The Future of the Economy

The untold story of the financial crisis is the transition from manufacturing to services. This won’t mean the death of the economy – as some skeptics proclaim - and it shouldn’t even come as a surprise.

Historical View

To gain some perspective, the Great Depression had a similar underlying theme as the country transitioned from farming to manufacturing. Agricultural products were considered tangible necessitates; the rugged American farmer was seen as a cornerstone of the economy; and, it was argued, the country’s best interest lay in keeping the farmer alive. Supporting the farmer was considered patriotic – the same sort of pathos which, ironically, we currently see in the manufacturing sector.

The sequence of events was remarkably similar to that of America’s car companies – a former leading industry begins to falter during an economic boom, depression hits, and it suddenly implodes.

Looking back, we can at least feel some comfort that, as useless as our current attempts to bail out the Big 3 have been, they pale in comparison to the damage caused by trying to salvage the farming industry. Leading the way was the Federal Farm Board (FFB), which was setup before the crash.

The FFB began with $500 million dollars dedicated for loans to farmers. After the Great Crash, prices for agricultural products, like most consumer goods, took a nose-dive. Farmers complained that they couldn’t turn a profit. The FFB was then placed in the awkward position of trying to keep farmers alive while raising the prices of their goods. In order to accomplish the latter, they tried to limit farmers’ output by buying and storing huge quantities of agriculture goods, encouraging farmers not to farm, and going so far as to encourage the destruction of farmland. In 1930 it even tried to raise cotton prices by seizing 1.25 million bales of cotton for 1 year; this had no effect on the price.

Tangibility of Services

I imagine that before the Great Depression, one could make the same argument against the foreseeable manufacturing revolution as one can make today against the upcoming service-based economy: Services are non-essential and an economy cannot be built on such intangibles.

On the contrary, the only tangibles in any economy are supply and demand. This holds regardless of how concrete a given product is.

Part of the confusion has to do with what, exactly, we mean by services. At times its distinction from manufacturing is blurry. People are also quick to point to failing service sectors – advertising can be lucrative, but its success is strongly tied to that of the overall economy; journalism, another quintessentially American industry, has received a heavy blow; and IT support is overly prone to outsourcing.

These smaller service sectors may reveal some clues, but the central veins of a service-based economy – as key today as auto making became after the Great Depression – are healthcare and education. As intangible as services may seem, the modern American cannot live without these 2 services. They are the bread-and-butter of a service economy.

Healthcare & Education

The rising cost of healthcare and education is heavily debated. Regardless of where you side, it can be agreed upon that a large portion of the cost resides in systematic inefficiencies linked to public policy. At the same time, the mere fact that Americans continue to pay such high costs for healthcare and education is testament to their growing importance.

The importance of these services is forgotten when pundits speak only of the rising “costs” of healthcare and education, although it is forgotten for a good reason. In the final quarter of 2007, for instance, Apple reported revenues of $3.4 billion from iPod sales; and yet you wouldn’t say that during those 3 months the iPod cost the nation $3.4 billion. Yet by means of contrast, what remains alarming about healthcare and education is that, however you look at it, we haven't found a way to let them thrive. Some sectors do flourish, but on the whole the industries really do “cost” the economy quite a lot of money.

Our current problem is that we haven’t figured out a way to integrate these areas into the economy. The question is not “how do we minimize the costs health care and education upon the economy?”, it’s “how do we make them a part of the economy?” Lots of government regulation and subsidies, I suspect, aren’t the answer. But either way the debate is too focused on minimizing their negative impact.

The success of the automobile industry hinged on not only better cars, but on cheaper cars as well – this was the famous recipe to Ford’s success, that he was able to tap an economy of scale. In contrast, healthcare and education in the US are, by any measure, diseconomies of scale. And yet as national employment continues to decline - with manufacturing taking the biggest hit - service-based employment is growing substantially, and projections suggest that it will continue to accelerate with healthcare and education leading the way. Looking forward, it’s hard to imagine a successful future economy without these 2 industries on board.

-KJ

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Media (in order of appearance)

Photos: (1)CROP CIRCLE MAKER - Matthew Williams, 06/07/2007, Mark Berry; (2)USA 2005 (October 1st) Nevada, Reno, National Automobile Museum, 02/25/2008, by Paraflyer; (3)The Causes of the Great Depression/FDR Memorial Site, 09/15/2008, Tony the Misfit; (4)2008AUG121654, 08/12/2009, bootload; (5)Gesundheit, 04/01/2009, by Gunnar Ries; (6)iPod Family, 02/09/2007, by CokeeOrg; (7)Class, 12/04/2007, by Nik Lee. Sphere: Related Content

Complexity vs Simplicity...and Specialization

Since I was a kid I’ve had an ongoing debate in my head about whether the world is complicated and hard to understand or whether it’s actually quite simple and straightforward.

I know, it’s a silly question, and of course, the answer is relative to your perspective, or to the question you’re asking, or to what you’re trying to get out of things. Still, though, whenever my head goes down that road of thought – the one that deems the question silly – it’s clearly coming from the analytic – maybe read complex – part of my brain that wants to break everything down and attach qualifiers to everything it sees. That’s the pro-complex side in the debate talking. It deems not only that the world is complex, but, more importantly, that this is whole question is worthless and unfocused because we have to get back to work and figure more things out.

Nonetheless, this little debate has stayed with me for quite some time – almost in a nostalgic sense, like a pop song that you like when you’re young, and as you return to it throughout life it takes on new meanings. I’m not sure what’s fueling it. I think it’s a nagging feeling that life is pretty simple, but we just make things artificially complicated for ourselves. That’s the pro-simple side of the debate. Recently I’ve been erring towards the simple side. Maybe it’s because I need to think less and do more.



But as I think about it more, the problem seems to be that when you look into phenomena, you can either raise more questions or consolidate phenomena. On some level many of us are familiar with both of these outcomes, and at times they go hand-in-hand. The ability to raise more questions is what drives knowledge – it’s that section at the end of a research paper that states future directions for your research; more importantly, it’s that intuitive feeling that the more you learn, the more you discover you don’t know.

And yet we’ve all had that feeling where we solve a problem, life is better, and, well, that’s that.

Although if the drive for knowledge ever became complacent in its footsteps – as if it were to accomplish some new feat, and say to itself, “That’s just what I was looking for. We’ve made such great progress that I feel like I can take a break for a while and bask in the glory of my achievements” – well, then it would have stopped a long time ago.

At the same time, this endless drive forward produces a more fragmentary and disconnected picture of things, where further endeavors become more exacting and less relevant. We’re back at the complicated side of things.


The saving grace is that all of these bits of explanations will eventually be consolidated, somehow sometime. The individual study of such disconnected areas as the color of pigeons, speciation of dogs, beaver dam-building, and barnacles might leave one with an incoherent view of things, but it left Darwin with the puzzle pieces to propose evolution by means of natural selection. For every system of Ptolemaic complexity I presume there must be a Copernican revolution waiting on the other end to fix things. It’s just that the turnaround time can be slow, and that the whole thing only becomes obvious in retrospect.
Most importantly however different fields are more or less open to change, and this is where that nagging pro-simple feeling – that we’re making the world artificially complex – returns. On the one hand, the modern sub-division of scientific fields might actually reflect true scientific progress along with the real nature of the things. On the other hand, there may be artificial or economic reasons for keeping things so complicated. Afterall, the time-consuming credentials required to practice science or medicine inherently pushes those professions towards further specialization. This specialization might not be a bad thing, as per Adam Smith the modern economy is based on it, but it can become suspect when – unlike private or less regulated areas – the costs of entry are greater than the out-going benefits, creating diseconomies of scale like our health care system (or, more questionably, like science...I'll have to think on that one some more).

From another perspective, the pro-simple side of me keeps wondering what that Copernican revolution – or even just a bit of genuine scientific consolidation – would look like in various fields. Its benefits I’d think would have to outweigh the pressures pushing towards specialization.

-KJ

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Media (in order of appearance)

Photo: (1), (2), Metamorphosis series by MC Escher; (3) S'more Peeps!, 03/03/2008, by Rory Finnerman;

Video: (1)Music video, from The Beatles 56 Channel, of the song "We Can Work it Out" by The Beatles, released as a 1965 single. Sphere: Related Content

Healthcare: A Diseconomy of Scale

Economic recessions offer the benefit of making inefficiency more costly. During times of plenty, we can tolerate mediocre businesses or bad public policy; but during a recession they come under heavier scrutiny. This appears to be the case for medical care. The Washington Post reports that

For years a booming economy camouflaged the burden of medical debt. Patients borrowed against their homes or whipped out credit cards, including some specially designed to pay medical or dental bills. But falling house prices and tightening credit have eliminated those options for many.

It’s long been recognized that medical care in the US needs improvement, it’s just that when the economy was good we could afford its extra costs. Michael Moore’s documentary Sicko – a polemic rant about our lack of universal healthcare – was released in the summer of 2007, which was one of the decades’ most prosperous economic times. Only now, with money tight, are we forced to do something about it. An estimated 78 million baby boomer retirees are thought to further weigh down the future of medical care. However, I’ve always been baffled about the inability of our medical care system to take advantage of economies of scale.

What are economies of scale?

An economy of scale refers to the advantages a business gains from an enlarging consumer base. It’s a piece of economic jargon, but don’t let that throw you: Knowledge in modern times is heavily fragmented, so fields of study are constantly adopting new idiosyncratic jargon-terms, with the unfortunate result of often alienating outsiders and novices. Economy of scale however is one of the most valuable concepts in modern times – even outside of economics – because, by any scale of measurement, the world’s stage is getting larger. The future of truth and knowledge itself – epistemology – is likely to be interwoven with this principle of economy of scale.

The principle is pretty simple. At its heart is an exchange of capital for economic security. For instance, a full-time job that pays $10 an hour is often more valuable than a temp-job with erratic hours that pays $20 an hour. In accepting the full-time position, you’re trading the potential extra earnings of the temp-job for the economic security of knowing your salary for certain. Likewise, when you buy large quantities of goods, you’re guaranteeing a supplier economic security; suppliers often offer discounts in return. That’s why products at stores like Best Buy or Costco are inexpensive.

Ford’s Model T car is the classic example: By marketing the car towards the general population, Ford Motors drew in large quantities of capital, which made it cheaper for them to buy supplies and hire permanent workers. If Ford only bought enough supplies for 1 car and hired a temp to construct it, then the Model T would have been unaffordable for most people; on the other hand, if Ford mass produced the Model T and it turned out to be a flop, they’d have gone bankrupt.

The Model T was of course a hit and the investment payed off over many times. Inventors were playing around with cars long before Ford, but Ford’s ability to tap economies of scale made cars accessible to the population at large. The automobile went on to revolutionize our economy more than any other single invention. Likewise, Microsoft popularized the computer by marketing an operating system accessible to non-geeks.

Economies of scale have fueled such transformations, which would’ve been impossible without enough capital and without enough people. People – in both quantity and quality – are an economy’s best asset.



That’s why international trade sanitations against foreign nations are so harmful: When a nation is left to fend for itself it can’t take advantage of economies of scale. The harms of trade sanctions are escalated as the world population grows: If there are only half a billion people in the world, and a nation is cut off from four-fifths of them, then they’re not missing much; but if a nation is cut off from 5 billion people, then they’re missing much more.

A similar effect occurs when groups of people cut themselves off from the rest of the world in order to become “self-sufficient”. Self-sufficiency will always be difficult regardless of the world’s population, but as the world population expands, the drawbacks of self-sufficiency become more obvious. The Amish for instance weren’t so different from the original American settlers; but today their differences from mainstream America are magnified tremendously.

Self-sufficient groups such as hippie communes lack any economy of scale. In fact, you might even say that their isolation makes them anything but sufficient. It’s not just that they miss out on this or that technology, they also miss out on all the opportunity created by technology: The time saved through efficient transportation, or a PC’s computing power.

Likewise, protectionist international trade policies, or the push to make the US "independent" from foreign oil, isolate us from economies of scale. The costs of such policies often outweigh the benefits. And these costs extend beyond the extra money we're forced to pay; they retard progress as a whole.

Healthcare's "impending crisis"

…all of which is why a predication such as the the following would be a blessing to almost any industry except for medical care:

We face an impending crisis as the growing number of older patients, who are living longer with more complex health needs, increasingly outpaces the number of health care providers with the knowledge and skills to care for them capably. (CBS News, 04/2008, quoting John Rowe)

Say, for instance, we find out that, without a doubt, in 10 years, a quarter of all 18 year-olds will purchase a new MP3 player. As early as possible, Apple would plan to mass-produce more iPods at more competitive prices. As the leader of the industry, Apple’s stock would soar immediately. And as a direct result of the expected economy of scale, the price of iPods and other MP3 players would fall significantly.

But in healthcare an influx of customers is a crisis not a blessing. This maybe because health care is different: It’s a service industry, and it relies on insurance and risk. But at the same time, other service industries – such as IT support - have adapted to increasing demand. Now is in fact the best time in history for your computer to break down, since so many other people own computers. If there were only 500 other computers in the whole world, and yours broke down, you’d be SOL. Likewise for your car. Yet the point remains that health care lacks such a safety in numbers; on the contrary, it has a danger in numbers.

The problem is that advances in healthcare haven’t been applied to economies of scale. It’s like in the early 20th century, after the car was invented, but before it was mass-produced. I suspect that the difficulties in boosting health care through economies of scale are due structural inefficiencies rather than a lack of technological advancement.

Consider for instance the costs involved in becoming a doctor or in producing drugs, which include huge sums of both money and time. These costs are inevitably passed onto society at large. Additionally, anti-competitive practices such as social security and medical care leave no incentives for cost-cutting or increased efficiency. Some liberals might shiver at the prospect of business profiting from elders' health problems. But the costs of our present system are too great. Indeed, the current system benefits much more from high-cost solutions to medical problems than from low-cost solutions. Similar to trade sanctions or hippie communes, the flaws of poor healthcare policy only become more apparent as the world gets bigger.

And herein lies economies of scale’s epistemological import: As populations continue to grow, advancements in cost-effectiveness will become more important than other types of scientific or technological advancements. This is somewhat counterintuitive because we tend to think in categorical terms. Medical science seeks cures, not ways to save money. But with more people in the world, the benefits of less expensive treatments are more pronounced. It’s not just that they save lots of people lots of money, it’s that they free up lots of money for society to pursue other problems.

The debate on healthcare in America is backwards because it’s from the perspective of who should pay the bill, not how we can lower it. From the perspective of society at large, at any given moment, it doesn’t matter who pays off patients' debts – it still costs society the foregone alternatives of applying that capital elsewhere. In other words, the expensive cost of medical care will wreck havoc on society regardless of who foots the bill.

Thomas Sowell points out that modern times are unique because for the first time in history the poor and middle classes combined have more capital than the wealthy class. This is why economies of scale are important. And it’s why – if you measure time by the quantity and impact of significant events each year – time is exponentially speeding up. Unfortunately, sometimes we’re forced to advance by learning from bad policy, which can take years to start reaping rotten fruit. But properly harnessed, economies of scale will propel us into the future. We have the requisite capital, know-how, and gumption. Most importantly we have the people.

-KJ

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Media (in order of appearance)

Photo: (1) Crowds in Hong Kong, 12/22/2008, by LipJin Lee; (2) Costco, 12/16/2004, by Ryan Ozawa; (3) Old but not forgotten, 05/19/2008, chisdonia; (4) Life in Orange County, Indiana, 02/28/2007, by Cindy Seigle; (5) Ginza 銀座, 09/16/2006, by Nathan Duckworth; (6) Medical insignia; (7) faster than the speed of light, 12/28/2007, by Via Bulatao.

Music: Music video, 09/22/2008, from KERAKO's channel, of the song "TNT" by Tortoise from the 1998 album TNT. Sphere: Related Content