|
Lecture Notes: Sept. 9 |
|
Econ. 103, Fall 2002, Prof. Nancy Folbre |
|
Here's the other side of the argument, in a song written and recorded by the Beatles not long after "Money, It's What I Want" It has that sweet idealistic quality that John and Paul were good at in the 1960s. A Beatles fan in the audience tells me I mischaracterized the relationship between the two songs–they weren't recorded that far apart in time, so they probably don't reflect some change in the economic success of the group...and since they actually wrote this song, but only recorded the former, it's probably fair to say that they came down on the side of love rather than money.
John Lennon and Paul McCartney, recorded in 1964 By the way, I made a mistake on the syllabus. September 23 is NOT a holiday. What was I thinking of? It was some kind of weird dream.... I promised you some updates on corporate scandals–and urged you to consider the example of Gordon "Greed is Good" Gekko in the movie Wall Street. The next day I heard a radio report on National Public Radio. Chainsaw Al Dunlop, previous CEO of Sunbeam, the maker of electrical appliances such as coffee pots and toothbrushes. He's known as Chainsaw Al because he was a famous "downsizer" who often tried to turn companies around by cutting their labor force back drastically....(there's considerable debate about how effective this is as a strategy). One indication of the pride he took in his willingness to inflict pain is the title he gave to a book he wrote, Mean Business. When he became CEO of Sunbeam, he dramatically increased profits, but it turns out that he accomplished this by cooking the books, misstating the companies revenues and costs....The Securities and Exchange Commission, also known as the SEC, caught him in the act (long before the Enron debacle), fined him a large amount of money and prohibited him from ever serving as a CEO again... What struck me in the radio report was that Dunlop was quoted as once saying "if you need a friend, get a dog." And this line is right out of Oliver Stone's script for Wall Street...I don't know if he was quoting Al or Al was quoting him.... Some of you stuck around to watch that clip in which Michael Douglas, playing Gordon Gekko, gives a speech to the stockholder's meeting of Teldar Paper.... I'd like to review it for you. First of all, what is a shareholder's meeting? Owning shares of stock makes a person (or an institution) a part-owner in a company. Owners have the right to hire and fire managers. Rules of incorporation require a publicly held company (that is, one that has issued shares of common stock) to hold an annual meeting of the owners. Stock ownership is highly fragmented–often there are hundreds of thousands of shares...and it is unusual for any one person or institution to own enough to exercise any significant control. Furthermore, very few shareholders take the trouble to attend meetings. So, for the most part, they are ritual affairs in which no important decisions are made... But sometimes an issue comes up–like an effort to buy up a large quantity of shares and kick out old management and replace it with new...a so-called hostile takeover... and an actual vote becomes important...(we may see another example of this later in the semester with a clip from the film Other People's Money). In Wall Street, Gekko is leading a hostile takeover of Teldar Paper. He has acquired a large chunk of shares, he's trying to persuade the shareholders to vote, with him, against the existing management. He argues that they are lazy and overpaid, because they are working for a salary rather than for a share of the profits, or a stake in the company. This is an important point, because this is exactly the reasoning that prompted many corporations to start paying their CEO's (chief executive officers) with stock options as well as salary in the 1990s. A stock option is an option to buy shares in the company at a fixed price over a certain time period. It's a very attractive deal because if you have an option to buy a share of stock at, say $10 a share, and the price goes up to $15 a share, you can exercise the option and make an easy $5 per share (that is, buy something for $10 that's worth $15). On the other hand, if the stock price goes down, you don't need to exercise the option. The idea was that stock options would give CEO's a "stake in the company." It's a good example of an incentive that was designed to improve economic performance. Stock options became extremely popular (partly as a result of some tax advantages) and helped drive a huge trend toward increased CEO pay–which increased astronomically from about 40 times the pay of an average worker in the 1970s to more than 200 times. In retrospect, though, the incentive seems to have backfired. It definitely gave CEOs an incentive to increase the share price of the company...but it ALSO gave them an incentive to do this in illegal, or at least misleading ways.... by "cooking the books." So, the role of stock options in executive pay is being seriously reconsidered... If you think about it, it's a great example of "is greed good?" question? The case FOR options is that greed can lead CEOs to work harder and smarter.... The case AGAINST options is that greed can tempt them to malfeasance.... If you notice, I didn't come down on the side of whether "greed is good" or not. This is because I want you to make up your own mind on this...just like on the love or money question... But I want to emphasize that this is an age-old argument in which economics–and economists have mostly come down in favor of greed and money...It started with Adam Smith and his Wealth of Nations, published in 1776–the argument that individuals could best benefit society by pursuing their own self-interest... This tradition of confidence in self-interest is very much a part of "thinking like an economist" –but one that has always been subject to debate. We'll keep talking about it throughout the course. Now let's go over the main points of Chapter 1 of Frank/Bernanke The economist's way of thinking.... Costs matter. Scarcity exists. Time is limited, even where money is not. People face tradeoffs. Draw a picture of a tradeoff: a line with a negative slope. Imagine two people who can divide $100 between them. Put the amount that person A gets on the horizontal axis. Put the amount that person B gets on the vertical axis. Now plot the points that represent the trade-offs between the two. If A gets all the money and B gets none; If B gets all the money and A gets none; if B gets $50 and A gets $50; if B gets $75 and A gets $25.... Note this is a LINEAR relationship that is NEGATIVE. If A gets more, B gets less. Another tradeoff–class size. The bigger the class, the lower the cost per student. That is, the lower the average cost. But the quality of the class also goes down. What do I mean by quality? Not units of information per minute in a lecture. I deliver that at pretty much the same rate no matter how many students I'm facing. The quality that goes down is the potential for customized, personal interaction. Quality, for me, is having a chance to actually find out if you've taken a look at Chapter 1 and if you did how you feel about it. Quality, for you, is getting some personal coaching–not just information, but personalized information, as in, "if you changed your grip slightly, like this, you could hit the ball more squarely" or as in "if you're having a hard time with this passage, try playing the right hand alone, then the left hand, before you put them together." Instead, what you're getting is a standardized, mass-produced product here. I could be a videotape, or a streaming video on your website. And before long, I probably will be. Because that is more "cost-effective." Or perhaps because costs in this case are easy to measure (denominated in dollars) but benefits are more subjective (what exactly is the benefit in this case–how much you learn, or how much you learn about learning, or how much more you earn in the future as a result of taking the course?) In a classroom, the benefits vary from person to person. Some of you will get a lot out of this course because, for whatever reason, you're in a position to take advantage of the flow of information. Because you're motivated. But a substantial portion of you will stop coming within the next two weeks and will drop out of school. In Chapter 1, Frank seems to conclude that larger classes are more efficient. I guess what I'm saying is that I'm not sure he's right. But let's stick with the classroom analogy as a way of illustrating some of the other concepts he develops. Several students come up to me after class and ask if I can help them get into the class. How do I, as a card-carrying professional economist, think about this issue? If I were a completely self-interested person, I would just say, "forget it." Because I don't get paid by the student. I get paid a flat monthly salary. And every additional student in this course imposes costs on me–costs in terms of time, energy, hassle, just recording your grades takes time, lengthens my workday. But of course, in a large class, the MARGINAL cost is small. In fact, the additional cost of including another student is negligible, especially considering that most of the grading gets done by TA's. What I worry about more (because I am not a completely self-interested person) is the MARGINAL cost to your fellow students–the crowding and congestion they will experience, the discomfort of being in a room where not everyone has a chair, etc. In making decisions about whether to add students to the course, I try to assess the marginal cost (to everyone) relative to the marginal benefit to the student in question. When students hang around begging and pleading about their need to get in, what they're doing is conveying information to me about the size of that marginal benefit (although it's often hard to figure out how accurate that information is). Here's another example of MARGINAL COST . Tuition and fees at this university are generally based on the assumption that students are taking a full load. So the marginal costs (in terms of tuition and fees) of taking a fifth or sixth course are very low. So why don't more students take six courses? All you have to fork over in terms of money (I think) is the cost of a textbook. But there are other costs that are IMPLICIT, rather than EXPLICIT. Like the cost of the time and energy required to make taking an additional course worthwhile. OPPORTUNITY COST is an example of an implicit cost–one that doesn't appear on a bill or an invoice, but that you are likely to calculate in your head: If I took an additional course, what would I have to give up? What's the tradeoff? Maybe you'd have to give up an extra hour of sleep a night. Maybe you'd have to give up five hours of paid employment a week, and make do with less pocket money. OPPORTUNITY COST is the value of the next-best alternative. Presumably you wouldn't be taking this course unless your estimate of the benefits of doing so exceeded your estimate of the total costs (actual costs such as textbook etc. PLUS the opportunity cost of your time). Another key concept is RESERVATION PRICE–which resembles opportunity cost in the sense that it also is not written down on a bill, but people calculate in their head. A reservation price is what you would be willing to pay for something...not what you actually pay. Think of an auction. You check out the stuff before hand, and you see something you want, you think "What's the most I'd be willing to pay for that?" In the actual auction, however, you offer a much lower bid, because you'd really like to get the item for an amount BELOW your reservation price....hopefully, you won't get carried away by the competitive emotion and pay more than your reservation price; if you do, you'll regret it. You can apply this concept of reservation price to many situations–think of it as a hypothetical, "what if" concept. Just how far would my salary have to decline (as a result of budget cuts) for me to actually quit my job? That's like asking, "What's my reservation wage." Or, just how good would my lectures have to me to prevent me from being fired? That's the "reservation" quality I keep in mind. Of course, I could ask myself just how good my lectures have to be to get every person in this class to attend and pay perfect attention. But that particular reservation quality feels way beyond my reach. Answer to homework assignment 1, question #4. At University A, students are charged $500 regardless of how much they eat. The average consumption is 250 pounds. No one has an INCENTIVE to eat less, or to put less on their plate. In fact, they probably end up throwing food at each other. At University B, students have more flexibility and choice. If they want to eat more than 250 pounds they have to pay extra. If they eat less they get a refund. So, they pay a COST for eating more than a certain amount, and get a BENEFIT for eating less than average. It seems pretty likely they would consume less food, on average.
|