Friday, July 17, 2009

Health Care Reform

The problem is that the fundamental issue with health care still isn't being addressed or even debated. Certainly the fundamental issue is cost, and while privatization and/or nationalization are two ways by which to deal with cost, neither gets to the primal element of cost which is the nature of health care as a consumable good. I am no health care economist, but my impression and understanding is that health care is a sort of "super-necessity" good, or to put it another way, health care is very inelastic. This in and of itself wouldn't be problematic, as lots of goods are inelastic, but it becomes problematic when combined with the (ir?)rational subjective valuation of health care in this country. The "problem" is that our nation, as a collective and as individuals, puts (near) infinite value on continued life. In our valuation system, the marginal utility of an additional time unit (a minute, day, week, year, etc), when you are facing imminent death, of life is infinite (and perhaps not unjustly so). However, this skews what we are willing to pay for treatment, even when the expected benefit of treatment is very low. Say, for example, that you have terminal cancer (you will die with probability .99 in the next week), and that there is a new drug that with probability .05 will extend your life by some time unit (whatever unit you think is important). What would one be willing to pay for this drug? Well the expected benefit is .05*infinity = infinity (if we place infinite value on extend life), so this person would be willing to pay any amount of money for a 5% chance at an additional day, week, month, whatever....

The above is obviously a bit of hyperbole, but I think it illustrates a mindset that is prevalent in the health care industry - "test and treat" - at any cost (if the patient has insurance of course). A 30 minute doctors visit probably has an actual cost (doctors salary, overhead, materials, etc) of say $300. At this visit and examination, the doctor (if she is good) probably has a fairly reasonable diagnosis (say %80) of what the problem is. However, since this is AMERICA, 80% isn't good enough. So, in addition to running a lab test (another $300) to confirm the doctor's diagnosis (say to 95%, and this isn't necessarily a bad thing), the doctor will also run a battery of tests (another $2100) to make sure she has ruled out all other possibilities, and can diagnose the condition with 99.9% confidence. Thus, "80% good" health care costs $300, with a marginal cost of $3.75 per marginal point; "95% good" health care costs $600, with a marginal cost of $20 per marginal point; and "99.9%" costs $2700 with a marginal cost of $428.57 cost per point. Obviously I've just made all these numbers up, but they illustrate my point and my guess is that they are pretty representative of actual health care costs.

I have numerous friends in the health care industry and I know they conduct all the tests to get to the 99.9% level, even though the marginal cost is ridiculous. This is largely what drives the cost of health care to such crazy levels in this country, and this is driven by "our" subjective valuation of life (and also to some extent by medical malpractice litigation which is inversely related to the probably of the doctor's success). Thus, the debate in this country over health care needs to be a realistic one about what level of care we are willing to pay for. Yes, we have the best health care in the world, but does it really make sense to pay for it? Perhaps this is what you are suggesting in your plan, allowing insurance companies to offer packages at the "80% level" (i.e. you can see a doctor but get no tests), the "95% level" (i.e. you get the doctor and one lab test) or the "99.9% level" (doctor and all the lab tests they want), where the 95% package costs twice as much as the 80% package and the 99.9% package costs 9 times as much.

Thursday, September 18, 2008

Financial Meltdown

In the comments section on today's "The Economist" article on the financial meltdown, a plucky commentator informs "The Economist" that their next headline should be "We told you so." Unfortunately, in a rare occurrence, they didn't "tell anyone so", but rather, they have repeatedly lauded the creation of the derivative markets that are responsible for this mess. The Economist's logic has been that these markets spread the risk to those most willing to bear it.

That, in principle, was true. Unfortunately however, the investors who ended up holding these risks, had no idea of the risk involved. They took names like AIG and Morgan Stanley to be safe bets... "risk" was getting crazy in some developing market in Indonesia. So although the risk from CDOs was spread, the nature of risk was not understood by those who held it. Thus, the justification of spreading risk to those who have appetite for it simply falls flat.

Capitalism is NOT to blame. "Greed" may be to blame, but only in so far as "greed" can be understood as deception or doggy tactics in seeking fortune, seeking fortune in and of itself is not responsible. The deception, and responsibility for this mess, lie with the unscrupulous mortgage brokers (who invented income so clients could buy bigger homes that they couldn't afford), investment banks who commoditized this debt and sold it on without checking if the asset it was based on (the McMansion) was really worth what the loan said, and the "financial services representative" who understated the risk in selling these packages to consumers. The consumer, as well, is not blameless... because ultimately parting a fool and his money is not hard and the consumer had a responsibility of due diligence to see if the I-banker was selling snake oil or something real.

Credit derivatives are largely done, as is I-Banking as a stand alone model. You can't just keep creating assets that don't have any value other than spreading risk - they have to ultimately be tied to something real - otherwise you are just pulling rabbits out of the hat...

Tuesday, September 16, 2008

Price Theory 101 - p(OIL)=mc(OIL)

The roll-a-coaster of oil prices continues today as oil looks set to drop below $90. This has me wishing I'd take my own advice a few months ago when I said that $120 a barrel oil was unsustainable and I should throw all my meager assets towards shorting oil.

Per usual, the laws of economics have reared their reasonable head. As everyone remembers from Econ 101, price should approximate marginal cost, e.g. the cost of producing the last barrel of oil. Currently, about 90% of the proven oil reserves in the world can be produced for about $55/barrel (This includes the HUGE reserves of shale sands in Canada.) And this belies the fact that a vast majority of all the oil currently PRODUCED has a MC of about 5$/barrel.

Granted, the oil market is a bit more complicated (e.g. not perfectly competitive) since it includes a cartel, OPEC and oil is a necessity good with many significant geo-security implications. However, even if we allow for a %50 premium for these considerations this puts oil in the $75-80 range. Why then, did oil surge to nearly $150 a barrel? Because, as Ms. Clifford notes, oil was being valued for reasons that have nothing to do with its uses as a commodity, namely as a financial instrument to hedge against the turmoil in more sophisticated financial instrument, mainly the CDOs. This happends because investors, foolishly, believe that since commodities are "scarce", they tend to be a better store of value. (e.g. once the oil is gone, it is gone - whereas there is a virtually "infinite" supply of potential credit derivatives). This is why silver, gold, platinum, etc all shot up in response to the financial crisis. Obviously, this is not the case, the value they "store" (e.g. as a baseline) is their marginal cost of production.

So why is oil falling? The initial fall (say from $150 to $120) was precipitated less by decreases in demand forecasts (Although demand is falling in the developed world, global demand growth forecast still largely project increased demand, namely due to increased demand from the 2 billion Indo-Chinese that will soon be driving Tatas ). No, the Saudi's have it right - global supply and demand are pretty much in balance. Oil fell, because at least some speculators (e.g. those who use oil as a financial instrument) realized that the pricing of oil was way out of wack. As oil began to fall, more and more investors who had hedged with oil realized that oil was NOT a store of value, and jumped off the ship. Increasing signs of a global economic downturn COMBINED with the fact that oil was already falling perpetuated the fall, but did not cause it. Again, global supply and demand are largely balanced. Price, in this market, like all markets, is based on marginal cost (and in this case some risk, good-specific and cartel premium). If you can add these up, you'll have a good idea of the true "value" of oil - and you can make a killing next time oil jumps to $150, by shorting shorting shorting...

Thursday, September 11, 2008

Russia's Resurgence

Russia's actions over the past few months indicate a clear re-awakening of their imperial ambitions.

The pundits, analysts and colleagues with whom I've spoken seem to think that this is much ado about little. Common arguments cite Russia's declining demographics, single-sector economy (energy) and two-decades of lap-dog status. This, however, is a mistake.

Russia is on the rebound as an actor in International Politics. Their defense spending has been increasing by some 30% a year , granted it is still not at 1980's levels, but it could be within another decade. It is true that their economy is largely dependent on energy exporting, but we must remember that their cold-war economy was, for all practical purposes, autarkic. The huge infusion of foreign reserves that they will accumulate selling off their energy resources in the next 20 years will be more than ample for them to fund their large-power ambitions. Lastly, let us not forget that they still sit on the second largest nuclear stockpile in the world.

Russia's power is real and growing. Failing to recognize this obvious reality would be as embarrassing as failing to recognize their decline in the late 1980's. The consequences of this oversight now, however, would be far more dire than then. Rather than a pleasant surprise we would be faced with a strong imperialist nation led by a brilliant, calculating and power-driven leader. Mr. Medvedev of course.

So what should we do? The WRONG choice would be to isolate Russia. Threatening Russia with exclusion from international institutions will only give pretense for further hostility and provide fodder for Putin's portrayal of a West that is "out to get" Russia. This is a fable he has been meticulously weaving for the Russian people over the past 8 years, and one that they now almost whole-heatedly believe. No, trying to treat Russia as the naughty toddler will not work.

At this crossroads a pragmatic, four-pronged approach is necessary. The first is to continue, at pace, with Russia's accession to the WTO and maintain its position in the G8. International institutions only hold leverage over those states who are members. Casting Russia out would deprive the world of legitimate forums for condemning aggressive acts by Russia. If Russia realizes and becomes accustomed to the economic "carrot" of free trade through the WTO they will be less likely to engage in actions that might jeopardize that new-found prosperity.

Secondly, the world must match, move for move, Russia's military buildups. Clearly, arms races are a prisoner's dilemma. However, if Russia has chosen to "defect" from disarmament, we must do the same. Ukraine and Georgia must be brought into NATO as quickly as possible so that multi-national NATO troops can be stationed on their soil. There is no single greater deterrent to Russia's expansionists aims than this. Ukraine and Georgia may not be "perfect democracies", but in games of geo-political chess, these inadequacies can be overlooked. This "stick" is an unfortunate but necessary counterpart to the "carrot" of inclusion.

Thirdly, our European allies must end their dependence on Russian energy resources. Vladimir Putin has been orchestrating Russia's resurgence for 8 years, and it is no accident that as of 2005 Russia accounted for 50% of the EU's gas imports and 30% of its oil imports. This has given Russia a huge strategic advantage over Europe and has drastically limited the range of choices with which Europe, and NATO, can respond to Russian aggression. Make no mistake, even though a large part of Russia's foreign reserves flow from Europe, Europe currently needs Russia far more than Russia needs Europe, especially when there are other markets for their energy.

This leads me to my last point. We must win China. During the cold-war China was the most important secondary player after the US and the USSR. In the coming order, they will be a player on par with the US, the EU and Russia. We must make sure that China's sympathies and markets do not belong to Russia. China has the potential to be the greatest counter-balance to a resurgent Russia, but a Sino-Russian alliance could directly challenge NATO. Fortunately, China has not only made far more important steps towards integration into the International Order than Russia, but has also displayed few imperialistic ambitions. Even Taiwan, to whom China has a far stronger claim than Russia does to say, Georgia, has achieved a relatively stable and peaceful status quo. However, we must not risk alienating China by hindering their desire to become a more actively player in international politics. With increasing power comes increasing voice. China has the former and wants the latter. We should not deny it to them, doing so could potentially lead to a far more dangerous world.

Tuesday, July 29, 2008

The Collapse of Doha, a Fitting Beginning

Hello blog world. I'm a PhD student of the politics and economy of the world. Accordingly, I will write on the same.

My inspiration to begin blogging was piqued today by the collapse of the Doha ministerial talks, and probably the round.

I would dare say that there is a silver lining from the collapse of Doha. Regional arrangements that are much more manageable (negotiating wise) and cover as much, if not more trade volume, than Doha, now have a chance to move forward. The uncertainty over Doha has been a great, although not the only, impediment to ambitious new regional projects - which while not as good as a multilateral regime are still a "stepping stone" in the right direction.

This in an unambitious start to my blog, but I suppose it is fitting as every end is something else's beginning.