Wednesday, May 27, 2015

Tradeoffs of Dollarization

Only a few countries around the world have gone so far as to "dollarize" their economy--that is, using  the US dollar as a predominant legal currency. According to an IMF characterization of exchange rate regimes, the dollarized economies include some small island nations with close historical or economic ties to the US, but also Ecuador, El Salvador, Panama, Timor Leste, and Zimbabwe. However, in a number of other countries the US dollar plays a very substantial role in bank deposits and lending. The IMF has been offering some comments and reports on the tradeoffs of dollarization, often with a strong hint that it might be beneficial to do less of it. For example, Naoyuki Shinohara
Deputy Managing Director of the IMF, made these comments in a February 2015 conference:
[M]any Frontier and Developing Asian economies are also highly dollarized. In some cases, high dollarization can facilitate trade. But there are drawbacks, such as limiting exchange rate flexibility to mitigate against external shocks, and constraining the central bank’s ability to be the lender of last resort. Under such circumstances, consideration could be given to actively promote de-dollarization. But de-dollarization is a long process and requires a commitment to strengthen policies and institutions.
An IMF staff team led by Mauro Mecagni and Rodolfo Maino has published a May 2015 report on "Dollarization in Sub-Saharan Africa: Experience and Lessons." Along with specific information about the extent of dollarization across this region--other than the official dollarization of Zimbabwe--the report does a nice job of reviewing the tradeoffs involved.

What economic factors that often lead to dollarization? The IMF team lists four main causes:

  • Large macroeconomic imbalances and high inflation. Several countries around the world (for example, Chile, Colombia, and Peru) became dollarized following periods of macroeconomic turbulence and high inflation that encouraged the substitution of domestic currency with the U.S. dollar. Dollarization may thus result from a legacy of severe economic disruption.
  • Financial repression and capital controls. Many Latin American economies in the 1970s and 1980s as well as many SSA [sub-Saharan Africa] countries (for example, Democratic Republic of the Congo, Liberia, and Nigeria) have become dollarized following periods of financial repression and the imposition of capital controls.
  • Use of the dollar as anchor for macrostability. Some countries (for example, Ecuador, El Salvador) adopted the dollar as legal tender in order to escape from a long history of monetary and financial disorder by “importing” the credibility of the U.S. monetary institutions.
  • Underdeveloped financial markets. In several countries, domestic borrowers contract debt in foreign currencies in response to the lack of domestic currency alternatives in incomplete financial markets.

Although dollarization arises as a response to economic problems, it brings tradeoffs of its own. A dollarized economy by definition has no control over its own monetary policy--and there is no particular reason to think that decisions made by the US Federal Reserve will suit the economic needs of  other countries. A dollarized economy is also vulnerable to rises and falls in the exchange rate of the US dollar. A particular problem can arise in a partially dollarized economy when the government, or large banks and firms, have borrowed in US dollars, planning to receive funds in the local currency of the country, convert to US dollars in the foreign exchange markets, and repay the US dollar loans. If the exchange rate moves sharply, it can become impossible to repay those US dollar loans (a dynamic that was one of the roots of the East Asian financial crisis in 1998).

The IMF study chooses a threshold in which if the ration of a foreign currency deposits to total deposits is more than 30%, an economy is said to be "dollarized." Here's the picture for sub-Saharan Africa as of 2012, with the extent of dollarization shown as a share of bank deposits and a share of bank loans. Moving clockwise from east to west, an arc of countries including Angola, Congo, Uganda, Tanzania, and Mozambique are relatively heavily dollarized.

The IMF researchers look for past examples of de-dollarization in recent decades, including Israel, Poland, Bolivia, Peru, and Angola. Overall, they sum up the de-dollarization efforts in this way:
Experience also shows that dollarization is often difficult to reverse. While the use of a foreign currency as a store of value or for domestic transactions has increased sharply in several countries over time, there are fewer cases in which this trend has been significantly reversed. Memories of macroeconomic instability and hyperinflation—the key factors that encourage dollarization—do not wither away easily, encouraging economic agents to maintain foreign currency denominated assets even when macroeconomic conditions have stabilized and policy credibility has been established.
As one might expect, the main steps to reduce dollarization focus on controlling inflation and achieving macroeconomic stability, so the main incentives behind dollarization are reduced. Passing laws and regulations to outlaw dollarization doesn't tend to work well; it only emphasizes the desperate problems of the local currency, thus making dollarization look more attractive. But the IMF team points out that when a country has its macroeconomic fundamentals under control, it can also nudge its economy along the de-dollarization trajectory in other ways. For example, it can set financial regulations for local banks that require them to take the foreign exchange risks of lending in US dollars into account--which pushes the bank toward holding more reserves and doing more lending in the local currency.

In a globalized economy, banks and firms in all countries are going to be involved in foreign currency exchanges. There can be a reasonable economic case for similar nearby countries to link their currencies together. But when dollarization becomes highly prominent, it's typically a signal that the government's economic policies are mistrusted or incompetent or both.

Monday, May 25, 2015

The Earned Income Tax Credit

The single largest federal program for providing cash assistance to those with low incomes is the Earned Income Tax Credit, which in 2014 reduced taxes owed by the working poor by about $3.6 billion while transferring to those households an additional $60.8 billion (according to Table 14-1 in the Analytical Perspectives volume of the proposed US budget. This isn't as much as programs with non-cash benefits, like Food Stamps and Medicaid. But it's more than what is spent on welfare, or on the Supplemental Security Income program for the low-income disabled and elderly. In "Earned Income Tax Credit in the United States," which appears in the Journal of Social Security Law (2015, 22:1, pp. 20-30), Elaine Maag provides a useful overview of the program.

For economists, the big selling point of the EITC is that it rewards work. The classic problem that arises when government provides assistance to those with low income levels is that as a person works to earn an extra $100, they often find that the government benefits are then reduced by nearly that same amount or sometimes even more. As a result, many low-income people who work are saving the government some money, but not much increasing their actual after-benefits, after-taxes standard of living. In contrast, the EITC is set up so that the work disincentives are greatly reduced. Maag offers a graph familiar to those who know the program that shows how it operates.

The different lines in the graph represent single-earner families with different numbers of children. Maag explains the situation for a family with one child:
"In 2014, a family with one child was eligible for a subsidy of 34 cents for each dollar earned up to $9,720—a maximum credit of $3,305. A family qualified for the $3,305 credit until its income reached $17,830. At that point, the EITC declined by almost 16 cents for each additional dollar of earnings; the credit phased out completely once earnings reach $38,511 (figure 1). Larger credits are shown for families with more than one child, as well as the small credit available to a family with no custodial children."
Thus, a low-income person with one child who starts working gets a bonus of 34 cents on the dollar up to a certain level of earnings--which helps to offset their declining eligibility for other government benefits. For this family, the credit does phase out above $17,830 in income, so each $1 earned above this amount means that the amount of the credit falls by about 16 cents. This represents a lower incentive to work--but losing only 16 cents in benefits for every $1 earned is a lot better than losing, say $1 in benefits for every dollar earned. And any means-tested program has to be phased out in some way as income levels rise. Along with the federal EITC, 23 states have also added their own versions of the EITC to their state-level income tax codes.

Maag reviews the empirical evidence that the EITC does seem to encourage greater levels of work participation in the phase-in range, although it doesn't seem to have much effect on average hours worked and doesn't do much to discourage work hours in the phase-out range. She writes (footnotes omitted): "The official measure of poverty in the US does not include changes in resources due to taxes. If it did, scholars have determined that the EITC wouldhave been credited with lifting 6.5 million people out of poverty in 2012, including about 3.3 million children. Changes in income as a result of the EITC are associated with better health, more schooling and higher earnings in adulthood."

Overall, I think one can make a plausible case for a dramatic increase in the amount spent on the EITC. But honesty compels me to point out that the EITC has two well-known shortcomings and problems that need to be mentioned.

  • The program is heavily focused on families with children. Thus, it doesn't help the situation of a childless person who is below the poverty line and working for near minimum-wage. EITC benefits are also lower for married couples. Any government program where the benefits are  higher for those who are unmarried with children deserves a closer look to see if the incentives can be structured differently. 
  • The EITC adds a lot of complexity to the tax forms of the working poor, who are often not well-positioned to cope with that complexity, nor to hire someone else to cope with it. About 20% of EITC payments go to those who don't actually qualify, which seems to happen because low-income people hand over their tax forms to paid tax preparers who try to get them signed up. Of course, there's another group, not well-measured as far as I know, of working-poor households who would be eligible for the EITC but don't know how to sign up for it. 

These issues don't have neat and tidy answers, but they do have messy and practical answers.

Friday, May 22, 2015

Quandaries of Global Trade in Secondhand Clothing

Even good intentions can have unexpectedly mixed results. Used clothing that is donated to charity in high-income countries often ends up being passed along to low-income countries. In turn, the textile and clothing industries in those countries often can't compete with these imports, and end up contracting. Andrew Brooks tells the story in his new book Clothing Poverty: The Hidden World of Fast Fashion and Second-hand Clothes. For those who would like a shorter version, Brooks has authors a couple of short and readable overview articles on March 20, 2015, in Geographical, and on February 13, 2015, in the Guardian.

Basic statistics on exports of used clothing are available from US and UN sources. The US Department of Commerce website reports that in 2014, US exports of "Worn clothing and other worn articles," item 6309.00, totaled 774 million kilograms in 2014, with a value of $710 million. The United Nations Comtrade data on "Worn clothing and other worn textile articles; rags 269" shows that worldwide exports in this area rose from $1.5 billion 2000 to $5.1 billion by 2013. As one would expect, a certain amount of this used clothing is moving between nearby high-income countries: say between the US and Canada, or between European Union countries. But a sizeable share also makes its way from high-income to low-income countries. Here are the UN numbers of main importers and exporters in the "worn clothing" category.

The main source of contention arises when clothing from high-income countries like the US and the UK ends up in low-income countries. A substantial amount of this used clothing ends up in the hands of companies like the Trans-Americas Trading Co., which buys clothing from charities and reports on its website: "Approximately eight out of ten pounds of clothing collected by large charitable institutions are sold to recyclers in order to generate revenue for their charitable programs." Here are a couple of images from the Brooks posting on Geographical.  The first shows what happens to some of the used clothes when given away in the US and the UK.

Brooks reports that about one-third of all globally donated clothes end up in Africa, where most of them are not donated, but instead are re-sold. The next image shows some of the effects of this used clothing in various nations of sub-Saharan Africa.

In a number of African countries, the presence of used clothing has become so prominent in the markets that it has a local slang name. Here are a few examples, as reported by Brooks:
  • Nigeria: "okirika" (bend down boutique)...
  • "Ghana: "obroni wawu" (clothes of the dead white man)" 
  • Zambia: "salaula" (selecting from a bale by rummaging)
  • Congo: "sola" (to choose)
  • Zimbabwe: "mupedzanhamo" (where all problems end)
  • Kenya & Tanzania: "mitumba" (bundles) or "kafa ulaya" (clothes of the dead whites)

There are some legitimate quandaries here. On one side, many of the charities in high-income countries that ask for donated clothing, and then end up selling that clothing to dealers like Trans-Americas Trading Co., are doing good things with the money they raise. Clothing that is passed along to others doesn't end up in a landfill someplace. It's quite plausible that those who wear end up wearing the donated clothing didn't have more cost-effective options. On the other side, there is some severe irony in this global trade in secondhand clothing.

One irony is that there was a history of high-income countries using trade barriers to limit imported clothing from low-income countries under the Multi-Fiber Agreement, which lasted from 1974-1994 and then was phased out over the following decade. The agreement was especially controversial among economists because textiles had been one of the early steps into manufacturing for high-income countries in the 19th century, and for a number of Asian economies in the mid-20th century. Having argued that it was important for high-income countries to protect their own textile markets, it is ironic to now face the reality that second-hand clothes from high-income countries are injuring textile production in low-income countries. Thus, one can have some sympathy with countries that essentially ban imports of worn clothing, including Argentina, the Dominican Republic, Namibia, and South Africa.

On the other side, the textile industry like so many others is dramatically shifting toward greater mechanization and use of industrial robots, even in low-income countries. Thus, it's not altogether clear that textiles offer the same path to a substantial number of jobs or a growing manufacturing sector that it once did. And it seems unlikely that textiles are going to be one of the hot new growth industries of the future. For low-income countries, looking for opportunities in other industries may well be the wiser long-term choice.

Thursday, May 21, 2015

E-cigs: The Bootlegger/Baptist Opposition

It might seem that the debate over e-cigarettes and "vaping" should be a fundamentally empirical question. Does vaping primarily reduce cigarette smoking? If so, then it should be viewed as an overall benefit to public health and, at a minimum, not discouraged. Or does vaping serve as a gateway that leads to increased cigarette smoking? If so, then it should be discouraged in many of the same ways as cigarette smoking: public health advisories, taxes, no-vaping in public spaces, and the like.

But interpreting the evidence isn't simple. For example, the Centers for Disease Prevention and Control (CDC) put out a report on April 17, 2015, titled "Tobacco Use Among Middle and High School Students — United States, 2011–2014." The first paragraph offers this statement: "In 2014, e-cigarettes were the most commonly used tobacco product among middle (3.9%) and high (13.4%) school students. Between 2011 and 2014, statistically significant increases were observed among these students for current use of both e-cigarettes and hookahs (p<0.05), while decreases were observed for current use of more traditional products, such as cigarettes and cigars, resulting in no change in overall tobacco use." Some people see this shift from regular cigarettes to e-cigarettes as good news, because the health effects of e-cigarettes are lower (that is, they have nicotine, but none of the other by-products of smoking that are typically linked to cancer). Some see the rise in e-cigarettes as a threat to be stopped.

As the government regulators figure out what to do, it's important to remember that there is an industry lobbying powerhouse with a large incentive to restrict e-cigarettes: the big tobacco companies.  Jonathan H. Adler, Roger E. Meiners, Andrew P. Morriss, and Bruce Yandle make this argument in "Bootleggers, Baptists, and E-cigs," which appears in the Spring 2015 issue of Regulation magazine.

A bootleggers-and-Baptists coalition refers to legal restrictions that arise from a combination of those who don't want the activity to occur and those who want to use the regulations to cripple potential competition. In the canonical example, both bootleggers and Baptists favored laws prohibiting legal alcohol sales--but for different reasons. Other common examples include when industry partners with environmentalists to support tough environmental regulations, which industry favors because it will cripple any new competition.  In another example, existing examples of legal gambling--like state lotteries--often partnered with anti-gambling forces to oppose expanded gambling opportunities from Native American casinoes. Bruce Yandle and Adam Smith have a recent book out on the subject: Bootleggers and Baptists: How Economic Forces and Moral Persuasion Interact to Shape Regulatory PoliticsHere's an interview with Yandle from a few years back.

In the case of e-cigarettes, the Adler, Meiners, Morriss, and Yandle  essay points out that  few years back, the four big tobacco companies (Philip Morris Inc., R. J. Reynolds, Brown & Williamson and Lorillard) signed an agreement in which they would pay $206 billion over time to 46 states, and in exchange, the states would not sue them for how smoking increased the health care spending costs of those states. Many anti-smoking groups broadly favored the settlement, because worked like a tax on cigarettes to push tobacco companies to raise their prices to consumers and thus discourage smoking.

But the big tobacco companies were concerned that new entrants to the industry might be able to undercut them on price, because new entrants would not have to make these payments to the states. As the Adler et al. group explains: "Therefore the MSA [Master Settlement Agreement] provided that for every percent of market share over 2 percent lost by a participating cigarette manufacturer, the manufacturer would be allowed to reduce its payments to the states by 3 percent, unless each participating state enacted a statute to prevent price competition from non-participating manufacturers (which each state did). The statutes require nonparticipating cigarette producers to make payments equal to or greater than what they would owe had they been participants in the agreement, to eliminate any cost advantage."

In short, the political process over how e-cigarettes should be regulated is not a pure public health argument. E-cigs represent a competitive threat to the tobacco industry, which will lobby to have have them regulated at least as harshly as conventional cigarettes, although the health issue posed by e-cigs (which, by the way, can contain little or no nicotine if the vaper desires) is clearly much lower. States will be worried that this new competition from vaping might in some way affect their revenues they are expecting from the tobacco companies. A certain group of anti-smoking neo-prohibitionists has pretty much already decided to view vaping as an insidious precursor to conventional cigarettes.

As I have pointed out, the anti-smoking efforts that began with the US Surgeon General's report back in 1964 have saved millions of lives, but even though smoking rates have diminished, tobacco use is still linked to 400,000 premature deaths and another $300 billion in economic costs due to health care costs and lost productivity each year. Perhaps e-cigs can help to reduce these costs. The evidence on how e-cigarettes interact with use of conventional cigarettes is still accumulating, but before we run with the assumption that e-cigs are part of the same problem, it's worth some critical scrutiny on the bootlegger-and-Baptist coalition that is pushing for this result.

Wednesday, May 20, 2015

John Stuart Mill's Birthday: Thoughts on Conformity and Individualism

John Stuart Mill was born 209 years ago on May 20, 1806, and has a claim to being the greatest economist of his time. His Principles of Political Economy, first published in 1848, served as the leading overview of the subject of economics four four decades, until Alfred Marshall published his Principles of Economics in 1890. Mill's 1848 book is wonderfully systematic and detailed, and has its share of original insights for its time. Some of my own favorites include the idea that it is possible to separate for analytical purposes the issues of production and distribution;  the systematic treatment of supply and demand in setting prices; the discussion of the function of money; and the arguments about the economy evolving toward a stationary state.  However, I think Mill may rank higher as a political philosopher than as an economist.  

As a birthday present, here's a passage from Mill's 1859 classic On Liberty. In "Chapter III: Of Individuality, as One of the Elements of Well-Being," Mill argues that while there was once a time when society needed to control the individuality of people, we have now entered a time when people instead have an urge for conformity. Mill wrote about the practices of most people:
"I do not mean that they choose what is customary, in preference to what suits their own inclination. It does not occur to them to have any inclination, except for what is customary. Thus the mind itself is bowed to the yoke: even in what people do for pleasure, conformity is the first thing thought of; they like in crowds; they exercise choice only among things commonly done: peculiarity of taste, eccentricity of conduct, are shunned equally with crimes: until by dint of not following their own nature, they have no nature to follow: their human capacities are withered and starved: they become incapable of any strong wishes or native pleasures, and are generally without either opinions or feelings of home growth, or properly their own. ..."
Even worse than bowing to such conformity, Mill argues, people then demand that others conform as well. We first conform to the crowd, and then pressure others to conform as well, instead of leaving each person to steer their own way. In one of my favorite lines in the Mill corpus, he writes:
"If a person possesses any tolerable amount of common sense and experience, his own mode of laying out his existence is the best, not because it is the best in itself, but because it is his own mode."
My own sense is that most people, definitely including myself, find it easy to think about what would be "best" for other people, and to undervalue what other people choose for themselves. Or to put it another way, all the choices I agree with are (of course) distinctively individual, while all the choices I disagree with are (of course) people who could do better if they didn't keep giving in to the forces of conformity and custom within their group. Here's the longer version of the paragraphs containing these passages:
"There has been a time when the element of spontaneity and individuality was in excess, and the social principle had a hard struggle with it. The difficulty then was, to induce men of strong bodies or minds to pay obedience to any rules which required them to control their impulses. To overcome this difficulty, law and discipline, like the Popes struggling against the Emperors, asserted a power over the whole man, claiming to control all his life in order to control his character—which society had not found any other sufficient means of binding. But society has now fairly got the better of individuality; and the danger which threatens human nature is not the excess, but the deficiency, of personal impulses and preferences. Things are vastly changed, since the passions of those who were strong by station or by personal endowment were in a state of habitual rebellion against laws and ordinances, and required to be rigorously chained up to enable the persons within their reach to enjoy any particle of security. In our times, from the highest class of society down to the lowest, every one lives as under the eye of a hostile and dreaded censorship. Not only in what concerns others, but in what concerns only themselves, the individual or the family do not ask themselves—what do I prefer? or, what would suit my character and disposition? or, what would allow the best and highest in me to have fair play, and enable it to grow and thrive? They ask themselves, what is suitable to my position? what is usually done by persons of my station and pecuniary circumstances? or (worse still) what is usually done by persons of a station and circumstances superior to mine? I do not mean that they choose what is customary, in preference to what suits their own inclination. It does not occur to them to have any inclination, except for what is customary. Thus the mind itself is bowed to the yoke: even in what people do for pleasure, conformity is the first thing thought of; they like in crowds; they exercise choice only among things commonly done: peculiarity of taste, eccentricity of conduct, are shunned equally with crimes: until by dint of not following their own nature, they have no nature to follow: their human capacities are withered and starved: they become incapable of any strong wishes or native pleasures, and are generally without either opinions or feelings of home growth, or properly their own. ...

There is no reason that all human existence should be constructed on some one or some small number of patterns. If a person possesses any tolerable amount of common sense and experience, his own mode of laying out his existence is the best, not because it is the best in itself, but because it is his own mode. Human beings are not like sheep; and even sheep are not undistinguishably alike. A man cannot get a coat or a pair of boots to fit him, unless they are either made to his measure, or he has a whole warehouseful to choose from: and is it easier to fit him with a life than with a coat, or are human beings more like one another in their whole physical and spiritual conformation than in the shape of their feet? If it were only that people have diversities of taste, that is reason enough for not attempting to shape them all after one model. But different persons also require different conditions for their spiritual development; and can no more exist healthily in the same moral, than all the variety of plants can in the same physical, atmosphere and climate. The same things which are helps to one person towards the cultivation of his higher nature, are hindrances to another. The same mode of life is a healthy excitement to one, keeping all his faculties of action and enjoyment in their best order, while to another it is a distracting burthen, which suspends or crushes all internal life. Such are the differences among human beings in their sources of pleasure, their susceptibilities of pain, and the operation on them of different physical and moral agencies, that unless there is a corresponding diversity in their modes of life, they neither obtain their fair share of happiness, nor grow up to the mental, moral, and aesthetic stature of which their nature is capable. Why then should tolerance, as far as the public sentiment is concerned, extend only to tastes and modes of life which extort acquiescence by the multitude of their adherents? Nowhere (except in some monastic institutions) is diversity of taste entirely unrecognised; a person may, without blame, either like or dislike rowing, or smoking, or music, or athletic exercises, or chess, or cards, or study, because both those who like each of these things, and those who dislike them, are too numerous to be put down. But the man, and still more the woman, who can be accused either of doing "what nobody does," or of not doing "what everybody does," is the subject of as much depreciatory remark as if he or she had committed some grave moral delinquency. ...
If the claims of Individuality are ever to be asserted, the time is now, while much is still wanting to complete the enforced assimilation. It is only in the earlier stages that any stand can be successfully made against the encroachment. The demand that all other people shall resemble ourselves, grows by what it feeds on.
Perhaps the good news here is that Mill's comments still read as timely today, which suggests that perhaps this balance between conformity and individualism is not decided once and for all, but is an ongoing challenge for each of us to accept, both in having the willingness and energy to make our own choices, and in the level of tolerance and acceptance we offer as a society to those who (peacefully) choose not to conform with our own decisions.

Tuesday, May 19, 2015

Improving the Health of US Children

"A large volume of high-quality research shows that unhealthy children grow up to be unhealthy adults, that poor health and low income go hand in hand, and that the consequences of both poverty and poor health make large demands on public coffers. Thus promoting children’s health is essential for improving the population’s health; policies to prevent children’s health problems can be wise investments; and policy makers should implement carefully designed policies and programs to promote child health." Thus say Janet Currie and Nancy Reichman in their introductory essay to the Spring 2015 issue of Future of Childen, which features eight other articles on the theme of "Policies to Promote Child Health."

Sara Rosenbaum and Robert Blum lead off with an essay, "How Healthy Are Our Children?" Here's a thought-provoking table of the main causes of child mortality in the US a century ago, as compared with today. The entries of the table for a century ago help to define some past successes, while the entries for the present point to current challenges.

An overall shift seems clear. Infectious diseases are down. Injuries, homicide and suicide have taken their place near the top of the list. These conditions help to make clear that the modern health problems of American children are mostly about broader conditions of health and safety, which in turn are often correlated with family income and measures of socioeconomic status. The chapter in the Future of Children issue summarize the evidence that does exist about factors that are correlated with child health. Here's a sampling from Rosenbaum and Blum write (footnotes omitted):
Specifically, we have come to understand that many disease conditions—and especially noncommunicable conditions— result from interactions between individuals and their environments. ...  In the Adverse Childhood Experiences Study (ACES), researchers showed an association between child abuse and being reared in dysfunctional households, on the one hand, and later adult health, on the other. Since then, research has documented strong associations between adverse childhood experiences and adult cancers, sexually transmitted infections, ischemic heart disease, and hepatitis. In fact, children who have adverse childhood experiences show a risk of subsequent disease approximately two to four times as high as children who did not have such experiences. Researchers define adverse childhood experiences to include psychological/ physical/ sexual abuse, exposure to substance abuse, mental illness, exposure to maternal violence, and exposure to parental criminal behavior. In their research sample, drawn from a large HMO in Southern California, ACES researchers found that one in four adults reported two or more such experiences, while 11 percent of those 50 years of age or older reported four or more. For adults of any income level, early adverse childhood experiences have profound effects. Poverty not only increases the risk of having such experiences, but also reduces the availability of protective factors (for example, nurturing adults) that can buffer the impact of exposure. Exposure to social toxins in childhood alters the developing brain and can have adult consequences. Today we understand that brain development extends well into the third decade. Exposure to toxic environments — what researchers call toxic stress— alters brain architecture in developing children by chronically increasing cortisol, a stress hormone; this, in turn, reduces brain development, producing a less complex brain scaffolding. The result is reduced capacity for reasoning, stress reactivity, decision making, and learning. ...

Today, the primary health problems that children and youth face are noncommunicable conditions that not only adversely affect health and development but also act as precursors of noncommunicable disease in adults. These conditions arise from both lifestyle behaviors and the social environments in which our most vulnerable children live. ... The neighborhood in which a child is born and grows up can have an important impact on the risk of illness or death, as well as life expectancy. Neighborhoods are highly correlated with both family income and a host of environmental exposures (for example, violence, unsanitary conditions, environmental and social toxins). One important factor is residential segregation, which continues to be pervasive in American life. ...

Elsewhere in this issue, Maya Rossin-Slater demonstrates substantial disparities in birth outcomes by maternal education, which is a commonly used measure of socioeconomic status. Using data from the 2012 National Health Interview Survey (NHIS) to look at marker childhood health conditions associated with lower income and adverse community health conditions, we can also see an association between the incidence of poorer health and populations at heightened risk of poverty and deprivation, including members of racial and ethnic minorities—particularly non-Hispanic blacks. ... There was a strong and positive correlation between parental income and children’s positive assessment of their health; while nearly 90 percent of children at the highest income levels reported excellent health, only 46 percent of those living in poverty did so. ... Two researchers recently presented nationally representative statistics from the National Health and Nutrition Examination Survey that connect indicators of poor child health to household income. Obesity, hypertension, diabetes, low high-density lipoprotein cholesterol (HDL, known as “good cholesterol”), and high cholesterol ratio were measured through physical examinations and/or laboratory reports. Their figures indicate clear income gradients in children’s health across all measures other than diabetes. ...
Of course, access to health insurance remains important. Several recent research studies have used administrative evidence on access to Medicaid over time to see if children from low-income families who had access to Medicaid are different in adulthood from children who didn't have access to Medicaid. For example there was a large expansion in Medicaid coverage that applied only to children born after September 30, 1983. Thus, one can reasonably compare children from low-income families born just before this cutoff date to those born just after, and it turn out that the children from low-income families who had more access to Medicaid turn out to have fewer emergency-room visit and lower hospitalizations rates as adults. Another study looked compared children from low-income families who lived in certain states and certain time periods where the eligibility rules made them less likely to get Medicaid coverage to similar children from low-income families who lived in states and during time periods where Medicaid coverage was more like. (Medicaid rules and eligibility vary in meaningful ways across states and over time.) They found that tax payments are higher in the future for those who had Medicaid coverage, and conclude that "the [federal] government will recoup 56 cents of each dollar spent on childhood Medicaid by the time these children reach age 60."

Overall, the state of this debate seems to be that there are lots of studies showing factors that are correlated with greater risks to childhood health, and there are a growing number of studies showing the long-term benefits from taking steps to reduce these risk factors. But these studies haven't really been pulled together to form a cohesive whole, or to have a sense of what the top public priorities should be.  Currie and Reichman write in their introduction: "We suspect that, for many dimensions of child health, an ounce of prevention would be worth a pound of cure, but it’s difficult to prove this without hard evidence on the costs and benefits of different approaches."

Monday, May 18, 2015

Bitcoin: A Remarkable Innovation and Its Limitations

My own sense is that popular interest in Bitcoin peaked about 12-18 months ago. Perhaps that interest will return. But for now, my sense is that Bitcoin represents a remarkable--indeed, a breakthrough--innovation which nonetheless is beginning to show its limitations. Rainer Böhme, Nicolas Christin, Benjamin Edelman, and Tyler Moore provide an overview of "Bitcoin: Economics, Technology, and Governance" in the Spring 2015 issue of the Journal of Economic Perspectives (29:2, pp. 213-38). (Full disclosure: My actual job, as opposed to my blogging hobby, has been to work as Managing Editor of the JEP since the first issue in 1987.) The conclusions in this post are my own, but many of the facts will draw on the Böhme, Christin, Edelman, and Moore essay.

Broadly speaking, money operates on a bookkeeping system: that is, private parties can't just claim to have money, but instead must have it transferred from another account into your own account. With traditional money, these accounts can be verified by banks, financial institutions, and regulators, and the central bank reserves to itself the power to create money. 

The remarkable innovation of Bitcoin is that it has created a currency that is automated and private, with no need for a central bank or regulatory system. A total of about 14 million Bitcoins have been created, with a US dollar value of about $3.5 billion. They have been used in about 62 million transactions. Anyone who signs up a Bitcoin account is given a "public" number, which is your account number to the system as a whole, and also a "private" number, which is your personal passcode for accessing the system. 

The heart of Bitcoin is the "blockchain," which is a complete listing of every Bitcoin ever issued and all the transactions that have happened with each. Everyone with a Bitcoin account can look at the blockchain if they wish--but it's such an enormous file (and getting larger with each transaction) that most people could not download it to their personal computer even if they wanted to. So most people using Bitcoin hire a "wallet" company which holds your copy of the blockchain, and through which you can operate your account. Some wallet companies know your "private" number; some don't. 

With traditional money, a transaction is verified by financial institutions operating in a regulatory framework. For Bitcoin, a transaction is verified when the blockchain is updated. But this is where the process gets a little messy and very creative. Someone needs to be paid for updating the blockchain, and of course, they can be paid in Bitcoins for doing so. To ensure trustworthiness, we actually want to have multiple actors all updating the blockchain at the same time, so that they can serve as a check on each other. And we need those actors updating the blockchain to pay some cost, because if there was no cost to participate, random players could claim to have received Bitcoins from others. 

Every 10 minutes or so, the recent Bitcoin transactions are grouped into a "block." The Bitcoin automated system generates a mathematical puzzle based on the preexisting contents of the blockchain. The puzzle is not fundamentally hard to solve, but it includes a random component and takes a lot of computing power. In other words, those with faster computers will have a better chance of solving the puzzle, but because of the randomness, speed doesn't always win. The first to solve the puzzle posts a new blockchain, along with a proof-of-work that the puzzle was solved. Those who solve puzzles are called "miners," and again, they are rewarded with Bitcoin in a way that expands the quantity of currency at a smooth pace over time. Böhme, Christin, Edelman, and Moore estimate that in solving the Bitcoin puzzles, Bitcoin miners use about 173 megawatts of electricity at any given time, which is about 20% of the output of a nuclear power plant. 

But remember that many miners are working simultaneously on blockchain puzzles. It may happen that as later miners complete their work, they confirm the blockchain addition made by the first miner. In other cases, later miners will provide a different form of the blockchain. In effect, the miners "vote" for the correct form of the blockchain, and the number of "votes" is determined by the quantity of computing power needed to solve the puzzles. A Bitcoin transaction is not truly final until it has been definitively added to the blockchain, which means that it needs to be confirmed by the process of multiple miners solving puzzles, which in practice can often take about a hour. The authors write: 
But voting on the authenticity of a transaction requires first working to solve a mathematical puzzle that is computationally hard to solve (although easy to verify). Solving the puzzle provides “proof of work”; in lieu of “one person, one vote,” Bitcoin thus implements the principle of “one computational cycle, one vote.” Through this design, the proof-of-work mechanism simultaneously discourages creating numerous fake identities and also provides incentives to participate in verifying the block chain.
It is worth emphasizing the remarkable accomplishment of the Bitcoin system. It functions! However, as this brief description has hinted in various places, Bitcoin has limitations that have begun to emerge. Here are some of the main ones. 

1) Bitcoin isn't anonymous: it's pseudonymous. For example, say that you use a Bitcoin account to mail-order something for delivery to your home. Now there is a connection between your Bitcoin account and your address, and any other transactions through your account can be traced to you. There are Bitcoin-based companies called "mixers" that try to make transactions more anonymous. They take a batch of Bitcoin transactions and scramble up who is receiving what from whom. But it turns out that their scrambling can often be unscrambled, if law enforcement wants to commit the resources to doing it. 

2) The dollar-Bitcoin exchange rate can move abruptly, which makes Bitcoin less suitable as a transaction currency. The price of Bitcoin spiked enormously in late 1013, going from about $200 per Bitcoin to almost $1,200 per Bitcoin, before then falling back. A currency that fluctuates this wildly ends up looking less like a mechanism for buying and selling, and more like a financial investment with risky characteristics. Indeed, a study a couple of years ago found that more than half of existing Bitcoins either took more than a year to be spent or had not been spent.

3) It's not clear how the Bitcoin technology would function for widespread everyday uses. As noted above, finalizing a Bitcoin transaction--as miners solve mathematical puzzles and work toward a definitive update of the blockchain-- takes about a hour to be finalized. If Bitcoin had to deal with even a modest fraction of the number of transactions commonly handled by, say, Visa or American Express, the system would be overwhelmed by the number of transactions and unable to function. 

4) Bitcoin itself operates remarkably well, but most people use Bitcoin through a number of platforms that are vulnerable to fraud and cyberattack. For example, there are currency exchange platforms that switch Bitcoin to conventional currencies. There are "digital wallet services" that host your Bitcoin account and your personal copy of the blockchain, and that many people use for making Bitcoin transactions. There are the "mixers" I mentioned above, which take a batch of Bitcoin transactions and scramble them together, to increase the anonymity of the transactions. These platforms are vulnerable to cyberattack and fraud, and when you pay these platforms, you are revealing that you are linked to the Bitcoin currency, thus compromising your anonymity to some degree. 

In short, dealing with Bitcoin is full of risks and costs. It may be worthwhile for some large purchases under particular circumstances, but at least as Bitcoin is currently constituted, it seems unlikely to become a truly large-scale force in modern finance. So what's next? 

One vision is that other forms of virtual money will follow where Bitcoin has already broken the trail and this is already happening in various ways. I'm sure that some of these will have niche success, but I would be surprised if they have more. As virtual currencies become larger, governments will insist on increased disclosure and degrees of regulation. As governments requirements rise, the advantages of virtual currencies will diminish. 

Another vision is that the main use of Bitcoin-like technology may not be in the area of money, but in transferring other pieces of digital property. The JEP authors quote an earlier article by Mark Andreeson, a coauthor of the Mosaic browser: 
Bitcoin gives us, for the first time, a way for one Internet user to transfer a unique piece of digital property to another Internet user, such that the transfer is guaranteed to be safe and secure, everyone knows that the transfer has taken place, and nobody can challenge the legitimacy of the transfer. . . . All these are exchanged through a distributed network of trust that does not require or rely upon a central intermediary like a bank or broker. What kinds of digital property might be transferred in this way? Think about digital signatures, digital contracts, digital keys (to physical locks, or to online lockers), digital ownership of physical assets such as cars and houses, digital stocks and bonds . . . and digital money.
Those who would like some additional reading about the economics of Bitcoin might begin with the discussion and articles cited in my post "How Does Bitcoin Work?" (September 24, 2014).