In a recently published book, Scroogenomics, Joel Waldfogel, Professor of Business and Public Policy at the University of Pennsylvania, examines the economics of giving presents and considers whether we would be better off being Scrooges. This book brings to a general audience some of Professor Waldfogel’s work on giving. In a 1993 paper, he argued that holiday gift-giving involves a deadweight welfare loss. “I find that holiday gift-giving destroys between 10 per cent and a third of the value of gifts.” (See The Deadweight Welfare Loss of Christmas. Note: you should be able to access this from a UK university site if you are logged on.)
The core of his argument is that many gifts we give are not really what the person receiving it would have chosen. If you give someone a gift costing £10 for which the person would not have paid more than £6, then that is £4 wasted – a deadweight loss of £4.
So should we all be Scrooges and stop giving? Think of all money that would be saved and which could be spent on things that were more wanted. But wait a minute. What about the pleasure (i.e. utility) of giving? And what about the pure pleasure of receiving a gift, irrespective of the gift itself? Should these be added in to arrive at the total utility? Then there is the pleasure (or hassle) of shopping for the gift. Shouldn’t this be taken into account too? In other words, to establish deadweight loss, we need to take into account all the pleasures and displeasures of the process of giving and receiving.
Finally there is the question of whether better research on the part of the giver into the tastes of the receiver would enable them to choose more wanted gifts. Or should we simply give cash or gift tokens: at least these can be used by the recipient for whatever they choose?
Interview with Joel Waldfogel Princeton University Press, on YouTube
See also the following articles:
It’s not just Scrooge who wants Christmas abolished Financial Times, Tim Harford (20/11/09)
Stop blaming Grandma for cruddy Christmas presents Seattle Times, Joel Waldfogel (20/11/09)
It may not be the thought that counts Washington Post (22/11/09)
Economics of gift vouchers BBC News Magazine, Ruth Alexander (17/12/07)
The high cost of ugly, useless Christmas gifts Globe and Mail (Canada), Erin Anderssen (13/11/09)
Author’s argument that unappreciated gifts drag down economy isn’t Scroogish, it’s foolish Mlive.com, Nancy Crawley (8/11/09)
Give gold, not myrrh The Economist (21/12/09)
Questions
- What factors would need to be taken into account in attempting to measure the true deadweight loss of giving? Would this involve inter-personal comparisons of utility and, if so, what problems might arise from this?
- Examine whether it is better to give cash or gift tokens rather than a physical gift?
- Consider whether charitable donations would be the best form of gift to a friend or relative?
- One practice used in many families is the ‘secret Santa’. This is where everyone in the family secretly draws the name of another family member at random. They then buy a gift for this person and put the gift under the tree (or in a box). Thus each person gives just one gift and receives one gift and nobody knows who has given them their gift. Normally a maximum value of the gift is determined in advance. Consider the advantages and disadvantages of such as system. Is it a more efficient way of giving?
- What are the macroeconomic arguments for giving presents at Christmas time or at other festivals?
The National Institute for Health and Clinical Excellence (NICE) is the independent agency in the UK charged, amongst other things, with assessing the cost-effectiveness of new drugs. In a report published on 19 November 2009, NICE found that the drug sorafenib, branded as Nexavar by its manufacturer, the German pharmaceutical company, Bayer AG, was not cost-effective. The drug can extend the life of terminally ill patients with liver cancer. However, it is very expensive, costing about £3000 per month per patient.
The NICE press release (see link below) quotes Andrew Dillon, the Chief Executive of NICE, as saying: “We were disappointed not to have been able to recommend the use of sorafenib, but after carefully considering all the evidence, including the proposed ‘patient access scheme’ in which the manufacturer offered to provide every fourth pack free, sorafenib does not provide enough benefit to patients to justify its high cost.”
Not surprisingly people suffering from liver cancer, and also various patient groups, were highly critical of the decision. But with a limited budget for the National Health Service and the increasing pressure to save costs in order to reduce the public-sector debt, many difficult choices like this have to be made.
What NICE attempts to do is a cost–benefit analysis of new drugs. Whilst costs can be difficult to measure, especially over the longer term, the benefits are much more problematic as they have to take into account the effects on the quality of people’s lives – something that will vary enormously from one patient to another. And then there are the effects on family and friends and on the economy. The measure used in the NHS and elswhere is the QALY – ‘quality-adjusted life year’. In paragraph 4.8 of the full NICE report (see link below), it was noted that
“the base-case ICER [incremental cost-effectiveness ratio] presented by the manufacturer was originally £64,800 per QALY gained and when the patient access scheme was included [where every fourth pack is supplied free to the NHS by Bayer] this went down to £51,900 per QALY gained. Both ICERs were substantially higher than those normally considered to be an acceptable use of NHS resources.”
2009/069 NICE appraisal of sorafenib for advanced hepatocellular carcinoma NICE press release (19/11/09)
Final appraisal determination Sorafenib for the treatment of advanced hepatocellular carcinoma (Full document) NICE (19/11/09)
NHS denies drug to cancer patients (video) ITN (on YouTube) (18/11/09)
Liver cancer drug ‘too expensive’ (including videos) BBC News (19/11/09)
UK’s NICE says Bayer liver cancer drug too costly Reuters (18/11/09)
Nice’s decision not to approve the liver cancer drug Nexavar is painful but necessary and Drug for terminal liver cancer patients ‘too expensive’Telegraph, Rebecca Smith (19/11/09)
NHS says it’s too expensive to keep you alive Telegraph, Janet Daley (19/11/09)
Bayer’s patent case hearing in HC today Tines of India (18/11/09)
Questions
- What makes the choice of whether to provide a particular drug to a pateint an ‘economic’ one?
- Imagine you were a person suffering from liver cancer. What evidence would you wish to bring to the government to persuade it to ignore NICE’s recommendation?
- Is the use of QALYs the best means of assessing the benefits of a drug? Explain.
- What are the arguments for and againist the NHS providing expensive drugs free to people on low incomes but charging a price well above the current prescription fee to those who could afford to pay? If such as scheme were introduced, on what basis should such a price be determined and should it be on a sliding scale according to people’s income and/or wealth?
In the second of the linked articles below, Andy Atkins, from Friends of the Earth, argues that the European Emissions Trading Scheme (ETS) has failed to make any substantial cuts is emissions and is creating the opportunity for carbon traders to become very rich in increasingly complex financial products based on carbon. “This risks the development of sub-prime carbon and financial crisis – with a double whammy this time of environmental catastrophe to match.” He thus argues for alternative methods of reducing carbon, such as green taxes, tough regulation and government investment in green technology
But is the ETS a failure? In the third article, Alexandra Galin, from the Carbon Markets & Investors Association, argues that the second phase of ETS (2008–12) is much more successful than the first (2005–7) and that substantial carbon reductions have been achieved. Her argument is that a carbon trading scheme’s success in cutting carbon emissions does not depend on the trading system, but on the tightness of the cap. In other words, in a ‘cap-and-trade’ system, it is the cap that reduces emissions; the trading simply achieves the reductions in the most efficient way.
Friends of the Earth attacks carbon trading (including video) Guardian, Ashley Seager (5/11/09)
Don’t let the reckless City trade carbon Guardian, Andy Atkins (5/11/09)
The European emissions trading scheme is now a success Guardian, Alexandra Galin (17/11/09)
Storm could follow calm in EU carbon market Reuters, Nina Chestney (11/11/09)
Carbon market clouded by uncertainty BBC News, Damian Kahya (11/11/09)
See also: Gathering momentum on tackling climate change? (May 2009 blog)
Details of the European Emissions Trading Scheme can be found at:
Emission Trading System (EU ETS) European Commission, Environment DG
Questions
- Explain how the European Emissions Trading Scheme works.
- What are the advantages and disadvantages of the ETS as a means of reducing carbon emissions?
- Compare theses advantages and disadvantages with those of green taxes.
- How does the market price of carbon traded within the scheme reflect the toughness of the policy? What else might the price reflect?
- What is likely to happen to the carbon price in the coming months? Explain.
A major failing of free markets is the principal–agent problem. This is where one party to a transaction (normally the principal) has poorer information than the other (normally the agent). A good example of this is rogue traders from the building trade – “builders who overcharge or do shoddy work”. Often people are persuaded by doorstep sellers to have their drives resurfaced or their roofs felted or to have double glazing installed. But frequently, the unsuspecting homeowner (the principal to the transaction) has little knowledge of the quality of the work being offered by the builder (the agent). This asymmetry of information means that the homeowner could be taken in by clever selling or reassuring statements.
Another example is estate agents. A recent OFT study found that nearly a quarter of estate agents deliberately misdescribe the properties they are selling, either by exaggerating a property’s benefits or omitting to mention problems, or, in some cases, by downright lying.
So how are agents able to exploit principals and what can be done about it? Is the answer to have better regulation, or is there a market solution?
More complaints of rogue traders BBC News, Brian Milligan (14/11/09)
Rogue trader complaints on the up (video) BBC News, Brian Milligan (14/11/09)
Crackdown on rogue doorstep traders Press Association (16/11/09)
Estate agents ‘regularly lie to homebuyers’ Telegraph (12/11/09)
Lying estate agents confronted with home truths Times Online, Rebecca O’Connor (12/11/09)
A summary of the OFT campaign against rogue traders selling at the doorstep can be found at:
Doorstep selling campaign strategy Office of Fair Trading (16/11/09)
The relevant section of the OFT’s site is Doorstep selling
The government’s Consumer Direct agency has four relevant sections on its site:
Doorstep selling, Home Improvements, Buying a home in England and Wales and Buying a home in Scotland
Questions
- Give some other examples of the principal–agent problem. Are there any cases where it is the agent that has poorer information and is thus exploited by the principal?
- What can bodies such as the Office of Fair Trading and Consumer Direct do to lessen the problem? What factors determine their success?
- Discuss the relative merits of alternative solutions to the principal–agent problem.
On 11 November, the European Commission announced that it was imposing fines totalling €173 million on plastic additives producers for operating a price fixing and market sharing cartel. There were 24 companies involved in the cartel. As Competition Commissioner, Neelie Kroes, said, “These companies must learn the hard way that breaking the law does not pay and that repeat offenders will face stiffer penalties. The companies’ elaborate precautions to cover their tracks did not prevent the Commission from revealing the full extent of their determined efforts to rip-off their customers”.
An interesting feature of this particular case is that one of the companies fined is AC Treuhand, a Swiss-based consultancy company. It is not a plastics producer, but took on the role of organising the cartel. Neelie Kroes said that “the company’s Swiss premises were chosen for secret meetings of cartel participants as they were outside the EU and beyond the commission’s jurisdiction. This made it harder for the watchdog to seize documents.”
Antitrust: Commission fines plastic additives producers €173 million for price fixing and market sharing cartels Europa Press Release (11/11/09)
FACTBOX-EU fines heat stabilisers cartel 173 mln euros Reuters (11/11/09)
EU fines consultant for alleged cartel role Financial Times, Nikki Tait (11/11/09)
EU cartel fine for plastics firms BBC News (11/11/09)
EU fines plastics cartel euro173 million Forbes (11/11/09)
Questions
- What conditions must apply if a cartel is to succeed in raising prices? To what extent did these conditions apply to the plastic additives cartel?
- What powers does the European Commission have under Article 81 of the Treaty of Amsterdam? (See and also. See also page 369 in Sloman and Wride Economics 7th ed.)
- Are cartel activities necessarily against the interests of the consumer? Explain.