Saturday, October 25, 2014

The Return Home

I have vanished for a while but now I'm back to offer a few thoughts.

1.  The Ebola case in NYC offers an interesting test of self protection theory.  When the sick doctor checked into Bellevue there was a sudden surge in Bellevue Staff taking sick days.   Coincidence?

2.  While my Hebrew is a bit rusty, I must admit that I like this interview which I served up in early July 2014 in Tel Aviv.

3.  The Riviera Golf Club is very nice.  I wonder if they would accept my family as new members?

4.  I return to the University of Chicago this Thursday.  I've been away for 10 months now and I'm looking forward to seeing how the Econ Department is rebuilding its faculty.  I've been told that there are many empty offices in their new building.

5.  I return to USC this Monday afternoon to see some old friends.

Friday, October 17, 2014

Incorporating Adaptation Into CGE Climate Change Impact Modeling

Simon Dietz and Nicholas Stern have a new paper celebrating the Nordhaus Model for measuring the cost of climate change.  I would like to discuss their equation (4) on page 10 of the paper.

Environmental economists who do CGE modeling continue to introduce a damage parameter such that the damage to the capital stock is a deterministic function of a polynomial of global average temperature.

As shown in the author's equation (2), the capital stock of an economy next period can be written as:

K_t+1 =   (1-Damage)*(1-Depreciation)*K_t  +  Investment_t

Intuitively, if you own a valuable asset at time t, this asset will depreciate a little over the course of the year and due to climate change it will suffer some damage and so your asset position at the start of the next year reflects this negative adjustment of your original asset position (that it suffers depreciation and climate damage) and then you can offset this by investing more in the asset.

Norhaus and Dietz and Stern write out the Damage function = f(Temperature).

This deterministic f() and time invariant function is written at a point in time as:

Damage_t = 1 - 1/(1+ b1*Temperature + b2*temperature*temperature)

What I don't like about this approach is the lack of serious discussion that b1 and b2 converge to zero over time.   The whole adaptation micro-foundational approach as discussed in my Climatopolis book and in the work of economists such as Richard Tol and by Desmet and Rossi-Hansberg is that the economy reorganizes itself in anticipation of climate change so that that b1 and b2 converge to zero.  This reorganization is not costless but it is taking place and it isn't modeled in this mechanical and deterministic set of equations.

The point of Greenstone et. al. is that over the 20th century in the U.S that b1 and b2 have converged to zero for urban activity.  Given that the vast bulk of U.S GNP is based on urban activity this highlights how the temperature impact on our economy has shrunk over time.

This research approach violates the Lucas Critique as reduced form parameters are treated as structural parameters.  A more rigorous and scientific research program would be to explicitly link b1 and b2 to real investments in the economy and to the spatial organization of economic activity.  Such investments occur under uncertainty but under the expectation that we have incentives to reorganize economic activity.

The existing Nordhaus model  appears to ignore the rational expectations hypothesis. The agents in the model should be able to solve out for the expected future damage costs because they know the posited damage function of how temperature maps into damage to capital and they know how GDP growth maps into temperature growth.  Anticipating future damage to the capital stock under the status quo policy should nudge forward looking investors to seek out investments that are less risk and in my spatial setting are on "higher ground".

Intuitively, if you expect to face a 30% tax in 10 years on capital (because of Mother Nature not the IRS),  if you continue to invest in the same old assets (i.e. coastal housing) that you have always invested in --- then you have strong incentives to seek out less risky assets to invest in.  In my model, investors can substitute away from capital along the coast and now seek out projects on "higher ground".    The introduction of cities into these models would completely change the damage equation presented above and highlights that it is not a structural relationship and thus any predictions based on such a equation are likely to be of low value.  Instead, today's damage function is highly likely to be an upper-bound on future damage because of the constant re-organization of the economy to reduce the impact of temperature on our quality of life.

Thursday, October 16, 2014

A Merger Between Hollywood and Silicon Valley?

In the NY Times Style Section, there is an interesting article about the shifting balance of power within California.   The Hollywood Moguls traveled to Silicon Valley because they know that the real $ is there.  What are the gains to trade between Hollywood and Silicon Valley?

The Cliche is that Silicon Valley needs content for its platforms while Hollywood wants $.   One can imagine a future where there is no work/leisure divide.  People walk around with a headset on and can access the entire Internet and stream any movie or any show at any time.  Given that many people have ADD, it will interest me who has the self control to actually do any work? Global productivity may plummet as people just watch House of Cards all day long as sit at a Starbucks drinking a coffee.

How will people pay for this 24 hour a day/7 day a week constant Internet access? Will there be Internet congestion pricing? Will Smart Phones, Search Engines, TVs, video games, and Movies and personal computers and tablets all merge into one product? I think the answer is "yes".   There will be content suppliers and there will be content delivery.   We will reallocate our time such that we work less and we simply sit around and have fun.

An issue that has arisen in the "old economy" is that whomever controls the distribution network gets rich.  Think of coal mining firms needing the railroads to deliver the coal to the big city.   For some evidence from environmental economics, take a look at this paper.

Wednesday, October 15, 2014

Why Does Santa Monica Airport Continue to Exist?

The beach community of Santa Monica has a small airport where rich guys land their private planes.  All airports take up a lot of room and this one may be 230 acres of land within 3 miles of the beach.  More facts about the airport are here.   Is this an efficient allocation of scarce resources?

I would guess that if this land were sold to real estate developers on 1/4 acre plots that these 1000 new homes would sell for $1.5 million each.   So, at 1% property tax the city of Santa Monica could collect an annual flow of $15 million dollars a year from these new home owners.  In addition, the city would collect a one time payment of maybe $750 million dollars by privatizing the land.   That would give some Bobby Shriver a lot of $ to play with and it would increase demand for local schools, cops and fire protection creating new jobs for the city and more vitality in a rundown part of Santa Monica (because of the noise from the airport).

Now I must admit that I have a personal stake in this debate.  Planes fly over my Little Holmby home as they prepare to land at that airport. I want these annoying private planes to go away.

Monday, October 13, 2014

Optimism about Reduced Deaths from Cyclones in Growing LDCs

The NY Times reports that a major cyclone hit India and as of now reports that 2 people died.  Here is a direct quote from the article's  final paragraph:

"More than 10,000 people were killed 15 years ago when a cyclone hit roughly the same area, but in the intervening time, physical infrastructure and communication lines have improved significantly in the country, aiding evacuation efforts."

This simple example highlights how economic development and the rise of the Internet protects us from natural disaster risk.   Free markets aid adaptation. That was the theme of my 2005 Death Toll from Natural Disasters RESTAT paper and my 2010 Climatopolis book.   

Saturday, October 11, 2014

An Optimistic Ecologist

I wonder if Paul Ehrlich will read Ruth Defries' new book titled The Big Ratchet.  In today's WSJ, she expresses a fair bit of optimism about human's ability to adapt to new challenges.   Here is a WSJ review where she embraces the induced innovation hypothesis.

Here is a direct quote from he book:

"We can’t predict the future, but we can predict that solving our most pressing ecological and economic problems will be an endless, meandering process, guided by human ingenuity."

This sounds a fair bit like the logic of my Climatpolis book but I doubt she will be exposed to the same anger that people expressed about my book.

I must admit that I find her worldview to be refreshing as it represents a counter to much doom and gloom.  Look at her Google Scholar page, she is a highly cited ecological researcher who has some understanding about how humans interact with the natural environment.  

Friday, October 10, 2014

The NY Times Wonders Why Beijing Intellectuals Tend to Oppose the Hong Kong Protests

The NY Times has written a long article that implicitly expresses its surprise that intellectuals in Beijing have not endorsed the protests in Hong Kong.  The NY Times hints that the Beijing residents are "brainwashed" and do not know that Western democracy would be good for them.   Several Beijing workers (who have studied at U.S Ivy League schools) counter that Hong Kong residents are elitist snobs who think that the mainland is uncouth and uncivilized.  A few quotes:

"BEIJING — The pro-democracy demonstrations in Hong Kong would seem to have universal appeal — a David and Goliath tale starring young idealists, polite and considerate in their defiance, standing up to a mighty authoritarian government with a history of mercilessly crushing dissent.

But here on the streets of China’s capital, where the ruling Communist Party’s heavy hand is most keenly felt, it can be hard to find people who openly support the demonstrators and their demands, and not just because censors and Chinese security agents have been muffling the voices of protest supporters.

On social media and over shared meals at restaurants, many young professionals express suspicion and even hostility toward the students and the Occupy Central protest movement. They accuse the students of selfishly blocking roads and disrupting the lives of ordinary residents; others, parroting government propaganda, blame Western governments for orchestrating one of the most high-profile challenges to Beijing’s authority in years."

The article goes on;

"Instead, many mainland Chinese in their 20s and 30s are stridently nationalistic and accepting of a government narrative that presents the Communist Party as the only entity capable of protecting an unwieldy country of 1.3 billion from the social chaos and foreign hostility that looms just beyond the horizon.

Zhu Yan, 25, a software company project manager who studied at the Massachusetts Institute of Technology, said he saw nothing wrong with Beijing’s insistence that party leaders have the final say over the candidates for Hong Kong’s leader, a main grievance of the protesters. “That’s how the government can look out for everyone’s interests,” he said.

For liberal-minded Chinese who support political reform, the roiling debate over the so-called Umbrella Revolution has exposed buried fault lines and tested relationships."

The NY Times Mocks Gwyneth Paltrow

President Obama is in my part of Los Angeles looking for $ and connecting with old friends.   The NY Times reports that he spoke at a fundraiser at Ms. Paltrow's home.  Here are some direct quotes from the article:

 Gwyneth Paltrow struggled to hold herself back as she stood next to President Obama on Thursday evening in her own Brentwood backyard.

She rambled on about why she considers herself his biggest supporter, including his endorsement of equal pay for women, which the millionaire movie star said was “very important to me as a working mother.”

Then came what was apparently on her mind all along. “You’re so handsome that I can’t speak properly,” she said before handing the microphone over to Mr. Obama.

Ms. Paltrow’s home appeared like something created by Restoration Hardware on a multimillion-dollar budget. The brick exterior is painted gray, and there is a gravel driveway, an outdoor fireplace and a small fountain in the backyard.

As the actress spoke, waiters wearing all black stood behind the crowd holding hors d’oeuvres. Many guests held glasses of wine or cocktails as they listened.

“It would be wonderful if we are able to give this man all the power he needs to accomplish the things he needs to,” Ms. Paltrow said.

After handing the microphone to the president, she sat down next to her two children — Moses and Apple — to listen.


While I agree that this is funny, the NY Times is trying to establish its De Blasio street cred that it has not been captured by the 1%.  Instead, (it appears) the Times is a feisty independent institution that speaks it mind and speaks "truth to power".  Funny.

Tuesday, October 07, 2014

Manufacturing Productivity Loss in LDCs Caused by Summer Heat: Don't Forget Human Capital Theory

This paper examines how productivity in Indian manufacturing firms is affected by outdoor temperature.   As reported in Table 1, controlling for many fixed effects a plant's output falls by 6% when the outdoor temperature is over 25 degrees Celsius as compared to what the plant's output is predicted to have been had it been less than 20 degrees Celsius outside.   The authors seek to contribute to the recent "temperature economics" literature studying how our productivity is affected by heat.  A growing agricultural literature examines  this topic.

But again, as an optimist look at Singapore and Hong Kong; rich and hot.  Air conditioning mediates the relationship these guys are exploring.

In their paper, I see no discussion of human capital theory and the work of Gary Becker and Sherwin Rosen.  Permit me to explain how ideas of general human capital, firm specific human capital and theory of compensating differentials affects the reduced form parameters the authors estimate.

Contrast the Indian manufacturing firms with Mark Zuckerberg's Facebook.  Why does the Zuck provide air conditioning for his workers?   He is aware that in order to attract and retain skilled workers that he must offer comfortable work conditions.   Air conditioning is a cost effective investment for the Zuck. He faces a competitive labor market for the skilled and he would have to pay much higher wages (combat pay) if the job were really uncomfortable.

The words "human capital" or "education" do not appear in this India paper.  Suppose that India's manufacturing workers are increasingly well educated and skilled and they have firm specific skills.  The firm would have profit incentives to introduce air conditioning just like Zuckerberg.  What I think is going on is that India has a low skill manufacturing sector and abundant labor and this bids down labor and firms do not need to offer higher amenities to workers because there are always other workers to hire.  Workers can defend themselves either by unionizing or by investing in their skills so that the firms will value retaining such workers. If these trends occur, then the correlation the authors estimate between heat and manufacturing output  loss will vanish.

The profit seeking manufacturing plant will compare its profits with and without air conditioning. It will be more likely to adopt air conditioning if it has to pay higher wages without air conditioning or if it is less likely to retain trained workers without AC.  As India's workers' education rises, more firms will adopt AC and the correlation will vanish.  This is free market adaptation.

Monday, October 06, 2014

Ebola in Sprawled vs. Compact Cities

Skim this article about the city of Makeni in Sierra Leone and you will start thinking about the negative consequences of urban population density as Ebola spreads.   I realize that this city faces the double whammy of poverty and population density but suppose that Ebola started to spread in U.S cities.  Would sprawled "car" cities (think of Houston and Las Vegas) face less contagion than high density public transit cities such as Boston and New York City?   In spread out cities, people spend more time in private spaces such as private cars, private buildings and private homes while in dense cities people are exposed to more random people at restaurants, public transit, cultural center and on the streets.  While we are supposed to celebrate this serendipity of random beneficial encounters could "privatization" and sprawl be a type of self protection technology as we create private "moats" for our families?

An activist seeking to get President Obama to work hard on this problem would worry about the lulling effect that if suburban Houston residents think they are immune to this disease then they won't devote much thought, or effort to support aggressive legislation to fend off this plague.   Are we all "in this together" or do our different lifestyles provide a subset of people with safety as they live and work on "higher ground" in low density suburbs?

Saturday, October 04, 2014

Can Walkers and Bikers Share NYC's Central Park?

Many progressive thinkers celebrate public space (such as Manhattan's Central Park) as an example of public goods that can be shared by large numbers of people.  Such outdoor leisure leads to new friendships and serendipitous meetings of strangers in the big city.  Others (perhaps Don Trump) prefer private spaces that erect barriers to entry and limit who can enter and what they can do in the space. Think of private clubs in Manhattan or suburban country clubs or private backyards in Los Angeles.

A high profile pedestrian death (as she was hit by a high speed biker) has people asking questions about how we share common space in a world where the cops are not always around to enforce laws.
When people have diverse tastes, must we Tiebout sort into homogeneous sub-communities or can we all "just get along"?  What rules would encourage a gracious sharing of public common space?

Today , the NY Times published a few letters about this issue and one has a  University of Chicago feel to it.

In the first letter, Gail Long sketches the problem and then Bruce Ellerstein sounds a lot like Sam Peltzman at the University of Chicago.   I like the way he thinks.    Lulling a person into feeling safe encourages risk taking.  Mr. Ellerstein wants to scare the bikers (who will fear being hit by a car) into slowing down and this will protect pedestrians.  Peltzman wrote a paper on this general point over 40 years ago.

To the Editor:

I walk in Central Park several times a week and am constantly intimidated when trying to cross with the light at crosswalks. It is very rare to see anyone on a bike stop for the light (also true on the city streets). So what is a pedestrian to do?

Many of us take our chances and cross when we see a break in the bike traffic rather than wait until enough considerate and law-abiding folks on bikes stop for the light — a near impossibility.

New York, Sept. 29, 2014

To the Editor:

It may run counter to conventional wisdom, but perhaps the way to slow cyclists and get pedestrians to pay closer attention in Central Park would be to increase the amount of time cars may also use the drives.

Not having cars seems to create a false sense of security among the park’s many users. Extending the hours the Central Park roadways are open to motor vehicle traffic would have the added benefit of reducing congestion in adjacent neighborhoods.

New York, Sept. 29, 2014

Friday, October 03, 2014

Ranking the Graduate Ph.D Econ Class of 1993

I  finished my Ph.D. in 1993. I was a member of a talented graduating class coming out of the University of Chicago.   The UChicago graduate placement committee seemed to believe in the invisible hand with respect to the market for new Ph.D. economists (i.e. they weren't working that hard to place us).  I wonder if I was ranked in the top 8 of my graduating class of roughly 25 who went on the market that year.   One Nobel Laureate advised me to delay going on the market.  My thesis adviser wondered what I was actually writing my thesis on. That was not a great launch.  But, flash forward to October 2014 and This IDEAS ranking claims that I'm #8 across the world's cohort of economists from my graduation year.   That's intellectual growth and progress.


1John Michael van Reenen
2Florencio Lopez-de-Silanes
3Charles I. Jones
4James Alan Robinson
5Serena Ng
6Thomas Piketty
7Yacine Ait-Sahalia
8Matthew Edwin Kahn
9Casey Mulligan
10Mike Wright
Business School, University of Nottingham, Nottingham, United Kingdom

Wednesday, October 01, 2014

How Many UChicago Economists Can You Name in this Photo?

The photo below was taken at a University of Chicago Econ softball game back in 1991.  You should recognize two Nobel Laureates and a likely future laureate (not me).  If you look carefully, you will also see faculty members of the University of Chicago, University of Minnesota, Brandeis University and to the right you will see a tall dude with a full head of hair standing with crossed legs in a strange sweater.  That guy works at UCLA.  

Sunday, September 28, 2014

Dr. Krugman Calls Chicago Economists "Outliers"

I'm not sure why the NY Times requested a review of Jeff Madrick's new book but Dr. Krugman wrote an interesting review.   Mr. Madrick charges mainstream economists with damaging America.   That's a tough thing to say about  a group of Ph.D. doctors.  Didn't we take the Hippocratic Oath?  Dr. Krugman names Chicago names in his piece calling out Cochrane, Fama and Mulligan.  What is going on here?

Here is a direct quote from Amazon with the publisher praising Mr. Madrick's work:

"A bold indictment of some of our most accepted mainstream economic theories—why they’re wrong, and how they’ve been harming America and the world. Budget deficits are bad. A strong dollar is good. Controlling inflation is paramount. Pay reflects greater worker skills. A deregulated free market is fair and effective. Theories like these have become mantras among American economists both liberal and conservative over recent decades. Validated originally by patron saints like Milton Friedman, they’ve assumed the status of self-evident truths across much of the mainstream. Jeff Madrick, former columnist for The New York Times and Harper’s, argues compellingly that a reconsideration is long overdue."


As I understand University of Chicago economics in the year 2014, there are four main key ingredients;

1.  People respond to incentives
2.  People are forward looking
3.  People differ with respect to their skills and ambitions and life goals
4.  People use markets to sell and buy goods to help them achieve their life goals
5.  Government is not an omniscient benevolent planner.  Instead, different actors in government have their own private agendas, resource constraints and private information about whether they are "doing their job".

From these 5 building blocks, the job of economists is to devise a set of rules to achieve a pareto optimal allocation of resources.  Without having read  Madrick's book, I have a feeling that he has a very strong taste for equality and would be willing to sacrifice much U.S economic growth in return for a more equal income distribution.

If he favors a much higher minimum wage and barriers to free trade to keep Chinese exports out of the U.S, does he have a favorite economic model for predicting the long run effects on this nation?  At the end of the day, there are many micro economic parameters that need to be known to answer the question of what is the shape of the equity/efficiency "frontier".   The new group of Chicago economists are quite honest about the need to highlight these parameters and to estimate them.

Put simply, if Hilary Clinton in 2016 pursues a "middle class" agenda that features sharp taxes on the rich, limiting free trade to protect U.S manufacturing jobs, a higher minimum wage and an expansion of public works;  will the U.S be a stronger nation in 20 years time?   I think it would be a productive discussion for macro economists to be honest about what structural parameters do they know and not know because this would highlight why this is a very hard question to answer.

Hong Kong Protesters Offer Evidence Supporting the Rational Adaptation Hypothesis

The New York Times is angry that its reporters have been banished from China and that people in China cannot access the NY Times website.  Fortunately, the NY Post can fill this void (I am kidding).  In today's NY Times there is a long piece about the Hong Kong democracy protesters. The following quote is interesting:

"Many in the crowd — fearing that the police would use pepper spray, as they had on Friday night and Saturday morning — unfurled umbrellas, donned plastic raincoats and gauze masks, and put plastic wrap over their eyes. "
This is rational adaptation in the face of an anticipated threat.  This simple example generalizes and explains how urbanites will adapt to climate change.  We are not behavioral idiots.

Saturday, September 27, 2014

My Piece in the London Guardian

Back in 1986, I was a student at the LSE.  Each day I read the Guardian and the Telegraph newspapers and learned an early lesson in media slant.  The correlation between the news and headlines on these respective left and right wing newspapers was about .1.   Today, I've achieved something that few University of Chicago Econ Ph.Ds can claim.  I have published in the London Guardian and here is the piece.   The editor wanted more on "climate refugees" and I supplied this but used my 500 words to discuss dynamic compensating differentials models and the role that the system of cities will play in protecting urbanites against climate change.

I guess I am part of the New Left now?   While my Guardian piece should buy me some street cred in Berkeley, I still suffered some indigestion from reading this Dr. Krugman piece about the rational expectations revolution in macro.

Los Angeles Blooming in Late September

Here is a photo of my family garden.  How many plants can you name in the below photo?  If I still lived in Boston in my old suburb of Belmont, what would the garden look like at this time of year?

Friday, September 26, 2014

The Economics of Vacant Lots in Big Cities

The University of Chicago's Harris School has a strong set of researchers who are actively involved in local and national policy making.  This announcement offers one example.  Ben Keys and others will discuss what the City of Chicago should do to redevelop the land being occupied by 55,000 vacant homes.

You do not have to be a "Big Data Scientist" to realize that you should start by making a map.  These homes will not be randomly distributed across the city.   These homes will tend to be concentrated in less desirable areas and their vacancy contributes to the local "lack of desirability" of the block.

I realize that the discussion will focus on foreclosed homes.  So, this means that there are 55,000 homes for which the current market price is less than the mortgage and home owners walked away and the banks now own those homes. These banks (such as Bank of America) are often not in the affected community and have weak incentives to take action.   The City of Chicago could offer to purchase all of these homes at some agreed upon price.  To keep this simple, suppose they each could be bought for $75,000 on average. So, 55,000 * 75,000 =  $4.2 billion.  The city could issue bonds to buy these properties.

The City of Chicago would face a portfolio problem.  Does it want to invest $4.2 billion in land within its own Borders? Does the Mayor believe in the future of Chicago?  If this land becomes more valuable in the future then a future mayor would be able to pay for the generous pensions that Chicago and other big liberal cities have voted for their public employees.

What is the optimal land use on a block in decline? If it is close to an area that is gentrifying then there could be an option value to buying the land and seeing if this block gets "hot".  Does the City of Chicago want immediate development on lots that are vacant? In this case it should sign a contract that has "inflation embedded in it".  A developer who buys the lot and develops immediately pays $X while a developer who buys and builds in the future pays 2*X.

Should the vacant land be rezoned for other uses than residential?

A question for the University of Chicago here is why is public policy needed here?    The city could knock down the existing structure and clean up any garbage and then make a map of the new "green fields" that it will auction off.  In this case, why won't the invisible hand allocate the land to its highest and best use?

The urban policy experts will argue that developers will ignore the local externalities associated with their choices.  But, is that true?  If the developers purchase several lots in the area then they become residual claimants on the neighborhood and have strong incentives to think about the local public goods.

The key issue here is one of expectations.  A vacant lot has great value in a neighborhood that is expected to gentrify while the opposite is also true.  Where do expectations come from and do developers have optimistic expectations about the dynamics of Chicago's Southside (where I'm assuming most of the vacant properties are located).  In Los Angeles and Chicago, Magic Johnson has been a major investor in real estate property.  Will he want to purchase some of these vacant lots?

Thursday, September 25, 2014

Some Specifics About the Future of Northern California's Water Supply

Here is a new report  highlighting some climate change induced water challenges that California is likely to face over the next 80 years.  A pessimist would say; "we are doomed."  An optimist would say;  "Thanks for the "heads up"", now what are the new money making opportunities created by this anticipated challenge?"    For example, the report features some discussion of snow melt and water runoff (see page 23).  If some local government or land owner can figure out a way to capture this runoff so that it sinks into the ground and replenishes aquifers won't that city or property owner become rich as they now have large reserves of a valuable scarce resource?  Do you see my "big" point?    This simple example is the tip of the iceberg.  Do you bet against human ingenuity when there are 7 billion people on the planet and decades to make research progress and trillions of dollars of investment capital seeking new profitable ideas?  

Read the report, there is some exaggerated stuff about forecasting the population growth and spatial distribution of the population 40 years from now (see page 16).    Chapter 7 makes no sense in that it studies water demand 50 years from now.  How do the authors know what technologies will be in place then?   For example, will homes recycle their own gray water and convert this into water for drinking and washing?     I view this type of stuff as nuts but the non-social science pieces of the report make some interesting points.

Wednesday, September 24, 2014

4 Minutes of Michigan Radio Time

Time is our scarcest asset. If you seek to waste 4 minutes contemplating the future of the Midwest then I encourage you to listen to my short radio interview.     For decades, millions of people have been moving away from the Midwest to the South and West.  In future decades, in part due to climate change, such regional trends may reverse.  Again, the key idea here is the "system of cities".  The U.S features hundreds of cities that compete for the skilled. Yes, LA, San Fran, Seattle, Chicago, NYC, Boston, Washington DC and Portland and San Diego are the hip expensive cities now but if any of these cities suffers due to climate change then asset owners in these locations will lose and people will move away to "higher ground" in cooler summer places that have access to water and face less flood risk.  Of course within even coastal cities, there always will be "higher ground".  If Southern Manhattan floods, Wall Street will move to Connecticut and Goldman Sachs will continue to make $.  The interesting issue here relates to how cities compete and will climate change actually help Midwest cities to better compete for the skilled?  Quality of life (which takes on many dimensions) varies across cities.  Which cities will have a comparative advantage in protecting their residents in the year 2080? Will this edge be due to natural advantages of geography and topography? Or due to wise policies? Regardless of what is the true cause, the competition between cities to be "safe pleasant" cities will make urbanites safer and allow us to continue to thrive in our hotter future.  Right now you can buy Detroit real estate cheap (here is a $60,000 home). If you believe that Detroit's relative quality of life (as compared to Phoenix and other Southwest cities) will improve, then you should buy land there now and thank me later!

For those who want to see how a micro economists (trained at UChicago) thinks about the urban economics of climate change adaptation then read this quick version of my Climatopolis.

If you want to learn even more; then read my $1 book on Amazon.

Expensive Housing in Liberal California: Supply or Demand?

The NY Times reminds us that the California Dream is expensive.  Early in the article, an interesting fact is presented and Richard Green of USC makes a key point:

"In much of the state, a two-bedroom apartment or home is virtually impossible to acquire with anything less than a six-figure salary.

“It’s hard to imagine how all of California doesn’t become like New York City and San Francisco, where you have very rich people and poor people but nothing in between,” said Richard K. Green, an economist and director of the Lusk Center for Real Estate at the University of Southern California. “That’s socially unhealthy and unsustainable, but it’s where we are going right now — affordability is its worst ever, and we’re seeing a hollowing-out of the middle class here.”"

Micro economists might approach this issue using supply and demand.  We know why the demand to live in California high.  You have read my climate demand papers?  (see #1, #2, and #3).  No other state in the nation offers California's unique weather, beauty (oceans and mountains) and blue skies.  Richer people are willing to pay more for these climate amenities and billions of dollars of foreign $ is flowing into the US to buy our prime real estate.  China's rich investors want a safe asset for their family and recognize that California offers unique quality of life attributes that cannot be found in Beijing.

At the same time that demand is rising, it is very hard to build in California. Yes, the topography of building on mountains is tough but I've argued that another cost shifter is liberals!  Those cities (think of Santa Monica, Berkeley) with more liberal registered voters allow less new housing to be built within their boundaries.  Read my 2011 paper.  

For young economists seeking to work on a hard problem, consider the following.  By limiting housing supply in cities such as Santa Monica, does this raise home prices because this shifts in the supply curve or does such regulation both shift in supply and increase demand?  If you argue the "latter", how would you disentangle how much of the zoning effect's impact on price is due to supply versus demand?   What could be the story?   Suppose that zoning preserves a neighborhood's character and charm.  This could increase demand to live there.  So, the challenge here for structural researchers is to figure out whether zoning leads or lags shifts in housing demand.  When a place zones, does this increase demand? Or, does zoning increase when demand has exogenously increased and people are trying to move in?

Consider the impact of the California Coastal Commission, here is a 2010 co-authored paper of mine that few people know about but I think it is quite good.  Regulation binds.

Tuesday, September 23, 2014

Climate Refugees?

I am listening to Aerosmith's song "Rag Doll" and Duran Duran's "Girls on Film" while I write this B- blog post.   A number of news articles are picking up my "quote" about the rise of environmental refugees.   I'd like to set the record slightly straight.  First, for economists who only know Arrow and Debreu, the term "environmental refugees" may not be part of their standard lexicon.   There are a number of "doom and gloomers" who claim that 80 years from now we will live in a Mad Max world of savagery as we will have destroyed our planet and will be fighting to the death over scarce resources.  Environmental refugees will cross borders in their hunt for food and clean water.

I do not believe that this will be the world in 2094.  Instead, I would say that "environmental refugees" are people considering migrating and we always have the choice whether to migrate or not.  Migration is an investment such that the migrant incurs upfront costs (packing, leaving your family and the familiar and paying to ship your stuff and yourself to a new place) in return for a stream of future benefits.  The benefit is that you have the opportunity to live your life in a new place.

The United States have over 300 major cities. We do not know which of these cities will adapt well in the face of climate change but many of them will. Those cities that have a comparative advantage in adapting will experience an influx of migrants and this will lead these economies to boom. I believe that such migration will be orderly and there will be rule of law.  Such "environmental refugees" are likely to leave cities that do a bad job coping with; heat, drought and fires.  Those cities that figure out how to adapt will boom. This competition makes all urbanites better off as they will have choice and extra adaptation strategies.  People are not passive victims in my view. Instead, while Mother Nature is throwing new punches, self interested people are researching where is the "higher ground" and will move there. Free market price signals will make this an orderly migration.  

Monday, September 22, 2014

Geographic Determinism and Urban Adaptation to Climate Change

While I am pleased to be quoted in this NY Times article,  I'm a pinch surprised by the quote.  I am a home owner in LA. I would not have made this big bet of all my life's savings if I thought that LA is doomed in the face of climate change.   I do not have a crystal ball and I can't claim to have perfect foresight concerning the exact names of those cities that will thrive in our hotter future.

What I do know is that over the next few decades that our cities will compete to attract the skilled.  This competition already exists (see Nevada's tax deal for the Tesla factory or cities competing to attract a NFL football team).  Those cities that do a bad job adapting to climate change will suffer an exodus of firms and households.  Such cities as Los Angeles and Phoenix face both heat risk and further drought conditions as climate change advances.  If these cities deal with these challenges (and I believe they will as I outline in my Climatopolis book), they will continue to feature valuable real estate. If they fail to do so, then the population will build its future cities on higher ground toward the North in more temperate locations.   

This competition within a system of cities helps to protect urbanites. Let the best city prevail!

Cities and the Environment

Randy Walsh and I have released a NBER Working Paper that surveys research at the intersection of environmental and urban economics.   Over the last 20 years, environmental and urban economists have made great research progress and our piece highlights what we have achieved and what are the open research questions.

Cities and the Environment
Matthew E. Kahn, Randall Walsh
NBER Working Paper No. 20503
Issued in September 2014
NBER Program(s):   EEE   PE   POL

This paper surveys recent literature examining the relationship between environmental amenities and urban growth. In this survey, we focus on the role of both exogenous attributes such as climate and coastal access as well as endogenous attributes such as local air pollution and green space. A city’s greenness is a function of both its natural beauty and is an emergent property of the types of households and firms that locate within its borders and the types of local and national regulations enacted by voters.

We explore four main issues related to sustainability and environmental quality in cities. First, we introduce a household locational choice model to highlight the role that environmental amenities play in shaping where households locate within a city. We then analyze how ongoing suburbanization affects the carbon footprint of cities. Third, we explore how the system of cities is affected by urban environmental amenity dynamics and we explore the causes of these dynamics. Fourth, we review the recent literature on the private costs and benefits of investing in “green” buildings. Throughout this survey, we pay careful attention to empirical research approaches and highlight what are open research questions. While much of the literature focuses on cities in the developed world, we anticipate that similar issues will be of increased interest in developing nation’s cities.

Sunday, September 21, 2014

Professor Stavins' Climate Change Piece in the NY Times Today

Harvard's Rob Stavins has published an opinion piece in the NY Times titled "Climate Realities".  Professor Stavins raises a series of reasonable points as he offers a sober assessment of where we now stand as we confront the climate change challenge;

He makes the following points:

  • Global GHG emissions continue to rise
  • The UN's goal for sharply reducing emissions over the next few decades will be a very difficult target to reach
  • It will be very costly to reach this goal
  • He cites current cost estimates of what we would have to sacrifice to achieve the carbon reductions (I don't believe this .06 number reported below because I do not believe the results of any forecasting model based on past historical data (see my previous Lucas Critique blog post))) 
A direct quote:

"Doing what is necessary to achieve the United Nations’ target for reducing emissions would reduce economic growth by about 0.06 percent annually from now through 2100, according to the I.P.C.C. That sounds trivial, but by the end of the century it means a 5 percent loss of worldwide economic activity per year.

And this cost projection assumes optimal conditions — the immediate implementation of a common global price or tax on carbon dioxide emissions, a significant expansion of nuclear power and the advent and wide use of new, low-cost technologies to control emissions and provide cleaner sources of energy."

  • He makes the reasonable point that at least 15 major nations who together produce a large majority of the world's emissions would need to form a credible carbon mitigation coalition. He suggests that the politics of this coalition will be quite hard.
  • He hints that China may become a low carbon leader and has his fingers crossed on this one.

To my deep surprise, he never mentions climate change adaptation.  That a very serious Harvard economist is not willing to even mention this topic says something on several levels. 

The IPCC has only made a small investment in investigating the possibilities for adaptation to help us to minimize several of the threats we will face from climate change.

In my humble opinion, too many economists are working on the economics of climate change mitigation in part because there is so much demand by policy makers (and private consulting) for such studies.  But from a research perspective, we have hit sharp diminishing returns.   In contrast, we need active researchers to more fully explore the politically incorrect topic of climate change adaptation.

Read the IPCC5's recent chapter on the economics of adaptation and you will see a fair bit of optimism especially for nations in the developed world.   This chapter is weak with respect to acknowledging the spatial variation across the globe and the possibility for re-organizing urban economic activity.   We will soon be a world of urbanites and cities are ideally set up to adapt to the new risks.   Harvard University will continue to thrive in urban Cambridge and Prof. Stavins will be able to update his NY Times piece in his air conditioned office at the KSG in the year 2050.   For the climate change research to make progress, micro economists must be much more precise about which climate risks we can't offset.   Which part of the standard optimistic logic about the "invisible hand" leading us to an efficient allocation breaks down?  Why doesn't induced innovation take place so that new technologies protect us from the new threats?   (Professor Stavins is the co-author of the most famous paper on this subject; see his 1999 QJE paper). Why can't self interested individuals migrate to higher ground?  Why can't we rebuild our cities there? Why won't the price of coastal old capital decline to reflect the new risks? Why won't this incentivize the owners of such real estate to take self protective steps?   Answer these questions and you are a cutting edge environmental economist.

The Lucas Critique Applied to Quantifying Climate Change Impacts

In my last post, I discussed the Lucas Critique and the challenge of predicting the future based on past economic activity.    Here I want to apply these ideas to the economics of climate change impacts. I have grabbed the figure below from this blog post by Brad Plumer.  Many "macro" climate change social science researchers make predictions such as this and they predict how much economic activity will be lost decades from now if the world is on average hotter due to climate change.   The lines graphed below are not random dots, they are based on an economic model but the devil is in the details.

Returning to Lucas' main theme of "rational expectations"; if we anticipate that our hotter world could suffer significant losses to agriculture and to coastal areas (but if we refuse to reduce our GHG emissions), are there investments we can take now so that the costs that are graphed below do not happen?  I have argued that the answer is yes as we move to higher ground, invest in GMO crops, diversify our food supply and countless other small ball micro adaptations.   None of these micro choices are embodied in the confident and "scientific" predictions presented below.  This is how economics causes trouble for itself.  Yes, I understand that the PAGE estimates below have a confidence interval around them at the 5th and 95th percentiles but these are based on historical estimates.

When we anticipate a challenge, how do we reorganize our lives, our trading patterns, our investments in capital and human capital  and our cities to reduce the impact of the challenge?   The mechanical macro models used to make predictions look down right silly for ignoring the micro-economics of forward looking people and firms re-optimizing.

All of the models presented below violate the Lucas Critique because they assume that people and firms will use their same decision rules under the new and anticipated environmental conditions.  Such a behavioral response is not an optimal response and thus must over-state the impacts of what they are trying to estimate.


Rust Never Sleeps

This is not a post about a good Neil Young song.   Instead, I want to sketch Gary Becker's contribution to structural micro economics and focus on the implications of John Rust's important paper published in the September 2014 JEL.    For economics to be a science, I think that important economists need to engage on the issues that he raises.

Roughly 40 years ago, Robert Lucas published his "Lucas Critique" arguing that Keynesian mechanical (and deterministic) models of consumption and investment (fit using past data) had no predictive power in the face of a government shift in the rules of the game because forward looking consumers would change their behavior in the face of the new rules.  He argued that because of this that researchers should seek to carefully write out the maximization problems that agents solve and to resolve them in the face of the new policy and only by following this scientific method would economics have the hope to be a predictive science.

An example:

Suppose that over the years 1946 to 2014 that 48 year old white men always consume 95 cents of every dollar they earn each year.  Keynesians would see a "law of consumption" emerging from their OLS regressions.    Now suppose that in the year 2014 that the government announces that it will give all 48 year old white men 5 billion dollars when they turn 60.  In this extreme example, it is obvious that 48 year old white men will now consume 99.5 cents or perhaps 100 cents per dollar they earn each year because they no longer need to save for their retirement.  An "old Keynesian" would ignore this expectation of the future income transfer and would still predict that this groupu will consume 95 cents of every dollar earned.   But, expectations of future policy shifts change optimal consumption rules today.  This is rational expectations at work.

Back to Rust.  Rust argues that Structural micro economists will face their own Lucas Critique. While this group of skilled applied econometricians claim to recover "the utility function" , Rust challenges his own group (he is a leader in structural micro) and claims that no recovered utility function (say from a discrete choice model such as BLP's car work) is truly a time invariant function. He uses the example of Stigma and argues that while applied structural researchers can measure a cost of stigma (as an explanation for why eligible poor people do not sign up for welfare) that this is not a deep parameter because there are investments that government could make to destigmatize the stigma! For example, if President Obama announces that his mom was on welfare this could "shift" the stigma. But if this media model is right, then the structural guys have not recovered a "deep parameter" and this is the new Lucas Critique launched by Rust.

Enter Becker:

In Gary Becker's household production theory, people do have a stable utility function defined over such primatives as "safety and comfort and child quality".  What shifts over time are the production functions that convert time and market goods into these broad categories.  Consider the safety example and the chain rule from Calculus emerges;

We have a utility function over Safety U(Safety)

Safety is produced using a production function =  f(food you eat, neighborhood you live in, how your parents treat you, luck,  risk choices such as car you drive, drunk driving etc)  plug this into the utility function to get the reduced form;

U(f(food, neighborhood, risk choice, luck))

The goal of the researcher is to measure the marginal rate of substitution of the U() function in the face of changing f() functions.    You don't have to be at Heckman's level to see that if you have an unknown non-stationary function (the f() production functions) nested within an unknown utility function that identification of the utility function will be quite hard.

In future posts, I will offer some thoughts about how we can make progress.

Saturday, September 20, 2014

Teaching Evaluations for Professors

Every quarter, students fill out teaching evaluations.  The Chronicle just ran a piece about how to evaluate these evaluations.  I know that my evaluations are good but I rarely take a close look at what the students write. I know when I've done a very good job versus when I've served up a lemon of a lecture.  When I was teaching at Columbia University, some anonymous student wrote about me;  "he thinks he's Seinfeld but he isn't funny."  At that point, I never closely read my evaluations again.  That was eighteen years ago!

Friday, September 19, 2014

LeBron James Visits UCLA

Here is a photo taken of King James today at UCLA.  To my surprise, his people didn't call my people to arrange a meeting. I just sent him a tweet telling him to stick around Westwood for 2 weeks so he can attend my environmental economics class.  I have not heard back from him.

Wednesday, September 17, 2014

Ingenuity and Flood Protection

When people fear a flood they buy sand bags and create a type of "sand wall",  these entrepreneurs claim that they have created a substitute for such sand bags.  Will the HydroGuard be an effective product? Who will be the guinea pigs who try it? If the product is effective but unknown, how quickly will word spread that this is an adaptation friendly product? Will its creators become rich?  What will  be the market price of this product if it can be mass produced in a LDC and exported back to richer nations?   How much flood damage will be avoided because of their innovation? When young inventors in the future hear about this success story that supports the Julian Simon thesis, what products will they focus on designing?  This is free market adaptation.  What is the weak link in the argument?