Given time constraints, I wouldn't have guessed that I would be interested at all in reading a book about Thai productivity growth but MIT's Robert Townsend has written an impressive new book.  For all of you microeconomists who are amazed by the long lived representative agent who lives on in Macro, Townsend's book offers some solid micro foundations featuring household heterogeneity.   This book represents a key "micro-macro" bridge.

I bet that all fans of the Roy Model of comparative advantage and self selection into sectors will really like this book.

As discussed in Chapter 6,  each worker faces an occupational choice.  He can work as an unskilled worker, work for a firm, or start his own firm.  But, to start your own firm requires capital to set up the small factory and there is no banking system to lend you the $ so you must self finance.   Townsend introduces heterogeneity along 2 dimensions.  People differ with respect to their wage from working at the firm and they differ with respect to their endowment of wealth (capital).

Rational households self select into the occupations that maximize their utility subject to these constraints.  

If there were perfect capital markets, talented people would start up firms and if they needed capital to do so --- they would borrow it.  Low talent people with capital would not start up firms but would rent their capital to more productive people.

When there are no capital markets; (i.e you can't borrow or lend) --- some talented people will not set up firms because they are liquidity constrained and some morons with capital will set up firms because there is no opportunity cost of setting up such a business.

Financial market "completeness" means that the high talent/low capital people have increased access to borrowing and they now become firms and low talent/high capital people exit the business as they become banks rather than firms.

This firm level composition shifts has "macro consequences" as average TFP rises for this industry due to entry and exit and increases in the scale of the most productive firms and all of this is triggered by financial innovations (i.e the introduction of borrowing and lending).

Note that a Macro TFP accounting researcher would miss all of this.   There isn't any "exogenous technological change" taking place.   There is a sector re-allocation.    If 10 low talent/high capital people exit and 10 high talent/low capital people enter,  a disciple of Solow would say that there has been no change in labor for this industry but that's not true.  The micro model of selection (the Roy Model Townsend writes down) indicates that the workers will now sort on quality rather than quality and capital availability once you relax the borrowing constraint.

To his credit, Townsend has devoted years to collecting data in Thailand and he has cool data on social networks and borrowing and risk sharing.    My only tough question for him is whether there are other "structural models" that could generate the facts that he has documented using these data.  But, this is a very promising vision for how "macro" can be done in the presence of micro heterogeneity.

Google has some fantastic economists working for them.  Did Hal Varian work on the recent Google study focused on the "free lunch" offered by carbon pricing?  Here is  my cross-post on this subject.

China's local governments have borrowed a lot of money from the state government.  Is a crisis brewing?   To quote the article,  "Liu Jiayi, the top auditor in China, said on Monday that at the end of last year local government debt had reached $1.7 trillion, or about 27 percent of the nation’s gross domestic product. He said better regulation was needed to manage the debt risks."

A government loan is "bad" if the net present discounted value of what it financed turns out to be less valuable than the next best alternative that could have been financed with this investment.  So, this raises the issue of what local governments do with the $.   Let's consider a couple of cases;

Case #1;   The local government's bosses steal the money.  In this case, the federal government is buying the peace and macroeconomic growth will slow.

Case #2;  The local government has invested in local public goods such as transportation infrastructure, sewer systems and electricity generation.  These investments will payoff in the long run (assuming they were purchased at competitive prices) but their short run returns are hard to measure.  Using high quality, U.S data it has been hard for economists to tease out the effects of infrastructure investment on local growth.   For an example of such scholarship read Fernald's paper.

Case #3;  the local government has invested the $ in public infrastructure but has overpaid for this stuff by hiring their friends to do the work and demanding kickbacks. In this case, the same nominal loan will purchase less real output (because the price tag will be higher --- think of Boston's expensive Big Dig) and the total impact on local growth will be lower per $ invested by the national government.

Did the local governments have the right incentives to efficiently allocate the loans they received from Beijing? If they own land in the city, then they will.  If they are a monopolist with no chance of losing their local power then they could just steal the  $.  There hasn't been enough discussion about the delegation of capital and whether there are any accountability mechanisms in place in China for monitoring local politicians.

In for profit firms, we have shareholders and boards of directors --- they have an incentive to monitor to make sure the firms are investing efficiently. Who is the equivalent in the China Communist Party?

Research involving human subjects involves benefits and costs.  All universities have created internal review boards (IRB) to minimize the probability that future nerds torture subjects or make phone calls to restaurants claiming that they have received bad service (for details click here or here).   The IRB will sign off on some "deception" studies if they believe that such deception is necessary for testing a hypothesis and that the social benefits outweigh any costs.  The NY Times today announces that the Obama Team will engage in what appears to be a deception field experiment. In a similar spirit as Bertrand and Mullainathan's well known study on discrimination in the labor market, the Obama Team will investigate differential treatment in health markets. I presume they will test whether it is more difficult to schedule an appointment if you plan to pay with an insurance such as Medicaid that offers a low reimbursement rate.

While I understand why this research will take place, it contributes to overall cynicism in society that people are constantly misrepresenting themselves and you never know whether you are having an "authentic" interaction with another person or whether you are being hustled.

I will soon start my second trip to Beijing.  This blog won't be updated at that time because the wise Central Government doesn't allow access to "blogspot blogs".    In Beijing, I'll be working with the Lincoln Institute where I will be giving a set of lectures related to my work on "green cities".   The participants will be professors from many Chinese universities so this will be a very good opportunity to influence how environmental and urban economics is taught throughout China.  My friends Chip Case and Dan McMillen will also be participating.  During that trip, I will visit a friend of mine in Tianjin, and work with my co-author at Tsinghua University.  

I'm greatly looking forward to this trip.  The food is good and the people are kind.  While we all wonder whether China's Superstar cities are in the midst of a housing bubble ,  these continue to be exciting days there.  New construction is taking place as far as the eye can see.  Hundreds of millions of rural people seek a better life as they try to urbanize.   Millions of urbanites are investing in their educations and anticipate participating in the global free market economy.  I must admit that it was strange to see the freshman class at Tsinghua marching around their campus in tight military formations but maybe UCLA should consider doing this to instill discipline and teamwork.  

We need guinea pigs to try out new ideas and to experiment.  Those who stumble upon a good idea will teach lessons to the rest of us.  A Los Angeles couple has built a a very green home.  Note that they are from Germany; a place with high electricity and water prices.  Do they expect that Los Angeles electricity prices and water prices will soon soar?  I don't know but I do know that such experiments serve a useful purpose of alerting others about new design possibilities and to encourage "green developers" to consider alternative ways of building housing.  The article notes that their water consumption will be 50% lower than typical homes.  This type of demand response helps to bring "supply and demand" back into balance if climate change will increase water supply risk.   Pessimists ignore the power of imagination and breaking free from our old ways of living.  We can change our game even those of us not named Dirk.

Want more experimentation in your life?  Well,  here is a piece about one NY Times reporter's happy experience driving the new Chevy Volt.  

Again, here is the dance step of what will unfold.

Climate change will cause shocks that affect "demand curves" and "supply curves" for various commodities ranging from water to electricity to safe housing, etc.  --- these shifts in the "econ 101" curves will change relative prices.  Some forward looking firms will foresee these patterns and will make investments to allow them to "seize the day" when the Homer Simpsons are suffering and desperate.  These "self interested" firms will grow quite rich catering to the needy in our hotter future.  Some of these firms will fail but enough will be trying such that by a law of large numbers some great new adaptation ideas will emerge.   The key here is to promote experimentation and to allow free market prices to reflect true scarcity of natural resources and other commodities as climate change plays out.

Small businesses are a leading growth engine for our economy.  With this point in mind, I was excited to receive this announcement from Beth Laski..


Sean Knibb’s SK1 Furniture Debuts at Calypso Home St. Barth Brentwood
New Indoor/Outdoor Tables, Chairs, Benches, and Cubes Unveiled July 7

Brentwood, CA – Designer Sean Knibb’s latest indoor/outdoor furniture collection has found a
new home at Calypso Home St. Barth. A trunk show will introduce Knibb and unveil nine new
pieces: tables, chairs and cubes on July 7, 2011 at the Brentwood store.

The new partnership brings together a leading Los Angeles designer with a trendsetting retailer
committed to a common goal: creating contemporary and comfortable design-forward lifestyles.
Handcrafted by a team of artisans in Los Angeles, Knibb’s Eldo Dining and Cocktail tables and
Eldo Bench are fashioned with powder-coated recycled iron frames topped with reclaimed
Douglas fir, whereas the Marble Ilex Dining and Marble Eldo Cocktail tables are topped in
Carrera marble. The Negril and Alba chairs also have powder-coated recycled iron frames and
either burlap or sun fabric covered indoor or outdoor foam cushions. Boxwood Cubes are made
with indoor or outdoor foam covered with various bright striped specialty fabrics. All iron bases
are in white, with special orders available in other signature colors.

As an environmental designer, Knibb has an extensive celebrity following and has designed and
installed exceptional residential and commercial projects in Los Angeles, Montego Bay, and the
Hamptons, including recently the much-heralded A-Frame restaurant in Culver City.
It was through his garden designs that he realized the need for responsibly produced furniture
using recycled materials that unites beauty and function with careful consideration to scope, form,
color, texture and composition.

“We are focused on creating beautiful, comfortable and timeless environments with a bohemian
influence, and Sean’s furniture fits in perfectly with the aesthetic that is Calypso Home,” said
store manager Jay Krift. “It’s a pleasure to work with a local designer who shares our passion for
design and the creation of smart furniture handcrafted here.”

Added Knibb: “Calypso and I share the same goals of creating distinct design with timeless style,
while upholding a high standard of quality. I am excited for the opportunity to work with Jay and
his great team at the Brentwood store.”

Retail prices range from $780 to $5,135. Calypso Home St. Barth, Brentwood Country Mart, 226 26th St., Los Angeles, 90402.

Erin Mansur and I have written a paper focused on estimating how the count of manufacturing jobs in a local area responds to that area's labor regulation, environmental regulation and electricity prices.  Abstracting from transportation costs of inputs and shipments of output to final consumers, a cost minimizing production facility will seek out a geographical area featuring low regulation and low electricity prices.  Given that industries differ with respect to their labor intensity, pollution intensity, and electricity they use per dollar of output they create, we predict that those industries that are the most electricity intensive (i.e they use a lot of electricity to make their output) will respond the most to electricity prices.

Our econometric evidence supports all three of these claims.

As the political parties continue to debate the costs and benefits of enacting carbon pricing.  Here is some evidence.  Erin and I ask the following question.  If a state such as California enacts a $15 per ton carbon price while all other states do nothing, what will happen to California's total count of manufacturing jobs given historical patterns from 1998 until 2006.

We predict that such carbon pricing will raise industrial electricity prices by .4 cents per KWh.  California's manufacturing industry is not a major user of electricity and so we predict job loss of 6,648 jobs or a -.5% decline.

Before opponents of cap and trade start to cite these numbers, it is important that clear headed folks keep in mind that this legislation will also stimulate the vaunted "green jobs" for the State.  If this legislation can be shown to create more than 7,000 new jobs for California then I would be more confident in calling this legislation a net jobs creator.  

The key point that nerds need to study is that such legislation simultaneously "destroys jobs" and "creates jobs".   Here is another NBER study.

Given that incumbent firms (who are part of the "old economy") already exist and will complain about placing a positive price on carbon emissions, there is a political interest group asymmetry.  Many of the "green jobs" firms who will be born because of this regulation do not exist yet and thus cannot lobby in favor of the legislation.

	Change in	Percent	Average	Change in
State	Employment	Change	Electricity Index	Electricity Price
Ohio	-27,736	-4.8%	26.9%	$0.013
Pennsylvania	-25,218	-4.7%	28.4%	$0.010
Texas	-20,471	-2.8%	22.3%	$0.009
Indiana	-18,933	-5.4%	27.4%	$0.013
North Carolina	-18,399	-5.4%	25.4%	$0.009
Michigan	-16,653	-3.4%	21.6%	$0.013
Wisconsin	-15,759	-4.7%	27.4%	$0.012
New York	-15,146	-3.1%	22.4%	$0.011
Georgia	-14,930	-6.5%	28.0%	$0.009
Illinois	-14,466	-2.6%	26.1%	$0.012
Tennessee	-13,309	-5.8%	26.2%	$0.010
Alabama	-12,445	-7.2%	28.5%	$0.009
New Jersey	-11,495	-3.9%	27.8%	$0.009
Missouri	-10,928	-5.5%	22.8%	$0.011
South Carolina	-10,508	-6.4%	30.7%	$0.009
Florida	-10,441	-3.4%	21.4%	$0.009
Virginia	-10,396	-6.5%	25.7%	$0.010
Minnesota	-8,498	-3.8%	20.8%	$0.012
California	-6,648	-0.5%	19.5%	$0.004
Kentucky	-6,642	-5.0%	25.2%	$0.013
Maryland	-6,612	-5.6%	24.1%	$0.011
Louisiana	-6,522	-6.4%	26.1%	$0.009

	Change in	Percent	Average	Change in
State	Employment	Change	Electricity Index	Electricity Price
Arkansas	-5,055	-5.9%	26.4%	$0.009
Massachusetts	-5,053	-1.9%	22.3%	$0.011
Iowa	-4,482	-4.9%	23.6%	$0.012
Kansas	-3,916	-3.9%	19.0%	$0.010
Connecticut	-3,874	-2.2%	19.7%	$0.011
Washington	-3,857	-1.8%	20.5%	$0.004
Oklahoma	-3,613	-3.8%	24.3%	$0.010
Colorado	-3,496	-2.9%	20.4%	$0.004
Mississippi	-3,224	-7.7%	22.7%	$0.009
Oregon	-3,177	-2.3%	21.6%	$0.004
Utah	-2,353	-2.6%	21.2%	$0.004
Nebraska	-2,159	-4.4%	22.1%	$0.012
Rhode Island	-1,694	-3.3%	24.4%	$0.011
Arizona	-1,503	-0.9%	19.3%	$0.004
New Hampshire	-1,400	-2.9%	19.8%	$0.011
South Dakota	-917	-5.8%	19.9%	$0.008
Vermont	-710	-4.7%	12.3%	$0.011
West Virginia	-684	-2.4%	38.6%	$0.013
New Mexico	-654	-3.1%	19.3%	$0.004
Montana	-632	-8.3%	30.6%	$0.004
Nevada	-584	-1.5%	25.7%	$0.004
Idaho	-518	-2.4%	10.1%	$0.004
Delaware	-514	-2.9%	26.3%	$0.009
Maine	-462	-2.1%	28.4%	$0.009
Wyoming	-454	-10.6%	23.7%	$0.004
North Dakota	-251	-1.8%	20.1%	$0.012
District of Columbia	0	0.0%	19.4%	$0.009

In this age of field experiments and randomize trials, "old fashioned" natural experiments are not in style. But, permit me to take you back to the 1990s methodology back when I had hair and I was full of ideas and energy.  This article  offers a map of new train routes connecting China's Superstar cities to some 2nd tier cities inland.



As you can see, different cities will be part of the greater network at different dates.  This variation in entry into the fast train network offers some hope of testing hypotheses related to why land has value.

Suppose that everyone seeks to be in downtown Shanghai for work and culture reasons.  Given that there is little land there and demand is high, prices of land in this downtown will be huge.  If transportation innovations arise that allow you to travel to Shanghai from far away places then land even 100 miles from Shanghai will now have value. Intuitively, time = distance/speed so if you can commute at 200 MPG then a location 100 miles from Shanghai is "only" 30 minutes away.  This simple logic highlights how speed increases raises the value of land in the fringe of Superstar cities.

These transportation innovations will lead to a menu of choices for Chinese urbanites and firms.  Those seeking cheaper land will decentralize to these secondary cities but will have relatively easy access to the superstar hubs. Will land prices fall in Shanghai due to these new trains?

I am teaching summer school at UCLA this summer.  There are roughly 65 talented undergrads in my environmental economics class.  I'm a good teacher and I have my own style.  I often look to the NY Times for real world examples to teach.  This article caught my attention and I will start with this example tomorrow morning;

"Portland is disposing of eight million gallons of drinking water because a man was caught on camera urinating in a reservoir. Water from the city’s five open-air reservoirs goes directly to customers. A city official said he did not want to serve water with urine in it. Critics call that an overreaction, saying animals routinely defecate and urinate in the reservoirs and sometimes die in them. Health officials say that urine is sterile in healthy people and that the urine was so diluted it posed little health risk. Officials say it will cost the system’s customers less than $8,000 to treat it as sewage. The 21-year-old man caught on camera has not been charged."

I will pose the following questions to my students;

1.  From a cost/benefit perspective, did the city official make the right choice to ban the drinking water?

2.  What is the optimal fine to impose on future urinators to incentivize  them not to use the reservoir as their toliet?

3. If the public believes the reservoir water is now polluted, while scientists say that the dilution is such that it is safe, should the water be thrown out or still served to the people?