Recitation: 04/03/2015

Question 1

What did Chung Ju Yung know was the best way to solve your problems?

Answer 1

By not solving your problems! Instead, it is better to join an association of problem solvers in which you dedicate yourself to solving other people’s problems and in which you trust other people to solve your own problems.

Question 2

What does every successful problem solving association need to have?

Answer 2

1. Adequate knowledge for others to solve your problem

2. The problem-solvers must have adequate incentives to solve your problem

Question 3

Why is it better for locals to solve their problems instead of experts?

Answer 3

It would be hard for the outside expert to access the complex history of trial and error. Blank slates just don’t work folks.

Question 4

Success is often what?

Answer 4

A SURPRISE! It is often hard to predict what will be the solution. It is even harder to predict who will have the solution and when and where. Especially if all of these variables keep changing.

Question 5

Solving knowledge problems is a lot of work. What does this mean?

Answer 5

A lot of work requires a lot of rewards, so a successful problem solving system must hand out such rewards to the problem solver.

Question 6

What is Adam Smith’s Invisible Hand?

Answer 6

Adam Smith saw the market in privately supplied goods as “invisibly” providing this “hand” to guide the solving of many of our problems. The suppliers who provide any goods that are profitable in the marketplace do so only to get the profit, but they wind up unintentionally meeting many of our most pressing needs. It is the force of consumers self-interest.

Question 7

What makes goods the most profitable?

Answer 7

Our need to get our most urgent needs met.

Question 8

What is a synonym for the invisible hand?

Answer 8

Spontaneous order

Question 9

Smith’s idea of a free market was what?

Answer 9

Not to enrich the existing merchants but to make them less rich through the loss of their monopoly rights and privileges. His free trade agenda would actually lead to cheap food imports for the poor that would undercut these large landowners.

Question 10

Did Adam Smith like monopolies?

Answer 10

He wanted to abolish special privilege and monopolies over domestic and foreign markets

Question 11

Did Adam Smith believe the invisible hand was a failsafe for all problems?

Answer 11

No. He understood that governments can solve some problems and that it may need to intervene in some malfunctioning markets such as public goods that do not deliver enough of a private return.

Question 12

What three things did Smith say made the invisible hand so effective?

Answer 12

The division of labor, gains from specialization, and gains from trade.

Question 13

What is the division of labor?

Answer 13

How much a worker performs all the necessary tasks to produce something versus how much the work is divided into more specialized tasks among workers

Question 14

What is gains from specialization?

Answer 14

All of us are much better at some things than others, and specialization allows us to do what we do best and workers get even better at their best area of expertise.

Question 15

What are gains from trade?

Answer 15

The payoff to the division of labor and gains from specialization. We all want to buy as cheaply as possible so we buy from the most efficient supplier - who got to be most efficient through gains from specialization

Question 16

What do gains from trade not necessarily imply?

Answer 16

Losses for everyone. It can be mutually beneficial.

It also doesn’t automatically mean international trade.

Question 17

Freedom of choice is what decides ________

Answer 17

Who is best at solving problems. It rewards the world’s best problem solvers while getting ride of the inept ones.

Question 18

How are monopolies self correcting?

Answer 18

Monopoly means high profits which sends out a signal heard around the world by other suppliers that here are some easy profits to be made by coming in and underselling the monopolist.

Question 19

Potential problem solvers only need to know one thing. What is that?

Answer 19

The market price of X.

Question 20

What are the key requirements to most problem solving systems?

Answer 20

1. Social payoffs

2. Individual rights

Question 21

What is a private payoff?

Answer 21

Individuals profits.

Question 22

What is a social payoff?

Answer 22

That the individuals private payoff to his problem solving must be the same as the benefit of his problem solving to others.

Question 23

Explain the Invisible Hand in your own words.

Answer 23

Everybody must have the right to choose which problems they will solve. Then, there is a whole society of problem solvers seeking the most fanatically efficient solutions possible for each other. This system has nobody in charge yet finds the best solution for your problems and helps you find your own best role as a problem solver for others.

Question 24

Do monopolies have good social payoffs?

Answer 24

No. Their extra private payoff is just a redistribution from consumers to producers. The producers are self-restricting their problem solving for consumers and getting rewarded for doing so.

Question 25

What are market failures?

Answer 25

Unintentional spillovers of solving one problem that creates new problems. It can also include public goods where individuals cannot be excluded from the general benefits, from which it is usually not possible to make a private profit. This is when government intervention is required.

Question 26

What is one way to individual government actors have their private payoffs align with social payoffs?

Answer 26

Democratic accountability.

Question 27

Market vs government is the wrong debate. What is the right one?

Answer 27

Individual rights vs state power. A unified vision on individual rights (political and economic) is about holding private and public suppliers accountable for their actions.

Question 28

How would major gains in well being come about? How will these gains never happen?

Answer 28

Would be possible by moving funds from problems with low benefit-cost ratios to high benefit-cot rations. These gains will never happen when the goals are set inflexibly from the beginning.

Question 29

The success of a country at specialization is really what?

Answer 29

The success of a firm and that success is really the success of an individual

Question 30

Exporters specialize not only in product but also in ______. What does this specialization mean?

Answer 30

Destination. Specialization means focusing on fewer opportunities. To work the large share of one countries exports have to be a large share of another countries imports.

Question 31

What are the three things to note about the remarkably volatility and unpredictability of success in markets?

Answer 31

1. Markets are not volatile, it is life. Markets adjust rapidly to changing circumstances
2. Powerful corporations are only temporarily powerful because they are at the mercy of market forces
3. The volatility constantly creates new opportunities but then the new enterprise is creating new jobs to replace old ones.

Question 32

The invisible hand works by constantly searching for what?

Answer 32

The right domestic and international trade opportunity, for the right person in the right firm in the right country to make the right product for the right market at the right time. Woo Boy!

Question 33

What are some gains from specialization? What is the explanation for this?

Answer 33

It allows producers to use a lot of what they have a lot of, while economizing on things that are scarce. The explanation is that workers learn by doing.

Question 34

What are beginning endowments?

Answer 34

Unskilled labor, skilled labor, and physical capital (machinery and equipment)

Question 35

What do their endowments form?

Answer 35

Their comparative advantage. It is a lot more subtle than just cheap labor, it is having the right skills, geography, raw materials, culture, etc.

Question 36

What groups knows about idiosyncratic endowments the best? How does the invisible hand use this?

Answer 36

The exporters and workers themselves. The IH utilizes such localized knowledge of the agents themselves to find what they are best at because they are the one who decide what to do under the IH.

Question 37

How does the IH scale up success?

Answer 37

Once workers get into a virtuous circle of learning by doing and increasing production on their chosen specialty they need the IH to keep scaling up. They need to efficiently get the scale of inputs that go into producing the increasing scale of specialized output at which they are becoming so good. To free up these outputs the IH has to shut down many other specialties at which they are not so good.

Question 38

What is a bank loan?

Answer 38

When money traders advance the growing firm money today to pay for their inputs today, and in exchange the firm gives some money tomorrow from their future output revenues.

Question 39

What is a stock market?

Answer 39

The finance guys could pay them part of the profits tomorrow corresponding to their ownership claim.

Question 40

Who do finance guys give their money to?

Answer 40

Industries that they expect to keep growing and will pay them back.

Question 41

What role does finance play?

Answer 41

It cuts off the failures and scales up the successes.

Question 42

Topdown leaders and experts in technology do not have enough what?

Answer 42

Knowledge or incentives to get it right for the reality of what is happening at the bottom.

Question 43

What is the most important two things that have happened over the last two centuries?

Answer 43

Invention of new goods and perpetual economic growth. Economic growth happened through technological innovation

Question 44

What is the people model?

Answer 44

The number of new ideas is proportional to the number of people. The higher the initial population the more innovation there will be.

Question 45

Explain rival and nonrival and how that relates to goods and ideas.

Answer 45

Most goods are rival. If one person uses them then another can’t. Ideas are nonrival. Others can use the same idea I have.

Question 46

How do nonrival ideas lead to a virtuous circle? What is one caveat?

Answer 46

A large population produces a lot new ideas, so we have a greater production, which feeds an even larger population. The larger population now produces an even greater number of new ideas, so now we have an even higher growth of production and population. The growth of population, technology, and production all keep accelerating over time.

Nonrival ideas only spread to people the initial innovator is in contact with

Question 47

As population rose what happened? What happens when you increase population (good and bad)?

Answer 47

World income per capita. Increasing population has negative rival effects (decreasing land per person) and positive nonrival effects (increasing ideas).

Question 48

The more technology one already has _______. Why?

Answer 48

The faster the rate of technological innovation. Many new inventions are just combinations of previous inventions

Question 49

What does technology in 1500 predict?

Answer 49

Technology and per capita income today.

Question 50

The east was the epicenter of the world. What happened?

Answer 50

The west had the idea of the individual that emerged from the Enlightenment.

Question 51

How did the western idea of the individual help innovation?

Answer 51

The idea of an individual had two key mechanisms: challenging authority and the private return on innovation.

Question 52

What is the challenge to authority also a challenge to?

Answer 52

A challenge to the idea of conscious direction of technical innovation or in development in general.

Question 53

Why are private returns important to innovation?

Answer 53

If the inventor could keep the rewards of his own invention then this created much more powerful incentives to make innovations.

Question 54

Do nonrival ideas have equal social and private returns? What does this mean for innovation?

Answer 54

No. The social return is much greater than the private return. This means that the incentives for innovation are low.

Question 55

What is one way to boost incentives for innovation?

Answer 55

The classic solution is patent protection for inventions which allow only the inventor to commercially benefit from the invention. The other solution is “creative destruction.”

Question 56

What is creative destruction?

Answer 56

When the inventor has a new idea he has a jump on everyone and can create a monopoly on the product that resulted from his idea. The monopoly profits are what give the innovator a generous return for the new idea. But, profits from inventions do not last forever. Your rivals see your profits from your nonrival idea and they are plotting your destruction by inventing another idea that will replace yours.

Question 57

What is monopolistic competition? What does this do for profits?

Answer 57

When monopolists produce consumer goods that are almost-substitutes for each other. This in turn keeps monopolists profits down.

Question 58

If you want to imitate a new technology in some other part of the globe, what do you have to do?

Answer 58

Import that new product. This raises the stakes of letting trade happen. Or, if you want to move technology, all you need to do is move a person.

Question 59

What is cheaper, making a new technology or imitating another?

Answer 59

It is easier and cheaper to imitate a technology invented elsewhere than it is to invent a technology for the first time. However, it is not so easy and cheap that new technology spread everywhere instantaneously.

Question 60

How is imitation similar to innovation?

Answer 60

The richer your own technology history, the easier it is to adopt new technologies from abroad.

Question 61

What will poor countries have more than rich countries?

Answer 61

More variable long-run growth, usually with very rapid catch-up growth.

Question 62

What are the most favorable conditions for rapid growth due to catchup?

Answer 62

To have more adequate incentives today for imitation and an advanced technical heritage but a low current income.

Question 63

What is the solution to the knowledge problem that you can’t predict success?

Answer 63

1. Not give a large role to a distinguished panel of experts
2. Have many independent individuals trying lots of different things
3. Have competition

Question 64

What two statements about autocrats do we often confuse, but is important to understand? Which is true?

Answer 64

Most high growth happens under autocrats and most autocrats have high growth. The first may be true, but the second is false.

Question 65

What are growth miracles?

Answer 65

They are rare and our attention and our intention increases the greater the growth miracle and also makes it more unlikely.

Question 66

What are two common errors in processing evidence?

Answer 66

1. We use two common errors in processing evidence

2. We draw mistaken conclusions about the future based on data.

Question 67

What is the myth of the hot hand?

Answer 67

To take temporary success as a long-run trend. We project that today’s temporarily high growth will continue to be miraculous forever. We give autocrats credit for the future that has not even happened yet and that will likely never happen.