Thursday, 25 December 2008
Sunday, 21 December 2008
Lemons Visas and Grooms
What could possibly be the link between lemons, visas and grooms? One answer is that in the market for each of these things one 'side' of the market, either the buyer or the seller, typically has more information than the other. At this point I should probably mention that I am referring to badly made cars, not little yellow fruit, when I talk about 'lemons' here. There are many markets where the different sides of the market have differential information about the quality of the item that is on sale. Buyers and sellers have opposite incentives in this case - buyers want to pay a price that takes into account the fact that they may end up with a low quality item while sellers of low quality goods have the highest incentives to sell! The markets for lemons, visas and grooms are some examples of this kind of market. In what follows I will explain what economic theory predicts will happen because of this feature that one side of the market has more information than the other.
The economic phenomenon that causes the price of used cars to be much lower than the average value of a used car is called Adverse Selection and this was the insight for which Professor George Akerlof won the Nobel prize in Economics in 2001. It occurs because the seller of the car knows the quality of the car he is selling while the buyer does not. In other words, the seller knows if his car is a lemon (ready to be junked) or not. The potential buyer, however, cannot distinguish between cars that look the same. The potential buyer, of course realises that lemons exist in the market for used cars and this possibility will cause him to lower the price he offers for every used car. Suppose now that you are the owner of a car that is not a lemon: a reasonable reaction would be to withdraw the car from the market. If most 'non-lemons' are withdrawn from the market, the average quality of a car on the used car market falls even further, leading a further fall in the price offered for used cars and so on. This process is called 'the unravelling of the market'. One solution to this problem that we see emerging is for car dealers to act as middlemen in this market: they invest in a reputation for telling the truth when they say that a car is not a lemon. This effectively stops the market for used cars from unravelling.
There can be lemons in the job market as well. Less able workers know their ability but at the outset employers cannot distinguish it from that of more able workers. In a world with no means of accreditation, an employer has to pay wages taking into account the fact that workers might be of low quality, then it is the high ability workers who leave the firm - they do not wish to work at low wages. This means that the share of lemons in the market increases and the wage that employers can offer also falls...until only lemons are left at the firm!!
What about visas? Indians applying currently for US visas face a daunting task: the price of a visa to the US has increased tremendously. At the same time the actual process of obtaining the visa has also become much worse, with long waits outside the embassy for interviews etc. Moreover Indians who are resident in other countries have to bear the cost of holding an Indian passport whenever they need to travel between countries. Usually visa offices are open for two hours early in the morning in cities far away from where they live and even when they can get there in time they are greeted by long lines and often seemingly random rules of entry into the consulate. European countries who signed the Schengen agreement vie with each other in trying to push the unfortunate visa seekers onto one another. The rationale given for this unsavoury treatment to Indians is that they are members of a suspect group that stays on uninvited in other countries or that may indulge in terrorist activities.
We may think of the visa process as a kind of market for visas where the price is the opportunity cost of time spent in getting the visa.. But here, unlike in the market for cars and workers, it is the buyers who know more than the sellers. The buyer of the visa knows whether he will honour its terms or whether he will violate them. So there are some applicants whose intentions are dishonourable - they may even be terrorists - and some who are not. But the US embassy cannot distinguish between them in much the same way as the buyers of used cars cannot tell when a car is a lemon. And just like in the lemons story, it is the "good" guys, the applicants who want to visit family and friends or just tour around, who will be the first ones to give up on their visits as it becomes increasingly difficult to obtain a visa. It is true that some potential terrorists will get deterred as well. But it is indeed those who have the worst intentions, the biggest stakes in destruction, the most determined ones, who will have the motivation to get through the difficult entry process. Adverse Selection rears its ugly head again! So, my prediction is that the more stringent visa process will weed out only the less dangerous terrorists: we will see less terrorist attacks but when there is one, it will be devastating.
Now imagine the buyers and sellers in the market for grooms in a traditional society: the sellers are grooms and the buyers are brides. Potentially a bride may be able to buy different grooms at different prices. Consider the pool of educated women looking for mates. Let's say that men are looking for "traditional" women who will be caregivers and let's say women can be of two types: traditional or modern. However a man cannot tell by looking at a woman what type she is. He may reasonably expect that the more educated a woman is the less likely it is that she would be a traditional type. Thus if a woman is more educated he should ask for a higher dowry in the hope of discouraging modern women from marrying him. The only women who would accept to pay this dowry are the highly educated ones who are traditional! So among the pool of educated women, if we observe a dowry being given, it should be higher the higher is the education of the woman. However if incomes or ability to pay dowry are higher for modern families, then more traditional women will not be able to pay these dowries and only educated women will remain in the market. Grooms will respond by increasing their price even further to keep out modern women and so the market unravels again!
In reality things are more complicated of course, but this is just a flavour of the kind of applications that economic theory has. Adverse selection pops up in unexpected places!
The economic phenomenon that causes the price of used cars to be much lower than the average value of a used car is called Adverse Selection and this was the insight for which Professor George Akerlof won the Nobel prize in Economics in 2001. It occurs because the seller of the car knows the quality of the car he is selling while the buyer does not. In other words, the seller knows if his car is a lemon (ready to be junked) or not. The potential buyer, however, cannot distinguish between cars that look the same. The potential buyer, of course realises that lemons exist in the market for used cars and this possibility will cause him to lower the price he offers for every used car. Suppose now that you are the owner of a car that is not a lemon: a reasonable reaction would be to withdraw the car from the market. If most 'non-lemons' are withdrawn from the market, the average quality of a car on the used car market falls even further, leading a further fall in the price offered for used cars and so on. This process is called 'the unravelling of the market'. One solution to this problem that we see emerging is for car dealers to act as middlemen in this market: they invest in a reputation for telling the truth when they say that a car is not a lemon. This effectively stops the market for used cars from unravelling.
There can be lemons in the job market as well. Less able workers know their ability but at the outset employers cannot distinguish it from that of more able workers. In a world with no means of accreditation, an employer has to pay wages taking into account the fact that workers might be of low quality, then it is the high ability workers who leave the firm - they do not wish to work at low wages. This means that the share of lemons in the market increases and the wage that employers can offer also falls...until only lemons are left at the firm!!
What about visas? Indians applying currently for US visas face a daunting task: the price of a visa to the US has increased tremendously. At the same time the actual process of obtaining the visa has also become much worse, with long waits outside the embassy for interviews etc. Moreover Indians who are resident in other countries have to bear the cost of holding an Indian passport whenever they need to travel between countries. Usually visa offices are open for two hours early in the morning in cities far away from where they live and even when they can get there in time they are greeted by long lines and often seemingly random rules of entry into the consulate. European countries who signed the Schengen agreement vie with each other in trying to push the unfortunate visa seekers onto one another. The rationale given for this unsavoury treatment to Indians is that they are members of a suspect group that stays on uninvited in other countries or that may indulge in terrorist activities.
We may think of the visa process as a kind of market for visas where the price is the opportunity cost of time spent in getting the visa.. But here, unlike in the market for cars and workers, it is the buyers who know more than the sellers. The buyer of the visa knows whether he will honour its terms or whether he will violate them. So there are some applicants whose intentions are dishonourable - they may even be terrorists - and some who are not. But the US embassy cannot distinguish between them in much the same way as the buyers of used cars cannot tell when a car is a lemon. And just like in the lemons story, it is the "good" guys, the applicants who want to visit family and friends or just tour around, who will be the first ones to give up on their visits as it becomes increasingly difficult to obtain a visa. It is true that some potential terrorists will get deterred as well. But it is indeed those who have the worst intentions, the biggest stakes in destruction, the most determined ones, who will have the motivation to get through the difficult entry process. Adverse Selection rears its ugly head again! So, my prediction is that the more stringent visa process will weed out only the less dangerous terrorists: we will see less terrorist attacks but when there is one, it will be devastating.
Now imagine the buyers and sellers in the market for grooms in a traditional society: the sellers are grooms and the buyers are brides. Potentially a bride may be able to buy different grooms at different prices. Consider the pool of educated women looking for mates. Let's say that men are looking for "traditional" women who will be caregivers and let's say women can be of two types: traditional or modern. However a man cannot tell by looking at a woman what type she is. He may reasonably expect that the more educated a woman is the less likely it is that she would be a traditional type. Thus if a woman is more educated he should ask for a higher dowry in the hope of discouraging modern women from marrying him. The only women who would accept to pay this dowry are the highly educated ones who are traditional! So among the pool of educated women, if we observe a dowry being given, it should be higher the higher is the education of the woman. However if incomes or ability to pay dowry are higher for modern families, then more traditional women will not be able to pay these dowries and only educated women will remain in the market. Grooms will respond by increasing their price even further to keep out modern women and so the market unravels again!
In reality things are more complicated of course, but this is just a flavour of the kind of applications that economic theory has. Adverse selection pops up in unexpected places!
Sunday, 14 December 2008
the persistence of Reputation
Academics must publish in "top" journals in order to be noticed by anyone of any significance.
We all know that its easier to publish if you belong to one of the "top" schools in USA or a few outside. No one has carried out an experiment though -- just to check how strong the affiliation bias is.
As someone said "good papers are written by good people. Good people are those who write good papers". There lies the root of the problem! Once you establish a reputation with one good paper, you're done basically -- you get a job in a top school and then you can keep publishing in top journals for the rest of your life.
Of course only someone like me who is OUTSIDE the club would rant about it! The great thing is that it wont matter who does rant, unless you're on the inside....
Then look at Oxford and Cambridge. For some reason they became famous at some point and there was no looking back...now the best students will go there and it will not matter if the upstart universities are better staffed or not -- the reputation will persist. That means good teachers would be attracted there and so on and so forth. Can anyone ever break this persistence? Can a new university do better? Not if it is competing with the same or lower resources than Oxford...
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