Market Power

The Problem with Vioxx

Craig Newmark calls our attention to this Washington Post article about lawsuits on drug companies (specifically Merck and their Vioxx drug):

Co., the makers of the painkiller Vioxx. Mr. Humeston wants compensation for the heart attack he suffered in 2001, two months after he began to take Vioxx. The facts of the case would seem to give Mr. Humeston little chance. Not only do studies of Vioxx show that the risk of heart attack is linked to use over a much longer term, but Mr. Humeston was, like many other middle-aged men, at risk of a heart attack for other reasons, too.

Unfortunately for Merck, scientific facts didn't play much of a role in the first Vioxx trial, which ended on Aug. 19. The Texas jury in that case awarded $253.4 million to the widow of a man who died of a heart attack triggered by arrhythmia, which is not a condition Vioxx has been proven to cause. The jury, declaring that it wished to "send a message" to Merck, decided to make an enormous symbolic award anyway. Besides, said one juror afterward, the medical evidence was confusing: "We didn't know what the heck they were talking about." Because Texas law limits the size of jury awards, the final cost to Merck is likely to be closer to $2 million. But the precedent set by the jury is ominous. Merck is facing about 5,000 similar lawsuits. If every one of those costs the company $2 million, the total price will come to $10 billion -- if, of course, a company called Merck is still around to pay it.

Politicians and regulators should be asking themselves whether a system of massive cash awards to people who may or may not have been adversely affected by Vioxx is a logical, fair or efficient way to run a drug regulatory system. They should also be asking whether juries that scorn medical evidence are the right judges of what information should or should not have been on a prescription label. After all, Vioxx was produced and sold legally. The drug was approved by the Food and Drug Administration, and its label did warn of coronary side effects. It is possible, even probable, that Merck was negligent in its decision to ignore early warnings of the cardiovascular risks of Vioxx. But the company has already paid a price for that negligence, in the losses it has suffered after abruptly taking Vioxx off the market. Fair compensation for the injured needn't entail disproportionate financial punishment as well.

In the long term, using the courts to "send a message" to Merck isn't going to help consumers. If the result is an even more cautious FDA approval system and a more cautious pharmaceutical industry, that will keep innovative drugs off the market for much longer. More people will die waiting for new treatments. The cost of producing new drugs will rise dramatically. Already, there are whole areas of medicine -- women's health during pregnancy, for example -- that are made so risky by liability issues that companies may stop doing research in them.

Nobody wants to have shoddy medicines on the market.  But the answer isn't the rigorous public involvement in the drug development that we see today.  Private people interacting in markets can and do hold companies that sell crappy stuff liable - not in the legal sense but in the sense that they will think twice when buying from that company again.  In addition, recall that last year's flu vaccine shortage in the US was largely due to too much public involvement in the market for flu vaccines.

People Don't Respond to Incentives

Yup.  It's all a big lie.  All I've taught in Principles of Micro is a big lie.  People don't respond to incentives.  For example, people will treat bikes they don't own as well as those they do own:

Despite a 2004 trial run at St. Cloud State University that didn't produce great results, the yellow bike program is back this year.

Out of about 20 donated bikes intended for students to use for free to commute locally and on campus, only four survived the last academic year. And those were in rough shape at year's end.

The program takes its name from the bright color the donated bikes are painted before being randomly parked around campus for students to use.

Failure of the program can be credited to students' lack of respect for the bikes and disregard for the program's potential benefits, said Grant Schnell, student manager at St. Cloud State's Outdoor Endeavors office.

..."It didn't work out very well. Basically they all just got ruined," Schnell said. "In one instance we found a rim wrapped around the entire front fork of a bike." Other bikes disappeared, he said.

It might come as a surprise that along with a new crop of about 15 more bikes, the program is back for another round this year.

Aw shucks, it must have been a bad draw.  Everybody gets unlucky sometimes.

Wrong!  When people don't own something they use, they tend to be rougher on them.  How can the yellow bike program provide more benefits to society than it costs?

HT to King Banaian (I'm spelling it right!) at SCSU Scholars.

Perfect Substitutes?

In a recent email exchange between myself and Professor Palmer, he described an example he uses in an intermediate Micro class when he teaches the topic of perfect substitutes (two goods that do exactly the same thing for you).  John uses two different brands of beers as his example.  How do you choose when faced with two goods that you think are perfect substitutes?

I just faced that question about an hour ago.  I arrived in Columbia and stopped off at my favorite brewpub to have a beer and, more importantly, use their wireless internet.  They currently have a lucky 13 beers on tap, none of which taste anything like North American lagers.  Some I would not touch.  But I narrowed down my choices to three:  their Oktoberfest, their Belgian Wit, and their Schwartzbier.  I tested all three and narrowed the choice down to the Oktoberfest and the Schwartzbier (the Wit was too light for the fall weather today).  Both were priced the same.  How did I choose?

Here's what I chose.

Sex as a Giffen Good?

From Tyler Cowen over at Marginal Revolution:

These demand curves are the exception rather than the rule, but nonetheless they appear to exist:

One sex worker...explained why she no longer offered her favorite clients free sex or cheaper rates: "They pretend to be flattered, but they never come back!...There was one client I had who was so sexy, a tai-chi practitioner, and really fun to ****.  Since good sex is a rare thing, I told him I'd see him for $20 (my normal rate is $250). Another guy, he was so sexy, I told him "**** for free."  Both of them freaked out and never returned...They don't believe they can have no-strings-attached sex, which is why they pay.  They'd rather pay than get it for free."

That is from The Purchase of Intimacy, by Viviana Zelizer. 

I have two reasons why I doubt this is an example of a Giffen good:

1.  The guys are not getting the same good - no-strings attached sex is not the same as strings-attached sex.  It seems the men are using price as a signal to ascertain something about the girl.  The low price could well mean that each thinks there are more likely to be strings attached.

2.  For a good to be a Giffen good, it needs to be an inferior good.  Is it reasonable to assume that when the average income of consumers of sex fall, they are willing and able to buy more sex?

This Would Make Hayek Smile

Economists and sociologists often don't view the world in the same way.  But here is something that might make the most-ardent free market economist smile ($$$ req'd):

One of the central tenets of disaster sociology is that most communities can, to a large degree, spontaneously heal themselves. People affected by disaster obviously often need resources from the outside world -- food, water, shelter. But that does not mean that disaster victims also need outside direction and coordination, most scholars in the field say.

A prime example of spontaneous cooperation was the extraordinarily successful evacuation of Lower Manhattan during the September 11 attacks. James M. Kendra, an assistant professor of emergency administration and planning at the University of North Texas, estimates that nearly half a million people fled Manhattan on boats -- and he emphasizes that the waterborne evacuation was a self-organized volunteer process that could probably never have been planned on a government official's clipboard.

"Various kinds of private companies, dinner-cruise boats, people with their own personal watercraft, the Coast Guard, the harbor pilots -- in very short order, they managed to organize this evacuation," Mr. Kendra said.

If Friedrich Hayek read this, I believe it would make him smile.

Microsoft and Competition

Is Microsoft a monopoly in the operating system market?  In the textbook definition, no.  Does Microsoft have market power in this market?  Most certainly, yes.  From a recent Wall Street Journal article comes an article about the challenges facing Microsoft as it faces increasingly stiff competition.

The news got even worse: Longhorn was irredeemable because Microsoft engineers were building it just as they had always built software. Throughout its history, Microsoft had let thousands of programmers each produce their own piece of computer code, then stitched it together into one sprawling program. Now, Mr. Allchin argued, the jig was up. Microsoft needed to start over.

Mr. Gates resisted at first, pushing for Mr. Allchin's group to take more time until everything worked. Over the next few months, Mr. Allchin and his deputies would also face protests from programmers who complained he was trying to impose bureaucracy and rob Microsoft of its creativity.

Ultimately, Mr. Allchin's warning proved cathartic and led to what he and others call a transformation in Microsoft's most important product. A key reason: the growing threat from rivals such as Google Inc., Apple Computer Inc. and makers of the free Linux operating system. In recent years these companies have been dashing out some software innovations faster than Microsoft. Google has grown particularly effective at introducing new programs such as email and instant messaging over the Internet, watching how they perform and regularly replacing them with improved versions.

Microsoft's Windows can't entirely replicate that approach, since the software is by its nature a massive program overseeing all of a computer's functions. But Microsoft is now racing to move in that direction: developing a solid core for Windows onto which new features can be added one by one over time.

Sometimes (oftentimes?) when a company gets too big for its market's britches or, like airlines such as Northwest,  gets too entrenched in its ways, this creates opportunities for smaller companies to come in and provide value to customers.  Sometimes that value comes in the form of a new product that people want.  Sometimes that value comes in more efficient ways to do things.

That was just the opposite of how Microsoft's new rivals worked. Google and others developed test versions of software and shipped them over the Internet. The best of the programs from rivals were like Lego blocks -- they had a single function and were designed to be connected onto a larger whole. Google and even Microsoft's own MSN online unit could quickly respond to changes in the way people used their PCs and the Web by adding incremental improvements.

In April 2004, Google, seemingly out of nowhere, introduced its Gmail service, competing with Microsoft's Hotmail program. Tiny Internet browser maker Mozilla Foundation beat Microsoft to market with browser features planned for Longhorn.

Most alarming: By July 2004, it became clear that Google was working on a "desktop search" tool for finding information on a PC -- offering some of the features that Mr. Gates's WinFS program was supposed to bring to Longhorn. Google, previously focused exclusively on the Internet, was now stepping onto Microsoft's turf as the creator of software inside the PC.

The existence of market power and the profits that generates for frms that have it provides incentives for new firms to try and enter the market.  To the extent that barriers to entry are low, over time, that market power will get eroded.

On The Road

I am on the road today, travelling back to my old stomping grounds of  Columbia, Mo., to visit my friends and to watch Tigers and Longhorns tussle.  Last night I stayed in an Americinn in, of all places, Osceola, Ia., a town about 35 miles south of Des Moines.  Why Osceloa, you ask?  It was the town with a hotel that was the farthest south that I wanted to travel which had wireless internet and a pool.  I should have a few posts for today.

Here some more on Chief Osceola, the Seminole for which Osceola, Ia. is named..

Outsourcing the University

From a recent Chronicle of Higher Education daily alert ($$$ req'd):

Colleges and universities are not afraid to let outsiders run their bookstores, dining operations, or janitorial services, but many struggle with outsourcing other functions out of a feared loss of identity, community, and collegiality, according to a report released on Monday by the Institute for Higher Education Policy.

The report, "Is Outsourcing Part of the Solution to the Higher-Education Cost Dilemma?," examines institutions' attitudes toward hiring a third party to provide a traditional campus function or service and is intended to begin a dialogue on whether colleges should look to outsourcing to cut costs that are inevitably passed on to students.

"The thing that struck us was the fact that outsourcing can clearly be part of the discussion about costs and finding ways to better control costs, but it hasn't been a proactive part of the conversation," said Jamie Merisotis, president of the institute and an author of the report. "We want to simply continue to engage in this national debate about costs, and outsourcing needs to be a part of it."

On my campus, we have the Barnes and Noble bookstore.  We also have food provided by Taco Bell and Chick Fil-A (yum!).  I imagine that if university officials felt they could do what these companies do at a lower cost, they would do it.

Some may decry this stuff as the university as selling out to corporate interests.  But why did these companies grow so large to begin with?  It's because they provided something of value to people that their competitors didn't.

In a competitive marketplace, competition between sellers forces them to provide value to their consumers by seeking to provide products and services at lower costs and/or by seeking to provide higher quality products and services.  Outsourcing is simply a fancy (and feared) term that people have been employing for centuries:  having someone else do something for you that he can do at a lower cost.  If colleges and universities are truly concerned about the rising cost of college (and I believe they are), one way is to outsource various university services.

Here is the link to the entire report.

Radio Economics Interview

This morning, John Palmer and I discussed a wide variety of topics for the latest podcast at Jim Reese's excellent Radioeconomics.com.  Here is a link to the podcast.

Congratulations to Jim for having Radioeconomics make iTune's top 100 list!

Baseball's Antitrust Exemption

From Findlaw (italics mine):

The business is giving exhibitions of base ball, which are purely state affairs. It is true that in order to attain for these exhibitions the great popularity that they have achieved, competitions must be arranged between clubs from different cities and States. But the fact that in order [259 U.S. 200, 209] to give the exhibitions the Leagues must induce free persons to cross state lines and must arrange and pay for their doing so is not enough to change the character of the business. According to the distinction insisted upon in Hooper v. California, 155 U.S. 648, 655 , 15 S. Sup. Ct. 207, the transport is a mere incident, not the essential thing. That to which it is incident, the exhibition, although made for money would not be called trade of commerce in the commonly accepted use of those words. As it is put by defendant, personal effort, not related to production, is not a subject of commerce. That which in its consummation is not commerce does not become commerce among the States because the transportation that we have mentioned takes place. To repeat the illustrations given by the Court below, a firm of lawyers sending out a member to argue a case, or the Chautauqua lecture bureau sending out lecturers, does not engage in such commerce because the lawyer or lecturer goes to another State.

And thus it came that Major League Baseball received its antitrust exemption as SCOTUS judges concluded that baseball did not constitute interstate commerce.

The preceding is from the opinion of the court in the case of  "FEDERAL BASE BALL CLUB OF BALTIMORE, Inc., v. NATIONAL LEAGUE OF PROFESSIONAL BASE BALL CLUBS et al." as written by Justice Oliver Wendell Holmes, Jr.