Conversable Economist

According to World Bank estimates, Mexico\’s total GDP ranked 14th among the countries of the world in 2012, just behind Spain and just ahead of South Korea–and with an economy more than double the size of Sweden, Poland, or Argentina. But while Mexico is a light-heavyweight in the world economy as measured by total size of its economy, it\’s also an economy that has had disappointingly sluggish growth in recent decades. Jesús Cañas, Roberto Coronado and Pia Orrenius summarize the results of a conference held last fall at the Federal Reserve Bank of Dallas on these issues in \”Will Reforms Pay Off This Time? Experts Assess Mexico’s Prospects,\” published in the Second Quarter 2013 issue of Southwest Economy.

As a starting point, here are some background figures. The top line shows the path of output in Mexico since 1950: note the sharp rise from 1950 up to about 1980, the proverbial \”lost decade\” for Mexico\’s economy in the 1980s, and the modest rebound since the mid-1990s. The other lines show the underlying causes behind those patterns: Mexico\’s economy basically tracks the path of productivity growth, which has been sluggish for the last few decades.

Here is a figure showing the per capita standard of living in Mexico, generated by the ever-useful FRED website run by the Federal Reserve Bank of St. Louis. During the period of rapid growth from 1950 to 1980, per capita GDP more-or-less tripled. The economic ground lost during the 1980s wasn\’t recouped until the late 1990s. Mexico\’s per capita growth has been about 1.1% annually over the last 25 years, which isn\’t a large amount for an emerging economy, and it\’s been a bumpy economic road to get there.

For a sense of Mexico\’s bumpy economic road, here\’s one more figure generated from the FRED website. This shows annual rates of real GDP growth. Notice that even after Mexico\’s \”lost decade\” of the 1980s,  it experienced brutally deep recessions in 1996 and again in 2008.

The underlying story in Mexico seems to be that of an economy which has opened dramatically to international trade, but hasn\’t run into two problems. One is competition from China. The authors quote Gordon Hanson to the effect that Mexico has the misfortune of \”producing what China produces and not what China buys.\” But China\’s competitive challenge to Mexico appears to be diminishing as wages in China increase dramatically.

The bigger constellation of economic problems for Mexico is not reforming its economy in ways that would help to stimulate productivity growth. The essay cites a number of issues here: dysfunctional credit markets that don\’t get funds to small and medium-sized firms; inefficient infrastructure companies, including telecommunications, transportation, electricity, and energy; an inflexible labor market with many workers stuck in informal employment. The article describes evidence from Fausto Hernandez Trillo, a professor at Centro de Investigación y Docencia Económicas in Mexico City: \”Only one-fifth of the 3.7 million firms in Mexico are in the tax-paying formal sector. The remainder makes up the informal economy, which accounts for 72 percent of private sector employment.
“There are two Mexicos,” Hernandez Trillo said, “a modern, productive formal sector with large firms, and a poor informal sector dominated by small, unproductive firms.” The national oil company, Pemex, is a cash cow for the national government, and thus lacks money to invest in locating and developing energy resources.

To me, one of the most striking figures discussed in the paper is from Stephen Haber, looking at Mexico\’s political history. With the widely-used \”Polity\” scoring method, he looks at the level of democracy in Mexico over time. This scale runs from 0 to 100, with pure dictatorship at 0 and anything above 85 counting as \”democracy. By Haber\’s estimate, Mexico only really crossed into become a democracy about a decade ago.

In some sense, Mexico\’s main economic challenge is political–that is, it involves the question of how to undertake the legal and institutional changes that will encourage innovation and productivity growth in a way that reaches throughout Mexico\’s entire economy.

Many people know of the first wave of economic globalization that occurred in the last few decades of the 19th century and ended with the onset of World War I. After World War II, globalization got started again. But up to about the early 1990s, merchandise trade as a share of world GDP was still climbing back to where it had been circa 1913. The globalization of economic activity since then is truly unprededented. Arvind Subramanian and Martin Kessler discuss \”The Hyperglobalization of Trade and Its Future\” in a July 2013 working paper written for the Peterson Institute for International Economics.

Here\’s an overview figure showing the pattern of first globalization, deglobalization, reglobalization, and now hyperglobalization. 

Subramanian and Kessler go into some detail on how they see the key characteristics of hyperglobalization. Here are some of my own takeaways from their essay:

1) One reason for the surge in trade can be traced to the rapid growth of emerging economies that are intertwined with world trade, especially China, but also India, Brazil, and others.

2) Earlier surges in world trade have been driven to some extent by cheaper transportation costs. However, this particular surge of world trade seems to have more to do with cheaper information and communications costs. One manifestation of cheaper costs of information transmission is the rise in services trade, shown by the green line in the figure. Indeed, the authors argue that if one count services that accompany the trade in goods, then trade in services would be about 50% larger. Another manifestation is the rise in trade of unfinished products like parts and components, which flow back and forth across national borders as global supply chains become longer. Just looking at trade in value-added terms, as shown by the red dashed line in the figure, there is still a sharp rise–but not as large as the overall rise in trade. Still another manifestation is the rise in foreign direct investment, which can be thought of as applying management services from one country to production in another country.

3) Overall, world trade is facing increasing barriers. One reason is that the volume of trade is shifting to emerging economists, which on average have greater trade barriers than the high-income countries. Another reason is that trade is shifting to services, and trade barriers in areas like finance, professional services, retailing, and transportation are higher than in manufacturing. Still another reason is the proliferation of regional trade agreements, which ease trade barriers within a region at the cost of making remaining trade barriers against the rest of the world loom larger.

4) As the U.S. economy struggles to return to an acceptable rate of growth, one obvious mechanism is to find ways to hook into the very rapid growth happening in emerging economies around the world.  But this may well require both domestic policy changes to help U.S. workers adjust to the inevitable dislocations of international trade, and international changes so that world trade involving new trading partners, a rising level of services and foreign direct investment, and ever-longer production chains is conducted under a set of common rules that are at least clearly spelled out. 

Every teacher of economics needs examples of shortages: more specifically, examples of a situation in which the quantity demanded exceeds the quantity supplied at the prevailing market price. Robert S. Goldfarb is on the job with examples and insights in \”Shortage, Shortage, Who\’s Got the Shortage?\” in the most recent issue of the Journal of Economic Education (44: 3, pp. 277-297). Goldfarb provides six categories of shortages, and offers examples of points to make in the classroom and possible quiz or discussion questions for each. 

Category 1: A Demand Deadline Enables a Short-Run Shortage

Useful examples here are popular Christmas toys, where quantity demanded runs ahead of quantity supplied as the big day approaches. Examples over the years include Zhu Zhu Pets in 2009, Tickle Me Elmo in 1996, Transformers in 1984, Cabbage Patch Kids in 1983, and all the way back to Shirley Temple dolls in 1934. Goldfarb also suggests flu shots as an example of shortages in this category.

Category 2: Dynamic Shortages due to Lags in Supply or Demand

If demand shifts out faster than supply can adjust, or supply shifts back faster than demand can adjust, a shortage can emerge. Goldfarb offers the example of the nursing shortage, where demand rises faster than supply can keep up, and so even with rising wages, a shortage persists: \”[A] dynamic shortage is like a dog chasing its tail—and perhaps occasionally catching it.”

Category 3: Market Prices Set by Suppliers Below Market-Clearing Levels

An example here would be tickets to popular performances or athletic events, from the Super Bowl to Bruce Springsteen, and even popular restaurants that choose to book fully or have lines rather than to raise prices. The reason for such behavior is usually phrased in terms that consumers feel better about a seller who doesn\’t extract the highest possible dollar value, even when that same consumer may be paying for a higher-priced ticket sold by a re-seller or scalper.

Category 4: Prices Set or Regulated by Government (and/or Quantity Regulation)

A homely classroom example here would be the price of parking, which in many cities is set so that quantity demanded exceeds quantity supplied. More complex examples include the price of traffic congestion, which is often set at zero, but even on many toll roads is not set in a way that eliminates congestion.

Category 5: Capacity Choice in the Face of “Regular” Variance in Demand

In certain industries, like airlines and hospitals, the provider needs to make a decision in advance about what total quantity to provide. In these cases, it will usually make sense for the provider not to set up capacity for the highest likely spike in demand, because that would mean too much unused capacity at other times. Also, there are often some users of airlines and hospitals who can shift demand across time if necessary.

Category 6: Sudden Unexpected Supply Shocks

The standard classroom examples here are how weather affects agriculture. Goldfarb adds a lovely example about egg consumption in Mexico, with references. Apparently, Mexico has just about the highest per capita egg consumption of any country. But in 2012, a spread of avian flu led Mexico\’s government to slaughter 11 million chickens, just when the price of chicken feed was spiking. Egg prices doubled, and sometimes spiked even higher. There were 2-hour lines to buy eggs, and some sellers limited how many cartons of eggs each person could buy. Apparently, the president of Mexico made a \”promise to bring egg prices down—and to punish speculators . . . A program to monitor the sale of eggs has led to investigations of 1,299 retailers for possible price gouging.” Another example is how storms like Hurricane Sandy lead to gasoline shortages and arguments over price-gouging. (Here\’s a post from June 13, 2011, on \”The Case Against Price Gouging Laws.\”)

As Goldfarb notes, it\’s probably not useful to have a greatly expanded discussion of shortages in the supply-and-demand part of a class. My own experience is at some point, after about the third example, students experience the MEGO (\”my eyes glaze over\”) effect. But many of these kinds of examples can be used in discussions of slow adjustment speeds, government regulation, difficulties of forecasting the future, and the like. Thus, they offer ways of strengthening the earlier supply-and-demand lessons about shortages in later parts of the class.

When teaching economics, a standard concern from many students, whether they express it explicitly or not, is that economics only glorifies selfishness. But of course, economic analysis can be used in the service of gentler sentiments as well. Here are some reflections from non-economist but gifted essayist A.J. Jacobs, in his 2004 book The Know-It-All: One Man\’s Humble Quest to Become the Smartest Person in the World.  His method was to read the Encyclopedia Britannica–and then to write a charming book about the experience. Here\’s how reading about \”economics\” changed his behavior toward greater generosity:

\”Personally, I\’ve never been a cheapskate. I\’m not a free spender, mind you, but I do buy decent clothes from mid-level chains like Banana Republic, would probably pay a doctor to save my son\’s limbs if the kid asked nicely, and unless the waiter spills cappuccino on my lap or tells me  I look like Lyle Lovett, have always given a respectable, 15 percent tip.

\”I\’d say I\’m right in the middle of the stinginess scale. Or I was. The Britannica has nudged me to be ever so slightly less cheap. For the last few weeks, I\’ve started tipping more, in the range of 20 to 25 percent. That\’s one clear-cut–if very small–way the Britannica has changed me, probably for the better. I noted the change after reading about marginal utility theory in the economics section. I probably learned all about marginal utility theory in college, but it didn\’t sink in, just as most things in college didn\’t sink in, unless  they involved new and more efficient ways to get hammered.

\”For those foggy on their microeconomics: marginal utility theory says that consumers differ in the amount of satisfaction they derive from each unit of a commodity. When a man with only seven slices of bread gets offered another slice, that one extra slice gives him a lot of happiness. But if a man has a couple of hundred slices of bread–enough bread to keep him waist-deep in sandwiches for months–another slice of bread won\’t send his spirits soaring.

\”In short, money means more to those who don\’t have it. I know this verges on common sense. But there\’s something about seeing it in the Britannica, expressed as a rock-hard economic law, that makes it more powerful to me. So, for instance, today, when I took a cab home in the snow, even though the driver tested my nerves by spending the entire time telling me about his favorite Dunkin\’ Donuts flavors (he\’s partial to crullers), I gave him $6 instead of the usual $5. I probably have more money than he does in my bank account, so the dollar will provide him with greater happiness than it would me. A simple, logical conclusion. I know it smacks of noblesse oblige, of extreme condescension. But I don\’t care–it make me feel better. Of course, the right thing to do would be to give away 90 percent of my bank account, but what can I do? I like my Banana Republic khakis and my cappuccinos.\”

Here\’s a sure-to-be-unpopular but quite defensible conversation-starter: All placards that allow those with disabilities to park for free should be eliminated. For overviews of this argument, see \”Parking without Paying,\” by Michael Manville and Jonathan Williams in the Spring 2013 issue of Access magazine, and \”Ending the Abuse of Disabled Parking Placards,\” by Donald Shoup, in the Fall 2011 issue of Access, which is published by the University of California Transportation Center.  

To me, the key distinction in this argument is between designated parking spaces for those with disabilities, which allow them to park closer to their destination, and the disability placards which allow their holders to park for free in metered spaces, and thus serve only as a financial subsidy to the holder of the placard.  Parking spaces for the disabled near entrances make some sense. But parking permits are a peculiar way to give financial assistance to the disabled (nationally, only about one-fifth of those with disabilities are in poverty), and lead to incentives for overissuing and fraudulent use of such permits. Manville and Williams write:

\”The government isn’t going to hand out free gasoline anytime soon, but at least 24 states and many local governments do distribute free parking passes, in the form of disabled placards. These placards not only grant access to spaces reserved for people with disabilities, but also let their holders park free, often for unlimited time, at any metered space. Nor are placards difficult to get. In California, for example, doctors, nurses, nurse practitioners, optometrists and chiropractors can all certify people for placards, for everything from serious permanent impairments to temporary conditions like a sprained ankle. We recommend that cities and states limit or eliminate free parking for disabled placards. We believe the payment exemption has high costs and few benefits. It harms both the transportation system and the environment, and offers little help to most people with disabilities.\”

A number of counts in various cities have found very high use of disability placards that allow for free parking. Manville and Williams mention a 2010 count in Oakland which found that 44% of parking spaces were filled by cars displaying a disability placard.  In their own survey of 5,000 parking meters in Los Angeles, 27% were filled by cars not paying, but displaying a disability placard. Moreover, the cars with disability placards often stayed much longer than other vehicles. A 2010 study in Alexandria, Virginia, found that 90% of disability placards were being used inappropriately. In my own hometown of Minneapolis, the city council tightened up the rules on disability parking placards in 2002, when it was estimated that about half of the metered parking spots downdown every workday were occupied by cars with handicapped permits, costing the city up to $1 million in parking revenue each year.

There are some middle-ground solutions here. Donald Schoup explains one: \”In 1998, Arlington [Virginia] removed the exemption for placards and posted \”All May Park, All Must Pay\” on every meter pole. Because it is easier to pull into and out of the end space on a block, Arlington puts meters reserved for drivers with disabilities at many of these end spaces. The purpose is to provide parking in convenient locations for people with disabilities, not to offer a subsidy that invites gross abuse. Cities can reserve the most accessible meter spaces for disabled placard holders, but accessible is not the same as free.\” Another proposal is that if those who are disabled need more time while parking, they can have cards that allow them to stay longer at a given spot–but still to pay for the full parking time they use. Instead of free parking, collect the revenue and use it to give those with disabilities taxi vouchers or other transit services.

From a 2012 research paper by Manville and Williams in the Journal of Planning Education and Research, here\’s a list of the states that have free parking for those with disability permits. The list does not include municipal-level rules: for example, New York City offers free parking to those with disability permits, but the state of New York does not. Anyway, here\’s their list.

I\’m not someone who calls for ever-tighter protection of intellectual property. Even when intellectual property raises profits for innovators and producers in the short-run, the ultimate goal is lower prices and new products for consumers in the long run. I\’ve even speculated that the very term \”intellectual property\” may be a misnomer, encouraging an inappropriately strong idea of what patents and copyrights are intended to accomplish. 

But that said, it clearly makes little sense in a global economy to seek tight enforcement of intellectual property rights within U.S. borders when such protections for innovators are often being extensively broken in other parts of the world–and especially in China. The Report of the Commission on the Theft of American Intellectual Property was recently published by the National Bureau of Asian Research, a Seattle-based think tank, and it lays out some troubling evidence (as usual, footnotes and citations are omitted here for readability.)

\”It is difficult to overstate the importance of intellectual property to U.S. economic prosperity and difficult to gauge the full extent of the damage done by IP [intellectual property] theft. … A 2012 study by the Department of Commerce found that protection and enforcement of IPR around the globe directly affects an estimated 27 million American jobs in IP-intensive industries, which is roughly 19% of the U.S. workforce, producing over one-third of America’s GDP.

\”Overseas, products are counterfeited on a mammoth scale or re-engineered with small changes and then patented as if they were new inventions. Because much of the theft is not counted, estimates of the total vary. In 2010, the commander of the U.S. Cyber Command and director of the National Security Agency, General Keith Alexander, stated that “our intellectual property here is about $5 trillion. Of that, approximately $300 billion [6%] is stolen over the networks per year.”  He later called the theft “the greatest transfer of wealth in history.”

\”Intellectual property that is stolen over the Internet constitutes only a portion of total IP theft. Much of it occurs the old-fashioned way. Hard drives are either duplicated on site or physically stolen by bribed employees; employees are planted temporarily in companies or permanent employees leave and illegally share proprietary information; products are dissected, re-engineered, and sold without permission or payment of royalties; digitized products are pirated and sold illegally; phones are tapped for the purpose of obtaining trade secrets; and email accounts are compromised. The list
goes on. …  Totaled, it is safe to say that dollar losses from IP theft are hundreds of billions per year, which is at least in the range of total exports to Asia in 2012 (valued at $320 billion).

Indeed, IP is hugely important to the U.S. economy. Loss of revenues to the victimized inventor or owner of a trade secret is the first and most obvious cost of IP theft, but an asset is lost too. Both losses mean fewer jobs and less money to reinvest in the next generation of products. Stolen IP represents a subsidy to the party that did not have to bear the costs of developing it, and the effects can ripple across industries and companies.\”

Looking at a range of estimates, the Commission argues that China accounts for about 70% of the theft of intellectual property. It points out that with long global supply chains, and sluggish enforcement, intellectual property is at ever-greater risk. It\’s clearly a counterproductive state of affairs that prevents U.S. companies from using the intellectual property of their competitors, but then makes them compete against Chines producers who have gained access to that same intellectual property without a license or payment.

What\’s to be done?  This commission was co-chaired by Dennis C. Blair (former Director of National Intelligence and Commander in Chief of the U.S. Pacific Command and Jon M. Huntsman (former Ambassador to China, Governor of the state of Utah, and Deputy U.S. Trade Representative). It\’s proposals are mainly for greater government attention and enforcement for these issues, including everything from investing in cybersecurity measures to requiring that imported products show that their supply chain used intellectual property fairly.

While such recommendations are sensible enough, they do run a risk that the U.S. government becomes an agent pushing solely for higher royalty profits for U.S. innovators and producers, without taking into account how the diffusion of new technologies can benefit consumers. Trying to enforce U.S. standards of intellectual property protection around the world for all products is going to be costly and cumbersome, at best. Improved protection of intellectual property is a worthy goal, but we also need to be rethinking more broadly how to encourage U.S.-based innovation in a competitive global economy that is not always going to play by U.S. rules with a variety of policy tools, including government-supported research and development, training of researchers, tax breaks for corporate research and development, and a U.S. business climate that is supportive for new U.S. firms.  

In the past, those with student loans had more debt that those without such loans, but also had similar credit scores and were more likely to have a home loan or a car loan. The reason, of course, is that hose with student loans also are more likely to have attended colleges and universities, and the improved job prospects from higher education in some sense outweighed the student loan debt. But now the pattern has altered, as Meta Brown and Sydnee Caldwell of the New York Federal Reserve report.

Here are a couple of illustrative figures looking at home loans and car loans. Notice that up to about 2008, those with student debt were more likely to have home and car loans. Since then, they have become slightly less likely to have such debt.

Here\’s a figure, showing credit scores for 25 and 30 year-olds, with and without student debt. Notice that up to about 2008, credit scores were similar for those with and without student debt–essentially, the higher level of debt for those with student loans, who were also more likely to have home and car loans, was counterbalanced by their higher earning power. But since 2008, the credit scores of 25 and 30 year-olds without student debt have risen, while those with student debt have been flat or slightly declining.
 

Of course, these numbers are averages. Probably the key fact to remember about student debt is that there is enormous variation in the payoff to higher education depending on the school you attend, your major, whether you complete a degree, and other factors. For previous posts on student loan issues, see \”Student Loan Snapshots\” (March 4, 2013) and \”Average College Student, Average Loan\”
(March 27, 2012). 

When it comes to worrying about future financial dangers, Raghuram Rajan has a track record. Back in 2005, he presented a paper at a high-profile conference of central bankers called, \”Has Financial Development Made the World Riskier?\” He answered \”yes,\” and took a lot of criticism for a few years–before the financial crash and Great Recession from 2007-2009 largely proved him right.

Rajan has now given the first Andrew Crockett Memorial Lecture at the Bank of International Settlements, titled \”A step in the dark: unconventional monetary policy after the crisis.\” With economic predictions, as with stock market forecasters, it\’s always wise to note that past performance is no guarantee of future success. But it\’s always worth learning about how Rajan sees the world. He writes:  

\”Two competing narratives of the sources of the crisis, and attendant remedies, are emerging. The first, and the better known diagnosis, is that demand has collapsed because of the high debt build up prior to the crisis. … But there is another narrative. And that is that the fundamental growth capacity in industrial countries has been shifting down for decades now, masked for a while by debt-fuelled demand. More such demand, or asking for reckless spending from emerging markets, will not put us back on a sustainable path to growth. Instead, industrial democracies need to improve the environment for growth. The first narrative is the standard Keynesian one, modified for a debt crisis. It is the one most government officials and central bankers, as well as Wall Street economists, subscribe to, and needs little elaboration. The second narrative, in my view, offers a deeper and more persuasive view of the blight that afflicts our times.\”

Rajan argues that the extraordinary steps taken by the Federal Reserve and other central banks in the heat of the financial crisis and recession was brave and correct. However, he points out that the policies of ultra-low interest rates since the end of the crisis have not restored the economy to health, and worries about some of the risks and problems that are being stored up.

\”Hindsight is 20–20. It now seems obvious that central banks should have done what they did then, but in many ways, the central banks were making it up as they went. Fortunately for the world, much of what they did was exactly right. They eased access to liquidity through innovative programs such as TALF, TAF, TARP, SMP, and LTRO. By lending long term without asking too many questions of the  collateral they received, by buying assets beyond usual limits, and by focusing on repairing markets, they restored liquidity to a world financial system that would otherwise have been insolvent based on prevailing market asset prices. In this matter, central bankers are deservedly heroes in a world that has precious few of them. … Be that as it may, the second stage of the rescue was to stimulate growth with ultra-low interest  rates. And thus far, the central banks have been far less successful.\”

For all the hot-tempered rhetoric about the actions of the Federal Reserve since about 2009, the truth is that economists don\’t have strong theory or evidence on how these policies should work. Rajan writes: 

\”Churchill could well have said on the subject of unconventional monetary policy, “Never in the field of economic policy has so much been spent, with so little evidence, by so few”. Unconventional monetary policy has truly been a step in the dark.\”

Rajan offers some discussion of the potential issues with a policy of sustained ultra-low interest rates. For example:

•  \”[F]inancial risk taking may stay just that, without translating into real investment. For instance, the price of junk debt or homes may be bid up unduly, increasing the risk of a crash, without new capital goods being bought or homes being built. … As just one example, the IMF’s Global Financial Stability Report (Spring 2013) points to the re-emergence of covenant lite loans as evidence that greater risk tolerance may be morphing into risk insouciance.
• \”[A]ccommodative policies may reduce the cost of capital for firms so much that they prefer labor-saving capital investment to hiring labor. …  Excessive labor-saving capital investment may defeat the very purpose of unconventional policies, that is, greater employment. Relatedly, by changing asset prices and distorting price signals, unconventional monetary policy may cause overinvestment in areas where asset prices or credit are particularly sensitive to low interest rates and unanchored by factors such as international competition. For instance, the economy may get too many buildings and too few machines, a consequence that is all too recent to forget.\”
• \”The spillovers from easy global liquidity conditions to cross-border gross banking flows, exchange rate appreciation, stock market appreciation, and asset price and credit booms in capital receiving countries – and eventual overextension, current account deficits, and asset price busts has been documented elsewhere, both for pre-crisis Europe and post-crisis emerging markets.\”
• Politicians may avoid taking necessary reforms, because they unwisely believe that central bankers have all the tools necessary to bring long-term economic health.
• \”Exiting central bankers have to be prepared to “enter” again if the consequences of exit are too
  abrupt. Will exit occur smoothly, or in fits and starts, or abruptly? This is yet another aspect of
  unconventional monetary policies that we know little about.\”

As America\’s population ages, many more elderly people are going to need services and supports, ranging from a little help at their own home to community based care, residential care facilities, and skilled nursing home care. The Congressional Budget Office usefully lays out the issues in its June 2013 report, \”Rising Demand for Long-Term Services and Supports for Elderly People.\”

The starting point, of course, is that the U.S. population is aging.

At present, the majority of the value of the provision of long-term care services is provided by \”informal care\”–that is, care provided without compensation by family and friends. The CBO estimated the value of this care by looking at estimates of the number of hours involved, and then valuing that time at $21/hour, which is roughly the average cost of hiring someone to provide this kind of care.

As the proportion of older adults climbs, especially those over 85, many of them are going to need greater assistance. Here\’s an estimate of the need for assistance among elderly people living in the community–that is, not those who need residential or skilled nursing home care. With more people living longer and with fewer children than previous generations, informal care is unlikely to be able to meet the growing need for these services.

Of course, as people become older they are more likely to need institutionalized care, as well.

I\’m not at all sure how best to start building social institutions to address these coming needs, but here are some thoughts.

1) It would of course be best if most people could make some provision for the costs of their own care. But many Americans don\’t have much in savings. And getting people to buy long-term care insurance is a tough sell, in part because it\’s unclear how this care will be provided several decades in the future and what it will cost, and in part because Medicaid eventually steps in and covers nursing home care for those whose assets are depleted–which gives people less incentive to buy private insurance. In fact, more than half of the current nursing home residents in the U.S. are having their bills paid by Medicaid. For more discussion, see this post on \”Long-Term Care Insurance in the U.S.\”

2) Some other high-income countries have government programs to pay for long-term care. Not surprisingly, they spend a substantially greater share of GDP on long-term than does the U.S. In any event, the long-term U.S. budget picture is grim enough that adding another entitlement for the elderly isn\’t likely. For more discussion, see \”Long-Term Care in International Perspective.\”

3) It\’s typically much less expensive if the elderly can continue to live in the community, whether in their own home or in some kind of community residence. CBO reports: \”In 2011, the annual cost of care for a resident paying either out of pocket or with private insurance in a semiprivate room in a nursing home averaged nearly $80,000.\” Living in the community is also what most of the elderly prefer. Thus, the challenge is how to retrofit homes to be safe for the elderly, and to start planning and setting up a network of community-based residences near shopping, libraries, parks, public transit, and health care, and providing a network of services, but in a way that continues to encourage the provision of informal care and support by family and friends. It will be difficult to draw this balance.

4) Much depends on the health status of the elderly a few decades from now. If the elderly not only live longer but remain relatively active and healthy, then that should lead to one blueprint for long-term care. If the elderly start living much longer, and if their health becomes especially frail for many years, another blueprint for long-term care will be needed. Again, I don\’t have a clear blueprint in my own mind for how to address these issues. But it is virtually certain that the need for long-term care for the elderly is going to rise dramatically, and pushing most of them into Medicaid-funded nursing homes is unlikely to be the best answer.

For economists around the world, 1776 means the publication date of Adam Smith\’s classic The Wealth of Nations.  Book IV, Chapter 7, is entitled \”Of Colonies.\” Smith expresses the view that Europe contributed very little to the economic success of its American colonies–except for some talented people. He also believed that the while England benefited from trade with its colonies, England also had to bear the costs of defense and of the monopolies on trade that it created. He painted a picture of how the American colonies might be allowed democratic representation, but viewed it as a politically unlikely outcome. He also predicted that even when a nation didn\’t benefit from having colonies, it was still reluctant to let the colonies go peacefully. The quotations here are from the ever-useful \”Library of Economics and Liberty,\” which has number of classic works  of economics freely available in searchable form on-line.

\”The policy of Europe, therefore, has very little to boast of, either in the original establishment or, so far as concerns their internal government, in the subsequent prosperity of the colonies of America. Folly and injustice seem to have been the principles which presided over and directed the first project of establishing those colonies; the folly of hunting after gold and silver mines, and the injustice of coveting the possession of a country whose harmless natives, far from having ever injured the people of Europe, had received the first adventurers with every mark of kindness and hospitality…. 

\”The English Puritans, restrained at home, fled for freedom to America, and established there the four governments of New England. The English Catholics, treated with much greater injustice, established that of Maryland; the Quakers, that of Pennsylvania. The Portugueze Jews, persecuted by the Inquisition, stripped of their fortunes, and banished to Brazil, introduced by their example some sort of order and industry among the transported felons and strumpets by whom that colony was originally peopled, and taught them the culture of the sugar-cane. Upon all these different occasions it was not the wisdom and policy, but the disorder and injustice of the European governments which peopled and cultivated America. …\”

\”When those establishments were effectuated, and had become so considerable as to attract the attention of the mother country, the first regulations which she made with regard to them had always in view to secure to herself the monopoly of their commerce; to confine their market, and to enlarge her own at their expence, and, consequently, rather to damp and discourage than to quicken and forward the course of their prosperity. In the different ways in which this monopoly has been exercised consists one of the most essential differences in the policy of the different European nations with regard to their colonies. The best of them all, that of England, is only somewhat less illiberal and oppressive than that of any of the rest.\”

\”In what way, therefore, has the policy of Europe contributed either to the first establishment, or to the present grandeur of the colonies of America? In one way, and in one way only, it has contributed a good deal. … It bred and formed the men who were capable of achieving such great actions, and of laying the foundation of so great an empire; and there is no other quarter of the world of which the policy is capable of forming, or has ever actually and in fact formed such men. The colonies owe to the policy of Europe the education and great views of their active and enterprising founders; and some of the greatest and most important of them, so far as concerns their internal government, owe to it scarce anything else.\”

\”To found a great empire for the sole purpose of raising up a people of customers may at first sight appear a project fit only for a nation of shopkeepers. It is, however, a project altogether unfit for a nation of shopkeepers; but extremely fit for a nation whose government is influenced by shopkeepers. Such statesmen, and such statesmen only, are capable of fancying that they will find some advantage in employing the blood and treasure of their fellow-citizens to found and maintain such an empire. Say to a shopkeeper, Buy me a good estate, and I shall always buy my clothes at your shop, even though I should pay somewhat dearer than what I can have them for at other shops; and you will not find him very forward to embrace your proposal. But should any other person buy you such an estate, the shopkeeper would be much obliged to your benefactor if he would enjoin you to buy all your clothes at his shop. England purchased for some of her subjects, who found themselves uneasy at home, a great estate in a distant country. The price, indeed, was very small, and instead of thirty years purchase, the ordinary price of land in the present times, it amounted to little more than the expence of the different equipments which made the first discovery, reconnoitred the coast, and took a fictitious possession of the country. The land was good and of great extent, and the cultivators having plenty of good ground to work upon, and being for some time at liberty to sell their produce where they pleased, became in the course of little more than thirty or forty years (between 1620 and 1660) so numerous and thriving a people that the shopkeepers and other traders of England wished to secure to themselves the monopoly of their custom. Without pretending, therefore, that they had paid any part, either of the original purchase-money, or of the subsequent expence of improvement, they petitioned the parliament that the cultivators of America might for the future be confined to their shop; first, for buying all the goods which they wanted from Europe; and, secondly, for selling all such parts of their own produce as those traders might find it convenient to buy. … A clause in the famous act of navigation established this truly shopkeeper proposal into a law.\”

\”In order, however, to obtain this relative advantage in the colony trade, in order to execute the invidious and malignant project of excluding as much as possible other nations from any share in it, England, there are very probable reasons for believing, has not only sacrificed a part of the absolute advantage which she, as well as every other nation, might have derived from that trade, but has subjected herself both to an absolute and to a relative disadvantage in almost every other branch of trade. … \”

Smith discussed various possibilities for how Great Britain might deal with its colonies. One proposal was that Great Britain should just \”voluntarily give up all authority over her colonies,\” which would then allow Britain and America, in friendship to benefit from free trade between them. But he despaired of this possibility. 

\”To propose that Great Britain should voluntarily give up all authority over her colonies, and leave them to elect their own magistrates, to enact their own laws, and to make peace and war as they might think proper, would be to propose such a measure as never was, and never will be adopted, by any nation in the world. No nation ever voluntarily gave up the dominion of any province, how troublesome soever it might be to govern it, and how small soever the revenue which it afforded might be in proportion to the expence which it occasioned. Such sacrifices, though they might frequently be agreeable to the interest, are always mortifying to the pride of every nation, and what is perhaps of still greater consequence, they are always contrary to the private interest of the governing part of it, who would thereby be deprived of the disposal of many places of trust and profit, of many opportunities of acquiring wealth and distinction, which the possession of the most turbulent, and, to the great body of the people, the most unprofitable province seldom fails to afford. The most visionary enthusiast would scarce be capable of proposing such a measure with any serious hopes at least of its ever being adopted. If it was adopted, however, Great Britain would not only be immediately freed from the whole annual expence of the peace establishment of the colonies, but might settle with them such a treaty of commerce as would effectually secure to her a free trade, more advantageous to the great body of the people, though less so to the merchants, than the monopoly which she at present enjoys. By thus parting good friends, the natural affection of the colonies to the mother country which, perhaps, our late dissensions have well nigh extinguished, would quickly revive. It might dispose them not only to respect, for whole centuries together, that treaty of commerce which they had concluded with us at parting, but to favour us in war as well as in trade, and, instead of turbulent and factious subjects, to become our most faithful, affectionate, and generous allies …\”

As an alternative, Smith suggested that there could be taxation with representation: that is, Americans could be given representation in the British parliament. He argues that if Americans were offered such a possibility, many of their leaders would be delighted with the chance to rise in British politics. But denied such a possibility, the American leaders feel a

\”The parliament of Great Britain insists upon taxing the colonies; and they refuse to be taxed by a Parliament in which they are not represented. If to each colony, which should detach itself from the general confederacy, Great Britain should allow such a number of representatives as suited the proportion of what is contributed to the public revenue of the empire, in consequence of its being subjected to the same taxes, and in compensation admitted to the same freedom of trade with its fellow-subjects at home; the number of its representatives to be augmented as the proportion of its contribution might afterwards augment; a new method of acquiring importance, a new and more dazzling object of ambition would be presented to the leading men of each colony. Instead of piddling for the little prizes which are to be found in what may be called the paltry raffle of colony faction; they might then hope, from the presumption which men naturally have in their own ability and good fortune, to draw some of the great prizes which sometimes come from the wheel of the great state lottery of British polities.

\”Unless this or some other method is fallen upon, and there seems to be none more obvious than this, of preserving the importance and of gratifying the ambition of the leading men of America, it is not very probable that they will ever voluntarily submit to us; and we ought to consider that the blood which must be shed in forcing them to do so is, every drop of it, blood either of those who are, or of those whom we wish to have for our fellow-citizens. They are very weak who flatter themselves that, in the state to which things have come, our colonies will be easily conquered by force alone. The persons who now govern the resolutions of what they call their continental congress, feel in themselves at this moment a degree of importance which, perhaps, the greatest subjects in Europe scarce feel. From shopkeepers, tradesmen, and attornies, they are become statesmen and legislators, and are employed in contriving a new form of government for an extensive empire, which, they flatter themselves, will become, and which, indeed, seems very likely to become, one of the greatest and most formidable that ever was in the world. … Almost every individual of the governing party in America fills, at present in his own fancy, a station superior, not only to what he had ever filled before, but to what he had ever expected to fill; and unless some new object of ambition is presented either to him or to his leaders, if he has the ordinary spirit of a man, he will die in defence of that station.\” 

And of course, Smith\’s prediction, published in 1776 but largely written several years earlier, came true. To repeat, on this Fourth of July: \”From shopkeepers, tradesmen, and attornies, they are become statesmen and legislators, and are employed in contriving a new form of government for an extensive empire, which, they flatter themselves, will become, and which, indeed, seems very likely to become, one of the greatest and most formidable that ever was in the world.\”