econlife - Six Handy Economic Ideas That Describe Our Coronavirus Response by Elaine Schwartz

Six ideas can summarize any basic economics course. They also can describe our response to the coronavirus pandemic.

Coronavirus Economics

1. Opportunity Cost

This is the big picture. Because the opportunity cost of a decision is what you decided not to do, choosing is always refusing. With coronavirus policy, some say we are choosing between the economy and safety– our wealth or our health.

Not so.

We’ve looked at a study from economist Austin Goolsbee. He and others have shown us statistically it’s not the lockdowns that slow the economy. It is the fear of illness. So, rather than a tradeoff, our health will fuel our wealth during the pandemic.

2. Demand

Defined economically, demand is an entire schedule of price quantity pairs. It is what we are willing and able to buy at each price. Naturally, thinking of saving money, we are willing and able to buy more at lower prices.

Now with the coronavirus, our demand has shifted. Whether looking at the U.S., India, the U.K., or Canada, demand for groceries, household goods, and medicines is up. The surveys took place on June 27th.

The U.S.:

India:

The U.K.:

Canada:

3. Supply

Defined economically, supply is an entire schedule of price quantity pairs. It is what producers are willing and able to provide at each price. Naturally, thinking of potential profits, they are willing and able to make more available at higher prices.

Now, with the coronavirus, supply has shifted. One example is the rerouting of the supply of food and paper goods from bulk buying institutions to individual households.

At econlife, toilet paper was one example. Imagine a fork in the road for our toilet paper supply. A part of it goes to commercial establishments from one group of paper mills. Those shipments typically move on huge pallets with more “utilitarian” recycled paper in larger rolls. Meanwhile, what we buy in the supermarket is typically 100 percent virgin fiber. It feels and looks better.

We could say that one market is commercial and the other is consumer. The problem though is that each has a different supply chain. Toilet paper is not alone. The bananas destined for restaurants and school cafeterias are smaller than what we buy in grocery stores. Indeed, all that used to flow through our restaurant and institutional supply chains have nowhere to go.

4. Monetary Policy

A country’s monetary policy relates to its supply of money and credit. During normal times, the money and credit supply matter. They matter because there needs to be a balance between what we can spend and what we produce. Sort of like the Goldilocks and the Three Bears, if there is too much to spend then prices rise. If there is too little, then we diminish production. The goal is “just right.”

It used to be simple to explain the Federal Reserve’s monetary policy. The Fed raises and lowers the discount rate that it charges banks for loans. It targets interest rates and the money supply by buying and selling government securities. And rarely, it changes financial institutions’ reserve requirements.

Now, because of the coronavirus, the Fed has become a lender of last resort by providing loans to banks so that they can loan money to you and me. Also, they are buying assets that help money market funds deal with withdrawals. In addition, the Fed is helping to implement the CARES Act stimulus programs and helping riskier businesses borrow money.

5. Fiscal Policy

Congress and the President are responsible for the spending, taxes, and borrowing that we call fiscal policy. During the pandemic, the fiscal policy headline has been the March 27, 2020 CARES Act. The following Wall Street Journal graphic makes it look very neat and clean. We should note that it was not.

But this was the plan for the Coronavirus Aid, Relief, and Economic Security Act:

6. International Trade

When it comes to medical supplies, international trade is especially relevant.

In 2018, the medical supplies we need for COVID-19 represented many billions of dollars of world trade: However, buying what we need for the COVID-19 pandemic has become increasingly difficult. By March 21st, 54 governments had declared export restrictions. The curbs included bans, government approvals, more stringent licensing rules, and state agencies cornering the market. All are examples of obstacles that block foreign purchases.

Globalization helps to increase our medical equipment supply. Even if restrictions temporarily increase local availability, ultimately, manufacturers have less incentive to ramp up production because their market is limited. Furthermore, the expense of restrictions can be costly for governments that need to allocate limited finances toward fighting the outbreak. Most crucially though, export curbs diminish the cooperation and trust that can help everyone.

And of course, I think of David Ricardo’s comparative advantage. Here, he would surely hope that nations with the lowest opportunity cost produce masks or ventilators. Only then will we optimize the worldwide output that we so badly need.

Our Bottom Line: Behavioral Economics

If we dug more deeply into each of our six ideas, we would see the change in our behavior. Nobel Laureate Richard Thaler would say that we are receiving nudges. Those tiny shoves are incentives that have transformed our daily lives.

My sources and more: Thanks to WSJ’s Andy Kessler for giving me the idea for this post. From there, I’ve returned to past econlife posts.

Ideal for the classroom, econlife.com reflects Elaine Schwartz’s work as a teacher and a writer. As a teacher at the Kent Place School in Summit, NJ, she’s been an Endowed Chair in Economics and chaired the history department. She’s developed curricula, was a featured teacher in the Annenberg/CPB video project “The Economics Classroom,” and has written several books including Econ 101 ½ (Avon Books/Harper Collins). You can get econlife on a daily basis! Head to econlife.

econlife - Six Facts About How Supermarkets Influence What We Buy by Elaine Schwartz

Like me, have you ever raced into your local market to get some milk and passed through produce and other aisles, grabbing some items you never realized you needed? One supermarket executive called it “building the basket” when they lure us to the rear of the store. (It is also true that if they didn’t move the milk from the truck to a back cooler, they would diminish refrigeration time and increase labor expense.)

But still, the store did nudge me to spend more money.

Six Facts About How Supermarkets Influence Us

1. Supermarket bars and restaurants affect our spending.

Yes, supermarkets are adding bars. Called a “superbarket” in Vox, grocery stores are inviting us to drink while we shop. For them, it’s a win-win. Groceries are low margin purchases but not booze. And after a drink or two, maybe, as we careen through the grocery aisle, we buy more. Whole Foods started it all in 2009. Then others copied. Similarly, Eater said we now have the “grocerant” where we can eat dinner too.

2. Music can impact how much we spend.

In one classic 1982 study, researchers observed the response to no music, slow tempo music, and fast tempo music. Keeping track of pace also, they hypothesized that the slower movements that responded to calmer music were accompanied by more shopping.

Taking the next step at a wine store, psychologists looked at whether the type of music made a difference. Discovering it did, they found that French music was correlated with French wine sales, And yes, German music increased the German wine purchases.

3. The size of our supermarket cart affects our purchases

Carts have gotten bigger. The supermarket cart was first invented (1937) by a retailer who wanted us to buy more than we could carry. More recently, stores have larger aisles, women working away from home who can visit the market less frequently, and stores like Costco that encourage bulk purchases. Whatever the reasons, journalists say that carts have tripled in size from 1975 to 2000. Others claim that Whole Foods doubled cart size between 2009 and 2011. However, the one statistic that seems most reliable indicates that when a researcher doubled cart size, customers bought 19% more.

4. Shelf layout influences our decisions.

Supermarkets have to decide who can occupy their prime “property.” Like beachfront homes, the supermarket checkout area is a coveted location. For the same reason, a separate display at the end of an aisle is a desirable spot. And, in a typical cooler, we would mostly see products from large multinationals. For example, Dreyer’s, Skinny Cow, Edy’s and Häagen-Daz are actually all Nestlé. Similarly Magnum, Ben & Jerry’s, Breyer’s, Klondike and Talenti are from Unilever. If the aisle had 24 doors, only two might lead to the generics and niche brands.

5. Product descriptions affect what we think we should buy.

At Trader Joe’s, a smaller U.S. grocery chain (owned by Germany-based Aldi), they care about their adjectives. Catering to a niche market of shoppers who want bargains and healthy food, they mostly name and sell their own brands. The label on some nuts could say Sea-salt-and-turbinado sugar-chocolate almonds while a chicken dish is spatchcocked lemon-rosemary chicken. That turbinado just refers to a certain type of sugar cane. But it sounds good.

6. Finally, it’s the choice dilemma.

Some stores like Trader Joe’s believe less is more. Typically they have only 3,000 or so SKUs–stock-keeping units–the number of items in a store. A normal supermarket has more than 35,000 SKUs.

According to Columbia professor Sheena Iyengar, less of a choice generates higher sales. However, the bigger chains give us much more.

Our Bottom Line: Nudges

Nobel Laureate Richard Thaler and his co-author Cass Sunstein tell us that we go through life influenced by nudges that shape our behavior. A behavioral economist calls the phenomenon choice architecture. Indeed, through sound, transport, language, choice, and placement, the “architecture” of the supermarket affects how much money we spend.

My sources and more: If you just listen to one podcast about supermarket behavior, I recommend this Freakonomics episode on Trader Joe’s. However, to read onward, you can look at Consumerist for cart size, this classic study for music, and Businessinsider for the wine study. Then Vox and Eater told me about grocery store bars and restaurants while NPR explained why the milk is in the back of the store.

Ideal for the classroom, econlife.com reflects Elaine Schwartz’s work as a teacher and a writer. As a teacher at the Kent Place School in Summit, NJ, she’s been an Endowed Chair in Economics and chaired the history department. She’s developed curricula, was a featured teacher in the Annenberg/CPB video project “The Economics Classroom,” and has written several books including Econ 101 ½ (Avon Books/Harper Collins). You can get econlife on a daily basis! Head to econlife.

econlife - Those Subscriptions That We Love to Buy (and Barely Use) by Elaine Schwartz

MoviePass subscribers can see up to one movie a day. They just go to a theater and use an app that sets up the ticket payment. While a subscription used to be $50 a month, now you pay a jaw dropping $6.95 for 30 movies. The catch? You have to pay for a whole year upfront and add a $6.55 processing fee.

This is the story and then some economic insight…

The MoviePass Subscription

Soon after you sign up for MoviePass, a debit-like card will arrive in the mail. Then, you use their app to select a film and to check-in. At that point, they transfer the price of the ticket to your card so you can use it to pay as you enter.

This person used his app to see Dunkirk. “Success” meant the money had been transferred to his card:






The Numbers

MoviePass is very aware that the average moviegoer goes to a theater just 4.5 times a year. If their subscribers went daily, the firm would be paying an average of $8.97 a ticket or maybe $270 a month per person (unless it had a special deal with the theater). And if we are in a big city like New York or San Francisco, the ticket price soars to $16.50. But MoviePass does not have that problem. A whopping 88% of its subscribers underuse their MoviePasses.

And that takes us to behavioral economics.

Our Bottom Line: Mental Accounting

Nobel Laureate Richard Thaler explained seemingly irrational consumer behavior through mental accounting.  The following example is somewhat comparable to the MoviePass people who underuse their subscription. It is about Thaler’s friend at a department store quilt sale:

“The spreads came in three sizes: double, queen and king. The usual prices for these quilts were $200, $250 and $300 respectively, but during the sale they were all priced at only $150. My friend bought the king-size quilt and was quite pleased with her purchase, though the quilt did hang a bit over the sides of her double bed.”

As Thaler described, assigned to specific “mental account,” a purchase gets a reference that lets you know if it is cheap or expensive. Not only did the (mental) account for the quilt benefit but also the woman enjoyed an elevated transactional utility from the cheap purchase. Similarly, once MoviePass lowered the monthly subscription rate below $10.00, people’s “mental account” or imaginary bucket for entertainment got a bargain. And like the king-size quilt, the transactional utility of the purchase created a pleasure that far outweighed the reality of using it.

At this point we might even throw in the optimism bias from another economics Nobel Laureate, Daniel Kahneman. Defined as the difference between an expectation and its outcome, I wonder if the optimism bias (typically applied to risk taking), also explains why MoviePass buyers thought they would attend far more performances than they realistically would be able to fit into their lives.

So, returning to where we began, we have a lower MoviePass price that appeals to our mental accounting and takes advantage of our expectations bias.

My sources and more: This NY Times article on MoviePass started me thinking about the concept. From there, my investigation led me to The Hollywood Reporter  and BusinessInsider. and the perfect complement, Richard Thaler’s mental accounting paper.

Ideal for the classroom, econlife.com reflects Elaine Schwartz’s work as a teacher and a writer. As a teacher at the Kent Place School in Summit, NJ, she’s been an Endowed Chair in Economics and chaired the history department. She’s developed curricula, was a featured teacher in the Annenberg/CPB video project “The Economics Classroom,” and has written several books including Econ 101 ½ (Avon Books/Harper Collins). You can get econlife on a daily basis! Head to econlife.

econlife - When Organ Donors Need More Than a Nudge by Elaine Schwartz

Economic research tells us that default options are powerful. Because they ask us to do nothing, we tend to select them. So, if the default retirement plan encourages the most saving, many of us wind up putting more aside. Or, if we are defaulted into a high co-pay health insurance plan, we take it.

But really, it is more complicated.

Where are we going? To a closer look at deceased organ donations.

Organ Donation Defaults

In France, deceased organ donation recently became the default.

People will automatically donate their organs when they die unless they actively “opt-out.” Reading Richard Thaler, most of us would say the nudge should work. And yes, when the law went into effect on January 1, 2017, only 150,000 out of a possible 66 million had signed the “refusal register.”

Similarly, with opt-in as the default, Spain has led the world with a 35.7 out of 1 million donation rate. But here is where it gets tricky. Looking further, you would discover that Portugal and Belgium’s donation rates are similar to the U.S. And yet, the former two countries have the “opt-in” default. Furthermore, when Australia (+41%) and the U.K. (+36%) successfully upped their 2009 deceased organ donation rates by 2014, they did not change their consent systems:

Our Bottom Line: Spillover

From a study on how to boost New Zealand’s deceased donor organ rate, I saw some of the behind-the-scenes issues. My takeaway was that increasing deceased organ donations has to involve institutional spillover.

Looking at Spain, Portugal, and Croatia, the New Zealand study said you need the following. (Some I directly quoted while others I summarized):

• an appropriate legal, ethical, and governance framework
• a national coordinating body
• hospital-based donation specialists
• specialist training
• financial and media support
• international best practices sharing

Where does this leave us? Sometimes a nudge is not enough.

My sources and more: For nudges generally, Richard Thaler (2017 economics Nobel laureate) talks about them in a Yale Insights article. More specifically, for organ donation, you might enjoy this NY Magazine article. But for the story behind the nudge, this New Zealand report from its Health Ministry has the best information.

Ideal for the classroom, econlife.com reflects Elaine Schwartz's work as a teacher and a writer. As a teacher at the Kent Place School in Summit, NJ, she’s been an Endowed Chair in Economics and chaired the history department. She’s developed curricula, was a featured teacher in the Annenberg/CPB video project “The Economics Classroom,” and has written several books including Econ 101 ½ (Avon Books/Harper Collins). You can get econlife on a daily basis! Head to econlife.

econlife - The iPod, Starbucks, and Richard Thaler’s Behavioral Economics by Elaine Schwartz

Discussing the iPod he designed, Tony Fadell expressed his frustration with products that said “charge before use.”

He remembered arriving home excited about a newly purchased gadget. But then his emotional momentum would hit a wall when he discovered he could not immediately play with it. So Tony Fadell and Steve Jobs created a fully charged iPod that was ready to use.

Fadell and Jobs were not the only ones concerned with emotional momentum.

 

The Starbucks Consumer

Starbucks founder Howard Schulz also targets consumer emotion. When he developed the Starbucks concept during the 1970s, he said they were a “third place,” a home away from home. Now though, with a Starbucks on every street, the allure has diminished.

Globally, you could select among more than 25,000 Starbucks for a cup of coffee:

Realizing there was a niche where he could re-invent himself, Howard Schultz left his CEO position to focus on the chain’s roastery stores. The result so far is more than 30 coffee bars that sell high-end beans and Starbucks regular brews. The chain also projects opening larger roasteries with “rare and exotic” coffees. Resembling a wine bar, these upscale coffee stores will offer small-batch roastings that encourage consumers to spend $5 to $10 and more for a cup.

As was true for the original Starbucks, the experience matters as much as the product.

 

Our Bottom Line: Behavioral Economics

Asked how he was going to spend his 2017 Nobel Economics Prize, Richard Thaler said, “irrationally.” Dr. Thaler explained that (like all of us) he does a mental accounting of his consumption decisions that divides purchases into categories. In the slot reserved for extravagances, he was planning to use the Nobel prize money.

Dr. Thaler’s mental accounting lets us understand consumer spending that will not neatly fit into the logic of traditional economics. In the Thaler model, demand and quantity demanded do not necessarily decrease as prices rise. One reason is his “extravagance slot.”

Through behavioral economics, we can explain our spending on Apple’s products and a $7 cup of coffee (that is mostly water) by recalling the need for emotional momentum.

My sources and more: Sitting here in a typical suburban U.S. Starbucks, I wondered how they could create a better experience and found this Bloomberg article. But then I remembered Tony Fadell’s TED talk and (happily) realized it all fit together. To complete the puzzle, you might also enjoy this summary of Richard Thaler’s work as the father of behavioral economics.

Ideal for the classroom, econlife.com reflects Elaine Schwartz's work as a teacher and a writer. As a teacher at the Kent Place School in Summit, NJ, she’s been an Endowed Chair in Economics and chaired the history department. She’s developed curricula, was a featured teacher in the Annenberg/CPB video project “The Economics Classroom,” and has written several books including Econ 101 ½ (Avon Books/Harper Collins). You can get econlife on a daily basis! Head to econlife.

econlife - The Story of a Nudge and the Nobel Economics Prize by Elaine Schwartz

A 70 out of 100 points and a 96 from 137 are the same grade. But Richard Thaler’s students did not think so. Told they got a 70, most were angry. But the 96 made them happy. Thaler even said that scores above 100 generated “a reaction approaching ecstasy.”

A rational thinking economist would say a 70% on a test is a 70% no matter what the point score. However, Richard Thaler is an economist who believes people can behave irrationally. And for that reason, he is the 2017 recipient of the Nobel Memorial Prize in Economics.

Thaler’s Nudges

By understanding the gap between economic logic and how we behave, Richard Thaler with co-author Cass Sunstein created a new niche for public policy called the “nudge.” Behavioral economists call it choice architecture. They are “organizing the context in which people make decisions.”

Thaler reminds us that public and private programs shape our behavior. So why not “organize the context” to optimize results? Deciding whether to save for retirement, most of us take the default option. Consequently, that default should be an optimal choice. To maximize tax revenue, government’s nudge squads have discovered that they need to tell scofflaws that their neighbors pay taxes. Emphasizing a social norm gets more money than frightening people with penalties.

Similarly, Dr. Thaler explained that consumers will not necessarily do what economists expect. One tendency is to look back at sunk costs (what we have already sacrificed) rather than assessing future tradeoffs. If we wait for someone to pick up the phone, we have a greater tendency to continue waiting. If government starts a project, it is more likely to try and finish it. In each instance, the decision makers are ignoring the current cost of proceeding. Instead they are looking back.

In a The Big Short (2015) cameo, Dr. Thaler briefly tells Selena Gomez about the Hot Hand Fallacy:

  

You can see where all of this is going. The rational economic thinker cares about opportunity cost. Believing in the “hot hand,” she pyramids a bet and then loses. A behavioral economist can explain why our behavior is less than optimal.

Our Bottom Line: Libertarian Paternalism

Taking the final step with Richard Thaler’s work, we wind up with policy suggestions. In contrast to Adam Smith’s invisible hand, the nudge recognizes human irrationality. But like the invisible hand, it can bring the best out of us.

Talking about the nudge, Thaler and Sunstein called it libertarian paternalism. It is libertarian because you don’t have to listen to the nudge. But it is also paternalism because a more powerful authority is trying to manipulate your behavior.

And that returns us to a 96 on that 137 point test. You can recognize it as a 70/C or just be happy with your 96.

My sources and more: For Thaler the person, I recommend this Chicago Tribune article. Combined with this discussion of his work, you get a portrait of a fascinating gentleman and scholar. But, if you just want the grades story, it is in the NY Times.

Ideal for the classroom, econlife.com reflects Elaine Schwartz's work as a teacher and a writer. As a teacher at the Kent Place School in Summit, NJ, she’s been an Endowed Chair in Economics and chaired the history department. She’s developed curricula, was a featured teacher in the Annenberg/CPB video project “The Economics Classroom,” and has written several books including Econ 101 ½ (Avon Books/Harper Collins). You can get econlife on a daily basis! Head to econlife.

econlife -The Upside of Texas Price Gouging by Elaine Schwartz

During the Hurricane Katrina clean-up, a man from Kentucky loaded 19 generators onto his rented U-Haul. Driving 600 miles to an area of Mississippi with no power, he tried to sell them. His price was double what he had paid.

The man never sold his generators. He was called a price gouger and wound up in jail for four days. Disagreeing, an economist would say he was solving a shortage problem.

Price Gouging

The Texas Attorney General’s office has received complaints about $3.50 a gallon gasoline and a $99.00 case of water. Because the Governor of Texas declared Harvey a disaster, those excessive prices for necessities are illegal in Texas.

As of 2012, more than 30 states had regulations that prohibited “excessive” price hikes during a disaster. (I could find no evidence that any of those states eliminated the regulation since then.):

When Hurricane Sandy struck my neighborhood in 2012, I learned firsthand about anti-price gouging regulation. New Jersey says that any retailer charging prices that rise more than 10% above their normal level during a state of emergency is violating the law.

During the NJ emergency, my local gas station resembled the following picture. Where they could find an open station, people waited on gas lines for as long as 3 hours:

Our Bottom Line: The Price Gouging Debate

If you oppose disaster price hikes, you are in good company. Nobel economics prize winner Daniel Kahneman said that businesses need to be known as fair in “Fairness as a Constraint on Profit.” Referring to economists who favor “gouging,” one of his co-authors, Richard Thaler recently added, “They are misunderstanding that if you piss people off, you pay a price…”

However, anti-gouging laws create a tradeoff.

On the supply side, higher prices encourage producers to sell more gas. They work a little harder to find extra, they extend their hours, and they buy generators in areas that tend to lose power. Meanwhile, higher prices encourage consumers to buy less. As a result, those of us at the back of the line have a chance of getting gas.

It can be win-win. Price increases during an emergency encourage the supply side to provide more and the demand side to conserve.

By contrast, the price ceiling that a price gouging law establishes creates a shortage:

So maybe $3.50 gas and $100 water in Houston are okay?

My sources and more: This excellent HBR article on price gouging gave some good background for assessing Texas policy as did this Mises Insitute discussion. More broadly, this econtalk podcast on a just price made one of my morning walks fascinating. But for the up-to-date news and regulation, you might just want to look at Business Insider and the Texas Attorney General’s office. And finally, here is the Kahneman fairness paper.

Please note that parts of this post were previously published at econlife.

Ideal for the classroom, econlife.com reflects Elaine Schwartz's work as a teacher and a writer. As a teacher at the Kent Place School in Summit, NJ, she’s been an Endowed Chair in Economics and chaired the history department. She’s developed curricula, was a featured teacher in the Annenberg/CPB video project “The Economics Classroom,” and has written several books including Econ 101 ½ (Avon Books/Harper Collins). You can get econlife on a daily basis! Head to econlife.