Trade unions and countervailing power

The controversy surrounding the proposed budget bill by the Wisconsin Governor Scott Walker to strip collective bargaining rights and various employment benefits from public employees in Wisconsin has opened up an acrimonious debate about the role of unions and the widening inequality in the US.

Supporters say that restricting the collective bargaining powers of unions can improve governments' ability to improve functional effiency and can save millions of dollars. They also claim that public employees, especially teachers, are heavily paid in comparison to their private sector counterparts, despite being functionally inefficient.

Opponents see this as part of the grand right-wing agenda to shrink the government. They argue that collective bargaining provides workers with important protections against retaliation, age discrimination and arbitrary management decisions. In the absence of collective bargaining powers, unions will become toothless, and employees will prefer not to pay and drop out from union membership. One of the most important instruments to check the widening wage inequality within organizations in the US will therefore become blunt. They point to evidence that even with benefits, public sector workers are not, on average, grossly overpaid compared with the private sector.

The bill would limit collective bargaining powers by public workers only to pay, and salary increases wouldn’t be allowed more than inflation. It will also force public employees to pay more in health and pension costs, contracts would last only one year at a time, employees would have to re-certify the union annually and individual members would be able to withhold dues from their union. The Bill has gathered support from like-minded conservative Governors, especially in southern states with strict right-to-work laws in place.

The Wisconsin decision follows similar decision by Indiana in 2005, which banned state-level negotiations on subjects like outsourcing, health coverage, workloads and seniority. The push for restricting workers rights has been triggered off by the impact of the Great Recession which has exposed the perilous state of local government finances across the US. States face deficits that may reach a combined $125 billion in the next fiscal year, with generous health care and pensions being the major contributors.

Popular debate on the issue has focussed attention on the importance of collective bargaining in protection of workers rights. However, as Jacob Hacker and Paul Pierson tell us in their new book, Winner-Take-All Politics, the importance of unions lie not so much in smaller details like collective bargaining, but in their critical role as an influential countervailing power. They say,

"Economists generally err in thinking that unions influence the income distribution mostly through direct negotiations with employers. Instead, we argue the most important role these forces play is to create some organized countervailing pressure in Washington. Cross-national research suggests that strong labor unions are associated with greater government redistribution through taxes and transfers. The United States is one of only a handful of countries where government taxes and benefits have become less redistributive as inequality has grown."

Their argument that the emergence of the "winner-take-all economy", with its extreme concentrations of wealth, is a consequence of the "declining clout of middle-class voters and unions relative to a much more organized and mobilized corporate sector" is hard to argue against.

One of the more interesting, albeit less-discussed, features of the push against unions and public sector workers in particular and government in general, is what it tells us about the political balance of power. Conventional wisdom would have it that in democracies, policies that adversely affect the interests of the largest groups are bound to fail because of the dynamics of electoral politics.

However, as Mancur Olson and others have famously pointed out, the power structure of modern capitalist democracies is considerably more nuanced. There is a strong element of collective action problem with the majority. This inability to act collectively is amplified by the widely heterogenous nature of the working class majority.

In contrast, the minority business elites are well connected across party lines, have much more to lose or gain by specific policy interventions, are a focussed and homogenous minority, and have deep-pockets. The extraordinary resilience of financial market interest groups despite its obvious role in causing the Great Recession is only the recent example of this trend. Similar explanations can also atleast partially explain the persistence of discredited supply-side theories and the rise of the Tea Party movement in the US.

Trans-Atlantic vacuum Maglevs?

The Maglev trains minimize the friction arising from the physical contact between trains and railway lines and thereby increases railway speeds. Now, here comes news of a project to achieve super-sonic train speeds by eliminating the air and thereby air friction from the trains path.

Accordingly, a vacuum Maglev is being proposed at a cost of $88-175 bn between London and New York. The magnetically levitated train would run at speeds of upto 4000 mph in vacuum tunnel submerged 150 to 300 feet beneath the Atlantic's surface and anchored to the seafloor.

Oil price rise update

Events across Middle East, especially the rebellion in Libya and resultant disruption of oil extraction, and expectations of similar events in other major oil producers have naturally increased market uncertainty and put upward pressure on oil prices. Last week crude oil prices breached the psychologically important $100 per barrel mark.



There are widespread fears of a repeat of the $147 peak in 2008, which would adversely affect recovery in the developed economies. However, unlike then, when spare capacity was just 2% of daily production, it is now at a more comfortable 6%, or 5 million barrels per day. But there are also market specific factors that puts pressure on prices. For example, Libyan "sweet" crude, with its low sulphur content, is not easily replaced with the "sour" crude produced elsewhere since many European and Asian refineries are not equipped to refine "sour" crude. The resultant increased demand for "sweet" crude from Algeria and Nigeria will invariably push prices up.



If oil prices remain high for long, it is feared that the already weak economies of the developed world will slip further into recession. It is estimated as a thumb rule that every $10 increase in the price of a barrel of oil reduces the growth of the GDP by half a percentage point within two years. Its ripple effect on the developing economies, in terms of reduced exports and resultant lower economic activity, can be considerable.

In a reiteration of its critical, albeit less appreciated, role in stabilizing global oil prices, Saudi Arabia has responded to higher prices by increasing its crude output to more than nine million barrels a day, roughly 700,000 barrels more than at the end of 2010. Saudi Arabia has a total production capacity of 12.5 million barrels per day (bpd) and uses its 3.5 m bpd excess capacity to cushio the global oil market from supply shocks. Its officials are also asking European refiners, who are most directly affected by the drop in Libyan exports, how much and what grades of crude they need for quick shipment.

Update 1 (9/3/2011)

See this NYT Room for Debate which discusses why oil prices have are going up.

The third batting power play and game theory!

One of the interesting debates on the sidelines of the Cricket World Cup relates to the timing of when batting team captains should use their third power play (PP) of five overs. The third PP, to be availed at the request of the batting team, imposes a restriction that the fielding team can have only three fielders outside the thirty yard circle.

The dilemma for batting captains is to use it earlier, say in the 30-40 over period, or preserve it for the slog overs. Apart from the argument that since the ball is changed in the 34 th over (and since a harder ball is easier to hit), it may be effective to take PP early, there has not been much analysis of the issue. However, a simple balance sheet of the costs and benefits of both alternatives to each side reveals that the choice is not as hard as it appears.

The benefits for the batting side are several and significant

1. With or without field restrictions, slog overs are a form of PP in themselves, atleast from the mental frame of the batsmen. It may therefore be more effective to take an early PP and get more runs earlier than otherwise would have been the case. The batting team effectively gets two PPs! The batting team can also carry the momentum on to the slog overs - the bowling side will have to mentally recover after the PP.

2. The bowling side is forced to call on its best bowlers much earlier than they would have preferred. Typically, the best bowlers have three spells - opening burst, slog overs, and a containing or wicket searching spell in the middle. If the PP is taken in the slog overs, it coincides with the bowlers final planned spell. However, an early PP, especially if the bowler has already completed his middle spell, can wreck the best laid plans of the bowling captain. Forced into dividing their ten overs into four spells, the best bowlers will have less overs for the slog.

3. Even without field restrictions, slog overs generally yield more runs. The incremental benefit, in terms of runs scored, with PP restrictions are not likely to be substantial. However, in the earlier overs, without field restrictions, batting sides are likely to score only modestly (3-4 runs an over in an average scoring match and 5-6 runs an over in a high scoring one). The incremental benefit of early PP is therefore significant.

4. Finally, the harder the ball, the easier is it to strike. Since the ball is replaced in the 34 th over, it is surely more sensible to opt for an early PP.

The negative side of the equation for the batting side is the risk of losing wickets in the PP and being left with limited fire-power to take advantage of the slog overs. However, this is more a question of the batsman's judgement of the PP situation, an issue of mental orientation. An element of representativeness bias in the batsman's mind anchors the third PP to slog overs.

It needs to be borne in mind that batting PP are not slog overs. In slog overs, batsmen throw caution to the winds safely in the knowledge that the end of the innings is near. But early PPs are followed by more overs. The risks being taken need to be weighed accordingly.

Consider this 2X2 matrix of the two alternatives - early and slog overs PP - from the perspective of the batting and bowling sides.



As can be seen, the early PP is the dominant strategy for the batting side - for the batting side, its benefits are singificant while for the bowling side, the costs are just as high!

Highlights of Budget 2011-12

1. Budget at a glance - how money comes and where it is spent?





2. Expenditure control is one of the highlights of the budget, especially with decreases in all major subsidy categories. Further, the budgeted net borrowing of Rs3.4 trillion for this fiscal is Rs 40,000 crore less than market expectations. However, it remains to be seen whether the targets will be met.



3. The landmark decision of the budget was arguably the one to replace fertiliser, fuel and LPG subsidies with direct cash transfers from March 2012. Interestingly, the size of the subsidy bill, including for food, for the year 2011-12 has been reduced by 12.5% from the current year’s revised estimates to Rs 1.4 lakh crore.



4. On infrastructure, the FII limit for investment in corporate bonds, with residual maturity of over five years issued by companies in the infrastructure sector, was increased four-fold from the current $5 bn to $25 bn, albeit with a minimum lock-in period of five years. This is not likely to have any immediate impact as only half-a-billion dollar out of the existing limit of $5 billion has so far been utilised.



The allocation for infrastructure sector was increased by 23.2% to Rs 2,14,000 Cr, which is about 48.5% of the gross budgetary support to plan expenditure. To attract foreign funds for financing of infrastructure, special vehicles can henceforth be created in the form of infrastructure debt funds; interest payments on the borrowings of these funds will be taxed at 5% instead of the current 20%; and the income of the fund will be exempt from tax.

Since infrastructure companies are usually organized as SPVs, FIIs would also be permitted to invest in unlisted bonds with a minimum lock-in period of three years and will also be allowed to trade amongst themselves even during the lock-in period.

5. Overall social sector spending goes up 17%. Education and healthcare will get 24% and 20% more respectively. However, NREGA spending, a large part of whose allocation was unspent this fiscal, has remained same.



6. To address the critical issue of supply-side constraints in agriculture, there were a number of initiatives. The interest subvention subsidy on farm loans repaid on time was increased from 2% to 3%. The target for agriculture sector credit has been raised by Rs 1 lakh crore to Rs 4.75 lakh Cr. Further, allocation under the Rashtriya Krishi Vikas Yojana(RKVY), which incentivises states to invest in the farm sector, was raised to Rs 7,860 crore from Rs 6,755 crore in the current fiscal. Another Rs 2200 Cr was earmarked to improve productivity and boost production of vegetables, pulses, oilseeds, millet and fodder.



It was also decided to grant 'infrastructure sector' status to cold storage facilities and exempt cold chain equipment from excise duties. Further, capital investment in the creation of modern storage capacity would be eligible for a viability gap funding scheme from the Finance ministry.

It was also announced that 2 mt of storage capacity would be created in the coming fiscal under the Public Entrepreneurs Guarantee (PEG) Scheme. It is estimated that there is a shortage of agriculture storage capacity of 32 mt, which would require investments in excess of Rs 10000 Cr.

7. Tax to GDP ratios are rising again, though much remains to be done.



8. Corporate tax surcharge on domestic companies has been cut from 7.5% to 5%. The rate of Minimum Alternate Tax (MAT), levied on developers of Special Economic Zones as well as units operating in SEZs, has been raised from 18% of book profits to 18.5%. For the year 2011-12, dividends received by an Indian company from its foreign subsidiary will be taxed at a lower rate of 15%, to provide these funds an incentive to flow to India.

9. Interesting graphic on the sector-wise effective corporate tax rates.



10. The aforementioned graphic highlights the critical role of exemptions or "subsidy to preferred tax payers". In 2010-11, the central government lost potential tax revenue worth a staggering Rs.5.7 lakh crore due to the various exemptions, concessions and rebates it gave. These concessions, which form about 80% of the total tax expected to be collected in the period, are given to corporate and personal income tax payers, and excise and customs duty payers. After deducting export credit related concessions, the revenue foregone amounts to Rs 5.1 lakh crore.



Excise and customs duty rebates form about 39% and 34% respectively of the total revenue foregone, while personal income tax formed just 10% and corporate tax 17%. However, such revenues foregone has been increasing over the years, more than doubling from about Rs 2.4 lakh crore in 2006-07 to the present Rs 5.6 lakh crore. with the proportion increasing from 50% to 80% of total tax collections. The effective tax rate on the 4.27 lakh corporate returns filed by end of December 2010 was 23.53% as against the statutory tax rate of 33.99%.

Urban density and land utilization

In the context of Edward Glaeser's advocacy of skyscrapers, Richard Green has an excellent post where he argues that more efficient utilization of land space too can achieve densification.

His comparison of the different ways in which Manhattan and Paris have achieved density is illuminating,

"Notice how at this scale you can see the minor streets of Manhattan pretty clearly, but not the minor streets of Paris? Paris actually uses its land very efficiently--it does not waste space on streets or setbacks. As a consequence, while it can be livable (if not affordable) with 3/4 of the denisity of Manhattan and a small fraction of the number of tall buildings of Manhattan."

Paris from 50000 ft above



Manhattan from 50000 ft above



How does Mumbai compare. Here are two shots of Mumbai from the same height.




The layouts in both looks a lot similar to Manhattan. The first image too is closer to Manhattan in its road visibility. Also notice the large ash-colored patches, especially in the second image, which form the major slums. Mumbai is as inefficient as Manhattan in road utilization without being efficient with vertical growth driven land use density. The low FSI and large share of land area occupied by slums prevents it from effective utilization of land too.

City-size and inequality

Are larger cities more unequal? Richard Florida points to an interesting paper by Nathaniel Baum-Snow and Ronni Pavan who investigated the effects of city size on wages (controlling for skill, industry etc) across the smallest rural areas to the biggest urban centers in the US between 1979-2004. They write,

"We find that one-quarter to one-third of the overall increase in hourly wage inequality in the United States from 1979 to 2007 is explained by city size independent of observable skill. While this influence has occurred throughout the wage distribution, the fraction of the increase in the lower half of the wage distribution explained by city size is at least 50% larger than that in the upper half of the wage distribution. More rapid growth in within skill group inequality in larger cities has been by far the most important force driving these city size specific patterns in the data. Differences in the industrial composition of cities of different sizes explain 19 to 32 percent of this city size effect."

In the chart above, the X axis is based on city or metro size (ranging from rural areas indicated by a 0 to the largest metropolitan regions) and the Y axis shows the level of inequality. The green line is for 1979, orange for 1989, magenta for 1999, and blue for 2004-07.

In 1979, the line was relatively flat, indicating that inequality was relatively the same regardless of whether you lived in a rural community, small city, or large metro. However, the slope gets steeper with each passing decade, indicating widening inequality with city size. City size "alone accounts for roughly 25 to 35 percent of the total increase economic inequality over this period over and above the role of effects of skills, human capital, industry composition and other factors". And compared to wage distribution at the top, city size explains 50 percent more of the increase in inequality for the low wage earners.

Examining the reasons for this trend, Richard Florida points to the growing advantages of geographic clustering or agglomeration for modern economic activity,

"The larger and more populous a city or region, the more likely it is to have the human capital and economic ecosystems required to support the most advanced — and hence the highest-paying — technologies and industries. Bigger cities attract more innovators, more entrepreneurs, and more highly skilled and ambitious people in general, and provide a fluid environment where these individuals can combine and recombine their skills. Big cities also generate powerful economies of scale and scope, resulting in higher rates of innovation, new firm formation, and productivity. They attract better-educated, better-trained, more-experienced workers, driving up wages.

At other side of the spectrum, manufacturing, which once clustered in and around large cities and metros, has shifted to less expensive suburban, exurban, and off-shore locations. And large cities have become home to a large and growing contingent of lower-skill, lower pay service jobs – from childcare and food preparation to retail sales and personal services. Taken together these factors have in effect divided or bifurcated the labor market in big cities into highly paid 'creators' and much lower-paid 'servers'."

In other words, despite offering better environment, opportunities and wages for less-advantaged and lower-skilled workers, than smaller cities, bigger cities exhibit much higher income inequality.