The psychological poverty trap

Shafir and Mullainathan tested the intelligence of sugarcane growers in India during two different periods: after selling the harvest, when they enjoy relative prosperity, and before the harvest, when times are tightest. The farmers had better IQ results during the season of plenty. Before the harvest they had problems making fateful decisions, because of stress. The study concluded that poverty generates a psychology of its own.

Most of us judge poor people, viewing them at worst as lazy, at best as suffering from deficient financial behavior. We've gotten used to thinking that being poor is their fault: If they were smarter or more industrious they surely would have overcome their poverty.

Shafir, however, claims that the real culprit isn't lack of ability but problems created by poverty. "These problems are distracting and cause mistakes," he told Markerweek in an interview.

"When you're poor you're surrounded by bad decisions of people around you," he says. "You're so concerned about the present that you can't begin thinking about the future, and that's the big irony: People with the greatest need to think about the future don't have the leisure or emotional capacity to do so. The very essence of poverty complicates decisions and makes immediate needs so urgent that you start making wrong choices. These mistakes aren't any different from anyone else's, but they occur more frequently due to the element of stress, and their implications are much greater."

More of this insight into the psychological impact of poverty, all interesting, from poverty expert Eldar Shafir.

Clearly, fundamental attribution error when it comes to the poor is dangerous, especially as it comes to crafting policy to combat it. I hope a better understanding of the psychological and decision-making impact of poverty will lead to greater empathy on the part of those more fortunate.

Studies like this also point to some of the potential advantages of behavioral economics over classical economics, built around the concept of rational actors. Put someone in a situation of comfort and wealth, and they'll tend to behave more rationally than someone in poverty who has a staggering array of challenges weighing on them.

Previously posted here, also related: the persistence of poverty.

The price game

When Ron Johnson took over as CEO of J. C. Penney, one of his most sweeping changes was to move away from the constant sales and coupons to a more straightforward pricing model. Not surprising considering he came from Apple where they hold one sale a year, on Black Friday, and not even a great one at that.

But J. C. Penney is not Apple, and the price game each is playing is different.

Mr. Johnson explained a similar logic when he moved the chain toward simplified pricing. In January 2012, while introducing his new plan to investors, the press and vendors, Mr. Johnson said that in the previous year, the company held 590 sales events; almost three-quarters of the stuff it sold was marked down 50 percent or more.

But here’s the thing: customers weren’t actually paying less. The chain just kept raising the prices that customers saw on the racks, and then discounted those prices during promotions. Why keep playing a game that is expensive and troublesome for the seller and a mirage for the consumer?

J. C. Penney was not the first retailer to be astonished by the brilliance of this realization. In 2006, Macy’s had a similar idea after acquiring the coupon-happy May department stores. It decided to “retrain” those customers, as its chief financial officer put it at the time, by drastically cutting coupons. By 2007, it had abandoned that strategy. Its chief executive acknowledged that pulling back on coupons was Macy’s biggest mistake in its acquisition.

Even Walmart, which actually does pull off the trick of “everyday low prices” in its domestic stores, is finding it hard to convert consumers to a single-price model in countries like Brazil and China, where retailers give deep discounts on a few main products, then mark up the rest, said Mark Wiltamuth, an analyst at Morgan Stanley.

The problem, economists and marketing experts say, is that consumers are conditioned to wait for deals and sales, partly because they do not have a good sense of how much an item should be worth to them and need cues to figure that out.

Just having a generically fair or low price, as Penney did, said Alexander Chernev, a marketing professor at the Kellogg School of Management at Northwestern University, assumes that consumers have some context for how much items should cost. But they don’t.

Price strategy has to be supported throughout the organization. For Apple to have one price for its items means they must enforce that price through all of its distribution partners, and it must also create advertising that reinforces the premium quality of the goods. And of course, the products must be good enough to justify a no discount policy.

One thing is for certain: once you go sale, it's tough to go back (once you go red, it's hard to go black?). Companies that consider a sale or discount strategy should do so carefully. Once customers expect a regular cadence of sales or discounts (e.g. Restoration Hardware's bi-annual bath sales, or Bed Bath and Beyond's ubiquitous 20% off coupons) they orient their entire behavior around that pattern and won't easily be persuaded to buy at full price ever again.

Ethical nudging

The survey data captures what people think — but not how they act. From research that I've done, the same tendency exists in other facets of our lives. When confronted with the opportunity to cheat, most people engage in behavior that violates their own ethical goals.

Fortunately, simple interventions can help. For instance, consider a study that my colleagues and I conducted a few years ago [PDF] in collaboration with a major U.S. car insurance company. As part of the study, we sent 13,488 of the company's customers a form that asked them to report the number of miles they had driven the prior year, as indicated on their cars' odometers. Cheating by under-reporting mileage would come with the financial benefit of lower insurance premiums.

On about half of the forms sent out, customers were supposed to sign to indicate their truthfulness at the bottom of the form. The other half of the forms asked the customers to sign at the top of the form. The average mileage reported by customers who signed the form at the top was more than 2,400 miles higher than that reported by customers who signed at the bottom of the form.

From Francesca Gino. Mental context is very powerful, and messages transmit more easily when people are in the right mode to receive  them.

The Oligopoly Problem

I wrote about oligopoly power in the telecom and cable TV industry back in January. The issue is not any one particular way they price gouge you but the structure of the sector as a whole. As an oligopoly all the firms involved can really choose to gouge you any number of ways, you don't have any other options.

Tim Wu's latest post at the New Yorker suggests a potential regulatory solution:

The rise of the American oligopoly makes it an important time to reëxamine how antitrust enforcers and regulators think about concentrated industries. Here’s a simple proposal: when members of a concentrated industry act in parallel, their conduct should be treated like that of a hypothetical monopoly. Of course, that doesn’t make anything necessarily illegal, but abusive or anticompetitive conduct shouldn’t get a free pass just because there are three companies involved instead of one.

A complex turnaround job

For some reason, Downcast wasn't automatically grabbing new episodes of Planet Money for me the past two months, so I'm just catching up on a long list of episodes. The good episodes have a long shelf life, though.

I enjoyed this episode compiling advice from consultants about a massive global institution in need of a turnaround. It's an institution started with just 11 members and has grown to have more members than Facebook, over 1.2 billion.

A Fortune 500 corporation? A Chinese social network?

Not exactly.

The Catholic Church.

Structurally, though, the Catholic Church is very much like a business, so analyzing it as such might reveal possible solutions to its current crisis. The consultants identified several problems.

For one thing, key employees aren't in key growth markets — only half of priests are in countries with the most Catholics and the highest growth rates. The church also fails to leverage its membership to drive down its procurement expenses. I chuckled at the idea of carrying an official Catholicism membership card and using it to get 10% off at Jamba Juice.

I was amused by discussion of Jesus as more of the visionary founder and Peter as the operational CEO he brought in to lead the Church to global expansion. Much like Facebook, the Catholic Church used a free model to achieve hypergrowth, only monetizing after it achieved scale.

2,000 years. Just think how much more quickly the Catholic Church could have reached that scale had they had cloud infrastructure and the internet.

Efficient Charity Donation

Scott Alexander reports back from a talk on efficient charity at the Berkeley Faculty Club. A highlight was a section by Robin Hanson of Overcoming Bias fame.

One of his claims that generated the most controversy was that instead of donating money to charity, you should invest the money at compound interest, then donate it to charity later after your investment has paid off – preferably just before you die, since donating money after death is legally complicated. His argument, nice and simple, was that the real rate of return on investment has been higher than the growth rate for 3000 years and this pattern shows no signs of changing. If you donate the money today, your donation grows with the growth rate, but if you invest it, it grows with the interest rate. He gave his classic example of Benjamin Franklin, who put his relatively meager earnings into a trust fund to be paid out two hundred years later; when they did, the money had grown to $7 million. He said that the reason people didn’t do this was that they wanted the social benefits of having given money away, which are unavailable if you wait until just before you die to do so.

...

Then he started talking about how you should only ever donate to one charity – the most effective. I’d heard this one before and even written essays speaking in favor of it, but it’s always been very hard for me and I’ve always chickened out. What Robin added was, once again, a psychological argument – that the reason this is so hard is that if charity is showing that you care, you want to show that you care about a lot of different things. Only donating to one charity robs you of opportunities to feel good when the many targets of your largesse come up and burdens you with scope insensitivity (my guess is that most people would feel more positive affect about someone who saved a thousand dogs and one cat than someone who saved two thousand dogs. The first person saved two things, the second person only saved one.) In retrospect this is absolutely true and my gibbering recoil at this problem isn’t just Yet Another Cognitive Bias but just good old self-interest.

Just as fascinating was a discussion of reasons Hanson's strategy might not be optimal. For example, this from St. Elie of GiveWell:

He said that the world is getting better so quickly that we are running out of good to be done. After the initial burst of astonishment he explained: in the 1960s, the most cost-effective charity was childhood vaccinations, but now so many people have donated to this cause that 80% of children are vaccinated and the remainder are unreachable for really good reasons (like they’re in violent tribal areas of Afghanistan or something) and not just because no one wants to pay for them. In the 1960s, iodizing salt might have been the highest-utility intervention, but now most of the low-iodine areas have been identified and corrected. While there is still much to be done, we have run out of interventions quite as easy and cost-effective as those. And one day, God willing, we will end malaria and maybe we will never see a charity as effective as the Against Malaria Fund again.

Lots of thought-provoking ideas, highly recommended (h/t to Marginal Revolution).

While it's true that much of charity donation work is self-serving, it feels like a worthwhile indulgence. The anonymous donor is the most noble of donors, but I shudder to think of how much charity funds would shrink if all donations had to be kept anonymous. Your name on a scrolling list on a web page, a plaque on a sidewalk, or in the end credits under Special Thanks is, in the scheme of things, a low price to pay.

Speed Limits are for Money

From Marginal Revolution from a long time ago, but it still irks me because it puts government revenue above consumer safety.

The 55 mph speed limit was a vain attempt by the Federal government to reduce gasoline consumption; initially passed in the 1974 Emergency Highway Energy Conservation Act the law was relaxed in 1987 and finally repealed in 1995 allowing states to choose their speed limits. Highways and cars are safer today than in the 1970s and on many highways speed limits were increased to 65 mph. Higher speed limits are often safer because what is worse than speed is variable speed, some people driving fast and some driving slow. When the speed limit is set too low you get lots of people who safely break the law and a few law-abiders who make the roads more dangerous.

Unfortunately vestiges of the 55mph limit remain, in part because police like the 55mph limit which lets them write tickets at will whenever they need an increase in revenues.

I think of this every time I pass from a 65mph zone into a 55mph speed limit on the highway.

I wonder how they'll replace this revenue stream when we are all sitting in self-driving cars that won't exceed the speed limit.

Living better than our parents

Don’t tell my employer, but aside from some mildly unpleasant things like going on TV or talking to politicians, I’m doing exactly what I would do if I was a billionaire and didn’t have to work. That is, what counts as work for me might as well be leisure. For all intents and purposes, I am indeed working only 15 hours a week just as Keynes predicted.

Jerry Brito on the post materialist revolution. We may not be as wealthy as our parents, but they couldn't stream House of Cards on their iPhone.