David R. Henderson  

Is Tyler Cowen's Point Well Known?

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Farewell, Thomas Sowell... Never reason from an exchange ...

Towards the end of his latest Bloomberg column, Tyler Cowen writes:

It's well known in economics that when prices and opportunities change, it is the elastic factors of production (those that can change their plans readily) that gain the most, and the inelastic factors that are most likely to bear losses. Insiders and long-term residents are so often the inelastic ones while outsiders and newcomers have the greater willingness or ability to adjust.

Actually, it's not well known because it's not true. It is true that when demand for factors falls, those factors that are more elastically supplied lose the least. (They don't, as Tyler says, gain.) But when the demand for factors increases, those factors that are inelastically supplied gain the most. Just draw a demand curve and an inelastic supply. Then shift the demand curve up and see what happens to price. Presto.

Indeed, it's in part because many long-term residents of a city like San Francisco bought their houses long ago, before government regulation made the supply of housing inelastic, and then the housing supply became inelastic due to government regulation, that we see people with 5-figure incomes having 7-figure net worths.


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COMMENTS (9 to date)
Arnold Kling writes:

Let's see if we can find a correct statement. It might be this:

if the cost of moving goes down, the benefits accrue to people who are willing to move.

More generally, I think it helps to focus on binary choices: live in SF or do not live in SF; commute along the 405 or do not commute along the 405. Then perhaps you can make the case that a downward shift in the cost curve of doing these things has less benefit to the people already doing them than to people who now can go from not doing them to doing them.

Andrew_FL writes:

I take it you define knowledge as justified true belief. So Cowen's point is not widely known because a false belief cannot be knowledge.

But do you think it is widely believed?

AMW writes:

@Andrew_FL,

It's not widely believed. This is principles of micro level stuff. In fact, Cowen's statement surprised me because I teach from Cowen and Tabarrok's Modern Principles and they have a homework problem that speaks specifically to when it's desirable to be on the elastic side of the market and when it's not.

David R. Henderson writes:

@Arnold Kling,
if the cost of moving goes down, the benefits accrue to people who are willing to move.
Roughly right. Not “the” benefits, but some benefits. Benefits also accrue to people who deal with them once they have moved.
More generally, I think it helps to focus on binary choices: live in SF or do not live in SF; commute along the 405 or do not commute along the 405. Then perhaps you can make the case that a downward shift in the cost curve of doing these things has less benefit to the people already doing them than to people who now can go from not doing them to doing them.
No, a downward shift in the cost of doing something gives rents to the people already doing it. So the gain to them exceeds the gain to people who shift from not doing to doing.

J Mann writes:

I think the problem might be that Cowen is using a word with a technical definition ("elastic") in a non-technical sense.

He's trying to say that the biggest losers from a structural change are those who can't adjust to the new reality, and the biggest winners are those who can. In Cowen's story, gold is discovered in the mountains, and the winners are people who can pick up and prospect, or industries that can shift to take advantage of the low price of gold. Among the biggest losers are holders of existing goldmines with large fixed investments.

Henderson's right that someone who owned the land in which gold was discovered might be the biggest winner in terms of rents, and all because of inelasticity, but then I guess we have to go back to the immigration story Cowen is actually telling. Immigrants win, because they have the flexibility to move to opportunity, and because they have such a large existing arbitrage opportunity. Workers in displaced jobs with poor substitutes lose.

Elasticity isn't exactly the right word, especially in a Thomas Friedman style metaphor, but I see what he's getting at.

Tyler Cowen writes:

My claims are set in the context of considering geographically mobile resources, and they are fully consistent with the correct theory of tax incidence in that context. If you can't switch countries, for instance, open borders in America just won't help you. See some of the above remarks as well.

David R. Henderson writes:

@Tyler Cowen,
My claims are set in the context of considering geographically mobile resources, and they are fully consistent with the correct theory of tax incidence in that context.
Yes, they are, if we’re talking about tax increases. So if a tax on a factor is increased, the more inelastically supplied is that factor, the more it loses.
But if a tax on a factor is reduced, the more inelastically supplied is that factor, the more it gains.

David Condon writes:

With respect to price changes, I took the statement to mean that Cowen is assuming the elastic and inelastic factors are substitutable.

EclectEcon writes:

You're right, David. I made similar points (sans Tyler's column of course) to the Canadian Investigative Journalists in an address a number of years ago. There I urged them, "look for the fixed factor", pointing out that when there's a downturn in demand for products in an area, eventually labour can move and find new employment, but the fixed inputs (especially land, but also dedicated capital) cannot move and hence is the big loser. Similarly, when there's an increase in demand for the products of an area, labour can move in and keep wages from sky-rocketing, but the owners of the fixed or more nearly fixed inputs are more likely to gain considerably.

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