Monday, February 28, 2005

The Internet and Blogs Won't Destroy Print Publishing

As a subscriber to's freelance writing email newsletter I receive information every week on various aspects of writing. The February 15th email included an article by Clay Shirky, which was originally published on his site on October 3, 2002, entitled Weblogs and the Mass Amateurization of Publishing. A Google search to find the site where the article was first published came up with several hundred results. The article was obviously widely circulated and discussed on the web. A related article by Tom Coates, which cited the Shirky article and was published a year later on September 3, 2003 on Coates' PLASTICBAG.ORG blog also showed up frequently in the results. Coates' article was entitled (Weblogs and) The Mass Amateurisation of (Nearly) Everything... (September 03, 2003) said essentially the same thing as Shirky's article but included a long list of links on the topic at the end.

The Austrian economist Joseph Schumpeter coined the term creative destruction to describe the tendency of a market economy to eliminate old, inefficient industries in order to make way for newer and more efficient ones. In this way resources are continuously redirected to their most efficient uses. Both Shirky and Coates describe the havoc in the publishing industry as a result of blogs and the internet. Shirky tends to take the position that since blogs give free access to publishing they have opened publishing to the masses and, with everyone a publisher, there will no longer be a market for the sale of published works. He does admit that print books have advantages over screen text and will survive for the near future but he sees no financial future for web publishing. Coates is a little more cautious in that he admits that it is difficult to predict just where electronic publishing will lead but he also concludes that for the vast majority of web publishers the joy of seeing their work in print will be their only reward.

While I agree with Shirky and Coates that the internet and blogs have both opened up publishing to amateurs on a massive scale and that most of these people will not make any money with their publishing, I disagree with Shirky's when he states By removing both costs and the barriers, weblogs have drained publishing of its financial value.... True, my out of pocket monetary expenses for publishing this blog are zero as Blogger.Com provides the site and publishing tools I need at no cost to me and the Google Ad-Sense program offers the opportunity for me to possibly make a few cents off the ads they run at the top of the screen. But production of the content takes considerable time, effort and thought on my part. I justify this because part of the time I spend is what I would spend anyway on preparing for the classes for which I am being compensated. The extra time, over and above what is absolutely required for class preparation, I justify by the fact that it is a learning experience in a new technology which may provide future employment opportunities.

Blogs will not destroy the value of the written word. I also doubt that anyone will ever be able to make a living, let alone get rich, from publishing their thoughts on a blog. This is due to the fact that I, like Shirky, do not see anyway to charge a fee to readers of a blog's content. But I do believe that blogs will be a vehicle for people to make money (and some to even get rich) and that blogs will also increase the demand for quality writers.

Thomas Edison's invention of the phonograph and later the invention of motion pictures did not result in the destruction of the markets for live concerts and live theatrical productions. Not only did people continue to attend concerts and theatrical performances but the demand for musicians, composers, actors and playwrights increased as these new technologies reduced costs and increased demand for more content. Furthermore, the advent of radio and television, both of which provided music and entertainment to the public for free, did not, as was widely feared in the 1950s, lead to the demise of theaters and reduction in record sales. In fact radio and TV INCREASED demand for records and in theater movies as people heard the music on the radio and ran out to buy the record or, after becoming accustomed to TV entertainment wanted to see pictures on the big screen as well.

When Xerox introduced plain paper photocopiers in the 1960s it was widely feared that the magazine industry would be destroyed as people photocopied and distributed articles rather than purchasing individual copies of the magazine. Critics at the time pointed out that the same fears had been voiced about the introduction of public libraries which would lend books for free and the introduction of paperback books which cost a fraction of what the hardcover originals cost. In all these cases the falling prices led to a greater demand for content rather than the disappearance of the industry. An example may put this in perspective. In George Washington's day it was possible for a wealthy person to purchase AND READ in one year every book printed in the English language. Recently I ran across a news article on the internet that mentioned that provide reviews of books have to rely on freelance reviewers for much of the work because their full time reviewers can only read about 10,000 books per year. Large companies with large staffs of full time readers cannot keep up with the volume of books published but have to hire additional part-time help to get the job done.

Here is my take on this. The vast majority of blogs will not make money and their content will remain amateurish and read by very few people. Blogs will, however, make money by offering free content that induces readers to pay for additional fee based content whether this be internet content with sites restricted to paying customers, electronic media such as downloadable e-books, video, music, etc., or traditional print books, CDs or DVDs. Here I am not referring to the practice, criticized by purists as being unethical, of disguising a product promotion as an impartial news item. Rather, it is the bundling of different media to cross sell the products. CDs create name recognition for recording stars. This, in turn, generates demand for live performances which are then used to further boost CD sales. Book signings by authors have long been a part of the marketing plans of publishers. But with the new technologies that are driving physical production costs ever lower anyone can get into the act. EXCEPT they have to have content for which people are willing to pay.

At St. Baisal's Cathedral (now a museum) on Red Square in Moscow a couple of years ago I listened to a group performing traditional Russian religious music in one of the rooms. They may have been hired by the museum to help entertain the visitors or may have just been given free exposure. In addition to their performance they were also selling CDs with their music. Today they would probably have a web site to further promote themselves. In the U.S. many churches host struggling performers of religious music. Concerts are often free (sometimes an offering is taken) but CDs and audio cassettes are available for sale on the way out along with paper on which to sign up for email newsletters about the group. While it is doubtful that any of these groups will achieve super star status, many are able to make a decent living this way.

It is the same with books. There will always be a market for printed books, magazines and newspapers with mass appeal. People will pay for these. But there will also be new niche markets for all sorts of special interests for which it was not financially possible to satisfy before. The internet has been a godsend to genealogy enthusiasts. In the past many people spent hours researching their ancestors as a hobby. They then typed up their notes, made copies for a few family members and donated a copy to the local library or historical society which placed it on the shelf to be forgotten. Almost all of these books are of limited interest and most badly written. But some are well written and of interest to others. But those interested are scattered and mostly unidentifiable. But these people can be reached via webpages and blogs. Once the author has their attention the book can be pitched. The free content on the blog can be used to not only entice distant relations and other interested parties to visit and thus see the book advertised, but the content can also be used to demonstrate the author's credibility in the field and writing skills. Electronic delivery (an e-book) in this case is not only inexpensive but not as likely to be illegally copied and distributed to friends since the audience is widely scattered and not know many others interested in the topic

Tuesday, February 22, 2005

Are Teachers' Salaries Too Low?

In my ten plus years of teaching economics I have come to expect that certain public policy topics, notably the environment, education and health care, will be approached by students more as articles of faith than topics to be discussed and analyzed. Essay question 3 of Exam 1 (which reads: Suppose local educators argue that teachers' salaries are too low. At the same time it is said that the school district received 750 applications for 5 new openings. Are salaries too low?) is a good example of this. The majority of the answers I have received so far automatically assume that teachers' salaries are exempt from the normal laws of economics and that they are underpaid.

Many tried to justify their position that teachers are underpaid by reversing the suppliers and consumers of teaching services. These students argued that the 750 applicants for 5 positions did not represent a surplus supply of teachers but, rather, a high demand for teaching positions. In this view school districts, rather than being buyers of teaching services are really providers of jobs for teachers. Of course, if this was the case, teachers would have to buy their jobs.*

Jobs are NOT an entitlement. Jobs exist solely because a producer reaches a point where he/she is unable to increase by their own efforts. At this point the producer hires others to provide the help needed to produce the additional output.

Parents want their children educated so an individual with the skills and knowledge to teach offers her teaching services for a fee. This person is successful but discovers that there are both more children to be taught and that the parents want, and are willing to pay for, more in depth teaching of various subjects. Rather than continuing to spend all day teaching a broad range of subjects to one group of thirty students, this entrepreneur hires additional teachers to specialize in various subjects. She is now able to rotate the students among different teachers for more in depth education in specific subjects and handle more than thirty students per day. She is meeting the needs of more consumers and making more money as a result of hiring the additional teachers. But note that she hired the additional teachers not because they needed a job or wanted to teach but because she needed their labor services to expand her business. Large businesses, including public school districts, differ from the entrepreneur/teacher above only in size.

Wages for teachers, or anyone else, are determined by market forces of supply and demand. Schools need teachers and a demand curve can be constructed showing what quantity of teaching services (or number of teachers) they are willing and able to hire at various prices (wage rates). Similarly, there is a pool of people with the skills and desire to teach. Like all workers, teachers, with their skills, have other job opportunities besides teaching so a supply curve can be constructed showing the various wages (prices paid for teaching services) and the corresponding number of teachers available at these various prices. The actual wage for any worker in competitive market is determined by the intersection of supply and demand.

Market Supply and Demand for Teachers (equilibrium wage and equilibrium number of teaching positions)

When wages are set at a rate above the intersection of supply and demand there will be a surplus of people seeking positions. In the graph below note that at the current wage rate, which is above the equilibrium wage, the demand for new teachers is 5 while the supply of those available at that wage is 750. Note also that the 5 positions at the present wage rate is considerably LESS than the number of positions available at the market wage rate.

Situation where wage set above equilibrium wage level.

Proponents of increased spending on education argue that it is needed in part to enable schools to hire more teachers thereby decreasing the pupil to teacher ratio (i.e., smaller class sizes) and improving the quality of education. However, as shown in the graph above, the same could be accomplished by allowing teachers' wages to fall to market equilibrium levels. Allowing teachers' wages to fall to equilibrium levels would also result in an increase in the number of teaching jobs and this would eliminate part of the surplus of unemployed teachers. The remainder of the teacher surplus would disappear as those at the margin (i.e., those attracted to the profession because of the above market wage) saw teaching wages drop below the wages in alternative professions these people are equipped to enter. In this sense, the current above market wages are unfair to college students because they are encouraging these students to invest time and money in preparing for a profession that already has more trained professionals than it has jobs available. The losers in this situation, where we let market forces determine teacher wages, would be those currently working in the profession who would see their incomes decline.**

Today there exists both a SHORTAGE and a SURPLUS of K-12 teachers. Both are the result of K-12 education being provided primarily by the government rather than the private market and pay scales determined by political rather than market forces. The teacher SHORTAGE in general is limited to the areas of science and math while the SURPLUS is in the other subject areas. People trained in science or math are in HIGH demand by industry while people trained in areas like history face a much LOWER demand. If teacher salaries were set solely by market forces, science and math teachers would receive higher wages than teachers in areas like history.

Under the present teacher compensation system, all teachers within a district are paid according to the same scale regardless of subject. The scale is usually a compromise between the HIGHER wage needed to attract science and math teachers and the LOWER wage needed to attract teachers in other areas. This compromise results in a wage that is BELOW equilibrium for science and math teachers and ABOVE equilibrium for teachers of other subjects. Thus, those with a degree in science or math who want to teach have no problem finding a job right out of college while those with degrees in other subjects are often forced to accept jobs as substitute teachers, lower paying jobs in schools run by churches and other non-profits, part-time tutors or similar work for long periods as they continue to try to land one of the coveted positions, with above market pay, in their subject area.

*NOTE: This is not quite as far fetched as it sounds. In the eighteenth and early nineteenth centuries officer positions in England's army and the Royal Navy were sold to the highest bidder. Aristocratic parents (as well as wealthy merchants who sought to advance their sons socially) would purchase an appropriate military rank for their younger sons (the family titles and lands went, by law, to the oldest son). This gave the son both the status of the rank and the income (from the government) associated with the rank. When the holder of the commission was ready to either purchase a higher rank or retire he would sell the current commission to another.

**NOTE: Existing contracts and a need to maintain both morale and prevent the chaos resulting from the mass resignation of existing teachers would temporarily shelter existing teachers from direct cuts in pay. More than likely such a change would follow a path used by airlines and other industries needing to make substantial cuts in wages. In the case of airlines existing pilots maintained their present wages and many, but not all of their benefits and perks, while new pilots were hired at much lower wages and far fewer benefits and perks. In addition to the dual wage structure, the airlines severely restricted increases in wages and benefits for the existing pilots and, in some cases began to reduce benefits.

Wednesday, February 16, 2005

School Vouchers - A Step Toward Privatization of Education?

Your textbook has a brief discussion about school vouchers and, on Assignment 1 for the ECN 201 class and Homework 3 for the ECN 200 class, I have asked a question concerning school vouchers. I used this question in another class in a previous semester and many people had trouble with it either because they did not understand what a voucher was or, they were aware of school vouchers and were opposed to them. In both cases students focused on perceived negative effects of the vouchers on children's education and and answered accordingly. Their answers were wrong because they failed to read the question and answer what was being asked. The question is not about the educational effects of a voucher program (which is how most people answered it) but, rather, it is about who wins and who loses FINANCIALLY (hint, it isn't the students).

A voucher is a financial instrument, like a check, which can be exchanged by the recipient for a good or a service. Unlike a check which can be exchanged for cash and the cash used to purchase anything, a voucher can only be exchanged for a good or service stipulated by the issuer of the voucher. For instance, when an airline has to cancel a flight due to weather it will often direct stranded passengers to a nearby hotel and give them vouchers to pay for their rooms and meals at that hotel while waiting for the weather to clear and flights to resume.

The concept of school vouchers for K-12 education was first proposed by economist Milton Friedman about 30 years ago. As he explained in his popular TV series, declining educational achievement was due to the fact that schools, being public monopolies, had no incentive to use resources efficiently or to provide quality service. Public schools are supported by tax dollars which means that their funding is based upon political considerations and not by consumers. Further, the law not only requires that parents send their children to school but dictates which school to send them. With funds and students guaranteed, there is no incentive for schools to complete for students like private businesses compete for customers. Friedman's solution was to propose that instead of the government paying schools directly according to the number of students enrolled in the district, they instead divide the amount they would pay a district by the number of students to calculate the amount per student and give parents a voucher for that amount for each of their school-age children. Parents could then enroll their children in any school and pay for it with the voucher.

Contrary to what some critics of vouchers portray, vouchers can be used at any school, public or private. If parents do not like the school their child is assigned to under the present system, they can, under a voucher system, move the child to another school. This might be another public school in the same district, it might be another public school in another district or it might be a private school. Under this system, schools that are underperforming lose students and funding while schools that are providing a good education gain students and funding. Poorly run schools, both public and private, would go broke and cease to exist. Schools and their staffs (teachers, administrators, etc.) would be accountable to parents for their performance and would see their funding and jobs disappear if the quality of education delivered did not meet the expectations of parents (consumers). Special interest groups would also lose as projects and programs they wanted taught would disappear if parents were not interested in these programs (for example if parents felt phonics was the best way to teach children to read then schools that used phonics to teach reading would gain students (and the money they bring to the school) while schools that used other methods to teach reading would lose students and this would result in a sharp decline in the use of other methods.

School vouchers are one proposal to reform education in the U.S. They are not the answer to the problems of education in the U.S. but are merely one approach toward reform. (NOTE: Arizona is one of many states that does not have a voucher system). There are many critics of vouchers both from a free market perspective and from the perspective of defending the status quo. But what vouchers have accomplished is to move the debate over education from one of how much should we increase funding for public education and what reforms can we make to improve public education? to is public education the answer?. A half a century ago public education was a political sacred cow whose position in society was guaranteed. Today it is still the major provider of K-12 education but it is losing market share and is being hurt by competition on many sides for students and funding. This competition includes the growing use of unsubsidized (i.e., parents pay the full cost of private education with no help from the government) private schools (secular, religious and home schooling); programs that subsidize private schooling such as vouchers (when they can and are used to pay for private schools); tax programs like Arizona's tuition tax credit program (where taxpayers can contribute to scholarship programs that pay tuition for children (not their own) at private schools and receive a credit for this on their Arizona state income tax – i.e., if they donate $100 and their tax due is $900 they can subtract the $100 donation from the tax due and pay only $800 in state income tax – the state makes up for the loss of $100 in taxes by reducing spending for public education by $100); charter schools (Arizona is a leader in this area) which are publicly funded schools that can be operated by for profit, non-profit or public entities, have greater flexibility (i.e., fewer regulations) in designing and delivering education and are funded out of the same pool of funds as public schools; new accountability standards such as the federal No Child Left Behind Law and the state's AIMS testing program which are putting pressure on pubic schools to improve results noticeably or face additional sanctions and scrutiny by federal and state officials who control funding; finally, there is the growing reluctance by taxpayers to keep increasing funding for public schools as evidenced by school bond elections in which the proposed bonds are usually voted down and increasing voter support for legislative candidates who are beginning to challenge proposed increases in school funding.

Milton Friedman's voucher proposal, while bitterly opposed by many and not widely used, has succeeded in igniting a debate and unleashing forces which are transforming the K-12 education system in the U.S. At this point it is hard to predict what the end result will be. However, one can safely say that the free market dream of a totally private system in which parents have full control over their child's education and pay the full cost (possibly with private help) and no government funding or control of any kind will probably not be realized. However, it is also safe to say that when this process has played out, whatever role government will play in the new system will be greatly reduced (in terms of both funding and regulations) and the resulting public school part of the system will not be anything like the public education system your parents knew.

Thursday, February 10, 2005

The Production Possibilities Curve

The Production Possibilities Curve is a tool used to illustrate the concepts of scarcity and choice in an economy. It is not an economic law or an illustration of a real economy. Instead it is a simplified illustration showing a hypothetical economy that produces only two products. The curve shows that, when using all of its resources, the only way to increase the production of one product is to reduce the production of the other. Limited resources mean we have to make choices and the Production Possibilities Curve demonstrates this graphically.

Let's assume that some alumni of the college dies and, in his will leaves a small building in a strip mall to the college. The mall and building are about five miles from the campus. Instead of selling or renting the building (which is what colleges usually do with gifts like this) the college decides to use the building for desperately needed classroom space. Leaving the small reception area in the front of the building, they remodel the building into two classrooms – a 30 seat regular classroom and an 20 seat computer lab. They then hire an instructor, who can teach both economics and computer science, to teach eight classes per day at this satellite site. Since the instructor can only teach one class at a time she alternates between computer and economics classes. The maximum number of classes that can be taught per day is eight and the only way to increase the number of computer classes taught is to reduce the number of economics classes and vice versa.

In the above example the production possibilities curve was a straight line indicating that a constant opportunity cost whereby the opportunity cost of one additional economics class is one computer class and vice versa. However, in real life the trade-off or opportunity cost is usually not constant for the entire length of the curve. This is because when we are in the middle of the curve and producing both products we usually can switch resources from one to the other and increase the output of good 'A' by one by decreasing the output of good 'B' by one. However, as we approach either end of the curve and seek a further increase in good 'A' we find that we have to give up increasing amounts of good 'B' in exchange. This is known as the Law of Increasing Opportunity Costs and is depicted by a production possibilities curve that is bowed outward rather than as a straight line as in our first example.

The reason for increasing opportunity costs is the fact that all resources are not variable. Let's modify our example by adding a second instructor who only works in the mornings. Like the first teacher, he can also teach either economics or computer science. In the morning we can now have four economics and four computer science classes and in the afternoon we can have four additional classes of economics and computer science. However, the total number of classes we can teach per day is 12 and the maximum number of either class we can teach using that class's designated room is 8 (in the morning we can teach 4 of each class and in the afternoon we can do up to four of one or the other). Since the economics classroom holds 30 students and the computer classroom holds 20 we can teach up to 240 economics students (30 students times 8 classes) or up to 160 computer science students (20 students times 8 classes). The opportunity cost of teaching an additional 30 economics students per day is 20 computer science students and vice versa. But, what if we are offering eight economics classes and four computer classes and wish to add one more economics class? Both teachers can teach either course so our labor is perfectly flexible between the two subjects. However, to add a ninth economics class means that both teachers will have to teach economics at the same hour in the morning and this means that one teacher will have to teach economics in the computer lab which only holds 20 students. Because our land (rooms) resource does not adapt as easily, it still costs us a loss of a class of 20 computer science students to be able to teach the additional economics class but, due to the room configuration we can only teach 20 (rather than 30) economics students. Similarly, since there is only one computer in the economics classroom we would have to reduce the number of computer science students taught if we added a ninth computer science class by using an economics room to teach computer science (in order to give each student sufficient time on the computer we would probably have to limit the class to 7 or 8 students).

Points inside or outside the curve. In the second graph above point 'B' is inside the curve and point 'C' is outside the curve. Point 'B' represents unemployed resources. This is inefficient because society is not using all of its available resources and, consequently, is not producing as much as it could. If society is a point 'B' it means that it could increase output of both to produce MORE of each good. In our example let's assume that on the main campus, to avoid congestion in the halls between classes, they start computer classes on the half hour and other classes on the hour. Both types of classes are an hour in duration but they start and end at different times. Assume that the scheduler makes a mistake and applies this rule to the classes at our satellite. Now, instead of moving from one class to another our first professor has a half hour wait whenever she switches from an economics class to a computer class or vice versa. There is no way this professor can work from 8 – 5 with an hour off for lunch and teach eight full classes of economics AND computers with the schedule configured this way. She will face at least one or, depending upon the combination of classes, more half hour periods of "unemployment". If our professor is being paid by the class she will suffer a loss of income and, with class offerings reduced, fewer students will be able to take the classes each semester. Even if our professor is paid the same salary as before the financial cost of her "unemployment" will just be shifted to the students as the college will be forced to increase tuition to cover the loss of revenue from the canceled classes. Or, if this is a public college and we don't increase tuition we will have to obtain the lost revenue from the taxpayers – there is NO FREE LUNCH as someone or some group always has to pay.

The other point on the second graph, point 'C' represents a combination of classes that is not possible with existing resources. This is more than we can produce at this time. However, this does not mean that we can NEVER reach this point. Economic growth (an expansion of the economy's output capability) will cause the Production Possibilities curve to shift outward. An increase in labor could give the economy the boost it needs to increase output. This can be in the form of having more children (but this process takes twenty years or more as we have to wait until the children grow up an acquire skills); immigration from abroad; or, new technology that allows society to better utilize existing labor (the invention of the typewriter enabled people with poor handwriting skills – i.e., you could not read their handwriting – to produce readable documents. An increase in land could result in economic growth. This could take the form of draining swamps, irrigating deserts, adding artificial fertilizer to existing land, terracing the sides of mountains, etc. An increase in capital could also result in economic growth. This could come from the savings of society as society reduces consumption and diverts the saved resources to the production of capital goods. It could also come from investment in capital by foreigners seeking to increase their profits by building new production facilities in our country. Finally, new technological advances that result in existing land, labor or capital becoming more efficient will also result in economic growth.

Wednesday, February 09, 2005

Opportunity Cost - The Cost of our Choices

Opportunity Cost is defined as the value of the next best alternative when we make a choice. In other words, when you decide to wash the car rather than clean the garage the opportunity cost of your clean car then becomes not being able to clean the garage. When you made the decision, a clean car was more valuable to you than a clean garage.

Opportunity cost can be stated in terms of money but usually involves more than just money. When you spend $12 on a movie ticket that is $12 that you no longer have to spend on drinks with friends afterward. But, even if you have the money, you may not be able to do both things. Your co-workers invite you to join them for drinks after work on Friday but you spouse wants you to join her and her visiting parents for dinner at a restaurant after work. You may have enough money to do both things but, since they both occur at the same time you have to choose one or the other and the opportunity cost of your choice is the function you did not attend. Time is also a scarce resource and, like money, it is often limitations on time that force us to make choices.

The choices may be between two things we like - two of your favorite recording artists are giving a single performance at different clubs at the same time and you have to choose one or the other. They may also be things we do not like but must choose one - a cancer patient having to choose between death from cancer in the next couple of years or chemotherapy treatments now that will make them sick for months and cause them to temporarily lose their hair. Neither option is attractive but a choice must be made. In both of the examples above the option not chosen is the opportunity cost.

Whenever people want more than one thing but lack resources to get everything they want at that time they are forced to prioritize and choose what they feel will give them the most satisfaction per unit of resources spent. Society and the government often utilize the concept of opportunity cost to encourage or discourage certain options that people may choose. They do this by placing taxes or fines on options they want to discourage thereby increasing the opportunity cost of that option. High taxes on cigarettes or fines for speeding are intended to increase the opportunity cost of choosing these options.

Tax deductions, government grants and subsidies are used to lower the opportunity cost of certain options thereby encouraging people to choose them. A young person is forced to choose between a sleek new car or going to college. For the car the person will have to borrow the money at higher interest market rates and faces the prospect of an asset that will lose value and be worthless in a few years - but the person gets the immediate satisfaction of good transportation and prestige of owning an expensive new car. The education promises a longer term return but requires work in the interim and the money also has to be borrowed for this. Tuition subsidies for courses taken at public colleges, Pell and other grants to pay some of the costs and subsidized interest rates on student loans all serve to reduce the cost of a college education and make it a more attractive choice to the young person.

Saturday, February 05, 2005

Buy online for BIG SAVINGS on Textbooks

In the orientations for both of my classes last week I mentioned that textbooks could be found at the East Campus Bookstore for the Economics 201 and 202 students and at the Northwest or West Campus Bookstores for the Economics 200 students. You can also order the books online at and have the book delivered to any campus bookstore.

Books can also be purchased online from other vendors. Like markets for many other goods and services, the college textbook market, both new and used, is being revolutionized by the Internet. In the past professors and textbook committees would select the textbooks to use and the campus bookstore would order a sufficient supply of each text requested. At the end of the semester the bookstore would buy the books back at a discount and either re-sell them on campus the next semester or sell them to dealers who would attempt to resell them at other colleges. The limited market, shipping costs and constant requests for updated editions added to the publishers' costs. However, the relative lack of competition outside of the campus bookstore and the guaranteed customer base (students had no choice but to buy the textbook or drop the course) allowed the publishers to recover their costs and have a guaranteed profit.

The internet is changing all of this. Instead of a collection of small local markets, the internet is creating a global market for textbooks with students having access to numerous vendors throughout the world. A simple search using the book's title or, even better, the book's ISBN number will yield dozens of competing sellers all offering the same book (either new or used) at varying prices.

To buy a textbook on the Internet simply locate the book's ISBN number (usually found on the title page and, on many books, the back cover as well). Then go to Half.Com, eBay, Amazon.Com or any of the numerous other sales sites and search for the books you want. When you find a book for the price you want, register with the site and place your order. Most sites will accept payment via a credit card, PayPal or an electronic payment from your checking account. Many vendors will also accept payment via a paper check sent through the U.S. Mail but usually will not ship the book until the check has been received and cleared by your bank.

You can also go to search sites like or www.ISBN.NU. Instead of you visiting various sites to search for the book, these sites will instantly search numerous sites and display a list of locations where the book is offered. They will also show the quantities available from each vendor at each of the sites as well as the quantity each vendor is offering, the prices asked by each vendor, whether the vendor is offering new or used copies and the location of the vendor (this can be important since the more distant the vendor the longer and more expensive the shipping).

Selling your book is just as easy. Simply create an account at a site such as Half.Com, eBay, Amazon.Com or one of the numerous other sites. Then enter the details of your book – the title, author, edition, ISBN number along with a brief description of the condition of the book. Most will let you include a scanned picture of the book and some, like Half.Com, will even provide a picture of more common books at no extra charge. Some, like eBay, have a small listing fee and a limited listing duration. All charge a small commission on the sale as well as other small fees depending upon the site. It is the seller's responsibility to ship the book to the buyer via the means promised in the listing. Half.Com (a division of eBay), where I sell books, allows users to list books for free, provides free photos of the book's cover, allows books to remain on the site until it is sold or the seller cancels the listing and provides suggestions on pricing. When a book is sold Half.Com gives the seller a small credit for shipping (which is usually less than the actual shipping cost) and deducts a small commission from the proceeds. Half.Com collects the sales price from the buyer and either electronically transfers the net proceeds to the seller's checking account or mails the seller a check.

On a personal note, my daughter is a full time student at Pima Community College and I have been purchasing her books online for the past two semesters. We have had no problems as they have been shipped promptly and all have been in good condition. I estimate that her book costs have been one third to one half of what we would have paid if she had brought the books used from the bookstore (and some of the ones we have purchased have been new but their online price was significantly less than the used price at the bookstore). Since I go online and sell her books at the end of the semester we generate additional savings which drive our out of pocket book costs down further.

Thursday, February 03, 2005

Savings and Consumption

In my introductory lecture for my Economics 200 class on Tuesday evening I pointed out that the two largest economies in the world were the United States (largest) and China (second largest). However, when we divide the Gross Domestic Product (GDP) of each by their respective populations to see the output available per person, the U.S. remains the largest while China falls well below the second position it holds with its total production.

China has the largest population in the world and, with all those people, it is able to produce a large output of goods and services. People are needed to produce – Labor is a critical resource in the production process.

But the U.S., with its relatively small population, produces more than China. Why? The answer is CAPITAL. Capital is the tools used by labor to facilitate production. The U.S. has an abundance of capital while China has relatively little. American workers are far more productive than their Chinese counterparts, not because they work harder but because they have more tools (capital) to work with. Chinese workers actually work longer hours and, on average, have more physically demanding jobs than American workers but the Americans are more productive.

Back in the 1970s I spent a day in Istanbul, Turkey at the start of a trip through Eastern Europe. While strolling through the city I stopped to watch four men cutting the grass on a large grassy island in the middle of one of the city's boulevards. The island was not much bigger than the average lot size in an American suburban housing development. However, these fellows were cutting the grass with simple hand tools and it took them a while to complete the job. After my return home to Milwaukee I happened to drive past a suburban factory park. This was a new factory set in the middle of a few acres of grass and trees. One man, sitting on a small tractor with an awning over his seat was in the process of cutting this vast expanse of grass. This American, with his expensive tool (a John Deere type riding mower) was cutting many times the amount of grass that the four Turks with their simple and inexpensive hand tools were able to cut.

With capital, workers are more productive. But capital is expensive because, to create capital individuals in society have to divert labor and other resources to producing capital rather than consumer goods. Only by going without some consumption now can people expect to have more later. This is true of both society as a whole and individuals.

A society that consumes everything that it produces will never grow. Similarly, an individual that spends their entire income on present consumption will never have the funds to purchase things that cost more than they receive in their weekly paycheck.

"Wait!" you say. "I cannot afford to save money but I just brought a car and the dealer financed it for me which means that an individual does not have to save before purchasing big ticket items." You are wrong on two counts. First, other people are spending less than they earn and are SAVING the extra by putting it in a bank. You were able to purchase your car without having previously SAVED the money because the bank paid for your car with its depositor's money. You are now obligated to repay that money, plus interest. Second, because of this debt obligation you are no longer able to spend your entire paycheck on consumption, as part of your check now has to go to the bank to repay your car loan. Instead of saving to acquire the money BEFORE your purchase you have elected to make the purchase and save AFTER it. Either way your ability to consume other goods has been reduced.

Wednesday, February 02, 2005

Specializing to Produce More

Specialization is what makes our modern economy possible. The more advanced and complex an economy, the more specialized is work.

In today's economy everyone has a specializes and concentrates their efforts on only a part of the process of producing a good or a service. Very few people do the entire job of producing an item. Even if someone does do every aspect involved in producing an item, they do not produce everything else needed to survive.
Observe the operation the next time you stop by a McDonald's or other fast food restaurant. Some people work at the counter taking orders, some make the hamburgers, others make the fries, still others are cleaning, etc. When you place an order the order taker does not walk back to the freezer, get a new hamburger, cook it, get the bun, make the fries, etc. These jobs are done by different people.

Specialization allows each person to concentrate on one or two tasks and do them well. In this way each person is able to produce more of the product they specialize in thereby producing more of both items in the same amount of time.
For an example of this lets go back to prehistoric times and observe a cave couple, Ag and his wife Mag. Both would wake up in their cave each morning and spend the entire day scrounging for food. If they worked hard and were lucky they managed to get enough food for one good meal before going to bed that night. Both would look for berries, edible roots, grubs and other large worms and bugs. Sometimes they even came across the remains of a rabbit or other small animal that had been killed and eaten by a larger animal and they got to eat the leftovers.

One day they came upon a fox that had just killed a rabbit. Fearing the fox might attack them, Ag picked up a rock and threw it at the fox, scaring it away. It was then that they saw the freshly killed rabbit and had a fine meal. They both practiced throwing some rocks but soon concluded that Ag was much better at throwing rocks and thus had a better chance of getting some fresh meat.

So, Ag and Mag decided to divide the work. Mag would focus on gathering berries, roots and edible bugs and worms near the cave while Ag would circle a larger area seeking to find and chase away foxes, wolves, hawks and other creatures that had just killed some game.

By specializing and each gathering only one type of food they were able to find a greater amount of total food than when both looked for everything.

Tuesday, February 01, 2005

How Banks Create Money

Everyone understands that banks EARN money by charging interest and fees on the money they loan. To get the money they loan, banks entice people to deposit money with the bank and receive interest from the bank on the funds they deposit to their accounts. A bank's earnings then become the difference between what they earn in interest on the loans they make to borrowers and what they have to pay in interest to their depositors.

Banks also CREATE money. As was explained above banks can earn money from the interest charged on loans made with the funds people deposit. In addition to loaning funds deposited, banks can also create new money and loan this out. For the purposes of this economics class we are not interested in how the banks EARN money from the loans they make. In this sense they are no different from any other business and not worth a chapter in the text. Gas stations make money by buying a gallon of gasoline from a wholesale supplier and selling it to a consumer. If a gas station had a way of buying ONE GALLON of gasoline from the wholesale supplier and transforming it into TEN GALLONS of gasoline to sell to the customer that would warrant a chapter in the boo!.

But, unlike gas stations, banks do have the ability to literally create the product they sell almost out of thin air. By creating new money, banks have a major effect on the economy. Creating additional money means people have greater ability to spend and this increases aggregate demand and economic activity.

Banks have basically two types of accounts:

TIME DEPOSITS - which are various types of savings accounts including certificates of deposit (CDs). For our purposes the significance of these accounts is the fact that they require the depositor to leave the funds at the bank for a certain period of time. Certificates of Deposit actually specify the time period and if the depositor withdraws the funds prior to the expiration date they are charged a stiff penalty (often 10% or more). Regular savings accounts usually allow the depositor to withdraw the funds at any time but, legally (and it is stated in the fine print which no one bothers to read) the bank can require 30 or more days written notice of intent to withdraw the funds. While this 30 day notice rule is not enforced now days (but it is still enforceable should the bank have a need to) the bank does require that the depositor make a trip to the bank during normal business hours to withdraw the money. This, plus the fact that most people's reason for having a SAVINGS account is to SAVE money, means that savings depositors tend to let the money sit in the bank for long periods of time. This money can thus be safely lent out knowing that the depositor will not withdraw it before the loan is repaid (if I deposit $10,000 in a one year CD and someone walks in behind me and borrows that $10,000 for one year the bank knows that the funds are due back the same day that my CD expires so the funds go from me to the bank, then to the borrower who returns them in one year at which point I return to get my money back - the bank collects 10% [$1000] from the borrower, pays me my 3% [$300] and pockets the difference [$700] as profit).

DEMAND DEPOSITS - these are the second type of account and are also called checking accounts. A DEMAND deposit is an account in which the depositor can get their money back ON DEMAND at any time. The depositor simply walks into the bank and presents a check and the money is turned over IMMEDIATELY - the bank cannot refuse or delay the request. To make it even more convenient, the depositor can simply write a check and the person receiving the check has the right to go to that bank and DEMAND the funds in full immediately. Loaning these funds is riskier since the loan is usually made for a specified period of time while the deposit can be withdrawn at any time.

Close to 1,000 years of experience has taught us two things:

FIRST: People who deposit money into a checking account tend to pay for things by writing checks rather than by going to the bank to get their money and then making the payment - thus the depositors themselves rarely withdraw cash from their accounts.

SECOND: Merchants and others who receive the checks usually prefer to deposit the checks to their own checking accounts (which are often at the same bank) rather than present them for cash.
Given the above two facts, it is apparent that, despite the fact that the funds can legally be withdrawn at any time on demand, money deposited into demand deposits or checking accounts is actually more stable (in the sense of staying in the bank) than time deposits since people frequently do withdraw funds from savings when the time is up.

This fact allows the bank to, on the one hand, promise to pay the depositor, on demand, the contents of the account and at the same time loan the funds to another. Since I am writing checks against my account (spending the money) while at the same time someone else has borrowed the funds in my account and is spending that money the bank has in effect increased the amount of money in circulation by enabling two people (the depositor and the borrower) to spend the same funds at the same time.

But the money creation does not stop here. When you go to the bank to borrow the money that I deposited, the bank does not give you cash. Instead, the bank deposits the funds into your checking account (or opens an account for you and deposits the funds into it). The money stays in the vault while the bank's books show the funds in two peoples' accounts. Now both of us can write checks and the bank can be reasonably certain that the recipients of our checks will deposit them rather than ask for cash so the funds will never leave the vault.

Since the money deposited or credited to the borrower's checking account is no more likely to have to be paid out in cash than the money credited to the original depositor's account, that too can be safely loaned out. So now we have $10,000 cash sitting in the vault which was deposited by me and credited to my checking account. We also have $10,000 (forget about reserves for the moment) credited to borrower 1's checking account (which is the same $10,000 cash that I deposited) and the bank now re-loans the $10,000 in borrower 1's account to borrower 2. We now have three people, each able to write up to $10,000 in checks (so up to $30,000 worth of checks can be written) but only $10,000 in cash with which the bank can honor its pledge to pay on demand any and all checks presented from those three accounts. So long as people keep depositing their checks there is no problem, but if everyone decides they want cash the bank will be unable to honor them and will fail.

The customer's like this situation because checking accounts provide the convenience of cash but are safer (if my checkbook is lost or stolen I can put out the word not to accept my checks - but if my cash is lost or stolen there is no way anyone can identify my stolen bills) and less bulky as I can carry one million dollars in my checking account with ease but would need a suitcase to carry that much cash (if we used gold, as they did originally, rather than paper money the carrying problem is even greater).

Banks like the situation because they are able to keep make multiple loans (earning interest and fees on each one) from the same deposit.

From the economy's point of view the banks are creating money. Since checks are widely accepted in lieu of cash, then issuing multiple checking accounts backed by the same cash deposit, the bank is allowing that money to be spent multiple times. In the example above, there was $10,000 in actual cash but three people could spend that same cash thereby converting the $10,000 in cash to $30,000 worth of spending.

In the past banks, not governments, PRINTED paper money. Governments issued currency in the form of gold (and sometimes silver) coins. The U.S. Constitution gives the U.S. Government a monopoly on COINING money (i.e., only the Federal Government can legally mint coins to be used as money) which is a traditional right of governments. Anyone can print and issue paper money. Printing your own money is legal - COPYING someone else's money is illegal and is called forgery. If I make copies of U.S. $20 bills with Andrew Jackson's picture that is forgery and I can go to jail. If I print $20 Nugent Bucks with my picture on them that is perfectly legal (and worthless unless I can find some sucker to accept them).

Prior to checking accounts, banks would accept deposits of gold and issue receipts that could be redeemed for the gold. The receipts could be given to someone else to be redeemed - if I brought a cow from one of you I could pay for it with the receipt for my gold at the bank rather than going to the bank for the gold. When banks realized (about 600 or 700 years ago) that people left the gold in the bank and just circulated the receipts they began making loans against the gold by issuing more receipts. Eventually they simply began issuing standard bills (money they printed) which promised to pay, on demand, in gold. For every deposit of actual gold they found that they could print ten or fifteen times that amount in paper money to be loaned out. This was the start of FRACTIONAL RESERVE BANKING or the practice of backing up the money printed by banks or, now days, the checking accounts issued by the bank, with gold (or U.S. currency now days) that is worth only a fraction of the value of the paper money or checking accounts the bank issues.

Since people do occasionally ask for cash (or gold in the past), prudence (and now days the LAW) requires that banks not lend out 100% of their deposits, but maintain some in reserve to honor the few requests they get for actual cash. Today banks could probably get away with keeping about 10% as a reserve but the law requires a higher amount (currently about 18%) in order to give the system a greater margin for error.

It is the reserve requirement that prevents the banks from re-lending the funds indefinitely. When the bank takes a deposit it can only re-lend 82% of the amount (keeping the other 18% in reserve). Putting the 82% into the new borrower's checking account gives them the opportunity to lend it again but they can only lend 82% of that account (which was 82% of the original deposit). As you can see, each new round of lending gets smaller and smaller until eventually no additional loans can be made against the original deposit.