Alex has already posted a reply to my critique of Why Are the Prices So Damn High? Here’s my point-by-point reply, with Alex in blockquotes.
In contrast, my friend Bryan Caplan is not happy. Bryan’s basic point is to argue, ‘look around at all the stupid ways in which the government prevents health care and education prices from falling. Of course, government is the explanation for higher prices.’ In point of fact, I agree with many of Bryan’s points. Bryan says, for example, that immigration would lower health care prices. Indeed it would.
So far, so good.
(Aside: it does seem odd for Bryan to argue that if K-12 education were privately funded schools would not continue their insane practice of requiring primary school teachers to have B.A.s when in fact, as Bryan knows, credentialism has occurred throughout the economy)
Yes, but credential inflation is clearly worse in the public sector. Public-sector jobs for high-school dropouts, for example, have virtually vanished. The private sector is markedly more open-minded. But private schools don’t hire non-college grads to teach either? Accreditation requirements aside, there’s a straightforward explanation.
The problem with Bryan’s critiques is that they miss what we are trying to explain which is why some prices have risen while others have fallen. Immigration would indeed lower health care prices but it would also lower the price of automobiles leaving the net difference unexplained.
On the contrary! Alex says there’s a cost disease driven by labor costs. Immigration laws restrict the import of labor far more strictly than they restrict the import of other inputs. So deregulation wouldn’t just lower prices in general; it would lower the prices of labor-intensive goods to an especially strong degree.
When you put all these regulations together it’s not at all obvious that there is more regulation in education than in auto manufacturing. Indeed, since the major increase in regulation since the 1970s has been in environmental regulation, which impacts manufacturing more than services, it seems plausible that regulation has increased more for auto manufacturing.
To repeat, the more labor-intensive the sector, the more regulated it effectively is, because immigration restrictions are restrictions on the supply of labor. Standard measures of regulation don’t capture this difference because they take immigration restrictions for granted, but those measures are therefore sadly flawed.
Furthermore, Alex misses my most undeniable point: the education industry, unlike the auto industry, is funded almost entirely by government – and this funding has swelled over time. If government had not increased funding for education, education prices would have risen far less. In contrast, government spent very little on cars throughout. (Government’s role in health care isn’t quite as monolithic, but remains vast nonetheless).
As an empirical economist, I am interested in testable hypotheses. A testable hypothesis is that the industries with the biggest increases in regulation have seen the biggest increases in prices over time. Yet, when we test that hypothesis as best we can it appears to be false.
That is one testable hypothesis. Here’s another: The industries where government provides a larger share of funding will have bigger increases in prices over time. Or how about: The industries where government funding has increased the most will have bigger increases in prices over time. Helland and Tabarrok strangely fail to consider either of these hypotheses. And as long as you weight by size of the sector, they’ll almost surely check out, because education and health care are two huge sectors with huge price increases, high government funding, and large increases in government funding.
Remember, this does not mean that regulation doesn’t increase prices! It can and probably does it’s just that regulation is not the explanation for the differences in prices we see across industries. (Note also that Bryan argues that you don’t need increasing regulation to explain increasing prices, which is true, but I still need a testable hypotheses not an unfalsifiable claim.)
If my claim is true, then several of Helland and Tabarrok’s “tests” are conceptually confused. So they don’t “falsify” what they claim to falsify.
So by all means let’s deregulate, but don’t expect 70+ year price trends to reverse until robots and AI start improving productivity in services faster than in manufacturing.
I say that when these technological changes come, education will barely change, and health care change only modestly. Why? First, because when you’re funded by the government, you have little incentive to cut costs. Second, even if you want to cut costs, many long-standing regulations (not increasing regulation!) get in the way.
In any case, why isn’t Alex equally willing to predict the “70+ year price trends to reverse” if we deregulate the movement of labor? Or just slash the education and health care budgets? I am puzzled by his fatalism in the face of gross government failure.
Let me close with this. What I found most convincing about the Baumol effect is consilience. Here, for example, are two figures which did not make the book. The first shows car prices versus car repair prices. The second shows shoe and clothing prices versus shoe repair, tailors, dry cleaners and hair styling. In both cases, the goods price is way down and the service price is up. The Baumol effect offers a unifying account of trends such as this across many different industries. Other theories tend to be ad hoc, false, or unfalsifiable.
I agree that the Baumol effect is important. It explains many things. Helland-Tabarrok provide a nice tour of the evidence. But many other effects are also important, and they explain many facts that the Baumol effect fails to address. The upshot is that a pure Baumol theory isn’t just falsifiable; it’s demonstrably false.
READER COMMENTS
robc
Jun 12 2019 at 10:39am
If the Baumol effect is the major driver in health care, wouldn’t costs for Lasik surgery track with other health care costs?
But they don’t. Despite the Baumol effect, Lasik costs have gone down the last 20 years, not up.
David Henderson
Jun 12 2019 at 11:03am
Great point. Lasik is my go-to example of what happens when a medical procedure is not highly subsidized and is minimally covered by insurance.
Garrett M
Jun 12 2019 at 4:42pm
I would assume that Alex knows all about Lasik
robc
Jun 13 2019 at 8:40am
Yet he doesnt mention the Baumol effect in that blog post.
Steve Ritter
Jun 12 2019 at 10:45am
Although (almost) all higher ed is government funded, about 10% of K12 students attend private schools, so this hypothesis seems testable.
I don’t really know the data, but Google reveals this:
https://www.nais.org/Articles/Documents/Member/CapstoneProject-Revised.pdf
which suggests that, at least for independent schools, costs have been going up. I’m not sure if the same is true of religious or other private schools (or if the increases match those of public schools), but this seems like the place to look.
Robert EV
Jun 16 2019 at 12:21pm
The comeback would be that private schools have to compete with government schools as buyers (for staff and supplies), with the sellers pricing their wares for the best overall return they can get.
RPLong
Jun 12 2019 at 10:59am
I hope I’m not being too transparently self-interested when I say that this discussion would be awesome if presented as a live (and preferably live-streamed) debate. 🙂
David Henderson
Jun 12 2019 at 11:04am
I disagree. Even very bright people like Bryan and Alex do better when they have time to think through things. I guarantee that the quality of the debate would be substantially lower if it were in real time.
Jon Murphy
Jun 12 2019 at 5:56pm
Both Dr Tabarrok and Dr Caplan are like Batman: good at improv, but at their best when given time to prepare
Matthias Görgens
Jun 23 2019 at 5:07am
Though in terms of entertainment, some onlookers might prefer to see an acting out of the debate on a ‘live stream’ once it has been all written up.
(But for suspension of disbelief, best not to tell them about the acting.)
Josh
Jun 12 2019 at 3:47pm
I wonder if international comparisons would be helpful here. If the Baumol theory is correct then countries with lower wage growth in high productivity sectors should have lower cost growth in sectors like education and healthcare.
If Bryan’s theory is correct then countries with a higher percentage of government spending should have higher cost growth in things like education and healthcare. (Of course we know for healthcare that the opposite is true – countries with more government spending spend less. I don’t know about education).
It’s worth noting that many single-payer advocates claim the exact opposite of Bryan – that it’s our relative *lack* of government spending in HC that differentiates us from other countries and explains our large increases in cost.
I’m not convinced by this argument but it’s interesting that two people can take the same data and claim it shows completely opposite causes.
Matthias Görgens
Jun 23 2019 at 5:08am
International comparisons are very useful indeed. And Singapore is the place to look towards for cheap and good healthcare in a modern, rich country.
John Alcorn
Jun 13 2019 at 9:07am
Robin Hanson offers a different explanation of d*mn high prices in education and health care (and in a few other service sectors):
http://www.overcomingbias.com/2019/06/our-prestige-obsession.html
He calls his explanation, which combines evolutionary psychology and economic history, “the increasing-focus-on-prestige effect:”
He concludes:
Michael Sandifer
Jun 16 2019 at 12:53am
Bryan,
Government does not have to drive healthcare costs so high. There are other governments that pay for a higher proportion of healthcare spending than in the US, yet costs haven’t risen nearly so dramatically. Government can ration. Whether you want the government to ration is another matter.
I also point out that there’s been quite a bit of above inflation cost increases for veterinary care, which is not subsidized.
Yes, government subsidies may have accelerated the rise in US healthcare costs, but perhaps you’re overstating the case.
astion ofncistd
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