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Economics in Wired: Two Articles Worth Reading
By Chris | June 23, 2009
I came across two recent articles in Wired that I found really interesting. Here’s a brief overview and commentary:
Tech Is Too Cheap to Meter: It’s Time to Manage for Abundance, Not Scarcity
It costs Netflix about a nickel to stream a 2 hour movie to your PC. Wired editor Chris Anderson argues that data storage and processing is so cheap that we need to rethink the way we manage it. He ridicules antiquated policies like the one employed by my university’s IT department. Once a student’s small email quota is exceeded, the student is bombarded with requests to delete old messages. Anderson is right on when he says that time is scarce, data is cheap. To go one step further, I’d note that while data is abundant, analysis is scarce. Our ability to determine relevance is getting better, but there is lots of room for improvement. The more data we have, the more important it becomes to filter it effectively.
What Kind of Genius Are You?
This article by Daniel Pink opens with the following excerpt from a Harvard art lecture. “Pablo Picasso did this copy of a Raphael drawing when he was 17 years old,” the professor told the students. “What have you people done lately?” Pink examines the work of University of Chicago economics professor David Galenson. Galenson compared the value of all sorts of rare art to age of the artist at the time of creation. He found two patterns emerging. Successful artists were one of two types: Conceptual or Experimental innovators. The former do their best work early in their career by challenging prevailing trends and radically changing their field. Experimental innovators, on the other hand, work through trial and error practicing their trade until they produce something truly exceptional. I’d like to read Galenson’s work. In some ways his theory seems safe and ambiguous. All great work has to be done at some point in someone’s life. But I’m intrigued by the economic study of creativity. Creativity is the soul of economic growth. Where does it come from? How do we foster it as a society? And how can we be creative in our own work? These are questions worth exploring.
Topics: Psychology, Economics, Opportunities | No Comments »
When Signaling sends the Wrong Signal
By Chris | June 22, 2009
Google became the world’s most popular search engine by radically increasing the relevance of search results. It was able to do so by rewarding sites that received a lot of links from other sites. Links from popular sites were worth more than links from obscure sites. The popularity, or rank, of a site became known as PageRank. This blog currently has a rank of 5. MarginalRevolution.com has a PageRank of 8. PageRank isn’t linear though. Supposedly, a PageRank of 8 is 1,000 times as popular as one with 5. Anyway, after inventing PageRank, Google ran into a problem. People with websites had an incentive to create lots of links back to their pages. Comments and wiki’s became infected with irrelevant links. To combat this problem, Google created a way for owners of websites to signal which links should count and which one shouldn’t for ranking purposes. By tagging a link as “nofollow,” a web site could tell Google to ignore the value of certain links. Today, almost all comments on blogs and all external links on Wikipedia are nofollow links. Spammers no longer get any credit for their backlinks. Problem solved. Or is it?
Nofollow has become increasingly popular. Linking to another site upright conveys upon them a positive externality by improving their reputation. The recipient is helped and the source gets nothing in return. Not surprisingly, it is underprovided. Some websites have a blanket “nofollow” policy. They only give conventional links to recipients that pay. Advertisers pay lots of money to get followed links from credible sites. When signals are bought and sold, they lose their value. Links that are followed are no longer the most relevant, they are the most profitable. On some sites, “followed” links are less relevant than organic “nofollowed” links. When everyone knows the signals, they lose their value.
This has many applications. Signals are constantly evolving. Fashion is a good example. Brands come and go, as a signal is recognized and copied. For example, The North Face is a popular retailer of outdoor clothing and gear. Initially, it was the purveyor of apparel and gear for an elite group of outdoor enthusiasts. If you wore The North Face, it signaled that you skied, hiked, and spent time outdoors. The signal was reliable. But, it was an easy signal to imitate. Americans liked being perceived as outdoor enthusiasts. The North Face become popular with the masses. Today, someone wearing The North Face has some extra money and brand awareness. The signal’s meaning has made a 180.
An acquaintance of mine recently joined the Peace Corps. Before he left, I asked him why he decided on the Peace Corps. “Simple,” he said, “It’s my ticket into a good law school.” The experience is probably beneficial nonetheless, but it’s overt attempt to game the system. Admissions committee are looking for compassionate, interesting people. In the past, the Peace Corps was a good signal about your character. Today, it says less about your character and more about your ambition.
I think this explains why, on a gut level, I don’t like some people who send all the right signals. The guy who is too friendly, dresses too perfectly, has impeccable manners, says all the right flattering things, and is a great student. If you are sending all the right signals — if they are all conscious choices — all I know is that you can play the game well. I don’t know if you are kind, or curious, or interesting. Everyone does this to a certain extent, but most people allow some of themselves out without conscious calculation.
Just because they can be copied, doesn’t make signals meaningless. It just means that certain signals are more important than others. Signals are most valuable when they are costly to send. Job market candidates in economics can send three signals to the schools they are most interested in. These are indeed valuable. A thoughtful gift is a valuable signal. Sticking with an unpopular idea or friend is a valuable signal. We’re constantly on the lookout for such signals.
Does Google need a more complicated signaling system? No, they’re doing pretty well on their own. My guess is they calculate the value of the sites to which a website links. If you link to quality sites (especially sites whose quality is not yet apparent) your signal is worth a lot. If you only link to advertisers, your signal is worth less. Ultimately, in life and on the internet, signals mean the most when we don’t know how to send them.
Topics: Internet, College, Economics, Web 2.0 | No Comments »
My Question for Twitter’s Founder
By Chris | June 14, 2009
The Freakonomics blog periodically solicits questions from it’s readers to ask prominent and interesting people. Most recently, Biz Stone, the cofounder of Twitter and entrepreneur responsible for Blogger and Xanga was featured . I submitted a question that was included in the interview. Below is my question and his response:
How do you consistently get the ball rolling when starting a new social media site? How did you convince people to join Twitter when there were only a few hundred or thousand users? — Chris Y.
Answer: We never convinced people to use Twitter — we simply provided a tool they didn’t know they needed until they tried it. When Twitter began to emerge as a useful system, more and more people joined, which in turn made it more valuable.
While I appreciate his response, he doesn’t really address the heart of my question. My full question was edited for length by Freakonomics. In it’s original form I asked:
I was in awe when I learned that you also played a large part in creating Blogger and Xanga (similiar to facebook) in addition to Twitter. All of these services are valuable because of network externalities, every additional user makes the service more valuable to everyone else. The flip side is that in the early stages, when these sites don’t have many users, their value is much smaller. How do you consistently get the ball rolling when starting a new social media site? How did you convince people to join Twitter when there were only a few hundred or thousand users?
Okay, so “in awe,” might be a little bit of an exaggeration, but I was thoroughly impressed. I think that sucess with network sites such as Twitter and Xanga has to do with the first-mover advantage and getting influential people to use the site. Twitter has become immensly popular since celebreties like Ashton Kutcher and Oprah have promoted it. I doubt that Facebook would have been successful if the network didn’t start with a group of Harvard students. Lets face it, knowing someone from Harvard is kind of cool. Everyone likes to have smart and sucessful friends. Facebook spread to college campuses so quickly because college students wanted to join the service and “friend” their Ivy League acquaintences. This allowed Facebook to beat out other social networking competitors. It’s long-term success wasn’t initially apparent. I remember when Facebook was so small that it didn’t even own the “facebook.com” domain (it was “thefacebook.com”). Anyway, marketing in the early stages matters for these network sites.
As long as we’re talking about Twitter, and who isn’t nowadays, will they ever be profitable? I think they will be profitable, but I don’t see them growing as large as a Google, or even a Facebook.com. I think there is a place for microblogging. I would have a lot more posts, if I could share my thoughts in 140 character spurts. My guess is that Twitter will team up with Google and use contextual ads along search to monetarize its site. We’ll have to wait and see.
Topics: Internet, College, Economics | 1 Comment »
Has the Internet Made Advertising Obsolete?
By Chris | April 3, 2009
Eric Clemons over at Tech Crunch argues so in this thought-provoking article. His points are:
- Consumers do not trust advertising. (References Dan Ariely of Predictably Irrational)
- Consumers do not want to view advertising
- Consumers do not need advertising
The crux of his argument is that the internet has made information so widely available that advertising no longer is necessary. If consumers want to learn more about a product they can read reviews online. Moreover, they don’t need or want to be inundated with advertisements. He notes, “There is no shortage of places to put ads“.
True, but ad space never was the scarce resource. There is lots of open space for billboards in Montana. But no one is there to read it. The scarce commodity is people’s attention. And, there are still 24 hours in a day. As people spend more time online, they are spending less time doing other things, like reading the newspaper. Websites and blogs that capture people’s attention will always be able to make money if they can divert some of that attention to a third-party. Radio personalities have become experts at this. Bloggers can and will do the same.
From the demand side of things, advertising is more than just conveying information. I’m not a marketer, but it’s clear that brands are valuable because they illicit emotions in their consumers. Advertisers are getting better at using the internet to connect with users and create a brand image. For example, how couldn’t you like Burger King’s “Whopper Sacrifice” promotion? They gave customers a free Whopper if they dropped 10 Facebook friends? (Friends were messaged that their friendship wasn’t worth 1/10 of a Whopper). And doesn’t this website make you want to chew Stride gum?
Advertising, though, does more than just build a brand. Advertising is useful because consumers don’t know what they want. Yes, the non-profit side of the internet helps me find things that I would enjoy. I find a lot of good economics books by reading blogs. But I am also introduced to a lot of good products and ideas through advertisements. Sometimes these advertisements are direct, other times advertisers have created the incentives for websites to promote products that their visitors are likely to enjoy (you’d see a lot less book reviews online if websites didn’t get a cut of any sales that followed on Amazon). Asymmetric information will persist unless there are financial incentives for people to introduce others to things they would enjoy, but are currently oblivious to.
Advertisers are constantly bidding for our attention. Those that are bad at guessing our preferences lose money and go out of business. The internet makes advertising all the more targeted. It’s the survival of the fittest and only those companies that can best predict our preferences will survive.
Of course, this model is a simplification. It doesn’t hold up so well when advertisers only need us to buy, not like, what we end up purchasing. Moreover, advertisers often take advantage of our weaknesses. But, these are the exceptions, rather than the rule. As long as attention is scarce, it will always command a price. And this market, as so many others, does a good –albeit imperfect– job of allocating resources.
Topics: Psychology, Markets, Economics, Web 2.0 | No Comments »
It’s Not Always a Mask
By Chris | March 26, 2009
When Facebook came out, I was intrigued by how people presented themselves. Initially, membership was confined to university students. When crafting a profile, students knew their audience well. Pictures from last night’s party were okay. Divulging your secret love of Hanson was not. In the real world, people act differently around different groups of friends. To compensate for this, Facebook profiles were made a little less polarizing. Many people neglected to list their political affiliation. But, it wasn’t too hard to present an image of yourself that all of your college friends could identify with. As Facebook opened up, the audience exploded. Your relatives, pastors, teachers, employers, and even parents added you to their network. I’m friends with my cousin’s newborn son. Today, your Facebook profile has to be consistent with the you that all of these different people have come to know. That can be a challenge.
Isn’t this a good thing. Don’t we want to discourage people from being two-faced? Ben Casnocha thinks that social mediums like Facebook and blogs require you to show your true self:
In other words, technology is collapsing the masks we wear, making it harder to project different versions of our identity depending on the audience.
My theory: The most natural “you” is the version that gets presented when masks collapse. For example, host a dinner party with your mom, best friend from school, your boss from work, and a woman/man you’re interested in dating. How do you act? What comes most naturally?
Thus, the “you” that emerges on a personal blog represents a regression-to-the-mean synthesis, which may represent the most natural version of yourself.
While I think it is generally good to be transparent about who you are and what you stand for, I don’t agree that the synthesis of yourself is the most natural version of yourself. People relate differently with one another because people connect on different levels. It’s not always a mask. Variance in personality is not always caused by distortions from one’s “real” self. Rather, different people bring out different aspects of your personality. In C.S. Lewis’ book “The Four Loves” (I think) he notes that a group of three friends is more than the sum of its parts. Friend B not only brings out something unique in myself, he also fundamentally changes the relationship I have with Friend A. The loss of Friend B, destroys part of the dynamic I have with Friend A.
I have always been poor at the subject, but an analogy from chemistry seems to fit. People are like periodic elements and groups of friends are like compounds. What is the “true” oxygen? Is it being itself when it is bonding with Hydrogen to form water? Or is it being its true self when it gets together with itself and Carbon to form CO2? It would be silly to say that oxygen is the most itself when it with both Hydrogen and Carbon. It isn’t natural to interact with everyone you know at once.
As far as the internet goes, it means that social networks can only get so big before they lose their value. Facebook and Twitter won’t monopolize the sector. There is a need for niche social networks and semi-anonymous blogs (like this one). It’s nice to write without tailoring my words to avoid offending certain friends, acquaintances, and future employers. Personal communication like email will not be replaced by wall posts, blog comments, and other forms of public communication.
The internet has made information ubiquitous. It is almost impossible to connect with people on the internet under your true identity and lead separate contradictory lives. That is a good thing. And yet, human relationships require privacy and intimacy that will never be replaced by interaction in a public forum. Thankfully, your true self can’t be decomposed to a “regression-to-the-mean synthesis”. Personality has too many dimensions that new relationships will always continue to reveal.
Topics: Psychology, Internet, Behavioral Economics, Economics, Web 2.0 | 1 Comment »
Education: An Inferior Good?
By Chris | March 16, 2009
Last week, Obama spoke about education and argued that American children don’t go to school long enough. He said:
We can no longer afford an academic calendar designed for when America was a nation of farmers who needed their children at home plowing the land at the end of each day. Our children…spend over a month less in school than children in South Korea — every year. That’s no way to prepare them for a 21st century economy. That’s why I’m calling for us…to rethink the school day to incorporate more time – whether during the summer or through expanded-day programs for children who need it.
I have to give credit to Obama for advancing a clearly unpopular idea, but I don’t think he is right. Thinking back to my childhood –summers building forts in my backyard, learning HTML, visiting my grandpa’s ranch in Montana– made me hesitant to get behind reform that would cut into the next generation’s time to be a kid.
Each generation our nation is getting wealthier and wealthier. The scientific and technological advances of the last fifty years not only make us materially better off, but increase the returns to getting a higher education. A surgeon today can do things that would have unthinkable 20 years ago. Computers have made professionals from economists to engineers substantially more productive.
What is the rational response? You might argue that education is more valuable, so students should purchase more education. But, we don’t live to maximize our wealth. People value leisure. Research shows that doctors will actually start decreasing the hours they work when their wage gets high enough. Leisure is a normal good. The more money you have, the more leisure you wish to consume. At a certain point the dollar value of an additional hour of leisure exceeds your hourly wage.
Similarly, education is a substitute for leisure when people are young. Do we want to trade our children’s free time for a little more money when they are older? Maybe, but the answer isn’t obvious. Looking back, I wouldn’t have wanted to spend 20 percent more time in school. If I had, I might be better at math, but I would have missed out on a lot of memories. At some point, a nation becomes so rich that the benefits of a little more free time as a child outweigh a little more money in increasingly prosperous future.
Of course, such a future is far from certain, particularly for certain subsets of our population. Certainly, kids with dysfunctional families have a less rosy view of free time. For others though, time outside of a structured environment is not only fun, but essential to foster creativity and independence. It seems that the best policy would be to expand school hours the most where the opportunity cost of leisure is the smallest. Hopefully, this is what Obama has in mind when he says that this aspect of reform is targeted for “those children who need it.”
Topics: Political Science, Economics, Education | No Comments »
Libertarian Paternalism
By Chris | January 25, 2009
I just finished Nudge, by Richard Thaler and Cass Sunstein. These University of Chicago professors advocate “libertarian paternalism” which recognizes that people often act irrationally and recommends that governments “nudge” people to make better choices. In their own words:
Libertarian paternalism is a weak, soft, and non-intrusive type of paternalism because choices are not blocked fenced off, or significantly burdened…Still the approach we recommend does count as paternalistic, because private and public choice architects are not merely trying to track or implement people’s choices. Rather, they are self-consciously attempting to move people in directions that will make their lives better. They nudge.
Thaler and Sunstein, reference psychological literature that says that people use two different systems of the thinking: The Automatic System and the Reflective System. The Automatic System is working when we flinch, respond with emotion, or shoot a three-pointer. The Reflective System is at work when we are making deliberate, and conscious decisions like solving an algebra problem. Often, our two systems are in conflict. Your Automatic System tells you to take an extra scoop of ice cream, even though your Reflective System decided last week that you needed to cut back. Over Christmas break, my Automatic System told me to keep playing ping-pong with my brother while my Reflective System told me that I needed to get to sleep before 2:00 am or I’d be a piece of meat the next day.
Often our mind loses the battle, and our Automatic System has it’s way. Nudge is a book about how government can structure choices to encourage us to make better decisions - the decisions our Reflective System wants us to make. I enjoyed the book, although I found the chapters on retirement savings and Medicare choices a bit dull. That might just be a generational thing though, Medicare probably won’t even be around by the time I’m eligible for benefits. Thaler and Sunstein make a lot of practical policy recommendations, many of which I would advocate. However, I take issue with their assumption that our true preferences are always those made by our Reflective System.
Part of what makes us different from animals is that we can think abstract thoughts and control our impulses. Clearly, our Automatic System gets us into trouble sometimes. We overeat, we procrastinate, we take stupid risks, we make choices today that we’ll regret tomorrow. However, our Reflective System also make systemic errors. It often does a very poor job of anticipating the costs and pleasures that will be very salient at a moment in time. When my Reflective System commits to running stairs early in the morning it underestimates both the joy of a little more sleep and the pain my calves will endure. A malfunctioning Reflective System is at fault when someone commits to an ambitious hike only to collapse from exhaustion before he can complete it. Poor reflective decisions cause us to overextend ourselves and stress us out. As an undergraduate, my Reflective System decided to take an overly ambitious course load that left me burnt out and exhausted half-way through the semester.
Moreover, we need our Automatic System to motivate and inspire us. I occasionally write letters to the editor of my collegiate newspaper. My Reflective Systems tells me this is something I would like to do, but my emotional response to truly bad editorials motivates to respond. And, my emotional response is what makes my letter worth reading. Try writing a touching letter, toast, or speech without accessing the emotional, personal, side of yourself. You will fail.
Libertarian paternalism has a lot of merit. We should structure choices to encourage people to save more, donate their organs, make smart investments, and consider the true costs of their actions. But, the Reflective System isn’t infallible and it isn’t always possible to tell what is in someone’s best interest. It is easy to say that I should have studied more for a test. I might even want to engage in a binding commitment to study more in the future. But, the Reflective System often ignores the opportunity cost of doing so: playing basketball, reading a book, cooking a meal, talking with a friend. Quality of life can’t be encompassed by stationary measures like our weight, savings etc. We shouldn’t ignore the utility from a fleeting pleasure, be it chocolate or sleep.
Topics: Behavioral Economics, Political Science, Book Reviews, Economics | 1 Comment »
Thanks
By Chris | January 25, 2009
I’m about to write another post, but first I wanted to to thank all of my readers for sticking with me recently over the past couple months. Between finals and traveling to see my family, December and January are always a busy time. This year I had my qualifying exams to boot, and writing posts for this blog was the last thing on my mind. I was pleasantly surprised then to see 3 comments on my most recent post. In addition, during my recent lull, my page rank increased to 4 and I’ve received some gratis book offers from publishers. The economy has tanked, but my traffic has not. Thanks for reading, it makes writing a lot more fun.
Topics: Updates | No Comments »
How to Make an Economist Mad
By Chris | January 18, 2009
Say that economics isn’t a real science. Someone told me that over Christmas, and I have to admit that it rubbed me the wrong way. I don’t want to delve into what “science” really entails. I’d be the first to concede that economists don’t study the physical world. What bothers me is the all too common disdain for the profession. And, more often than not, it comes from professionals in other fields. For example, while I enjoyed Nassim Taleb’s book, Fooled by Randomness, I was put off by his incessant criticism of economists. He ridiculed the profession for insisting for far too long that humans were perfectly rational beings. Others complain that economists spend too much time trying to outdo each other with complicated mathematical models that have no practical applications. Both criticisms have merit, but are too often overblown.
The general masses are less critical of economists, but too often have unrealistic expectations. When I tell people that I study economics I get a pretty standard response. “Ughh (wincing), I hated that class. But, I guess we need some good economists in times like these, what should we do to get out of this mess?” I don’t know. No one does. There isn’t a magical solution. One of the first lessons learned by economists was that decentralized markets with flexible prices allocate resources much more efficiently than centralized planners. Of course that is based on the assumption that people behave rationally. What about when they don’t? What happens when Americans spend more than they earn and finance their expenditures with equity from their overpriced homes? Prices will eventually fall. That hurts, and there isn’t anything economists can do to ease the pain of the irrationally exuberant.
But, critics of economics might argue, if economists were worth anything they would have prevented the crisis before it started. There are two problems with that: 1) It is impossible to tell when markets are being irrational and when they are responding to changing expectations of the future 2) You can’t keep people from acting irrationally without seriously infringing upon their freedom.
And yet, economics is far from irrelevant. It provides us with all sorts of guidance on how to improve human welfare. Free trade is usually good, taxes can be used to correct externalities, we should minimize the extent to which we distort people’s incentives, moral hazard is a big problem, inflation should be restrained etc. Simple models provide great insights into how rational people will behave in all sorts of situations. Of course, the real world is much more complicated and agents are far from perfect. When things go south it is far too easy to criticize those who study markets. But, we should remember, economists didn’t create this recession, people did.
Topics: Behavioral Economics, Economics | 3 Comments »
The Consequeces of Artificially Low Prices
By Chris | December 10, 2008
Fights are breaking out at Chuck E. Cheese’s (CEC) across the country. From the WSJ:
“In Brookfield, Wis., no restaurant has triggered more calls to the police department since last year than Chuck E. Cheese’s…. [I]n some cities, law-enforcement officials say the number of disruptions at their local outlet is far higher than at nearby restaurants, and even many bars.”
It appears that many fights breakout over the use of popular games:
CEC is considering systemwide signs at popular games such a machine that draws digital pictures of customers to let people know there may be a time or token limit. Making the machines more expensive to use is another option, but Mr. Huston says that is “inconsistent with our value message.”
How is setting a market-clearing price inconsistent with Chuck E. Cheese’s values? While I have not been to Chuck E. Cheese’s, I have visited similar restaurants as a kid. CEC sells a lot of food alcohol. The marginal cost of alcohol is quite high and the marginal cost of giving someone an extra token is very small. CEC has an incentive to keep the prices on its games low so kids will keep playing games while their parents spend money on food and alcohol.
Allocating scarce game time through lines and time limits may also be another way of peak load pricing. Games are effectively cheaper when no one else is there to get in your way. This encourages customers to come on off days. The problem with this pricing scheme is that the lines and congestion can lead to some major altercations between patrons. Consider this example:
Flint, Mich.: Jan. 26, 2008
Flint Township police responded to a call about a large fight at Chuck E. Cheese’s that involved as many as 85 people, according to police reports. A fight inside the restaurant between three females erupted, pepper gas was sprayed and people flooded outside the restaurant into the back parking lot.
Topics: Economics | No Comments »
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