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Candidates S and R are competing in the opposing party’s primary, and your candidate awaits the winner in the general election. Your candidate beats S in the general election with probability s and beats R in the general election with probability r<s.  You would like S to win the primary since s>r. But S is currently the underdog, he beats R in the primary with only probability p. Should you spend money to help S?

Every percentage point you can add to S’s chance of winning the primary increases your candidate’s odds in the general election by s-r < 1.

(you win the general election with total probability ps + (1-p) r. an increase in p by one unit increases this probability by s-r.)

If you save your money for the general election, every percentage point you add to your own chance of winning raises your own chance of winning by, well, 1 percentage point.

1. The same analysis goes through with any number of candidates in the primary.  So you can add G and P and it won’t change anything.
2. This is about the marginal value of influencing a 1 percent change in the election probabilities.  That value is larger in the general election.  But there may be differences in the marginal cost of influencing a primary versus the general.
3. In particular, if the primary is a three-candidate race there may be a lumpy return on your investment.  For example, if you increase s by a little bit that could cause G to drop out of the race and then hope that a big chunk of his probability of winning goes into increasing p.
4. However, with G currently at about 3% probability at Intrade, at most you can get 3 times s-r.  For this to outweigh the 1 you get from the general it must be that s-r > 33%

I have known Larry since the time I was on the junior job market and he was winding down a spectacular term as chairman of the BU economics department, having built a top-ten department out of nothing.  Eight years later I spent a year as a faculty member at BU and again Larry was chairman. Everybody who has spent any time with Larry in a professional capacity agrees that he is a natural-born leader.  He just has this quality that draws people from all sides to his.  And he knows how to make an organization work.  On top of all that he is great economist with world-leading expertise on the topics that would be most important for a President right now to know. I honestly can’t think of anybody I know personally who would make a better President than Larry.  I might even vote for him.

Here’s his campaign web page. Via Tyler Cowen on Twitter.

An n-candidate election in which the electorate views n-1 of the candidates as equivalent alternatives to the nth.  But they need to solve the coordination problem of which one to vote for.  A prediction market allows speculators to drive up the price of any one of them, convincing the voters that he is the focal point and winning, or conversely to jam the signal by equalizing their share prices while at the same time going long on the nth.  Of course the voters know this, but they may not know that all of the voters know (etc) this.

How informative can prediction markets be in such a scenario?  I think Justin Wolfers might be interested in the answer.

See Rajiv Sethi for related thoughts.

How did British PM David Cameron steel himself for the historic all-nighter last week in Brussels?

Cameron, it is said, used his tried-and-tested “full-bladder technique” to achieve maximum focus and clarity of thought throughout the gruelling nine-hour session in Brussels. During the formal dinner and subsequent horse-trading into the early hours, the prime minister remained intentionally “desperate for a pee”.

Showing a healthy disdain for ivory-tower types who claim the opposite:

Australian and American researchers examined the “effect of acute increase in urge to void on cognitive function in healthy adults”. After making eight “healthy young adults” drink two litres of water over two hours, the researchers asked them to complete a series of tasks to test their cognitive performance. They concluded from the results that an “extreme urge to void [urinate] is associated with impaired cognition”.

In the past few weeks Romney has dropped from 70% to under 50% and Gingrich has rocketed to 40% on the prediction markets.  And in this time Obama for President has barely budged from its 50% perch.  As someone pointed out on Twitter (I forget who, sorry) this is hard to understand.

For example if you think that in this time there has been no change in the conditional probabilities that either Gingrich or Romney beats Obama in the general election, then these numbers imply that the market thinks that those conditional probabilities are the same.  Conversely, If you think that Gingrich has risen because his perceived odds of beating Obama have risen over the same period, then it must be that Romney’s have dropped in precisely the proportion to keep the total probability of a GOP president constant.

It’s hard to think of any public information that could have these perfectly offsetting effects.  Here’s the only theory I could come up with that is consistent with the data.  No matter who the Republican candidate is, he has a 50% chance of beating Obama.  This is just a Downsian prediction.  The GOP machine will move whoever it is to a median point in the policy space.  But, and here’s the model, this doesn’t imply that the GOP is indifferent between Gingrich and Romney.

While any candidate, no matter what his baggage, can be repositioned to the Downsian sweet spot, the cost of that repositioning depends on the candidate, the opposition, and the political climate.  The swing from Romney to Gingrich reflects new information about these that alters the relative cost of marketing the two candidates.  Gingrich has for some reason gotten relatively cheaper.

I didn’t say it was a good theory.

Update:  Rajiv Sethi reminded me that the tweet was from Richard Thaler. (And see Rajiv’s comment below.)

The Palestinians cannot get membership in the UN because the United States would use its veto.  But they have other options.  A month ago they were voted in by a wide margin to the United Nations Educational, Scientific and Cultural Organization, UNESCO.  This compelled the United States to cease funding to UNESCO because of an American law that prohibits contributing to any organization that recognizes the Palestinian Liberation Organization which the US considers to be a terrorist arm.

The US has no veto power to prevent entry to UNESCO or 14 other special UN agencies.  Quoting Gwynne Dyer:

If the Palestinians apply for membership in each of these organisations over the next year or so, they will probably get the same 88 percent majority when it comes to a vote on membership. None of the countries that defied the United States and voted Palestine into UNESCO is going to humiliate itself by changing its vote at other UN agencies. And each time, Washington will be forced by law to cease its contributions to that agency.

The United States would not actually lose its membership by stopping its financial support – at least not for a good long while – but it would lose all practical influence on these agencies, which do a great deal of the work of running the world. It would be a diplomatic disaster for Washington…

I thank Sean Brockelbank for the pointer.

“Today’s protest was a lesson for everyone,” said Andrei Medvedev in the evening broadcast of Rossia 1. “It turns out that, to express your dissatisfaction with the authorities, it is possible to gather on a square after getting permission from those same authorities. And to keep order, all you really have to do is give a polite admonition.”

Other strangely unusual goings on described here.  Ushanka shake:  Gary Charness.

I stopped following Justin Wolfers on Twitter.  Not because I don’t want his tweets, they are great,  but because everyone I follow also follows Justin. They all retweet his best tweets and I see those so I am not losing anything.

Which made me wonder how increasing density of the social network affects how informed people are. Suppose you are on a desert island but a special desert island which receives postal deliveries.  You can get informed by subscribing to newspapers but you can’t talk to anybody.  As long as the value v of being informed exceeds the cost c you will subscribe.

Compare that to an individual in a dense social network who can either pay for a subscription or wait around for his friends to get informed and find out from them.  It won’t be an equilibrium for everybody to subscribe.  You would do better by saving the cost and learning from your friends.  Likewise it can’t be that nobody subscribes.

Instead in equilibrium everybody will subscribe with some probability between 0 and 1.  And there is a simple way to compute that probability.  In such an equilibrium you must be indifferent between subscribing and not subscribing.  So the total probability that at least one of your friends subscribes must be the q that satisfies vq = v – c.  The probability of any one individual subscribing must of course be lower than q since q is the total probability that at least one subscribes.  So if you have n friends, then they each subscribe with the probability p(n) satisfiying 1 – [1 – p(n)]^n = q.

(Let’s pause while the network theorists all rush out of the room to their whiteboards to solve the combinatorial problem of making these balance out when you have an arbitrary network with different nodes having a different number of neighbors.)

This has some interesting implications.  Suppose that the network is very dense so that everybody has many friends.  Then everyone is less likely to subscribe. We only need a few people to be Justin Wolfers’ followers and retweet all of his best tweets.  Formally, p(n) is decreasing in n.

That by itself is not such a bad thing. Even though each of your friends subscribes with a lower probability, on the positive side you have more friends from whom you can indirectly get informed.  The net effect could be that you are more likely to be informed.

But in fact the net effect is that a denser network means that people are on average less informed, not more. Because if the network density is such that everyone has (on average) n friends, then everybody subscribes with probability p(n) and then the probability that you learn the information is q + (1-q)p(n). (With probability q one of your friends subscribes and you learn from them, and if you don’t learn from a friend then you become informed only if you have subscribed yourself which you do with probability p(n).) Since p(n) gets smaller with n, so does the total probability that you are informed.

Another way of saying this is that, contrary to intuition, if you compare two otherwise similar people, those who are well connected within the network have a tendency to be less informed than those who are in a relatively isolated part of the network.

All of this is based on a symmetric equilibrium.  So one way to think about this is as a theory for why we see hierachies in information transmission, as represented by an asymmetric equilibrium in which some people subscribe for sure and others are certain not to.  At the top of the hierarchy there is Justin Wolfers.  Just below him we have a few people who follow him.  They have a strict incentive to follow him because so few others follow him that the only way to be sure to get his tweets is to follow him directly.  Below them is a mass of people who follow these “retailers.”

Honestly though, I like Rick Perry now more than ever.  How he handled that moment is incredibly endearing and anti-political.  And I understand a lot about the GOP by noticing that every time one of their candidates does something likable his popularity among the base is eroded.

When he made his red-meat candidacy announcement this summer, I was frightened, and the GOP insiders already had him in the White House. Then when he appealed to his party’s heart to defend financial aid for the undocumented in Texas, me and the GOP switched places.  When he gave that speech in New Hampshire that went viral, I thought he came across as a guy you could hang with.  Everybody else said he must be on drugs.  Bill Clinton talks like that and he’s our buddy Bubba.

Pennsylvania is considering a change in how it allocates electoral votes in Presidential elections.  Currently, like nearly all other states, Pennsylvania’s electoral votes are up for grabs in a winner-take-all contest.  All 20 of its votes go to the candidate who receives the largest share of the popular vote in the state.  The state’s Republican party, currently in control of the legislature and the governor’s office, is considering a switch to a system in which each of the 18 congressional districts in the state would award a vote to the winner in that district.  (I believe the remaining two would be decided by state-wide popular vote.)

There are a number of ways to think about the incentives to switch between these two systems.  One way is to ask how it will effect the overall flow of campaign dollars/favors to the state.  On this score, in a state like Pennsylvania, the proportional-vote system is clearly better.

Only one Republican Presidential candidate has carried the state in the last 25 years.  The cost of increasing Republican vote share by a few percentage points would be wasted in a state where Democrats begin with such a large advantage. But in a proportional system such an investment can pay off.  The Republican party will now spend to compete for the marginal vote and Democrats will likely spend to defend it.

Of course the real question is how a state with a strong Democratic leaning could be expected to vote to switch to a system that will not only channel money to Republican districts but also help the Republican Presidential candidates.

Note that the opposite ranking holds in a more competitive state.  If the two parties are on equal terms in a state, then a winner-take-all system gives a huge reward to a party who invests enough to gain a 1% advantage in vote-share.  By contrast a proportional system offers at most a single vote in return for that same investment.  Such a state maximizes its electoral spoils by sticking with winner-take-all.  And with no majority party these economic incentives should dominate.

Taking stock of both of these two cases, it is not surprising that almost all states use a winner-take-all system.  Indeed, Nebraska, one of the few states with a proportional system may soon switch to winner-take-all.

The Guardian has gotten hold the U.K. interrogation policy:

In deciding whether to give permission [for overseas interrogation], senior MI5 and MI6 management “will balance the risk of mistreatment and the risk that the officer’s actions could be judged to be unlawful against the need for the proposed action”.

At this point, “the operational imperative for the proposed action, such as if the action involves passing or obtaining life-saving intelligence” would be weighed against “the level of mistreatment anticipated and how likely those consequences are”.

Auctions on eBay have a deadline and aggressive bidding occurs just before the auctions ends.  This is called “sniping” (see this excellent paper for a discussion along with the study of many other interesting issues).  One reason offered for this behavior is that bids might not come in as the auction ends so if your low bid gets in and my high bid does not, you win anyway (I seem to remember a paper by Al Roth along these lines).  A similar effect arises in the debt limit negotiations.

Assume for now the deadline is August 2 – if the debt limit is not raised by then all hell breaks loose.  If the House has a proposal on the table later today, this gives the Senate the change to reject it and table their own proposal.  But if the House gets their proposal in on August 1, there is too little time left for the Senate to respond with their own bill.  If they reject the House proposal, all hell breaks loose. And if the President vetoes the bill, all hell breaks loose. So, there is distinct advantage to the House from delaying the vote. Symmetrically, there is similar advantage to the Senate from delaying the vote.  But if both delay the vote, there is also a huge risk that neither proposal makes it through either chamber because both Reid and Boehner are having hard time drumming up enough votes.  So, as both parties delay the vote, there is a huge chance of hell breaking loose….

What if the August 2 deadline is not hard?  Then, I think I need a model to sort things out but my intuition is that there is bigger incentive to accept an early agreement (after August 1)- if you reject it, there is chance your counter proposal does not make it through as all hell breaks loose because the government runs out of money.  But if early agreements might be accepted, there is a bigger incentive to move early and get your bid in…..

I am attending a workshop organized by Eli Berman at UCSD.  Eli and his co-authors have been studying the military surge in Afghanistan.  Colonel Joe Felter, a key member of the research team, presented an overview of the theory of counterinsurgency (COIN) – How can the Afghan government and the US forces “win hearts and minds”?

Think of Apple and Samsung competing for consumers.  In the end, a consumer hands over some cash and gets an iPad or a Galaxy.  Both sides of the exchange have sealed the deal, an exchange of a product for money.  The theory of COIN works the same way.  Two potential governments compete for allegiance from an undecided population.  They offer them security and public goods in exchange for allegiance.  They may also use coercion and violence to compel compliance.  There is a key difference – an Afghan citizen can take the goodies offered by the U.S., claim he will offer his allegiance and then withhold it.  The exchange takes place over time and there is no “contract” that guarantees payment of allegiance for US bounty.

The Afghans will offer their allegiance to the government that will be around in the long run.  And the Taliban tell them, “The Americans have watches but we have the time.”  And this strategic issue undercuts the theory of COIN.  How can the surge work if one of the firms that is trying to sell you a product won’t be around to honor the warranty?

Republicans and Democrats are negotiating a budget deal in an effort to avert a government shutdown. The last time the government was forced to furlough workers, Congressional Republicans and their leader Newt Gingrich took much of the blame in the eyes of the public.  It is generally believed that Republicans, the anti-goverment party, would again be blamed for a government shutdown should an agreement not be reached this time around.

The first-order analysis bears this out.  While a government shutdown would be a bad outcome for all parties, it is relatively less bad for the anti-big-government Republicans.  Other things equal you would infer that if a shutdown were not averted it would have been because the Republicans were willing to let that happen.

Of course other things are not equal.   The second-order analysis is that Democrats, understanding that Republicans would take the blame now become relatively more willing to allow a shutdown.  This affects the bargaining. Democrats are now emboldened to make more aggressive demands for two reasons.  First, the cost of having their demands rejected is lower because they score political points in the event of a shutdown. Second, for that same reason Republicans are now more likely to accept an aggressive offer.

Will the blame equilibrate?  Does the public internalize the second-order analysis and adjust its blame attribution accordingly?  And what does equilibrium blame look like?  Must it be applied equally to both parties?

In politics only the most transparent arguments hold sway with the public.  The second-order analysis is too subtle to be used as a talking point even though probably everybody understands it perfectly well.  A talking point is effective as long as it’s believed that many people believe it, even if in fact most people see right through it. So the first-order analysis will rule and the blame will not equilibrate.

In the current environment that could raise the chances of a government shutdown.  Ideally Democrats would maximize their advantage by increasing their demands and stopping just short of the point where Republicans would rather trigger a shutdown.  But the Tea Party complicates things. They might be so steadfast in their principles that they are not deterred by the blame. That could mean that the best deal Democrats can expect to reach agreement on is dominated by making a demand that the Tea Party rejects and forcing a shutdown.

Suppose I want you to believe something and after hearing what I say you can, at some cost, check whether I am telling the truth.  When will you take my word for it and when will you investigate?

If you believe that I am someone who always tells the truth you will never spend the cost to verify.  But then I will always lie (whenever necessary.)  So you must assign some minimal probability to the event that I am a liar in order to have an incentive to investigate and keep me in check.

Now suppose I have different ways to frame my arguments.  I can use plain language or I can cloak them in the appearance of credibility by using sophisticated jargon.  If you lend credibility to jargon that sounds smart, then other things equal you have less incentive to spend the effort to verify what I say.  That means that jargon-laden statements must be even more likely to be lies in order to restore the balance.

(Hence, statistics come after “damned lies” in the hierarchy.)

Finally, suppose that I am talking to the masses.  Any one of you can privately verify my arguments.  But now you have a second, less perfect way of checking. If you look around and see that a lot of other people believe me, then my statements are more credible.  That’s because if other people are checking me and many of them demonstrate with their allegiance that they believe me, it reveals that my statements checked out with those that investigated.

Other things equal, this makes my statements more credible to you ex ante and lowers your incentives to do the investigating.  But that’s true of everyone so there will be a lot of free-riding and too little investigating.  Statements made to the masses must be even more likely to be lies to overcome that effect.

Malcolm Gladwell is cynical about the ability of social media to facilitate activism:

The platforms of social media are built around weak ties. Twitter is a way of following (or being followed by) people you may never have met. Facebook is a tool for efficiently managing your acquaintances, for keeping up with the people you would not otherwise be able to stay in touch with. That’s why you can have a thousand “friends” on Facebook, as you never could in real life

If Twitter is only identifying people with weak preferences for activism, the “revolution will not be tweeted”.  But there is a second countervailing effect created by network externalities, studied in Gladwell’s book The Tipping Point.  An individual’s cost in participating in a revolution is s function of how many other people are involved.  For example, the probability that an individual gets arrested is smaller the larger the number of people surrounding him in a demonstration.  Even if Twitter in the first instance does not increase the number of people participating in a demonstration, it does create common knowledge about where they are meeting and when.  The marginal participant in the absence of common knowledge strictly prefers to participate with Twitter-common-knowledge.  Now more individuals will join as the demonstration has gotten a bit bigger etc.  The twitting point is reached and we have a bigger chance of revolution.  Now, let me go to Jeff’s twitter feed and see what he is plotting in his takeover of the NU Econ Dept.

There is pressure for filibuster reform in the Senate.  Passing the threshold of sixty to even hold a vote was hard in the last couple of years when the Democrats had a large majority.  It’s going to be near impossible now their ranks are smaller.  Changing the rules has a short run benefit – easier to get stuff passed – but a long run cost – the Republicans will use the same rules to pass their legislation when Sarah Palin is President.  Taking the long view, the Democrats decided not to go this route.

By the same token, the kind delaying tactics that did not work in the lame duck session are an efficiency loss  – they had little real effect on legislation but delayed the Senators taking the kind of long holidays they are used to.   Some movement on delaying tactics is mutually beneficial.  And so according to the NYT:

“Mr. Reid pledged that he would exercise restraint in using his power to block Republicans from trying to offer amendments on the floor, in exchange for a Republican promise to not try to erect procedural hurdles to bringing bills to the floor.

And in exchange for the Democratic leaders agreeing not to curtail filibusters by means of a simple majority vote, as some Democratic Senators had wanted to do, Senator Mitch McConnell of Kentucky, the Republican leader, said he would refrain from trying that same tactic in two years, should the Republicans gain control of the Senate in the next election.”

I am teaching a new PhD course this year called “Conflict and Cooperation”. The title is broad enough to include almost anything I want to teach.  This is an advantage – total freedom! – but also a problem – what should I teach?  The course is meant to be about environments with weak property rights where one player can achieve surplus by stealing it and not creating it.  To give some structure, I have adopted Hobbes’s theories of conflict to give structure to the lectures.  Hobbes says the three sources of conflict are greed, fear and honour. The solution is to have a government or Leviathan which enforces property rights.

Perhaps reputation models à la Kreps-Milgrom-Roberts-Wilson come closest to offering a game theoretic analysis of honour (e.g. altruism in the finitely repeated prisoner’s dilemma). But I will only do these if I get the time as this material is taught in many courses.  So, I decided to begin with greed.

I started with the classic guns vs butter dilemma: why produce butter when you can produce guns and steal someone else’s butter?  This incentive leads to two kinds of inefficiency: (1) guns are not directly productive and (2) surplus is destroyed in war waged with guns.  The second inefficiency might be eliminated via transfers (the Coase Theorem in this setting). This still leaves the first inefficiency which is similar to the underinvestment result in hold-up models in the style of Grossman-Hart-Moore.  With incomplete information, there can be inefficient war as well.  A weak country has the incentive to pretend to be tough to extract surplus from another.  If its bluff is called, there is a costly war. (Next time, I will move this material to a later lecture on asymmetric information and conflict as it does not really fit here.)

These models have bilateral conflict. If there are many players, there is room for coalitions to form, pool guns, and beat up weaker players and steal their wealth. What are stable distributions of wealth? Do they involve a dictator and/or a few superpowers? Are more equitable distributions feasible in this environment? It turns out the answer is “yes” if players are “far-sighted”. If I help a coalition beat up some other players, maybe  my former coalition-mates will turn on me next. Knowing this, I should just refuse to join them in their initial foray. This can make equitable distributions of wealth stable.

I am writing up notes and slides as I am writing a book on this topic with Tomas Sjöström.  Here are some slides.

The WSJ Ideas Market blog has a post by Chris Shea about my forthcoming paper with David Lucca (NY Fed) and Tomas Sjöström. (Rutgers) Some excerpts:

Full democracies are unlikely to go to war with one another. That’s axiomatic in political science. Yet a new study offers an important caveat: Limited democracies may, in fact, be even more bellicose than dictatorships…….

The authors end with a twist on President George W. Bush’s contention that “the advance of freedom leads to peace”: “Unfortunately,” they say, “the data suggests that this may not be true for a limited advance of freedom.”

Here is another article in Kellogg Insight about the paper.

Liberal commentators bemoan the demise of the old John McCain they thought they knew and loved.  Joe Klein wonders what happened to the guy who originally sponsored the Dream Act to allow children of illegal immigrants to become citizens. Think Progress points out that he is now supporting the tax cuts to the rich he vilified in 2000-2004.  What has happened to John McCain? Have his preferences changed?

There is one obvious theory that seems to make his positions consistent: McCain had to run to the right to beat off a primary challenger in Arizona.  But, as Joe Klein points out, “he recently won reelection and doesn’t have to pretend to be a troglodyte anymore.”  So this theory is flawed.

There is another obvious theory.  In this one, you have to identify an outcome a person supports or opposes not just by the policy itself but also by the the other person who supports it.  So you have outcomes like “tax policy opposed by Obama,” “tax policy supported by Bush,” “tax policy supported by Obama,” “tax policy opposed by Bush” etc.  Then, it is quite consistent for McCain to support a 35% tax on the rich when Bush opposes it but to oppose a 35% tax on the rich when Obama proposes it. Essentially, if McCain loses to someone in a Presidential election or primary he opposes their policies whatever they are.

A sophisticated model along these lines is offered by Gul and Pesendorfer.  It allows one person’s preferences to depend on the “type” of the other person, e.g. is the opponent selfish or generous? In principle, this model allows us to determine whether a person is spiteful using choice data.  McCain certainly has some behavior that is consistent with spitefulness.  Is he ever generous?  We would need to know his choices when facing someone he beat in a contest or someone he has never played.  Or is he just plain mean?  Joe Klein leans towards spite based on the available data:

“He’s a bitter man now, who can barely tolerate the fact that he lost to Barack Obama. But he lost for an obvious reason: his campaign proved him to be puerile and feckless, a politician who panicked when the heat was on during the financial collapse, a trigger-happy gambler who chose an incompetent for his vice president. He has made quite a show ever since of demonstrating his petulance and lack of grace.

What a guy.”

If choice with interdependent preferences can be utilized in empirical/experimental analyses, we can investigate the soul of homo economicus using the revealed preference paradigm.

We dress like students, we dress like housewives
or in a suit and a tie
I changed my hairstyle so many times now
don’t know what I look like!

Mr C. is the new C.E.O. of your firm, Firm C.  He was head of operations at one of your competitors Firm A.  He was passed over for promotion there and had to exit to get to the C Suite.  You wonder about the wisdom of your Board: Why would they choose someone who rejected for the top job by their own company?  You subscribe the “Better the Devil you know, than the Devil you don’t” principle.  If your firm appoints an internal person to the top job, at least you know their flaws and can adapt to them.  This principle also applies at Firm A.  So, if they rejected the Devil they know, he must be a really terrible Devil or, to put it in tamer economic terms, a “lemon.”

But you are also aware of the counter argument: Real change can only be achieved by an outsider.  Mr C said some smart things in the interview process and so you are happy to give him the benefit of the doubt.  You are expecting Mr C.  to define a mission for Firm C, a mission that everyone can sign on to.  Of course, to persuade everyone to work hard on the vision it has to be a “common value” – something everyone agrees is good – not a “private value” – something only a subgroup agrees is good.  In this regard, Mr. C surprises you – he makes a big play that Operations are the most important thing in a successful firm.  “Look at H.P. and Amazon,” he says.  “They don’t actually make anything, just move stuff around efficiently and/or put in together from parts they buy from other firms.  We need innovation in Operations not fundamental innovation in our product line.”

You are shocked.  Your firm has R and D Department that has produced amazing, fundamental innovations.  Innovative ability is sprinkled liberally throughout your firm in – it is famous for it.  It is a core strength of Firm C.  Why would anyone want to destroy that and focus on Operations?  What should do you do?  In times of trouble, you have a bible you turn to  – Exit, Voice and Loyalty by Albert Hirshman

Should you give voice to your concerns?  The last CEO ignored you and the new CEO might give you more attention so you had thought that you might talk to him.  But your first impressions are bad and something you might say might be misinterpreted and lead to the opposite conclusion in the mind of the new CEO.  Talking is dangerous anyway.  You might be identified as a troublemaker and given lots of terrible work to do.  Better to keep quiet and blend in with the crowd.

Is loyalty enough to keep you working hard anyway?  Your firm is not a non-profit and, given the CEO plans to quash innovation, it is basically going to produce junk.  Why should anyone be loyal to that?

You are drawn inexorably to Hirshman’s last piece of advice: exit.  This is hard during the Great Recession – there are few jobs going around.  You will be joined by all those who can exit from your sinking ship C so you have to move fast….

Today Qatar was the surprise winner in the bid to host the FIFA World Cup in 2022, beating Japan, The United States, Australia, and Korea.  It’s an interesting procedure by which the host is decided consisting of multiple rounds of elimination voting.  22 judges cast ballots in a first round.  If no bidder wins a majority of votes then the country with the fewest votes is eliminated and a second round of voting commences.  Voting continues in this way for as many rounds as it takes to produce a majority winner.  (It’s not clear to me what happens if there is a tie in the final round.)

Every voting system has its own weaknesses, but this one is especially problematic giving strong incentives for strategic voting.  Think about how you would vote in an early round when it is unlikely that a majority will be secured. Then, if it matters at all, your vote determines who will be eliminated, not who will win.   If you are confident that your preferred site will survive the first round, then you should not vote truthfully.  Instead you should to keep bids alive that will easier to beat in later rounds.

Can we look at the voting data and identify strategic voting?  As a simple test we could look at revealed preference violations.  For example, if Japan survives round one and a voter switches his vote from Japan to another bidder in round two, then we know that he is voting against his preference in either round one or two.

But that bundles together two distinct types of strategic voting, one more benign than the other.  For if Japan garners only a few votes in the first round but survives, then a true Japan supporter might strategically abandon Japan as a viable candidate and start voting, honestly, for her second choice.  Indeed, that is what seems to have happened after round one.  Here are the data.

We have only vote totals so we can spot strategic voting only if the switches result in a net loss of votes for a surviving candidate.  This happened to Japan but probably for the reasons given above.

The more suspicious switch is the loss of one vote for the round one leader Qatar. One possibility is that a Qatar supporter , seeing Qatar’s survival to round three secured, cast a strategic vote  in round two to choose among the other survivors. But the more likely scenario in my opinion is a strategic vote for Qatar in round one by a voter who, upon learning from the round 1 votes that Qatar was in fact a contender, switched back to voting honestly.

It has been argued that earmarks can’t have any effect on the level of goverment spending because earmarks only specify how already-budgeted spending will be allocated.  Earmarks don’t represent additional funding, they simply dictate how an agency spends its funds.

But this assumes that the ability to earmark spending doesn’t change the incentives to spend in the first place. Here are two arguments why they must.

1. Earmarks raise spending. Suppose you are deciding on your grocery budget but your wife is going to do the shopping.  Whatever you budget, she is going to spend it to maximize her own utility function which is not the same as yours.  Your marginal return for every dollar spent is smaller than if you were doing the spending.  Your grocery budget is determined by the condition that the marginal return on groceries is equal to the marginal return on Ahmad Jamal concerts at the Regatta Bar in Cambridge (last week:  awesome.)  This happens at a lower level of spending when your wife has discretion than when you do.  If you could “earmark” the grocery spending you would get exactly what you would buy if it were you doing the shopping.  So the earmarks raise spending.
2. Earmarks Reduce Spending. Legislation is not decided by a single agent who is maximizing a single utility function.  Legislators have to be bribed to get their support.  Suppose that a crucial supporter wants a road built in his state.  With an earmark this can be achieved directly.  Without an earmark, you have to appropriate general infrastructure spending and hope that he gets treated well by the agency. For the same reason as above, the marginal value to your colleague of a dollar allocated to general infrastructure is lower than if the spending were earmarked.  So you have to increase the budget in order to achieve the bribe he requires.

From Bloomberg (the firm not the man):

New York Mayor Michael Bloomberg, who has been mentioned as a potential U.S. presidential candidate, said he doesn’t believe an independent can win.

Bloomberg, who isn’t affiliated with Republicans or Democrats, said a candidate running outside the two-party system couldn’t get a majority of the 538 votes in the Electoral College, which would trigger a provision in the U.S. Constitution giving the House of Representatives power to decide the election.

“Unless you get a majority, it goes to the House,” he said today during a conference sponsored by the Wall Street Journal in Washington. “It’s going to go to the Republicans because the Republicans have just taken over the House.”

I guess billionaires can do backward induction.  If only people who can do backward induction were billionaires….

We have a new guest-blogger:  Roger Myerson.

Roger is a game theorist but his work is known to everyone – theorist or otherwise – who has done graduate work in economics.  If an economist from the late nineteenth century, like Edgeworth, or early twentieth century, like Marshall, wakes up and asks, “What’s new in economics since my time?”, I guess one answer is, “Information Economics”.

Is the investment bank trying to sell me a security that it is trying to dump or is it a good investment?  Is a bank’s employee screening borrowers carefully before he makes mortgage loans? Does the insurance company have enough reserves to cover its policies if many of them go bad at the same time?  All these topical situations are characterized by asymmetric information: One party knows some information or is taking an action that is not observable to a trading partner.

While the classical economists certainly discussed information, they did not think about it systematically.  At the very least, we have to get into the nitty-gritty of how an economic agent’s allocation varies with his actions and his information to study the impact of asymmetric information.  And perfect competition with its focus on prices and quantities is not a natural paradigm for studying these kind of issues. But if we open the Pandora’s Box of production and exchange to study allocation systems broader than perfect competition, how are we even going to be able to sort through the infinite possibilities that appear?   And how are we going to determine the best way to deal with the constraints imposed by asymmetric information?

These questions were answered by the field of mechanism design to which Roger Myerson made major contributions.  If an allocation of resources is achievable by any allocation system (or mechanism), then it can be achieved by a “direct revelation game” DRG where agents are given the incentive to report their information honestly, told actions to take and then given the incentives to follow orders.  To get an agent to tell you his information, you may have to pay him “information rent”.  To get an agent to take an action, you may have to pay him a kind of bonus for performing well, “an efficiency wage”.  But these payments are unavoidable – if you have to pay them in a DRG, you have to pay them (or more!) in any other mechanism.  All this is quite abstract, but it has practical applications. Roger used these techniques to show that the kind of simple auctions we see in the real world in fact maximize expected profits for the seller in certain circumstances, even though they leave information rents to the winner.   These rents must be paid in a DRG and hence if an auction leaves exactly these rents to the buyers, the seller cannot do any better.

For this work and more, he won the Nobel Memorial Prize in Economics in 2007 with Leo Hurwicz and Eric Maskin.  Recently, Jeff mentioned that Roger and Mark Satterthwaite should get a second Nobel for the Myerson-Satterthwaite Theorem which identifies environments where it is impossible to achieve efficient allocations because agents have to be paid information rents to reveal their information honestly. This work also uses the framework and DRG I have described above.

Over time, Roger has become more of an “applied theorist”.  That is a fuzzy term that means different things to different people.  To me, it means that a researcher begins by looking at an issue in the world and writes down a model to understand it and say something interesting about it.  Roger now thinks about how to build a system of government from scratch or about the causes of the financial crisis.  How do we make sure leaders and their henchmen behave themselves and don’t try to extract more than minimum rents?  How can incentives of investment advisors generate credit cycles?

These questions are important and obviously motivated by political and economic events.  The first question belongs to “political economy” and hints at Roger’s interests in political science.  More broadly, Roger is now interested in all sorts of policy questions, in economics and domestic and foreign policy.

Jeff and I are very happy to have him as a guest blogger.  We hope he finds it easy and fun and the blog provides him with a path to get his analyses and opinions into the public domain.  We hope he becomes a permanent member of the blog.  So, if among the posts about masturbation and Charlie Sheen’s marital problems you find a post about “What should be done in Afghanistan”, you’ll know who wrote it.

Welcome Roger!

Fresh from their rout of the Democrats, the G.O.P. are promising to repeal President Obama’s healthcare reform.  There are lots of things that can be improved in the law but there are also some features that will be popular with voters. To think about the risks of repeal, I find it useful to recall my favorite Rumsfeld quote:

“[A]s we know, there are known knowns; there are things we know we know. We also know there are known unknowns; that is to say we know there are some things we do not know. But there are also unknown unknowns — the ones we don’t know we don’t know.”

In the minds on most voters, the healthcare law in an unknown unknown – most of its provisions have not gone into effect and non-experts (and even experts?) have not read the bill fully.  There was never a really serious discussion of the law in the main stream media so citizens just know various buzz words (“death panels”).  The huge uncertainty made the law unpopular with voters and it gave Republicans an electoral advantage.

If the Republicans clamor to repeal the law, the Democrats can point to he features of the law that will be popular with voters  (no denial of coverage for pre-existing conditions, kids can stay on their parents’ policies till they are twenty six..).  The law will go from being an unknown unknown into known unknown/known known territory.  There is only upside for Democrats from this change – uncertainty-averse voters can’t have a worse impression of the healthcare reform than they already have.  They are judging the unknown unknown in its worst possible light.  The risk for Republicans is that if voters find some parts of the law appealing, their assessment actually improves and the Republicans’ electoral advantage diminishes.  Better to keep the details hidden.

There is a “middle of the road” strategy – repeal unpopular bits and keep the popular ones.  I’m not sure if this is really viable either.  It forces a serious discussion of the law.  For example, if Republicans try to repeal the requirement to buy insurance coverage, there will be some discussion of the subsidies offered and the costs of getting rid of the provision (some people will not buy insurance and then free-ride on emergency care pushing up costs for everyone else).  Even if the discussion is a mess, it can’t be worse than the shallow discussion we sat through last year.

My guess is that the usual promise of tax cuts seems to dominate healthcare repeal as a strategy for Republicans.

I saw David Myatt present this paper in Oxford this Fall.  It made quite a splash with some surprising results about voter turnout rates consistent with “rational choice” theory.  Voting theories based on the assumption that voters calculate the costs and benefits have always been thought to imply very low turnout in order to generate sufficiently high probabilities of close elections.

Consider a region with a population of 100,000 where 75% of the inhabitants are eligible to vote. Suppose that a 95% confidence interval for the popularity of the leading candidate stretches from 56% to 61%. If each voter is willing to participate in exchange for a 1-in-2,500 chance of influencing the outcome of the election, then turnout will exceed 50%. Greater turnout for the underdog offsets her disadvantage.

Your vote makes a difference only when it is pivotal.  Now don’t worry, I am not bringing this up to sort through the tired old arguments about whether you should go to the polls today. You should!  That settled, let’s talk about what it implies for how you should vote once you get there.

Because if your vote only makes a difference when it breaks a tie (or makes a tie), then when it comes time to decide how to vote, you might as well assume your vote will be pivotal.  And ask yourself how would you vote if your vote was going to make or break a tie.

Be careful.  This is not the same as the question “How would you vote if you were the dictator?”  Indeed quite often your vote should not be the vote you would cast if yours was the only vote.  That’s because when your vote is pivotal you learn something that a dictator doesn’t.  You learn that all of the other voters were (almost) perfectly split and and that implies something very specific about the other voters and what they must know about the candidates (or propositions) on the ballot.

Quite often that information is crucial for determining how you want to vote. Let me give you a simple example.  Judges are almost always re-elected. Pretty much the only time a judge is voted off the bench is if that judge is completely incompetent.  Now you haven’t bothered to read anything about the judges on your ballot.  You know nothing about them individually but you know that most judges are doing just fine and should be re-elected.

If you were the dictator (an uninformed dictator!) you would vote yes for every judge.  But things turn completely upside-down in an election when you factor in the information you learn from your vote being pivotal.  Since all competent judges are easily re-elected, the only way it could have happened that all the other voters are split is that this judge is not competent!  Knowing that, and knowing that your vote will decide whether an incompetent judge is re-elected, you should vote no.  Against every judge.

Now, the smart readers of this blog have already thought one step ahead and noticed that this logic is self-defeating.  Because if everyone figured this out, then everyone is voting against every judge and then every judge is voted down, not just the incompetent ones.  Here’s where the theory takes one of two paths, use your judgement.

First you might not believe that the electorate in general is as sophisticated as you are.  The vast majority of voters don’t understand the logic of pivotalness and they are naively voting the way they would if they were dictators.  In that case, the argument I have laid out works as written and you should vote against every judge.

On the other hand you might believe that a signifcant fraction of voters do understand the strategic subtleties of voting.  Then we have an equilibrium to find.  For starters we take as given that the judge himself and all of his friends will vote for him.  So he has a head start.  Now there’s a small group of do-gooders who have read up on this judge and know whether he is competent.   They vote as if they are dictators, with good reason now because they are informed. They vote yes if he is competent and no if he is not.

The rest of us know nothing.  Until, that is, we take into account what we can infer from being pivotal.  And if it were just the informed and the judge’s friends who were voting then what we can infer is that enough of the informed are voting no to counteract the judge’s head start.  That is, the judge is incompetent.

In equilibrium none of us uninformed voters vote yes.  Because if any of us are voting yes, then effectively the judge has an even bigger head start and that makes it even worse news that the no votes caught up with the head start.  But not all of us vote no.  Some of us do, but most of us abstain.  Enough of us that it remains a valid inference that a pivotal vote means that enough of the informed voted no to make it optimal for us to vote no.

This is the logic of The Swing Voter’s Curse.

There’s only so much time in the day so we can’t talk about everything.  Given the opportunity cost, ideas that are obviously bad aren’t worth talking about, even if you are someone who always considers both sides of every issue.  This means that if you discuss an idea you demonstrate that you don’t think it’s obviously bad, even if what you conclude from your discussion is that the idea is obviously bad.

Now if I think that an idea is obviously bad and I hear a friend, or politician, or media outlet engage in a discussion of both sides of that issue, I conclude that they have the wrong priorities, even if they ultimately agree with me on the idea.  Therefore, my friends, politicians who want my vote, and media who want me to listen to them will not even bring up ideas that I think are obviously bad.  Even if I am wrong.

Obama has an interesting strategic decision to make about how to engage the Tea Party.  If there is one power that the President has, even when he has lost momentum policy-wise, it is to control attention.  How should he use this power in relation to the Tea Party?

Right now the Tea Party has few leaders, and none with any real power. Obama can essentially anoint a leader by picking him/her out of the crowd and engaging directly.  For example, by personally responding in a press conference to some attack and addressing the Tea Partier by name.  As the Tea Party tries to internally organize, a well-targeted salvo could throw a wrench in the works. On the other hand, it could backfire and provide them with a much-needed lightning rod.

He could frame the upcoming election as “sane, albeit perhaps incompetent Democrats” versus “nutty Tea Partiers.”  By doing so he would raise the stakes for the Tea Party higher than they might want to make them.  In its infancy, the Tea Party may not be ready for an up-or-out test.

Obama could be wisely waiting until after this election to make any move like this.  It may even be that he and the Tea Party have a mutual interest in keeping their profile low for now.  Because making this election out to be a test of the Tea Party’s fitness can only really have consequences in the event they fail to make a good showing.  In that case, the Tea Party disappears and Obama loses a potentially valuable third-party threat in 2012.

Instead, if they tacitly agree to view the Tea Party as too young to be a big contender this November, they both keep their hopes alive in the event of defeat.  Which of course means that the mainstream Republicans should have exactly the opposite incentive.

Now I am trying to figure out how this fits in with the story.