Misplaced Conclusions

“My uncle died sadly due to his habit of drinking tea?”

“That’s amazing! I have heard of people dieing because of alcohol. But tea?”

“Yes, tea lead to his death. He was crossing the road to get himself a cup of tea, and a bus ran over him. Tea caused his untimely demise.”

You may think it’s funny. But wait till you see the conclusion drawn from the following. This is from a report by my friend Priya Ganapati of rediff.com:

Jhunjhunwala cites a case where an email was sent to a number of government officials including the chief minister about a possible breakout of the small pox epidemic in a certain area.

Though the email was ignored by many, it finally did reach the right official and prompt administrative action to prevent the epidemic was taken.

“In Attapatti village, Veermani, a man with disabilities was unjustly dismissed from his job. He wrote an email to many government officials, one of whom finally took note and he was reinstated,” Jhunjhunwala points out.

You may not believe it but one is supposed to be persuaded that the above examples argue for IT-enabling of Indian villages. A moment’s consideration is all that is required to see that the conclusion is as asinine as blaming tea for the uncle’s release from this mortal coil.

If you substitute postcard for “email” in Priya’s report, then obviously the conclusion would have to be that what is required for rural development is a postal system. But wait!! We do have a postal system, don’t we? So what exactly does an email do that a postcard does not do?

Someone should clue these people in: emails and postcards are the means of conveying a message. Emails don’t suddenly make caring people out of apathetic government bureaucrats. The failures of government is not a technological failure and producing technical fixes for that is as effective as casting spells to fix a broken car.

One may say, “Well, emails are faster. And you can send it to a zillion officials.” Sure, you can. But so when everyone and his brother is sending a zillion messages to thousands of officials, the officials will also learn to file those emails under “T” for trash. You would be back to square one with the only difference being that money that could have helped with development ends up in the pockets of Bill Gates, HP, and Intel.

The bottom line is very simple. We need to ask where the failure is in the above examples. Then figure out a solution. And if in that solution we find that the use of IT tools is cheaper than any other method, we should use IT tools. Until then, all who are IT-trigger happy should sit on their hands and contemplate the universe.

{Deja vu? Indeed, this one is recycled 🙂 }

The Power of M-type Arguments

Suhit Anantula forwarded an open letter to Krugman from Arnold Kling. In it, Kling told Krugman that he (Krugman) was using too many M type arguments (M for “motivation”) and not enough C type arguments (C for “consequence”) when Krugman argues for or against certain policies. I think that Kling’s letter is worth reading. And I believe that Kling is mistaken.

Kling takes Krugman to task saying that he should eschew M arguments and concentrate on C arguments to make his point. Economists, Kling claims, have always employed C arguments to evaluate public policies and that is what Krugman should stick to.

Here is what I believe. Public policies are made by humans. Humans are motivated by self-interest. It is therefore important to understand the motivations of the humans involved in policy making to comprehend why a certain policy was advocated. In most cases, the consequences of a policy are not completely known a priori and there is considerable uncertainty in the actual outcome of a policy. Depending upon the motivation of the policy maker, the policy maker has the freedom to claim that a particular consequence would necessarily follow. By identifying the motivation of the policy maker, one can control for the biases in the claimed benefits of the policy.

My position is not that C arguments are worthless when evaluating policies. It is rather that C arguments are not sufficient when it comes to understanding why a certain course of action is actually taken from a menu of choices.

To take a specific example, consider the so-called US “war on terror”. Suppose one were to make the C argument that “invading Iraq would not stop terrorism, but instead would intensify terrorism by inducing more Islamic terrorism.” Would that argument be sufficient to deter those advocating the invasion of Iraq? It would be if those people were indeed ignorant of the possibility of inducing more Islamic terrorism and having heard the C argument, would change their minds. But those who pushed for the invasion of Iraq are not stupid. They would have already worked out C argument for themselves, anyway. Yet, if inspite of understanding the consequences of their chosen policy, they still go ahead of with the invasion of Iraq, then one has to ask what their motivations are for doing so. If one finds that the benefits of an invasion (to the policy makers) is greater than the cost of the war (which the policy makers do not bear), then one can explain comprehensively why the invasion was undertaken.

In a purely academic environment, debating the pros and cons of a specific policy is best undertaken with C arguments. But in the real world, people are motivated by self-interest and have a certain amount of control over what course of action to take, rather than being dispassionate observers of a world that they don’t have any control over.

A diverse set of issues — from why the Bush administration invaded Iraq, to why worthless expensive PCs are foisted on poor rural Indians — can be better understood by the simple device of following the money and asking what is in it for the advocates of a particular policy and how it benefits them.

You might be a third-world country if …

I have been writing this blog for a year. I have learnt a bit and I hope that it was not a waste a time for those who visit it occassionally. About 100 unique visitors show up every day on the average, and every day a few write in with comments or an email to me. Thank you all.

On reviewing the archives, I note a glaring omission. The blog needs some humor. Sure the topic is extremely serious. But one can definitely make a serious point with humor. So I want to add a bit of humor occassionally.
Continue reading

The Power of Incentives

It is said that one should not ascribe to malice what can be adequately explained as stupidity. I would go one step further and say that one should not ascribe to malice or stupidity what can be explained by basic self-interest. In other words, the power of incentives. Incentives matter and just like you can explain all sorts of natural phenomena by understanding the law of gravitation, you can explain all sorts of diverse economic puzzles by asking what are the incentives.

Consider this. BBC News on Sept 3rd 2004 carried an item: Solar plan for Indian computers. Some excerpts:

Authorities in the Indian state of Uttar Pradesh have drawn up a pilot project to use solar power to run computers in village schools…

Many have to use kerosene lamps for light and most government-run primary schools have no power at all.

It is hoped the plan will help schools cope with the rural power crisis.

Last year, the Uttar Pradesh Education for All Project Board bought about 1,000 computers for selected primary schools in all 70 districts.

The schools were selected in villages which had no power lines, and teachers were given special training for computer-aided education.

Consider the typical village school in UP: totally strapped for resources, teacher absent most of the year, perhaps not even a blackboard, students unable to afford books and most likely malnourished. Why, one asks incredulously, would anyone be spending money on computers when there are more important needs that are crying out for resources?

The report goes on to say:

A further 1,000 computers are to be purchased this year for village schools, but most of these will not work because there is no power available.

The mind boggles at the waste of resources which a poor state can ill-afford. Funds for rural public education are severely limited and yet they are wasting it buying computers that will serve no apparent purpose. These funds could have been used more effectively in paying teachers living wages, buying supplies such as books and blackboards, perhaps food for the starving students. Why?

Here is my explanation. Some time ago, I had pondered the question of why telephones, radio, and TVs don’t make the conference circuit. The vendors of PCs have an incentive to push their wares and they are a powerful lobby. Couple that with the avarice and corruption of the “authorities” mentioned in the BBC report, and you have the answer. When tens of millions of rupees are spent in bulk purchases of computers, there are kickbacks. The authorities make their pile, never mind that the computers end up being expensive non-functional display items in the villages without power.

But wait, it gets better. No power for computers? No problem: use expensive solar power to power them. And you will find the vendors of solar power panels eagerly getting into the game of rural development. They make hay while the sun shines.

It is disgusting, all things considered. Last Friday I made the mistake of driving about 10 kms on Mumbai roads. It took an hour and a half. We were stuck at a T-junction for about 20 minutes because of a deadlock. Vehicles had moved into the intersection and there was no way any vehicle could move. I had described a similar situation earlier in a post entitled Seduced by ICT:

Recently I came across a news item which said that they are looking at solving Mumbai’s traffic problems by making Mumbai roads “electronic intelligent roads.” I don’t have the slightest doubt that it would involve huge outlays to the tune of millions of dollars and lots of people will make lots of money up and down the line providing expertise and hardware and software for this hi-tech venture. I am also convinced that it will not make the slightest effect on the congested Mumbai roads because it is not the roads that need the intelligence but the people designing the roads that need to be intelligent.

Close to where I live in Kandivali, a suburb in North Mumbai, there is an intersection that is almost always caught in a grid-lock. The intersection is like an “H” with bi-direction flow of traffic along all the sections and it has one traffic signal at one of the points where the horizontal section meets the vertical sections. Traffic gets log-jammed around 300 meters of this intersection and it takes about a half hour to cross this bit every evening. Hundreds of autorickshaws, buses, cars, trucks, two-wheelers, and whatnots spew exhaust fumes and honk continually and people suffer. It is astonishing that the traffic people have not figured out that the simplest thing to do would be to paint some part of this intersection with the “KEEP CLEAR — DO NOT BLOCK” sections and put a couple of traffic cops to teach the people to keep off these sections. It would be a simple effective system which would cost very little compared to the enormous price that everyone pays throughout the day due to the congestion.

Instead, the Mumbai municipal corporation is investigating ways of using electronics. Why not better road markings and so on? Because there is not much money involved in a simpler but more effective system. Simpler may be better but there is not much profit in it. A blackboard, a teacher, and a dozen slates and some chalk may be simpler and better for adult education, but there is not as much profit as in putting PCs with literacy programs to teach adults how to read in rural areas.

That is all there is to it. Expensive solutions are proposed because those in control of the spending benefit. This is a universal phenomena, not restricted to poor overpopulated corruption ridden third-world people. Doctors in the US freely sometimes recommend unnecessary heart-bypass surgeries instead of recommending life-style changes. They make more money performing by-passes and don’t make any money if the patient changes his life-style.

The power of incentives is awesome. Look carefully at the roots of persistent poverty and you will see that someone makes money and therefore it is in the interests of the person to perpetuate that poverty. This is not even limited to the economic sphere alone, of course. Mother Teresa’s goal was religious glory and her incentive was therefore perpetuation of overpopulation because people are the fodder that the church feeds on. Is there a way out? I think there is. Stay tuned.

Pondering Outsourcing: Part Duh

I was pondering outsourcing yesterday and ran out of pondering time. Now that I have some pondering time, I thought I would continue with my pondering of outsourcing. {“ponder”: interesting word, isn’t it? Perhaps I should look it up… Here is what one source on the web says:

To weigh in the mind; to view with deliberation; to examine carefully; to consider attentively.

Syn: To Ponder, Consider, Muse.

Usage: To consider means to view or contemplate with fixed thought. To ponder is to dwell upon with long and anxious attention, with a view to some practical result or decision. To muse is simply to think upon continuously with no definite object, or for the pleasure it gives. We consider any subject which is fairly brought before us; we ponder a concern involving great interests; we muse on the events of childhood.

End of digression.}

First one point of clarification. Yesterday I wrote

Fun fact #2: Trade occurs only among two dissimilar entities. If I have an excess of peanut butter and you have an excess of bread, then we can trade and both end up enjoying peanut butter sandwiches. But if both of us have exactly the same ratio of peanut butter to bread to start off with, then we could not trade.

The point was that the two trading entities have to be dissimilar. That dissimilarity could be intrinsic or extrinsic. If they are intrinsically dissimilar, then even if their endowments are the same, trade can still take place. For instance, we may start off with the same ratio of peanut butter and bread, but you may have a strong preference for only bread and I may have a strong preference for only peanut butter. In that case, we can trade and end up happier. If we are instrinsically similar — our preferences match — then we cannot trade unless our endowments are different. End of digression number two.

Continuing with the list of fun facts, here is another. Fun fact #5: The world is moving towards increasing specialization since the stone age. Speciation is what happens in the natural world where life evolved in some primal soup and since then from the earliest protozoan to the present day different species have emerged. Evolution is a fact. The theory which explains the mechanism of evolution was given credence through the diligent and brilliant work of Charles Darwin (1809-1882). Darwin got the germ of his idea upon reading Thomas Malthus’ (1766-1834) Essay on the Principle of Population. No doubt Darwin pondered that issue long and hard and then it struck him that speciation occurs through competition for resources and those that are less fit are doomed and this process he called “natural selection”. Darwin explained the mechanism that underlies the question how did all the diversity of life originate.

It is easy to see that specialization in the economic world is a close analog of speciation in the natural world. Once upon a time you used to have people who were jacks of all trades and masters of none. Now you have programmers and playwrites, prostitutes and politicians (ok, I repeat myself), pharmacists and paleontologists. The more advanced the society, the more specialization of its work force.

Hand in hand with the specialization of the work force, we have the specialization of the firms that operate in the society. Firms that used to do all things in a particular sphere (vertically integrated firms) no longer do so. They ‘outsource’. For instance, take a car manufacterer. Once upon a time, at one end steel, rubber, and glass would go in and at the other end of the factory you would have cars rolling out of the assembly lines. All the raw materials would be transformed inside that one plant into cars. That was then. Now a car manufacturer assembles cars from components that are manufactured by other firms. So a firm that manufactures engines will supply these intermediate goods to a host of firms.

{Advanced industrialized countries (or developed countries) trade a lot amongst themselves. Much of that trade is in intermediate goods. Given that, it is hard to tell where something is really manufactured these days. For instance, ponder a complex creature such as a Boeing 777. Engines could come from Europe, parts of the fuselage from Japan, avionics from the US, … by the time you are done enumerating, you would find that practically the whole world was somehow involved in the manufacture of the plane. End of aside #18.}

That is what outsourcing is all about. You don’t do all the stuff that needs to be done. Get someone else to do it because they have a comparative advantage in doing that bit. I outsource ‘jhadu-pocha-bartan’. American firms outsource much of what they need done and a part of that outsourcing happens to be done abroad and of that work done abroad, India has a small share.

So now let’s ponder outsourcing and India. I will ponder outsourcing and the US later because I am fast running out of pondering time.

India appears to be a destination for a specific kind of outsourcing. Business processes and software development. The sort of work that does not require hard infrastructure such as roads and ports and water and power. You just need some kind of connectivity, a bunch of English-speaking graduates who can be easily trained, and a bunch of entreprenuers who would start BPO and software firms to do the ‘jhadu-pocha-bartan’ equivalent for the US firms.

From all indications, the whole business works quite well. India has a huge population. Out of that billion+ population, India graduates around a million every year. Some of these graduates can speak English and of them some are trainable. Firms that initially went into the BPO and software business had an easy time. Lots of unemployed and underemployed graduates to choose from and they had a party. Will the party continue? As more and more firms get into the game, it will become increasingly difficult to find graduates that are trainable and can speak English. Given increase in demand without significant changes in the supply, prices will get bid up. That will drive up the costs of BPO and software in India. India’s competitive advantage in the sector will deteriorate.

So how does one go about avoiding the fate that I just outlined? Simple: increase the supply. India should see that more of the million graduates it produces are capable of being trained and speak English.

For the record, I should state that while I feel happy for the people who get the BPO and software jobs, I do not feel very happy about the fact that India has to be the preferred provider of ‘jhadu-pocha-bartan’ to the Americans.

Is Outsourcing Good for the Universe

Via Rajesh Jain, I came to know of NY Times report on Paul Samuelson’s essay in an upcoming issue of JEP. I am probably one of the very few who have not read Samuelson’s celebrated book on introductory economics. That is so because I never studied undergraduate economics. My introduction to economics was at the graduate level and the first books on economics I read were Hal Varian’s Microeconomic Analysis and Bhagwati and Srinivasan’s Lectures on International Trade. I learnt undergraduate economics later while teaching undergraduate classes. OK, enough of this biographical aside.

The issue of outsourcing appears to be a very hot topic. Here is how I think about it. I go back to the basic facts.

Fun fact #1: Trade is good. Whether between two people on eBay or between two countries across an ocean, trade increases welfare. While that is true in general, there are well-known conditions under which trade can be harmful and decreases welfare. If any of those conditions exist, then you need to take corrective measures which may include the extreme measure of banning the trade.

Fun fact #2: Trade occurs only among two dissimilar entities. If I have an excess of peanut butter and you have an excess of bread, then we can trade and both end up enjoying peanut butter sandwiches. But if both of us have exactly the same ratio of peanut butter to bread to start off with, then we could not trade.

Fun fact #3: Increasing the supply of any good or service (all other things being equal) reduces its price. This is not rocket science but the ignorance of this fact is as widespread as the ignorance of rocket science.

Fun fact #4: Most change gives rise to winners and losers. Walmart in your neighborhood helps you and hurts the little stores in your neighborhood. Imported Chinese junk helps the consumers of junk but hurts the domestic manufacturers of junk. Basically, lower prices help those who consume the good or service but hurt those who produce it.

OK, so here is the story about outsourcing, the US, and India. India and US are dissimilar. Wages are lower in India as compared to the US. Why? Because wages depend on the average productivity of the country. India is a low productivity country. Why that is so is another story that we will not go into right now. Because Indian labor is cheap, producers who can use Indian labor will have an incentive to use them. If you are producing goods, you can get the goods produced abroad and sell them in the home country. Winner: the domestic consumers. Losers: the domestic workers who were replaced by cheaper labor. While labor is immobile internationally (immigration laws and all that), labor is said to be embodied in the goods that are produced abroad. Think of it as if the worker is virtually present in the US and is working for a wage much lower than the domestic worker would demand.

In the past, India supplied some goods to the US, mostly commodities. Then when communications technology improved, services could be exported. It was as if a couple of million Indians moved to the US. Increased supply immediately translates into lower prices. Basic economic logic, not rocket science at all. Lower prices help the consumers and hurt those who worked in that sector before the supply of labor increased. Globally, that movement of labor (virtual movement, of course) is welfare improving. It is undoubtedly good for India because the average wage of those workers increases and since Indians are in general not consumers of the stuff these workers produce, Indian consumers are not hurt. But is it good for the US?

What is good for GM is good for America is only true if all Americans work for GM, otherwise it is an open question. So also, if the US workers displaced by the virtual migration of Indian labor move on to more productive jobs, then the change is an unmitigated good for the US. Then of course, one has to consider the question from the temporal angle as well and distinguish between the short- and long-term impact of the change.

In the long-term (not the real long term, of course, in which we are all dead as Keynes astutely observed), Heckscher-Ohlin’s factor price equalization theorem takes effect. Here is a definition from About.com:

Factor price equalization is an effect observed in models of international trade — that the prices of inputs to (“factors of”) production in different countries, like wages, are driven towards equality in the absence of barriers to trade. This happens among other reasons because price incentives cause countries to choose to specialize in the production of goods whose factors of production are abundant there, which raises the prices of the factors towards equality with the prices in countries where those factors are not abundant. Shocks to factor availability in a country would cause only a temporary departure from factor price equality.

The basic theorem of this kind is attributed to Samuelson (1948) by Hanson and Slaughter (1999) who also cite Blackorby, Schworm, and Venables (1993). The context of the theorem is a Heckscher-Ohlin model.

Programmers and call center operators are a factor in the production of many goods and services in today’s global economy. Since barriers to trade have come down both due to free trade agreements and to technological advances in telecommunications, it has led to a “mobile” labor market for those workers. Increased supply implies lower prices for that sort of labor. Lower prices implies winners and losers, as argued earlier.

So is it good for the US and if not, could the US do something about it and if it could, should the US do something about it? Good question. The answer is forthcoming. What we have to remember when it comes to change is the good old theory of the second best which Bhagwati had written about years ago and which I believe throws light on the present debate.

The magic that is the internet

The internet is huge. It is bigger than one can imagine. We are fortunate that we have access to the internet. And I feel for those who do not have access to this astounding wealth of information and possible source of wonder, amazement, delight, instruction, and possibly enlightenment.

Take for instance a website such as number27. You can spend so much time getting informed and getting entertained at the same time. Check it out sometime. [Thanks to