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Via is also a competitor on those routes. They offered a $42 ticket from Montreal to Ottawa a few months ago, going through Ottawa. The regular trains on the lakeshore route are full-fare though.

First of all, I'm not sure why competition is the full explanation here. What about demand?

Second of all, "waste" is a word connected to utility, which isn't objective. Because some of us derive utility from the ownership of things (almost all of us), I'd suggest that ownership matters a great deal.

Ryan: "First of all, I'm not sure why competition is the full explanation here. What about demand?"

In a perfectly competitive market, prices are bid down until they reach marginal costs. (If there are fixed costs, the lowest prices can go is to average costs, but the same principle - i.e. costs determine prices - applies).

Demand conditions only matter in two circumstances.

The first is if firms have market power, so can charge more to consumers with inelastic demands. In other words, the elasticity of demand *only matters in the absence of perfect competition*.

The second is if there are economies of scale - economies of scale (and network externalities) explain why Greyhound has a monopoly on the Toronto-Ottawa route, but don't make much difference to the average cost of putting buses on the road at the margin - Greyhound's fixed costs are spread across so many routes and fares that they shouldn't make much difference to the Ottawa/Toronto bus fare.

Absent market power and economies of scale, demand doesn't matter.

"Second of all, "waste" is a word connected to utility, which isn't objective."

Utility can't be measured cardinally. But that doesn't mean we can't say things about it. Let's take two states of the world. In the first 20 oak trees are planted 20 feet apart, so all can (potentially) thrive. In the second 20 oak trees are planted three feet apart, so most will die. We can objectively say that, in the second situation, resources are wasted, as oak trees are being planted that *cannot live*. We might know the precise utilty cost of the dead oak trees. But we can say with certainty that resources are being wasted here.

"No university is going to advertise itself as "Cheaper than Oxford, and almost as good." When price indicates quality, people are reluctant to cut prices."

By this logic, universities will engage in price wars by each trying to charge more than the others. That's obviously not the case.

Adam: "By this logic, universities will engage in price wars by each trying to charge more than the others. That's obviously not the case."

Er - obviously? - take a look at this: http://nces.ed.gov/fastfacts/display.asp?id=76. The cost of university tuition has been rising faster than inflation in the US for decades. In Canada government regulation of university tuition limit the extent of price wars.

"No university is going to advertise itself as "Cheaper than Oxford, and almost as good." When price indicates quality, people are reluctant to cut prices."

Is that true? Take the California university system. UC Riverside boasts about being "ranked among the Top 25 Best College Buys by Forbes magazine". On the other hand, it's tuition fees for California residents are twice those of UC Irvine (though, obviously, to get into the real "price" you'd have to look at the financial aid side of the equation). And of course, the California State universities pride themselves on their low cost (for example the webpage at CSU Long Beach says that: "The CSU makes every effort to keep student costs to a minimum"). At least in some markets, universities are like any other business, they seek to optimize the price/quality combination of the products for their target markets.

"When price indicates quality, people are reluctant to cut prices."

I'm not sure that it's true that people can't recognize quality in education. They might not be able to measure it, but no one is under any illusion that CSU Long Beach is comparable to UC Riverside. And, certainly, I know when it comes to assessing potential graduate students, I can think of at least one economics department in Ontario that has no trouble assessing the quality of different universities. Ditto for law schools assessing would-be articling students. Heck, ditto for parents looking to a buy a new house ("Are the local schools any good?").

More to the point, quality isn't everything. My Hyundai's is lower "quality" than a BMW, I know that that, but I don't want to pay for a BMW. If price indicates quality, consumer may decide they want lower quality.

That said, I suspect in regulated markets, there won't be much systematic difference in quality between universities (with, perhaps, exceptions for schools with unique histories/reputations or programs, say Oxford or McGill), because you'd don't have to "market" yourself to students to get bums in your seats. So, you're not going to get different permutations of price/quality because price is fixed and quality, well, you'll have full classes whether your professors are good or whether they're knobs.

"Some pundits seemed to be astounded when English universities reacted to fee de-regulation by charging the maximum fees allowed."

Those pundits would be morons. If you're starting from a scenario where fees are set well below the market price (i.e., where there any English Universities with spots going empty at their prior fees?), deregulation can only lead to increases. Moreover, given the UKs student loan program, it might make sense to run up particularly large loan because that's how you get the biggest "subsidy" if you can't repay your debt within 30 years. It has been observed that some of the crappiest universities are charging the higest fees, but that's what you would expect if you think that their graduates are never going to make enough money to have to repay the entirety of their loan - itheir tuition fee doesn't reflect the real price, but it might at a better university.

I also wouldn't be the least bit surprised if UK universities evolve different tuition structures over time and start differentiating themselves in terms of quality/tuition.

Great post.

"The cost of university tuition has been rising faster than inflation in the US for decades. In Canada government regulation of university tuition limit the extent of price wars."

Well, the first statement is true of Canada (and, as you know, Ontario) as well, so I'm not sure it supports the second statement. MInd you, I agree that government regulation has limited the price wars - how could it be otherwise? But we have to be careful about that statement. When tuition fees are set well below the "market price" there's no real incentive to compete on price, is there? After all, you're going to get a full class at that tuition fee. Query whether that would be true, though, if universities were actually facing market pressures.

"The cost of university tuition has been rising faster than inflation in the US for decades"

So has demand for university education. Is the rising price of university education a function of harmful signalling of quality between unviersities or a function of a secular shift in the demand for education? I'd bet on the latter.

Not being an economist I don't know if the following comment fits here or not. I did appreciate reading this insight from Professor Woolley. However, one of the principal differences between helping to foot the bill for government (in my own tiny way) and paying for goods and services from the private sector has to do with whether I have a choice in the matter. There are many government agencies that I would very much prefer not to help fund. I regard some of these as wasteful, others as downright destructive. I don't like professional hockey either. Since it's mainly funded by the private sector though, I mind a lot less how many games they play and how much the players are paid.

'So has demand for university education. Is the rising price of university education a function of harmful signalling of quality between unviersities or a function of a secular shift in the demand for education? I'd bet on the latter.'

It could be both. The elasticity of demand may have changed in the last couple of decades. Students might be less sensitive to increases in prices because a degree might be necessary for entry level jobs that mightn’t be the case in earlier decades.

Also the university sector is monopolistic competitive. You have the prestigious universities pricing on reputation while the lesser universities competing on other qualities like 'practical skills', faster completion times, and lower prices etc.

Also something to note, the increase in tuition doesn’t necessary mean better 'product'. Since universities provide positive externalities (through provision of research and teaching) it would be interesting to see data on where the funds from rising tuition has gone to. More buildings, faculty or salary rises in administration? After all if they’re providing positive externalities there may be a case for intervention in order to maximise the bang for our buck (even if the buck is coming from individuals).

Bob: "so has demand for university education. Is the rising price of university education a function of harmful signalling of quality between unviersities or a function of a secular shift in the demand for education? I'd bet on the latter."

The technology of university education exhibits constant or increasing returns to scale - it would be (in fact has been) easy enough to build new universities and/or expand old ones to accommodate the additional students.

An increase in demand will not cause prices to increase in the long term unless there is some scarce factor of production - something much scarcer than, say, people with PhDs. Otherwise, one could just duplicate existing production facilities and produce more output at the same average cost.

DavidN "it would be interesting to see data on where the funds from rising tuition has gone to. More buildings, faculty or salary rises in administration?" A book came out a year or two ago on Why Does College Cost so Much. I wrote a blog post about it a while ago. That book seemed to figure that growing administrative costs were part (but not all IIRC) of the problem.

Bill Bell: "However, one of the principal differences between helping to foot the bill for government (in my own tiny way) and paying for goods and services from the private sector has to do with whether I have a choice in the matter."

That's basically another way of saying that what matters is competition. Without choice, there is no competition; without competition, there is no choice. If you're in Ontario, you'll have bought beer from Brewer's Retail - you have no choice in the matter. You'll have bought spirits from LCBO - you have no choice in the matter. One's a private monopoly, one's a public monopoly. Some might prefer the private monopoly, others might prefer the public monopoly - I don't think there's much difference.

I think a corollary of your title could be, "liberalization matters, not privatization". When most people argue for or against the "privatization" of health care, all they are really talking about is changing the payment stream so that individuals (out of pocket or privately insured) pay entirely for the same system for which the government now pays a majority share. But that does not involve changing occupational monopolies, disencumbering drug development, or making it possible for innovation to force prices down. That is flipping only one switch in a very large machine.

About the AB dentist thing ... I think employer provided insurance is the problem (aka dental benefits). They pay for foreseeable expenses like cleaning and check-ups but not for low-probability high-cost procedures. So you get the worst of all possible worlds.


Shangwen - absolutely!

Bob: "Take the California university system. UC Riverside boasts about being "ranked among the Top 25 Best College Buys by Forbes magazine"."

I said "absent other information, people use price as a signal of quality." Yes, if there is other information available, e.g. Forbes magazine ratings, people won't rely so much on the price as quality signal. That only strengthens the argument that information about the quality of goods is vital for competition to be effective.

Frances,

I would argue that both economies of scale and market power are at play in the domestic bus line industry.

But I think it's incredibly odd to say to say that demand doesn't matter. I suppose you mean that in perfectly competitive markets, no group of individuals is sufficiently large to exert pressure on the market... but that assumes a very large market, like... wheat or something. The market for bus lines from Ottawa to Toronto is not at all that large. There are perhaps five sellers and a small-and-shrinking number of consumers. There is also imperfect substitution from e.g. Porter Airlines and VIA Rail. Demand for bus tickets in such a market matters a lot.

Regarding university education, I thought it was nearly unanimously understood that the government-backed student loan industry was feeding the growth in demand and raising the price of education costs.

I'd also point out that demand in Ottawa is much different because demographics are different. The public sector makes a huge impact on Ottawa's economy. Most young people in Ottawa can get well-paying jobs pushing paper in some government office, enough to buy one of those hatchback Mazda 3s that you always see cruising the highway from Ottawa to Toronto (or Montreal). Those traveling on business get their Via Rail tickets paid for by the gov't. Demand for bus tickets in Ottawa is incredibly low. It probably costs Greyhound more money to keep that bus station open than it would to just close it down and run exclusively from MTL-TO. You've surely seen how run-down that bus station is.

Ryan - "But I think it's incredibly odd to say to say that demand doesn't matter."

Just to be clear: *absent market power*, demand does not matter, unless there is some resource that is scarce, or there are returns to scale, which cause costs to change as the size of the market changes.

When prices rise above costs, firms make profits, people see a profit opportunity and enter the market, and then firms enter until once again the market offers zero economic profits. The only time there are profits in the economy is when this dynamic of new firms entering fails to work - as in the Ottawa-Toronto bus route, where competition is limited.

When there is limited competition yes, of course, demand elasticities matter, and companies do their best to segment the market, and charge higher prices to those with more inelastic demands.

It is not the size of the market per se, but the number of buyers and sellers, that matters.

In the case of education, again, growth in demand per se can't cause a long run increase in costs unless there is something else going on - in education there's lots of possibilities e.g. growth in research spending, the administrative lattice, etc etc.

"Most young people in Ottawa can get well-paying jobs pushing paper in some government office" -

If you know how they do that, please pass the message on, because my students are sure finding those well-paying paper pushing jobs pretty hard to come by these days.

Frances, tell your students to start at the staffing companies and get a 3-month contract. Once you're in the system, there's no getting rid of you. That's how everyone I know did it. Harper might shrink the civil service, but he'll never get rid of the shadow civil service.

But getting a government job is just rent-seeking, so they're probably better off finding a real job. Wine-and-cheese Fridays are nice, but infinitely more wasteful than an overpriced bus ticket.

Frances Woolley,

"It is not the size of the market per se, but the number of buyers and sellers, that matters."

Is this true for the scenario in the third paragraph ("when prices") or the fourth paragraph or both? I'm thinking of Israel Kirzner's ideas on competition i.e. competition is not at all about the number of competitors, but barriers to entry and failure. So he says what matters is the ease of market entry where there are profit opportunities as in paragraph 3, rather than the approximation of perfect competition (which is a non-competitive situation in all but the most rarefied technical senses).

Also, if the growth rate in demand for education is faster than the response of increased service by the education business, wouldn't that result in a long-run increase in the price without any special increase in service costs? Raising prices would continually reap profits, unless one increased the price so much faster than the costs of providing the service that it became profitable enough for someone else to enter the market. So it's entry costs that matter rather than the number of sellers.

W. Peden - good point, I should have been more precise, barriers to entry are absolutely crucial. Though in practice the number of firms is a reasonable proxy for the extent of barriers to entry (though not always e.g. dairy farmers in Canada).

"Also, if the growth rate in demand for education is faster than the response of increased service by the education business, wouldn't that result in a long-run increase in the price without any special increase in service costs?"

I think that comes under the heading 'if something can't increase indefinitely it won't'. Eventually the increase in the demand for education has to slow, in which case the ability of incumbents to raise prices decreases.

Frances Woolley,

Thanks for the explanation. I think I understand now.

Does increased demand for education HAVE to slow down, except due to cosmic constraints on population growth? Even if population growth was static, as long as incomes are increasing people may decide to spend some of them on higher education. (I agree that, under any probable scenario, it will slow down.)

My home town has only one Chinese restaurant. It's been that way for decades. The restaurant can't increase profits indefinitely, because there is the possibility of a competitor entering and there are subsitutes of varying nearness in town and out of town. Local demand for Chinese food has increased steadily over those decades, at least secularly, because the town has grown and incomes have grown. As long as they don't increase prices too much, they can stay profitable for as long as increasing numbers of people want to eat their roast duck in an orange sauce (i.e. indefinitely).

I suppose my conjecture is that enterpreneurial profit-seeking only makes sense if the profits to be made are greater than the costs of entry, which (at least in the restaurant trade) are never zero, so there's some space for indefinite profits.

W. Peden - this is called a "contestable market" in the jargon of industrial organization. It underscores the importance of competitive forces in the determination of prices.

When prices rise above costs, firms make profits, people see a profit opportunity and enter the market, and then firms enter until once again the market offers zero economic profits. The only time there are profits in the economy is when this dynamic of new firms entering fails to work - as in the Ottawa-Toronto bus route, where competition is limited.

This seems to be a logical contradiction. You are saying that if there *are* profits, then firms will enter, and therefore there must be economic profits for competition to work at all. So you cannot say that there are no economic profits if there is competition.

Rather, it is the reverse, there is no competition unless there are economic profits. Without economic profits, there is no reason to invest.

If you know how they do that, please pass the message on, because my students are sure finding those well-paying paper pushing jobs pretty hard to come by these days.

Welcome to my world. This is why I say it isn't the 1970's anymore.

Theese are rare birds indeed. I have tried for some of the more technical and regulatory jobs, and still have come up empty, but I have had interviews so I can pass on a few tips that have worked for me.

1) Bilingualism is a must. Nearly all Public Service jobs in the National Capital Region are rated at least BBB (Reading/Speaking/Writing). All jobs of interest to your students have this rating (A = entry level, B is middle, C is complex French/English). As you are in Ottawa, which is the centre of the universe for French-language instruction for aspiring (Anglo) public servants, your students should enrol in one of the many fine schools in the FSL market. And a market it is. The Canada School of the Public Service publishes curriculum and materials for these schools to follow. I use a teaching outfit that delivers services via webcam so people in the Rest of Canada or with odd hours can use this services. I did say it was a market.

I have been told by Public Servants that I got to the assessment stage I did because I had demonstrated bilingualism, and it was hard to find bilingual candidates. Market demand, anyone?

If anybody complains about having to learn French they don't deserve to work in the Public Service. That is a very career-limiting attitude.

2) The Public Service requires a particular resume format and it is not brief. You have to explicit about everything you claim and it needs to run to five pages generally. Short is out. I recommend paying a few hundred bucks and getting it done professionally. It is an art and worth the cost to get your resume into the "lingua franca". Carleton's employment office may offer this service (I hope), if not, cough up. $300 bucks for a PS standard resume that meets screening requirements is a small price to pay for that $50K a year job with DB pension, nice benefits and a very humane workforce adjustment policy.

3) Contractors are barred from seeking permanent employment in the Public Service while on a contract. They are trying to close the back door. OTOH contractors who hold their position for three years become permanent unless they are in three departments who have closed this option (Human Resources Canada is one, they have an army of temp clerks to administer EI).

4) Anglophones willing to move to Quebec (not Gatineau) are, I believe (may be wrong) an underrepresented group and therefore such a profile may meet organizational diversity needs. Just saying.

5) Department Estimates and Plans & Priorities documents (published on department websites) are great sources of public information to learn the fate of programs and branches that interest you, for instance if there has been a funding and likely a staff cut.

@rsj

By "profits in the economy" he meant "long run profits in the economy". Read it that way and there is no contradiction.

Yeah,

I guess I am really making an argument that every enterprise has fixed costs and that no enterprise is scale-free.

I.e., suppose coffee shops are earning an economic profit. You, as the entrepeneur are considering entering this market.

Even if you only rent the space for your coffee shop, with complete freedom to rent as much square footage as you want each month, and drive down the freeway and hire as many workers as you need each morning without the need to train them or fill out any paperwork, you still face a risk of loss if you rent too much space and don't get enough customers in the coming month, or if you hire too many workers and don't get enough customers in that day.

So if there is any uncertainty at all as to future demand or future costs, or if any transactions are conducted on the basis of fixed contracts, you will not agree to sign the lease for the month up front or to hire the worker in the morning unless you expect to earn enough to pay your rental costs plus some premium.

That premium, because it is set by preferences, is not going to change in the long run.

I think lots of people would be willing to go for "as cheap if not quite as good" in education, but the main method of sorting is acceptance by the university. It's a rather unusual industry that turns away so many potential customers. The best explanation I've heard is that what's being sold in higher education is the signal that one was good enough to be accepted in the first place. Having a low acceptance and higher incoming (nobody bothers measuring outgoing) standardized test scores raises a school's ranking. Noah Smith has pointed to the party-schools in Japan as evidence that one builds human capital through socialization, but I think that's rather silly.

Wonks: "I think lots of people would be willing to go for "as cheap if not quite as good" in education"

Possibly I overstated the case there - universities do compete on price to some extent. Typically however the way they do it is by giving scholarships to students they hope to attract, rather than lowering tuition fees up front.

The existence of University of Phoenix demonstrates that there is indeed a market for cheap but poor quality education. From the description of U Phoenix on Wikipedia:

"University of Phoenix has an open enrollment admission policy, requiring a high-school diploma, GED, or its equivalent as its criteria for admissions. The school also provides associate or bachelor's degree applicants opportunity for advanced placement through its prior learning assessment, which, aside from previous coursework, college credit can come from experiential learning essays, corporate training, and certificates or licenses."

The U Phoenix experience, however, suggests that a low-quality university has to be very different from a high-quality university to succeed - a little cheaper but not quite as good isn't going to cut it.

"Competition is only effective if people are fully informed."

I find this issue fascinating because there are so many beliefs, under the rubric of asymmetry, about what constitutes sufficient information. A buyer (e.g., a lone shopper) does not need to have the same information about the product that the vendor (e.g., a multinational with thousands of staff) has, because the informational completeness required for a fair and competitive transaction resides to some extent in the nature of the good, and to another extent in the buyer's preferences (including the social signals that are believed to accompany ownership). It is the nature of the good that is problematic. Austin Frakt has a nice post explaining the differences between search, experience, and credence goods.

Health care and education are typically cited as monolithic examples of credence goods. You often hear anti-market arguments like "people can't know what they're buying", "it's too complicated", "there's both an art and a science to it", etc., all of which are BS. Most of health and education can be evaluated, it's just that the systems we have built up around them either inhibit the incentive or create the incentive to oppose evaluation and the sharing of information. Where such information exists, the information is not too complicated for most consumers.

It is very easy to find out how effective eye surgery is, what Botox can do (I mean medically, not cosmetically), what the employment and income rates are for different training programs, etc. At the same time, it is also not hard to find clinics, guilds, and schools that are very vocal in opposing quality evaluation and making such evaluations public. If we did not have all the rent seeking and social tradition underpinning it, there would be a huge market for evaluating those goods and services, just as there is already great interest in online reviews of cars, books, and resorts.

"Most of health and education can be evaluated"
True but most evaluations don't contain the required information. This is always a problem. Proxy measures always end up being gamed and become less valuable the more they are used.

"just as there is already great interest in online reviews of cars, books, and resorts."

If you can't see the category error in comparing reviews of cars, books and resorts with medicine and education (hint you need to be sick to benefit from medicine) - I can't help you.

Shangwen - The basic point I'm making in this post is that competition matters, not ownership. Nothing you've said changes that.

Sure, it is possible for an outside agency to evaluate the cost effectiveness of, say, annual pap smears for women who have received the HPV vaccine (do you know if the screening guidelines have been changed now that the vaccine has been introduced? Logically, they should be.) But this gets back to the Oprah discussion - even if new screening guidelines were introduced, there would be people who said "I just want to be sure that I'm o.k." and doctors who would be happy to provide the tests. Introducing effective competition - and good practice - into the medical arena is extremely difficult.

Competition may well be more important than ownership, but private peaceful ownership is different than gov't, force funded ownership.

I don't believe gov't programs are at all close to peaceful makert programs in terms of most cost/benefit measures. FedEx vs the US Postal Service comes to mind.

What comes to your mind to show an example of your belief that gov't is just as good?

Tom: "What comes to your mind to show an example of your belief that gov't is just as good?"

FedEx v. Canadian postal service. CanadaPost provides cheap, guaranteed delivery, and it's very convenient - it's what I use when I want something couriered.

A crucial difference between FedEx and government postal services is that the government postal services engage in large amounts of cross-subsidization. It costs the same to mail a letter within Toronto as it does to mail a letter from Goose Bay, Labrador to Dawson City, Yukon, despite the fact that the first letter costs far less than the second to deliver.

If you're someone in a big city paying into the cross-subsidy pool, sure, FedEx looks good relative to the government postal service. If you're someone in a small town benefitting from the cross-subsidies, the government postal service looks great.

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