Monday, July 22, 2013

Euvoluntary Inequality? A Tale of One Cities

Greg Mankiw posted a thought-provoking graph last Friday. If you take it at face value, the "disappearing middle class" is more a matter of upward mobility than declining fortunes.

There are plenty of discussions that could be built on N. Greg's graph, from the changing role of wealth vs income welfare metrics in the economics profession over the years, to the nature of urban or information or plain ol' relative price economics, to the winnowing strand between the streams of the poor and the banks of the rich. I, iPad. But buried in there is a rather severe institutional and public choice critique that asks tough questions about the scope of euvoluntary exchange.

In ever so slightly related news, Bob Murphy micturated on a hornet's nest recently when he had the brazen audacity to challenge a climate change report in front of the "honorable" Senator from the Golden State Babs Boxer. His big point was that the report neglected to present present value calculations using a 7% discount rate, sticking only with much lower discount rates. His integrity was quickly questioned and testimony haughtily ignored as he's a sucker on the tentacle of the mighty and vast Kochtopus.

PAA, Sarah.

What was Murphy's point and why should anyone give two shakes about "discount rates"?

In simple terms, the discount rate is a measure of how much we care about the future. That's not exactly right though, because it's a composition of a bunch of different things, all grounded in (subjective, of course) risk and uncertainty assessment. Yes, there's some concern over future generations in there, but that's sort of like a field force, like gravity: it's always there and does nothing to help pick between 1%, 3% and 7%. Nor does it do much of anything to select the shape of the (implied) yield curve*.

Take two people. Alan and Brenda. Alan was born in the Grady projects in late 70s Atlanta. Brenda arrived a year later, swaddled in a designer bassinet in Buckhead. Alan's mom worked as a house cleaner and his dad was in and out of prison for petty larceny and minor drug offenses. Brenda's mom was an heiress and her dad a state senator. Alan learned sheet metal fabrication at Chattahoochee Tech, Brenda was a Rhodes scholar at Swarthmore. Both of them were diligent, prudent, and conscientious. Yet despite similar personality characteristics, Alan had a higher discount rate, that is to say, he planned less for the distant future than Brenda. Why? Not for lack of ambition or imagination, but because planning decades in advance is an outrageous luxury when your job is threatened by foreign competition, your life and liberty are threatened by criminal justice professionals, and your home is threatened by "urban renewal" projects. Are income differences between Alan and Brenda unjust? Are they brought about by non-euvoluntary exchanges?

Initial endowments are seldom if ever exogenous. Which means that neither are discount rates.

And discount rates help determine big choices. Choices like the sort of higher ed to pursue, the mating market to frequent, the career path to attempt. Discount rates limit alternatives.

Discount rates limit alternatives, so Alan's BATNA is necessarily different than Brenda's in almost every relevant major exchange scenario. Does the fact that Alan decided not to pursue an elite liberal arts degree suggest that becoming a metalworker was not euvoluntary? What about the times when Alan decided to spend $150 on a pair of sneakers instead of getting a $20 pair and putting the balance in a Traditional IRA? If Alan and Brenda's decisions are at least partly a function of their discount rates and their discount rates are generated by institutional uncertainty, it might be that measured income inequality has at least something to do with the logic of collective action.

The strange habit of politicians to shovel wads of cash from poor to rich is dismaying, but at least somewhat predictable. Less predictable and more worrying is the tendency to tinker with legislation in a pie-eyed crusade to fix problems generated by the unintended consequences of past legislative errors. Sure, the grand public works projects of decades past may have turned out horribly, but this time is different. Right? Alcohol prohibition was a disaster, but marijuana is different. Right? Stop-and-frisk is reasonably prudential for public safety. Right?

Constituent, please.

Inequality is a problem insofar as it's bolstered by unjust institutional arrangements. Stop making low-skilled labor unemployable by minimum wage and licensing restrictions, stop threatening them with prison, stop evicting them because some local city council wants to increase its tax base, and then maybe we can check back to see how euvoluntary exchange produces measured income inequality. Policy that encourages people to focus on the present will only ever exacerbate the problem.

Of course, maybe that's the point.

*"Yield curve" has a technical meaning to do with interest rates. It's determined from the term structure of debt instruments, and it's a function of the spot price of securities of different maturities. Though it's subjective and personal, you can at least in your imagination impute a similar yield curve for people's individual discount rates, more or less.

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Do you have suggestions on where we could find more examples of this phenomenon?