  • how a $40 fine for returning a DVD late led to the founding of Netflix.
  • if the best strategy for companies to announce price increases to its customers is to do so a few years in advance.
  • how behavioral economics is opening up a minefield of exploration in pricing.
  • how Apple used anchoring techniques to sell their iWatch by offering a $10,000 iWatch. It makes the mainstream iWatch appear to be value for money.
  • how a $100 omelette was used by a restaurant to act as a decoy so it can influence your decision to pay for high-end or expensive goods.
  • how Goldilock Pricing helps a company, like Starbucks and Harvey Norman, sell more of a middle tiered product as it helps customers make decisions to buy.
  • how Starbucks found the that most of their customers have inelastic demand and decided to increase prices despite a recession in the US.
  • how the internet has changed the pricing model by offering freemium products and services and 30-Day money back guarantees.
  • if there are myths to pricing for companies.
  • how companies like Apple and Amazon price discriminate in order to capture market share and drive revenues upward.
  • how more and more companies are adopting dynamic pricing when selling into different markets.
  • the education pricing model in Ireland, Australia and the US.
  • about MOOCs and how it could have an impact on the future education model.
  • about Gaelic Football and how its players do not get paid unlike other sports.
  • how football games are using dynamic pricing models to charge for tickets based on opposition and weather.
  • that a 1% improvement in price leads to a 10% improvement in operating profit.
  • about the Banksy Experiment in New York where many passers-by failed to pick up an original for $60 that would otherwise fetch for $10,000 in an auction house.
  • how classical violinist Joshua Bell earned $26 in tips playing his $3.5 million violin but played to a packed audience for $100 per ticket the night before.
  • the 2 Golden Rules to Pricing.
  • about the ‘Pay What You Want’ model as followed by Radiohead and Jon Bon Jovi’s Soul Kitchen.

Economics:

In this interview, Jon mentions and discusses: pricing, the Invisible Hand, behavioral economics, heuristics, anchoring effects, framing, Extremeness Aversion, Goldilocks Pricing, demand, elasticity, elastic demand, inelastic demand, pricing architecture, consumer surplus, monopoly, price discrimination, dynamic pricing, marginal pricing and behavioral economics.

Economists:

In this interview, Jon mentions and discusses: Adam Smith, Dan Ariely, John H. Cochrane and Paul Samuelson.

Influencers:

Behavioral economists and marketers.

Quotes by Jon Manning in Episode 045 of the Economic Rockstar Podcast:

What they teach you in economics about pricing is true in theory but it’s irrelevant in practice – Jon Manning

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I know why there is interest in price elasticity but I sort of think it’s a bit like the abominable snowman – Jon Manning.

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There’s no formula to calculate the consumer surplus. You hear a lot of economists talk about the consumer surplus, which in the business community is known as leaving money on the table – Jon Manning.

There’s very few revolutionary monopolies around these days – Jon Manning.

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There’s one thing that’s not a myth and that is you get what you pay for – Jon Manning.

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The 2 Golden Rules to Pricing:

Rule #1: All value is subjective.

Value is in the eye of the customer. No matter what price you put onto something, at the end of the day, the customer is the single point of failure and if they don’t see value at the price you’ve attached to the product, they’re not going to buy. The ‘Pay What You Want’ pricing model is the purest form of value-based pricing since the customer can decide to pay for the product or service by attaching a value to it.

Rule #2: All value is contextual.

By placing a product or service in a certain context, people’s perceptions of its value change. A product placed in a high-end, up-market setting is more likely to command a higher price, whereas the exact same product placed in a low value setting or environment may only demand a smaller price. Joshua Bell and Banksy showed this golden rule of pricing in their experiments.

Companies Mentioned in this Episode Regarding their Pricing Methods:

Ryanair, EasyJet, Amazon, Apple, Uber, Starbucks, Harvey Norman and Netflix.

Recommended Books:

Internet Resource:

Where to Find Jon Manning:

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039: David Zetland on Aguanomics, Water Scarcity, Water Wars and ‘Toilet-to-Tap’

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039: David Zetland on Aguanomics, Water Scarcity, Water Wars and ‘Toilet-to-Tap’

David Zetland is an assistant professor at Leiden University College, where he teaches various classes on economics. He was a PostdoctoralDavid Zetland Fellow in Natural Resource Economics and Political Economy at UC Berkeley (2008-2010) and a Senior Water Economist at Wageningen University (2011-2013). David blogs on water, economics and politics at aguanomics.com and gives many talks to public, professional and academic audiences.

David has two books The End of Abundance: economic solutions to water scarcity (2011)  and Living with Water Scarcity (2014). He received his PhD in Agricultural and Resource Economics from UC Davis in 2008. David lives in Amsterdam.

Influencers:

Adam Smith, Friedrich Hayek and Nassim Taleb.

Economics:

In this interview, David mentions and discusses: scarcity, shortage, commodity, supply, demand, marginal cost, opportunity cost, unintended consequences, monopoly, common-carrier system, the water-diamond paradox, development economics, governance, probability, fat tails, Buddhist economics, the problem of over-consumption, non-satiation assumption, GDP, pricing, fairness and efficiency.

Economists:

In this interview, David mentions and discusses: Adam Smith, Friedrich Hayek, Nassim Nicholas Taleb and Ernst Friedrich Schumacher.

The Water-Diamond Paradox (23rd minute in this Episode)

Find out:

  • if we should be worried more about a shortage of water or a scarcity of water.
  • if we should learn from the oil industry and develop the technology-equivalent of extracting oil from oil sands and desalinate the ocean water?
  • if we can tell whether we know the water footprint of a cow and if it’s different in California than Ireland.
  • why water is actually free and what you pay is for the delivery.
  • if there is an opportunity costs to acquiring water?
  • why people living in the slums of India pay up to 50 times the price for water than those who have cheaper piped water.
  • if a water monopoly is an effective market structure.
  • if price competition in the market for water would result in the over-use of water consumption.
  • about Scottish Water and how other utilities across the UK and adopting their distribution and pricing structure.
  • about the water-diamond paradox.
  • why David decided to do a PhD in economics after failing to get rich in the dotcom era.
  • how David came to get his family name ‘Zetland’.
  • about the coming ‘Water Wars’ and how it has already started.
  • about Sao Paulo’s troubled water situation and how it’s creating gang warfare on the streets.
  • who we should assign the property rights to water.
  • about Chile‘s exemplary assigning of water property rights.
  • what David proposes to be the most effective way of managing water.
  • how Singapore are becoming independent in creating their supply of water and are no longer depending on imports from Malaysia.
  • how Singapore are building technologies to recycle water from waste.
  • why the ‘toilet-to-tap’ water recycling initiative has failed in the US but is working in Singapore.
  • how marketing recycled water works in Singapore and not in the US – one known as ‘New Water’ and the other ‘Toilet-to-Tap Water’.
  • why Singapore treats water as a national security issue.
  • why it will take 20 years to build a desalination plant and why San Diego will need 15 of these plants to serve the water needs of the locals.
  • about the new Irish water utility, Irish Water, and how the management decided to ‘award’ themselves bonuses even before the Irish people payed for their water.
  • about ‘Buddhist Economics’ and the assumption of non-satiation.
  • what David would suggest if he was an Economic Advisor to any country regarding water policy.

Why David Studied Economics:

When I was between 25 and 30 years old, I travelled to 65 countries and when I came back to the States I was looking around and figuring out what to do. I tried to get rich in the dotcom era and that totally failed and I started to work with a bunch of academic mathematicians and they were really kinda cool people. But they were pretty cool and I thought ‘well this is interesting. Maybe I should go and do something academic’. I went back to grad school to get a PhD and I wanted to do development economics. My research project, which was to go and study cocaine production in South America, sounded to my advisors a littlest dangerous. Then one of my advisors said that there was this really strange case in Southern California where San Diego is in a big fight with other water utilities and maybe you should look into that. So that ended up being my dissertation – David Zetland.

David’s Advice to a Country Implementing a Water Policy:

“You have to take care of your environment. Then you have to commodify all the rest of the water. But all that revenue really should go to the citizens of that country. Other than that, I’m open to any other discussion about what’s a better system in terms of balancing between efficiency, which is pricing and fairness which is the distribution of those revenues” – David Zetland.

‘Water Water Everywhere and Not a Drop to Drink’: The Right to Water – It’s a Necessity After All

The ‘Right to Water’ is an important part of the conversation but it tends to confuse things. People need water for drinking, cleaning, washing and so on. But is there a right to water to put on your garden? Is there a right to water to wash your car? Do farmers have a right to water that goes on their fields if that means the river is going to be dry? So, there comes a point where the ‘Right to Water’ runs out and we have to start talking about water as a scarce good or an economic commodity. That’s the separation you need to start with.

Shortage is worse than scarcity because you can’t get any of what you want, even if you have time or money – David Zetland

David Zetland’s book ‘Living with Water Scarcity’ is about learning how to manage water scarcity, the same way we have learned to manage land scarcity, time scarcity and money scarcity. Water scarcity is not confined to any particular region or country. This is a global phenomenon. We can generalise water scarcity in terms of the lack of water available. But there exists specific concerns such as the scarcity of clean water, which is becoming a problem in northern European countries and eastern United States, where there’s lots of water but a lot of it is polluted.

Ireland's Anti-Water Charges Protest 2014

Ireland’s Anti-Water Charges Protest 2014

The irony for people living in Ireland, for example, is that the country is surrounded by water but yet availability of fresh, clean water can be scarce in some regions. There are a few towns and villages in Ireland who have been buying bottled water or are on boiling notices due the presence of cryptosporidium in their water. Water shortages is not necessarily an immediate concern for Ireland. However, California, on the other hand, is experiencing their 4th year of drought. This is something that is being experienced in many regions around the world, but ‘California has more reporters hanging around’ and other regions’ grief remain unreported.

The ‘Water Water Everywhere and Not a Drop to Drink’ problem leads people to think that we should desalinate the ocean and get all the water that we want from the ocean. This, however, would be a great physical and expensive task to undertake and the conversation on desalination tends to stop. Should we learn from the oil industry and develop the technology-equivalent of extracting oil from oil sands and desalinate the ocean water?

Adam Smith explained the value in exchange as being determined by labor: ‘The real price of every thing, what every thing really costs to the man who wants to acquire it, is the toil and trouble of acquiring it’.

David frames this as ‘Technologies and Techniques’; techniques meaning how we use technologies and how we use water. “In the case where you have scarcity, you could say we’re going to build a desalination plant, drill a deeper well, build aqueducts, take shorter showers or stop watering our lawns. We should try and help people use as many ways as possible instead of focusing on one particular silver bullet.”

Who’s the Straw that Broke the Camels Back?

Numerous groups are pointing the finger at each other and casting blame each others way for causing pollution, drought and water scarcity. Besides the natural precipitation, farmers use half as much water as people in the city, such as industries and municipalities. In California, farmers use four times as much water as cities, say in the UK. Farmers obviously use water in various forms, but they’re not necessarily using more than the cities.

Then there’s the big discussion about who should be allowed to or who has the right to us water and that’s where the politics and mudslinging comes in. However, the level of precipitation is different in Arizona and California, as well as in Spain and Cyprus, compared to regions in Ireland and the UK.

Quotes from David in this Episode:

“These pro-poor policies can end up being so anti-poor. It’s terrible, it’s actually almost a crime” – David Zetland

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on how cheap water in India results in water utilities not having the infrastructure to deliver water to the slum areas. These people end up paying up to 50 times for their water from tankards. This water is dirty and people, particularly children, queue up for hours to collect and carry this water to their homes which can often be on the 3rd or 4th floor of a building.

“The customer is vulnerable to being exploited by the monopoly and the monopoly is vulnerable to being exploited by the customer. And that’s where regulations come in” – David Zetland on the need for regulation in the market for water.

Why is water, which is something we need to live, so cheap, whereas diamonds, which are a pure frivolous luxury, so expensive? – David Zetland on the Water-Diamond Paradox.

Water Wars in Sao Paulo, Brazil

Sao Paulo’s reservoirs have fallen to such low levels that their supply fails to meet with their expected demand. There were a lot of ways in which Sao Paulo could’ve dealt with this risk, such as fixing their leaky networks. They cannot get water from somewhere else. You’ve got a limited amount of water and 10 to 20 million people who need water to drink. The utility can shut off the water supply at various locations if they like and that raises the question of rich versus poor. That kind of decision is not going to please anybody. There have been protests over this.

David’s assessment of this is that if Sao Paulo wants to avoid a war on the streets, they need to shut of everybody’s water and have tankard trucks distributing water in Jerry cans in the corners – one man, one bottle. And that’s because you’d be addressing the concern of social equality and human rights.

Israel is not going to invade Turkey for their water. You can’t win that battle. You can’t bring back the water – it’s too heavy.There won’t be wars of plunder, there’ll be just conflicts over who’s going to get the water. Water gangs will form and they will take your water.


Recommended Books:

  • Check out David’s review of ‘Small is Beautiful’ by E. F. Schumacher.
  • Find out here why David decided to give his book away for FREE.

Where to Find David Zetland:

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029: John Cochrane on the Future of Finance, MOOC Education, Regulation and the Case for Free Markets

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029: John Cochrane on the Future of Finance, MOOC Education, Regulation and the Case for Free Markets

John Cochrane is the AQR Capital Management Distinguished Service Professor of Finance at the University of Chicago Booth School of Business and is currently Senior Fellow at the Hoover Institution.

Professor Cochrane is a Research Associate of the National Bureau of Economic Research and past director of its asset pricing program, and an Adjunct Scholar of the CATO institute.

John is past President and Fellow of the American Finance Association, and a Fellow of the Econometric Society. He has been an Editor of the Journal of Political Economy, and associate editor of several journals including the Journal of Monetary Economics.

John’s is the author of 3 books including the book Asset Pricing. Other  finance publications include articles on stock and bond markets, exchange rates, interest rates, liquidity premiums and option pricing.

John’s monetary economics publications include articles on the relationship between deficits and inflation, the effects of monetary policy, and on the fiscal theory of the price level.

John currently teaches the MBA class Advanced Investments and a variety of PhD classes in Asset Pricing and Monetary Economics.

John earned a Bachelor’s degree in Physics at MIT, and earned his Ph.D. in Economics at the University of California at Berkeley.

In addition to research and teaching, John is a competitive sailplane pilot and windsurfs.

John blogs as ‘The Grumpy Economist’.

Find Out:

  • why Professor Cochrane is known as the Grumpy Economist.
  • about John’s Proposed New Structure for US Debt.
  • how to create financial stability with a currency fit for the 21st century.
  • about the advantages of government debt.
  • what happened when Ireland guaranteed the bondholders and entered into a bailout.
  • the limitations to a eurozone country when faced with a bailout.
  • why countries should be allowed to act like companies and default.
  • why Greece should have defaulted and why Ireland should not have bailed out the bondholders.
  • about Professor Cochrane competing in the World Gliding Championship for the USA.
  • why Professor Cochrane delivered his Asset Pricing PhD course as a MOOC.
  • the costs and benefits of delivering a MOOC.
  • how MOOCs will become the textbook of the future.
  • how to monetize a MOOC and which type of course would have mass market appeal.
  • Ireland’s aim to become the capital of MOOCs.
  • how to create a social environment for students using MOOCs.
  • why Professor Cochrane went from a degree in physics to a PhD in Economics.
  • why people are stuck in the welfare system.
  • about the over-regulated US economy that restricts the development of competitive markets.
  • how Uber gave supply-side competition in the US taxi market.
  • what should be done to the US healthcare industry which is protected from competition.
  • if the US Federal Reserve should end its monopoly on the dollar and allow other currencies, such as Bitcoin, compete.
  • about the unique feature of US government debt – it cannot default!
  • who are Professor Cochrane’s heroes due to their no bullshit approach to research.
  • why the the 2008 financial crisis was proof that the efficient market hypothesis works.
  • what annoys Professor Cochrane.

Influencers:

  • University of California: George Akerlof, Roger Crane, Jim Pearce and Tom Roffenburg.
  • University of Chicago: Robert Lucas, Lars Hansen, Gene Fama, Ed Prescott and Tom Sargeant.

Defining Moment

A professor was showing an economics class that John attended in which he explained, using the Budget Constraint, why people are stuck in welfare. Up to that point, John had read that it was due to people being lazy or that it was due to moral, sociology or cultural. However, the analysis showed that any normal person who was stuck below an income threshold and receiving benefits would not welcome a moderate pay rise as they would lose entitlements.

Here was a value-free, and ethics-free, a morality-free discussion of a social problem that showed exactly where it came from, exactly how to fix it, exactly how the perverse design of the well-intentioned welfare was causing people to get stuck. That was my conversion moment.

Economics:

In this interview, John mentions and discusses: Asset Pricing, unintended consequences, free markets, incentives, budget constraints, welfare, competition, supply-side competition, regulation, monopoly, natural monopoly, bitcoin, debt, default, Gold Standard, fractals and efficient market hypothesis.

Economists:

In this interview, John mentions and discusses: George Akerlof, Roger Crane, Jim Pearce, Tom Roffenburg, Robert Lucas, Lars Hansen, Eugene Fama, Ed Prescott, Tom Sargeant, Benoit Mandlebrot

“What makes free markets work is the discipline of competition, of the ability of new entrants to come in and disrupt things” – Professor Cochrane.

“Regulation is stifling the ability of  new people with great ideas, with cost control ideas to come in and make healthcare both better and a lot cheaper” – Professor Cochrane.

The Future of Finance:

Professor Cochrane likens the financial crisis as a ‘good old-fashioned’ run on the banks. Twenty years ago, the world economy developed ‘electronic interest-paying money’. Most of the financial system uses overnight repurchase agreements, money market funds and short-term government bonds. These became very liquid and have been prone to runs just like bank notes. For financial stability, the crucial thing is to get away from this run-prone system.

John proposed that governments should provide interest-paying electronic money that will not experience a run in the 21st Century. This would look something like a money-market fund. It will always be worth $1, pays interest and will always be electronically transferable. Financial stability would be achieved and we would have more efficient payments.

On Ireland Bailing Out All Depositors

Irish banks took a lot of German deposits and invested them in US sub-prime mortgages. The money passed through Ireland and it’s not quiet clear why the taxpayers of Ireland who footed the bill for that. Why couldn’t the depositors from Germany lost a little bit of their money along the way. That would have seemed to make sense. Cyprus and Iceland made their depositors take haircuts.

When you’re a small country with an open banking system, the model of the government who bails out all depositors including foreign depositors is not one that can go on. That’s a troublesome system. Ireland maybe regretting bailing out all of the depositors in the process.

Since Ireland is part of the EU and the eurozone, it cannot print money to bailout people. Government debt in that situation becomes private debt. Ireland would not be in as much trouble if it didn’t bailout the depositors in its bank.

Greece certainly should have just defaulted the way a company defaults. If a company defaults on its debt it doesn’t have to leave the eurozone, so why shouldn’t countries become like companies.

MOOCs: The Future but Not a Substitute for Formal Education

Professor Cochrane delivered his PhD class ‘Asset Pricing’ as a MOOC. He felt that such ‘cut and dry’ material would be easier to get started with, particularly when he also had a book of the same name, rather than a more discussion-based empirical class. There were numerous challenges along the way. “It turned out being a lot more work than I thought it was going to be but it also turned out very rewarding”. It allows Professor Cochrane to leverage his delivery going from teaching 20 students to upward of thousands of students.

MOOC

Like any new technology, there are lots of unanticipated ways in which it can be used, unanticipated markets that are going to find it that nobody thought about it how that was going to work out. MOOCs were originally intended to deliver ‘introductory-type’ classes which would have mass appeal. However, John believes that the way forward for MOOCs is in the delivery of ‘distinctive-type’ classes where the class is more specialised and in greater variety.

Creating a MOOC can be costly in terms of time, resources and the infrastructure that needs to be built to deliver the course. “Like all technology, if you’ve ever made a webpage, it has a high fixed cost but low marginal cost.” The secret to putting a MOOC together is it has a high fixed cost to put it together. Creating the video content for lectures is easy. It’s putting together the significant typo-free problem sets and other materials like that that’s hard. But once the MOOC is done, it is scalable in terms of multiple years and to a lot of people.

Professor Cochrane views MOOCs as a way of creating a ‘flipped classroom’. They will not be a substitute for formal education but one of the ways that MOOCs will develop into is that they will become the modern textbook. “The MOOC is a self-contained class outside the university but it’s a textbook for my classroom”. Professor Cochrane’s Asset Pricing class at Stanford is a much less formal experience due to the flipped nature of his classroom.

MOOCs have allowed his students to review the material and answer the questions in his series of videos before they arrive to class. Subsequently, Professor Cochrane can deliver more advanced material, as well as have an in-dept discussion on the material the student reviewed on his MOOC. The class becomes a much more rewarding, personal, interactive experience.

MOOCs will be beneficial to the university in so far as creating a brand so as to attract more students to attend. Being online with a MOOC will be useful for the university to connect with their alumni who may be interested in doing an executive education. The MOOC will be paid for indirectly by attracting people into the executive programmes since the flipped classroom model would work very well for this cohort of people.

The social environment of the class turns out to be very important to getting people to stick with the course on MOOC. MOOCs need to move from its current form to a version “2.0 Social Internet and to re-create that social structure that gets people going. The next round of MOOC will need to integrate social media so that the learning experience becomes part of a community of students just like it is on campus”.

How to Create a Social Environment for Students on MOOCs

  • Scheduled classes so that students attend together.
  • Discussion forums where students are encouraged to participate after the class.
  • Weekly Google Hangouts

http://youtu.be/U5CfYQw4X7k

How Similar the Study of Physics is to Economics

Physics teaches you quantitative analysis as well as modelling.

There is some truth in the physics joke: “Physics is the study of massless elephants going down a frictionless sandpaper”. You have to find the elements of a problem, simplify it down to what’s solvable and intuit how it works, not only mathematical. It’s about the intuition of seeing something work and describing it mathematically.

Economics is similar to undergraduate physics – everything before Quantum Theory. If you’re good at mechanics and electricity of magnetism, then that structure is what’s behind economics and you should be equally good at economics. You will also be good at the modelling part of economics which is all about throwing out all the real-world details that don’t really matter to a particular problem. If the mass of the elephant wasn’t particularly important to that problem, then just assume the mass of sumables. That’s the key to economics.

Economics is full of quantitative parables and you have to make them vivid by making them simple and clear. And then understanding intuitively how to put the pieces together.

On discovering economics, Professor Cochrane believed that he could use the tools of Physics to understand all the hard social problems that everybody is fighting and getting so excited about in a value-free way.

On Bitcoin:

“The design of Bitcoin is fundamentally flawed. We have lost anonymity. That worries me for political reasons as well as economic reasons”. Anything that is done electronically, then the National Security Administration knows what you bought if you use your credit card. Cash allows you to do things anonymously. “Bitcoin promised anonymity but didn’t really deliver it in the first place.”

Bitcoin is based on the Gold Standard model where we need a fixed supply of something rather than a steady price of something.

Where to Find John Cochrane:

The Grumpy Economist

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