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Sunday
Jul212019

RS 236 - Alex Tabarrok on "Why are the Prices So D*mn High?"

Release date: July 22nd, 2019

Alex Tabarrok

Over the last two decades, the prices of consumer goods like toys and electronics have gone way down, but the prices of health care and education have gone up roughly 200%. Why? In this episode, economist Alex Tabarrok discusses his latest book, co-authored with Eric Heller, "Why are the Prices So D*mn High?," which blames rising costs on a phenomenon called the Baumol Effect.

Links 

"Why are the Prices So D*mn High?" by Alex Tabarrok and Eric Heller

Alex's series of posts on Marginal Revolution summarizing the Baumol effect thesis

Alex's reply to comments/criticism of his thesis

Scott Alexander's post on rising prices and the Baumol effect: "Considerations on Cost Disease"

... and a follow-up post, "Highlights from the Comments on Cost Disease"

Scott's review of Alex's book

... and follow-up

Noah Smith's column on the Baumol effect

Edited by Brent Silk

Music by Miracles of Modern Science

Full Transcripts 

Reader Comments (8)

I largely agree with this explanation, but I don't think enough of the explanation is focused on the demand side of this affect. As average incomes rise for all people, and as prices fall for many goods, there is then excess income that needs to be spent on something. For example, as incomes have risen and food prices have substantially fallen the percentage of income we spend on food has fallen. So now a greater proportion of our income has to be spent on other sectors or be saved.

This explains why we spend a greater and greater proportion of our income on healthcare and education. We aren't spending it on the more efficient (cheaper) goods with diminishing marginal returns, so we spend it on things like healthcare and education.

But the conclusion of this shouldn't be that these rising costs are innevitable and therefore nothing can be done, but instead the conclusion should be that we shouldn't be comparing the spending on these goods over time periods, but instead should focus on comparing between similarly industrialized economies and finding which gets better results for the percentage of GDP they spend.

We should not be aiming for getting the US to only spend 6% of GDP on healthcare like we did in the 1970s, but should instead be aiming for 11%, which is about what comparable countries spend. And the healthcare results for their citizens are better.
July 23, 2019 | Unregistered CommenterWill Cromwell
The US has outsourced the manufacture of most consumer products such as toys and electronics. This has artificially lowered the retail price of consumer goods bought in the US and imported from economies w/ lower wages and more reasonable regulations.

Since the String Quartet consists almost entirely of labor cost, and has shown little technological advancement, it costs exactly the same to produce as it always did. An increase in demand could increase the price of the service. Devaluation of the currency (inflation) has also increased prices. So comparative to products that have underwent high levels of automation, the String Quartet might appear more expensive now.

Laser Eye Surgery has decreased in price primarily due to the fact that Medicare/Medicaid/Insurance considers it cosmetic. Therefore the government does not subsidize it or require Private Insurance to pay for it. The Surgery has always required a very highly trained and skilled Ophthalmologist M.D. to assess the patient, perform the procedure, and provide follow up care to the patient. The amount of time to prepare for, perform, and follow up the surgery has not changed since its inception. Free Market Competition has led to a decrease in the price of Laser Eye Surgery.

The US Government aggressively subsidizes Education (Massive Student Loan Program) and Healthcare (Medicare/Medicaid/Employee Health Insurance Requirement/Health Insurance Minimum Coverage Requirements/...). By spending more on Education and Healthcare, the US Government creates artificial demand and price increases. The US Government, through and explosion of onerous regulation, has also massively increased administrative costs in both Education and Healthcare. Furthermore, as technology has advanced, we have seen a concomitant increase in the availability of more and more advanced Education and Healthcare. So Education and Healthcare may cost more simply due to the fact that more of it now exists.

The increase in the complexity of land use, tax, and business regulation does explain the increase in demand for, and price of, architectural, accounting, and legal services. This also creates administrative overhead for all economic activity.

Indeed Veterinarians do not receive much in the way of government insurance or third party insurance payments. But every US State licenses Veterinarians extensively. Furthermore, the popularity of pets and the complexity of medicine have increased.

If the Baumol Effect simply states that ultimately we have a single labor market with fungible workers then the effect makes sense as a partial explanation for some price increases. Also, once ppl satisfy their survival needs for food, shelter, clothing and the like, they may then decide to spend their excess income on Education and Healthcare instead of purchasing additional consumer goods. However, automation, outsourcing, and government subsidization and regulation explain the diverging relative prices of Manufactured Goods versus Education and Healthcare.

Bryan Caplan is correct:

https://www.econlib.org/why-the-prices-are-so-damn-high-a-deeper-look/
July 24, 2019 | Unregistered CommenterJameson
I think there's another oddity that might play into education. Higher Education is the only major sector I'm aware of where a failure to meet demands with an adequate supply is part of its value. If Harvard somehow meet 100% of its demand, as opposed to only about 6% of it, people wouldn't desire Harvard as much as a result. There's also the perception of it being an investment, which might make consumers more willing to pay a higher price than they normally would.
July 24, 2019 | Unregistered CommenterJaeson
Why on earth would the four string quartet be (so obviously) better now than in 1826?
July 27, 2019 | Unregistered CommenterPeteski
Thank you for sharing. Thanks to this article I can learn more things. Expand knowledge. Thank you.
August 9, 2019 | Unregistered Commentervex 3
Things like Health Care, Education will always rise because there will always be a market(Need) for them. So Capitalist will always try and find ways to maximize their profits on these sort of things. Consumer goods like Toys, Electronics are more of a fluctuating market because they are not things that are as important and essential to ones life but more of just wants and luxuries that people can choose to go without with no serious consequences in the way they choose to live their lives. So these markets can be more lenient in how they go about attracting customers for their products hence the dropping of prices and such.
August 11, 2019 | Unregistered CommenterErnesto
@Will Cromwell: The phenomenon you're referring to is measured through the "Income elasticity of demand" in economics (https://en.wikipedia.org/wiki/Income_elasticity_of_demand). The so-called "luxury goods" have an income elasticity of demand > 1, and areas such as education and healthcare naturally fall into this bucket of goods. It's interesting that this wasn't mentioned in the podcast transcript, but I wonder if this is different from the Baumol effect.
August 11, 2019 | Unregistered CommenterVimal
It's a very convoluted way of explaining away the true inflation rate. The price of things which aren't automated matches the true inflation rate, since all factors are constant except the amount of money.
August 12, 2019 | Unregistered Commenterlion

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