One of the more intriguing results in Thaler’s The Winner’s Curse is the idea that people have an idea of “fair” pricing. The common example is splitting $10 between two participants—Player 1 splits the amount between the two, though both have to agree to the respective amounts in order to actually receive the money. Theory dictates that Player 2 should accept any non-zero amount (as it’s money that they otherwise wouldn’t have)—but in practice, if the amount is viewed as insultingly low (say, $0.05), then Player 2 will reject the bid in Seinfeldian spite and no one gets anything. Evidently, people care not only about their relative values for goods, but about others’ respect of those values.
I can’t help but to think that this is at least partially related as to why people are so upset about paying “too much” for gasoline. People value gasoline at its current price—after all, they are at the pump getting mad—but they remember paying less, and somehow the price increase is insulting. It’s popular to point the finger at oil companies (after all, they have big ships that hurt baby seals), OPEC and natural disasters, but this points to another explanation. As the EPA continues to levy regulation upon regulation, prices continue to rise—and the government is obviously not going to blame itself for the discontent of millions.
It raises an interesting question—who is doing a better job of keeping gas prices high: OPEC, or the EPA? I don’t think either of these are the primary reason as to why gas prices have climbed to their current level—nonetheless, I’d love to see a paper on that topic. OPEC’s effect, I’d imagine, has probably been subject to a Harberger-related estimation. The EPA causes higher prices directly via quality controls, but also introduces a whole host of public choice-related inefficiencies. I’d suspect that the EPA has a rather sizable effect on gas prices. Extend it from the EPA to the entire government and gas taxes could be added in as well.
Higher demand causes higher prices—but so does regulation. The finger should point in that direction too.
7 comments:
Do you ever stop to think that maybe the oil companies are exploiting people? It's a matter of fact that the OPEC monopoly allows them to do this. And the EPA plays an important role in protecting resources that are often infringed upon due to negative externalities. Sheesh. You free-market types need to leave the church of milton friedman for once and have a glipse at the real world.
Donald
Dirtier environments are almost certainly something that people, ceteris paribus, would prefer less of. The mistake that the EPA makes is that it assumes that all people value a clean environment to the same degree, and "charges" everyone the same amount by imposing regulation and uniformly raising the cost for everyone by the same amount.
The better solution is to internalize the externality and allow for tradable pollution rights. Those that desire to pollute more must acquire the rights to do so. It's similar to desiring more property-- rights must be acquired to achieve that goal as well.
With regards to directly versus indirectly causing the price level to raise, I think it's a matter of how far down the chain of events we can attribute to "directly." The EPA doesn't raise prices, that's true-- but they do impose regulation, and regulation raises prices. In the same light, Exxon Valdez didn't "directly" kill any wildlife-- it just spilled oil.
As to what Player 1 should offer, it depends on a number of things-- communication between the players, whether it's a multi-stage game, whether the game is played more than once, etc. In the simplest one-stage games, mean offers were usually never below 30% range-- well above the theoretical anything-greater-than-zero level. As to what you should offer? Probably the same answer when you know you're holding the best cards in poker early in the hand-- whatever gets you the most money without the other guy running away.
Matt,
I agree with your comments, but I would like to play devil's advocate. You said that "The better solution is to internalize the externality and allow for tradable pollution rights". I agree that an internalization of externalities is the best way to go by far, but what about those externalities that are very difficult to internalize due to transaction costs. The glib example, I suppose, is something that harms the ozone. How can the costs imposed on millions be accurately internalized to the person who caused it considering the practical impossibility of identifying the person and the extent of damage? How would we measure the damage? We can't just take people's word on how much they would pay to not have the damage.
Dave,
The transaction costs of accurately identifying pollution amounts are certainly something to be dealt with. In the original example of gasoline, though, I'm not sure that there would be any additional transaction cost above what knowledge is already available about automobile emissions today. There still exists a problem of who is to make sure that those remain accurate-- but I would rather have taxpayer money spent towards better defining property rights than making sure gasoline is free of additive X in 2006 and additive Y in 2010.
The fact that the EPA assumes that everyone deserves a clean environment is still an example of preference smoothing. There could very well be people out there that wouldn't pay one cent more for gasoline for a cleaner environment; there could well be some people that would pay $10 more per gallon. The regulations smooth all of these people into one group. At best, the EPA's regulation hit the mean public preference for a clean environment, in which case preferences are balanced but nearly no one's are matched.
The problem, if we're to get into the gasoline issue, is not the gasoline-- it's the cars that people drive. I could drive a hybrid vehicle and someone else could drive an SUV, but we're both still subject to the same tax rate. That example is a bit extreme; but now consider two engines that get the same mileage per gallon, but emit different amounts of pollution. Taxing gas does not get at this problem. It's similar to taxing every cassette tape sold due to piracy. Not every person will use each tape for piracy-related use to the same extent, yet every buyer has to pay the same tax, and hope that everything shakes out in the end. In the meantime, this distorts the pricing mechanism and imposes, among other problems, a deadweight loss.
I would agree that pollution is impossible to fully internalize. This is no reason to impose blanket regulation; tradeable rights have worked in commons-related problems in the past, most notably (in my mind) in Iceland's fishing industry.
The TVA example highlights something that people tend overlook-- there are not to be an endless supply of tradable pollution vouchers. Without a scarcity of vouchers, there's no effective market for them, nor an effective means of preventing pollution. Various principalities, be it at the state, country or city level can decide the level of pollution they want and move forward. Competition between principalities to attract residents will help increase efficiency. Granted, there are still spillover effects-- but taken to the extreme, the spillover effect of LA's smog is negligible on Fairbanks.
Though the TVA example has a much easier solution-- privatize the river.
And, naturally, you can not purchase the right to violate someone else's property rights, as murder is example 1a of that. Alas, I don't believe there exists a commons problem in murder as there does with pollution. (Drunk driving is a more interesting example, though.)
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So my views are obviously slanted. I am not employed by the EPA, but do conduct research in an EPA lab. And I'm Matt's sibling. I'm not an economist, so you may want to slam me and my naive tips. I won't get mad and start posting anonymously.
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