Monday, February 11, 2008

The Price of Garbage

My good friend Piet responded to my old post on solid waste by recounting the waste reduction scheme used in Switzerland. In a nutshell, it involves making residents pay a per-bag charge to have their garbage hauled away. The results are that people make a serious effort to reduce the amount of garbage they produce and that the costs of providing trash service are imputed to users according to how much garbage they actually produce. It is a beautiful example of how prices act as signals to influence behavior.

It's so beautiful, in fact, that I wonder why we don't take advantage of price signaling more often. Consider, for instance, all the cities that are experiencing water shortages. Typically, water is provided as a public utility with prices set by local government. If the local government can't provide enough of it, why not charge more? Ideally they would set the marginal cost of a gallon of water at whatever level that would allow them to provide adequate water infrastructure. You could mitigate the effect on the poor by subsidizing usage up to some reasonable level, but after that everybody pays the actual cost for the water they use. The net effect should be that people with large lawns or otherwise wasteful habits would either cut back, or they would fund the construction of greater capacity. Either way, the problem would be solved, and local governments would not be in the odd position of begging people not to buy the product that government itself is supplying.

Similar arguments apply to other utilities that are stretched for capacity. By having people pay for the actual costs of providing those utilities we could fund upgrades and encourage conservation all at the same time. It, too, would be a beautiful thing.

The Onion News Network

The Onion takes on voters' number-one issue this election campaign, and it's about time, too. (Not work-safe, but if you're at work you shouldn't be reading blogs anyhow. Get back to work you slacker!)

Prediction Markets This Morning

I was feeling optimistic for the first time in a while about Senator Obama's chances for the Democratic party nomination, so I headed over to Intrade to see what the prediction markets were saying. I was a little surprised when I saw the following prices:
  1. Hillary Clinton as Democratic nominee: 29.9
  2. Hillary Clinton as General Election Winner: 21.5
This means that the Intrade market thinks that Clinton has a 29.9% chance to secure the Democratic Party nomination and a 21.5% chance to win the election. To see why these numbers are surprising, consider the following equation:
P(2) = P(2 | 1) P(1) + P(2|~1) P(~1)
That is, the probability of Clinton being elected is equal to the conditional probability of her winning in the event that she gets the nomination plus the conditional probability of her winning in the event that she doesn't. Since we know that she almost certainly can't win the election without getting the nomination, we know everything in the equation except for P(2|1). If we plug in the numbers we have from Intrade and solve, we find that the market's estimation of Clinton's chances of winning the election if she gets the nomination is 0.215 ÷ 0.299, or about 72%.

This seems amazingly high to me, in light of the fact that Clinton has not had a commanding lead in head-to-head polls. Moreover, McCain is trading at about 32% to win the general election, which suggests that one or both of them are overvalued (since 32% + 72% = 104%).

In practical terms this suggests that there is an opportunity for arbitrage in these markets. If a market were showing 32% and 72% for two mutually exclusive outcomes, for instance, you could bet against both of them for $96 and be guaranteed of winning $100, for a risk-free gain of $4. In practice this never happens because traders quickly recognize such absurdities and arbitrage them away. Unfortunately, I can't find a similarly sure-fire strategy for hedging irrational conditional probabilities. There are some strategies with positive expectation values, to be sure, but all of them have some scenarios in which they generate a loss (unlike the case above). This could mean one of (at least) two things:
  1. I haven't looked hard enough (entirely possible, since I have a lot of other stuff to do).
  2. I've botched the analysis (wouldn't be the first time).
  3. Prediction markets can support irrational values for conditional probabilities implied by related (but independently traded) claims.

Monday, February 4, 2008

I Still Haven't Found What I'm Looking For

Pulling together my last post took a lot longer than it should have. Not that I spent a tremendous amount of time thinking about what to say; even a cursory reading should give the lie to that theory. No, it took a long time because I had a miserable time finding that infernal article on the satisfaction poll. There is no reason why this sort of task should take so long. It is a relatively simple and well-posed question. I'm looking for "that article I read a while back that contrasted poll results with widespread concern about the economy."

The problem is this: even after all this time, search technology still sucks. I couldn't remember exactly who wrote the article or how long ago, but I was able to capture the concept of "an article I read" by searching within Google Reader. Still, searches within that fairly limited set turned up a whole lot of nothing. The ultimate cause of the failure seems to have been that Professor Roberts was talking not about people's "concern" or "worry" about the economy, but rather their "alarm" over the subject. I doubt that I would ever have thought of that. I finally found it by scanning through my shared items (which you can also sample in one of our sidebar widgets, by the way) by hand.

This absurd state of affairs persists every time I have to search, whether on the internet or on my local disk. If I can remember a few key words, or better yet a complete phrase, I'll do all right, but if all I can remember is the gist of the piece, or a concept, it's pretty hopeless.

I'll be the first to concede that this is a fiendishly difficult problem. I certainly don't have any promising ideas, or I wouldn't be wasting my time telling our entire readership what they both already know: it's hard to find anything useful on the internet. And as excited as I am about getting specially targeted ads, just for me to ignore when I read my email, it just doesn't get at the fundamental problem: the "Information Superhighway" is really more like a trackless desert.

I Read the News Today, Oh Boy

I noticed in the Washington Post today that pessimism about the economy is at its highest in 17 years. However, I can't help wondering how much of this sentiment reflects real weakness in the economy and how much is a reaction to the news media's endless predictions of DOOM! If you tell people ghost stories for long enough, eventually they'll get scared, and we've been telling some wicked ghost stories.

Every day we're served up a feast of statistics cataloging the latest terrifying trends. It's messing up the stock market, doncha know, and politicians tell us we need stimulus (and change!), and we need it fast, lest the DOOM! overtake us. Perversely, it seems the best way to get economic news with some perspective is to include the word "doom" in your search terms. Apparently professional doomsayers don't actually like to use the d-word. Go fig.

Meanwhile, last month I found this Gallup Poll on personal satisfaction in an article on Cafe Hayek. How to reconcile pervasive pessimism with general contentment? Apparently, people are pretty satisfied with their own lives, but they figure, what with all that DOOM! going around, that everybody else must be having a pretty rough go of it.