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July 28, 2011

Is there any room for morality in economics?

By Cindy Ivanac-Lillig and Laura Perez

Recently, Russ Roberts of EconTalk** spoke with Duke Professor Michael Munger about the relationship between morality and economic choices. Munger makes a distinction between what we call “voluntary” in economics with what he dubs “euvoluntary.” Munger’s term, euvoluntary, describes a voluntary transaction that among other criteria has the unique characteristic of not having too great a difference between the agreement (in a voluntary transaction) and the next best alternative.

Munger goes on to provide an example in which the transaction is voluntary but not euvoluntary. A man is wandering in the desert, lost with $5,000 in his pocket. Suddenly Tony’s Taco Truck comes over the hill with a sign reading: “Today’s Special: Three tacos for $5, one bottle of water for $1,000 or three bottles of water for $2,500.” The lost man tells Tony that his prices are ridiculous and watches as Tony starts up the truck to drive away. Faced with either dying or paying the exorbitant price, the man reluctantly enters into the transaction. This is not a euvoluntary transaction because the disparity in the next best alternative is enormous. In this case, the next best alternative to the negotiated agreement is death.

Many black market transactions are not euvoluntary (organ sales, price gouging after a disaster, etc) due to the disparity between the agreement and the next best alternative, but the interesting question is should they be legal? And, if so, where should the line be drawn? In other words, if you made it illegal to charge $1000 for water, would better choices emerge or would we be left with no water in the desert?

What do you think?

**EconTalk is a weekly podcast put on by the Library of Economics and Liberty. Check it out at:
http://www.econtalk.org/archives/2011/06/munger_on_excha.html


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July 15, 2011

Core Training: Measure of Inflation

By Cindy Ivanac-Lillig

I recently spoke at a university and when we came to the slide on core inflation, someone sighed (loudly). That’s because folks bristle at the idea of core inflation (inflation measures that strip out food and energy costs). It is like going to a doctor and saying that your arm is broken and infected and the doctor responding, "Well outside of your extremities, the core of your body looks perfectly healthy." Nothing to worry about... right?

If folks are paying substantially more at the grocery store and the gas pump, they won't enjoy being told that what the Fed and other policy makers care about is the cost of everything except food and energy.

It is not that the core measure is better than the headline (or overall) measure. They are just indices designed for different uses. For example, if you are interested in assessing what inflation is for the average consumer today, the headline numbers are the way to go. After all, these numbers give you a snapshot of how things are actually going in terms of our total expenditures. However, if you are responsible for policy development, you may like to know in addition to the snapshot, how telling these numbers are for what is coming down the pike. And this is where core comes into play. Many economists believe that the core has better predictive value. The notion is that by removing the more volatile items, such as food and energy, you would be left with a clearer picture -- not of today's reality but of future inflation. There are even leaner measures than traditional core measures that try to pare down even further to get to some underlying inflation signals. For example, the Dallas Fed puts out a Trimmed Mean PCE Inflation Rate.

Inflation is an interesting and dynamic topic. There are folks arguing that core should be further pared down by subtracting some additional categories that have proven to be volatile and those on the other side arguing that core is not the best way to think about future inflation to begin with.

What do you think?

For current Personal Consumption Expenditure (PCE) information, check out BEA.

(Note: The Fed prefers the Personal Consumption Expenditure (PCE) measure of inflation over the more well-known Consumer's Price Index (CPI). Both of these indices assess how much more or less it is costing people to buy what they normally buy. And both track each other fairly well. The PCE is put out by the Bureau of Economic Analysis, and unlike the CPI, accounts for consumers substituting goods as prices change. There are a few other technical differences on how things are weighted and accounted for. Here is a presentation that compares the two measures.)


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