Ideoblog

Investing in students

Last January I wrote about a firm that was selling futures in baseball players. Now Kevin Carey and Frederick Hess, writing in The American, suggest extending this sort of idea to every student. They ask:

What if, instead of borrowing, students could arrange for investors to pay their college bills in exchange for a fixed percentage of their future income * * * Students would shift the financial risk to lenders who could pool that risk and then package their students bonds into bundled securities that could be sold on the open market. Regulators and investors would set bond parameters—the period of repayment and percentage of earnings—based on certain key criteria. For example: a student with a 2300 SAT score, straight A’s, and an aptitude for computer programming could expect favorable terms, just as he or she would be more likely to receive a scholarship or merit aid today.

Carey and Hess see this as an answer to the rising cost of college, and the problem of students and their families borrowing to the hilt to finance it.

Moreover, this system could provide significant market discipline to schools. Investors would look hard at school graduation and job placement rates and post-graduation wages, and seek higher returns by investing in students at schools that are good deals in terms of their tuition/success ratios. After all, they note, "other things equal, an investor fares much better by lending a student $48,000 over four years and collecting 4 percent of his or her future earnings than by lending that student $180,000 and collecting the same 4 percent."

The market would reward investors who found the good deals before the market fully valued them.  This, in turn, would give schools incentives to be good deals in order to attract students -- incentives that the current loan market doesn't provide. 

Markets and possible regulation could protect against specific risks of this system.  Students could be insulated from declines in value of their institutions that they couldn't control through rate lock-ins; “the government could subsidize funding for those graduates who went on to work in low-paid, socially valuable professions like teaching.” And note that this system doesn't present the risks of the current real estate market since lenders can’t foreclose on the students’ college education.

Needless to say, all of this applies to financing law students.

Of course there are problems: could investors enforce their contracts? And, as with the baseball player example I discussed earlier, would the students be selling “securities” in themselves, with all of the fraud remedies that could entail?

But the proposal is an interesting approach not only to financing higher education, but also to finally bringing some discipline to the market for education.

Markets in everything

Really, everything (HT Dealbreaker). 

Money

You know the best things in life are free.  But you can give them to the birds and bees.

Arthur Brooks has some worthwhile thoughts about capitalism .  Here it is in a nutshell: (1) Success makes us happy; (2) in a capitalist economy, we tend to measure success by money; so (3) money makes us happy, and more money makes us happier.

Take the case of billionaire Larry Ellison, founder of Oracle. The world’s 14th-richest man, he would need to spend more than $30 million per week, or $183,000 per hour, just to avoid increasing his wealth. Further, he would have to spend it on items with no investment qualities, meaning that, unless he sets his money on fire, or (better yet) gives it away, he simple cannot not be filthy rich. Yet he continues to slave away, earning billion after billion. Being rich, and having more than the average Joe, simply cannot be driving Larry Ellison. It is the will to succeed and create value at greater and greater heights.

Who enjoys the benefits created from the slaving of Bill Gates (worth $58 billion and counting), Warren Buffett ($62 billion), and all of America’s other success-addicted, ultra-rich entrepreneurs? We all do: As long as fortunes are earned—as opposed to stolen, squeezed from governments, or otherwise extorted from citizens—this is good for all of us. Oracle has not made Larry Ellison a rich man without any benefit to society. The firm currently has tens of thousands of employees, people with well-paying jobs to support their families. The company has introduced technology that has benefited all parts of the economy, and it has paid billions to its shareholders. And we can’t forget that Oracle has rendered generously unto Caesar, year after year: In 2007 alone, it paid $1.2 billion in corporate taxes, totally apart from the personal taxes paid by Ellison and his employees. * * *

Brooks might have added that Ellison, Gates and people like him also give lots of money away.

I have some more thoughts in the same vein.  One reason why money works so well as a success generator is because in a market economy it can get you anything you want. In other words, it’s really markets that make us happy.

Another great thing about money: in order to get it in a market economy, you have to sell things to other people. In order to do that, you need to provide them with something that increases their happiness. Compare war, for example. Now, to be sure, that gives capitalists incentives to create wants. But that’s not necessarily a bad thing. After all, if you don’t want anything, what’s going to make you happy?

Brooks concludes:

[C]apitalism is the best system to allow people to succeed on their merits in the economy—and we know that it is success that truly does bring happiness. Capitalism, moored in proper values of honesty and fairness, is a key to our gross national happiness, and we should defend it vigorously.

The politicians, the economists and the gas tax

From today's WSJ:

Host George Stephanopoulos -- a former staffer in President Bill Clinton's White House -- quoted Princeton economist and New York Times columnist Paul Krugman, who has written in support of Sen. Clinton's policies in the past but called the [gas tax holiday] idea "pointless and disappointing." Mr. Stephanopoulos then asked Sen. Clinton to name "a credible economist who supports the suspension." Sen. Clinton responded in the populist tone heard in many of her recent stump speeches. "We've got to get out of this mind-set where somehow elite opinion is always on the side of doing things that really disadvantage the vast majority of Americans," she said.

Economics is a tool that informs policy. You can bring your ideological priors to policymaking, but don’t you want to know what the effect of those policies will be?

For the record, here’s Paul Krugman:

Why doesn’t cutting the gas tax this summer make sense? It’s Econ 101 tax incidence theory: if the supply of a good is more or less unresponsive to the price, the price to consumers will always rise until the quantity demanded falls to match the quantity supplied. Cut taxes, and all that happens is that the pretax price rises by the same amount. The McCain gas tax plan is a giveaway to oil companies, disguised as a gift to consumers. Is the supply of gasoline really fixed? For this coming summer, it is. . . . . The Clinton twist is that she proposes paying for the revenue loss with an excess profits tax on oil companies. In one pocket, out the other. So it’s pointless, not evil. But it is pointless, and disappointing.

Basically, when Clinton dismisses the economists, she is saying she doesn’t care what the effect of her proposal is. Let’s get at least that clear.

One other point:  from a public choice perspective, the gas tax is actually a good tax because it is salient to the taxpayers rather than hidden, thereby making the political choice more viable.  Clinton and McCain, like typical politicians, would rather keep the tax under the rug.

A bettor way to predict elections

The pollsters are calling a dead heat in Indiana. Should you even be interested? The pollsters haven’t done so well in calling past primaries. Gordon Crovitz discusses a better idea in today’s WSJ:

We think of forecasting stock-market performance and presidential outcomes as entirely different exercises. When stocks are assessed for future earnings, we don't look to opinion polls to define their price. Why shouldn't active, anonymous trading on politics, backed by money, work just as well in setting the odds of a political outcome? * * *In contrast, polls depend on getting a representative sample, truthful responses to poll questions, and proper use of statistics. Election-predicting markets seem to work so long as there are enough traders whose aggregate information is fully reflected in bets. * * *Iowa Electronic Markets claims that its results have been more accurate 75% of the time versus some 1,000 opinion polls since the early 1990s.

The problem is that regulations, primarily those against gambling, stunt these markets. The Iowa prediction market operates under a CFTC no action letter that limits bets, and still gets threats from state attorneys general, as Tom Bell writes. For a handy summary of the legal state of play, see Michael Abramowicz’s Predictocracy, 49-53.

Some influential economists call for a safe harbor for certain types of small stakes markets. But this sort of limited safe harbor sharply restricts people’s ability to put their money where their mouths are, and therefore these markets’ ability to provide accurate predictions. If prediction markets are unleashed, subjected to practical regulation rather than prohibited as immoral gambling (and competition for state-run lotteries), they could be powerful information generators. As James Surowiecki argues:

Sports bettors are closer to stock or commodities buyers than to people who buy lottery tickets. How much difference is there, after all, between betting on the future price of wheat (an activity banned in some states in the nineteenth century) and betting on the performance of a baseball team?

Indeed, Miriam Cherry thinks these laws regulate expression and therefore might violate the First Amendment.

And even if you think that prediction markets are like gambling, that doesn't necessarily justify regulating them.  As Steve Levitt argues:

To me, there is no difference between a “prediction” market and a “gambling” market. If there is demand for people who either want financial risk surrounding an event or want to hedge risk, why should the government get in the way? It doesn’t matter whether it’s the value of a bond, a share of stock, a presidential election, a firm’s likelihood of hitting its quarterly numbers, or the chances that the White Sox will win the pennant. In general I am not much of a libertarian, but our government’s policy towards gambling is completely idiotic and rife with internal contradictions.

Maybe all this thinking will gain some traction.  Then in future elections we may come to see as rather quaint the idea of getting information by asking people to give anonymous opinions about candidates, with no penalty or constraint on lying.

Your money or your wife?

Would you risk your life for your spouse? If so, how much would that cost you (or your estate)?  For your date?

Beylin & Malani have data!: Finding Love in the Wreckage: Estimating Spousal Altruism with Data on Fatal Car Accidents:

This paper estimates the degree of altruism among spouses by examining how often the driver of a car sacrifices his or her own self in a car crash in order to save a spouse. Holding constant the magnitude of a collision, a driver can maneuver the car to distribute the risk from collision between the driver and a passenger. We quantify spousal altruism by the degree to which drivers riding with their spouse redistribute the risk from a fatal accident to themselves - as measured by ex post mortality - as compared to drivers not traveling with their spouse. We find that drivers with their spouses are roughly 1.21 times more likely to sacrifice themselves. Assuming a $10 million value of life, this implies a willingness to accept a $2,100,000 loss to avoid the death of a spouse.

I dunno. Some things I'd like to know:  Why did the accident happen in the first place? With your date, you're more likely to be distracted, if you know what I mean. Is your life (or your passenger's life) worth more if you're married?  What happens if the driver is married, but the injured passenger is not his or her spouse? 

First date insurance

You probably don't think of restaurants as selling insurance, but apparantly they do, according to Png & Wang, Buyer Uncertainty and Two-Part Pricing: Theory with Evidence from Outsourcing and New York Restaurants. Here's the abstract:

We consider two-part pricing of a service offered to risk-averse buyers subject to independent demand uncertainty. Buyers subscribe to the service before the uncertainty resolves. Vendors maximize profit by balancing between insuring buyers against the uncertainty and reducing ex-post deadweight loss. We introduce the concepts of felicitous goods, for which the total and marginal benefits are positively correlated, and distress goods, for which the total and marginal benefits are negatively correlated. The profit-maximizing two-part price includes a usage charge greater than the marginal cost of service for felicitous goods, while the usage charge is less than the marginal cost for distress goods. We discuss how our analytical model could improve pricing practices in the IT services outsourcing industry. Further, using the Zagat Survey, we tested our analytical predictions on pricing by New York restaurants. For two diners on their first date, a major uncertainty is whether they would like each other. If they do, they would prolong the meal by ordering appetizer, soup, and dessert, while if not, they might just do with a main course. We found that, among "singles scene" and "romantic" restaurants, the prices of appetizer, soup, and dessert were 6-20% higher relative to main courses than among "business dining" restaurants. This is not consistent with alternative explanations of restaurant pricing.

So the lesson is, if you're on a first date, go to a restaurant where the main course is priced to protect you from uncertainty.  If you're an old married couple like my wife and me, maybe you go to a place that doesn't force you to buy insurance.  But, then, you don't really need a romantic restaurant, do you?

Laissez-faire is too political for Starbucks

David Boaz of Cato writes in today’s WSJ that Starbucks will sell a personalized Starbucks card with just about anything you want on it except for “laissez faire.” Their policy is that “Some requests . . . may contain material that we consider inappropriate (such as threatening remarks, derogatory terms, or overtly political commentary) or wouldn't want to see on Starbucks-branded products."

So what’s the problem with just asking to be left alone – some dose of which is necessary for businesses like Starbucks to exist? Starbucks itself, for example, is asking to be left alone from a court decision ordering it to repay tips shared by its supervisors.

Is it that they don’t like anything vaguely political? Well, according to Boaz, Starbucks didn’t have a problem with "People Not Profits." Is it political slogans with foreign words? No problem with "Si Se Puede" either. In fact, fewer than 1% of card requests are rejected.

Joseph Schumpeter argued in Capitalism, Socialism and Democracy that capitalism would self-destruct as it gave birth to an increasingly resentful anti-capitalist intelligentsia. I’m not sure he envisioned that the destruction would come from the capitalists themselves.

Of course Schumpeter may not have forseen that capitalists would make so much money selling latte to anti-capitalist intelligentsia who might be offended by words like "laissez faire."

Isn’t capitalism great?

It's 3:00 a.m. and global markets are tanking. . .

So who do we want to answer the phone? A WSJ story observes that the current leading candidates don't seem to offer much choice.

But it's not about the candidates themselves. We don't want populist policies (e.g., anti-trade) that get votes in the short run but are likely to lead to economic disaster (in other words, we'd rather that phone didn't ring in the first place).  And we don't want a president whose economically naive populist policies will frame his or her response to whatever disasters occur.

Hopefully the current turmoil and its effect on all Americans will make people see that, yes, economics and markets do matter.

The new unions

That's the title of a great article in Forbes about how various occupations are seeking protection from competition through licensing requirements. And now, of course, the subprime situation is a perfect excuse for more:

Cynics and students of the history of occupational licensure will not be surprised where the call for the crackdown came from--the brokers themselves. Responding to criticism of the mortgage industry by Hillary Clinton, the National Association of Mortgage Brokers put out a statement reiterating its call for "an increase in professional standards, education requirements and criminal background checks." Mortgage brokers already must be licensed in 23 states, but if the requirements are tightened there won't be quite so many brokers fighting over what business is left.

There's a reason for these laws:

"Occupations are politically powerful," says economist Kleiner. "Members get together and say, 'We need to protect the public.' If you oppose it, they campaign against you." Often there is no one lobbying against the bills. So with all the pressure and contributions coming from one side, it's an easy bill for governors to sign.

I'm happy the reporter printed my suggested response:

"It would be nice if there was an American Clients Association protecting the people," says Larry E. Ribstein, a visiting law professor at New York University.

For more of my thoughts on licensing, specifically lawyer licensing, see Lawyers as Lawmakers: A Theory of Lawyer Licensing, 69 Mo. L. Rev. 299 (2004), online draft version.