A Climate of Skepticism

Last Friday our school’s head invited a speaker to address the student body on climate change and environmental activism. This well-intentioned young man presented a video that consisted of excerpts from Al Gore's film An Inconvenient Truth along with cute animations that highlighted the “excesses” of Western society (such as the aggregation of private property), followed by Utopian promises of a “green tomorrow.”

This young man was adamant… “The earth has a fever,” capitalism, free-markets, social injustice and meat are at the root of the problem but, working together, we can do something about it before it’s too late! I thought about his message and although I could challenge his positions on any number of different levels I am having the hardest time accepting his underlying premise… that human-caused global warming is leading to disastrous, but reversible, planetary consequences.

Why? Well, I am skeptical of global warming alarmism simply because even though global CO₂ levels have continued to slowly rise predicted global warming rates have not been observed. In fact, since 1998, we have experienced a global cooling trend. Take it back a little further and other data indicate no net warming for the past sixty-eight years.

The Atmosphere. If you take a look at the temperature record as measured by satellite and radiosonde (weather balloons) as opposed to just surface temperatures you will see that we have gone through nearly two decades without any warming of the upper troposphere. There are no climate models that predict an absence of warming for nearly twenty years.

The Oceans. Then we look at the oceans since water is a very efficient heat sink. The Argo Project is a huge global array of more than 3,000 free-drifting profiling buoys that measure the temperature and salinity of the upper 2,000m of the world's oceans. First deployed in 2003, Argo now gives us continuous monitoring of the upper ocean with all data being relayed and made publicly available within hours after collection. Result? No net warming of the oceans has been observed in the first six years of the program measurements.

The Polar Ice Caps. Another prediction was that the polar ice caps would melt as CO₂ levels rose to produce accelerated warming (you remember… that image of Al Gore’s hapless polar bear struggling to climb onto a melting ice flow). But again, satellite observations have shown no net change for more than thirty years.

In September of 2007 there was an observed anomaly. The Arctic ice cap lost nearly 25% of its normal pack. The global warming proponents said this was finally hard evidence of climate catastrophe to come. But just one year later 12% of that icepack had recovered and by September of 2009, one year later, there was another 12% increase so that the ice loss of 2007 in the northern polar regions has all but fully recovered.

An interesting thing about global climate change is that its effects should be global. So even though there was some ice loss in the Northern Hemisphere there was a corresponding increase in the Southern Hemisphere. Just three weeks after that Northern minimum of September 2007 there was an ice cover maximum recorded in the Southern Hemisphere. And last year, there was less of a summer ice-melt in the Antarctic than has been measured in thirty years of satellite observations.

Hurricane Seasons. We have been told by the IPCC, Al Gore, and others that we could expect to see an increase in hurricane activity… not just in the number of hurricanes but also in their intensity as global temperatures increased. Again, this has not been observed. In 2005 the Gulf Coast was hammered by hurricane Katrina. New Orleans, a city built largely below sea level, was flooded when the levees failed. We were told that storms like this would become more common. Four years later we have witnessed some of the quietest hurricane seasons in memory. OK, now without resorting to Google, can you even name another hurricane since Katrina?

Settled Science. When my biology or physics students do a lab they propose a hypothesis… an educated guess. When their observations fail to agree with their hypothesis my students are taught to keep an open mind and question if the hypothesis was flawed or maybe there was something wrong with the experiment or perhaps with their data collection methods. Could there have been other factors that were affecting their observations that were unaccounted for? What they are taught not to do is declare “this is settled science” and call their hypothesis a fact.

So is dangerous anthropogenic global warming “settled science?” Hardly. Is there room for skepticism? Absolutely! And yet climate change alarmists attack skeptics with an almost religious, unthinking fervor. They are referred to as “deniers” and demonized. In the old days the words “apostates or heretics” would have been appropriate for those who expressed doubts and challenged the established orthodoxy. They point to the “consensus of a thousand scientists” the way zealots point to the harmonious chanting of a priestly class. They say climate systems dynamics are too complicated and too difficult to explain to the average person much the way that we are told religious texts carry hidden meanings and that dogma must not be questioned by the faithful lest they risk the damnation of their immortal souls.

The late Carl Sagan once said, “extraordinary claims require extraordinary evidence.” I don’t propose to raise the bar that high. I simply ask that the global warming proponents match their predictions to observations. In other words, if the local TV weatherman always predicts rain, every now and then it should rain! Until then, I will choose to remain a skeptic.

It Takes Green To Be Green

I just moved into a condominium with an active and very involved home owners association. The condominium complex is a little over four years old and since its inception it has been committed to the practice of “green and sustainable living,” a self-ennobling, if a bit vague, ethos.

Every year the HOA (home owners association) conducts a line-item budget review and this year I happened to notice an $11,000 payment for a “solar loan.” Three years ago, the community decided to promote the use of alternative energy sources and reduce its dependence on electrical energy provided by the local utility, Pacific Gas and Electric. So the HOA board approved the acquisition of a bank of solar panels that would provide electricity for the community common house as well as lighting for all the outdoor common areas like parking lots, car ports and walkways. There was also the hope that by producing a net surplus of electricity that the meter would begin to run backwards and yield a little bit of revenue.

Curious, I asked what the details of the solar investment were. A member of the finance committee said that the cost of the solar panels plus installation was a bit over $100,000 and this was after any applicable subsidies, tax credits or rebates. The current solar loan carries a 6% (variable) interest rate. Next, I asked when the anticipated breakeven* would be. The committee member said he wasn’t sure. That made me even more curious and so I poked around further. I asked what we were spending on electricity prior to the installation of the solar panels. Copies of the utility bills revealed an average monthly expenditure of $833.

OK… now for some back-of-a-napkin breakeven analysis. First the assumptions, a 6% annual increase in energy costs and a (steady but unrealistic) 6% interest rate for the remaining 10 years of the loan. There is no adjustment for inflation. Also, the opportunity costs of what else you could have done with that money are not factored into this brief analysis.

So what’s the “net net?” Well, it will take forty-six years before this condominium community sees breakeven. It’s unlikely that anyone living in this community today will ever see a savings on their already high HOA dues. Forty-six years even is far longer than the anticipated life of the solar panels themselves.

I mentioned this number to a couple of members of the association’s finance committee. One told me that no real cost-benefit analysis was done prior to the decision to move ahead with purchase and when he sent out an email to all indicating that the system would cost far more than we would ever save he was chided by some for being “negative” and not in keeping with the values of the community. Another finance committee member said it didn’t matter because “we wanted to invest in this emerging alternative energy technology.”

Solar has been around for a long time. It’s not a new technology. The reason it is still “emerging” is because unless it is heavily subsidized by government or unless the cost of conventional energy sources skyrocket (due to market forces or fiscal policy), there is no way that it makes any financial sense to install solar arrays, windmills or a host of other alternative energy sources.

What my community wanted to do was to make a statement, a statement of support for, and a commitment to “investment in sustainable green energy.” Unfortunately they unwittingly made another statement… that with “investments” like this only the wealthy can afford to be green.

Wouldn’t You Really Rather Have a Buick? (Made in China)

It was reported last week that ailing auto giant, General Motors, is considering the importation of thousands of lower-cost cars manufactured at GM plants in China for sale to the North American market. This ‘rumored’ proposal has created a firestorm of controversy and opposition from the United Auto Workers [US labor union, ed.] and created a significant political problem for the Obama administration since it has provided more than $15.4 billion in loans to the company in an effort to prop up its struggling operations and preserve more than 90,000 US jobs at current levels of compensation and benefits. “GM should not be taking taxpayers' money simply to finance the outsourcing of jobs to other countries," wrote Alan Reuther, the union's Washington lobbyist, in a letter to U.S. lawmakers.

GM, on the other hand, has been under a lot of fire, and for years. They have been harshly criticized for not paying attention to the evolving auto market that has been demanding high quality, fuel efficient cars… a demand satisfied by the Japanese [especially Honda and Toyota] and now too, the Korean auto makers.

A common mantra for the criticism has been that GM is very good at producing exactly the wrong cars at precisely the right time… except perhaps in China where, surprisingly, its Buick brand is well regarded.

GM executives will not comment directly on these reports, saying only that they generally do not speculate on future product strategies beyond what has been publicly released at auto shows. But let’s think this through from an economist’s perspective. So what do we know?

GM is rapidly running out of cash. It faces a June 1^st deadline to restructure itself or go into Chapter 11 bankruptcy [where the company is protected from its creditors while it reorganizes under a judge’s supervision. Ed.] And GM has asked for another $11.6 billion in bailout funds to stay afloat. That would bring the total to more than $27 billion in ‘taxpayer’ funding.

There is a lot of truth to the criticism that GM has not done a good job in offering the kinds of cars that people want in the North American market, and when fuel prices climb sales of GM’s leading, profit generating products, like pickup trucks and SUVs decline. That’s a no-win formula.

So after reading the tea leaves of the auto markets GM decides to beef up its fuel-efficient lower-cost entry level offerings in the US by sourcing cars offshore from its Chinese assembly plants. The howls of protest are still echoing through the halls of Congress.

Why is GM considering such a bold and maybe too-late initiative, at least by GM standards? Well GM is at a crossroads… the ‘brink’ might be a more accurate term. They are days away from bankruptcy and management needs to find ways to cut costs and offer competitive cars that people want to buy. If they don’t, then the company, as we know it, will dissolve into insolvency… a memory of another once-great American corporation.

The cost of US labor for the domestic automakers is among the highest in the world. The typical hourly cost for a UAW worker in a GM plant is more than $73 per hour including all benefits. The same kind of worker in a US Toyota plant costs $48. That’s 34% less. In China that average auto assembly line worker earns a little more than $2 for the same hour of work![1]

It doesn’t take a vast storehouse of business sense to understand that sourcing from more competitive labor offerings overseas is an essential component in GM’s strategy for its return to profitability and indeed, its very survival.

Unintended Consequences

So here’s the scenario… Asian auto manufacturers see a huge market in North America. It’s pretty obvious to everyone that with the economy on the ropes, gasoline prices climbing steadily upward and the continuing political instability in the Middle East the market is demanding lower cost fuel efficient vehicles. But not everyone is welcoming these ‘econoboxes’ with open arms. The ‘big three’ car companies, the UAW and their congressional allies see these cars for what they are… a ‘threat to American jobs.’

If these Asian brands gain any more ‘traction’ they will continue to erode the market share of the domestic auto makers. So they and the union appeal to Congress. There’s debate back and forth as to what type of ‘protection’ they can offer Detroit. It’s clear to them that the Asian car makers have an ‘unfair’ advantage in that they pay their workers far less in the way of wages and benefits. So how is it considered ‘fair’ competition when the playing field is so clearly tilted towards the offshore brands? If US jobs are lost to Asian workers then US votes are lost too. Many in Congress are swayed by the demagoguery and they mull a response that includes the imposition of heavy tariffs [import taxes, Ed.] on these cheap but reliable imported cars.

Clearly alarmed, these Asian car companies decide that they can’t afford to fuel a protracted trade-war with the US. After all, their entire goal is to carve out market share, not to be crushed by the weight of the 800 lb. congressional gorilla. So they rethink their strategy. Rather than compete with GM, Ford and Chrysler by end-running them with sturdy and cheap alternatives at the low-profit end of the market they decide to improve their quality, broaden their product lines and move upscale into the mainstream of the US car business. In other words, the plan is to take on the domestic giants head-on and beat them at their own game.

This scenario was played out nearly forty years ago. The Asian car makers were Toyota, Honda, and Datsun [now Nissan]. The cars included the Civic and Accord, the Corolla and the Camry, the Sentra and the Maxima. It even included whole new luxury brands like Lexus, Infiniti and Accura. The strategy proved to be wildly successful.

So the threats and the reality of protectionism, the erecting of artificial barriers to competition and trade by legislative fiat backfired big time. It not only deprived the American consumer of the freedom of choice to select from multiple product alternatives when shopping for a car it pushed ‘Japan Inc.’ to create Lexuses from Corollas… a huge unintended consequence that has directly led to the near and maybe eventual demise of the domestic auto industry as we know it. And guess what… it’s happening all over again.

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[1] Although Chinese labor is cheap by US, European and Japanese standards the cost of assembling a car in China is not as cheap as you would suspect since the cost of parts and raw materials are very high.

Say Cheese! A Lesson In Creative Destruction

Photography is one of my hobbies. At one time it even used to generate a modest secondary income. But it was never about money, it was always about the joy of picture taking that kept me motivated to carry a camera almost everywhere I went. I can remember taking long drives up the coast or spending the day at the zoo carrying my 35mm SLR ready for any picture taking opportunity. “Burning film” was an understatement.

Since I didn’t have a color darkroom part of the ritual after a day’s shooting was gathering the rolls of 35mm film and driving to the little yellow kiosk that stood in the middle of the strip-mall parking lot. Two or three days later I would return to collect the fruits of my labors… chunky envelopes filled with prints. Candy! The next step was to park the car and sort through the prints to see which ones “came out.” The convenience of the neighborhood FotoMat was unbeatable. The kiosks were everywhere. Turnaround time was measured in days not weeks, and the print quality was acceptable for most standard sized prints. At the time, the only thing that was more convenient was the Polaroid camera that carried its own processing lab in the camera body. These were very cool alternatives to the point-and-shoots but limited in what they could do. They complimented the 35mm camera but were never really a substitute.

A few years later came another innovation… the one-hour automated photo lab. Now you could take you film to the lab, and miracle of miracles, your prints, are delivered in one hour. Gradually, the little yellow kiosks began to disappear… not immediately, but gradually. It seems that photographers wanted more than photo processing and printing services. They wanted the satisfaction of seeing their prints while the memories of the events were still fresh… not in days but minutes. So one technological innovation began to displace, then replace, the photo lab kiosk. Still the underlying film-based technology was essentially unchanged. The real revolution was right around the corner.

Enter the 1990’s and the digital still camera. The expression, “did it come out,” was no longer heard since both the casual snap shooter and the pro had the ability to get instant feedback on their pictures. The chances of a botching a shot were greatly reduced and the percentage of acceptable pictures sky-rocketed. Best of all, the digital photographer now had the choice to print art pieces on inexpensive ink-jet printers with terrific results, to view and edit their shots on their computer’s display or even share them with the whole world by uploading the photo files to a social networking site. This represented a fundamental shift in photography. Then in 2001, when the quality of the digital image surpassed that of film, the last nail was driven into the coffin of film-based photography now reduced to a declining niche.

Fast forward eight years. I haven’t seen a FotoMat in years. My Nikon N90s 35mm SLR is gathering dust in my closet. Film sales continue their steep decline. Polaroid is an empty shell of its former self, a licensed brand name only. Kodak, Fuji, Agfa and Ilford all had to change their core business models in order to survive. Yes, the one-hour photo labs are still around as photo departments in drug stores and Wal-Mart but mainly just to print digital images.

This is an example of the sometimes painful process of creative destruction when innovation, in response to, and fueled by, market demand, sweeps away old industries thereby creating new opportunities and growth.

Everyday Economics

Economic thinking is not limited to the classroom, the boardroom or the business pages. At least it shouldn’t be!

My wife and I just returned from a trip to Italy. When recounting our travels to a friend we happened to mention that two of the hotels we stayed in were actually quite old. The first was originally constructed as a monastery that dated back to the 11^th century. The second was a wealthy merchant’s home located just outside the beautiful walled city of Siena. It was built in the middle 1300’s. Imagine that… sleeping in a room that was nearly one thousand years old! Our friend was taken aback and remarked, “They really knew how to build houses back then. Not like today.” She continued with certainty and conviction, “Today they want the buildings to fall apart quickly so they can be replaced. It’s planned obsolescence.”

Later at dinner another friend happened to mention that she wasn’t feeling well due to severe seasonal allergies and other medical issues. She told us that her insurance company would pay for a prescription of the potent steroid, Prednisone, but not a more targeted and expensive medication that could cost upwards of $600 per month. The drug was not in their formulary. I asked her if she had considered other sources to fill her medication such as Wal-Mart since they are well-known for their aggressive low pricing in prescription drugs, just like everything else they sell. She said firmly, “No. I have an issue with Wal-Mart. I won’t shop there.” Since she had not indicated being poorly treated at a Wal-mart in the past I imagined that it must have been some social or political bias. Regardless, I added, “If they carry your prescription drug you may be able to save hundreds of dollars by having it filled there.” Her eyes widened… she said, “Really? I guess should give them a call.”

Both these statements resonated with me at a fundamental level. Let’s examine the first.

The underlying assumption was that builders today design houses and buildings to deteriorate quickly. Builders today must use a quality of craftsmanship and materials that doesn’t hold up, so that they can be replaced by new buildings… erected, it is assumed, by the same builder at some point in the future.

Now if I was a general contractor and knew this "shady" practice to be true I would have two choices. First, I could keep quiet to perpetuate this scheme. Then I would look for some other way to compete with other builders for new business. Or, I could tell the customer, that my firm will build exactly what the customer wants on time, under budget, and using high quality materials and excellent craftsmanship. I would also state that we, as professional builders, will stand behind our work because our reputation and future business depends on it.

So, if a customer wants to build a monastery that will last a thousand years, and if the budget allows for it, then there are many GC’s who will be able to deliver just that. But that’s a pretty uncommon request since houses made of solid stone, with marble floors and heavy timbers, that are covered by heavy Tuscan tile roofing and adorned with hand painted frescoes would be prohibitively expensive and rejected as being inefficient extravagances. Is it planned obsolescence? In a way, yes it is. But it is the contractor’s client doing the planning and making those choices not the builder.

Then there was the friend with the medical condition.

It seems that she objected to doing business with Wal-mart as a general practice. She never offered a reason why and I never asked. But one thing became clear. She revealed that her objections were quantifiable. They had a dollar threshold. If it meant saving a couple of bucks when shopping for a toaster then her principled stand not to shop at Wal-mart remained steadfast. But when she saw an opportunity to save hundreds of dollars and get exactly the medicine she wanted her objections to shopping at the big box from Arkansas melted like the spring snow.

What do we do with Rudy?

Sooner or later many families have a conversation that they have been avoiding for months, sometimes years. Rudy had always been described as strong and independent. A product of the depression, he was a member of that generation that had endured financial ruin, genocides and world wars with a mixture of stoicism and resolve – an inner strength that everyone looked up to. But lately things were different. Grandpa Rudy, as he was known to the youngest in the family, seemed more and more frail – not surprising for a man in his late eighties. But what really had the family concerned was his forgetfulness. Not just forgetting the occasional name, the date, or odd face, but forgetting to eat, to take his medicine, to dress himself or sometimes, even to bathe. Clearly, despite Rudy’s fierce sense of independence that defined him, he was no longer in a position to safely care for himself but what could the family do? What would the family be willing to do?

This is an all too common scenario in our aging population. Placing an elderly loved one in assisted living is never an easy decision but the deepening recession and the collapse of the housing market has exposed seniors to unprecedented risks and uncertainties that compromise more than their lifestyle and their quality of life... it compromises their safety.

Assisted living costs for elders are not insignificant; ranging from $2,000 to $8,000 per month. Typically, they have been financed by the equity in the elder’s home, either by the outright sale of the property or by the vehicle of the reverse mortgage. But things are different now.

Let’s take our narrative a little further.

The family agrees that Rudy needs to be placed in assisted living. Some careful investigation revealed that the best matched alternatives will cost around $4,000 per month, or at minimum $48,000 per year. Despite a lifetime of hard work, some financial reverses, including the recent tanking of the Dow, have left Rudy in a vulnerable financial position. His savings only amounts to a little more than fourteen months of assisted living costs. Assuming, as we all hope, that Rudy survives longer than fourteen months, he (we?) will need to dip into the equity of his home in order to fund his living expenses.

It’s then that the realization hits everyone gathered around the kitchen table… everyone except Rudy that is. Rudy’s home was valued at a little over $560,000 two years ago. Today, that same home would likely sell for about $320,000. That’s a drop of more than $240,000. The family doesn’t appear to be prepared to accept the reality that $320,000 is the value of the home and not yesterday’s $560,000. “The market will bounce back,” someone says. “Yes, this is a temporary setback,” another agrees. But on one thing there is unspoken unanimity. This is not the time to consider selling Rudy’s home. “After all,” they say, “it’s in Rudy’s best interests to wait until the time is right.” Right? But in the back of some of the minds there is that ugly fleeting notion, like a darting shadow in the corner of the mind’s eye, that the equity in Rudy’s home represents a portion of an assumed inheritance.

“No. This isn’t the time to sell. So, now what do we do with Rudy?”

The recession has many victims. Many are hidden and helpless. Many are as close to us as our aging parents.

A student, a letter and a $4 message

The following remarkable column was first published on Sunday, December 14th, 2008 in the Press Democrat. The student is my student. We’ll call him RV. [js]

By Paul Gullixson
THE PRESS DEMOCRAT

We recently received this letter here at The Press Democrat:

“Dear Sir

Madam, I am writing to you because I want to turn a wrong into a right. Over the past few weeks I have been paying for one newspaper and taking two. To make things worse, I sold the extra copies to my fellow 8th graders at school. I realize that I benefited from your loss, and I am sorry.

I realize now that my actions were dishonest and unkind. Enclosed is a money order, and I hope it will sufficiently cover your loss.

Sincerely,

An 8th Grade Student.”

Enclosed was a money order for $4. There was no return address. I’ve shared this letter many times in recent days and decided that I would like to respond here.

Dear ‘Student’:

Today, I am celebrating my 10-year anniversary here at The Press Democrat. I mention that because in all those years of opening letters to the editor, I don’t recall ever coming across a note quite like yours.

I’m impressed, for reasons I hope will be evident.

First of all, anybody who can sell newspapers to eighth-graders in this day and age is OK with me. I’ve been led to believe that eighth-graders are no more interested in newspapers than they are asparagus.

My colleagues were equally impressed when I read your letter aloud at our department heads’ meeting and handed your $4 money order to our controller. (You should have seen his face. It’s not often he receives revenue from the Editorial Department.)

They had one question for you:

How are you at selling quarter-page ads? You may have a future in newspapers — as long as there are newspapers in the future.

Some say newspapers are dying. I hope not. At the least, we’re certainly experiencing some dramatic changes. Many businesses are being pushed to the brink.

But I fear there’s something else that’s dying out there, something more important than newspapers. You addressed it with your letter.

It’s called integrity.

As David Brooks, a New York Times columnist, recently wrote, “Recessions breed pessimism.” Crime goes up. So does lying and cheating.

So does forgetting to admit when we’re wrong.

You say that you know your actions were “dishonest and unkind.” If only we could hear such words from those responsible for our current financial crisis — and so many things that are happening in our world.

Adults have made a mess of things, and I’m afraid we’re going to be leaving your generation with some hefty bills. I don’t know how to begin to apologize to you for that. But bills and bailouts are not the only thing I worry that my generation is handing down.

A recent study found 64 percent of U.S. high school students say they’ve cheated on a test in the past year. Thirty percent have stolen from a store. Both of those numbers have risen steadily in recent years.

That, to me, is more discouraging than anything we’ve heard from Wall Street.

The study by the Josephson Institute in Los Angeles also found that using the Internet to plagiarize an assignment (36 percent), lying to parents about something significant (83 percent) and lying to save money (42 percent) also were up.

Michael Josephson, founder and president of the institute, put it this way: “In a society drenched with cynicism, young people can look at it and say, ‘Why shouldn’t we? Everyone does it.’ ”

Well, maybe not everyone.

Which is one reason I wanted to publish your letter today. Some here at the paper have suggested that there’s a parent, maybe even a teacher, who encouraged — ordered? — you to write this.

To that I say, what does it matter? Whether you wrote this alone or with someone lurking over your shoulder, both are evidence of someone in your life who cared enough to teach you the value of accountability and honesty.

Consider yourself fortunate. Not everyone has someone like that.

Maybe this letter was even embarrassing for you to write. If so, it’s probably equally embarrassing now to see me responding in print.

But I wanted to commend you. There’s no bravery in conformity. It takes real courage to ignore the cynicism of the world, the temptation to hide, the encouragement to avoid, and stand up and do the right thing.

Don’t let anyone tell you otherwise. I’ve waxed philosophic long enough. I fear I may be getting melancholy on my anniversary. I just wanted to thank you for your message and your reminder of something worth much more than $4.

I don’t know where our country is going. But what I do know is that the things we can’t afford to leave behind are fundamentals like integrity, accountability, hope, faith.

They still matter. They always will.

Take pride in this letter. Maybe someday, you will even encourage someone to do the same — admit a mistake and seek to make amends.

If so, you’ll do more than that just turn a wrong into a right. You’ll be a leader.

And those don’t just fall out of newspaper racks, you know.

(Paul Gulllixson is editorial director for The Press Democrat. E-mail him at paul.gullixson@pressdemocrat.com)

In Defense of "Sweatshops"

In one of my economics classes the subject of sweatshops [and what to do about them was discussed]. The following is one of the better articles and analyses on the subject. A very strong case can be made that the real problem is not that sweatshops exist but rather, as Charles Wheelan suggests, that there are not enough of them. Powell’s article was was first posted June 2, 2008. [js]

by Benjamin Powell*

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"Because sweatshops are better than the available alternatives, any reforms aimed at improving the lives of workers in sweatshops must not jeopardize the jobs that they already have."

I do not want to work in a third world "sweatshop." If you are reading this on a computer, chances are you don't either. Sweatshops have deplorable working conditions and extremely low pay—compared to the alternative employment available to me and probably you. That is why we choose not to work in sweatshops. All too often the fact that we have better alternatives leads first world activists to conclude that there must be better alternatives for third world workers too.

Economists across the political spectrum have pointed out that for many sweatshop workers the alternatives are much, much worse.1 In one famous 1993 case U.S. senator Tom Harkin proposed banning imports from countries that employed children in sweatshops. In response a factory in Bangladesh laid off 50,000 children. What was their next best alternative? According to the British charity Oxfam a large number of them became prostitutes.2

The national media spotlight focused on sweatshops in 1996 after Charles Kernaghan, of the National Labor Committee, accused Kathy Lee Gifford of exploiting children in Honduran sweatshops. He flew a 15 year old worker, Wendy Diaz, to the United States to meet Kathy Lee. Kathy Lee exploded into tears and apologized on the air, promising to pay higher wages.

Should Kathy Lee have cried? Her Honduran workers earned 31 cents per hour. At 10 hours per day, which is not uncommon in a sweatshop, a worker would earn $3.10. Yet nearly a quarter of Hondurans earn less than $1 per day and nearly half earn less than $2 per day.

Wendy Diaz's message should have been, "Don't cry for me, Kathy Lee. Cry for the Hondurans not fortunate enough to work for you." Instead the U.S. media compared $3.10 per day to U.S. alternatives, not Honduran alternatives. But U.S. alternatives are irrelevant. No one is offering these workers green cards.

What are the Alternatives to Sweatshops?

Economists have often pointed to anecdotal evidence that alternatives to sweatshops are much worse. But until David Skarbek and I published a study in the 2006 Journal of Labor Research, nobody had systematically quantified the alternatives.3 We searched U.S. popular news sources for claims of sweatshop exploitation in the third world and found 43 specific accusations of exploitation in 11 countries in Latin America and Asia. We found that sweatshop workers typically earn much more than the average in these countries. Here are the facts:

We obtained apparel industry hourly wage data for 10 of the countries accused of using sweatshop labor. We compared the apparel industry wages to average living standards in the country where the factories were located. Figure 1 summarizes our findings.4

Figure 1. Apparel Industry Wages as a Percent of Average National Income

Working in the apparel industry in any one of these countries results in earning more than the average income in that country. In half of the countries it results in earning more than three times the national average.5

Next we investigated the specific sweatshop wages cited in U.S. news sources. We averaged the sweatshop wages reported in each of the 11 countries and again compared them to average living standards. Figure 2 summarizes our findings.

Figure 2. Average Protested Sweatshop Wages as a Percent of Average National Income

From "In Praise of Cheap Labor," by Paul Krugman. Slate Magazine, March 1997:

A country like Indonesia is still so poor that progress can be measured in terms of how much the average person gets to eat; since 1970, per capita intake has risen from less than 2,100 to more than 2,800 calories a day. A shocking one-third of young children are still malnourished—but in 1975, the fraction was more than half. Similar improvements can be seen throughout the Pacific Rim, and even in places like Bangladesh. These improvements have not taken place because well-meaning people in the West have done anything to help—foreign aid, never large, has lately shrunk to virtually nothing. Nor is it the result of the benign policies of national governments, which are as callous and corrupt as ever. It is the indirect and unintended result of the actions of soulless multinationals and rapacious local entrepreneurs, whose only concern was to take advantage of the profit opportunities offered by cheap labor.

Even in specific cases where a company was allegedly exploiting sweatshop labor we found the jobs were usually better than average. In 9 of the 11 countries we surveyed, the average reported sweatshop wage, based on a 70-hour work week, equaled or exceeded average incomes. In Cambodia, Haiti, Nicaragua, and Honduras, the average wage paid by a firm accused of being a sweatshop is more than double the average income in that country. The Kathy Lee Gifford factory in Honduras was not an outlier—it was the norm.

Because sweatshops are better than the available alternatives, any reforms aimed at improving the lives of workers in sweatshops must not jeopardize the jobs that they already have. To analyze a reform we must understand what determines worker compensation.

What Determines Wages and Compensation?

If a Nicaraguan sweatshop worker creates $2.50 per hour worth of revenue (net of non-labor costs) for a firm then $2.50 per hour is the absolute most a firm would be willing to pay the worker. If the firm paid him $2.51 per hour, the firm would lose one cent per hour he worked. A profit maximizing firm, therefore, would lay the worker off.

From Nicholas D. Kristof, The New York Times, 14 January 2004:

And so I think what Americans don't perhaps understand is that in a country like Cambodia, the exploitation of workers in sweatshops is a real problem, but the primary problem in places like this is not that there are too many workers being exploited in sweatshops, it's that there are not enough. And a country like Cambodia would be infinitely better off if it had more factories using the cheap labor here and giving people a lift out of the unbelievably harsh conditions in the villages and even in the urban slums.

Of course a firm would want to pay this worker less than $2.50 per hour in order to earn greater profits. Ideally the firm would like to pay the worker nothing and capture the entire $2.50 of value he creates per hour as profit. Why doesn't a firm do that? The reason is that a firm must persuade the worker to accept the job. To do that, the firm must offer him more than his next best available alternative.6

The amount a worker is paid is less than or equal to the amount he contributes to a firm's net revenue and more than or equal to the value of the worker's next best alternative. In any particular situation the actual compensation falls somewhere between those two bounds.

Wages are low in the third world because worker productivity is low (upper bound) and workers' alternatives are lousy (lower bound). To get sustained improvements in overall compensation, policies must raise worker productivity and/or increase alternatives available to workers. Policies that try to raise compensation but fail to move these two bounds risk raising compensation above a worker's upper bound resulting in his losing his job and moving to a less-desirable alternative.

What about non-monetary compensation? Sweatshops often have long hours, few bathroom breaks, and poor health and safety conditions. How are these determined?

Compensation can be paid in wages or in benefits, which may include health, safety, comfort, longer breaks, and fewer working hours. In some cases, improved health or safety can increase worker productivity and firm profits. In these cases firms will provide these benefits out of their own self interest. However, often these benefits do not directly increase profits and so the firm regards such benefits to workers as costs to itself, in which case these costs are like wages.

A profit-maximizing firm is indifferent between compensating workers with wages or compensating them with health, safety, and leisure benefits of the same value when doing so does not affect overall productivity. What the firm really cares about is the overall cost of the total compensation package.

Workers, on the other hand, do care about the mix of compensation they receive. Few of us would be willing to work for no money wage and instead take our entire pay in benefits. We want some of each. Furthermore, when our overall compensation goes up, we tend to desire more non-monetary benefits.

For most people, comfort and safety are what economists call "normal goods," that is, goods that we demand more of as our income rises. Factory workers in third world countries are no different. Unfortunately, many of them have low productivity, and so their overall compensation level is low. Therefore, they want most of their compensation in wages and little in health or safety improvements.

Evaluating Anti-Sweatshop Proposals

The anti-sweatshop movement consists of unions, student groups, politicians, celebrities, and religious groups.7 Each group has its own favored "cures" for sweatshop conditions. These groups claim that their proposals would help third world workers.

Some of these proposals would prohibit people in the United States from importing any goods made in sweatshops. What determines whether the good is made in a sweatshop is whether it is made in any way that violates labor standards. Such standards typically include minimum ages for employment, minimum wages, standards of occupational safety and health, and hours of work.8

Such standards do nothing to make workers more productive. The upper bound of their compensation is unchanged. Such mandates risk raising compensation above laborers' productivity and throwing them into worse alternatives by eliminating or reducing the U.S. demand for their products. Employers will meet health and safety mandates by either laying off workers or by improving health and safety while lowering wages against workers' wishes. In either case, the standards would make workers worse off.

The aforementioned Charles Kernaghan testified before Congress on one of these pieces of legislation, claiming:

Once passed, this legislation will reward decent U.S. companies which are striving to adhere to the law. Worker rights standards in China, Bangladesh and other countries across the world will be raised, improving conditions for tens of millions of working people. Your legislation will for the first time also create a level playing field for American workers to compete fairly in the global economy.9

From David R. Henderson, "The Case for Sweatshops." Weekly Standard, 7 February 2000:

The next time you feel guilty for buying clothes made in a third-world sweatshop, remember this: you're helping the workers who made that clothing. The people who should feel guilty are those who argue against, or use legislation to prevent us, giving a boost up the economic ladder to members of the human race unlucky enough to have been born in a poor country. Someone who intentionally gets you fired is not your friend.

Contrary to his assertion, anti-sweatshop laws would make third world workers worse off by lowering the demand for their labor. As his testimony alludes to though, such laws would make some American workers better off because they would no longer have to compete with third world labor: U.S. consumers would be, to some extent, a captive market. Although Kernaghan and some other opponents of sweatshops claim that they are attempting to help third world workers, their true motives are revealed by the language of one of these pieces of legislation: "Businesses have a right to be free from competition with companies that use sweatshop labor." A more-honest statement would be, "U.S. workers have a right not to face competition from poor third world workers and by outlawing competition from the third world we can enhance union wages at the expense of poorer people who work in sweatshops."

Kernaghan and other first world union members pretend to take up the cause of poor workers but the policies they advocate would actually make those very workers worse off. As economist David Henderson said, "[s]omeone who intentionally gets you fired is not your friend."10 Charles Kernaghan is no friend to third world workers.

Conclusion

Not only are sweatshops better than current worker alternatives, but they are also part of the process of development that ultimately raises living standards. That process took about 150 years in Britain and the United States but closer to 30 years in the Japan, South Korea, Hong Kong, and Taiwan.

When companies open sweatshops they bring technology and physical capital with them. Better technology and more capital raise worker productivity. Over time this raises their wages. As more sweatshops open, more alternatives are available to workers raising the amount a firm must bid to hire them.

The good news for sweatshop workers today is that the world has better technology and more capital than ever before. Development in these countries can happen even faster than it did in the East Asian tigers. If activists in the United States do not undermine the process of development by eliminating these countries' ability to attract sweatshops, then third world countries that adopt market friendly institutions will grow rapidly and sweatshop pay and working conditions will improve even faster than they did in the United States or East Asia. Meanwhile, what the third world so badly needs is more "sweatshop jobs," not fewer.

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Footnotes

1.

Walter Williams, "Sweatshop Exploitation." January 27, 2004. Paul Krugman, "In Praise of Cheap Labor, Bad Jobs at Bad Wages are Better Than No Jobs at All." Slate, March 20, 1997.

2.

Paul Krugman, New York Times. April 22, 2001.

3.

Benjamin Powell and David Skarbek, "Sweatshop Wages and Third World Living Standards: Are the Jobs Worth the Sweat?" Journal of Labor Research. Vol. 27, No. 2. Spring 2006.

4.

All figures are reproduced from our Journal of Labor Research article. See the original article for notes on data sources and quantification methods.

5.

Data on actual hours worked were not available. Therefore, we provided earnings estimates based on various numbers of hours worked. Since one characteristic of sweatshops is long working hours, we believe the estimates based on 70 hours per week are the most accurate.

6.

I am excluding from my analysis any situation where a firm or government uses the threat of violence to coerce the worker into accepting the job. In those situations, the job is not better than the next best alternative because otherwise a firm wouldn't need to use force to get the worker to take the job.

7.

It is a classic mix of "bootleggers and Baptists." Bootleggers in the case of sweatshops are the U.S. unions who stand to gain when their lower priced substitute, 3rd world workers, is eliminated from the market. The "Baptists" are the true but misguided believers.

8.

These minimums are determined by laws and regulations of the country of origin. For a discussion of why these laws should not be followed see Benjamin Powell, "In Reply to Sweatshop Sophistries." Human Rights Quarterly. Vol. 28. No.4. Nov. 2006.

9.

Testimonies at the Senate Subcommittee on Interstate Commerce, Trade and Tourism Hearing. Statement of Charles Kernaghan. February 14, 2007.

10.

David Henderson, "The Case for Sweatshops." Weekly Standard, 7 February 2000.

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*Benjamin Powell is Assistant Professor of Economics at Suffolk University and Senior Economist with the Beacon Hill Institute. He is editor of Making Poor Nations Rich: Entrepreneurship and the Process of Development.

Copyright 2008 Liberty Fund Inc.

Three Decades of Global Sea Ice Cover

by Jack Strange

This graph shows more than twenty-nine years of daily data gathered from satellite imagery and remote sensing. It sums both north and south polar sea ice areas. No models, no scenarios, just data provided by the National Center for Environmental Prediction/NOAA. There’s the regular winter freeze and the summer melt. It looks like a heartbeat, doesn't it? But see if you can spot the catastrophic melting trend that has everyone so alarmed? Look closely. Nope… I don't see it either.

How To Cripple a Global Economy In Five Easy Steps

by Jack Strange

A quote widely attributed to the famous physicist Richard Feynman said, “No matter how complicated a subject, if you can't explain something to an average high school kid, you really don't understand it.” The recent cascade of events that has caused credit markets to freeze, the housing market to collapse, the stock markets to crash, and an instability in the global banking system have been in the making for decades and are well understood. What is less understood, even by some of the brightest economic and financial minds in the world, is what to do about it. It challenged me as a teacher of economics and mathematics to find a way to explain it to my students.

Let’s examine what happened in five plus steps that led us to the crisis we’re in today.

Step one. Historically, conventional home loans have required a reasonably significant down payment. 20%-25% was not unusual, with repayment schedules that run from 20-30 years. I remember scrimping and saving for years in order to accumulate enough cash for the down payment on my first house. In such an arrangement both the lender AND the borrower have significant equity (an ownership interest) in the property. This means that both the borrower and the lender have strong incentives to assure repayment of the loan in keeping with the terms of the agreement. That delivers stability and reduces default and foreclosure rates. Potential borrowers were evaluated by trained and experienced loan officers who frequently relied as much on intuition as on a checklist to evaluate the creditworthiness of borrowers. In other words, conforming loans protect EVERYONE when housing markets are rising as well as falling. Both the borrowers and the lenders have equity. But over the last two decades there was a change in how home loans were both offered and evaluated.

So now Congress gets into the act. There was a concerted push in the U.S. Congress to make home loans more “accessible” to a greater number of people; a populist political objective. “Everyone should own a home,” the politicians crowed, “a piece of the American Dream,” whether qualified or not. The prevailing attitude was that accessible mortgages were a positive externality and a public good. (As it turns out it’s not. It may be the world's biggest negative externality and still the government is subsidizing it.) Legislation was enacted that made it a stated regulatory objective of the two big GSE’s, the government sponsored enterprises Fannie Mae and Freddie Mac, to assure that as much as 40% of all the money (liquidity) that the GSE's made available to banks to lend to individual buyers went to buyers in the “affordable housing” markets. Many of these so-called sub-prime borrowers are those customers who could not possibly qualify for conventional conforming loans due to a lack of an adequate down payment, little credit experience, a history of delinquency or bankruptcy, insufficient income, or dubious legal residency. In other words, they were promoting and making risky loans to those who are far less likely to repay them.

Regardless, the banks and mortgage brokers pitched low down payment and no income/no asset (NINA) loans to less-than-qualified borrowers like there was no tomorrow. Sure, the risk of loan defaults was substantially higher with the sub-primes but so was the potential reward since the sub-primes yielded higher interest rates and profits. Institutional investors were hooked. Throughout the 90’s Fed Chairman Alan Greenspan kept the Federal Funds Rate so low that these alternative instruments looked more and more attractive. “If a few borrowers defaulted, so what? We repossess the house and it still keeps gaining in value,” they thought. Sweet!

Many of these loans would then be “repackaged” through process called securitization and re-sold as derivatives such as mortgage-backed securities and collateralized debt obligations to institutional investors who saw their value as high-return investments but who had little connection to the actual borrowers on which these securities were based or to the inherent risk that these mortgage pools carried. Derivatives are financial instruments whose values depend on the value of other underlying financial instruments. They are the house whose inherent stability depends on the quality of the foundation that it’s built upon. Now the trap was set and properly baited.

So there's the smell of money in the water and the feeding frenzy begins fueled by good old-fashioned greed. The banks and mortgage investors throw caution to the wind and try to make sure that they’re able to chomp and gobble as much green meat as they can. And why worry? The government and its GSE surrogates Fannie and Freddie were there to provide the safety cushion. Yes? Absolutely! And if not them... the American people.

Step two. What ever happened to the steely-eyed loan officer with the trusty and well-worn rubber “NO LOAN” stamp whose job it is to protect the lender’s assets by carefully screening and qualifying loan applicants? Well, he was replaced by a statistical method of screening called credit scoring. Credit scoring had already proved itself an efficient and effective method of evaluating the creditworthiness of potential borrowers of other forms of debt like unsecured credit cards. So it should have worked with mortgages too. Or at least that's what everyone thought. Credit scoring had the other “advantage” of being less likely to be biased by factors that “human intuition” relies on such as, “What kind of neighborhood is the house in? Does the applicant have a steady job? Is his income verifiable and reasonable? Does he really have prospects of paying off the loan over the next twenty years? Does he seem like a solid citizen?” But credit scoring (instead of human intuition) as a predictor of credit risk failed to include a number of relevant variables. The statistical model relied on by lenders was broken so when housing prices declined credit scoring failed. Add that to the fact that, as we saw before, mortgage loans with low down payments are inherently destabilizing. Still 52% of Fannie Mae and Freddie Mac’s lending was to sub-prime borrowers. It was the enabler of the housing bubble… a bubble ready to pop!

OK, so where are we? Home loans are being offered to many new unqualified buyers. Risky? Sure. But as long as real estate values kept climbing you can afford to gamble. Everyone’s a winner! There’s no downside, right? Right?

Step three. With all this easy credit floating around to qualified and unqualified buyers alike it didn’t take long for the housing industry to get into the act. Houses and apartment dwellings were springing up everywhere like mushrooms after a spring rain. So much so that they got ahead of the market and that led to a classic problem of over-supply. According to some estimates, at the beginning of this year there were 18 million unoccupied housing units out of about 150 million households in the US. That leads to the free fall of prices as they seek market equilibrium. Pop! The housing bubble bursts! Add to this supply of housing the thousands upon thousands of new foreclosures coming on the market and things start to get really ugly!

Step four. You are a homeowner. Maybe you’re one of those sub-prime borrowers. You’ve got yourself a $400,000 adjustable rate mortgage (ARM) on a house with no money down. Sweet! But there's very little equity. Hey, when the mortgage broker pitched the financing package it seemed to be almost too-good-to-be-true! No money down, you didn’t need to prove your income, so you got fired twice last year but nobody checked, and the interest rate was really low so even the payments where do-able. Sure it’s an ARM but the rates don’t seem to adjust much and besides that’s two-years into the future. Go for it dude! And many did.

So here we are. The interest rates adjust. Actually, they skyrocket! You can't make the payments. You consider selling the house. But wait a minute! You discover that the house is now worth less than when you bought it. Whoa! That’s not supposed to happen. Real estate values always go up. Right? Worse still, you find out that you owe more than the house is worth. You’re upside down on your loan! So what do you do? You walk away. The bank will foreclose and take a bath. But not you. No sir. You'll only get dinged on your credit rating. A credit rating that wasn’t all that great in the first place. What about the ethics? I mean a contract is a contract. But hey, times are tough for everybody and sometimes you gotta do what you gotta do.

So the bank does indeed take a bath. Not just on this house but on thousands of similar houses. Now it’s in real trouble. And not just this bank but lots of banks.

Step five. The government gets into the act again. The goal of writing loans to unqualified sub-prime borrowers as a regulatory objective in part led to the unsustainable house of cards. In other words instead of allowing market forces to be the self-organizing system that drives the mortgage market, the calculated tampering by Senator Chris Dodd (D-Chairman, Senate Banking Committee) and Rep. Barney Frank (D-Chairman, House Financial Services Committee) to achieve their political objective (the regulatory mandate) of making housing “affordable” to bad-risk buyers has in-part led to a meltdown in global financial markets. Government’s role should have been to put a check on the derivatives and a check on credit scoring. It consciously did just the opposite.

Summing up... it's a tale of reckless behavior, of violation of fiduciary trust, of cynical political gamesmanship, of unbridled greed, of economic illiteracy, of no oversight, of no consequences. Lessons learned? None.

The fix? To close with another quote from Richard Feynman… "The real question of government versus private enterprise is argued on too philosophical and abstract a basis. Theoretically, planning may be good. But nobody has ever figured out the cause of government stupidity and until they do (and find the cure) all ideal plans will fall into quicksand.

Fair share? We need to be reminded...

In this season of bloviating political bluster, of global economic meltdowns, of financial bailouts and recriminations, of income redistribution schemes, of shameless and unrestrained pork barrel spending, of cynical accusations of greed and selfishness, it is important that we remind ourselves who it is who actually pays the bills. A minority of working Americans are now subsidizing a voting majority who pay little or nothing at all... the same majority who are pandered to with handouts by the economically-illiterate Barack Obama and John McCain. This road leads to tyranny. It is tyranny when a consuming majority possessing of an insatiable appetite can vote itself largess at the expense of a productive minority. It has been said that there is nothing more fun in this world than spending other people's money. When you don't have to earn it and when you can command it by legislative fiat there are no limits to the amount of fun you can have... aside from sapping the will of the productive to succeed. As Alexander Tytler observed, this may be the ultimate fate of democracies.

It makes you different.

Ten days after being hit by a car… well, it makes you different.

I’ve been watching and enjoying professional bike racing as a spectator for years. Crashes aren’t unusual. The risk is always there. After all, you’re racing around the countryside for hundreds, if not thousands of miles. Many of those miles are on under-improved roads, in all kinds of weather on tires that don’t quite span an inch across. When nearly two-hundred riders in a peloton ride at a blistering race pace merely inches away from someone else’s wheel you expect broken collarbones, road rash, sometimes worse. Yeah, accidents happen. It's part of the game.

Commuters and recreational riders face risks too. But slips and falls are just one hazard. Now add the greater fear that comes from the few, but vocal, angry and hostile drivers who may only wish you harm even if they don’t all act on their impulses. Or from the inattentive driver who may not set out to hurt anyone but who will kill you dead just the same. Then there’s the cop who many cyclists know; the cop who sees someone on a bike as an obnoxious nuisance undeserving of the equal rights he's sworn to protect; the cop who through inexperience, laziness or intent shatters the very institutions that many of us grew up with and clinged to by trampling on notions of justice and fair play. We’ll see where this road leads.