conversableeconomist

Banerjee and Duflo on microcredit and repayment

The Philanthropy Action website has an extended interview with Abhijit Banerjee and Esther Duflo. \”Over the course of the interview we discuss microcredit, microenterprise funding and growth, labor markets in developing and developed countries, the evidence for focusing on women and girls with aid programs, the debate over RCTs [randomized controlled trials] and how they think about their own impact on changing the world.\” I found their thoughts about the crisis in microfinance, and how microfinance institutions get 90% repayment rates, to be especially provocative.

Esther Duflo: The Grameen Bank has been around for many many years and their loans are still very very small. Just forget about subtle impact evaluation or whatever; it’s been staring us in the face that these businesses are not growing, and the vast majority of people are not growing out of poverty or anything like that. If we had not been obsessed by the romantic idea of microcredit then maybe there would have been an earlier realizing of what microcredit does and what it doesn’t do. I think people are coming to that, to a small extent maybe because of our work stirring the pot. To be honest, it maybe would have happened anyway. But there’s been a lot of delay given that the facts were pretty obvious.
Abhijit Banerjee: I just gave a talk at the World Bank on exactly this topic. The crisis in microfinance is a result of the 3 C’s: credulity, cupidity and corruption. The politicians were corrupt, we were all credulous, and the microfinance people were greedy. Put them together and you get the crisis. Our credulity was significant. Somehow we believed that all repayment happens in microfinance due to some magic which made no economic sense. We knew it didn’t make economic sense. And then suddenly one day wake up to the fact that the actual loan officers would come to your house, maybe they don’t beat you up, but they do harass you.
You don’t need to do an evaluation to start asking questions. You just need to think about it for 10 minutes. These are desperate people with lots of financial demands. People in the family are sick, people lose jobs, the daughter needs to get married.
ED: But they repay anyway. Someone must be very convincing.
AB: But 90 percent repay. What is going on? How could we believe this was because of some tweaking of economic incentives? As economists I think we were basically inept in thinking about it or we would not have believed it. The core fact was staring us in the face. There was some amount of—I won’t say coercion, I think they are careful not to actually threaten—but there’s a lot of harassment. They come to your house, they call up your friends. I don’t think there’s anything wrong with it. It’s a moneylending business, it’s risky. But if the rest of the world thinks these are awful things to do, then you can’t expect better than a 90% repayment. And we didn’t look at this, we evaded the gaze of these facts that were looking back at us.

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Could Restrictions on Payday Lending Hurt Consumers?

When teaching about price ceilings and price floors, I often toss in a bit about usury laws as an example of a price ceiling. But the usury example never seemed to me very pedagogically effective: it has a whiff of anachronism. A much better example for connecting with students is to discuss payday lending. Kelly Edmiston of the Kansas City Fed raises many of the key issues in: \”Could Restrictions on Payday Lending Hurt Consumers?\”

A payday loan typically involves a borrower writing a check for, say, $200, and then receiving $170. The lender promises not to cash the check for a couple of weeks. As Edmiston says: \”While payday lenders often charge fees rather than interest payments, in effect these charges are interest. Comparing the terms of varying types of loans requires computing an effective, or implied, annual interest rate. For payday loans, this computation is straightforward. A typical payday loan charges $15 per $100 borrowed. If the term of the loan is two weeks, then the effective annual interest rate is 390 percent.\”

Many states have regulated or banned payday loans. \”By the end of 2008, 10 states and the District of Columbia had instituted outright bans on payday lending. Other states have passed regulations that indirectly ban payday lending by making it unprofitable. For example, in Massachusetts, the Small Loan Act Caps interest at 23 percent per year. In states that allow payday lending, regulations may indirectly restrict or effectively ban the practice. A variety of such regulations exists. Most states legislate maximum loan amounts, usually from $300 to $500. The limits that states impose on fees vary widely.\”

The key point for public policy in this area, and a useful theme for teaching about price ceilings and regulation, is that banning or limiting payday lending doesn\’t alter the underlying reasons why people seek out such loans. Restricting payday loans pushes users to other options, which have tradeoffs of their own. For example:

  • Running down available cash balances in a bank savings account is surely cheaper than a payday loan in the short run. But it leaves people exposed to other risks–like not being able to pay the rent. \”Some researchers argue that households recognize a need to have money readily available when using a credit card is not an option—for example, when making rent payments … Similar logic may explain why some borrowers resort to payday loans even if they have credit cards.\”
  • Cash advances on credit cards are pricey, too. \”Most credit card fees on cash advances, if considered short-term loans, are costly as well. The fee for cash advances on many credit cards has recently climbed to 4 or 5 percent …. In addition, higher interest rates, which average 25 percent, generally apply to cash advances … Thus, on a two-week loan, the effective annual interest rate would average from 129 to 155 percent. In addition, cash advances are typically not subject to the interest grace period associated with purchases.\”
  • Without a payday loan, the would-be borrower may end up paying late charges on other bills–or having to pay extra to have electricity or heat reconnected. They may exceed their limits for credit card borrowing and face penalties. They may bounce checks and face those fees.  \”In 2010, bounced check fees averaged $30.47. … One study calculated the median interest rate on these loans to be well in excess of 4,000 percent, or up to 20 times that of payday loans. … The highest rates result from bouncing multiple checks for small amounts, where a fee is charged for each bounced check. Further, knowingly passing a fraudulent check is illegal and could result in substantial civil and criminal penalties.\”
  • Loan shark often charge 20% per week, along with threats of violence.
  • Pawnbrokers are costly, too. \”A 2006 analysis of pawnbroking compiled a list of monthly interest rate ceilings for all 50 states and the District of Columbia. … The median cap on interest rates was 15 percent monthly, which is similar to the typical payday loan charge. Many of the caps were much higher, however.\”
  • Payday lenders typically don\’t report to credit agencies, so being slow in paying back a payday loan, or defaulting on such a loan, won\’t affect your credit score. Being late or defaulting on many other payments will.
  • Payday loans are much more convenient than trying to get a bank loan, or dealing with many of hese other alternatives 

Of course, these tradeoffs don\’t prove that banning or regulating payday loans in various ways is a bad idea. But they do suggest that advocates of regulations need to consider with brutal honesty what is going to happen if payday loans are less available or unavailable.

The lower-risk reforms of payday loans would be to increase information and options. For example, there is a suspicion that for a lot of people, paying 15% on a loan of $100 probably like 15% interest. But of course, a two-week interest rate is not an annualized rate! Requiring more clear information might help. In addition, helping low-income people build a better connection with the banking system, so that they have some flexibility to get short-term liquidity loans through their bank, would probably come at a lower cost than most payday loans. There may also be other options, like emergency assistance programs from the government in certain situations, or advances from employers, or alternative payment plans. Expanding the information and the choice set is often a more reliable way of having a positive result than limiting choices.

For those wishing to get up to speed on payday lending, I can recommend two other useful starting points. One is an article by Michael A. Stegman, \”Payday Lending,\” published in my own Journal of Economic Perspectives in Winter 2007. The other is a useful summary of the evidence in an October 2010 working paper from the Philadelphia Fed from John Caskey, called \”Payday Lending: New Research and the Big Question.\”

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2010 Years of economic output and population in one chart

The Economist has an elegant picture, describing \”Two thousand Years in one chart.\”

Over the last 2010 years, 55% of total economic output happened in the 20th century, and an additional 23% of the total in just the first 10 years of the 21st century.

About 28% of the total years of human life lived in the last 2010 years happened during the 20th century, and about 6% of total years of human life lived in the last 2010 years happened in the first 10 years of the 21st century.

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Who Gets Jobs and Wages from the iPod?

Greg Linden, Jason Dedrick, and Kenneth L. Kraemer write in the Journal of International Commerce and Economics (which is published by the U.S. International Trade Commission) on \”Innovation and Job Creation in the Global Economy: The Case of Apple\’s iPod.\”

They summarize how the iPod affects jobs and wages in this way: \”[W]e analyze the iPod, which is manufactured offshore using mostly foreign-made components. In terms of headcount, we estimate that, in 2006, the iPod supported nearly twice as many jobs offshore as in the United States. Yet the total wages paid in the United States amounted to more than twice as much as those paid overseas. Driving this result
is the fact that Apple keeps most of its research and development (R&D) and corporate support functions in the United States, providing thousands of high-paid professional and engineering jobs that can be attributed to the success of the iPod.\”

Here are three tables: 1) \”iPod-related jobs by country and category,\” with the jobs divided into the categories of \”Production,\” \”Retail and other nonprofessional,\” and \”Engineering and other professional.
2) iPod-related wages by country and category, $2006; and 3) Average annual employee earnings by job category.

The U.S. economy has essentially none of the production jobs, but about two-thirds of the jobs created in the other categories. Despite having essentially none of the production jobs, the U.S. has about 70% of the total wages earned.

Via Tim Worstall\’s blog at Forbes.

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The Decade-Long Rise in Teen Summer Unemployment

The Wall Street Journal published an editorial last Friday bemoaning high teenage summer unemployment, and blaming the recent rise in the minimum wage from $5.15/hour in 2007 to $7.25/hour in 2009. This summer, about 24% of teenagers will have jobs.

If I was in Congress, I would have leaned against voting to raising the minimum wage in 2007. I would rather help the working poor through further expansions of the earned income tax credit. I suspect that raising the minimum wage by 40% from 2007 to 2009 did have a negative effect on teen employment. But even speaking as non-fan of the higher minimum wage, I don\’t think it\’s the main cause of the low rates of teen employment.

Theresa L. Morisi at the Bureau of Labor Statistics published a useful overview of the long-run pattern of teen summer unemployment patterns about a year ago. Here are some themes I took away from her article:

1) Teen employment rates have been falling since the early 1990s.

2) This decline in teen employment rates cuts across younger and older teenagers, ethnicity, and whether teens are enrolled in school or not.

3) There are a number of plausible reasons why teenagers are working less. Families are more affluent. Summer school has increased. The high prices of college means, counterintuitively, that student earnings for college are less potentially important. One interesting pattern is that the share of teens not in the labor force who say they \”want a job\” has fallen since the 1990s.

4) With these other social changes, wage rates for teenagers are probably not the main determinant. Remember that during much of this time, the value of the minimum wage after adjusting for inflation was falling. Measured in real 2007 dollars, the minimum wage was worth $6.50 in 1998 and $5.15 in 2007.But this didn\’t prevent teen employment from falling during this time. Here are teen wages over this time period.

The modest nudge upward in median wages for teens since 2007 is probably driven in part by the rise in the minimum wage. As I said before, the higher minimum wage probably has reduced jobs for this group. But the grim economy and the other factors given here suggest that the higher minimum wage isn\’t the main driving force for low teen employment.

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Economic Geyser: Must Be a Metaphor Here Somewhere!

 A former student here at Macalester College, now graduated to friend status, went hiking with her family in Yellowstone National Park, and took a picture of the Economic Geyser.

Apparently this geyser isn\’t too exciting. The U.S. Department of the Interior writes: \”Economic Geyser is located in the Upper Geyser Basin between Grand and Giant geysers (near Beauty Pool). In the early days of the park, Economic Geyser was a \”crowd pleaser\”–erupting about every few minutes up to 25 feet high. These eruptions lasted into the 1920\’s, then the eruptions virtually ceased. Earthquakes in 1957 and 1959 caused short periods of eruption activity. Park volunteer observers reported additional eruptions in 1999.\”

Here\’s an old government photo of the geyser in its glory days.

According to a 1917 book by Hiram Martin Chittenden–The Yellowstone National Park: Historical and Descriptive\”–economic Geyser was named because: \”No water lost in eruption. All falls back into crater.\”

All somewhat interesting, I guess, but it seems there must be a better metaphorical use for economics and geysers and Economic Geyser in particular.

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The Accumulation of Regulations

In the Summer 2011 issue of Regulation magazine, Bruce Yandle offers some bracing concerns about the federal regulatory process in \”Forty Years on the Regulatory Commons.\” Here is a sampling:

\”Inspired by statutes directing action, our 60-plus federal regulatory agencies are somewhat like sheep with legislative guiding shepherds grazing on a regulatory commons, a resource space where there are no systematic limits on the number of rules that can be produced, the time required to read and abide by them, or the economic resources consumed in meeting the rules. Fed by growing budgets and expanded duties, the regulators write more rules. While budgets, congressional directives, executive orders, and benevolent forbearance partially constrain the commons, there is always room for one more bite by the sheep, one more regulation. …\”

\”What is it like on the regulatory commons? When one puts on a pair of externality-visualizing glasses, one sees endless opportunities opportunities to internalize external costs and maybe even render the world Pareto safe. Whether it be dealing with lead paint, mandatory inspection of catfish, energy efficiency for refrigerators and furnaces, minimum standards for drivers licenses, diesel engine emissions, advertising over-the-counter drugs, marketing practices of funeral homes, or ridding the market of noisy Hickory Dickory Dock pounding toys, the world is full of unhappy and dangerous situations that need fixing. But with externality glasses, it is much easier to see the flaws than to determine if all people taken together are made better off after the regulatory repairs are in place. And who has time to check? …\”

\”Years ago, when regulation was young, before we had published those 2.5 million pages of rules, economists spoke knowingly in tones of certainty about market failure and intervention to correct difficulties from such problems as market power, information asymmetries, failed institutions, and unspecified property rights. We spoke as though government and regulation were exogenous to the market process, that on occasions regulators would open a window, examine features of the economy, make some efficiency enhancing
adjustments, and then quickly close the window to leave the economy to operate in a more glorious way. Indeed, we used the word “intervention” and we referred sometimes to Michael Lantz’s 1937 FTC statuary metaphor where a powerful free market horse is being bridled by a benevolent plowman who
presumably serves the public interest.\”

\”But as regulatory windows opened and closed daily and agencies pumped out more rules, firms and industries became intertwined with government. Government was no longer exogenous to the behavior of firms in the marketplace; government became endogenous. While major regulations may have reduced some perceived market failure, they also cartelized industries and reduced competition. The strong horses and other special interests came seeking the plowman.\”

Via a post by Arnold Kling at EconLog. 

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What Would Uninsured Americans Pay for Health Insurance?

One of the big questions about Americans without health insurance is how much of a subsidy they would need in order to purchase such insurance willingly. The existing evidence on this point isn\’t especially on-point: for example, it sometimes involves looking across firms at the generosity of the health insurance policies that they offer, then looking at how many employees take up policies at each firm, and then drawing conclusions about the price people are willing to pay for insurance coverage. It\’s not clear how results from such studies would extrapolate to buying health insurance directly.

Alan Krueger and Ilyana Kuziemko tackle this question with survey data in a recent working paper. The Gallup Poll included some questions that they wrote in daily polling during late August and early Septemer 2008. The opening question took the form: \”If you could get a health insurance policy for yourself that is as good as the one that members of Congress have, given yourcurrent fi nancial situation, would you buy it for $X a year, which works out to $X/12 per month?\” As they explain, individuals were randomly assigned different starting values for X, and then if individuals said \”no,\” they were asked a series of follow-up questions with a lower X. The survey also asked lots of other questions, so it was possible to figure out who was uninsured, along with health status and other useful variables. Based on this data, they calculated a demand curve for subsidized health care which looks like this:

They write: \”Our results suggest that subsidizing the purchase of insurance plans would signi ficantly reduce the population of the uninsured. For example, we estimate that about sixty percentof the uninsured would voluntarily enroll for an annual premium of $2,000. Under the current specfii cation of subsidies in the ACA [the Affordable Care Act of 2010], we estimate that over 75 percent of uninsured adults would enroll, implying that some 39 million uninsured individuals would gain coverage as a result of the law. We also estimate that stripping the individual mandate fromthe law|the constitutionality of which is being challenged in federal court|would lead to between 7 and 12 million fewer individuals gaining coverage.\”

Of course, as the authors\’ recognize and try to address in various ways, there\’s always reason to be dubious about survey evidence: it\’s easier to say that you would buy insurance at a certain price than actually to buy it. But as part of an accumulation of evidence on what it would take to cover the uninsured, the results struck me as intriguing.

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Inequality of Mortality

Peter Orszag wrote a column for Bloomberg describing some advances in technology that can help people track their health status. Along the way, Orszag cited a recent study by the National Academy of
Sciences that inequality in mortality was rising in the U.S. He writes: \”Among 50-year-old men, for example, those in the highest education group are now projected to live almost six years longer on average than those in the lowest education group — and this differential has been rising sharply.\”

I looked up the NAS report, or at least the free pre-publication uncorrected proofs copy available here. The report is generally well-done, as one would expect. But both on issues of mortality inequality within countries and between countries, there seemed to me some narrowness of perspective that left out complementary views.

On mortality inequality within countries

The report explains that inequality or mortality is increasing within countries because mortality rates for those with higher socioeconomic status (proxied by education, income, or a mixture of the two) are experiencing larger gains in mortality than those with lower socioeconomic status. This seems to hold true in recent decades not just in the United States, but also in a number of countries of western Europe. In turn, the report seeks to explain these differences in terms of behavioral patterns (like smoking and obesity) and health issues related to social status.

While this increase over the last few decades in inequality of mortality is certainly worthy of discussion, it is also worth noting an enormous decline in inequality of mortality, in countries all over the world, in the longer term.  In my own Journal of Economic Perspectives, Sam Peltzman took on this topic in Fall 2009 issue in \”Mortality Inequality.\” Peltzman uses a measure of inequality familiar to economists called the Lorenz curve, which is usually applied to measures of income. The top figure is based on data for 1852; the bottom figure on data for 2002. The straight line at a 45-degree angle shows perfect equality of mortality: that is, 20% of the population lives 20% of the total life-years at this time; 40% of the population lives 40% of the life-years for this group, and so on. The curved line is based on actual data. It shows that with high infant mortality, the bottom 30% of the distribution lived close to 0% of the life years. The gap between the perfect-equality line and the data curve shows the degree of inequality. By 2002, life years are MUCH more evenly distributed across the population.

This huge decrease in inequality of mortality outcomes over the last century or two is not just in the United States, but also in a wide array of other high-income and lower-income countries. Peltzman writes: \”The substantial increase in longevity over the last century, both in the United States and around the world, is well-known. This essay has documented another aspect of that progress: a considerable contribution to social equality. The dominant fact about this history from a worldwide perspective is how much this aspect of human inequality has diminished. … Inequality of lifetimes is well along in a historical transformation from a major source of social inequality into a minor one.\”

The recent trends from the NAS report do not alter Peltzman\’s basic conclusion.

On differences across countries

The main emphasis of the NAS report is, as the title reveals, \”Explaining Divergent Levels of Longevity in High-Income Countries.\” A particular emphasis is that gains in U.S. life expectancy haven\’t been keeping up with gains elsewhere. \”For US males, life expectancy at birth increased by 5.5 years from 1980 to 2006, the equivalent of 2.04 years per decade. While this is a significant achievement, it is less than the average increase for the other 21 countries examined for this study. Similarly, between 1980 and 2006, life expectancy at birth
for US women increased from 77.5 to 80.7 years, only slightly more than 60 percent of what was achieved, on average, in the same period in the other 21 countries examined.\”

In turn, it traces these differences back to death rates for lung cancer, heart disease, and stroke. In turn, this is traced back to international differences in smoking behavior in decades past. \”Fifty years ago, smoking was much more widespread in the United States than in Europe or Japan: a greater proportion of Americans smoked and smoked more intensively than was the case in other countries. The health consequences of this behavior are still playing out in today’s mortality rates.\” The report also discusses diet and obesity.

All this is true enough, and intriguing. But there are reasons for differences in mortality across countries that don\’t trace back to smoking and diet. One interesting comparison from a few years ago by Robert L. Ohsfeldt and John E. Schneider, which appears in their 2006 book The Business of Health, compares actual life expectancy rates across countries to a \”standardized rate\” that is calculated after taking out fatal injuries due to causes like driving deaths and murder (using OECD data). I was surprised to see that if you leave out fatal injuries, it turns out that that average U.S. life expectancy vaults from near the bottom of the list of high-income countries up to the top. 

To be  fair, the NAS report is more focused on gains to life expectancy for those over the age of 50, and deaths in motor vehicles and from murder typically affect younger people. Still, in all the discussions that do use overall life expectancy numbers (not just life expectancies at age 50), it felt like an oversight to me that these causes of violent death don\’t come up in the NAS report.

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Not What You Know or Who You Know, But Where You Work

Since the 2009 World Development Report on \”Reshaping Economic Geography\” was published, I\’ve had the opening paragraphs up on the bulletin board outside my office door, as food for thought for those passing by. 

\”Place is the most important correlate of a person’s welfare. In the next few decades, a person born in the United States will earn a hundred times more than a Zambian, and live three decades longer. Behind these national averages are numbers even more unsettling. Unless things change radically, a child born in a village far from Zambia’s capital, Lusaka, will live less than half as long as a child born in New York City—and during that short life, will earn just $0.01 for every $2 the New Yorker earns. The New Yorker will enjoy a
lifetime income of about $4.5 million, the rural Zambian less than $10,000. A Bolivian man with nine years of
schooling earns an average of about $460 per month, in dollars that reflect purchasing power at U.S. prices. But the same person would earn about three times as much in the United States. A Nigerian with nine years of education would earn eight times as much in the United States than in Nigeria. This “place premium” is large throughout the developing world. The best predictor of income in the world today is not what or whom you know, but where you work.\”

I think I work hard. Lots of Americans think they work hard. But when you compare the economic situation of modern America with the rest of the world, or with long-ago history, then (in a phrase commonly attributed to the old football coach Barry Switzer) we\’re all born standing on third base, congratulating ourselves for hitting a triple.