Category: Economics

Today, I was reading news stories about hand-sanitizers and masks being sold online for ten times their normal prices amidst the worldwide coronavirus outbreak. Given the circumstances, apparently Google and Amazon are prohibiting sales on their platforms at exorbitant prices. They are private companies so I have no qualms about what they decide to do, but their responses reminds me of historic efforts imposed by the government to control prices of various goods and services.

These price control efforts I’m thinking of are mandates like “anti-price gouging laws” that prohibit sellers from raising prices of products beyond a government-set percentage in case of a natural disaster, “rent control laws” that make it illegal for landlords to charge rent over a certain allowed annual percentage increase, and “minimum wage laws” that set the floor for how low of a wage an employer is allowed to pay to its employees.

On the surface, these issues seem pretty simple. Charging a high price for necessities that people need in times of a natural disaster, increasing the rent on someone struggling to pay rent, or hiring unskilled workers for the benefit of business-owners while taking advantage of cheap labor, all seem wrong. In a perfect world, we wouldn’t have to do any of that. But the world is not perfect, and a lot of discussions I have been having around this topic tend to miss an important aspect: what would we be giving up by implementing such laws? Are there unintended consequences? Are the decisions being made as a result of weighing the pros and cons to make sure that we are not causing unintentional harm? To help me understand the topic, I have been researching counterarguments against price-control measures, because the opposing views are not often talked about in the liberal state of California where I live, even though these are things well worth considering. My goal is that we can all think critically about such laws in order to be an informed voter, because these issues often come up in local elections.

Rent Control
Let’s start with rent control by considering the case of San Francisco, a city notoriously known for its lack of housing and exorbitant prices despite its rent control laws.

According to the citywide ordinance in San Francisco, an owner of a rental unit may not increase the rent by more than 5% annually against a current tenant. Given the current severe housing shortage in San Francisco, there is a drastic difference between how much a landlord can charge a tenant who already lives in a unit and wants to stay, compared with how much a potential new tenant moving in is willing to offer for the same unit. Rent control laws are popular among the public because the name suggests that it should control the rent, making it affordable for more people to live in that area. Because of that, many politicians in the past have implemented them to gain the support of the voters. However, a careful study of the topic reveals that rent control laws are ineffective at best in what it claims to do (to control the rent), and actually result in the opposite effect. Rent control is the main driver in rising rents, homelessness, and gentrification in an area, harming people, especially the poor.

To understand the topic better, it helps to first to put ourselves in the shoes of the landlords, such as an owner of an apartment complex. Remember that rent control law results in a large price difference between what future tenants are willing to pay, and what a landlord is allowed to charge the current tenant. As a result, the owner has all the incentives to kick out the current tenant for a new tenant. But that is often difficult to do, so the next best thing is to convert the rental unit into other forms of investment, such as commercial buildings or luxury condos for sale, which will command very high prices and offer a better investment opportunity than being a landlord. Such an incentive placed city-wide by an ordinance leads to an even greater shortage of rental units in the city, as more and more rental units get converted to serve other purposes, while very little new rental-units are being built in the city. Even as the city is expanding and businesses are moving in which should also have a corresponding demand increase for housing, investing in rental units is not as attractive as other forms of investment. The resulting shortage almost always means higher prices in the long run for the remaining rental units due to low supply and high demand. As prospective tenants bid up the prices for their chance to move into the city, rent becomes exorbitant. The people hurt most by rent control laws are the poor. Many rich future tenants pay bribes to the landlords to secure rental units. Some tenants even secretly sublet their unit at market price significantly above what they are paying to the landlord. In fact, my friend was recently paying $1600/month to his roommate to share a unit in San Francisco in which she has lived before him, signaling that the fair market value for the unit should be around $3200. Despite that, his roommate was paying significantly less than that to the landlord, because the landlord was forbidden by law to collect the profit from the arrangement between my friend and his roommate. No wonder that less and less investors want to supply rental units in such a city. As an investor, if I cannot collect the fair profits from my investments, I will forego the opportunity to invest in something else with my capital.

So a law designed to make housing affordable for people has the exact opposite effect as it causes a shortage and drives up the cost of housing. The story is much the same in other places that have implemented rent control: New York, Los Angeles, Washington D.C., and Oakland which are all facing increasing rent and homelessness.

Compare them to Tokyo, a large city with no rent-control laws. Tokyo has enough housing for people of all income levels because supply of housing has steadily increased in proportion to its population-growth historically. In Tokyo, a low-wage worker earning an equivalent of about $10 per hour can afford to live in one of the cheaper rental units in the city whose market rate is around $400, or about 25% of his monthly earnings, as long as he is okay with not living in the most convenient areas of the city. He would also likely have to live in a very small studio unit, and take a few more subways to get to work than the rich who tend to live in more central areas. It may not be the most ideal living situation, but it is comfortable enough, and it sure beats being homeless or having to live hours away from your place of employment, as workers in San Francisco often must do.

Speaking of homelessness, Tokyo has a homelessness population of about 1 per 10,000 residents. Compare that to New York city and Los Angeles, with a dismal 67 and 40 homeless persons for every 10,000 residents, respectively.

Anti-Price Gouging Laws
Let’s turn our attention to price-gouging laws. In California, its anti price-gouging statute prevents a merchant from raising the price of any item by over 10% in response to a declared emergency, such as a natural disaster. In theory, such a law sounds good, as it should keep items affordable for the poor, who tend to be the most vulnerable when disaster strikes.

However, forbidding prices to go up ignores the fact that in case of a natural disaster, the demand for certain products can rise significantly in a very short amount of time, driving up the market rate for various products. The very definition of what used to be “normal” does not apply anymore, as there is a new normal price determined by the sudden spike in demand. If merchants are not allowed to raise the price of these products, these products will immediately sell out, and their prices will rise any way through the secondary and black markets, as people who make it to the stores first will hoard these items, often to stock up for emergency or to sell them at a much higher price that people are now willing to pay given the new circumstances, leaving little for the poor for a chance to get the products. An anti-price gouging law cannot fight the market forces to control the prices as it intends to do.

What is the effect, then, of such a law? It turns out that it is very similar to rent-control laws mentioned above. When a law prevents price of a product to rise in response to the current market conditions, producers of that product don’t have a strong enough incentive to produce more of that product, and the merchants of that product who operate in multiple regions to divert its normal supply chains to provide more of that product to the area where price is rising, signaling the highest need. Because of the lack of incentives on these key players in the market, laws preventing price hikes lead to a severe, ongoing shortage of the product in question. A price hike may be unfortunate, but as long as incentives are allowed to fluctuate freely with changing market conditions, high-prices prevent people to hoard an item unnecessarily in the short term, and prices come down quickly as more suppliers start providing the product to the affected area. This is a much more desirable effect than an ongoing shortage.

For example, an ongoing shortage of masks in an area devastated by a wild fire could mean life and death for many of its residents, and it is tragic that anti-price gouging laws can indirectly kill people by failing to incentivize the market forces to bring more masks to the area. It is one thing to be skeptical of free market forces when it comes to topics like health insurance and the environment which have externalities that the market fails to address, but a whole another to ignore its efficiency of providing a high-demand product in a high-demand area. Free market forces act significantly faster to solve a simple shortage than a government bureaucracy trying to supply the product in such a scenario. The government does not have the right connections to the producers and the merchants to devise an effective policy overnight to save the lives of these people, while a web of producers, delivery services, and retail stores responding to the market forces are very effective to quickly divert products to areas in need.

Economists are often criticized for simplifying the world with sketches of supply and demand curves on a napkin to explain such phenomena, but there is an important wisdom to be gained by trying to understand how supply and demand works at the most basic level. I liken it to future mechanical engineers who study about frictionless inclined-planes in their introductory physics course, even though no such object exists in the real world. The education obtained here is nonetheless crucial to the career of this future engineer or the future voter in understanding more complex topics.

Anyone who studies the history of price controls cannot deny that government-imposed price control measures have consistently led to severe shortages any time the market price for any product goes above the price allowed by law. The gasoline shortage during the 1970’s oil embargo, the shortage of apartments in rent-controlled cities, food and basic necessities in Venezuela under Hugo Chavez’s policies placing a cap in their prices, the shortage of doctors in countries where the government imposes how much a doctor can charge for various services, are all examples of this. It is just difficult to see the causal negative effect of these policies because under normal circumstances, market prices for most services and products do not go above the level imposed by the government. When it does suddenly many years later, the politician who implemented such an erroneous and mistaken economic policy (often with praise from the citizens at the time of implementation) is usually long gone from the office, as society is left to deal with the devastating consequences, wondering why the shortage does not get solved even as people suffer.

Minimum Wage Laws
Finally, let’s turn our attention to minimum wage laws. Perhaps this is the most controversial of the three price control laws I mentioned today, because it affects the most number of people on a daily basis. It is also the most complex of the three, with its long-term effects not completely understood given the complexities of the labor economy. The key difference between a minimum wage law and the other two laws I mentioned above is that a minimum wage is a “floor” placed on the price of labor setting a certain minimum, as opposed to price-control measures such as rent control and anti-price-gouging laws, which are “ceiling”s setting some maximum level.

The typical Econ 101 textbook states that a price floor results in surplus, while a price ceiling results in a shortage. So the minimum wage law, which effectively sets a floor on wage, should cause a surplus in the available labor, meaning higher unemployment rates. The simple explanation may miss some key insights because of the long-term effect on the well being of the economy when people, especially the young, forego working for other high value activities such as education. Also, it is possible that businesseses may be underestimating the value of a worker and underpaying them. Paying too much for a worker hurts the bottom line for obvious reasons, but paying workers too little could also be damaging too if the wages are so low that a job loss does not hurt, in which case those workers have little incentive to be actually productive at work.

The key argument for minimum wage law is that by setting the minimum to a “livable wage” to meet the basic living conditions, poverty should be eradicated. It sounds beautiful in theory.

But at the same time, it doesn’t take the most intelligent economist to see that you can’t just raise the minimum wage to any price you wish. For example, raising the minimum annual salary to $100,000 for everybody sounds great at first if we can all earn a six-figure income starting tomorrow and live in abundance. But if such law were to be implemented, any employee who does not produce that kind of profit for the employer with his or her skills will be laid off soon, as there is no reason whatsoever for the business to keep such a person on staff. Engineers, doctors, and lawyers already earning a six-figure salary will likely keep their jobs, while many people will lose their jobs, at least temporarily, as the economy slowly adjusts to inflate the price of everything to negate the effect of a higher income, at which point people can be employed again.

So by common sense, we can’t set the minimum wage to $100,000/year without causing massive unemployment in the short run and inflation in the long run. So what is the result of a more realistic minimum wage, such as $15/hour, that many proponents argue for?

In the short term, it will not change much of anything for most people in their mid-careers, because they are already earning wages well above $15/hour anyway. The only people initially affected by the law are people currently working for under $15/hour. By the same logic as the example of the $100,000/year minimum wage above, with a $15/hour minimum wage, companies will have an incentive to layoff anyone whose work and skill does not produce a profit to the business equivalent to $15/hour. These are mostly people in entry-level jobs with little experience nor knowledge on how to do the jobs effectively yet, such as students or people straight out of prison working at their first job.

Even though the proponents of minimum wage often cite how impossible it is to raise a family on minimum wage, it is important to recognize that a majority of people working minimum wage jobs are actually not raising families. They tend to be young, inexperienced workers working their first job to gain a footing in the world of work. For such people, an opportunity to work and build experience, regardless of any wage, may be more important than a higher wage, and a minimum wage law inevitably means that some of them will be unemployed because their market wage is worth less than what the law allows. Many proponents of minimum wage I’ve talked to seem ignorant about all the negative consequences of it, such as higher unemployment rates of low-skilled workers, hours of work cut from those who need or want it, loss of flexibility in many positions, capital replacing human labor faster than it naturally would under a free market, higher cost to all businesses but especially to small businesses, and higher prices on various consumer goods and services.

Of course, young people finding a difficult time finding employment can forego work now and focus on their education which also lead to future opportunities, and perhaps that is not necessary bad. Also, the negative consequences of the minimum wage law is not as obviously visible to the ordinary voter who has other things to worry about in life. That is because minimum wage workers represent only about 0.1% of the labor force. Regardless, to those few workers, a minimum wage increase could mean a disruption to their career, because the law will suddenly prevent an employer to keep employing that worker at a price that they both had agreed on, and the employer often has no choice but to let them go, cut their hours, or raise their prices. If the law unintentionally prohibits a contract between a business and a potential hire even though both parties are willing, it has done harm to both of those parties. People can disagree whether it is role of a third party such as the government to prohibit two willing parties to buy and sell labor at a price that they both agree on, but there is no doubt that the minimum wage causes much more harm than good, and the people hurt the most by it are low-skilled labors, the very people the proponents of the law claims to be “helping”.

Another irony of the minimum wage law is that its proponents are often “economic liberals” in the American sense, who generally favor government intervention to control business sizes. They claim that corporations are getting too large and that is bad for competition. But they fail to recognize that minimum wage laws favor large corporations, as they are the ones who can afford to pay a higher wage, while small businesses are more likely to go out of business because they tend to have much smaller profit margins and thus are hurt the most by having to pay a higher wage.

Proponents of minimum wage laws should critically think about these trade-offs before coming to any conclusion.

Summary
My goal in analyzing price control laws today was to frame the conversation as a trade-off between pros and cons after having understood both sides viewpoints, rather than an emotional argument about right and wrong which will never lead to good policies. These are nuanced topics with no one right answer, so being aware of the implications is crucial. Policies and their effects are not simple to understand. It is not about implementing what satisfies our emotions. Every policy has trade-offs that must be considered. Have we thought about what those might be? If not, let’s think them through. After we’ve done so, are the trade-offs worth it? These questions must be driving our conversations.

“Amazon is getting too big, it’s like a monopoly. I’m scared that they are going to take over the world. Other sellers cannot compete with them, and that’s not good.”

That was a concern my friend expressed recently. I was reminded of it again today, because the authorities of the European Union apparently have the same misunderstanding of what constitutes a monopoly. Today, the E.U. announced a fine on Google worth over $5 billion, claiming that Google’s partnerships with hardware makers such as Samsung, Huawei, and HTC to make Google’s applications the default services on the devices are in violation of antitrust laws.

Simply put, this ruling is not warranted. (Disclaimer: any views I express here are my own, and they are not of my employer, Google. For that, refer to their official blog.)

Antitrust laws exist for a simple reason: to prevent a monopoly from taking advantage of its status to remove competition from the market. Here’s a couple of examples of what might constitute a violation of antitrust laws:

1. If my local cable company works out a deal with the politicians to make it illegal for other competitors to enter the market, then promptly jacks up the price of its services.
2. If Google and Apple were to secretly agree that instead of competing to offer good products at good prices to the consumers, they would both jack up their respective phone prices (iPhone and Pixel) to some ridiculous amount.

Honestly, either of the above wouldn’t bother me at all because we’ll all be just fine without cable TV or smart phones, but still, I can see that such actions could be considered a violation of antitrust laws.

Now, let’s be clear about one thing. There is a big difference between a company who gets big because it has removed competition through corruption and has broken antitrust laws, and a company who gets big because the services and the products that they provide are so valuable to the consumers that so many of them choose to use it. So which is the case for Amazon and Google?

The reason Amazon is big is NOT because they are evil and they are taking advantage of all of us. Amazon is big because everybody chooses to use Amazon, which in turn makes them profitable. Why do we all choose to use it? Is Amazon our only choice? No, of course not. We can all stop using it any day, if we wanted to. But we don’t want to. We use Amazon because they offer better prices on many goods compared to their competitors, and that is a good thing for the consumers. That is far from a monopoly taking advantage of its status to jack up prices that it puzzles me why people confuse the difference. It might suck for a store owner about to go out of business due to increased competition, but the whole point of antitrust laws is to encourage this kind of competition, not to stop it. If that store owner were to argue he is going out of business and therefore Amazon must be harming the economy, he would be wrong. It is actually good for the economy for a company who does the job more efficiently to get more of the business, incentivizing businesses who don’t do it as well to step up their game and do it better. If they fail at that, they’ll go out of business as they should in a healthy economy, and hopefully they’ll go on to do something else with their time and resources to benefit the society in another way. Fallacies in economic thinking often comes from only thinking about a negative aspect of a small part of the economy (in this case, the store owners), so let’s make sure that we don’t forget about the positive aspects on the rest of the economy, which in this case obviously includes the consumers, but also the manufacturers whose customer-base has suddenly expanded to the entire world thanks to Amazon.

When it comes to Google and the Android platform, again, it would be wrong to say that they have taken advantage of their position to the detriment of the consumers. First of all, they have not at all removed the competition, and they aren’t trying to. Android is an open platform precisely because Google’s mission is to make the world’s data accessible to anyone and everyone. There are so many choices when it comes to Android devices, from over a thousand manufacturers. The competition in this market is alive and well, and there are many affordable options for the consumers because of it. Some of the manufacturers may have agreed to a contract with Google to pre-install Google’s apps, but it’s not as if they were forced to do so. If they thought that Google’s apps were bad and it would’ve been better to install other apps instead in order to sell more of their devices, they would have. Why didn’t they? Their choice. Customers also don’t have to use these manufacturers’ devices. So why do they? Again, their choice. And I didn’t even mention the competition from non-Android (which basically means iOS) devices, which is also a very healthy competition, so really nobody needs to use an Android device if they all choose to use iOS. Why don’t they all switch to iOS? Again, their choice. (Starting to see a pattern here?) All this competition is good for the consumer, and plenty of choices exist as we speak. There’s nothing confusing here, and I can’t put it any simpler. Despite the competition, customers are still choosing to use Google’s applications because of their high quality. These apps provide them with something valuable. When’s the last time Google Maps helped you navigate and avoid a traffic jam? It happens all the time for me. And recently at a sushi restaurant in Tokyo, I saw a Korean girl use Google Translate to figure out how to say her favorite fish, then proceeded to put in her order in Japanese.

My coworker told me about a time he witnessed a family at an airport attending a sick child, and a nurse happened to be nearby to help. They didn’t speak the same language, so they used Google Translate to communicate. Were they forced to use it? No, they chose to because it was useful and it provided them with something they needed.

This week, Donald Trump announced that he is imposing tariffs on foreign steel and aluminum, tweeting “To protect our country we must protect American steel!”

This is a completely illogical policy. It is not at all based on sound economics, and the result is a significant net-negative on America’s (and also the world’s) economy.

It is shocking to me that tariffs are still a thing. Politicians all over the world keep making this mistake, and I am starting to wonder, are they really ignorant, or are they simply doing this to gain votes from ignorant voters even at the cost of the damage done by their stupid policy?

The fallacy in this kind of thinking stems from a simple omission: the mistake of only regarding the positive effect on a small subset of the economy (in this case, the American metal industry) while ignoring the negative effect on the economy of the country as a whole.

So let’s actually think through this issue and figure out what happens to America’s economy as a result of the imposed tariff on metals.

First of all, we must recognize the reason we import any commodity in the first place. The United States imports foreign metals because there happen to be other countries who produce that same metal more efficiently than we do. This makes perfect sense, why would we pay more for an American metal, when we can just import the same exact metal from another country for cheaper?

A person thinking only about the American steel industry then comes to the erroneous conclusion that foreign metal industries are bad for America, because we should be producing more of the metal here “to put America first, and to bring back our jobs.”

This results in a policy like this tariff on foreign metals. Now, those foreign metals are artificially made more expensive in the United States. Because of this, other American industries that need metal to produce their products are now forced to eat the cost by either buying the artificially expensive foreign metal, or the already expensive American metal.

And here is the problem. Now all of a sudden, an American car, say, that used to be made out of inexpensive metal imported from overseas, is suddenly forced to be manufactured from more expensive metal made in America. To the consumer, that means this car is more expensive than it used to be. That naturally leads to the consumers buying less American cars and switching over to cheaper alternatives such as Japanese cars. At best, we “saved” a few jobs in the American steel industry at the cost of jobs lost in the American car industry. In addition to those lost jobs, the American consumers also now have less money, because many goods are now costing more than they used to. The effect of that lost money is hard to trace, but it means less money in the system that could have been used to buy some product in some other industry, so that unknown industry is now short of the need to create that product which directly means less jobs in that industry. I used cars as an example above but the damage is actually distributed across a countless number of industries.

It doesn’t take a doctorate degree in economics to understand the damage of such an erroneous policy if we just simply follow the exchanges. Yet we keep falling for it. To me, there’s no better reminder that our education system has failed to do its one job: to educate citizens to think critically. It concerns me greatly that we continue to fail to make informed decisions based on sound logic and reason. Why don’t we ever stop to think to ourselves for a second, “wait, why is this politician doing this, and what’ll actually happen as a result?” and calling them out for their stupidity without resorting to tribalism and choosing sides based on the politicians’ image, party loyalty, or our views on just one or two issues that we happen to care about that doesn’t even matter that much, like gun control, our fight against terrorism, and many other statistically insignificant things that the profit-driven news programs made us believe are the most important issues? All this while ignoring issues that are actually much more significant. It seems crazy to me that so much of our recent discourse has been about our outrage at things like lack of gun control or Trump alluding to arming of teachers which was no more than a ploy to garner attention, while we go on ignoring things that harm a lot more people, like the lack of equity of access to education, dangers of bad nutrition, and the countless subsidies, tariffs, and regulations that politicians have enacted throughout history that do nothing more than to harm our productivity and, naturally, our quality of lives.

After explaining all of this, some people wonder, “but isn’t it bad for us to support other countries’ economies by purchasing their goods, making us less competitive?” Ok, a fair question, but actually, no, not at all. If other countries are willing to sell us their goods, we are paying them with the money that, in order for them to get any value out, must be invested back in America. It is an exchange. Mathematically, the amount of all imports and exports for any given country must always balance out. If not in forms of tangible goods, then in the form of currency exchange that will eventually be traded for a tangible good in some future timeframe. By enabling free global trade, we enrich the entire world’s economy. This isn’t a controversial issue: economists of all political inclinations agree on this point, other than the fake economists who make a living through their ties to special interests. If we instead artificially cut off the flow of trade, we impoverish more people.