Friday, March 31, 2006

Boredom Alert

Boing boing reports on a device that will tell a person if they are boring.

The "emotional social intelligence prosthetic device" is a camera that clips on eyeglasses and feeds images to a small computer that uses image recognition software to characterize emotions. If the listener doesn't seem to be engaged, the device vibrates to alert the wearer.

I suspect I might have been shaken to death by marginal revenue this week. This surely is in the category "you don't want to find out this way."

So now we are the evil foreigners?

Daniel Gross in Slate raises alarmist bells at the thought that non-US firms were buying up government toll roads. One such firm is Australia's Macquarie Bank. After the ridiculousness of the Dubai ports non-issue (with real effects), this is similarly silly. After all, US governments are putting these up for sale and non-US firms are bidding more than US ones to take the assets. And the problem with this is ... um, that they aren't American companies?

Gross worries that revenues that could have ended up staying in the US will be going outside in the future. Of course, don't forget that similarly capital that could have ended up staying outside the US will be coming to it. Moreover, it is not like this was forced on anyone. Gross makes it sound like a foreign conquest, seizing future road revenues and leaving US citizens with a worthless pile of cash!

And why didn't American companies win these bids? Gross has a 'theory':

Why aren't American companies buying the roads and making the profits that are going to Cintra and Macquairie? Oddly, it may be because the toll roads are good investments—but not great ones. The long-term economics of these sweetheart deals don't appeal enough to today's quick-buck American investors. Big private-equity firms are sitting on piles of cash, and money is cheap. And yet they're not bidding seriously on these lease deals. Ironically, the very factors that make the United States an appealing market for foreign investors—its size and stability, the security afforded by the rule of law—make it comparatively unappealing for some local investors. Macquairie and Cintra might be perfectly happy with 12 percent internal rates of return. But many big U.S. investors are seeking returns at twice that rate, which they believe can be found more easily in riskier markets like India and China.

Yes, you read right: they aren't good enough investments for US firms? Well, if they aren't good enough investment for US firms, how can they be good enough investments for US taxpayers? How could it be that the losses to the US are so great? These horrifically inconsistent arguments have no place in Slate.

Thursday, March 30, 2006

Pharmaceutical prices and innovation

In new research, Alan Garber, Chad Jones and Paul Romer show how the system of co-payments for health insurance may encourage socially desirable use of pharmaceutical drugs. Drugs that are under patent are priced in a monopolistic way. This usually means that their use will be much lower than would be socially desirable: put simply, there may be consumers out there who are willing to pay for drugs more than the marginal cost of producing them but monopoly pricing is rationing them out of the system.

Garber, Jones and Romer point out that when patients are covered by health insurance, they do not pay the full price for drugs. They share the cost with their insurers through a co-payment. This means that a consumer is more likely to purchase a drug than if they had to bear the full price. This over-purchase tendency will counteract the under-purchase tendency that is coming from monopoly pricing of drugs. The end result could be socially optimal drug consumption.

In Australia, the government enacts this system but in a way that makes it more likely that the social optimum can be reached. Drugs that are covered by Australia’s Pharmaceutical Benefits Scheme (a scheme that has been operating since the 1950s) are sold to patients at a price equivalent to marginal cost (taking into account the costs of manufacturing and distributing the drugs). Thus, Australian consumers face (near) socially optimal incentives to use medicines.

The difference between the government scheme and private co-payments is critical. Under the US system, the pharmaceutical company is still able to set their own price and with the co-payment demand is even greater than they would have under monopoly. The end result is much higher profits from drugs. Indeed, as Garber show this can mean that drug companies have socially excessive incentives to innovate. They recommend capping drug prices to improve the situation.

In Australia, that already happens. Moreover, the cap is set with reference to the profits of pharmaceutical companies who can always opt out of the system if they want. As such, they will always receive at least their monopoly profits. In this way, innovation incentives are not diminished by the Australian scheme and, moreover, do not generate excessive incentives either.

Noise pollution in the air

In today's Financial Times, Jagdish Bhagwati (Columbia University) advocates dealing with the threat of mobile phones on flights. He likens the harm -- to one's mental state at least -- as equivalent to smoking (remember that). Bhagwati argues that planes should have special booths that callers would go to to prevent noise pollution.

Interestingly, in many long haul flights phone calls have been an open for a long-time. They just cost a fortune and people don't use them. It seems to me also that what is a problem for non-callers is a problem for callers; it is hard to hear on flights. Mobiles used for non-voice communication would alleviate all of this and that seems like something worth encouraging.

In any event, if mobiles were available on flights what might one do. It is fun to speculate on this. For instance, consider the following. Provide each passenger with a certain right to make calls -- say for no more than 15 minutes. To make a call, they give their coupon to a flight attendant and then go for it. This will limit the total amount of noise pollution.

Then you can make those coupons tradeable. If you want to make more calls you are allowed to purchase coupons from your row -- up to two seats either side. Then if your neighbour doesn't mind the noise you will be able to find a price to trade. If they do, then your right is gone and that is that. This might generate a little more efficiency than Bhagwati's proposal. Of course, it could also make the plane into a trading pit.

Actually, we could also allow passengers to pre-purchase a coupon up to a certain amount. Then if you want to limit noise in your row, don't purchase one. But if you want to see if you can make a little dough, do so.

Is public transport doomed?

In today's Age, Alan Moran takes issue with my idea that we should price roads and use credits to fund public transport. He writes:

In his article (Business, 7/3), Joshua Gans suggested an approach involving road pricing and making public transport free, for which he accepts an estimate of costs at $340 million a year.

He believes these two policies could considerably relieve congestion. It might well make sense to charge more accurately for the costs of the road space used at the time of that use. This is notwithstanding that people already pay twice as much in fuel and registration taxes as governments spend on roads.

Basically, he doesn't see a need to favour public transport as many (including myself) have been suggesting. It is hard to say. It is theoretically possible that the car is actually optimal. Equally, it is theoretically possible that we should ban cars altogether. The truth is in the middle but something worth searching for.

Personally I think hybrid systems of the sort we saw in Minority Report are likely to be the best. But now that is just fiction ...

Wednesday, March 29, 2006

Seriously, why don't books have ads?

Over the weekend, I asked the question "Why don't books have ads?" It certainly provoked a reaction and the leaped blogged into Andrew Norton (on Catallaxy) with more comments to boot!

One reaction which was not surprising was, because it would be terrible. However, that isn't answer at all, that is a statement about what the world might be. My question is more targetted. If publishers (and authors) can profit from books in ads, why don't they have them? It is all about the money.

Here were would be explanations and my response:

  • Readers would not buy books: just as some people don't watch TV because of ads, of course some people would not buy books. But how many? Could it really be that most of the population is happy to see ads everywhere but a good book they will not read if they see a single ad? Add to that the cheaper price of books and this one doesn't stack up.
  • Authors would not write books: of course, some authors may want to distance themselves from grubby commercial stuff. Of course, I don't know any author who refuses to let their publisher promote their books! Again, this can't apply to all authors. Indeed, if ads were to make my textbooks cheaper, then I am all for it. Not to say that I would want to see a cigarette ad but an ad from a consulting firm as to how good an employer they are, sure.
  • Readers would not look at ads: in many respects, it is always surprising to me how much people look at ads in newspapers, tv, radio etc. It is not at all clear that books are anything special. Indeed, a book with a single ad in it will have that noticed. Even where there were instances of ads in books, such as for other books by the same author or publisher, they are noticed.
  • Books have small print runs: then the ad rates will be low. Ads are paid for by eyeballs. Low eyeballs means low ad revenue but it doesn't mean no ad revenue.
  • Some books have (had) ads; travel guides, help books and self-promotion: these are interesting but are still small enough that my question's premise is still justified. Nonetheless, it is interesting to think about why self-promotion ads happily appear in books. By the way, they are not in the Harry Potter series but I suspect that is author intervention. But they are in lots of other children's books. Perhaps my question could be rephrased: why don't books sell ads?
  • Advertisers demand glossy colour ads that it would be too costly for books to provide: this doesn't seem at all plausible a reason. First, there are many books that are colour and glossy (my Principles of Economics book for one). Second, a page of colour printing in a book will cost the same as a page in a magazine. The issue is that in one case the publisher gets the revenue to cover it and in another it does not. Third, not all ads are colour glossy. Google is the biggest ad seller in the world and they are as plain as plain can be.
  • Ads are time sensitive, books are not: Let's compare this with magazines. First, I am not sure ads are all necessarily that time sensitive. All the marketers tell me is that to get brand names that are lasting is key. How could it be that a corporate image is fleeting? Remember ads are not simply to inform about current promotions but to build recognition, value of association, etc. All this might make them very suitable for books. Second, not all books are so long lived. Textbooks go out of date. Bestsellers have their limited life. And books can be reprinted to update the ads. Compare this to the magazines still sitting in waiting rooms over the world. (Also, as we move to e-books, then ads can potentially update over time but I admit that that is the future -- more on this below).
  • Advertisers would not buy ads because they cannot control their impact: this suggested that there was something intrinsically uncertain about the nature of book readers that isn't shared by other media. Now it may be that because of the lack of ads in books they do not have the more sophisticated ratings data of TV, radio and newspapers but how hard would it be to build that up? Even if a book turned out to be selling to a surprise demographic, the ads could be changed in reprints.

In summary, many of these answers are explanations as to why all (or most) books do not have ads but not explanations as to why (virtually) none have them. As an economist, I like thinking at the margin. That is a powerful tool as it usually leads to a conclusion that we are not at corners. When something doesn't occur, there would be a glaringly obvious explanation. Here, I have yet to find it.

Put simply, the current state of affairs does not seem robust. One publisher of one book somewhere should be able to find a price at which they can sell one page of that book to one potential advertiser out there. That we don't even see that is the real puzzle, let alone a more ubiquitous state of affairs.

That said, I think change is coming. E-books will get around even the most salient explanations posted by blog commentators. Advertisers will be able to embed hyperlinks in the margins of e-books. They can be updated and moreover the advertisers could pay for ads viewed so there would be no issue of monitoring.

Hang on a second. Someone has already thought of this. Click here and scroll to the bottom of the page for the future.

Tuesday, March 28, 2006

Government must put right health insurance pains

It took a little while but my earlier post on health insurance premiums (from 25th February) was published in The Age today. I argue that current regulations of health insurance premiums are, to say the least, poor and highlight the problems with our current health insurance system.

Sunday, March 26, 2006

Bent bananas

With the banana crop in Australia devastated, one would have thought that, while banana prices might rise somewhat, they would be available over the next year. Not so! There is a ban on imports of bananas, so they won't be available for nine months. And why would the ban continue? Apparently, the risk of exotic pests.

The government's reaction is that we can do without. Now, isn't that interesting? Parents would know that we can constantly fed a line of the importance of bananas for childhood health and nutrition. They are 'near critical brain food.' The line is fed by Banana Growing Associations as well as governments around the country.

So what is it? Do we need to buy a banana a day for our children or not? If not, then I guess Federal Agriculture Minister, Peter McGauran, is right when he says that: "People will have to understand that their unsatisfied yearnings for bananas are infinitesimal ..." But, if so, then a responsible government surely has to find a way to overcome the supply problem. Perhaps we need to stockpile dried fruit in the future.

This time I don't think you can bend (!) the truth and have it both ways.

Where is the Power?

The Economist this weeks reports on Gillette's five bladed razor and demonstates that if you graph number of blades against time you get a hyperbolic curve. This is a steeper version of the Power Curve (famously applied to microchips).

The D-Generation famously speculated about a 16 bladed razor many years ago. From the Chaser:
The first blade distracts the hair, while the second and third blades sneak up behind it, cutting off any escape routes. The fourth and fifth blades attempt to coax the hair from its hiding place using modern modern counselling techniques while the sixth blade, posing as a passing motorist, acts as a decoy, allowing the seventh and eighth blades to swoop down and quickly overpower the hair. The ninth blade, disguised as a postman, administers a small dose of chloroform, allowing blades 10 through 13 to remove the hair and escort it away for further questioning. The 14th blade informs the hair of its rights. The 15th blade handles the paperwork and the 16th blade, well, it's just along for the ride.
It was quite a sight to see if I recall.

If the hyperbolic path holds, we will see it, in actuality, around 2012. If course, what might actually occur is more like the S-curve where the blade-rate falls off at some 'natural' limit. The problem, as you can see, is no one can predict that limit.

Saturday, March 25, 2006

Weighty pricing decisions

Thanks to Marginal Revolution, here is a report on a German hotel weighing guests and charging them by the pound. OK, but are they weighed coming in or coming out. If the latter, won't that reduce incentives to hit the mini-bar?

Why don't books have ads?

This is the start of stream that I think will take a little while to resolve. Recently, I have been researching on the role of advertising in selling information content (most notably, television). While preparing a presentation on this I wanted to summarise options with a traditional 2x2 diagram (the staple of MBA courses).

Here are the dimensions: (pay or not) for content versus (ads or not). And some examples:
  • Free/Ads: broadcast television/radio
  • Free/No ads: public broadcast television/radio
  • Pay/Ads: pay TV, newspapers
  • Pay/No ads: DVDs (some), books
It is the last one that got to me: books. Why don't we see ads in books?

The reason I was interested in this is because it seemed to me that if you were selling information and there were advertisers willing to pay to be part of it, then you would be better off by selling some advertising space, reducing books prices and selling more books. [Stay tuned for a formal, technical proof] But, of course, we never see advertising in books.

So why not?
  • Too costly to print: doesn't seem plausible as magazines find that OK and they have colour glossy ads
  • Readers won't look at ad: but if The New Yorker or The Economist can have ads, why not some trashy or popular novel? Why not a textbook?
  • Authors won't wear it: well, maybe JK Rawlings, but Dan Brown or Michael Crichton or some unknown.
  • Publishers don't want it: if there is profit in it, why would this be the case.
  • Libraries won't wear it: OK, then provide a special version for libraries without ads. Often they are charged more anyway.
As you can see, it is a real puzzle as to why there are no ads in books. Actually, some books have ads for other books but why not Coke?

Actually, it gets worse. Think about a textbook such as mine. If you put ads in a textbook, the good news for publishers is that they last beyond the one reader even as textbooks are sold and resold on second hand markets. In contrast to the purchase price, this is a stream of revenue that is robust to resale.

I can't provide you answer here but apparently a few have asked the same question before. Jason Kottke had a "horrible thought" in 2003: what if books had ads? An interesting debate ensued but no one really provided an answer as to why publishers/authors do not find it profitable even if the world might be a worse place as a result.

One thing that was pointed out was the product placement had occured in books (as they do in movies). Here is an example. Of course, that is somewhat more costly than ads and easier to see why it is not more common.

There were also some examples that publishers may have tried this before. Here is an example from 1971. These historical bits are worthy of more investigation than I have had time to do yet.

But more recently, in February, 2006, Harper Collins allowed one book to be provided free on the author's website while also selling it the traditional way. The publisher and author agreed to share the ad revenue generated by the site traffic. The book is Go It Alone by Bruce Judson. You can read it here. It is basically a self-help book for would be entrepreneurs.

Apparently, Russian and Urkranian authors got in on the act earlier.

Anyway, I'd appreciate any comments you might have on this issue.

Friday, March 24, 2006

Global IP has the IP

IP telephony has arrived although it is hardly ubiquitous. Skype has the most hype but as most people know, Yahoo's messenger was not far behind. This week Yahoo announced a service that would allow you to call ordinary phones (just like Skype) at the same rate as Skype (2 cents per minute). Google, Microsoft and AOL are all to follow. This all suggests that this will be a highly competitive business and none of these firms will end up making any real money from it.

However, a footnote to the Yahoo! announcement was that it had selected Global IP Sound to imrpove its sound quality. Who are these people? Well, they also supply the same technology to Skype, AOL, Nortel among others. Maybe there is a winner here after all.

Looking at GIPS's stock price, and the news barely rated. So there is probably more here than meets the eye. Nonetheless, Global IP Sound is something to watch for.

PlayStation 3 to ship region free!

From Engadget comes news that the PlayStation 3 will ship region free. This is a very significant move as Sony has long been resisting such moves. It signals the game and DVD region coding may finally be coming to an end.

The interesting question is: why now? Region coding allows Sony to price discriminate. Of course, there are currently work arounds. For games, in Australia, it is legal to modify consoles to play games from any region. A few weeks back, a committee of the House of Representatives endorsed those opportunities even if they pose piracy risks (see my earlier post on this). Thus, Sony's move would shut this down along with piracy risks associated with current practices.

But the other side of the coin is that, when it comes down to it, the price differentials that Sony might want are not that much different from the shipping and transaction costs associated with international purchases of games. Thus, Sony can utilise price discrimination to some degree anyway. This move will constrain them but perhaps they were already constrained.

Anyhow, the news today aside, it will be interesting to see how this all really pans out once PlayStation 3 is launched.

Thursday, March 23, 2006

Storming the iTunes Music Store

France has passed a law that requires suppliers of content (most notably Apple's iTunes Music Store) to provide information that is essential for 'interoperability.' Currently, purchases from Apple will only play on iPods, PCs and, of course, Macs, but not on other MP3 players and systems. The intent of the law is to require Apple to provide a means of making their downloads playable on alternative systems.

I have noted before that, in an ideal world, this might not be a bad thing for Apple. It will only encourage more sales from its store and may not make such a difference for iPod sales (after all, most music on iPods does not come from Apple, it is from peoples' own music collections).

Of course, the world is not ideal. It seems reasonable to suppose that Apple's agreement with music publishers is contingent upon downloads being in their DRM format. Moreover, it is also likely that Apple would be contractually prevented from providing 'work arounds' as the French law would require. So what will happen?

There are several possibilities:

1. Apple exits France.

Notice that this won't happen immediately. Someone has to make a claim against Apple. They have to then demonstrate the 'interoperability' is possible but it is unclear whether this can be modified for piracy concerns.

Moreover, even if that is done, Apple could argue that its downloads are already interoperable. Why? You can burn a CD from iTunes in the original CD format. Then you can load it back to the computer in MP3 format; something playable on most systems.

2. Apple partially exits France

Apple could modify its iTunes Music Store in France to supply content that does not require DRM (e.g., podcasts and independent music publishing). This would leave it with a presence as well as sending on on-going message that French customers are being disadvantaged by the French government.

This is not usually Apple's style but then again, they did launch the Australian iTunes Store without Sony initially. Australians knew where the blame lay there.

3. Apple finds a way to provide interoperability.

If it is potentially in Apple's interest to open up the system, it could provide interoperability. Imagine what would happen if it found a way to do this that was proprietary. Then its music store would have a considerable advantage over others and it would retain its dominance there. Thus, there are big incentives to innovate on that dimensions.

So, in summary, given this, the immediate exit notion seems very unlikely to me. It also seems that this will not have long-lasting effects on innovation. It just sends a signal to the music industry: worry about DRM but also worry about providing competition. We want to find out if we can have our brioche and eat it too.

Patent trolls (continued)

It took a little while but others are getting in on the patent troll discussion. A few weeks back, in the light of the Blackberry/NTP settlement, I speculated whether patent trolls were receiving a bad rap. The argument likened them to middlemen who saved legitimate innovators time in securing intellectual property rights.

Now the New York Times and Wall Street Journal have gotten in on the act. The WSJ points to the general flaws in the patent system including the process of patent examination. Specifically, it points out that, in many respects, most universities are like patent trolls -- securing patents but not commercialising innovations. Indeed, in that respect, Universities are exactly like trolls in that they have fortunately gone and secured IP protection. In the past, their innovations might not have even been brought to that stage. And without that commercialisers would have no chance in securing IP before launching products (as the ideas would already have been deemed to have been invented).

Tuesday, March 21, 2006

Of Cylons and Television

I just came across a 2005 article by Mark Pesce on "How Battlestar Galactica Killed Broadcast TV." He speculates that downloaded television can embed advertisements in a more efficient way than broadcast television. A very interesting read.

All the more so for it is asserted that Australians are the most prolific downloaders of television in the world. That this is so is not that surprising; they have to endure the longest gaps between broadcast elsewhere and broadcast in Australia. In some cases, the lag is so long that the DVD is already released well before a show is broadcast (e.g., The West Wing and, dare I say it, Battlestar Galactica).

Pesce's second article on "The New Laws of Television" is also good.

Monday, March 20, 2006

Back inside the box: A significant anniversary

Next month is the 50th anniversary of a truely significant economic event. On the 26th April, 1956, a converted tanker was loaded with 58 modified, 35 foot truck containers and sailed from Newark (NJ) to Houston (TX). It was significant for two reasons. First, the containers had been filled and sealed inland, loaded on trucks and loaded onto the deck of the ship without being refilled. Second, the whole process involved a single contract.

Thus began the containerisation revolution. Malcolm McLean who bet his trucking fortune on this founded Sealand; the major cargo shipping company of the next 50 years.

I became interested in the container as an innovation about 15 years ago when sitting in class taught by Nathan Rosenberg (on the history of innovation). He commented on the widespread impact of containerisation but the fact that the innovation was simple; "just a box." I was sceptical that simplicity could lead to such revolution and set out to investigate.

The results of my investigation were published in 1995 in Prometheus. Here is a link to the paper. And the answer: well it wasn't so simple. There was alot to do to make containerisation profitable. Ships had to be redesigned (the first was introduced in Australia in 1964). Contracts had to be re-written. Ports need overhauling. Unions needed busting. Logistics and reinforced steel had to be invented. And finally, a tipping point had to be reached. So it wasn't "just a box" at all.

When I wrote my paper, not much had been written about the container. It took me a little time to attribute the whole innovation to Malcolm McLean. Next month a new history by Marc Levinson, The Box: How the Shipping Container Made the World Smaller and the World Economy Bigger, will be published by Princeton University Press. I can't wait.

Saturday, March 18, 2006

Under the cover

Having a hard time fending off people in the train when you are reading Core Economics for Managers? You know, all those people who want to know where you purchased it. Try this courtesy of Freakonomics.

My favourite is: "How to murder your Professor and get away with it"

Busy tooth fairies

In the last couple of days, I have spent considerable energy thinking about the tooth fairy. It is our own fault really. On Thursday, our daughter lost her sixth tooth. On Friday morning, she woke up to tell us that the tooth fairy hadn't come. And then trouble ensued.

My initial reaction to this sad news was to go up and check her 'tooth box' carrying money in my hand in a vain attempt to suggest that she had just missed it being bleary eyed in the morning. This plan was aborted when I opened the box to find, well, a tooth. Obviously, to take the tooth now would be a tad too obvious.

On to plan B; imaginative lying. We settled on, "obviously, lots of children must have lost teeth on Thursday and the tooth fairy is just one fairy and can do so much. She will be here tonight." Our daughter bought that and, indeed, when discussing the incident with a friend, it turned out the same thing had happened to him once. (We must remember to thank the parents!)

A colleague of mine recounted to me his 'imaginative lie' when faced with a similar dilemma. He said to his daughter (and I am not making this up), "Oh, I came into your room last night and saw a bright thing buzzing around that looked like a firefly and so I swatted it." It wasn't clear that that was to death or just away but his daughter was suitably (and understandably) horrified.

In that light, our lie is much more tame. However, that didn't stop another parent being horrified with me as I recounted the day's incident: "how could you just lie to your children?" Ahem, it is the 'tooth fairy' we are talking about here! I think I have a pretty much free license on that one.

To continue the story, we almost forgot again on Friday night, but got this just in time. We have so many more teeth to come amongst our three children, this is bound to be an on-going issue.

This led me to think about the whole tooth fairy thing. From an efficiency standpoint, it would be much better if a child could present a tooth to us and receive cash on the spot. No running around at midnight searching for coins. It also saves on other inefficiencies. This time around our daughter ended up with New Zealand currency (I had just returned from there and it was lying about). If she asks about it I'll embellish our original lie. "The Australia tooth fairy has been busy, as you know, and so probably asked the New Zealand one to come in and help out." As you can see, globalisation works out for the general good again.

How did we end up in our current situation? According to Wikipedia, the tooth fairy has origins in the United States around 1900. But it really appears to have taken off in Western cultures post-WWII. Suggestions allude to the value of myth and how children like story telling as a rationale for the tooth fairy. But that doesn't ring true.

When it comes down to it my daughter knows exactly where the money is coming from but is quite happy to 'play the tooth fairy game' if only for the benefit of her younger siblings. So there is no sense of wonderment there. Just the usual raw economic calculus.

My hypothesis is that the 'tooth fairy deal' persists because it is an excellent incentive device. When a child has a loose tooth, there is a possibility that it may not come up necessitating more drastic action. This might be a parental intervention (you know, the string and the door trick) or worse, an expensive trip to the dentist. What can stop this is if the child endures a little bit of pain and wiggles the loose tooth. To provide an incentive for this action, we offer some money for the tooth. Saving a $50 dentist bill for a dollar or two a pop seems like a good deal.

Indeed, we know of a child who was two days from going to the dentist who was offered (and it is not quite clear how this fits in with the tooth fairy lie) $20 if they could pop the tooth that day. Surprise, surprise that is just what happens. I pity those parents, however, on what will happen with the next tooth. The child will anticipate the dentist deal and wait until the last minute. Much better to hold the strict tooth fairy line.

This all leads me to think more about other economic issues associated with tooth fairies. What drives the price of a tooth? Does it drift with the rate of inflation or the cost of dentists? What about the mechanism for the exchange (tooth under pillow versus tooth in cup of water versus, our solution, tooth in special box)? All interesting questions that I'll need to return to at some point.

Friday, March 17, 2006

Incentives to bus

Here is an interesting report in Slate about Chilean incentives for bus drivers. As usual, there are costs and benefits to incentivising anyone.

Age: Fee change gets too much credit

The Age today published an opinion piece I wrote on credit cards. You saw it first here earlier in the week.

Wednesday, March 15, 2006

Apportioning credit on card reforms

An article in The Age today reports on a Conference on Payment Systems held at Melbourne Business School, yesterday. Here is a link to the conference site. From the article, one would get the impression that the Reserve Bank was under fire over those reforms with hard hitting criticism coming from all quarters.

I was there and spoke at the conference and that wasn't my impression at all. In 2003, Australia enacted a set of reforms to the credit card system that from a regulatory standpoint, were dramatic. Prohibitions on surcharges for credit card transactions were removed, access to card schemes opened up and, most critically, the interchange fee -- the fee that banks pay each other to settle card transactions -- was cut by one half. The last change was significant. Not only was this industry now subject to price regulation but a sharp change in a key price. Now central banks enact sharp changes all of the time in interest rates but for regulatory price setting (e.g., by the ACCC) this kind of thing is unheard of.

The article gives the impression that the predicted massive disruption to industry actually ensued. But that is hardly the case. Dramatic reform has appeared to add up to dramatic non-reaction. Without going into too much detail but according to the Reserve Bank's own figures, credit card usage (by value or number) has continued to grow at historic rates, credit card debt has grown along with it and the share of credit card use to EFTPOS use has remained roughly constant. Take a look at this graph:

This last point is significant as The Age article suggested that in fact EFTPOS was rising at the expense of credit cards. But this has only occurred in the last quarter; 3 years after the reforms. For all we know it is just a statistical blip.

The most that might be said for dramatic change is that it is still to come. Professor Jean-Charles Rochet (speaking at the conference and one of the most influential academics in this area) raised this possibility; especially considering the long-run effects on investment. What the reforms have potentially done is shifted profits from card issuers (who deal with cardholders) to card acquirers (who deal with merchants). In this case, issuers will have a reduced incentive to invest in the system while acquirers will have a greater incentive. Rochet's point is that we don't know if this is a good thing or not and so should have been more cautious about regulatory intervention.

In my opinion, there is less to be concerned about in the long-run than industry participants are making out. Specifically, the interchange fee is but one means that banks might use to share costs of mutually beneficial investments. They need not use this at all and simply agree to alternative funding arrangements. Moreover, these would not be built into the cost of each transaction and would be instead based on forecast profits and the like; just as normal businesses do everyday. That should not deter investment that would assist the credit card system.

It seems to me that the main risk comes from taking the regulatory interventions here too seriously. There are some many other alternatives that this one price just doesn't really matter. What matters is regulatory uncertainty. Everytime that price is changed, there are consequences and costs on market participants. So uncertainty about whether it is going to change or not will have a 'chilling' effect on activity and arriving at mutually beneficial arrangements. Some of this uncertainty comes from continuing RBA reviews. Other uncertainty comes from legal action lauched in relation to those reviews. It would be better if regulators and participants could regulate the interchange fee and just move on.

Indeed, for 20 years, the banks themselves practiced this. At the beginning of the establishment of the BankCard system, the banks set the interchange fee at a nice round number. They then didn't do anything more until the RBA and ACCC started sniffing around. The very rigidity tells me that the fee is not important as an instrument for changing circumstances; large scale change occurred anyway over this period. What we want to do is return to rigidity.

Tuesday, March 14, 2006

Opening up iTunes

France are considering opening up iTunes to other devices. At present iTunes downloads are in Apple's proprietary format. Originally this was important in securing appropriate digital rights management to effectively establish the legal downloads market. Nowadays that isn't an issue as other formats provide the same thing.

The problem is that iPods only play Apple's format or the open mp3 standard. They do not play standards that are supported, for instance, by Microsoft. Other players do this but cannot play using Apple's standard.

The French law will make it legal to utilise software to convert songs from one format to another. This would allow users to purchase songs from iTunes and play them on devices other than iPods or with programs other than iTunes. Thus, the link between Apple's dominant share of music purchases and players would be broken.

There are suggestions that Apple will shut down its iTunes store in France in response to this. It may have to if its agreements with copyright holders cannot be amended. But if it had a choice would this really harm Apple. After all, it would make the iTunes music store more attractive and there are plenty of substitutes for its iPod anyway.

Of course, the alternative to the French approach would be for Apple to open up iPod to alternative formats. This would allow consumers to purchase music from alternative sites. This would also likely make it easier for competition to trancend national boundaries -- something it isn't doing today (see this article for a discussion). From where I sit, that is where the big gains to competition lie.

Google Mars

How long before we can locate the nearest Starbucks? (Google Mars)

Deal or no deal

You just knew 'Deal or No Deal' was amenable for the study of rational economic decision-making. Here is a write-up and links to some new studies of the game show.

Here is a link to an on-line version of the game. Of course, it isn't really what happens as it seems to me there is a strategic player playing the role of the 'bank.' Their payoff function will take into account the observed risk profile of the contestant as well as maximising the watchability of the show. It would be interesting to think of what strategies that 'bank' might employ.

Toll was slow to put its cards on the ACCC's table

FYI, I have an opinion piece in The Age today on the Toll-Patrick merger. Essentially, what was posted here on Sunday.

Chickens and eggs

There are rumours today that the forthcoming media reforms will permit multi-channelling on digital television. However, there is said to be a condition: only after a sufficient number of households have bought digital set-top boxes.

Talk about getting your chickens and eggs mixed up! Surely, it is multi-channelling that will encourage consumers to adopt digital television. To require adoption first is a receipe for failure.

Sunday, March 12, 2006

The power of the distribution

Malcolm Gladwell has an article in The New Yorker (13-20 Feb, 2006) that provides some interesting examples of where distribution (and by distribution I mean statistical distribution and not wealth) matters for public policy. Public policy towards problems such as homelessness, police brutality and car pollution is usually formulated as if the problem is concentrated around the mean of the group in question (as it would if things were normally distributed). However, in these cases it appears not to be. A few of the homeless have chronic conditions that soak up all of the expenses (in some cases millions per person). A few police are responsible for almost all incidents of brutality. And car pollution is caused by a smaller number of older cars.

What this means is that policies targetting the mean are not likely to be as effective as policies targetting the few. The problem is that the policies to target the few invariably help or single out the few -- something regarded as unfair. It is a very usefully argued point.

Sadly, Gladwell's argument suffers from an issue of history. We can't be sure that current and past policies directed at the mean are or did in fact assist in solving the problem at the mean and so created the power distribution that we see today. That said, if we are thinking of pouring more money in, then the distribution today matters.

Real insurance

In the FT this week, Tim Harford writes about health insurance. He starts with the public case of a woman denied a new breast cancer treatment and the difficulties of trading-off problems in a public health care system. He then proposes that the best insurance for health concerns would be simply to give patients a check if they are diagnosed with an illness (according to some scale) and let them choose what treatment to spend it on.

Harford has a point: this would result in real insurance. To see this, notice that health insurance currently works to restore health but whether it be private or public treatment, patients have few options. For instance, a patient does not internalise the cost of the treatment at all. When a claim comes in they may as well take treatment because it is free to them. However, for all we know, a patient factoring in all of the risks (including that the treatment might not work), even if they had the money, would not choose it. If that is the case, there appears to be an inefficiency. When we are talking about expenditures in the 100s of thousands, this inefficiency is hardly trivial.

Harford's solution breaks through this by giving the patient the money instead of the treatment. At the very least, they will spend that money on the treatment. But they could do something else. They might choose not to spend it (telling us that is probably the efficient thing) or they might put the money towards a more expensive treatment that is currently denied them by their insurance provider. Again, a more efficient outcome has occured because the patient has signaled their willingness to pay for the additional cost.

While theoretically sound as a base idea, as usual practical issues abound as always happen when you give people money they might look for ways to get their hands on it (other than being truely ill). But, nonetheless, it is certainly worthy of closer examination.

A Toll on the Merger System

On Saturday, the ACCC ended its upcoming legal battle with Toll by accepting its merger proposal and undertakings. Actually, that is probably the wrong way to put it. Let me try again. A week or so ago, Toll ended its upcoming legal battle with the ACCC but putting forward undertakings that assured consumers would be protected if it acquired Patrick.

The way we view the problem here is important. On the one hand, some businesses may argue that the months of negotiations, legal proceedings and delay are a system of a merger system that takes too long and isn’t working. If they were going to agree to the merger, the ACCC surely could have done so sooner.

But that isn’t what happened. What happened was that Toll put forward a merger proposal that was going to harm consumers. For instance, the merger would give it (almost) full control over East-West rail freight and likely stifle potential for competition to emerge there by giving it a healthy chunk of the freight forwarding business too. For months, it proposed undertakings. Each one was a promise not to discriminate and favour its own businesses but each one did not get at the core of the problem: its control over key physical assets going forward.

Finally, with legal action impending, Toll put forward a structural change. It would not acquire Patrick’s share at all but divest it to a third party – outside of the industry. No more horizontal issue (there would be no increase in concentration) and no vertical one (the new owner would not be a freight forwarder). At last, the ACCC had a merger proposal that offered real insurance: consumers would have a chance of competition going forward rather than it being foreclosed.

The end point illustrates how the system is supposed to work. Firms come to the ACCC with merger suggestions but will only approve those ones that do not harm consumers. The remainder benefits the businesses involved and should be permitted.

But sometimes, there are benefits to the business and harm to consumers. In these cases, the ACCC raises concerns and ultimately business, using imagination that only industry insiders possess, come up with changes to the proposal – divestitures or restrictions on behaviour – that might cost them some profits but still leave enough left over to make the whole deal worthwhile. This is where we ended up with Toll.

But business is right. It shouldn’t have taken this long. Three months ago, the concerns of the ACCC were clear. And three months ago, the path to allay those concerns was obvious. But it took most of that time for Toll to put an acceptable proposal forward. That is where the fault, the delay and the market uncertainty all lie.

Toll will be paying the ACCC’s legal costs. Just as well. The costs caused by their own delay shouldn’t be borne by tax payers.

[DISCLOSURE: I assisted the ACCC in its economic analysis of the Toll-Patrick proposal. The views expressed here, however, are solely my own and should not be construed as representing those of the ACCC.]

[BACKGROUND: I wrote an article advocating the ACCC (and the Courts) judging mergers in the interests of consumers. It was published in the Competition and Consumer Law Journal last month. An op ed piece in The Age last year summarised the argument.]

Getting clearer everyday

The ABC Network in the US was the first to offer programming via iTunes (including Lost and Desperate Housewives). That gave viewers a choice of paying for an ad-free version as opposed to programming VCRs or DVRs to achieve the same thing. It also allowed viewers who had missed past episodes to catch up. So there was a mixture of potential convenience and freedom from ads that may have driven purchases.

Now, ABC is going to offer streaming of its shows with ads but for frees. It will literally broadcast them over the Internet. As usual, what the quality of these is will be an issue but it will certainly make the iTunes versus ABC download choice clear -- ads or no ads. And the price to be free of ads -- $1.99. In the case of daily shows, such as The Daily Show with John Stewart it is less, aout 62 cents an episode (saving 9 minutes of ads in a 30 minute slot).

Here is an interesting Slate article about whether ads versus pay will dominate. It reaches no conclusions but states lots of fears that consumers will be worse off. I am not so sure and am working on this problem. I am haven't cracked it yet but one thing is for sure: don't expect to be paying for shows that are low quality. For those, the only way people will watch them is if they are free and the only way broadcasters might make money is by peppering them with ads.

Expect more updates on that research in the future.

Friday, March 10, 2006

TV regulation is bad regardless of 'threats'

Today, Pay-TV operators lobbied for changes in broadcasting rules in response to the threat from the Internet. In particular, they were concerned about anti-siphoning lists that prevented Pay-TV operators from television sports events. The example of only 3 live events shown in teh recent Winter Olympics is a case in point.

But it is hard to see what this has to do with the Internet. The Internet may attract attention and also compete with television but restrictions that protect free-to-air TV have little to do with that. Instead, it is those restrictions that are the problem. Put simply, those laws give broadcast TV operators veto power. They could television a few hours of Olympics a night and block Pay-TV from televising the rest. Moreover, on-line options such as Google TV were not available to Australian viewers. So much for the threat from the Internet.

So forget basing arguments on potential threats, the argument resonates now: restrictions that give broadcast TV a leg up are not a good idea and have real costs if abused. If programming is not available as a result of them, then those rules are hardly working to provide free options for consumers.

Of course, another possibility would be for Pay-TV operators to offer free channels themselves. They could install boxes for free across Australia and then become a new free broadcasting choice. I guess, however, that the investment costs for that would be prohibitive. But if they are really threatened perhaps it is worth considering.

Google saves Dilbert

Here is a great story of Google overcoming the costs associated with excessive specialisation in medical practice.

I have had similar experiences; mostly trying to work out how serious a child's symptoms are. Not wanting to constantly run over to the GP everytime one of them has a fever, I usually google "fever" and "other random symptom." It sometimes gives additional symptoms to look for. In one of these many years ago, the additional symptom was large changes in appetite. My daughter had combined her fever with a massive display of eating (half a rockmelon). However, I don't think an upwards change was what they had in mind. Anyhow, I decided not to worry and things worked out without taxing the health care system.

I wonder if the 'google effect' will show up in the data one day?

Wednesday, March 08, 2006

Urban commuting

The discussion over the last week in Melbourne is part of a broader set of issues to do with urban economics. That field has been revitalised in the past decade and a half due mainly to the efforts of Ed Glaeser. The New York Times has a write-up on him this week: "Home Economics - New York Times"

I had the pleasure of interacting with Glaeser on the Prime Minister's Home Ownership Taskforce back in 2003. And for that brief period of time he thought a little about Australian cities.

That NYT article is interesting for its discussion of the benefits and costs of commuting. Worth the read.

Tuesday, March 07, 2006

Patent does not equal market power (for tying)

The US Supreme Court delivered its judgment in Illinois Tool Works, Inc v. Independent Ink, Inc. That case was over a tying matter in industrial ink printers but ended up in the Supreme Court over the presumption that having a patent equated to a finding of market power (in this case, for Illinois Tool Works).

The Supreme Court decided that for tying cases, this presumption no longer holds and the plaintiff will have to prove market power. Shouldn't be too difficult in this one where the plaintiff has a 90% market share with lots of entry barriers.

More free riding

Building on my post on the weekend, I have an op ed in today's Age, "Road-use charge would force more to public transport." It anticipates many of the comments on that blog post.

Monday, March 06, 2006

Trade yourself

Today, Fairfax bought the New Zealand internet auction site, Trade Me, for A$625 million. That is about $150 per New Zealander! This seemed to me a staggering sum for a site that competes directly with eBay.

I hadn't heard of Trade Me before but I visited today to see what the fuss was about. I did a search (as I am want to do) for "lego star wars" and found 60 plus entries. If I went to, there are none. So there is such a thing as network effects when it comes to Internet auctions.

Actually, the NZ eBay site is interesting for it uses a yellow motif and cartoon kiwis that give it a look and a feel similar to Trade Me but very different from other eBay sites around the world. The question I have is this: why didn't eBay want to pay as much as Fairfax for Trade Me?

Exam questions

My MBA class just had their Mid-Term test. One question (click here) was based on the blog entry, "Oh Honestly!" (posted 14th February, 2006). It was the only entry where someone asked: "will this be on the exam?" I answered "yes" about 10 days ago after I had written the test. I can't guarantee I will always do that but thanks to the anonymous student in provoking me to think of a test question.

Competition amongst real estate agents

This weekend say another Freakonomics column in the New York Times. This one was about real estate agents in the United States and how competition limits their returns. In the US, real estates earn a fixed commission of between 5-6% in total with half going to the buyer's and half to the seller's agent. The commission doesn't vary but during real estate booms the number of estate agents does. So real estate agents don't actually end up earning more when business is supposedly good.

My experience here in Australia (we have sold two houses and bought three) is that agents' commissions are negotiable. During boom times, the commissions fell to below 2% and you are also able to negotiate more novel commissions to ensure that agents push for the marginal dollar. Moreover, we also save on not having to have a buyer's agent. This gives me pause as to what those agents do in the US!

So here is a situation where we seem to have a far better system. Competition works on price rather than on entry and we only have one agent per sale we have to deal with. That also means that there will be less incentive for real estate agent alternatives -- such as those described in the Freakonomics column -- to crop up here in the near future.

Sunday, March 05, 2006

Free riding

Today's Sunday Age has a front page story exploring a 'radical idea' for public transport: make it free. They argue that for $340m in lost revenue per year 25 to 30% more people would use public transport saving road congestion and obviating the need for more stronger measures to eliminate traffic from the CBD.

In our book, Finishing the Job (2004), Stephen King and I argued for a similar plan; although we went further. We believed that you could fund all of this by putting 'Citilink' style tolls on all roads, using congestion pricing and then taking that revenue to fund free public transport. Actually, we figured that if e-Tags could be used to charge cards why couldn't they be used to credit public transport users. So get on a tram, swip your card and you get a credit. The result would be a technological means of pricing the externalities, better incentives and an improved environment.

So we don't think The Age idea is all that radical but blindingly sensible. The real mystery is why so-called environmentally conscious governments do not consider them.

Saturday, March 04, 2006

Defending the troll

Today brings news that the 'Blackberry' case has been settled. This appears to be the end for the long running dispute between Blackberry's owners, RIM, and the owners, NTP, of key patents that RIM appear to infringe. The case brought interest in the idea that a valuable service may have been shut down in the interests of 'protecting the intellectual property system.' But it was also of interest in that to outsiders, NTP appeared to do very little innovation -- they patented an idea early -- while RIM sorted out all of the technical issues while themselves coming up with the idea. Their only crime: they came up with it late.

NTP is described as a 'patent troll.' Wikipedia define a patent troll as: "an individual or company with a patent portfolio containing important, fundamental software patents that it never intended to commercialize. " In order to become a troll, therefore, you do have to come up with various ideas and form them sufficiently to receive a patent (including incurring reasonable costs in that process). Then essentially you speculate on someone who has more technical skills coming up with a similar idea, working out the technical kinks, and then being forced to license the patent from you. Alternatively, innovators might realise a patent exists and pre-license it. Either way, the troll makes money from license fees.

In this light, patent trolls appear to be the worst kind of intermediary. They control key assets and hijack an otherwise working innovation process; denying profits to those who really do the work.

But this description should at least give us pause for a moment: this is the usual attack on any intermediary. Intermediaries have had a bad name historically precisely because they profit where people perceive they create no value. But, in reality, it is often the case that they are providing value. Usually, they are collectors of information, they are firms that match buyers and sellers more efficiently and they face competition which would eliminate their profits should they really provide no value.

So what of the patent troll. I am going to speculate here on where their value might be. (But let me emphasise this is speculation and there may be reasons they deserve our scorn as artifacts of broken property rights system).

Here is the argument. Getting a patent is costly. For many smaller firms they face real issues as to whether they should proceed with an innovation and develop it given that they might not be able to secure a patent. To do so would mean they would have to wait up to five years to find out. This might be sad when they have competencies to technically develop a product that is based on an idea that is more obvious.

Here is where the patent troll may provide a valuable function. Without regard to technical details, it speculates and applies for many patents. Most of these are not valuable but some are ones that others may wish to develop. Even with competitive pressure, when it licenses those patents, it must generate a fee that covers the costs of the non-valuable ones as well. So it may seem like their fee demands are high for a given patent but not so given that they have saved the would-be developer five years of waiting and permit development without the fear of potential weak property rights.

In summary, patent trolls are speculators. They buy IP and may speed up the development process overall by reducing innovator risk. Of course, if the wait to resolve patent application uncertainty doesn't really constrain the innovation process, then patent trolls are just that, opportunistic trolls.

Friday, March 03, 2006

It is all in your mind

Forbes this week contains an interesting article on the new field of neuroeconomics. Neuroeconomics involves economists using MRI scanners and the like to work out what 'utility' is really all about. Here is one example:
Traditional economics predicts that people should use money to acquire things that might make them happy. Money--in and of itself--shouldn't make people happy. But Knutson found more primal forces at work. Offers of cash caused a surge of dopamine in a tiny piece of neural machinery called the nucleus accumbens--a structure as ancient as backbones that plays a key role in addiction. The surge wasn't caused by a wad of cash already in people's back pockets, but instead by the opportunity to make some easy money.

The article also reports examples on trust and on decision-making under uncertainty. Not that anyone should through away the textbooks yet but it is an interesting line of research.

On my wish list would be an examination of what causes people to reject take-it-or-leave-it offers that would leave them with less than should they accept them. This might give us an insight into the drivers of 'fairness.'

(Thanks to MBS alumni, Joe Yap, for this reference)

Thursday, March 02, 2006

Freedom to the Regions!

The House of Representatives Standing Committee on Legal and Constitutional Affairs today released its report on the Review of Technological Protection Measures Exceptions. This was a review of the access controls some copyright owners place on copyrighted materials in light of the Australia-USA Free Trade Agreement.

The significant finding was that region coding be not supported. From the press release:
"The Committee was not persuaded that region coding is essential for piracy prevention or that it is a genuine copyright protection,” Mr Slipper said. “Nor is the Committee interested in further inhibiting the ability of people to enjoy lawfully acquired copyright material.” “The Committee has therefore concluded that the unauthorised circumvention of region coding TPMs should not attract liability under the new scheme."

This is great news. I have always thought that region-coding of DVDs and computer games was taking copyright too far and allowing forms of price discrimination unrelated to efficiencies and competition. Here is a link to a paper by Emily Dunt, Stephen King and I on DVDs. Here also is a link to my submission to the review.

Crossing the Media

This week's New Matilda contains an article I wrote on potential changes to cross media ownership and what this might mean for media bias. I argue that while there may be a biased media, allowing cross media ownership is unlikely to change that one way or the other. To reduce bias, it is much more important to have diversity within a media channel than across them.

You can access the article (without my picture), here.