We have lost one of the giants

The great Gary Becker has apparently passed away. One of the most influential economists of the 20th century, along with Keynes and Friedman. He expanded the tools of economics into areas that had been treated as simply not important problems to study - crime, the family, discrimination, and many others. A most worthy posthumous inductee into the Shylock Holmes Order of Guys Who Kick Some Serious Ass.

Ave Atque Vale, Mr Becker. What little I know of microeconomics I owe to your wonderful instruction. I fear we shall not see your kind again soon.

Bravo, Mr Fama!

So Eugene Fama was finally awarded the Nobel Prize in Economics, along with Lars Hansen and Robert Shiller. All of them are thoroughly deserving. I suspect in part that the committee might have felt like a parent finally caving to their child's demand for chocolate - it was easier to give Fama the prize than keep dealing with the implicit mockery when his name topped the list of prospective prize winners year after year after year.

I've written about the excellence of Mr Fama before. What I will note, however, is the interesting nature of the prize. It was awarded to the three economists for "for their empirical analysis of asset prices". Both Hansen and Shiller did their most famous work in this area - the Generalized Method of Moments in the case of Hansen, and the excess volatility of prices with respect to dividends in the case of Shiller.

But curiously, Fama's most famous work is developing the idea of market efficiency - that an efficient capital market is one where prices fully reflect all available information. This can work at several levels - weak form, which covers all past price and volume information, semi-strong form, which covers all public information, and strong form, which covers all information, both public and private.

Simple, right? But people hadn't thought about it in that way.

Market Efficiency was a Nobel Prize worthy insight. More importantly, it was a Nobel Prize worthy insight even if markets are not, in fact, efficient. This is because the concept of market efficiency crucially changed the way the debate was framed and the evidence understood. The people that bang on about how markets obviously aren't efficient because of the 87 crash, or the financial crisis, or whatever, still implicitly accept the framework that Fama laid down. It is very difficult to conceive of what asset pricing would look like without Fama.

Of course, people confuse the real contribution of market efficiency with the related point that markets are actually mostly efficient (which Fama has made statements in support of, though by no means universally or dogmatically). But this is the secondary part - the real genius is the idea, regardless of whether efficiency is 'true' or not. The better way of phrasing the question is how efficient markets are, rather than the boo-hiss pantomime of 'all efficient' or 'all inefficient'.

If you come up with a brilliant idea simple enough for people to understand, they'll dismiss it as obviously wrong and unimportant. If you're like Lars Hansen and do something totally brilliant that nobody outside economics will ever understand the importance of, people will assume that your reputation is deserved.

And hence they didn't give Fama the prize for market efficiency directly - they gave it for his body of work on empirical asset pricing. Which is fair enough, as it gets to the main point. By including Shiller, they also added someone whose work tends to suggest that markets may not be efficient, although again by performing novel tests to examine this question. Don't get me wrong, Shiller is a totally deserving recipient. But it still seems to me that Fama's work is the most central of the three, in the same way that Leonid Hurwicz was arguably the most central in the mechanism design prize of 2007. It seems like the addition of a behavioral person in the empirical asset pricing prize was partly a way of saying that the committee doesn't necessarily think markets are efficient (a totally fair opinion), and also, along with the prize label, to insulate themselves somewhat against clowns who misunderstand the importance of market efficiency.

Still, this is all by the by. A great day for Chicago.

It's been a while since anyone has been inducted into the Shylock Holmes Order of Guys Who Kick Some Serious Ass, but Eugene Fama is most deserving of the honour. Congratulations! Apparently some guys in Sweden rate your work too, but that's not so important.

French Free-Market Economic Wisdom

No, that is is neither a typo, nor sarcasm.

From the great Frédéric Bastiat:

When James B. gives a hundred pence to a Government officer, for a really useful service, it is exactly the same as when he gives a hundred sous to a shoemaker for a pair of shoes.

But when James B. gives a hundred sous to a Government officer, and receives nothing for them unless it be annoyances, he might as well give them to a thief. It is nonsense to say that the Government officer will spend these hundred sous to the great profit of national labour; the thief would do the same; and so would James B., if he had not been stopped on the road by the extra-legal parasite, nor by the lawful sponger.

Let us accustom ourselves, then, to avoid judging of things by what is seen only, but to judge of them by that which is not seen.

Words to live by.

This is taken  from one of his most famous essays, about the broken windows fallacy - that you cannot spur economic activity by destroying assets and claiming that the increased production to replace them is an economic benefit, because this ignores the cost of the forgone spending on other items.

Everyone knows that, right? Nobody is seriously advocating destroying productive assets to boost the economy?

Ha ha ha! Oh, how little you understand Washington!

Bastiat himself was quite familiar with the difficulties of getting politicians to not justify wasteful spending because of it's stimulating effects:

Dear me! how much trouble there is in proving that two and two make four; and if you succeed in proving it, it is said, "the thing is so plain it is quite tiresome," and they vote as if you had proved nothing at all. 

Bastiat discusses at length the implicit arguments of those who demand government protection for their industry:

Ought not the protectionist to blush at the part he would make society play?

He says to it, "You must give me work, and, more than that, lucrative work. I have foolishly fixed upon a trade by which I lose ten per cent. If you impose a tax of twenty francs upon my countrymen, and give it to me, I shall be a gainer instead of a loser. Now, profit is my right; you owe it me." 

They're still saying exactly that.

Bastiat also makes the oft-neglected point that to oppose the government subisidising an activity is entirely different to the question of whether you desire that activity in general. His essay makes the point that subsidy policies are only ever about transferring wealth, not creating wealth. The policy must live or die on the merits of the thing to be susidised, and not the claim that the employment of the labor itself is productive:

But, by a deduction as false as it is unjust, do you know what economists are accused of? It is, that when we disapprove of Government support, we are supposed to disapprove of the thing itself whose support is discussed; and to be the enemies of every kind of activity, because we desire to see those activities, on the one hand free, and on the other seeking their own reward in themselves. Thus, if we think that the State should not interfere by taxation in religious affairs, we are atheists. If we think the State ought not to interfere by taxation in education, we are hostile to knowledge. If we say that the State ought not by taxation to give a fictitious value to land, or to any particular branch of industry, we are enemies to property and labour. If we think that the State ought not to support artists, we are barbarians who look upon the arts as useless.

The essay is most famous for the broken windows analogy. But in fact the whole essay is brilliant throughout. As they say, read the whole thing.

Frédéric Bastiat, in other words, pioneered the concept of opportunity cost (although he didn't coin that term). This is such a basic tool of economic thinking these days that we tend to forget that it wasn't always there. It came about largely because of Frédéric Bastiat. And it's still one of the most powerful arguments against hare-brained government programs - where did the money to fund this come from, and what else could have been done with that money instead?

Here is the moral: To take by violence is not to produce, but to destroy. Truly, if taking by violence was producing, this country of ours would be a little richer than she is. 

As true now as it was in 1850.

Trenchant advocate of economic liberty and opponent of sloppy thinking, M. Bastiat is richly deserving of the posthumous induction into the Shylock Holmes Order of Guys Who Kick Some Serious Ass.

Outstanding Science!

Suppose it is 1983, and you are a doctor who has developed a drug that can produce an erection when injected into the penis. You need to provide evidence of this to an audience of other doctors at a conference.

How might you go about doing this?

Perhaps you'd produce pictures of erections that had been obtained by the injection of the drug. But how could you convince people that these pitctures hadn't been obtained by additional stimulation, or by watching erotic movies or magazines, or even just thinking erotic thoughts?

Science demands proof. And there is one sure way to provide this:

But the mere public showing of his erection from the podium was not sufficient. He paused, and seemed to ponder his next move. The sense of drama in the room was palpable. He then said, with gravity, ‘I’d like to give some of the audience the opportunity to confirm the degree of tumescence’. With his pants at his knees, he waddled down the stairs, approaching (to their horror) the urologists and their partners in the front row. As he approached them, erection waggling before him, four or five of the women in the front rows threw their arms up in the air, seemingly in unison, and screamed loudly. The scientific merits of the presentation had been overwhelmed, for them, by the novel and unusual mode of demonstrating the results.

Yes, really. This is peer-reviewed science, documented in the British Journal of Urology International.

Giles Brindley, for outstanding services to medicine, science, and hilarity, you are hereby inducted into the Shylock Holmes Order of Guys Who Kick Some Series Ass (Third Class).

(via jwz)

In Memoriam: Steve Jobs

Apple is reporting that Steve Jobs has died. A sad day indeed.

Much will be written about him in the next few days, no doubt. The world does not often celebrate businessmen. Steve Jobs was one of the exceptions to this, because his products held such immense appeal to so many people that even those with an instinctive anti-business bent had to admit they were cool. But rather than praise his design skill, or his determination to come back from being exiled from Apple or his many other achievements, I'd like to celebrate something more basic.

Steve Jobs created a truly stupendous amount of value for the world. The $345 billion I was talking about yesterday is only the starting point. The consumer surplus to these products must be many times more than that, as evidenced by the devotion of Apple customers to their products.

It is ridiculously hard to create $345 billion worth of value. This is merely another way of saying that it's incredibly hard to become rich.

And he did it without rent-seeking, without big negative externalities, without lobbying for legally privileged positions, or anything else. He did it the old-fashioned way - creating truly excellent products that people voluntarily wanted to buy, and sold them cheap enough that they treasured the surplus they got. In the end, he seemed at times a victim of his own success, as yesterday's announcement indicated - when expectations become high enough, great products still create market disappointment. Which is why market cap can drop by $8.7 billion, and people will still be lining up around the block to buy the new phone. Which they will be, you can depend on it.

Human nature being what it is, however good the product or service you provide is, people will end up taking it for granted and complaining that they wanted more. Which, I blush to add, I have been guilty of. The point is not that such criticisms are unwarranted, but that I was only motivated to write a post complaining about Apple, and never one praising it. People in this category must be feeling pretty small and mean today, when they finally reflect on what an immensely difficult achievement it is to create such products from scratch.

Society tends to heap the most praise on those whose inventions tend to extend life, but human welfare takes on many different forms. Steve Jobs created gobs and gobs of it, and the world is immeasurably better off because he was born into it. And that is tribute indeed.

Steve Jobs, I hereby induct you posthumously into the Shylock Holmes Order of Guys Who Kick Some Serious Ass.

Ave Atque Vale, Mr Jobs.

A life well-lived

John Harsanyi was one of the founding fathers of Game Theory, a fascinating part of economic theory that examines how agents make strategic choices when the value of their actions depends on the choices of others. In 1994, he won the Nobel Prize in Economics for his work, along with John Nash and Reinhard Selten. Although most people would rate Nash's contribution as the greatest (in discovering Nash Equilibria, the foundation of all Game Theory) Harsanyi added a lot to the understanding of games of incomplete information, greatly expanding the range of situations that can be analysed using Game Theory tools.

Long before this, he also came perilously close to be killed in the Holocaust. He was a Hungarian Jew in Budapest in 1944, which was a pretty damn hazardous situation to be in. As he describes it:

In that November the Nazi authorities finally decided to deport my labor unit from Budapest to an Austrian concentration camp, where most of my comrades eventually perished. But I was lucky enough to make my escape from the railway station in Budapest, just before our train left for Austria. Then a Jesuit father I had known gave me refuge in the cellar of their monastery.

Before winning a Nobel Prize, John Harsanyi escaped both from the mutha-f***ing Nazis in World War 2. But it gets better. He stayed around in Budapest, and became a professor in Sociology:

But in June 1948, I had to resign from the Institute because the political situation no longer permitted them to employ an outspoken anti-Marxist as I had been.

He hated communism, and wasn't afraid to say so. In 1948. In Budapest. Think about that. Would you have had the balls to say that stuff?

But [Anne, his eventual wife] was continually harassed by her Communist classmates to break up with me because of my political views, but she did not. This made her realize, before I did, that Hungary was becoming a completely Stalinist country, and that the only sensible course of action for us was to leave Hungary. 

Actually we did so only in April 1950. We had to cross the Hungarian border illegally over a marshy terrain, which was less well guarded than other border areas. But even so, we were very lucky not to be stopped or shot at by the Hungarian border guards.

John Harsanyi also escaped from the mutha-f***ing Communists in 1950. Holy Hell! 

He got to Australia, didn't speak the language and his credentials were worthless.So what did he do? Complain to a diversity consultant? Protest that the government wasn't supporting him enough? Lobby for Hungarian language education and civic notices?

As my English was not very good and as my Hungarian university degrees were not recognized in Australia, during most of our first three years there I had to do factory work. But in the evening I took economics courses at the University of Sydney. 

No, instead of bitching, he worked his ass off in a factory and studied economics at night.

And then won a God Damn Nobel Prize in the subject. 

If Milton Friedman and Chuck Norris had a son together, that son would be John Harsanyi.

John Harsanyi, for being a wicked economist, an opponent of tyranny and a thoroughly hardcore dude, you are hereby post-humously inducted into the Shylock Holmes Order of Guys Who Kick Some Serious Ass.

I was reading about this, and two things occurred to me.

The first is how close the world came to never having heard his insights. It's probable that someone else would have figured out similar ideas eventually, but the economics profession and the world benefited greatly from having John Harsanyi pass through this vale of tears. Any small number of mishaps, and he would have been one more unknown death statistic for the Nazis or Communists.

And that is the second point is this - how many John Harsanyis didn't make it? How many more Nobel prize winning insights were lost to the butchers of Auschwitz, the cowardly scum of Nanking, and the rest of World War 2's parade of horrors? The Holocaust in particular killed millions of Ashkenazi Jews, a group notable for their unusually high intelligence. It is a virtual certainty than many future prodigies were killed over those years, whose insights might have advanced human knowledge and welfare in ways we'll never know. What a horrible, criminal waste of humanity. The deaths of the many ordinary people in World War 2 are no less tragic for their lack of extraordinary potential. But it's hard not to wonder at what might have been. 

Earth Hour - Nonsense on Stilts

Can there be an event more thoroughly deserving of scorn and derision than Earth Hour? This is the time when sanctimonious hairshirt poseurs deign to turn off their lights for an hour, in order to do... well, I never quite figured out what. Protest consumerism, or show solidarity with the environment, or conspicuously show off their concern for Gaia, something. Whatever it's meant to be about, I'd basically just written it off as a stupid token gesture.

But Ross McKitrick isn't content to just roll his eyes and nod along with it. He presents a very deeply felt argument of why the idea is loathsome to him:

"The whole mentality around Earth Hour demonizes electricity. I cannot do that, instead I celebrate it and all that it has provided for humanity....

I don’t want to go back to nature. Travel to a zone hit by earthquakes, floods and hurricanes to see what it’s like to go back to nature. For humans, living in “nature” meant a short life span marked by violence, disease and ignorance. People who work for the end of poverty and relief from disease are fighting against nature. I hope they leave their lights on."

Spot on. This is the most stirring defense of Julian Simon economics that I've read in recent times, but one that views human progress as something that needs defending, rather than something inevitable.

If the name Ross McKitrick sounds familiar, it's because he was one of the two authors (along with Steve McIntyre) who pointed out that the hockey stick graph was based on Michael Mann not knowing how to do principal components analysis. Michael Mann, you may recall, is the guy who was implicated in the Climate-gate controversy, for using his 'trick' to 'hide the decline' in temperatures, thereby adding bad faith to bad statistics.

Ross McKitrick, you are hereby inducted into the Shylock Holmes Order of Guys Who Kick Some Serious Ass.

(thanks to Coyote for the pointer)

It Takes Brass Balls...

...to be a double agent working against the Nazis in WW2.

It takes even bigger brass balls to be so good at it that you manage to receive both the MBE and Iron Cross.

For services to the Allies in fighting the Nazi menace and generally having enormous cojones, Juan Pujol Garcia is posthumously awarded honorary membership of the Shylock  Holmes order of "Guys who kick ass".