When Classical Economics Does Not Work?

Transcription

1 When Classical Economics Does Not Work? Yuri Yegorov, University of Vienna, Austria UPF Meeting of Alumni, Barcelona, 4-5 September 2015

2 Abstract This paper is a survey of recent models with author s participation. The common ground is that all of them deal with real phenomena that cannot be explained in the framework of classical economic theory. Typically violation of one of basic assumptions leads to a new branch of economic theory, like public economics, theory of trade, regional science, etc. However, real business world gives us several examples that cannot be explained with the framework of existing theories. Many such examples have origin in international trade of natural gas, where we do not have unique global price and persistent arbitrage opportunity is not exploited for many years. Geopolitics also has an important influence on this market. Another example is skewed return to talent who often does not get an income linked to productivity. Economics of exhaustible resources (like oil) or scarce resources that are still free (like water in some regions) present other cases that are not explained within the framework of classical economics and require special treatment. Yegorov - UPF 4 September

3 Introduction Economic theory consists of several assumptions that allow to build a very nice grounding for many economic models. Agents are assumed to have costless and symmetric access to the market and full information. This is not always true in business. This paper review 3 models with author s participation. The first is about persistent and not utilized arbitrage opportunity for LNG. The second is about the fate of talent. We do not have payoff according to marginal productivity and skills only (like labor economics says). Due to asymmetric information and market complexity it has a chance of rational no-growth. Dynamic optimization model shows multiple equilibria. The third story is about resource economics and land as production factor. Yegorov - UPF 4 September

4 First Story: Why Arbitrage for LNG was not utilized? Fig. 1. International prices for LNG, $/Mmbtu Japan Germany UK US Source: BP Statistical Review of World Energy, June 2013, page 27. Yegorov - UPF 4 September

5 Freight Costs: we see that they can explain only up to $2 difference across prices. Approximate Distance and Transportation Costs between 3 Largest LNG markets Countries Exporting Terminal Importing Terminal Distance (miles) LNG Transportation Cost (US$/mbtu) US- Japan New Orleans Himeji Sodegaura US-UK New Orleans Isle of Grain Dragon Isle of Grain Himeji Japan- UK Dragon Himeji Dragon Chita (PJ-PUS)-Cmax PJ-PUS (PJ-PUS)+Cmax Yegorov - UPF 4 September

6 Constraints? LNG Importer Countries Status Country Regasificati on Capacities LNG Import Country LNG Exporter Countries Status Liquefaction Capacities LNG Export USA USA Canada Trinidad & Tobago Mexico Peru Argentina Belgium Brazil Norway Chile Russia Dominican Republic Algeria Puerto Rico Egypt Belgium Eq. Guinea France Libya Greece Nigeria Italy Oman Portugal Qatar Spain UAE Turkey Yemen United Kingdom Australia Kuwait Brunei UAE Indonesia China Malaysia India Total Japan South Korea Taiwan Source: BP Statistical Review of World Energy, 2011; Natural Gas Information, 2011 We see that regasification capacity is not a global bottleneck (capacity 847 bcm, import 297 bcm in 2011), while liquefaction might be (USA). The stock of LNG vessels capacity exceeds the current LNG flow. Contracts do not bring constraints. Introduction of flexible contracts allows exploiting short term price differences. Since about 37% of US LNG import contracts are f.o.b., any US firm owning such a contract, can re-route it. Total Yegorov - UPF 4 September

7 Concluding Remarks for LNG Arbitrage Substantial differences (well above transport costs) in international gas prices can be attributed to many factors. Firstly, costs for transport and sunk investments do not explain price difference. Secondly, no constraints of capacities along the supply chain (ships, liquefaction and regasification plants) are observable. Even if a) transport costs, b) constraints and c) the investment hurdles explained the large current differences in regional gas prices, the puzzle remains. Why do not gas producers enter as arbitrageurs and delay their extraction in order to gain from higher future prices? Why do they instead produce at levels that drive the current gas below the coal price in the US? And this against the fact, that shale extraction is much more flexible and even interruptible. Debts of investors are NOT an explanation. Yegorov - UPF 4 September

8 Economics of Talent. Introduction The economics of arts, creators and talents differs from other sectors in many aspects. First, this sector generates knowledge and have its origin in individual creativity and talent. (Howkins, 2001) Second, there is product differentiation by quality and uniqueness. There is also demand uncertainty (nobody knows the principle) (Caves, 2000). Thus, competition is not among creators directly, but with complex environment. And hence we have the right to depart from full rationality (we neglect interaction between talents). The central economic concern for creative industry is not with the nature of inputs or outputs in production per se, or even with competitive structures, but with the nature of the market that coordinate this industry (Potts et al, 2008). They suggest high role of complex social networks, where consumer choice can be dominated by social feedback over social network. This talk is based on yet unpublished paper by Yegorov, Wirl, Grass and Seidl Economics of Talent: Dynamics and Multiplicity of Equilibria Yegorov - UPF 4 September

9 Economics of Talent. Problem It is a stylized fact that a return to talent is highly unequal. Often non-marginal talent can be unrealized in life. Jack London in Martin Eden describes hard life of a young talented writer on his path to become famous. Well known Russian writer Fyodor Dostoevskij who is well read globally today spent his life in misery. Famous Russian bard and poet V.Visotskij in one song says: Somebody saw the fruit not yet ready, shake the tree, and it fell down. This is a song about the one who did not sing, and never knew that he had a talent. Rosen (1981) set up the first model to explain skewed distribution of returns to talent. Fixed cost for consumption in a form of lost leisure, that pushes consumers to attach their preferences towards more talented artists. Still the puzzle remains: Why talent is not paid according to MPL? Is it asymmetry in information about talent, complexity of market structure, exploitation by intermediaries, or all together? The present dynamic model tries to give an answer. Yegorov - UPF 4 September

10 Talent: Mathematical Problem Notations: a talent (given by God) K human capital stock (education) Output potential of talent is proportional to ak. G bargaining power of talent It determines the share s of output that he receives: s(g)=g/(1+g) Yegorov - UPF 4 September

11 Talent: Mathematical Results Hamitonian gives 4-dimensional system of differential equations. Steady states are defined by 4th order polynomial. There are 3 typical cases: a) saddle path converging to unique equilibrium (this is a good story typical for economic models), b) under certain parameter range K=0, G=0 is the only equilibrium (your talent is too small, just drink it out), but also: c) multiplicity of equilibria, with Skiba set, presented with a line with a negative slope in (G,K) space (see Fig. 1) Fig.1. Phase portrait for a = 1; b1 = c1 =0.5; r = 0.2; = 0.3; b2 = c2 = 0.5. Red Skiba threshold set. Blue optimal paths. Yellow part corresponds to zero values of controls. Yegorov - UPF 4 September

12 Talent: Discussion and Policy To converge to high equilibrium (realized talent) some thresholds should be met: initially high talent, not high discount and market access. Note that low bargaining power can kill high talents, while low talents with network survive. Skiba effect: small differences in talents can produce not only much larger differences in payoffs, but also induce creator to select quite different life paths, either developing his talent or forgetting about it. In a dictatorship the attitude can be selective and manipulative. Those artists who are loyal to the regime, get easier market access, while those who oppose it have little or no access. Example: A. Solzhenitsyn was unable to publish in the USSR but got Nobel prize in exile. Yegorov - UPF 4 September

13 Models with Land as Production Factor Considering land as production factor is not typical in modern economics but was in 19 th century (see B.Czech Supply shock (2013), also how Henry George was forgotten). I try to continue this 19 th century tradition. Yegorov Y. (2005) Role of Density and Field in Spatial Economics In: Yee Lawrence (Ed). Contemporary Issues in Urban and Regional Economics. Nova Science Publishers, N.Y., p Yegorov Y. (2005) Dynamically Sustainable Economic Equilibria as Self-Organized Atomic Structures In: M.Salzano, A.Kirman, Eds., Economics: Complex Windows, Springer- Verlag Italia, p Yegorov Y. (2009) Socio-economic influences of population density, Chinese Business Review, vol.8, No. 7, p Yegorov - UPF 4 September

14 Biofuels and Agriculture: Competition for Land I also have WP about spatial water pricing in GE. Another model (only presented) is about competition for land between agriculture and biofuels. Water is an important element in economic activity. However, so far its scarcity has been hardly recognized by economists. In a simple model, where total arable land is fixed and is decomposed between land, used for agriculture, and for biofuel growing. As for oil supply, we assume a kind of Hubbert-type curve, given by exogenous function with one peak. Exponential population growth along with exponential growth of agricultural productivity are also assumed. The equilibrium for a simple model consists from the dynamics of food and energy prices in the environment of growing population and agricultural productivity. But first a simple story about linear demand for food, two production technologies, with cheap and expensive water and role of income distribution for food access. Note that water is regional, non-tradable. Yegorov - UPF 4 September

15 Microeconomic Illustration. Linear demand for food. Two technologies of production. Income distribution. Fig. 1. Demand (D) and supply curves for food: S1 with low and S2 with high water supply. The cost shift comes from expensive desalination technology. Fig. 2. Income distribution F(w) and starving border w1 (w2) for food prices p1(p2) from Fig.1. Yegorov - UPF 4 September

16 Three Goods Model Now we add forest and water, making forested land a part of global land endowment. We also assume that water supply in a positive function of forested area. Production technologies will also include water. For simplicity, Leontieff production function in land and water is assumed for both agriculture and biofuels. Preferences now also include individual water consumption. Yegorov, Land Water, Vienna, OR

17 Water in Not Yet Scarce It is assumed that initially half of land (total endowment now normalized by 2) is occupied by forest. Yegorov, Land Water, Vienna, OR

18 Conclusions for Land Paper Future security of food supply depends on the possibility of agriculture to meet the growing global demand for food from two origins: growing population and the change in food consumption pattern. Environmental constraints represent an obstacle. Some regions already face water scarcity, and climate change can strengthen this problem in some regions. The cost of desalinated water is too high to be widely used in general agricultural production. That is why global food prices will continue to grow. Another driver of food price growth is use of some land for biofuel production. Here an equilibrium suggests the parity between oil and biofuel prices, on one hand, and between biofuel and food price index, on the other. Future oil scarcity will push prices up for biofuels and food. Due to growing global income heterogeneity and some minimal nutrition requirements for survival a higher fraction of global population can face starving in future. Cheaper agricultural commodities are relatively more expensive to transport and that is why they are less tradable and have regional prices. Thus, food security will have regional origin. It will take place first for less expensive commodities that enter the nutrition of people with low income. Yegorov, Land Water, Vienna, OR

19 Final Remarks These models represent different business stories that are solved using methods different from classical economics. No arbitrage condition is a cornerstone of equilibrium theory but may not hold in real business. Example: LNG. Wages equal to marginal product is common assumption in labor economics, but in the case of talent (producer of unique good) income distribution is highly skewed and market can prevent talent from realization. Land is important production factor but is still out of consideration in most of macroeconomic growth models. Land and water scarcity may shape future market for both agriculture and biofuels. Yegorov - UPF 4 September

20 Thank you for your attention! Questions and suggestions are welcome. My is: My papers can be found on Research Gate: Yegorov - UPF 4 September