Episode Transcript
[00:00:00] Speaker A: Arvind, welcome aboard to the show today.
I am so excited to speak to you. I'm going to jump right in. What is economic freedom?
[00:00:10] Speaker B: Ah, so economic freedom for me is the ability for individuals to have a financial freedom and live their lives in a way that is meaningful to them and to society. So you pursue your own goals. And in pursuing those goals, the natural byproduct is that you're helping those around you as well.
[00:00:35] Speaker A: Amazing. And what are the building blocks? What are the elements that go into describing or quantifying economic freedom?
[00:00:45] Speaker B: So you know, people have studied this question in different dimensions. So, you know, typically if you're looking at, from an academic perspective, people would define economic freedom for countries, for metropolitan statistical areas and so on. And it's a growing field where there are different metrics so as to say on which those are measured. So if you're talking about geographic units, then it is usually a measure of government freedom, some labor market freedom and a few other metrics. But it's really, you know, how you construct it based on the data.
[00:01:28] Speaker A: Essentially, I want to unpack the, let's say, and we want to keep this very high level, not dive into, you know, statistical and research level data, but at a high level, what are the elements or the hypothesis behind economic freedom? Meaning if we have a larger or smaller government, then what might happen? What are the kinds of things that we're seeing through this research?
[00:01:55] Speaker B: Sure. So typically we find that when there is, you know, less government intervention, there is more ability for individuals to pursue different objectives and maximize well being. So, you know, it really just boils down to individuals pursuing their own specific objectives of making decisions on where to work, being part of, say, labor market unions and so on.
[00:02:36] Speaker A: And I should share with the audience that you've done some research in the field as well. I'm curious, what were your surprising insights or pieces of data that you saw that you did not expect? They were kind of counterintuitive.
[00:02:51] Speaker B: Yeah. So the research that we have done, we've mostly looked at the statistical properties. So, you know, economists in particular have only just constructed those indexes which have not really been challenged. So me, along with some co authors, we primarily looked at the statistical properties because, you know, what was done in the past was simply looking at certain subindices and just weighing them equally and they may not line up in the directions one would expect. So we just played around by applying different weights and we found that there are more efficient ways to create the economic freedom indexes.
[00:03:42] Speaker A: So let's unpack this For a second, explain to us what are the economic freedom indexes, what they provide, how they use them, and what they actually mean.
[00:03:52] Speaker B: Sure. So we've looked at metropolitan statistical indexes, and in a metropolitan statistical index, it basically is made up of three different subindices. So there'll be a component of government spending, there will be a component of taxation, and there'll be a component of labor market index. And essentially the idea is that you want to rank areas as per high and low economic freedom index. And based on this economic freedom index, you would expect that areas that have higher economic freedom index, they would have generally nicer economic outcomes in terms of higher incomes, in terms of lower unemployment, and so on. So it is literally the idea is to show that areas that have higher economic indexes would do better on economic outcomes. And then there is a huge set of audience that uses these indexes to suggest different types of policies. So look at. Good.
[00:05:09] Speaker A: Well, so really what I heard you saying is that the less frictions there are in the, in the market, the less spending there is than the larger, let's say, the productivity of that community is.
In layman's terms, do we see this happening around the world? Can we point out that, you know, this country has much more rigid policies and these ones are it's much easier to do business, and that really ties to GDP or salaries or anything like that. What's the, what's the anecdotal evidence that we're seeing?
[00:05:44] Speaker B: Yeah, so, you know, generally you would find that, you know, Western countries where the, you have better institutions, maybe a little bit of regulations that might standardize the labor markets, like, you know, like a little bit of, say, unions or some labor laws can be helpful, not too much as opposed to maybe just absolutely no labor laws where maybe labor can be exploited. So typically you find that, yeah, you know, Western nations, say, would do better on these economic indexes, and they also do better on the economic outcome. So, yes, there is. You know, a lot of times you would, you would, you would, you would see those expected outcomes.
[00:06:33] Speaker A: So that's a really interesting point.
Is the objective to have, let's say, if we're counting on a percentage scale, is the objective to have 100% economic freedom, or is that not necessarily the best outcome?
[00:06:48] Speaker B: So these usually are relative rankings of countries. But I would also say that there is consensus amongst the economists that 100% economic freedom is not necessarily good. You know, you might want a little bit of regulation to keep things in check. You know, otherwise, you know, in pursuing the profit Motive, people might break rules and that might not be very optimal as well. So a little bit of, a little bit of rules might be useful.
[00:07:21] Speaker A: So part of what you do is you kind of think of legislation and if it's valuable or policy, I should say valuable or not. How do you basically look at a certain policy and think about it, well, is this helping or might this actually do harm?
[00:07:38] Speaker B: Sure. So we as economists conduct experiments. Now, unlike physicists, many times we cannot run the entire experiment. So we are relying on natural experiments. So if maybe in a specific country a certain political party came into power and then they might just swap change policies, we would exploit that natural experiment to study the effect of the policy on an economic outcome. So in econometrics, which is using statistics to answer economic hypothesis, we would look at ways to exploit such changes and get causal estimates of how does a policy impact a certain outcome and establish the economic hypothesis by, you know, looking at the statistical significance and other aspects. So there are a huge range of methods. Usually we need data and we are dealing with observational data to provide some evidence for the claims that this policy is having a certain impact. And if it is positive or negative. The good thing is that, you know, economists do tend to cross verify our work. So from the same data, I might have a certain inference, but my colleagues might have a slightly different inference. And then it's just peer evaluation and differences of opinions occur. And that's why we like debates to hide our, to fix our blind spots and improve the science.
[00:09:20] Speaker A: I love that. I mean, this concept of peer reviews and longitudinal studies, I mean, that's such an important perspective when you look at really validating that the assumptions and the conclusions actually have merit, which I think is such an under misunderstood or understood by the larger public. I want to ask you a question, and this is a hard one. Okay. I want to dive into a specific, very newsworthy topic today, and that's the tariffs. Now I know that you focus more on micro than macro, so I'll ask your permission if we can dive into this.
[00:09:59] Speaker B: Absolutely.
[00:10:01] Speaker A: I think this is the most misunderstood topic today. And it's suddenly something that everybody's speaking about. Nobody understands is what I would argue or most of us don't understand.
Let's start from a simple question. What is a tariff?
[00:10:15] Speaker B: Tariff is just a tax on imports. And essentially what that does is it increases the price of goods and services that we are buying in America. We are importing a lot of products, especially from China and you know, rest of the world as well. And there Is a belief amongst say, you know, non economists that hey, if we impose tariffs we are then protecting the domestic industry. But Econ101 would suggest that that is not true. Yes, you would put the economic incidence on the goods that are being from rest of the world, but that is different from.
You'll put the legal incidence of the tax from the goods that are being imported. But that's different from the economic inc. The economic incidence of the tax which is who faces the economic burden falls on the party that has the inelastic demand for that product. So even if you are taxing the goods that are coming from China, it'll be Americans like you and me who would see the increase in prices and we would be hurt because we are, for us the products are more expensive and our purchasing powers decline. So you know, just taxing goods, the foreign, foreign produced goods by putting tariffs would hurt almost most of the Americans. Yes, there will be some Americans that would win, maybe the ones that are producing those goods, but most of the consumers might be worse off.
[00:11:58] Speaker A: Okay, I want to unpack this because like any good economist, the answer is it depends. So, so in essence what we're saying is that when we impose a tariff on a certain good, really we are saying that the person that is exporting those goods into America has to pay that tax.
[00:12:21] Speaker B: Now it's collected from him. Yes, that's the port. Yes.
[00:12:25] Speaker A: It's actually an import tax, so to speak. That's what tariffs are. Now what you're saying is your first statement is that oh, if you're putting an import tax on me selling stuff into America, I'm just going to increase the price.
[00:12:37] Speaker B: Absolutely.
[00:12:38] Speaker A: So if I'm just going to increase the price, what that means is that good, let's say a PC or oil or whatever is going to be more expensive for the American people. Now I want to break this down into very simple examples and forgive me for doing so if you are, and you talked about this and I don't want to get into elastic and inelastic, but let's explain it in a different way. If you're the only person in the world that has that good, or even if you have 50% of those goods in the world, that means you're a huge, huge, huge seller of that good, I impose tariffs on it, Then what's that going to do?
[00:13:17] Speaker B: If I need that product, say it's a certain medicine and I cannot change my consumption pattern, I cannot go to anybody else and get their medicine. I have to bear that brunt of higher Prices. And thus, as a consumer, I lose. As an American consumer, I lose. Perfect.
[00:13:35] Speaker A: So you have. Yeah, go ahead. So if you have no option to buy from anybody else, you're definitely paying a higher price.
[00:13:42] Speaker B: Absolutely.
[00:13:43] Speaker A: What happens if there is an extremely competitive market? Right.
That means that you can buy the goods here in the United States, you can buy the goods in China and in Mexico, and you only apply a tariff on the Chinese goods.
[00:13:59] Speaker B: Sure. So the most obvious scenario would be that the American products that are being produced, their price does not change, while the Chinese good, the price of that increases. And if it increases more than the price of the American good, and you're assuming that the quality is the same, then consumers will switch their consumption pattern and buy the American good, which then creates more jobs in US and all the other goody goody stuff.
[00:14:30] Speaker A: And I'll go even for a third scenario. If what we're increasing the tariff on is something so basic that everybody uses it, like plastic or crude oil, which is used for our Amazon trucks and for everything else, what's that going to do?
[00:14:49] Speaker B: So if we increase the price of a very basic good like oil, which you need because everything is transported within the economy, it would increase the general prices. So, you know, that would basically result in higher inflation because transportation costs are increasing.
But of course, you know, if I don't want to get into the politics of it, but you know, there is this slogan or, you know, this, this phrase that got pretty popular by the new President elect Trump, which was a drill, bravy drill, you know, which was him basically saying that, hey, let's just drill the American oil. And if we can, if we are producing more oil, the price of oil would reduce, which then naturally would get passed on to the American consumer because average price levels fall.
[00:15:41] Speaker A: Right. So let me. Based on everything that you've explained, I think we, you know, at this stage, you know, the both of us in our audience would actually agree that it depends, it depends what the tariffs will be like, what they will be applied on to which country. There's so much complexity in this topic that when I hear somebody saying, oh, tariffs are good, tariffs are bad, I'm like, no, both of you are basically wrong without additional details. So I really appreciate that there are.
[00:16:13] Speaker B: Always winners and losers of each and every policy. And that's why you have lobbying in Washington, D.C. usually we find that producers of the goods are more organized, the consumers are not, because they're much more spread out. And, you know, even while the gains might be much higher to the consumers on a Per capita basis, it's much lower. So they don't organize themselves nearly as well as the producers.
[00:16:40] Speaker A: This is such an important point. So let me give you an example, right?
How many big producers of sugar are there in the United States? Are you familiar with this story?
[00:16:54] Speaker B: No, but I'm suspecting maybe four or five.
[00:16:57] Speaker A: It's probably an oligoptery, so I won't get too political. But, but basically when these guys, the sugar barons, the sugar brothers, when they go, they give money both to the Republicans and the Democrats and this increases their income because there's basically they're preventing sugar from coming from other places in the world. Increases their income by billions of dollars.
The point is that that increase for the American population increases one bag of sugar by maybe 15 cents.
So, so why is that so important? Because what Arvind is saying, basically that there's a small group of people that this is an incredibly important issue for, for them, can make them billions of dollars. And they're gonna go and they're gonna intervene in politics and whatnot. But then the rest of us are like 15 cents. Like, okay, like this did not really impact me. And this is a fundamental problem that we actually see quite a lot. So I really appreciate your point. Is there other examples where this is happening and it's really to the detriment of the greater good?
[00:18:12] Speaker B: There are very well documented examples of such lobbies. But I also do want to point out that, you know, in, in US we do have certain bodies, you know, like the Antitrust division, you know, the Department of Justice, that actively try to make sure that firms are not exploiting their, their monopoly power or indulgent in anti competitive practices. So, you know, big tech, for example, is often under their scrutiny. But that is a little bit different from the political economy argument which you are pointing out.
Usually there is not much you can do when there is political lobbying because that is not really illegal per se. But anti competitive practices. Yes, there are laws against it. And that's why you'll often hear the DOJ pursuing Google or Amazon for all kinds of violations. And they can be very, very innovative to make sure that the profits remain high and kill smaller companies to increase their profits.
[00:19:30] Speaker A: Yeah, I thought it was interesting. I saw some, I won't mention who the person was, but they were basically like, oh, they wanted to introduce this new compliance. And this is the person who was responding to it was a very large company in the United States, a very famous name, everybody knows, knows of this person. And they were asking, oh, what do you think about these compliance requirements. And his answer was like, oh, it's fine, it's no problem. Now, initially to me, that was like, wait, why would, why would he be okay with additional compliance and additional requirements? And it took me a moment to figure this out. You're nodding, so I think you have a guess.
[00:20:17] Speaker B: Yeah, no, I have a similar example in mind as well.
So, you know, in the us, the surgeons and physicians, they get paid quite a lot, right? And that is because their regulatory authority, they restrict the number of doctors or physicians you can have under the guise of quality control, right? So they just have such hard exams or, you know, they don't just let too many doctors come into the system and that might keep medical service prices relatively high. When, yes, I agree, maybe you cannot train many of the people in us, but you have a relatively big supply of physicians and surgeons from around the world who would be willing to come to the US and work. You just have to make it slightly easier for them to just convert their international credentials into US credentials. But, you know, the process remains very tedious for them. So that, you know, there is a certain group that might capture disproportionate rents and that might be at odds for the interests of, you know, the general population who might want these services at a cheaper rate.
[00:21:33] Speaker A: That's. That's exactly right. I mean, if a legislation can pass, that will make it harder for people to compete with you, right? You can easily, you have the legal team, you have the people, you can easily meet this compliance. But what this compliance is going to really mean is that no new entrants or new doctors or new companies or new car manufacturers can come in. Actually, that's creating what we call a barrier to entrance, meaning that it's protecting your market, it's protecting your business. So then when I thought about this, I was like, yeah, obviously this is not something that this person would object to and we only think about it from the quality perspective. But the truth of the matter, and I'll give you an example, we have a lot of compliance and requirements around security, but the people in the industry know that these SoC2 and ISA 2701 know that you can be compliant with without being secure. So many times these aren't really giving quality additional quality. Many times they might be just additional tasks and checkboxes and just require you to have the money to do it, stopping startups from being successful in meeting these requirements. So it's a really interesting argument.
Arvind, this is so much fun. I feel like too much in the American society, we are having discussions at the slogan level and not really thinking about what things mean and how they can be a little bit more complicated and why we have to have a deeper discussion. So I really appreciate you taking the time to go through this. What are you excited about now? What's your next research? What are the questions that you're thinking about?
[00:23:16] Speaker B: So I have been looking at the telecom market in India, where I'm from. So, you know, the interesting thing about the telecom industry in India is that there was this big player that came in with the 4G technology and it entered the entire country, and it brought very cheap Internet to the entire country. And what has happened there since then is that there's been a huge consolidation. From about 15 players, you now just have basically five or six. And I'm working on a dataset that gets the prices, the quantity of subscribers, and the quality of the service and trying to do a little bit of demand estimation and look at the impact of mergers on prices and quality.
[00:24:15] Speaker A: That's such an interesting question. Let's break down the potential, because you're still doing this research. So we don't want to say any conclusions, but what are the potential hypothesis processes or ideas that a cheap service brought in by one company would create such a consolidation? And we tend to think that having, you know, fewer players in the market is actually a bad thing. So what are the ideas that could even drive such a thing?
[00:24:42] Speaker B: So, you know, I don't want to jump to conclusions as well, because I do think there are some antique. You know, there are some things that a rational firm would do, you know, like maybe for. For a certain amount of time, keep prices low, even if you're running into losses. And once your competitors are out, you try to increase your prices. But it's hard to prove if it is predatory pricing because you. A lot of times we cannot observe the costs of these companies, and that has to be inferred.
[00:25:19] Speaker A: Hold on. I want to. I want to. I want to slow down because this is. This is so exciting.
Basically what you're saying is that a very wealthy organization is able to take prices below profitability.
Now, what that means is that nobody can make money at this price.
That's basically what it. What predatory pricing is. It means that everybody's losing. Now, that sounds dumb. Why would anybody price the market under profitability?
[00:25:54] Speaker B: Because there might be a time dimension of the profits. You might make a loss today, but you might make profit tomorrow and the day after tomorrow. And when you discount that, it still might Be a profitable move.
[00:26:05] Speaker A: Okay, so how does that work though? By reducing the profitability for everyone. Some people might run out of money and shut down.
[00:26:13] Speaker B: Absolutely.
[00:26:14] Speaker A: Now you've shut down all these other players, so now you've actually reduced competition.
And then what happens is that the players that are left have a bigger pie to eat and then suddenly maybe prices go up.
[00:26:27] Speaker B: Yes.
And there are some case studies where this has been analyzed in the US airline market in 1997, where you know, certain companies that entered certain routes, so Boston, New York might be a route they enter there. They just lower prices below that costs.
They get all the traffic and the other competitors exit. Then they increase the prices. Now it's relatively easy to still figure out what is the cost of an airline company because it's still more of a traditional technology. Yes. The issue in this market here is that in India when everyone was using the 3G technology, which is, you know, Internet of. We in the US we are in 4G and maybe 5G. Now in India, everyone was using 3G technology and there are spectrum auctions for that. This company, it came in with 4G technology. So proving predatory pricing is much harder, you know, because the entire cost structure is different as well. So you don't know if the lower price is because they have a superior product or if they are pricing below profitability, which would have been a violation of antitrust laws.
[00:27:44] Speaker A: I mean, a clear indication if they're trying to basically kick competitors out of the market is if they increase their prices dramatically, whatever a year or so later.
I would hope there are laws that would, you know, or that doesn't exist.
[00:27:58] Speaker B: But that is also a natural consequence. Right.
If competition is less, you would increase your prices. Just profit maximizing firm. And that's why we like competition.
[00:28:13] Speaker A: I mean, this is a whole different kind of chicken and egg problem. Right. How do you know why they're doing it? I really appreciate that insight.
I don't know. I am super excited about these topics because I think it shows a level of complexity that we really don't understand about our world, but is I think incredibly interesting. So I appreciate you coming on today. Arvind, I want to ask you one final question. If you had to go back and advise 20 year old Arvind, or think about the new, our younger generation coming into the labor market, what would be your advice?
[00:28:56] Speaker B: I would say, given my experience now is that just pursue something that you love and stay in it. Don't change directions. I think today, you know, with the amount of information that we consume, something looks glamorous and the next day something else looks glamorous.
For example, a lot of people had been podcasting during COVID Most of them quit in six months. But it's really the people who sustain in a certain line over years and years. You build that competitive edge, your cost of doing the same action reduces. That's what I think the real returns are. So I would just say just commit to one profession or, you know, one subject and stick in it and choose something that you like.
You know, there are, you know, us is still one of those places where you can pursue your passions and still make money no matter what you're following. So it was just be just find something that you like and stick in it for a while and then decide if you want to do something else or not.
[00:30:19] Speaker A: Arvind, thank you so much for your time today. I appreciate you.
[00:30:24] Speaker B: It was great talking to you. Ari.
