Car Prices and Quality

Inflation is on everyone’s mind. Everybody freaks out. You cannot do anything about it. As such, lets talk about something mildly related: how price indexes (those that we use to talk about inflation) deal with quality changes.

One big problem when we try to measure the cost of living is that the price information we collect does not reflect the same thing we consume. I know that sentence seems weird. After all, 1$ for a pound of bread is 1$ for a pound a bread. And if prices go up 10%, then the price per pound of bread is 1.10$!

If you think that, you’re wrong. Think about the following example from my native province of Quebec. In the 1990s, Quebec deregulated opening hours for grocery stores. The result was … higher prices at large superstores. Why? Before the reform, stores had shorter hours especially on sundays. This meant that stores were competing with each other on a smaller quality dimension which meant more price-based competition. With deregulation, some consumers were willing to pay slightly higher prices to shop at ungodly hours. What were these consumers consuming? Were they consuming only the breadloafs they bought or were they consuming those loafs and the flexible schedule of the grocery stores? The answer is the latter! Ergo, the change from 1$ per pound to 1.10$ per pound does not mean that the price of bread alone increased — it may have even fallen all else being equal!

So how do you adjust for that? There are many papers on how to do hedonic adjustments (hedonic is the fancy words we use to say “quality-adjusted”) and they are all a pain to read unless you are very familiar with real analysis, set theory and advanced calculus (and even there, its still a pain). Fortunately, I recently found a neat little application from an old econometrics graduate text from the 1960s (see image below) that allows me to teach this to my students (and now, you too!) in an easy-to-get format.

A neat book

The book has a neat chapter by one of the most famous econometricians of the 20th century, Zvi Griliches, titled “Hedonic Price Indexes for Automobiles: An Econometric Analysis of Quality Change”. In the chapter, Griliches points out that from 1954 to 1960, car prices went up some 20% — well above the overall price index. From 1937 to 1950, prices for cars went up in line with inflation. Taken together, these two facts suggest that the real price of cars stayed constant from 1937 to 1950 and increased to 1960. But that suggestion is wrong Griliches points out because of our aforementioned quality issues. Up until 1960, there were considerable improvement in vehicle quality: better gears, better brakes, more horsepower, safer settings, automatic transmission, hardtops, switching to V-8 engines rather than 6 cylinders engines etc.

How do you account for these quality changes? Griliches simply went about consulting guide books for autobuyers. He collected price data for the cars as well the details regarding quality. And he used this very simple specification where the log of the nominal price is set as a dependent variable.

Griliches’ specification

The vector X is all the quality dimensions he could find (horsepower, shipping weight, length, V-8 engine, hardtop, automatic transmission, power steering, power brakes, compact car). All of these dimensions were statistically significant determinants of the price of cars (with the exception of V-8 engines which was not significant). Then, Griliches assumed that all quality dimensions were “unchanged” from 1954 to 1960 in order to see how prices would have evolved without any changes in quality. The result is the figure below. The blue line depicts the actual prices he collected where you can see the 20% increase to 1960 (which is a 30%+ increase to 1959). The orange line depicts the price holding quality constant. That orange line is unambiguous: quality-constant car prices didn’t change much during the 1950s. Adjusting for inflation during the period suggests a drop in 10% in the real price of a quality-constant car.

Image

Isn’t that a fascinating way to understand what we are actually measuring when we collect prices to talk about inflation? I find this to be an utterly fascinating example (and a useful teaching tool). Okay, I am done, you can go back to freaking out about inflation and how bad the Fed, Bank of Canada, ECB are.

What to Read: Claudia Goldin’s Career and Family

A better battery is an excellent gift, but for the gift that never needs recharging, a book is always a great idea. So this week Joy asked us to recommend a book. Again, this would be great as a gift or for yourself!

My recommendation is a very new book: Claudia Goldin’s Career and Family, which just came out this month. Confession: the book is so new, that I’ve only read about half of it so far! But this book is, as they say, self-recommending.

Goldin has spent almost her entire academic career studying the history of women’s participation in the US labor force. I think it’s fair to say that there is no person living today that knows more about the subject, possibly no one ever. This book is her attempt to sum up much of her research into a cohesive narrative about the changes in women’s labor force participation throughout the 20th century.

Her 2006 AEA Ely Lecture, “The Quiet Revolution,” was an earlier attempt to explain these long changes, and it is highly readable still today. Her 2014 AEA Presidential Address, “A Grand Gender Convergence,” is also excellent (watch the video of it too!). But this book brings all the ideas together into a complete narrative, tracking five cohorts of women and their experience in the labor force from 1900 to 2000. The last of these five cohorts matches the title of her book, the generation of women that entered the labor force since 1980 and now have a reasonable chance of achieving both an career and a family, rather than having to chose between the two.

This does not mean, and certainly Goldin would not say, that the journey is over and all is well for women today. Goldin focuses primarily on college graduates in this story, since they are the group most well-positioned to achieve the goal of having a career and a family. Obviously there are still challenges, and Goldin spends some time discussing one that the COVID pandemic revealed but was always there: the challenge of finding affordable childcare.

If you want a taste of the book, you can read or watch her 2020 Feldstein Lecture, “Journey Across a Century of Women.” But really the story is so complex that it does take a book to explain it all.

Continue reading

Have you heard about Human Capital?

While writing a paper recently, I was reminded of the importance of economic modelling.

Macroeconomic models are fun to rag on – everybody does it. But all economic models help us to express our understanding of the world clearly and help us to be specific when the temptation to hand-wave is strong. After all, a model is just a fancy way of saying “a system of logic”.

The paper linked above is several revisions in. What you don’t see are the mistakes that my co-author and I made along the way and the vagueness that we had to resolve. An earlier version of the paper simply stated that deaf people were endowed with less human capital than people who could hear. So far so good. But then we said that it was ambiguous who, the deaf or the hearing, would ultimately have more human capital after making additional human capital investments.

But this is not the case!

Continue reading

Steve Horwitz on “The Graduate Student Disease”

On Sunday the world lost a great teacher, economist, and all-around fantastic person in Steve Horwitz. If you don’t know about Steve, I recommend reading the tributes from Pete Boettke and Art Carden.

Pete and Art speak to Steve’s overall legacy and greatness. But I will tell you about a very specific piece of advice that Steve gave me about teaching undergrads.

Steve called it “the graduate student disease.” By this he meant the tendency of newly minted PhD economists to teach undergraduate courses as if they were mini versions of graduate courses. Steve insisted this was the wrong approach.

Continue reading

Wait for the Lower Cost Version of Policy

I’ve written previously about initial US state compulsory schooling laws in regard to literacy and in school attendance rates. I ended with a political economy hypothesis. Here’s the logic:

  1. Legislators like lower costs, all else constant (more funding is available for other priorities).
  2. Enforcing truancy and educating an illiterate populous is costly.
  3. Therefore, state legislatures that passed compulsory attendance legislation will already have had relatively high rates of school attendance and literacy.

That’s it. Standard political economy incentives. But is it true? Well, we can’t tell what’s going on in politician heads today, much less 150 years ago. Though, we can observe evidence that might corroborate the story. In plain terms, consistent evidence for the hypothesis would be that school attendance and literacy rates were rising prior to compulsory schooling legislation. The figures below show attendance and literacy rates for children ages 10 to 18.

Continue reading

Working Hard for the Money

40 hours. That’s what we think of as a typical workweek. 8 hours per day. 5 days per week. Perhaps the widespread practice of working from home during the pandemic (as well as the abnormal schedule changes for those unable to work from home), has led some to rethink the nature of the workweek. But the truth is that the workweek has always been evolving.

Take this chart, for example. It comes from Our World in Data (be sure to read their excellent related essay as well), and the historical data comes from a paper by Huberman and Minns. I’ve singled out 4 countries, but you can add others at the OWiD link.

The historical declines are dramatic. This is especially true in Sweden. The average Swedish worker labored for over 3,400 hours per year in 1870. Today, that’s down to 1,600 hours. In other words, the typical Swede works less than half as many hours as her historical counterpart. Wow! The decline for the US is not quite as dramatic, but still astonishing: a US worker today labors for only about 57% of the hours of his 1870 predecessor.

It’s tempting to focus on the differences across countries today: the average worker in the US works about 250 hours more than the average French worker. That’s 6 weeks of vacation! And as recently as 1980, the US and France were roughly equal on this measure. We might also wonder why these historical changes happened. For a very brief introduction to the research, I recommend the last section of this essay by Robert Whaples.

But still, the historical declines are dramatic, even if we in the US haven’t seen much improvement in the past generation (and those poor Swedes, working 100 hours per year more than 40 years ago).

I think another natural question to ask is whether GDP data is distorted, at least as a measure of well being, given these differences in working hours. The answer is partially. Let’s look at the data!

Continue reading

Vaccine Innovation: A Marvel of Modern Science and Modern Markets

We’ve already talked about different methods for distributing the vaccine in the face of limited supply on this blog (see my post and Doug Norton’s post). But today I want to talk about something different: the speed at which this vaccine was developed. It is truly amazing.

Timeline showing a comparison of vaccine development timescales from Typhoid fever in 1880 to SARS-CoV2 in 2020.

This chart from Nature (adapted from the fantastic Our World in Data) dramatically shows just how quickly the COVID-19 vaccine was developed compared with past vaccines. What used to take decades or even a century was done in mere months (yes, even with all the regulatory barriers today).

Exactly how we developed this vaccine so quickly is a complex story that involves the advanced state of modern science, incentives offered by concerned governments, and the harnessing of the profit motive to advance the public good. We don’t know all the details yet, and likely won’t for a long time since, like a pencil, no one person knows how to make and distribute a vaccine.

Continue reading

To Understand the Pandemic, Look to History (Economic History)

As the holiday shopping season gears up, Joy has invited us to suggest some books that you might give as a gift (or read yourself!).

I have one very strong recommendation: Werner Troesken’s 2016 book The Pox of Liberty. Unfortunately the publisher did not foresee the renewed interest in pandemics due to COVID-19, so you might have to settle for an electronic version of the book right now (though you might have better luck with the publisher than Amazon).

The Pox of Liberty – A Book Review By Dr. Price Fishback - Foundation For  Teaching Economics

Tragically, Troesken passed away two years ago. Many of us would love to hear his thoughts about the current pandemic. The beauty of this book is that we can still learn from him even though he is no longer with us, not only about pandemics of the past, but possibly with lessons for our current health crisis.

Troesken brings his broad knowledge of economics, history, and demography to examine the history of smallpox, typhoid fever, and yellow fever, as well as the policy responses. Broadly Troesken asks: why has the US historically been one of the richest countries in the world, yet so bad at fighting infectious diseases?

I won’t spoil the whole book, but he argues that the answer to both questions can be found in the US Constitution. The liberties protected in the Constitution allowed for the US economy to be among the best performing in the world, but made it hard for the federal and state governments to address pandemics. It’s a trade-off, or rather multiple trade-offs, as Vincent Geloso has put it.

We can see this clearly in the differences between the US and European responses to COVID-19: European countries were able to close their borders which spared many central and eastern European countries from the first wave of the current pandemic (though it does look like this may have been a temporary reprieve, as Czechia, Poland, and others are now seeing dramatic increases in COVID-19 cases). In the US, the virus has slowly spread from state to state, seemingly sparing no one in its path despite varying public policy interventions (including mostly unenforceable travel restrictions). We don’t know what the future holds for COVID, but the constitutional factors at play that Troesken described for smallpox 100 years ago seem to still matter today.

On a personal note, Troesken was a professor of mine in grad school (he spent one year at George Mason University, though most of his career was at Pitt), and he was a big influence on me, especially his teaching style. While I respected his work greatly, I was always puzzled by his interest in infectious diseases. What was the relevance of this topic for understanding the modern world? Well, in 2020, we all found out. And now we miss Werner even more.